Alarm.com Holdings, Inc. 10-Q

ITEM 2. 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 (1) our condensed consolidated financial statements and the related notes and other financial information included elsewhere in this Quarterly Report on Form 10-Q, or Quarterly Report, and (2) the audited consolidated financial statements and the related notes and management’s discussion and analysis of financial condition and results of operations for the fiscal year ended December 31, 2021 included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021 filed on February 24, 2022, or Annual Report, with the Securities and Exchange Commission, or SEC. This Quarterly Report contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. These statements are often identified by the use of words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “might,” “objective,” “ongoing,” “plan,” “predict,” “project,” “potential,” “should,” “will,” “would” or the negative or plural of these words or similar expressions or variations and such forward-looking statements include, but are not limited to, statements with respect to the anticipated impact of the global economic uncertainty and financial market conditions caused by significant worldwide events, including public health crises, such as the COVID-19 pandemic, and geopolitical upheaval, such as Russia’s incursion into Ukraine (collectively, the Macroeconomic Conditions) on our business, results of operations and financial condition, including on our hardware sales and our Software-as-a-Service, or SaaS, and license revenue growth rate; our business strategy, plans and objectives for future operations; continued enhancements of our platform and offerings; our future financial and business performance and the potential impact of trade policies and related tariffs on our cost of hardware revenue and hardware revenue margins. The events described in these forward-looking statements are subject to a number of risks, uncertainties, assumptions and other factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those identified in the section titled “Risk Factors” set forth in Part II, Item 1A of this Quarterly Report and elsewhere in this and in our other SEC filings. You should not rely upon forward-looking statements as predictions of future events. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements. Overview Alarm.com is the leading platform for the intelligently connected property. We offer a comprehensive suite of cloud-based solutions for smart residential and commercial properties, including interactive security, video monitoring, intelligent automation, access control, energy management and wellness solutions. Millions of property owners depend on our technology to intelligently secure, automate and manage their residential and commercial properties. In the last year alone, our platforms processed more than 200 billion data points generated by over 100 million connected devices. We believe that this scale of subscribers, connected devices and data operations makes us the leader in the connected property market. Our solutions are delivered through an established network of trusted service providers, who are experts at selling, installing and supporting our solutions. The number of our service provider partners exceeded 10,900 in 2021. We primarily generate SaaS and license revenue through our service provider partners, who resell these services and pay us monthly fees. These service provider contracts typically have an initial term of one year, with subsequent renewal terms of one year. O ur service provider partners have indicated that they typically have three to five -year service contracts with residential and commercial property owners who use our solutions. We also generate hardware and other revenue, primarily from our service provider partners and distributors. Our hardware sales include connected devices that enable our services, such as video cameras, video recorders, gunshot detection sensors, gateway modules and smart thermostats. We believe that our network of service providers and the length of our service relationships with residential and commercial property owners, combined with our robust SaaS platforms and over 20 years of operating experience, contribute to a compelling business model. Our solutions are designed to make both residential and commercial properties safer, smarter and more efficient. Our technology platforms support all participants in what we refer to as the connected property market. This market includes the residential and commercial property owners who subscribe to our services, the hardware partners who manufacture devices that integrate with our platforms and the service provider partners who install and maintain our solutions. The Alarm.com platform enables our service provider partners to deploy our interactive security, video monitoring, intelligent automation, access control, energy management and wellness solutions as stand-alone offerings or as combined solutions to address the needs of a broad range of customers. Highlights of Third Quarter Results We primarily generate SaaS and license revenue, our largest source of revenue, through our service provider partners who resell our services and pay us monthly fees. Our service provider partners sell, install and support Alarm.com solutions that enable residential and commercial property owners to intelligently secure, connect, control and automate their properties. Our subscribers consist of all of the properties maintained by those residential and commercial property owners to which we are delivering at least one of our solutions. We derive a portion of our revenue from licensing our intellectual property to third parties on a per customer basis. SaaS and license revenue represented 62% and 61% of our revenue during the three and nine months ended September 30, 2022, respectively, as compared to 61% in the same periods in the prior year. 33 We also generate SaaS and license revenue from monthly fees charged to service providers on a per subscriber basis for access to our non-hosted software platform, or Software platform. The non-hosted software for interactive security, automation and related solutions is typically deployed and operated by the service provider in its own network operations center. Software license revenue represented 3% of our revenue during each of the three and nine months ended September 30, 2022 as compared to 4% for the same periods in the prior year. We also generate revenue from the sale of many types of hardware, including video cameras, video recorders, cellular radio modules, thermostats, image sensors, gunshot detection sensors and other peripherals, that enable our solutions. Our hardware and other revenue also includes our revenue from the sale of perpetual licenses that provide our customers in the commercial market the right to use our video surveillance software for an indefinite period of time in exchange for a one-time license fee. Additionally, our hardware and other revenue includes our revenue from the sale of licenses that provide our customers the right to use our gunshot detection solution in exchange for license fees. Hardware and other revenue represented 38% and 39% of our revenue during the three and nine months ended September 30, 2022, respectively, as compared to 39% in the same periods in the prior year. We typically expect hardware and other revenue to fluctuate as a percentage of total revenue. Highlights of our financial performance for the periods covered in this Quarterly Report include: • SaaS and license revenue increased 13% to $133.1 million during the three months ended September 30, 2022 from $118.1 million during the three months ended September 30, 2021. SaaS and license revenue increased 14% to $385.8 million in the nine months ended September 30, 2022 from $338.6 million in the nine months ended September 30, 2021. Included in SaaS and license revenue was software license revenue, which decreased to $6.5 million during the three months ended September 30, 2022 from $7.9 million during the three months ended September 30, 2021. Software license revenue decreased to $20.5 million in the nine months ended September 30, 2022 from $24.9 million in the nine months ended September 30, 2021. • Total revenue increased 12% to $216.1 million during the three months ended September 30, 2022 from $192.3 million during the three months ended September 30, 2021. Total revenue increased 15% to $634.4 million in the nine months ended September 30, 2022 from $553.7 million in the nine months ended September 30, 2021. • Net income increased to $18.1 million during the three months ended September 30, 2022, as compared to $13.3 million during the three months ended September 30, 2021. Net income decreased to $37.8 million in the nine months ended September 30, 2022, as compared to $42.3 million in the nine months ended September 30, 2021. Net income attributable to common stockholders increased to $18.3 million during the three months ended September 30, 2022, as compared to $13.5 million during the three months ended September 30, 2021. Net income attributable to common stockholders decreased to $38.3 million in the nine months ended September 30, 2022, as compared to $43.1 million in the nine months ended September 30, 2021. • Adjusted EBITDA, a non-GAAP measurement of operating performance, increased to $40.8 million during the three months ended September 30, 2022 from $37.6 million during the three months ended September 30, 2021. Adjusted EBITDA decreased to $107.9 million in the nine months ended September 30, 2022 from $111.2 million in the nine months ended September 30, 2021. Please see Non-GAAP Measures below in this section of this Quarterly Report for a discussion of the limitations of Adjusted EBITDA (a non-GAAP measure) and a reconciliation of Adjusted EBITDA to net income, the most comparable measurement in accordance with accounting principles generally accepted in the United States, or GAAP, for the three and nine months ended September 30, 2022 and 2021. Recent Developments On September 23, 2022, Alarm.com Incorporated, one of our wholly-owned subsidiaries, acquired 85% of the issued and outstanding shares of capital stock of Noonlight, Inc., or Noonlight. Noonlight provides a connected safety and event management software and services platform that enables new applications and provides enhanced emergency response capabilities. We believe the acquisition of Noonlight will enhance our comprehensive suite of interactive cloud-based services and allow us to expand markets for emergency response services as well as accelerate innovation in those services. In consideration for the purchase of 85% of the issued and outstanding shares of capital stock of Noonlight, we paid $31.9 million in cash on September 23, 2022, after deducting $1.5 million related to the settlement of an outstanding loan issued to Noonlight during May of 2022 and $4.9 million related to agreed holdback provisions. Pursuant to the terms of the stock purchase agreement, following the preliminary determination of the working capital of Noonlight as of the closing date, the purchase price decreased by $0.2 million. The purchase price allocation was not finalized as of the filing date of this Quarterly Report on Form 10-Q and is pending the final determination of the working capital adjustment as well as tax adjustments, including the assessment of any net operating losses acquired and the related limitations on any identified net operating losses. On October 27, 2022, we filed a demand for arbitration of a dispute arising under the Patent Cross License agreement 34 between Alarm.com and Vivint, Inc., or Vivint, executed in November 2013. Vivint notified us it will stop paying license fees to Alarm.com under the agreement. Vivint has paid the required license fees to Alarm.com since the agreement was executed in November 2013. Alarm.com disputes Vivint's refusal of payment and is seeking continued payments of license fees in the arbitration, as well as interest and declaratory relief. As a result of Vivint’s refusal to pay license fees under the agreement, beginning with the fourth quarter of 2022, we believe that quarterly SaaS and license revenue and total revenue will be impacted by approximately $6.0 million. We also believe that quarterly earnings and cash flow will be impacted by the aforementioned $6.0 million, plus additional legal fees. The global economy, credit markets and financial markets have and may continue to experience significant volatility as a result of significant worldwide events, including public health crises, such as the COVID-19 pandemic, and geopolitical upheaval, such as Russia’s incursion into Ukraine (collectively, the Macroeconomic Conditions). These Macroeconomic Conditions have and may continue to create supply chain disruptions, inventory disruptions, and fluctuations in economic growth, including fluctuations in employment rates, inflation, energy prices and consumer sentiment. In particular, the COVID-19 pandemic also disrupted and may intermittently continue to disrupt our sales channels due to restrictions on our service providers’ ability to meet with residential and commercial property owners who use our solutions. It remains difficult to assess or predict the ultimate duration and economic impact of the Macroeconomic Conditions including, the path of the COVID-19 pandemic, the evolution of COVID-19 variants or the emergence of other public health crises. In response to the COVID-19 pandemic, we have taken precautionary measures intended to help protect our employees, service providers and subscribers, as well as the communities in which we participate, including enabling substantially all of our employees to partially work remotely. After evaluating the public health situation in the United States regarding COVID-19, including revised guidance from public health authorities, the rise in vaccinated individuals, and decline of hospitalizations due to COVID-19 in the nine months ended September 30, 2022, as compared to 2020 and 2021, we continue to follow our previously implemented hybrid return to office plan that includes voluntary remote workdays and mandatory in-office workdays. The results of operations for the three and nine months ended September 30, 2022 are not necessarily indicative of the results that can be expected for our entire fiscal year ending December 31, 2022, which is increasingly true in periods of extreme uncertainty, such as the uncertainty caused by the Macroeconomic Conditions. Prolonged uncertainty with respect to Macroeconomic Conditions could cause further economic slowdown or cause other unpredictable events, each of which could adversely affect our business, results of operations or financial condition. Other Business Metrics We regularly monitor a number of financial and operating metrics in order to measure our current performance and estimate our future performance. Our other business metrics may be calculated in a manner different from the way similar business metrics used by other companies are calculated and include the following (dollars in thousands): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 SaaS and license revenue $ 133,126 $ 118,059 $ 385,826 $ 338,628 Adjusted EBITDA 40,840 37,578 107,894 111,190 Twelve Months Ended September 30, 2022 2021 SaaS and license revenue renewal rate 94 % 96 % SaaS and License Revenue SaaS and license revenue is a GAAP measure that we use to measure our current performance and estimate our future performance. We believe that SaaS and license revenue is an indicator of the productivity of our existing service provider partner s and their ability to activate and maintain subscribers using our intelligently connected property solutions, our ability to add new service provider partners reselling our solutions, the demand for our intelligently connected property solutions and the pace at which the market for these solutions is growing. 35 Adjusted EBITDA Adjusted EBITDA is a non-GAAP measure that represents our net income before interest expense, interest income, certain activity within other (expense) / income, net, provision for / (benefit from) income taxes, amortization and depreciation expense, stock-based compensation expense, acquisition-related expense and legal costs and settlement fees incurred in connection with non-ordinary course litigation and other disputes, particularly costs involved in ongoing intellectual property litigation. We do not consider these items to be indicative of our core operating performance. The non-cash items include amortization and depreciation expense, amortization of debt discount and debt issuance costs for the January 20, 2021 issuance of $500.0 million aggregate principal amount of 0% convertible senior notes due January 15, 2026, or the 2026 Notes, included in interest expense and stock-based compensation expense related to restricted stock units and other forms of equity compensation, including, but not limited to, the sale of common stock. We do not adjust for ordinary course legal expenses resulting from maintaining and enforcing our intellectual property portfolio and license agreements. We record interest expense primarily related to our debt facility and the 2026 Notes. We exclude interest expense in calculating Adjusted EBITDA because we believe that the exclusion of interest expense will provide for more meaningful information about our financial performance. We exclude interest income as well as certain activity within other (expense) / income, net including gains, losses or impairments on investments and other assets as well as losses on the early extinguishment of the debt, when applicable, from Adjusted EBITDA because we do not consider it part of our ongoing results of operations. We exclude the impact related to our provision for / (benefit from) income taxes from Adjusted EBITDA because we do not consider this tax adjustment to be part of our ongoing results of operations. GAAP requires that operating expenses include the amortization of acquired intangible assets, which principally include acquired customer relationships, developed technology and trade names. We exclude amortization of intangibles from Adjusted EBITDA because we do not consider amortization expense when we evaluate our ongoing business operations, nor do we factor amortization expense into our evaluation of potential acquisitions, or our measurement of the performance of those acquisitions. We believe that the exclusion of amortization expense enables the comparison of our performance to other companies in our industry as other companies may be more or less acquisitive than us and therefore, amortization expense may vary significantly by company based on their acquisition history. Although we exclude amortization of acquired intangible assets from Adjusted EBITDA, management believes that it is important for investors to understand that such intangible assets were recorded as part of purchase accounting and contribute to revenue generation. We record depreciation primarily for investments in property and equipment. We exclude depreciation in calculating Adjusted EBITDA because we do not consider depreciation when we evaluate our ongoing business operations. We exclude stock-based compensation expense, which relates to restricted stock units and other forms of equity incentives primarily awarded to employees of Alarm.com, because they are non-cash charges that we do not consider when assessing the operating performance of our business. Additionally, the determination of stock-based compensation expense can be calculated using various methodologies and is dependent upon subjective assumptions and other factors that vary on a company-by-company basis. Therefore, we believe that excluding stock-based compensation expense from Adjusted EBITDA improves the comparability of our results to the results of other companies in our industry. Included in operating expenses are incremental costs directly related to business and asset acquisitions as well as changes in the fair value of contingent consideration liabilities, when applicable. We exclude acquisition-related expense from Adjusted EBITDA because we believe that the exclusion of this expense allows us to better provide meaningful information about our operating performance, facilitates comparisons to our historical operating results, improves the comparability of our results to the results of other companies in our industry, and ultimately, we believe helps investors better understand the acquisition-related expense and the effects of the transaction on our results of operations. We exclude non-ordinary course litigation expense because we do not consider legal costs and settlement fees incurred in litigation and litigation-related matters of non-ordinary course lawsuits and other disputes, particularly costs incurred in ongoing intellectual property litigation, to be indicative of our core operating performance. We do not adjust for ordinary course legal expenses, including those expenses resulting from maintaining and enforcing our intellectual property portfolio and license agreements. Adjusted EBITDA is a key measure that our management uses to understand and evaluate our core operating performance and trends to generate future operating plans, to make strategic decisions regarding the allocation of capital, and to make investments in initiatives that are focused on cultivating new markets for our solutions. In particular, the exclusion of certain expenses in calculating Adjusted EBITDA facilitates comparisons of our operating performance on a period-to-period basis and, in the case of exclusion of acquisition-related adjustments and certain historical legal expenses, excludes items that we do not consider to be indicative of our core operating performance. Adjusted EBITDA is not a measure calculated in accordance with GAAP and should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with GAAP. Please see Non-GAAP Measures in this section for a discussion of the limitations of Adjusted EBITDA and a reconciliation of Adjusted EBITDA to net income, the most comparable GAAP measurement, for the three and nine months ended September 30, 2022 and 2021. 36 SaaS and License Revenue Renewal Rate Our SaaS and license revenue renewal rate is an operating metric. We measure our SaaS and license revenue renewal rate on a trailing 12-month basis by dividing (a) the total SaaS and license revenue recognized during the trailing 12-month period from our subscribers on our Alarm.com platform who were subscribers on the first day of the period, by (b) total SaaS and license revenue we would have recognized during the period from those same subscribers assuming no terminations, or service level upgrades or downgrades. The SaaS and license revenue renewal rate represents both residential and commercial properties. Our SaaS and license revenue renewal rate is expressed as an annualized percentage and it is calculated across our entire subscriber base on the Alarm.com platform excluding subscribers of service providers that may use one of our other platforms as a substitute for the Alarm.com platform. O ur service provider partners have indicated that they typically have three to five -year service contracts with residential and commercial property owners who use our solutions. Our SaaS and license revenue renewal rate includes subscribers whose contract with their service provider reached the end of its contractual term during the measurement period, as well as subscribers whose contract with their service provider has not reached the end of its contractual term during the measurement period, and is not intended to estimate the rate at which our subscribers renew their contracts with our service provider partners. We believe that our SaaS and license revenue renewal rate allows us to measure our ability to retain and grow our SaaS and license revenue and serves as an indicator of the lifetime value of our subscriber base. Adoption of Recent Accounting Pronouncements On August 5, 2020, the Financial Accounting Standards Board, or FASB, issued ASU 2020-06, " Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity ," or ASU 2020-06, which simplifies the accounting for certain financial instruments with characteristics of liabilities and equity, including convertible instruments and contracts on an entity’s own equity. The new guidance eliminates two of the three models in Subtopic 470-20 that require separating embedded conversion features from convertible instruments. The guidance also addresses how convertible instruments are accounted for in the diluted earnings per share calculation. The amendment in this update is effective for fiscal years beginning after December 15, 2021. We adopted ASU 2020-06 effective January 1, 2022, using a modified retrospective adoption method, which required us to record the initial effect of this guidance as a cumulative-effect adjustment to retained earnings on January 1, 2022. Upon adoption of ASU 2020-06 we recombined the liability and equity components of the convertible senior notes assuming that the instrument was accounted for as only a liability from inception to the date of adoption. We also recombined the liability and equity components of the debt issuance costs. The issuance costs are presented as a deduction from the outstanding principal balance of the convertible senior notes and are amortized to interest expense using the effective interest method over the contractual term of the convertible senior notes. We also removed the temporary difference between the book and tax treatment of the debt discount and adjusted the temporary difference between the book and tax treatment of the debt issuance costs of the 2026 Notes. The adoption resulted in the recording of the following increases / (decreases) on our condensed consolidated balance sheets (in thousands): Balance Sheet Caption As of January 1, 2022 Deferred tax assets $ 15,356 Additional paid-in capital (56,515) Convertible senior notes, net 61,899 Retained earnings 9,972 Our net income attributable to common stockholders increased $2.0 million and $6.0 million during the three and nine months ended September 30, 2022, respectively, as a result of adopting ASU 2020-06 due to no longer recording non-cash interest expense related to the amortization of the debt discount associated with the previous equity component of the 2026 Notes. Upon adoption of this guidance on January 1, 2022, we began using the if-converted method when calculating the dilutive impact of the 2026 Notes on net income per share, which required us to increase our diluted weighted average common shares outstanding by 3,396,950 shares for the three and nine months ended September 30, 2022. The impact of ASU 2020-06 on net income attributable to common stockholders and weighted average diluted shares resulted in an increase to basic net income attributable to common stockholders of $0.04 and $0.12 per share and an increase to diluted net income attributable to common stockholders of $0.03 and $0.10 per share, during the three and nine months ended September 30, 2022, respectively. See Note 15 for details on the components of basic and diluted earnings per share. 37 Components of Operating Results Our fiscal year ends on December 31. The key elements of our operating results include: Revenue We derive our revenue from three primary sources: the sale of cloud-based SaaS services on our integrated Alarm.com platform, the sale of licenses and services on the Software platform and the sale of hardware products. We sell our platform and hardware solutions to service provider partners that resell our solutions and hardware to residential and commercial property owners, who are the service provider partners’ customers. SaaS and License Revenue . We generate the majority of our SaaS and license revenue primarily from monthly fees charged to our service provider partners on a per subscriber basis for access to our cloud-based intelligently connected property platform and related solutions. Our fees per subscriber vary based upon the service plan and features utilized. We offer multiple service level packages for our platform solutions including a range of solutions and a range of a la carte add-ons for additional features. The fee paid by our service provider partners each month for the delivery of our solutions is based on the combination of packages and add-ons enabled for each subscriber. We utilize tiered pricing plans where our service provider partners may receive prospective pricing discounts driven by volume. We also generate SaaS and license revenue from the fees paid to us when we license our intellectual property to third parties for use of our patents. In addition, in certain markets, our EnergyHub subsidiary sells its demand response service for an annual service fee, with pricing based on the number of subscribers or amount of aggregate electricity demand made available for a utility’s or market’s control. On October 27, 2022, we filed a demand for arbitration of a dispute arising under the Patent Cross License agreement between Alarm.com and Vivint executed in November 2013. Vivint notified us it will stop paying license fees to Alarm.com under the agreement. Vivint has paid the required license fees to Alarm.com since the agreement was executed in November 2013. Alarm.com disputes Vivint's refusal of payment and is seeking continued payments of license fees in the arbitration, as well as interest and declaratory relief. As a result of Vivint’s refusal to pay license fees under the agreement, beginning with the fourth quarter of 2022, we believe that quarterly SaaS and license revenue and total revenue will be impacted by approximately $6.0 million. Software License Revenue . Our SaaS and license revenue also includes our software license revenue from monthly fees charged to service providers on a per subscriber basis for access to our Software platform. The non-hosted software for interactive security, automation and related solutions is typically deployed and operated by the service provider in its own network operations center. Our agreements for the Software platform solution typically include software and services, such as post-contract customer support, or PCS. Software license revenue included in SaaS and license revenue is expected to continue to decline over time as we transition subscribers to our cloud-based hosted platform. Hardware and Other Revenue. We generate hardware and other revenue primarily from the sale of video cameras, video recorders and cellular radio modules that provide access to our cloud-based platforms and, to a lesser extent, the sale of other devices, including image sensors, gunshot detection sensors and peripherals. We primarily transfer hardware to our customers upon delivery to the customer, which corresponds with the time at which the customer obtains control of the hardware. We record a reserve against revenue for hardware returns based on historical returns. Our hardware and other revenue also includes our revenue from the sale of perpetual licenses that provide our customers in the commercial market the right to use our OpenEye video surveillance software for an indefinite period of time in exchange for a one-time license fee, which is generally paid at contract inception. Additionally, our hardware and other revenue includes our revenue from Shooter Detection Systems related to the sale of licenses that provide our customers the right to use our indoor gunshot detection solution in exchange for license fees, which are generally paid at contract inception. Hardware and other revenue may also include activation fees charged to some of our service provider partners for activation of a new subscriber account on our platforms, as well as fees paid by service provider partners for our marketing services. The decision whether to charge an activation fee is based in part on the expected number of subscribers to be added by our service provider partners and as a result, many of our largest service provider partners do not pay an activation fee. As a result of the COVID-19 pandemic, governments, public institutions and other organizations in many countries and localities where COVID-19 has been detected have taken certain emergency measures, and may from time to time take additional emergency measures, to combat its spread, including imposing lockdowns, shelter-in-place orders, quarantines, restrictions on travel and gatherings and the extended shutdown of non-essential businesses that cannot be conducted remotely. These emergency measures remain in place to varying degrees. We have seen and anticipate we may continue to see disruption to our hardware supply chain, including limited inventory availability, increased lead times, and shipping delays, due to the impact of COVID-19 on manufacturing, production and global transportation, as well as to our sales channels due to restrictions on our service providers’ ability to meet with residential and commercial property owners who use our solutions, reluctance of service providers and property owners to meet even where such restrictions have been lifted and general economic 38 conditions. It remains difficult to assess or predict the ultimate duration and economic impact of the Macroeconomic Conditions including, the path of the COVID-19 pandemic, the evolution of COVID-19 variants, or the emergence of other public health crises. As the future impact on global supply chains from COVID-19 is difficult to predict, the extent to which COVID-19 may negatively affect our hardware revenue is uncertain. If the economy fails to fully recover or there are additional shutdowns of non-essential businesses due to a resurgence of COVID-19 and the emergence and severity of COVID-19 variants, our SaaS and license revenue growth rate may be lower in future periods, with a corresponding reduction in hardware revenue, if some consumers or small businesses defer or cancel previously anticipated purchases. Cost of Revenue Our cost of SaaS and license revenue primarily includes the amounts paid to wireless network providers and, to a lesser extent, the costs of running our network operations centers which are expensed as incurred, as well as patent and royalty costs in connection with technology licensed from third-party providers and amounts paid to distributed energy resource providers. Our cost of SaaS and license revenue also includes our cost of software license revenue, which primarily includes the payroll and payroll-related costs of the department dedicated to providing service exclusively to those service providers that host the Software platform. Our cost of hardware and other revenue primarily includes cost of raw materials, tooling and amounts paid to our third-party manufacturer for production and fulfillment of our cellular radio modules and image sensors, and procurement costs for our video cameras, video recorders and gunshot detection sensors, which we purchase from an original equipment manufacturer, and other devices. Additionally, our cost of hardware and other revenue includes royalty costs in connection with technology licensed from third-party providers. We record the cost of SaaS and license revenue as expenses are incurred, which corresponds to the delivery period of our services to our subscribers. We record the cost of hardware and other revenue primarily when the hardware and other services are delivered to the service provider partner, which occurs when control of the hardware and other services transfers to the service provider partner. Our cost of revenue excludes amortization and depreciation shown in operating expenses. Since 2019, the U.S. government has implemented and imposed significant changes to U.S. trade policy with respect to China. Tariffs have subjected certain Alarm.com products manufactured overseas to additional import duties of up to 25%. The amount of the import tariff and the number of products subject to tariffs have changed numerous times based on action by the U.S. government. Approximately one-fifth to one-half of the hardware products that we sell to our service provider partners are imported from China and could be subject to increased tariffs. While the additional import duties have resulted in an increase to our cost of hardware revenue, these import duties had a modest impact on hardware revenue margins. If tariffs are increased or are expanded to apply to more of our products, such actions may increase our cost of hardware revenue and reduce our hardware revenue margins in the future. We continue to monitor the changes in tariffs. Our costs of hardware revenue increased during the second half of 2021 primarily due to an increase in costs for freight shipments, including expedited shipping costs, as well as an increase in inventory component costs. We currently expect our hardware revenue margins to increase in 2022 as compared to the hardware revenue margins we experienced during the fourth quarter of 2021 and first quarter of 2022 as a result of price increases we have implemented on some of our products during the first six months of 2022 to cover some of our increases in costs. Operating Expenses Our operating expenses consist of sales and marketing, general and administrative, research and development and amortization and depreciation expenses. Salaries, bonuses, stock-based compensation, benefits and other personnel related costs are the most significant components of each of these expense categories, excluding amortization and depreciation. We include stock-based compensation expense in connection with the grant of restricted stock units and other forms of equity compensation, including equity compensation with performance conditions, in the applicable operating expense category based on the respective equity award recipient’s function (sales and marketing, general and administrative or research and development). We grew from 1,482 employees as of September 30, 2021 to 1,699 employees as of September 30, 2022 and grew from 1,606 employees as of June 30, 2022, and we expect to continue to hire new employees to support the projected future growth of our business. Sales and Marketing Expense. Sales and marketing expense consists primarily of personnel and related expenses for our sales and marketing teams, including salaries, bonuses, stock-based compensation, benefits, travel, and commissions. Our sales and marketing teams engage in sales, account management, service provider partner support, advertising, promotion of our products and services and marketing. The number of employees in sales and marketing functions increased from 476 as of September 30, 2021 to 504 as of September 30, 2022 and increased from 484 as of June 30, 2022. We expect to continue to invest in our sales and marketing activities to expand our business both domestically and internationally. We intend to increase the size of our sales force and our service provider partner support team to provide additional support to our existing service provider partner base to drive their productivity in selling our solutions as well as to enroll new service provider partners in North America and in international markets. 39 General and Administrative Expense. General and administrative expense consists primarily of personnel and related expenses for our administrative, legal, human resources, finance and accounting personnel, including salaries, bonuses, stock-based compensation, benefits and other personnel costs. Additional expenses included in this category are legal costs, including those that are incurred to defend and license our intellectual property, as well as non-personnel costs, such as travel related expenses, rent, subcontracting and professional fees, audit fees, tax services, and insurance expenses. Also included in general and administrative expenses are credit losses and acquisition-related expenses, which consist primarily of legal, accounting and professional service fees directly related to acquisitions and valuation gains or losses on acquisition-related contingent liabilities. The number of employees in general and administrative functions increased from 187 as of September 30, 2021 to 214 as of September 30, 2022 and increased from 203 as of June 30, 2022. Excluding intellectual property litigation and acquisition-related expense, we expect general and administrative costs to increase prospectively as our business grows. This includes cost increases related to human resources, accounting, finance, and legal personnel, additional external legal, audit fees and other expenses associated with regulations governing public companies. While somewhat unpredictable, we also expect to continue to incur costs related to litigation involving intellectual property as well as additional legal fees related to the dispute arising under the Patent Cross License agreement between Alarm.com and Vivint. See the section of this Quarterly Report titled "Legal Proceedings" for additional information regarding litigation matters. Research and Development Expense . Research and development expense consists primarily of personnel and related expenses for our employees working on our product development and software and device engineering teams, including salaries, bonuses, stock-based compensation, benefits and other personnel costs. Also included are non-personnel costs such as consulting and professional fees paid to third-party development resources. The number of employees in research and development functions increased from 819 as of September 30, 2021 to 981 as of September 30, 2022 and increased from 919 as of June 30, 2022. Our research and development efforts are focused on innovating new features and enhancing the functionality of our platforms and the solutions we offer to our service provider partners and subscribers. We will also continue to invest in efforts to extend our platforms to adjacent markets and internationally to maintain our leadership position in the development of intelligently connected property technology, and continued enhancement of our Partner Services Platform, a comprehensive suite of enterprise-grade business management solutions for our service provider partners. Amortization and Depreciation . Amortization and depreciation consists of amortization of intangible assets originating from our acquisitions as well as our internally-developed capitalized software. Our depreciation expense is related to investments in property and equipment. Acquired intangible assets include developed technology, customer related intangibles, trademarks and trade names. We expect in the near term that amortization and depreciation may fluctuate based on our acquisition activity, development of our platforms and capitalized expenditures. Interest Expense We record interest expense associated with our 2026 Notes and our 2017 Facility, which was terminated in January 2021. Interest expense is expected to decrease in 2022, as compared to 2021, due to the adoption of ASU 2020-06 as of January 1, 2022, which eliminated the non-cash interest expense related to the amortization of the debt discount associated with the equity component for 2026 Notes issued on January 20, 2021. There was no impact to our liquidity or cash flows as a result of the adopting this guidance. Interest Income Interest income consists of interest income earned on our cash and cash equivalents, our notes receivable and our restricted cash. Other (Expense) / Income, Net Other (expense) / income, net primarily consists of non-operating and miscellaneous expense and income, including a $0.1 million gain related to proceeds received from our initial investment in an installation partner during the nine months ended September 30, 2022 and a $0.2 million loss on the early extinguishment of the 2017 Facility during the nine months ended September 30, 2021. 40 Provision for / (Benefit from) Income Taxes We are subject to U.S. federal, state and local income taxes as well as foreign income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. As a result, we recognize tax liabilities based on estimates of whether additional taxes will be due. Our effect ive tax rates were below the 21.0% statuto ry rate primarily due to research and development tax credits claimed, tax windfall benefits from employee stock-based payment transactions and foreign derived intangible income deductions, partially offset by the impact of state taxes, foreign withholding taxes and other nondeductible expenses. We recognize excess tax windfall benefits on a discrete basis during the quarter in which they occur, and we anticipate that our effective tax rate will vary from quarter to quarter depending on our stock price as well as the vesting and exercises of various forms of equity compensation under our equity incentive plans each period, including restricted stock units and stock options. Results of Operations The following table sets forth our unaudited selected condensed consolidated statements of operations and data as a percentage of revenue for the periods presented (in thousands): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Revenue: SaaS and license revenue $ 133,126 62 % $ 118,059 61 % $ 385,826 61 % $ 338,628 61 % Hardware and other revenue 83,012 38 74,265 39 248,594 39 215,051 39 Total revenue 216,138 100 192,324 100 634,420 100 553,679 100 Cost of revenue (1) : Cost of SaaS and license revenue 18,437 9 17,425 9 54,019 8 49,782 9 Cost of hardware and other revenue 67,149 31 62,959 33 208,990 33 173,731 31 Total cost of revenue 85,586 40 80,384 42 263,009 41 223,513 40 Operating expenses: Sales and marketing (2) 23,057 11 22,557 12 69,182 11 62,085 11 General and administrative (2) 28,011 13 18,689 9 81,314 13 64,839 12 Research and development (2) 55,581 26 44,143 23 161,227 25 130,101 24 Amortization and depreciation 7,587 3 7,467 4 23,123 4 22,329 4 Total operating expenses 114,236 53 92,856 48 334,846 53 279,354 51 Operating income 16,316 7 19,084 10 36,565 6 50,812 9 Interest expense (787) — (4,196) (2) (2,356) — (11,718) (2) Interest income 2,903 1 140 — 4,062 — 446 — Other (expense) / income, net (76) — 53 — 42 — (70) — Income before income taxes 18,356 8 15,081 8 38,313 6 39,470 7 Provision for / (benefit from) income taxes 246 — 1,787 1 472 — (2,864) (1) Net income $ 18,110 8 % $ 13,294 7 % $ 37,841 6 % $ 42,334 8 % _______________ (1) Excludes amortization and depreciation shown in operating expenses below. (2) Operating expenses include stock-based compensation expense as follows (in thousands): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Stock-based compensation expense data: Sales and marketing $ 983 $ 1,189 $ 3,481 $ 3,232 General and administrative 3,953 1,974 11,135 7,217 Research and development 8,218 6,255 23,437 16,913 Total stock-based compensation expense $ 13,154 $ 9,418 $ 38,053 $ 27,362 41 The following table sets forth the components of cost of revenue as a percentage of revenue: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Components of cost of revenue as a percentage of revenue: Cost of SaaS and license revenue as a percentage of SaaS and license revenue 14 % 15 % 14 % 15 % Cost of hardware and other revenue as a percentage of hardware and other revenue 81 % 85 % 84 % 81 % Total cost of revenue as a percentage of total revenue 40 % 42 % 41 % 40 % Comparison of the Three and Nine Months Ended September 30, 2022 to September 30, 2021 The following tables in this section set forth our selected condensed consolidated statements of operations (in thousands), data for the percentage change and data as a percentage of revenue for the periods presented: Revenue Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Revenue SaaS and license revenue $ 133,126 $ 118,059 13 % $ 385,826 $ 338,628 14 % Hardware and other revenue 83,012 74,265 12 248,594 215,051 16 Total revenue $ 216,138 $ 192,324 12 % $ 634,420 $ 553,679 15 % The $23.8 million increase in total revenue for the three months ended September 30, 2022 as compared to the same period in the prior year was primarily the result of a $15.1 million, or 13%, increase in our SaaS and license revenue and a $8.7 million, or 12%, increase in our hardware and other revenue. Our software license revenue included within SaaS and license revenue decreased $1.4 million to $6.5 million during the three months ended September 30, 2022 as compared to $7.9 million during the same period in the prior year primarily due to the result of the continuing transition of customers from non-hosted software to our cloud based hosted platform. The SaaS and license revenue for the Alarm.com segment increased $13.4 million for the three months ended September 30, 2022 as compared to the same period in the prior year primarily due to growth in our subscriber base, including the revenue impact from subscribers we added in 2021. The SaaS and license revenue for our Other segment increased $1.7 million for the three months ended September 30, 2022 as compared to the same period in the prior year primarily due to an increase in sales of our energy management and demand response solutions. The increase in hardware and other revenue for the three months ended September 30, 2022 as compared to the same period in the prior year was primarily from the $8.8 million increase in hardware and other revenue, net of intersegment eliminations, for the Alarm.com segment due to an increase in the volume of video cameras and video recorders sold as well as price increases we have implemented on some of our products to cover some of our increases in costs. Hardware and other revenue, net of intersegment eliminations, in our Other segment remained relatively consistent for the three months ended September 30, 2022 as compared to the same period in the prior year. The $80.7 million increase in total revenue for the nine months ended September 30, 2022 as compared to the same period in the prior year was primarily the result of a $47.2 million, or 14%, increase in our SaaS and license revenue and a $33.5 million, or 16%, increase in our hardware and other revenue. Our software license revenue included within SaaS and license revenue decreased $4.4 million to $20.5 million during the nine months ended September 30, 2022, as compared to $24.9 million during the same period in the prior year primarily due to the result of the continuing transition of customers from non-hosted software to our cloud based hosted platform. The SaaS and license revenue for the Alarm.com segment increased $41.7 million for the nine months ended September 30, 2022 as compared to the same period in the prior year primarily due to growth in our subscriber base, including the revenue impact from subscribers we added in 2021. The SaaS and license revenue for our Other segment increased $5.5 million for the nine months ended September 30, 2022 as compared to the same period in the prior year primarily due to an increase in sales of our energy management and demand response solutions. The increase in hardware and other revenue for the nine months ended September 30, 2022 as compared to the same period in the prior year was primarily from the $32.7 million increase in hardware and other revenue, net of intersegment eliminations, for the Alarm.com segment due to an increase in the volume of video cameras and video recorders sold as well as price increases we have implemented on some of our products to cover some of our increases in costs. Hardware and other revenue, net of intersegment eliminations, in our Other segment increased $0.8 million, or 15%, for the nine months ended September 30, 2022 as compared to the same period in the prior year, primarily due to an increase in sales related to our property management solution. 42 Cost of Revenue Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Cost of revenue (1) Cost of SaaS and license revenue $ 18,437 $ 17,425 6 % $ 54,019 $ 49,782 9 % Cost of hardware and other revenue 67,149 62,959 7 208,990 173,731 20 Total cost of revenue $ 85,586 $ 80,384 6 % $ 263,009 $ 223,513 18 % % of total revenue 40 % 42 % 41 % 40 % _______________ (1) Excludes amortization and depreciation shown in operating expenses. The $5.2 million increase in cost of revenue for the three months ended September 30, 2022 as compared to the same period in the prior year was the result of a $4.2 million, or 7%, increase in cost of hardware and other revenue and a $1.0 million, or 6%, increase in cost of SaaS and license revenue. Our cost of software license revenue included within cost of SaaS and license revenue was $0.1 million for the three months ended September 30, 2022 as compared to $0.3 million during the same period in the prior year. The cost of hardware and other revenue for the Alarm.com segment increased $4.3 million during the three months ended September 30, 2022 as compared to the same period in the prior year primarily due to an increase in the number of hardware units shipped and an increase in inventory component costs. The cost of SaaS and license revenue for the Alarm.com segment increased $0.4 million during the three months ended September 30, 2022 as compared to the same period in the prior year primarily due to the growth in our subscriber base, which drove a corresponding increase in amounts paid to wireless network providers. The cost of SaaS and license revenue for the Other segment increased $0.7 million during the three months ended September 30, 2022 as compared to the same period in the prior year primarily due to an increase in sales of our energy management and demand response solutions, which drove a corresponding increase in amounts paid to distributed energy resource providers. Cost of hardware and other revenue as a percentage of hardware and other revenue was 81% for the three months ended September 30, 2022 and 85% for the same period in the prior year. The decrease in cost of hardware and other revenue as a percentage of hardware and other revenue for the three months ended September 30, 2022 as compared to the same period in the prior year is primarily due to a decrease in costs for freight shipments, price increases we have implemented on some of our products as well as a reflection of the mix of product sales during the periods. Cost of SaaS and license revenue as a percentage of SaaS and license revenue was 14% for the three months ended September 30, 2022 as compared to 15% during the same period in the prior year. Cost of software license revenue as a percentage of software license revenue was 2% for the three months ended September 30, 2022 and 4% for the same period in the prior year. The $39.5 million increase in cost of revenue for the nine months ended September 30, 2022 as compared to the same period in the prior year was the result of a $35.3 million, or 20%, increase in cost of hardware and other revenue and a $4.2 million, or 9%, increase in cost of SaaS and license revenue. Our cost of software license revenue included within cost of SaaS and license revenue was $0.4 million for the nine months ended September 30, 2022 as compared to $1.0 million during the same period in the prior year. The cost of hardware and other revenue for the Alarm.com segment increased $34.8 million during the nine months ended September 30, 2022 as compared to the same period in the prior year primarily due to an increase in the number of hardware units shipped and an increase in costs for freight shipments and inventory component costs. The cost of SaaS and license revenue for the Alarm.com segment increased $2.5 million during the nine months ended September 30, 2022 as compared to the same period in the prior year primarily due to the growth in our subscriber base, which drove a corresponding increase in amounts paid to wireless network providers. The cost of SaaS and license revenue for the Other segment increased $1.7 million during the nine months ended September 30, 2022 as compared to the same period in the prior year primarily due to an increase in sales of our energy management and demand response solutions, which drove a corresponding increase in amounts paid to distributed energy resource providers. Cost of hardware and other revenue as a percentage of hardware and other revenue was 84% for the nine months ended September 30, 2022 and 81% for the same period in the prior year. The increase in cost of hardware and other revenue as a percentage of hardware and other revenue for the nine months ended September 30, 2022 as compared to the same period in the prior year is primarily due to the increase in costs for freight shipments and inventory component costs as well as a reflection of the mix of product sales during the periods. Cost of SaaS and license revenue as a percentage of SaaS and license revenue was 14% for the nine months ended September 30, 2022 and 15% for the same period in the prior year. Cost of software license revenue as a percentage of software license revenue was 2% for the nine months ended September 30, 2022 and 4% for the same period in the prior year. 43 Sales and Marketing Expense Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Sales and marketing $ 23,057 $ 22,557 2 % $ 69,182 $ 62,085 11 % % of total revenue 11 % 12 % 11 % 11 % The $0.5 million increase in sales and marketing expense for the three months ended September 30, 2022 as compared to the same period in the prior year was primarily due to a $1.1 million increase in personnel and related costs for our Other segment, including salary, benefits, stock-based compensation and travel expense as well as a $0.2 million increase in marketing expense, including marketing conference costs. The increase in personnel and related costs for our Other segment was due in part to increases in the headcount of our sales team to support our growth. Additionally, there was a $0.6 million increase in personnel and related costs for our Alarm.com segment due in part to an increase in employee headcount of our sales team to support our growth as well as a $0.2 million increase in our expenses for external consultants. These increases in sales and marketing expense were partially offset by a $1.7 million decrease in marketing expense for our Alarm.com segment, including advertising and marketing conference costs. The $7.1 million increase in sales and marketing expense for the nine months ended September 30, 2022 as compared to the same period in the prior year was primarily due to a $3.9 million increase in personnel and related costs for our Alarm.com segment, attributable in part to increases in the headcount for our sales team to support our growth. Sales and marketing expense from our Other segment increased $3.2 million for the nine months ended September 30, 2022, as compared to the same period in the prior year, primarily due to increases in personnel and related costs, attributable in part to increases in the headcount for our sales team and the termination of the subsidiary long-term incentive plan and concurrent grant of performance-based restricted stock units. The number of employees in sales and marketing functions increased from 476 as of September 30, 2021 to 504 as of September 30, 2022. General and Administrative Expense Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 General and administrative $ 28,011 $ 18,689 50 % $ 81,314 $ 64,839 25 % % of total revenue 13 % 9 % 13 % 12 % The $9.3 million increase in general and administrative expense for the three months ended September 30, 2022 as compared to the same period in the prior year was primarily due to a $2.8 million increase in personnel and related costs for our Alarm.com segment, attributable in part to an increase in employee headcount to support our operational growth. Additionally, there was a $1.7 million increase in legal costs related to intellectual property litigation. Further, there was a $0.5 million increase in the provision for credit losses for our Alarm.com segment for the three months ended September 30, 2022 as compared to a $0.4 million decrease in the provision for credit losses for our Alarm.com segment during the same period in the period year. General and administrative expenses from our Other segment increased by $2.1 million for the three months ended September 30, 2022 as compared to the same period in the prior year, primarily due to a $1.5 million increase in personnel and related costs as well as a $0.5 million increase in the provision for credit losses for the three months ended September 30, 2022. The $16.5 million increase in general and administrative expense for the nine months ended September 30, 2022 as compared to the same period in the prior year was primarily due to a $5.6 million increase in personnel and related costs for our Alarm.com segment due in part to increases in the headcount to support our operational growth. Additionally, legal costs related to intellectual property litigation increased $2.1 million, recruiting costs increased $0.6 million and rent expense increased $0.5 million for the nine months ended September 30, 2022 as compared to the same period in the prior year within our Alarm.com segment. General and administrative expenses from our Other segment increased by $3.9 million for the nine months ended September 30, 2022 as compared to the same period in the prior year, primarily due to a $2.8 million increase in personnel and related costs and a $0.8 million increase in the provision for credit losses. The number of employees in general and administrative functions increased from 187 as of September 30, 2021 to 214 as of September 30, 2022. 44 Research and Development Expense Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Research and development $ 55,581 $ 44,143 26 % $ 161,227 $ 130,101 24 % % of total revenue 26 % 23 % 25 % 24 % The $11.4 million increase in research and development expense for the three months ended September 30, 2022 as compared to the same period in the prior year was primarily due to a $8.5 million increase in personnel and related costs for our Alarm.com segment, attributable in part to an increase in headcount of employees in research and development functions as well as a $0.6 million increase in our expenses for external consultants. Research and development expense from our Other segment increased by $1.1 million for the three months ended September 30, 2022 as compared to the same period in the prior year, primarily due to a $1.4 million increase in personnel and related costs, partially offset by a $0.4 million decrease in expenses for external consultants. The $31.1 million increase in research and development expense for the nine months ended September 30, 2022 as compared to the same period in the prior year was primarily due to a $22.8 million increase in personnel and related costs for our Alarm.com segment, attributable in part to an increase in headcount of employees in research and development functions as well as a $1.9 million increase in our expenses for external consultants. Research and development expense from our Other segment increased by $3.9 million for the nine months ended September 30, 2022 as compared to the same period in the prior year due to an increase in personnel and related costs. The number of employees in research and development functions increased from 819 as of September 30, 2021 to 981 as of September 30, 2022. Amortization and Depreciation Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Amortization and depreciation $ 7,587 $ 7,467 2 % $ 23,123 $ 22,329 4 % % of total revenue 3 % 4 % 4 % 4 % Amortization and depreciation increased $0.1 million and $0.8 million for the three and nine months ended September 30, 2022, respectively, as compared to the same periods in the prior year, primarily due to the intangible assets that were acquired in connection with the purchase of certain assets of an unrelated third party by EnergyHub, Inc., one of our wholly-owned subsidiaries, on December 16, 2021 as well as the intangible assets that were acquired in connection with our acquisition of Shooter Detection Systems, LLC on December 14, 2020. Interest Expense Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Interest expense $ (787) $ (4,196) (81) % $ (2,356) $ (11,718) (80) % % of total revenue — % (2) % — % (2) % Interest expense decreased $3.4 million and $9.4 million for the three and nine months ended September 30, 2022, respectively, as compared to the same periods in the prior year, primarily due to the adoption of ASU 2020-06, which eliminated the non-cash interest expense related to the amortization of the debt discount associated with the equity component for 2026 Notes issued on January 20, 2021. Interest Income Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Interest income $ 2,903 $ 140 1,974 % $ 4,062 $ 446 811 % % of total revenue 1 % — % — % — % 45 Interest income increased $2.8 million and $3.6 million for the three and nine months ended September 30, 2022, respectively, as compared to the same periods in the prior year, primarily due to an increase in interest income earned on cash and cash equivalents during the three and nine months ended September 30, 2022. Other (Expense) / Income, Net Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Other (expense) / income, net $ (76) $ 53 (243) % $ 42 $ (70) (160) % % of total revenue — % — % — % — % Other (expense) / income, net remained relatively consistent for each of the three and nine months ended September 30, 2022 as compared to the same periods in the prior year. Included in other (expense) / income, net, during the nine months ended September 30, 2022 was a $0.1 million gain related to proceeds received from our initial investment in an installation partner. Included in other (expense) / income, net, during the nine months ended September 30, 2021 was a $0.2 million loss on the early extinguishment of the 2017 Facility. Provision for / (Benefit from) Income Taxes Three Months Ended September 30, % Change Nine Months Ended September 30, % Change 2022 2021 2022 2021 Provision for / (benefit from) income taxes $ 246 $ 1,787 (86) % $ 472 $ (2,864) (116) % % of total revenue — % 1 % — % (1) % The provision for income taxes decreased $1.5 million and increased $3.3 million for the three and nine months ended September 30, 2022, respectively, as compared to the same periods in the prior year. Our effective tax rate was 1.3% and 1.2% for the three and nine months ended September 30, 2022, respectively, as compared to 11.8% and (7.3)% for the same periods in the prior year. The decrease in the provision for income taxes for the three months ended September 30, 2022 as compared to the same period in the prior year was primarily due to an increase in the research and development tax credit, while the increase in the provision for income taxes for the nine months ended September 30, 2022 as compared to the same period in the prior year was primarily due to decreased tax windfall benefits from employee stock-based payment transactions. Segment Information We have two reportable segm ents: Alarm.com and Other. Our Alarm.com segment represents our cloud-based and Software platforms for the intelligently connected property and related solutions that c ontributed 94% of our revenue, net of intersegment eliminations, for each of the three and nine months ended September 30, 2022, as compared to 94% and 95% for the same periods in the prior year. Our Other segment is focused on researching, developing and offering residential and commercial automation solutions and energy management products and services in adjacent markets. The consolidated subsidiaries that make up our Other segment are in the investment stage and have incurred significant operating expenses relative to their revenue. Our Alarm.com segment increased from 1,353 employees as of September 30, 2021 to 1,540 employees as of September 30, 2022 and increased from 1,447 employees as of June 30, 2022 . Our Other segment increased from 129 employees as of September 30, 2021 to 159 employees as of September 30, 2022, which was consistent with the number of employees as of June 30, 2022 . Inter-segment revenue includes sales of hardware between our segments. 46 The following table presents our revenue, inter-segment revenue and operating expenses by segment (in thousands): Three Months Ended September 30, 2022 2021 SaaS and license revenue Hardware and other revenue Operating expenses SaaS and license revenue Hardware and other revenue Operating expenses Alarm.com $ 122,555 $ 82,300 $ 102,315 $ 109,170 $ 73,310 $ 85,606 Other 10,571 1,876 12,041 8,889 2,445 7,370 Intersegment Alarm.com — (1,059) (120) — (847) (120) Intersegment Other — (105) — — (643) — Total $ 133,126 $ 83,012 $ 114,236 $ 118,059 $ 74,265 $ 92,856 Nine Months Ended September 30, 2022 2021 SaaS and license revenue Hardware and other revenue Operating expenses SaaS and license revenue Hardware and other revenue Operating expenses Alarm.com $ 357,031 $ 245,679 $ 301,049 $ 315,329 $ 212,194 $ 257,070 Other 28,795 6,834 34,157 23,299 7,368 22,580 Intersegment Alarm.com — (3,302) (360) — (2,531) (296) Intersegment Other — (617) — — (1,980) — Total $ 385,826 $ 248,594 $ 334,846 $ 338,628 $ 215,051 $ 279,354 Our SaaS and license revenue for the Alarm.com segment included software license revenue of $6.5 million and $20.5 million for the three and nine months ended September 30, 2022, respectively, as compared to $7.9 million and $24.9 million for the same periods in the prior year. There was no software license revenue recorded for the Other segment during the three and nine months ended September 30, 2022 and 2021. Critical Accounting Estimates Our management’s discussion and analysis of our financial condition and results of operations is based on our condensed consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these condensed consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenue, costs and expenses during the reported period. In accordance with GAAP, we base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. Because of the use of estimates inherent in the financial reporting process in light of the continuing uncertainty arising from the COVID-19 pandemic, actual results could differ from those estimates and any such differences may be material. To the extent that there are differences between our estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows will be affected. Except as disclosed in Note 2 of our notes to the condensed consolidated financial statements and as disclosed below, there were no other material changes to our use of estimates or other critical accounting policies from those disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021 filed with the SEC on February 24, 2022. Convertible Senior Notes We adopted ASU 2020-06 on January 1, 2022, using the modified retrospective approach. Prior to the adoption of this standard, the 2026 Notes were separated into liability and equity components. Upon adoption of ASU 2020-06, we recombined the liability and equity components of the 2026 Notes assuming that the instrument was accounted for as only a liability from inception to the date of adoption. We also recombined the liability and equity components of the debt issuance costs. The issuance costs are presented as a deduction from the outstanding principal balance of the 2026 Notes and are amortized to interest expense using the effective interest method over the contractual term of the 2026 Notes. We also removed the temporary difference between the book and tax treatment of the debt discount and adjusted the temporary difference between the book and tax treatment of the debt issuance costs of the 2026 Notes. We no longer consider estimates related to the 2026 Notes to be a critical accounting policy due to the adoption of ASU 2020-06 as this guidance removed any significant judgements involved with the initial accounting assessment of the 2026 Notes. 47 Stock-Based Compensation We compensate our executive officers, board of directors, employees and consultants with stock-based compensation plans under our 2015 Equity Incentive Plan. We record stock-based compensation expense related to time-based restricted stock units based upon the award’s grant date fair value and use an accelerated attribution method, net of actual forfeitures, in which compensation cost for each vesting tranche in an award is recognized ratably from the service inception date to the vesting date for that tranche. We record stock-based compensation expense related to performance-based restricted stock units based on management’s determination of the probable outcome of the performance conditions, which requires considerable judgment. We estimate the fair value of each option granted on the date of the grant using the Black-Scholes option-pricing model, which contains uncertainties and requires us to estimate the risk-free interest rate, expected term, expected stock price volatility and dividend yield. In prior years, we used the "simplified method" to calculate the expected term, which was presumed to be the mid-point between the vesting date and the end of the contractual term. Beginning upon the first grant of options in 2022, the expected term for options granted is estimated using our historical experience, including information related to options we have granted. Business Combinations We are required to allocate the purchase price of acquired companies to the identifiable tangible and intangible assets acquired and liabilities assumed at the acquisition date based upon their estimated fair values. This valuation contains uncertainties and requires management to apply significant judgment in estimating the fair value of long-lived and intangible assets acquired, which involves the use of significant estimates and assumptions. Significant estimates and assumptions in valuing intangible assets include estimates about future expected cash flows, discount rates and obsolescence factors related to acquired developed technology. We did not make any material changes to the underlying assumptions used as of the acquisition date to calculate the purchase price of the acquisition of Noonlight during the three months ended September 30, 2022. We do not expect any material changes in the near term to the underlying assumptions used to calculate purchase price of the acquisition of Noonlight during the three months ended September 30, 2022. However, if changes in these assumptions occur, and, should those changes be significant, they could have a material impact on our purchase price allocation for the acquisition of Noonlight. Recent Accounting Pronouncements See Note 2 of our condensed consolidated financial statements for information related to recently issued accounting standards. Liquidity and Capital Resources Working Capital The following table summarizes our cash and cash equivalents, accounts receivable, net and working capital, for the periods indicated (in thousands): September 30, 2022 December 31, 2021 Cash and cash equivalents $ 621,347 $ 710,621 Accounts receivable, net 118,833 105,548 Working capital 728,856 788,281 We define working capital as current assets minus current liabilities. Our cash and cash equivalents as of September 30, 2022 are available for working capital purposes. We do not enter into investments for trading purposes, and our investment policy is to invest any excess cash in short term, highly liquid investments that limit the risk of principal loss; therefore, our cash and cash equivalents as of September 30, 2022 are held in demand deposit accounts that generate very low returns. Liquidity and Capital Resources As of September 30, 2022, we had $621.3 million in cash and cash equivalents. We consider all highly liquid instruments purchased with an original maturity from the date of purchase of three months or less to be cash equivalents. To date, we have principally financed our operations through cash generated by operating activities and through private and public equity and debt financings. 48 In February 2022, we entered into a purchase and sale agreement to purchase developable land consisting of 2.4 acres in close proximity to our headquarters in Tysons, Virginia, which was non-binding pending our completion of due diligence. Upon executing the purchase and sale agreement, we paid a deposit of $0.3 million during the three months ended March 31, 2022. Upon completion of due diligence in April 2022, we paid an additional deposit of $0.1 million in order to close the land purchase and paid the remaining $21.4 million during the second quarter of 2022 for the land purchase. In June 2022, we entered into a convertible promissory note with a technology partner, under which we agreed to loan the technology partner $1.5 million. Interest on the outstanding principal accrues at a rate per annum equal to 6.5%, starting one year from the effective date of the loan. Interest and principal payments are due on the maturity date of the loan, which is June 27, 2029, unless the loan is converted prior to the maturity date, which may occur upon a qualified financing event, as defined in the convertible promissory note, upon a sale of the technology partner or upon our election on the maturity date of the loan. On September 23, 2022, Alarm.com Incorporated acquired 85% of the issued and outstanding shares of capital stock of Noonlight. In consideration for the purchase of 85% of the issued and outstanding shares of capital stock of Noonlight, we paid $31.9 million in cash on September 23, 2022, after deducting $1.5 million related to the settlement of an outstanding loan issued to Noonlight during May of 2022 and $4.9 million related to agreed holdback provisions. Pursuant to the terms of the stock purchase agreement, following the preliminary determination of the working capital of Noonlight as of the closing date, the purchase price decreased by $0.2 million. The working capital adjustment is expected to be finalized by the first quarter of 2023 and $0.1 million of the holdback is expected to be paid to the stockholders of Noonlight at that time. The remaining amount of the holdback of $4.6 million is expected to be paid to the stockholders of Noonlight by the end of the first quarter of 2024, subject to off set for any indemnification obligations. On October 27, 2022, we filed a demand for arbitration of a dispute arising under the Patent Cross License agreement between Alarm.com and Vivint executed in November 2013. Vivint notified us it will stop paying license fees to Alarm.com under the agreement. Vivint has paid the required license fees to Alarm.com since the agreement was executed in November 2013. Alarm.com disputes Vivint's refusal of payment and is seeking continued payments of license fees in the arbitration, as well as interest and declaratory relief. As a result of Vivint’s refusal to pay license fees under the agreement, beginning with the fourth quarter of 2022, we believe that quarterly cash flows from operating activities will be impacted by approximately $6.0 million, plus additional legal fees. Beginning in 2022, the Tax Cuts and Jobs Act of 2017, or TCJA, eliminated the option to immediately deduct research and development expenditures in the year incurred pursuant to Internal Revenue Code Section 174, or Section 174. As currently in effect, Section 174 requires taxpayers to capitalize and amortize these expenditures over five years for research performed in the U.S. and over 15 years for research performed outside the U.S. While there are ongoing discussions that Congress may defer, modify or repeal this provision, potentially with retroactive effect, we have no assurance that this provision will be deferred, modified or repealed. If this provision is not deferred, modified or repealed with retroactive effect to January 1, 2022, we estimate it would significantly increase our cash taxes payable and reduce our cash flow from operating activities in 2022 in the estimated range of $35.0 million to $45.0 million. This estimate is based on the limited information that is currently available and is subject to change. We do not expect the amended provision under Section 174 to impact our tax rate, our results of operations or our Adjusted EBITDA. The actual impact on 2022 cash flow from operating activities will depend on whether and when we make an associated tax payment and if this provision is deferred, modified or repealed by Congress, including if retroactively, and the amount of research and development expenses paid or incurred in 2022, among other factors. While the largest impact will be to cash flow from operating activities, the impact would continue over the five-year amortization period, but would decrease over that period and is expected to be immaterial beginning in year six. We believe our existing cash and cash equivalents and our future cash flows from operating activities will be sufficient to meet our anticipated operating cash needs for at least the next 12 months. Over the final three months of fiscal year 2022, we expect our capital expenditures to be between $1.0 million and $3.0 million, primarily related to the continued build out of our leased and owned office space as well as the purchases of computer software and equipment. Maturities of lease liabilities for our various office, data center and equipment leases are as follows: $3.3 million for the remainder of 2022, $13.3 million in 2023, $12.1 million in 2024, $9.8 million in 2025, $5.5 million in 2026 and $1.1 million in 2027 and thereafter. Our future working capital, capital expenditure and cash requirements will depend on many factors, including the impact of Macroeconomic Conditions and inflation, on the economy and our operations, the rate of our revenue growth, the amount and timing of our investments in human resources and capital equipment, future acquisitions and investments, and the timing and extent of our introduction of new solutions and platform and solution enhancements. As the impact of Macroeconomic Conditions and inflation, on the economy and our operations evolves, we will continue to assess our liquidity needs. To the extent our cash and cash equivalents and cash flows from operating activities are insufficient to fund our future activities, we may need to borrow additional funds or raise funds from public or private equity or debt financings. If we raise additional funds through the incurrence of indebtedness, such indebtedness would likely have rights that are senior to holders of our equity securities and could contain covenants that restrict our operations. Any additional equity financing would be dilutive to our current stockholders. 49 Material Cash Requirements As of September 30, 2022, there were no material changes in our cash requirements from those disclosed in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report. Convertible Senior Notes On January 20, 2021, we issued $500.0 million aggregate principal amount of 0% convertible senior notes due January 15, 2026 in a private placement to qualified institutional buyers, or the 2026 Notes. The terms of the 2026 Notes are governed by an Indenture, or the Indenture, by and between Alarm.com Holdings, Inc. and U.S. Bank National Association, as trustee. The 2026 Notes are senior unsecured obligations that do not bear regular interest and the principal amount of the 2026 Notes will not accrete. The 2026 Notes may bear special interest under specified circumstances related to our failure to comply with our reporting obligations under the Indenture. Special interest, if any, will be payable semiannually in arrears on January 15 and July 15 of each year, beginning on July 15, 2021. We received proceeds from the issuance of the 2026 Notes of $484.3 million, net of $15.7 million of transaction fees and other debt issuance costs. We may not redeem the 2026 Notes prior to January 20, 2024. We may redeem for cash, all or any portion of the 2026 Notes, at our option, on or after January 20, 2024, at a redemption price equal to 100% of the principal amount of the 2026 Notes to be redeemed, plus accrued and unpaid special interest, if any, to, but excluding, the redemption date, if the last reported sale price of our common stock has been at least 130% of the conversion price for the 2026 Notes then in effect for at least 20 trading days (whether or not consecutive) during any 30 consecutive trading day period (including the last trading day of such period) ending on, and including, the trading day immediately preceding the date on which we provide notice of redemption. No sinking fund is provided for the 2026 Notes. The 2026 Notes will be convertible at the option of the holders at any time prior to the close of business on the business day immediately preceding August 15, 2025, only under the following circumstances: (1) during any calendar quarter commencing after the calendar quarter ending on June 30, 2021 (and only during such calendar quarter), if the last reported sale price of our common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price for the 2026 Notes on each applicable trading day; (2) during the five business day period immediately after any ten consecutive trading day period in which, for each trading day of that period, the trading price per $1,000 principal amount of 2026 Notes for such trading day was less than 98% of the product of the last reported sale price of our common stock and the conversion rate for the 2026 Notes on each such trading day; (3) if we call any or all of the 2026 Notes for redemption, at any time prior to the close of business on the scheduled trading day immediately preceding the redemption date, but only with respect to the 2026 Notes called (or deemed called) for redemption; or (4) upon the occurrence of specified corporate events as set forth in the Indenture. On or after August 15, 2025, until the close of business on the second scheduled trading day immediately preceding the maturity date of the 2026 Notes, holders of the 2026 Notes may convert all or any portion of their 2026 Notes at any time, regardless of the foregoing conditions. Upon conversion, we may satisfy our conversion obligation by paying or delivering, as the case may be, cash, shares of our common stock or a combination of cash and shares of our common stock, at our election. It is our current intent to settle the principal amount of the 2026 Notes with cash. The initial conversion rate for the 2026 Notes is 6.7939 shares of our common stock per $1,000 principal amount of 2026 Notes, which is equivalent to an initial conversion price of $147.19 per share of our common stock, subject to adjustment under certain circumstances in accordance with the terms of the Indenture. In addition, following certain corporate events that occur prior to the maturity date of the 2026 Notes or if we deliver a notice of redemption in respect of the 2026 Notes, we will, under certain circumstances, increase the conversion rate of the 2026 Notes for a holder who elects to convert its 2026 Notes (or any portion thereof) in connection with such a corporate event or convert its 2026 Notes called (or deemed called) for redemption during the related redemption period (as defined in the Indenture), as the case may be. If we undergo a fundamental change (as defined in the Indenture), subject to certain exceptions and except as described in the Indenture, holders may require us to repurchase for cash all or any portion of their 2026 Notes at a fundamental change repurchase price equal to 100% of the principal amount of the 2026 Notes to be repurchased, plus accrued and unpaid special interest, if any, to, but excluding, the fundamental change repurchase date. The Indenture includes customary covenants and sets forth certain events of default after which the 2026 Notes may be declared immediately due and payable and sets forth certain types of bankruptcy or insolvency events of default involving us after which the 2026 Notes become automatically due and payable. We used some of the proceeds to repay the $110.0 million outstanding principal balance under our credit facility and also used some of the proceeds to pay accrued interest, fees and expenses related to our credit facility (see the section titled "2017 Facility" below. We are using the remaining net proceeds from the issuance of the 2026 Notes for working capital and other general corporate purposes, which may include acquisitions or strategic investments in complementary businesses or technologies. 50 2017 Facility On October 6, 2017, we entered into a $125.0 million senior secured revolving credit facility, or the 2017 Facility, with Silicon Valley Bank, or SVB, as administrative agent, PNC Bank, National Association, as documentation agent, and a syndicate of lenders. Upon entry into the 2017 Facility, we borrowed $72.0 million, which was used to repay the previously outstanding balance under our previous credit facility. The 2017 Facility was set to mature in October 2022 and included an option to further increase the borrowing capacity to $175.0 million with the consent of the lenders. Costs incurred in connection with the 2017 Facility were capitalized and were being amortized as interest expense over the term of the 2017 Facility. The 2017 Facility was secured by substantially all of our assets, including our intellectual property. On March 25, 2020, we borrowed $50.0 million under the 2017 Facility as a precautionary measure in order to provide financial flexibility in light of current uncertainty in the financial markets resulting from the COVID-19 pandemic. On January 20, 2021, we repaid the entire outstanding principal balance of $110.0 million of the 2017 Facility with proceeds from the 2026 Notes and the 2017 Facility was terminated. We recognized an extinguishment loss of $0.2 million in other (expense) / income, net in our condensed consolidated statements of operations during the nine months ended September 30, 2021 for previously capitalized debt issuance costs related to the 2017 Facility that were unamortized at the time of the termination of the 2017 Facility. The outstanding principal balance on the 2017 Facility accrued interest at a rate equal to, at our option, either (1) LIBOR, plus an applicable margin based on our consolidated leverage ratio, or (2) the highest of (a) the Wall Street Journal prime rate, (b) the Federal Funds rate plus 0.50%, or (c) LIBOR plus 1.00% plus an applicable margin based on our consolidated leverage ratio. During 2021 until the termination of the 2017 Facility on January 20, 2021, we elected for the outstanding principal balance to accrue interest at LIBOR plus 1.50%, LIBOR plus 1.75%, LIBOR plus 2.00%, and LIBOR plus 2.50% when our consolidated leverage ratio is less than 1.00:1.00, greater than or equal to 1.00:1.00 but less than 2.00:1.00, greater than or equal to 2.00:1.00 but less than 3.00:1.00 and greater than or equal to 3.00:1.00, respectively. The 2017 Facility also carried an unused line commitment fee of 0.20%. The carrying value of the 2017 Facility was zero as of September 30, 2022 and December 31, 2021. Sources of Liquidity The 2017 Facility was a revolving credit facility with SVB as administrative agent, and a syndicate of lenders to finance working capital and certain permitted acquisitions and investments. The 2017 Facility was available to us to refinance existing debt and for general corporate and working capital purposes including acquisitions, and prior to its termination on January 20, 2021, had a borrowing capacity of $125.0 million. We had the option to increase the borrowing capacity of the 2017 Facility to $175.0 million with the consent of the lenders. On January 20, 2021, we repaid the entire outstanding balance of $110.0 million of the 2017 Facility with proceeds from the 2026 Notes and the 2017 Facility was terminated. The 2017 Facility is discussed in more detail above under “2017 Facility.” On January 20, 2021, we issued $500.0 million aggregate principal amount of 0% convertible senior notes due January 15, 2026 in a private placement to qualified institutional buyers and received proceeds of $484.3 million, net of $15.7 million of transaction fees and other debt issuance costs. The 2026 Notes are discussed in more detail above under “Convertible Senior Notes.” Dividends We did not declare or pay dividends during the three and nine months ended September 30, 2022 or 2021. We cannot provide any assurance that we will declare or pay cash dividends on our common stock in the future. We currently anticipate that we will retain all of our future earnings, if any, for use in the operation and expansion of our business and we do not anticipate paying cash dividends in the foreseeable future. Payment of future cash dividends, if any, will be at the discretion of the board of directors after taking into account various factors, including our financial condition, operating results, current and anticipated cash needs, the requirements of current or then-existing debt instruments and other factors the board of directors deems relevant. Stock Repurchase Program On December 3, 2020, our board of directors authorized a stock repurchase program, under which we are authorized to purchase up to an aggregate of $100.0 million of our outstanding common stock during the three-year period ending December 3, 2023. During the three and nine months ended September 30, 2022, we repurchased 5,595 and 840,249 shares of our common stock under this program for $0.4 million and $51.9 million, respectively, which includes applicable commissions and fees. No shares of our common stock were repurchased under this program during the three and nine months ended September 30, 2021. 51 Historical Cash Flows The following table sets forth our cash flows for the periods indicated (in thousands): Nine Months Ended September 30, 2022 2021 Cash flows from operating activities $ 22,455 $ 83,194 Cash flows used in investing activities (62,625) (13,897) Cash flows (used in) / from financing activities (48,475) 377,551 Operating Activities Cash flows from operating activities have typically been generated from our net income and by changes in our operating assets and liabilities, particularly from accounts receivable and inventory, adjusted for non-cash expense items such as amortization and depreciation, deferred income taxes and stock-based compensation. For the nine months ended September 30, 2022, cash flows from operating activities were $22.5 million, compared to $83.2 million for the same period in the prior year. This $60.7 million decrease in cash flows from operating activities was due to a $30.5 million decrease in non-cash and other reconciling items, a $25.7 million decrease in cash from operating assets and liabilities and a $4.5 million decrease in net income. The $30.5 million decrease in non-cash and other reconciling items was primarily due to a $36.6 million change in deferred income taxes, which was driven by an increase in estimated taxable income pursuant to the capitalization requirements under Section 174 of the Internal Revenue Code during the nine months ended September 30, 2022, as compared to the same period in the prior year. The decrease in non-cash and other reconciling items during the nine months ended September 30, 2022 as compared to the same period in the prior year was also due to a $9.2 million decrease in amortization of the debt discount related to the adoption of ASU 2020-06 for the 2026 Notes. These decreases in non-cash and other reconciling items were partially offset by a $10.7 million increase in stock-based compensation resulting from additional grants of restricted stock units during the nine months ended September 30, 2022 as well as an increase in the changes to the provision for credit losses and reserve for product returns of $3.9 million during the nine months ended September 30, 2022 as compared to the same period in the prior year. The $25.7 million decrease in cash from operating assets and liabilities was primarily due to a $24.4 million change in inventory resulting from an increase in purchased inventory as we seek to reduce risks and uncertainties in our supply chain as well as differences in the timing of disbursements and the collection of receipts during the nine months ended September 30, 2022 as compared to the same period in the prior year. Investing Activities Our investing activities typically include acquisitions, capital expenditures, investments in unconsolidated entities, notes receivable issued to companies with offerings complementary to ours and proceeds from the repayment of those notes receivable. Our capital expenditures have primarily been for general business use, including leasehold improvements as we have expanded our office space to accommodate our growth in headcount, computer equipment used internally and expansion of our network operations centers. For the nine months ended September 30, 2022, our cash flows used in investing activities was $62.6 million, as compared to $13.9 million for the same period in the prior year. The $48.7 million increase in cash flows used in investing activities was primarily due to the $31.9 million paid to purchase 85% of the issued and outstanding shares of capital stock of Noonlight and the $21.8 million paid for developable land during the nine months ended September 30, 2022, which did not occur during the nine months ended September 30, 2021. The increase in cash flows used in investing activities was partially offset by the $5.0 million used to purchase 1,000,000 shares of Series B-2 Preferred Stock from one of our technology partners during the nine months ended September 30, 2021, which did not occur during the nine months ended September 30, 2022. Financing Activities Cash generated by financing activities includes proceeds from the 2026 Notes and proceeds from the issuance of common stock from employee stock option exercises and from our employee stock purchase plan. Cash used in financing activities typically includes repurchases of common stock and repayments of debt. For the nine months ended September 30, 2022, cash flows used in financing activities was $48.5 million, compared to cash flows from financing activities of $377.6 million for the same period in the prior year. The $426.0 million decrease in cash flows from financing activities was primarily due to $484.3 million in proceeds from the issuance of the 2026 Notes, net of issuance costs paid during the nine months ended September 30, 2021 that did not occur during nine months ended September 30, 2022. The decrease in cash flows from financing activities was also due to the repurchase of 840,249 shares of our common stock for $51.9 million during the nine months ended September 30, 2022 that did not occur during the same period in the prior year. 52 These decreases in cash flows from financing activities were partially offset by the repayment of $110.0 million to terminate the 2017 Facility during the nine months ended September 30, 2021 that did not occur during nine months ended September 30, 2022. Non-GAAP Measures We define Adjusted EBITDA as our net income before interest expense, interest income, certain activity within other (expense) / income, net, provision for / (benefit from) income taxes, amortization and depreciation expense, stock-based compensation expense, acquisition-related expense and legal costs and settlement fees incurred in connection with non-ordinary course litigation and other disputes, particularly costs involved in ongoing intellectual property litigation. We do not consider these items to be indicative of our core operating performance. The non-cash items include amortization and depreciation expense, amortization of debt discount and debt issuance costs for the 2026 Notes included in interest expense, stock-based compensation expense related to restricted stock units and other forms of equity compensation, including, but not limited to, the sale of common stock. We do not adjust for ordinary course legal expenses resulting from maintaining and enforcing our intellectual property portfolio and license agreements. Adjusted EBITDA is not a measure calculated in accordance with GAAP. See the table below for a reconciliation of Adjusted EBITDA to net income, the most directly comparable financial measure calculated and presented in accordance with GAAP. We have included Adjusted EBITDA in this report because it is a key measure that our management uses to understand and evaluate our core operating performance and trends, to generate future operating plans, to make strategic decisions regarding the allocation of capital and to make investments in initiatives that are focused on cultivating new markets for our solutions. We also use Adjusted EBITDA, a non-GAAP financial measure, as a performance measure under our executive bonus plan. Further, we believe the exclusion of certain expenses in calculating Adjusted EBITDA facilitates comparisons of our operating performance on a period-to-period basis and, in the case of exclusion of acquisition-related expense and certain historical legal expenses, excludes items that we do not consider to be indicative of our core operating performance. Accordingly, we believe that Adjusted EBITDA provides useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and board of directors. Our use of Adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our financial results as reported under GAAP. Some of these limitations are: (a) although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and Adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements; (b) Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs; (c) Adjusted EBITDA does not reflect the potentially dilutive impact of equity-based compensation; (d) Adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us; and (e) other companies, including companies in our industry, may calculate Adjusted EBITDA or similarly titled measures differently, which reduces its usefulness as a comparative measure. Because of these and other limitations, you should consider Adjusted EBITDA alongside our other GAAP-based financial performance measures, net income and our other GAAP financial results. The following table presents a reconciliation of Adjusted EBITDA to net income, the most directly comparable GAAP measure, for each of the periods indicated (in thousands): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Adjusted EBITDA: Net income $ 18,110 $ 13,294 $ 37,841 $ 42,334 Adjustments: Interest expense, interest income and certain activity within other (expense) / income, net (2,116) 4,003 (1,859) 11,342 Provision for / (benefit from) income taxes 246 1,787 472 (2,864) Amortization and depreciation expense 7,587 7,467 23,123 22,329 Stock-based compensation expense 13,154 9,418 38,053 27,362 Acquisition-related expense 728 — 728 29 Litigation expense 3,131 1,609 9,536 10,658 Total adjustments 22,730 24,284 70,053 68,856 Adjusted EBITDA $ 40,840 $ 37,578 $ 107,894 $ 111,190 53