APPIAN CORP 10-Q

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with (1) our consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q 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 year ended December 31, 2023 included in our Annual Report on Form 10-K, filed with the Securities and Exchange Commission, or SEC, on February 15, 2024. This Quarterly Report on Form 10-Q 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,” “plan,” “project,” “will,” “would,” or the negative or plural of these words or similar expressions or variations, including statements regarding our future financial and operating performance, anticipated expansion of the usage of partners to perform professional services, the increase of our subscriptions revenue as a percentage of total revenue, the fluctuation of gross margin on a quarterly basis, our future capital requirements, and our ability to meet our financial covenants under our Credit Agreement. Such 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 herein and those discussed in the section titled “Risk Factors,” set forth in Part I, Item 1A of our Annual Report on Form 10-K filed with the SEC on February 15, 2024 and in our other filings with the SEC. Forward-looking statements should not be relied on 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 Appian is a software company that orchestrates business processes. The Appian Platform empowers leaders to design, automate, and optimize important processes from start to finish. With our industry-leading platform and commitment to customer success, Appian is trusted by top organizations to drive transformational process change. We have generated the majority of our revenue from sales of subscriptions, which include (1) cloud subscriptions bundled with maintenance and support and hosting services and (2) term license subscriptions bundled with maintenance and support. Our subscription contracts are priced based primarily on the number of users who access and utilize the applications built on our platform or, alternatively, non-user-based single application licenses. Our subscription contract terms generally vary from one to three years with most providing for payment in advance on an annual, quarterly, or monthly basis. Due to the variability of our billing terms and the episodic nature of our customers purchasing additional subscriptions, we do not believe changes in our deferred revenue in a given period are directly correlated with our revenue growth. We have invested in our Customer Success organization to help ensure customers are able to build and deploy applications on our platform. We have several strategic partnerships, including with Accenture, Capgemini, Deloitte, EY, KPMG, PwC, and TCS, which allow them to refer customers to us in order to purchase subscriptions. Our partners then provide professional services directly to the customers using our platform. We intend to continue focusing on adding new customers with our strategic partners. In addition, over time we expect our professional services revenue as a percentage of total revenue to decline as we increasingly rely on strategic partners to help our customers deploy our software. We believe our investment in professional services, including strategic partners building their practices around Appian, will drive increased adoption of our platform. Our customers primarily include financial services, government, life sciences, insurance, manufacturing, energy, healthcare, telecommunications, and transportation organizations. Generally, our sales team targets its efforts to organizations with over 2,000 employees and $2 billion in annual revenue. Revenue from U.S. federal government 27 agencies represented 23.2% and 22.5% of our total revenue for the three and nine months ended September 30, 2024, respectively. Revenue from U.S. federal government agencies represented 21.1% and 20.6% of our total revenue for the three and nine months ended September 30, 2023, respectively. No single end-customer accounted for more than 10% of our total revenue in the three and nine months ended September 30, 2024 or 2023. We offer our platform globally. Our platform supports multiple languages to facilitate collaboration and address challenges in multinational organizations. In the three and nine months ended September 30, 2024, 36.3% and 37.2%, respectively, of our total revenue was generated from customers outside of the United States as compared to 35.3% and 35.6% in the three and nine months ended September 30, 2023, respectively. As of September 30, 2024, we operated in 16 countries. We believe we have a significant opportunity to continue to grow our international footprint, and we are investing in new geographies, including through investment in direct and indirect sales channels, professional services, and customer support and implementation partners. Our business model focuses on maximizing the lifetime value of customer relationships, which is a function of the duration of a customer’s deployment of our platform as well as the price and number of subscriptions of our platform that a customer purchases. We incur significant customer acquisition costs, including expenses associated with hiring new sales representatives, who can take anywhere from six months to a year to become productive given the length of our sales cycle, and marketing costs which, with the exception of certain types of sales commissions, are expensed as incurred. Key Factors Affecting Our Performance The following are several key factors that affect our performance: • Market Adoption of Our Platform - Our ability to grow our customer base and drive market adoption of our platform is affected by the pace at which organizations digitally transform. We expect our revenue growth will be primarily driven by the pace of adoption and penetration of our platform. We offer a leading custom software platform and intend to continue to invest to expand our customer base. The degree to which prospective customers recognize the need for our software platform and its ability to enable their organizations to digitally transform, and subsequently allocate budget dollars to purchase our software, will drive our ability to acquire new customers and increase sales to existing customers, which, in turn, will affect our future financial performance. • Growth of Our Customer Base - We believe we have a substantial opportunity to grow our customer base. We have aggressively invested, and intend to continue to invest, in our sales team in order to drive sales to new customers. We continue to make investments to enhance the expertise of our sales and marketing organization within our key industry verticals of financial services, government, life sciences, insurance, and manufacturing. In addition, we have established relationships with strategic partners who work with organizations undergoing digital transformations. Our ability to continue to grow our customer base is dependent, in part, upon our ability to differentiate ourselves within the increasingly competitive markets in which we participate. • Further Penetration of Existing Customers - Our sales team seeks to generate additional revenue from existing customers by adding new users to our platform. Many of our customers begin by building a single application and then grow to build dozens of applications on our platform. Generally, the development of new applications on our platform results in the expansion of our user base within an organization and a corresponding increase in revenue. As a result of this “land and expand” strategy, we have generated significant additional revenue from our customer base. Our ability to increase sales to existing customers will depend on a number of factors, including the size of our sales and professional services teams, customers’ level of satisfaction with our platform and professional services, pricing, economic conditions, and our customers’ overall spending levels. Some of our professional services personnel are customer success managers. Their role is to ensure customers realize value from our platform and support strategic partners and the “land and expand” strategy versus delivering billable hours. 28 • Mix of Subscriptions and Professional Services Revenue - We believe our professional services have driven customer success and facilitated the adoption of our platform by customers. During the initial period of deployment of our platform by a customer, we generally provide a greater amount of support in building applications and training than later in the deployment, with a typical engagement lasting from two to six months. At the same time, many of our customers have historically purchased subscriptions for only a limited set of their total potential end users. As a result of these factors, the proportion of total revenue for a customer associated with professional services is relatively high during the initial deployment period. Over time, as the need for professional services associated with user deployments decreases and the number of end users increases, we expect subscriptions revenue as a percentage of total revenue to increase. In addition, we continue to grow our base of strategic partners to provide broader customer coverage and solution delivery capabilities. These partners perform professional services with respect to any new service contracts they originate. As the usage of strategic partners expands, we expect the proportion of our total revenue from subscriptions to increase over time relative to professional services. For the three months ended September 30, 2024 and 2023, 79.9% and 75.7% of our revenue, respectively, was derived from sales of subscriptions while the remaining 20.1% and 24.3%, respectively, was derived from the sale of professional services. For the nine months ended September 30, 2024 and 2023, 78.6% and 74.1% of our revenue, respectively, was subscriptions-based while the remaining 21.4% and 25.9%, respectively, was related to professional services. • Investments in Growth - We have made, and plan to continue to make, investments for long-term growth, including investing in our platform and infrastructure to continuously maximize their power and speed, meet the evolving needs of our customers, and take advantage of our market opportunity. In addition, we may pursue strategic acquisitions that enhance our product offerings. We also intend to continue to invest in sales and marketing as we further expand our sales teams, increase our marketing activities, and grow our international operations. Key Metrics We monitor the following metrics to help us measure and evaluate the effectiveness of our operations. All dollar amounts are presented in thousands. Cloud Subscriptions Revenue Three Months Ended September 30, Nine Months Ended September 30, 2024 2023 % Change 2024 2023 % Change Cloud subscriptions revenue $ 94,075 $ 77,247 21.8 % $ 269,106 $ 221,381 21.6 % Cloud subscriptions revenue includes cloud subscriptions bundled with maintenance and support and hosting services. Our cloud subscriptions revenue for any customer is primarily determined by the number of users who access and utilize the applications built on our platform or by the number of application licenses purchased, as well as the price paid. We believe increasing cloud subscriptions revenue is an indicator of the demand for our platform, the pace at which the market for our solutions is growing, the productivity of our sales team and strategic relationships in growing our customer base, and our ability to further penetrate our existing customer base. Cloud Subscriptions Revenue Retention Rate As of September 30, 2024 2023 Cloud subscriptions revenue retention rate 117 % 117 % A key factor to our success is the renewal and expansion of subscription agreements with our existing customers. We calculate this metric over a set of customers who have been with us for at least one full year. To calculate our cloud subscriptions revenue retention rate for a particular trailing 12-month period, we first establish the recurring cloud subscriptions revenue for the previous trailing 12-month period. This effectively represents 29 recurring dollars we should expect in the current trailing 12-month period from the cohort of customers from the previous trailing 12-month period without accounting for any expansion or contraction. We subsequently measure the recurring cloud subscriptions revenue in the current trailing 12-month period from the cohort of customers from the previous trailing 12-month period. Cloud subscriptions revenue retention rate is then calculated by dividing the aggregate recurring cloud subscriptions revenue in the current trailing 12-month period by the previous trailing 12-month period. This calculation includes the combined impact on our revenue from customer non-renewals, pricing changes, and growth in the number of users on our platform. Our cloud subscriptions revenue retention rate can fluctuate from period to period due to large customer contracts in any given period. Key Components of Results of Operations Revenue We generate revenue primarily through sales of subscriptions to our platform as well as professional services. We typically sell our software on a per-user basis or through non-user-based single application licenses. We generally bill customers and collect payment for subscriptions to our platform in advance on an annual, quarterly, or monthly basis. In certain instances, we have had customers pay their entire contract value up front. Our revenue is comprised of the following: Subscriptions Subscriptions revenue is primarily derived from cloud subscriptions bundled with maintenance and support and hosting services and on-premises term license subscriptions bundled with maintenance and support. Our maintenance and support agreements provide customers with the right to unspecified software upgrades, maintenance releases and patches released during the term of the maintenance and support agreement on a when-and-if-available basis, and rights to technical support. On-premises term license subscriptions are offered when the customer prefers to self-manage the deployment of our platform within their own infrastructure. When our platform is delivered as a cloud subscription, we manage operational needs in third-party hosted data centers. Professional Services Our professional services revenue is comprised of fees for consulting services, including application development, deployment assistance, and training related to our platform. Over time, we expect professional services revenue as a percentage of total revenue to decrease as the usage of our partner network expands. Cost of Revenue Subscriptions Cost of subscriptions revenue consists primarily of fees paid to our third-party managed hosting providers and other third-party service providers, personnel costs, including payroll and benefits for our technology operations and customer support teams, amortization of acquired technology, and allocated overhead costs. We expect cost of revenue to continue to increase in absolute dollars for the foreseeable future as our customer base grows. Professional Services Cost of professional services revenue includes all direct and indirect costs to deliver our professional services and training, including employee compensation for our global professional services and training personnel, third-party contractor costs, allocated overhead costs, and the costs of billable expenses such as travel and lodging. The unpredictability of the timing of providing services related to significant professional services agreements sold on a standalone basis may cause significant fluctuations in our cost of professional services which, in turn, may impact our quarterly financial results. 30 Gross Profit and Gross Margin Gross profit and gross margin (defined as gross profit as a percentage of total revenue), have been, and will continue to be, affected by various factors, including the mix of cloud subscriptions and on-premises term license subscriptions, the mix of total subscriptions revenue and professional services revenue, subscription pricing, the costs associated with third-party hosting providers, and the extent to which we expand or reduce our professional services to support future changes in our growth. Our gross margin may fluctuate from period to period based on the above factors. Subscriptions Gross Margin Subscriptions gross margin is primarily affected by the growth in our subscriptions revenue as compared to the growth in, and timing of, costs to support such revenue. We expect to continue to invest in customer support and cloud operations to support growth in our business, and the timing of those investments is expected to cause subscriptions gross margin to fluctuate on a quarterly basis. Professional Services Gross Margin Professional services gross margin is affected by the growth in our professional services revenue as compared to the growth in, and timing of, the costs of our Customer Success organization as we continue to invest in the growth of our business, as well as by consultant utilization rates. Professional services gross margin is also impacted by the amount of services performed by subcontractors and partners as opposed to internal resources. In 2024, we expect professional services gross margin to be slightly lower than in 2023; however, the margin remains subject to fluctuation based on the factors discussed above. Operating Expenses Operating expenses consist of sales and marketing, research and development, and general and administrative expenses. Personnel-related costs such as salaries, bonuses, commissions, payroll tax payments, and stock-based compensation expense are the most significant components of each of these expense categories. Other components of each category include professional fees for third-party services such as legal, software development resources, contractors, and cloud computing services. In addition, operating expenses include allocated overhead costs, which are primarily comprised of facility costs such as rent, employee medical benefits, employee relations expense, and certain information technology costs. In general, our operating expenses are expected to continue to increase in absolute dollars as we invest resources in growing our various teams although at a more measured rate than prior years. Sales and Marketing Expense Sales and marketing expense primarily includes personnel costs, including salaries, bonuses, commissions, stock-based compensation, and other personnel costs related to sales teams. Additional major expenses in this category include travel and entertainment, marketing activities and promotional events, subcontracting fees, and allocated overhead costs. In order to continue to grow our business, geographical footprint, and brand awareness, we expect to continue investing resources in sales and marketing in our principal markets and strategic growth areas. We expect sales and marketing expense to increase in absolute dollars as we continue to invest to acquire new customers and further expand usage of our platform within our existing customer base. We will continue our efforts to build on our brand reputation and increase market awareness of our platform. 31 Research and Development Expense Research and development expense consists primarily of personnel costs for our employees who develop and enhance our platform, including salaries, bonuses, stock-based compensation, and other personnel costs. Also included are non-personnel costs such as subcontracting, consulting, professional fees to third party development resources, certain information technology expenses, and allocated overhead costs. Our research and development efforts are focused on enhancing the capabilities, speed, and power of our software platform. In 2022, we opened a new product development center in India. Although we expect research and development expense to continue to increase in absolute dollars as such costs are critical to maintain and improve the quality of applications and our competitive position, we believe our product development center will result in cost savings over time. General and Administrative Expense General and administrative expense consists primarily of personnel costs, including salaries, bonuses, stock-based compensation, and other personnel costs for our administrative, legal, information technology, human resources, finance, and accounting teams as well as our senior executives. Additional expenses included in this category are non-personnel costs such as travel-related expenses, contracting and professional fees for such services as audits, taxation, and legal, insurance and other corporate expenses, including allocated overhead costs, and bad debt expenses. In 2024, we expect our general and administrative expense to increase in absolute dollars largely due to amortization expense associated with the judgment preservation insurance policy (as discussed in Note 12 to the consolidated financial statements), lease impairments (as discussed in Note 4), and investments in our information technology team. Other Non-Operating Expense Other Expense (Income), Net Other expense (income), net consists primarily of gains and losses related to changes in foreign currency exchange rates, interest income on our cash and cash equivalents and investments, and other sources of income or expense not related to our core business operations. Interest Expense Interest expense consists primarily of interest on our debt, amortization of deferred financing fees, unused credit facility fees, and commitment fees on our letters of credit. 32 Results of Operations The following table sets forth our consolidated statements of operations (in thousands): Three Months Ended September 30, Nine Months Ended September 30, 2024 2023 2024 2023 Revenue Subscriptions $ 123,121 $ 103,803 $ 353,789 $ 296,554 Professional services 30,931 33,291 96,548 103,490 Total revenue 154,052 137,094 450,337 400,044 Cost of revenue Subscriptions 14,082 11,265 39,614 32,492 Professional services 23,002 24,804 74,880 76,515 Total cost of revenue 37,084 36,069 114,494 109,007 Gross profit 116,968 101,025 335,843 291,037 Operating expenses Sales and marketing 50,865 55,667 175,613 181,338 Research and development 38,572 37,135 117,789 118,502 General and administrative 34,688 23,440 108,327 82,342 Total operating expenses 124,125 116,242 401,729 382,182 Operating loss (7,157) (15,217) (65,886) (91,145) Other non-operating (income) expense Other (income) expense, net (12,544) 1,939 (5,882) (4,637) Interest expense 6,168 4,917 17,921 12,790 Total other non-operating (income) expense (6,376) 6,856 12,039 8,153 Loss before income taxes (781) (22,073) (77,925) (99,298) Income tax expense 1,319 178 690 2,137 Net loss $ (2,100) $ (22,251) $ (78,615) $ (101,435) 33 The following table sets forth our consolidated statements of operations data expressed as a percentage of total revenue: Three Months Ended September 30, Nine Months Ended September 30, 2024 2023 2024 2023 Revenue Subscriptions 79.9 % 75.7 % 78.6 % 74.1 % Professional services 20.1 24.3 21.4 25.9 Total revenue 100.0 100.0 100.0 100.0 Cost of revenue Subscriptions 9.1 8.2 8.8 8.1 Professional services 14.9 18.1 16.6 19.1 Total cost of revenue 24.1 26.3 25.4 27.2 Gross profit 75.9 73.7 74.6 72.8 Operating expenses Sales and marketing 33.0 40.6 39.0 45.3 Research and development 25.0 27.1 26.2 29.6 General and administrative 22.5 17.1 24.1 20.6 Total operating expenses* 80.6 84.8 89.2 95.5 Operating loss (4.6) (11.1) (14.6) (22.8) Other non-operating (income) expense Other (income) expense, net (8.1) 1.4 (1.3) (1.2) Interest expense 4.0 3.6 4.0 3.2 Total other non-operating expense* (4.1) 5.0 2.7 2.0 Loss before income taxes* (0.5) (16.1) (17.3) (24.8) Income tax expense 0.9 0.1 0.2 0.5 Net loss* (1.4) % (16.2) % (17.5) % (25.4) % * Totals may not foot due to rounding. Comparison of the Three Months Ended September 30, 2024 and 2023 Revenue Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Revenue Subscriptions $ 123,121 $ 103,803 $ 19,318 18.6 % Professional services 30,931 33,291 (2,360) (7.1) Total revenue $ 154,052 $ 137,094 $ 16,958 12.4 % Total revenue increased $17.0 million, or 12.4%, in the three months ended September 30, 2024 compared to the same period in 2023 due to an increase in our subscriptions revenue of $19.3 million. This increase was partially offset by a decrease in our professional services revenue of $2.4 million. The increase in subscriptions revenue was driven by a $16.8 million increase in cloud subscription revenue, a $1.3 million increase in maintenance and support revenue, and a $1.2 million increase in on-premises subscription revenue. With respect to new versus existing customers, there was a $5.6 million increase in subscriptions revenue from sales to new customers, while the 34 remaining $13.7 million of the increase was attributable to expanded deployments, price increases on renewals, and corresponding sales of additional subscriptions to existing customers. The decrease in professional services revenue was due primarily to a $8.4 million decrease in revenue from existing customers, which was partially offset by a $6.1 million increase in sales to new customers. Cost of Revenue Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Cost of revenue Subscriptions $ 14,082 $ 11,265 $ 2,817 25.0 % Professional services 23,002 24,804 (1,802) (7.3) Total cost of revenue $ 37,084 $ 36,069 $ 1,015 2.8 % Subscriptions gross margin 88.6 % 89.1 % Professional services gross margin 25.6 % 25.5 % Total gross margin 75.9 % 73.7 % Cost of revenue increased $1.0 million, or 2.8%, in the three months ended September 30, 2024 compared to the same period in 2023, primarily due to a $2.5 million increase in hosting costs. This increase was partially offset by a $0.5 million decrease in contractor costs, a $0.3 million decrease in professional services and product support personnel costs, and a $0.1 million decrease in employee relations costs. Hosting costs increased due to an increase in sales of our cloud offering during the three months ended September 30, 2024. Contractor costs decreased due to a decrease in the usage of subcontractors for professional services engagements. Professional services and product support personnel costs decreased due to a decrease in cost of sales headcount of 9% from September 30, 2023 to September 30, 2024 as well as a $0.2 million decrease in stock compensation expense. Subscriptions gross margin decreased slightly to 88.6% for the three months ended September 30, 2024, compared to 89.1% in the same period in 2023. The decrease in subscriptions gross margin was attributable to an increase in hosting costs, which was substantially offset by an increase in subscriptions revenue during the three months ended September 30, 2024 as compared to the three months ended September 30, 2023. Professional services gross margin increased slightly to 25.6% for the three months ended September 30, 2024 compared to 25.5% in the same period in 2023 due largely to a decrease in professional services expense as described above, which was offset by a decrease in professional services revenue in the comparable period. Gross margin increased to 75.9% for the three months ended September 30, 2024 compared to 73.7% for the three months ended September 30, 2023, driven largely by the increase in subscriptions revenue. Sales and Marketing Expense Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Sales and marketing $ 50,865 $ 55,667 $ (4,802) (8.6) % % of revenue 33.0 % 40.6 % Sales and marketing expense decreased $4.8 million, or 8.6%, in the three months ended September 30, 2024 compared to the same period in 2023, primarily due to a $5.0 million decrease in sales and marketing personnel costs. This decrease was partially offset by a $0.7 million increase in marketing costs and a $0.4 million increase travel and entertainment costs. Sales and marketing personnel costs decreased due to a decrease in sales and marketing headcount of 21% from September 30, 2023 to September 30, 2024 and a $1.5 million decrease in stock 35 compensation expense. Marketing costs increased primarily due to higher spending on various marketing events and public relations. Travel and entertainment expense increased due to a higher number of in-person events and engagements relative to the prior year. Research and Development Expense Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Research and development $ 38,572 $ 37,135 $ 1,437 3.9 % % of revenue 25.0 % 27.1 % Research and development expense increased $1.4 million, or 3.9%, in the three months ended September 30, 2024 compared to the same period in 2023, primarily due to a $0.9 million increase in research and development personnel costs, a $0.4 million increase in cloud computing expense, and a $0.3 million increase in employee medical benefits. Wages, salaries, and medical benefits were all higher due to research and development personnel headcount increasing 5% from September 30, 2023 to September 30, 2024, while cloud computing expense increased due to increased spending on cloud migrations. General and Administrative Expense Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) General and administrative $ 34,688 $ 23,440 $ 11,248 48.0 % % of revenue 22.5 % 17.1 % General and administrative expense increased $11.2 million, or 48.0%, in the three months ended September 30, 2024 compared to the same period in 2023 primarily due to increases of $7.7 million in professional fees and $1.6 million in insurance expense. These increases were partially offset by a $0.9 million decrease in personnel costs. Higher professional fees were driven by an increase in legal fees incurred in the three months ended September 30, 2024 relative to the prior year along with a $5.7 million decrease in insurance reimbursements associated with our litigation against Pegasystems as a result of receiving reimbursements in the prior year compared to none in the current year. The increase in insurance expense was driven by the continued amortization of our judgment preservation insurance policy, which was entered into on September 1, 2023. Personnel costs were lower due to general and administrative personnel headcount decreasing by 6% from September 30, 2023 to September 30, 2024. Other Non-Operating (Income) Expense, Net Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Other (income) expense, net $ (12,544) $ 1,939 $ (14,483) *** % of revenue (8.1) % 1.4 % *** Indicates a percentage that is not meaningful. Other income, net was $12.5 million in the three months ended September 30, 2024 compared to other expense, net of $1.9 million in the three months ended September 30, 2023. This change was primarily due to 36 $9.2 million in foreign exchange gains in the three months ended September 30, 2024 as compared to $4.3 million in foreign exchange losses in the three months ended September 30, 2023. In addition, there was a $1.8 million increase in other income related to short-swing profit disgorgement payments to us from a public stockholder of our Class A common stock during the three months ended September 30, 2024. These increases were partially offset by a $0.9 million decrease in interest income during the three months ended September 30, 2024 relative to the prior year. Interest Expense Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Interest expense $ 6,168 $ 4,917 $ 1,251 25.4 % % of revenue 4.0 % 3.6 % Interest expense increased by $1.3 million in the three months ended September 30, 2024 as compared to the corresponding period in 2023 primarily due to interest expense incurred on additional credit facility borrowings that we entered into during the first quarter of 2024. Income Tax Expense Three Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Income tax expense $ 1,319 $ 178 $ 1,141 *** % of revenue 0.9 % 0.1 % *** Indicates a percentage that is not meaningful. Income tax expense increased by $1.1 million in the three months ended September 30, 2024 as compared to the corresponding period in 2023. This change was primarily driven by increased pre-tax book income in our certain international subsidiaries for the three months ended September 30, 2024. The change in pre-tax book income was primarily attributable to fluctuations in non-operating unrealized foreign exchange gains and losses. Comparison of the Nine Months Ended September 30, 2024 and 2023 Revenue Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Revenue Subscriptions $ 353,789 $ 296,554 $ 57,235 19.3 % Professional services 96,548 103,490 (6,942) (6.7) Total revenue $ 450,337 $ 400,044 $ 50,293 12.6 % Total revenue increased $50.3 million, or 12.6%, in the nine months ended September 30, 2024 compared to the same period in 2023 due to an increase in our subscriptions revenue of $57.2 million. This increase was partially offset by a decrease in our professional services revenue of $6.9 million. The increase in subscriptions revenue was driven by a $47.7 million increase in cloud subscription revenue, a $6.1 million increase in on-premises subscription 37 revenue, and a $3.4 million increase in maintenance and support revenue. With respect to new versus existing customers, there was a $15.0 million increase in subscriptions revenue from sales to new customers, while the remaining $42.2 million of the increase was attributable to expanded deployments, price increases on renewals, and corresponding sales of additional subscriptions to existing customers. The decrease in professional services revenue was due primarily to a $20.8 million decrease in revenue from existing customers, which was partially offset by a $13.8 million increase in sales to new customers. Cost of Revenue Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Cost of revenue Subscriptions $ 39,614 $ 32,492 $ 7,122 21.9 % Professional services 74,880 76,515 (1,635) (2.1) Total cost of revenue $ 114,494 $ 109,007 $ 5,487 5.0 % Subscriptions gross margin 88.8 % 89.0 % Professional services gross margin 22.4 % 26.1 % Total gross margin 74.6 % 72.8 % Cost of revenue increased $5.5 million, or 5.0%, in the nine months ended September 30, 2024 compared to the same period in 2023, primarily due to a $6.3 million increase in hosting costs and a $1.4 million increase in professional services and product support personnel costs. These increases were partially offset by a $1.7 million decrease in contractor costs and a $0.2 million decrease in travel expense. Hosting costs increased due to an increase in sales of our cloud offering during the nine months ended September 30, 2024. Although cost of sales headcount fell 9% year over year, personnel costs increased due to a $1.2 million increase in severance expense during the nine months ended September 30, 2024. Contractor costs decreased due to a decrease in the usage of subcontractors for professional services engagements. Subscriptions gross margin decreased slightly to 88.8% for the nine months ended September 30, 2024, compared to 89.0% in the same period in 2023. The decrease in subscriptions gross margin was attributable to increased hosting costs, which were substantially offset by an increase in subscriptions revenue during the nine months ended September 30, 2024 as compared to the nine months ended September 30, 2023. Professional services gross margin decreased to 22.4% for the nine months ended September 30, 2024 compared to 26.1% in the same period in 2023 due largely to a decrease in professional services revenue in the comparable periods, partially offset by a decrease in professional services expenses. Gross margin increased to 74.6% for the nine months ended September 30, 2024 compared to 72.8% for the nine months ended September 30, 2023, driven largely by the increase in subscriptions revenue. Sales and Marketing Expense Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Sales and marketing $ 175,613 $ 181,338 $ (5,725) (3.2) % % of revenue 39.0 % 45.3 % Sales and marketing expense decreased $5.7 million, or 3.2%, in the nine months ended September 30, 2024 compared to the same period in 2023, primarily due to a $10.9 million decrease in sales and marketing personnel costs. This decrease was partially offset by a $4.3 million increase in marketing costs and a $1.4 million increase in 38 travel expenses. Sales and marketing personnel costs declined due to a decrease in sales and marketing headcount of 21% from September 30, 2023 to September 30, 2024 in addition due to a $2.2 million decrease in stock-based compensation expense and a $0.8 million decrease in severance costs. These decreases were partially offset by a $2.0 million increase in commissions expense. Marketing costs increased primarily due to spending on our annual Appian World conference and internal sales and marketing events as well as increased spending on public relations, advertising, and lead generation. Travel and entertainment expense increased due to a higher number of in-person events and engagements relative to the prior year. Research and Development Expense Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Research and development $ 117,789 $ 118,502 $ (713) (0.6) % % of revenue 26.2 % 29.6 % Research and development expense decreased $0.7 million, or 0.6%, in the nine months ended September 30, 2024 compared to the same period in 2023, primarily due to a $3.6 million decrease in research and development personnel costs and a $0.2 million decrease in professional fees. These decreases were partially offset by a $1.2 million increase in employee medical benefits, a $1.1 million increase in cloud computing expense, and a $0.7 million increase in rent expense. Although research and development personnel headcount increased 5% from September 30, 2023 to September 30, 2024, overall personnel costs decreased partially due to lower bonus expense, a $1.0 million decrease in severance expense, a $0.6 million decrease in stock-based compensation expense, and additional realized cost savings from our product development center in India. Professional fees decreased due to a decline in consulting fees from lower usage of external resources to assist in our platform development efforts in the nine months ended September 30, 2024 relative to the nine months ended September 30, 2023. General and Administrative Expense Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) General and administrative $ 108,327 $ 82,342 $ 25,985 31.6 % % of revenue 24.1 % 20.6 % General and administrative expense increased $26.0 million, or 31.6%, in the nine months ended September 30, 2024 compared to the same period in 2023 primarily due to an increase of $11.2 million in amortization expense related to our judgment preservation insurance policy. In addition, professional fees increased $7.2 million due to higher legal fees incurred in the nine months ended September 30, 2024 relative to the prior year and a $5.7 million decrease in insurance reimbursements associated with our litigation against Pegasystems as a result of receiving reimbursements in the prior year compared to none in the current year. Rent expense also increased $6.3 million, primarily driven by $5.5 million of lease impairment charges recognized during the second quarter of 2024. 39 Other Non-Operating Income, Net Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Other income, net $ (5,882) $ (4,637) $ (1,245) 26.8 % % of revenue (1.3) % (1.2) % Other income, net was $5.9 million in the nine months ended September 30, 2024 compared to other income, net of $4.6 million in the nine months ended September 30, 2023. This change was attributed to a $1.8 million increase in other income related to short-swing profit disgorgement payments to us from a public stockholder of our Class A common stock during the nine months ended September 30, 2024. In addition, in the first quarter of 2024, we received a $1.4 million payment from a state government related to the achievement of certain capital investment goals. These increases were partially offset by a $1.9 million decrease in interest income in the nine months ended September 30, 2024 relative to the prior year stemming from decreased investments. Interest Expense Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Interest expense $ 17,921 $ 12,790 $ 5,131 40.1 % % of revenue 4.0 % 3.2 % Interest expense increased by $5.1 million in the nine months ended September 30, 2024 as compared to the corresponding period in 2023 primarily due to interest expense incurred on additional credit facility borrowings that we entered into during the first quarter of 2024 and the latter half of 2023. Income Tax Expense Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Income tax expense $ 690 $ 2,137 $ (1,447) (67.7) % % of revenue 0.2 % 0.5 % Income tax expense decreased by $1.4 million in the nine months ended September 30, 2024 as compared to the corresponding period in 2023 primarily due to lower pre-tax book income at our foreign subsidiaries as well as a discrete benefit recognized in the nine months ended September 30, 2024. The discrete benefit was primarily related to net operating loss adjustments at one of our foreign subsidiaries. Non-GAAP Financial Measures To supplement our consolidated financial statements, which are prepared and presented in accordance with GAAP, we provide investors with certain non-GAAP financial performance measures. We use these non-GAAP financial performance measures for financial and operational decision-making and as a means to evaluate period-to-period comparisons. Management believes these non-GAAP financial measures provide meaningful supplemental information regarding our performance by excluding certain expenses that may not be indicative of 40 our recurring core business operating results. We believe both management and investors benefit from referring to these non-GAAP financial measures in assessing our performance and when planning, forecasting, and analyzing future periods. These non-GAAP financial measures also facilitate management’s internal comparisons to historical performance as well as comparisons to competitors’ operating results. We believe these non-GAAP financial measures are useful to investors both because (1) they allow for greater transparency with respect to measures used by management in its financial and operational decision-making and (2) they are used by institutional investors and the analyst community to help them analyze the health of our business. Our non-GAAP financial performance measures include the following: non-GAAP subscriptions cost of revenue, non-GAAP professional services costs of revenue, non-GAAP total cost of revenue, non-GAAP total operating expense, non-GAAP operating loss, non-GAAP income tax expense, non-GAAP net income (loss), and non-GAAP net income (loss) per share, basic and diluted. These non-GAAP financial performance measures exclude the effect of stock-based compensation expense, certain non-ordinary litigation-related expenses consisting of legal and other professional fees associated with the Pegasystems cases (net of insurance reimbursements), or Litigation Expense, amortization of the judgment preservation insurance policy, or JPI Amortization, severance costs related to an involuntary reduction in our workforce, or Severance Costs, lease impairment and lease-related charges associated with actions taken to reduce the footprint of our leased office spaces, or Lease Impairment and Lease-Related Charges, and a short-swing profit disgorgement paid to us by an investor, or Short-Swing Profit Payment. While some of these items may be recurring in nature and should not be disregarded in the evaluation of our earnings performance, it is useful to exclude such items when analyzing current results and trends compared to other periods as these items can vary significantly from period to period depending on specific underlying transactions or events that may occur. Therefore, while we may incur or recognize these types of expenses in the future, we believe removing these items for purposes of calculating our non-GAAP financial measures provides investors with a more focused presentation of our ongoing operating performance. We also discuss adjusted EBITDA, a non-GAAP financial performance measure we believe offers a useful view of the overall operation of our business. We define adjusted EBITDA as net loss before (1) other expense (income), net, (2) interest expense, (3) income tax expense, (4) depreciation expense and amortization of intangible assets, (5) stock-based compensation expense, (6) Litigation Expense, (7) JPI Amortization, (8) Severance Costs, and (9) Lease Impairment and Lease-Related Charges. The most directly comparable GAAP financial measure to adjusted EBITDA is net loss. Users should consider the limitations of using adjusted EBITDA, including the fact that this measure does not provide a complete measure of our operating performance. Adjusted EBITDA is not intended to purport to be an alternative to net loss as a measure of operating performance or to cash flows from operating activities as a measure of liquidity. The presentation of these non-GAAP financial measures is not intended to be considered in isolation from, as a substitute for, or superior to the financial information prepared and presented in accordance with GAAP, and our non-GAAP measures may be different from non-GAAP measures used by other companies. The following tables reconcile our non-GAAP measures to their nearest comparable GAAP measures (in thousands, except per share data): 41 GAAP Measure Stock-Based Compensation Litigation Expense JPI Amortization Severance Costs Lease Impairment and Lease-Related Charges Short-Swing Profit Payment Non-GAAP Measure Three Months Ended September 30, 2024 Subscriptions cost of revenue $ 14,082 $ (211) $ — $ — $ — $ — $ — $ 13,871 Professional services cost of revenue 23,002 (1,325) — — — — — 21,677 Total cost of revenue 37,084 (1,536) — — — — — 35,548 Total operating expense 124,125 (7,969) (1,979) (3,635) — (324) — 110,218 Operating (loss) income (7,157) 9,505 1,979 3,635 — 324 — 8,286 Income tax expense 1,319 117 — — — — — 1,436 Net (loss) income (2,100) 9,388 1,979 3,635 — 324 (1,799) 11,427 Net (loss) income per share, basic $ (0.03) $ 0.13 $ 0.03 $ 0.05 $ — $ — $ (0.02) $ 0.16 Net (loss) income per share, diluted (a,b) $ (0.03) $ 0.13 $ 0.03 $ 0.05 $ — $ — $ (0.02) $ 0.15 Nine Months Ended September 30, 2024 Subscriptions cost of revenue $ 39,614 $ (641) $ — $ — $ — $ — $ — $ 38,973 Professional services cost of revenue 74,880 (4,364) — — (1,398) — — 69,118 Total cost of revenue 114,494 (5,005) — — (1,398) — — 108,091 Total operating expense 401,729 (25,006) (3,442) (12,643) (4,136) (5,786) — 350,716 Operating (loss) income (65,886) 30,011 3,442 12,643 5,534 5,786 — (8,470) Income tax expense 690 1,258 — — 1,096 — — 3,044 Net (loss) income (78,615) 28,753 3,442 12,643 4,438 5,786 (1,799) (25,352) Net (loss) income per share, basic and diluted (b) $ (1.08) $ 0.40 $ 0.05 $ 0.17 $ 0.06 $ 0.08 $ (0.02) $ (0.35) (a) Accounts for the impact of 1.8 million shares of dilutive securities. (b) Per share amounts do not foot due to rounding. 42 GAAP Measure Stock-Based Compensation Litigation Expense JPI Amortization Severance Costs Non-GAAP Measure Three Months Ended September 30, 2023 Subscriptions cost of revenue $ 11,265 $ (211) $ — $ — $ — $ 11,054 Professional services cost of revenue 24,804 (1,535) — — — 23,269 Total cost of revenue 36,069 (1,746) — — — 34,323 Total operating expense 116,242 (9,265) 4,961 (1,485) — 110,453 Operating (loss) income (15,217) 11,011 (4,961) 1,485 — (7,682) Income tax expense 178 88 — — — 266 Net (loss) income (22,251) 11,099 (4,961) 1,485 — (14,628) Net (loss) income per share, basic and diluted $ (0.30) $ 0.15 $ (0.07) $ 0.02 $ — $ (0.20) Nine Months Ended September 30, 2023 Subscriptions cost of revenue $ 32,492 $ (713) $ — $ — $ (30) $ 31,749 Professional services cost of revenue 76,515 (4,598) — — (158) 71,759 Total cost of revenue 109,007 (5,311) — — (188) 103,508 Total operating expense 382,182 (27,904) 2,772 (1,485) (6,111) 349,454 Operating (loss) income (91,145) 33,215 (2,772) 1,485 6,299 (52,918) Income tax expense 2,137 731 — — 139 3,007 Net (loss) income (101,435) 33,946 (2,772) 1,485 6,438 (62,338) Net (loss) income per share, basic and diluted (a) $ (1.39) $ 0.46 $ (0.04) $ 0.02 $ 0.09 $ (0.86) (a) Per share amounts do not foot due to rounding. The following table reconciles GAAP net loss to adjusted EBITDA for the three and nine months ended September 30, 2024 and 2023 (in thousands): Three Months Ended September 30, Nine Months Ended September 30, 2024 2023 2024 2023 GAAP net loss $ (2,100) $ (22,251) $ (78,615) $ (101,435) Other (income) expense, net (12,544) 1,939 (5,882) (4,637) Interest expense 6,168 4,917 17,921 12,790 Income tax expense 1,319 178 690 2,137 Depreciation expense and amortization of intangible assets 2,562 2,340 7,503 7,046 Stock-based compensation expense 9,505 11,011 30,011 33,215 Litigation Expense 1,979 (4,961) 3,442 (2,772) JPI Amortization 3,635 1,485 12,643 1,485 Severance Costs — — 5,534 6,299 Lease Impairment and Lease-Related Charges 324 — 5,786 — Adjusted EBITDA $ 10,848 $ (5,342) $ (967) $ (45,872) 43 Liquidity and Capital Resources The following table presents selected financial information and statistics pertaining to liquidity and capital resources as of September 30, 2024 and December 31, 2023: As of September 30, 2024 December 31, 2023 Cash and cash equivalents $ 99,193 $ 149,351 Short-term investments and marketable securities 40,798 9,653 Property and equipment, net 39,190 42,682 Working capital* 61,998 43,183 * Defined as current assets net of current liabilities. We believe our existing cash and cash equivalents and short-term investments and marketable securities, together with any positive cash flows from operations and available borrowings under our line of credit, will be sufficient to support working capital and capital expenditure requirements for at least the next twelve months. We have in the past, and may in the future enter into, investments in or acquisitions of complementary businesses, products, or technologies, which could also require us to seek additional equity financing, incur indebtedness, or use cash resources. We have no present binding agreements or commitments to enter into any such acquisitions. If we are unable to raise additional capital when desired, our business, operating results, and financial condition could be adversely affected. Sources of Funds We have historically financed our operations in large part with equity financing arrangements. Our last public offering was completed in June 2020. Through these public offerings, we received net proceeds of $344.8 million. To further help strengthen our financial position and support our growth initiatives, in November 2022 we entered into a Senior Secured Credit Facilities Credit Agreement, or the Credit Agreement, which provides for a five-year term loan facility in an aggregate principal amount of $200.0 million and, in addition, up to $100.0 million for a revolving credit facility, including a letter of credit sub-facility in the aggregate availability amount of $20.0 million and a swingline sub-facility in the aggregate availability amount of $10.0 million (as a sublimit of the revolving loan facility). The Credit Agreement matures on November 3, 2027. We have been using the proceeds to fund the growth of our business and support our working capital requirements. As of September 30, 2024, we were in compliance with all covenants, had used borrowing capacity of $62.0 million under our $100.0 million revolving credit facility, and had outstanding letters of credit totaling $14.7 million in connection with securing our leased office space. We expect future sources of funds to consist primarily of cash generated from sales of subscriptions and the related professional services. We may also elect to raise additional sources of funding through entering into new debt financing arrangements or conducting additional public offerings. Our future capital requirements will depend on many factors, including our growth rate, the timing and extent of spending to support research and development efforts, the expansion of sales and marketing activities, particularly internationally, the introduction of new and enhanced products and functions as well as platform enhancements and professional services offerings, and the level of market acceptance of our product. 44 Uses of Funds Our current principal uses of cash are funding operations and other working capital requirements. Historically, we have also utilized cash to pay for the acquisition of businesses that were complementary to ours, and we may pursue similar opportunities in the future. Over the past several years, revenue has increased significantly from year to year and, as a result, cash flows from customer collections have also grown. However, as we continue to invest in growing our business, operating expenses have also increased. In 2023, we entered into a Judgment Preservation Insurance policy in connection with our $2.036 billion judgment against Pegasystems. See Note 12 to the consolidated financial statements for additional details. The total cost of the policy was $57.3 million, which we paid with operating cash on hand. In addition, in February 2024 our Board of Directors authorized a share repurchase program, under which we repurchased approximately 1.3 million shares of our common stock for approximately 50.0 million during the first quarter of 2024. Outside of the above items and cash used by operations, other uses of cash in 2024 to date have included capital expenditures related to the expansion of the new leased facility for our research development center in India and principal repayments of our term loan debt. Furthermore, we have a non-cancellable cloud hosting arrangement with Amazon Web Services that contains provisions for minimum purchase commitments. Specifically, purchase commitments under the agreement total $131.0 million over five years. The agreement, which started in July 2021 and is now in its fourth year as of September 30, 2024, contains minimum spending requirements of $28.0 million in both the fourth and fifth years. Spending under this agreement for the three and nine months ended September 30, 2024, totaled $10.8 million and $31.8 million, respectively. Spending under this agreement for the three and nine months ended September 30, 2023, totaled $9.3 million and $27.8 million, respectively. The timing of payments under the agreement may vary, and the total amount of payments may exceed the minimum depending on the volume of services utilized. Historical Cash Flows Nine Months Ended September 30, 2024 2023 $ Change % Change (dollars in thousands) Beginning cash, cash equivalents, and restricted cash $ 149,351 $ 150,381 $ (1,030) (0.7) % Operating activities: Net loss (78,615) (101,435) 22,820 (22.5) Stock-based compensation and other non-cash adjustments 45,648 40,485 5,163 12.8 Changes in working capital 25,974 (41,248) 67,222 *** Net cash used by operating activities (6,993) (102,198) 95,205 (93.2) Investing activities: Net cash (used by) provided by investing activities (34,294) 869 (35,163) *** Financing activities: Net cash (used by) provided by financing activities (8,496) 82,388 (90,884) *** Effect of exchange rates (375) (679) 304 (44.8) Net change (50,158) (19,620) (30,538) *** Ending cash and cash equivalents $ 99,193 $ 130,761 $ (31,568) (24.1)% *** Indicates a percentage that is not meaningful. 45 Operating Activities Net cash used by operating activities was $7.0 million for the nine months ended September 30, 2024 as compared to $102.2 million used by operating activities for the nine months ended September 30, 2023. The decrease in net cash used by operating activities was primarily due to the prior year payment of $57.3 million for our JPI policy. In addition, the decrease in cash used by operating activities was attributed to stronger cash collections from accounts receivable as a result of increased revenues as well as headcount reductions and other cost management activities during the nine months ended September 30, 2024 as compared to the nine months ended September 30, 2023. Investing Activities Net cash used by investing activities was $34.3 million for the nine months ended September 30, 2024 as compared to $0.9 million in net cash provided by investing activities for the nine months ended September 30, 2023. This change was primarily driven by a decline of $51.0 million in proceeds from the sale of investments, which was partially offset by a $10.8 million decrease in purchases of investments and a $5.0 million decrease in capital expenditures. Financing Activities Net cash used by financing activities was $8.5 million for the nine months ended September 30, 2024 as compared to $82.4 million of net cash provided by financing activities for the nine months ended September 30, 2023. The decrease in net cash provided by financing activities was primarily due to a $50.0 million increase in common stock repurchases, a $42.0 million decrease in proceeds from borrowings, and a $1.1 million increase in debt repayments, all of which were partially offset by a $2.4 million decrease in payments for employee taxes related to the net share settlement of equity awards during the nine months ended September 30, 2024. Critical Accounting Estimates There have been no material changes in our critical accounting estimates from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2023, filed with the SEC on February 15, 2024. We are not aware of any specific events or circumstances that would require us to update our estimates, assumptions, and judgments. Recent Accounting Pronouncements See Note 2 to the unaudited consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for a discussion of recent accounting pronouncements. 46