PEGA filing — read by section

Item 8. Financial Statements and Supplementary Data

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 
 
 
 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS 
 
 
 
 Page 
 Report of Independent Registered Public Accounting Firm 35 
 
 Consolidated Balance Sheets as of December 31, 2020 and 2019 
 37 
 
 Consolidated Statements of Operations for the years ended December 31, 2020, 2019, and 2018 
 38 
 
 Consolidated Statements of Comprehensive (Loss) Income for the years ended December 31, 2020, 2019, and 2018 
 39 
 
 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2020, 2019, and 2018 
 40 
 
 Consolidated Statements of Cash Flows for the years ended December 31, 2020, 2019, and 2018 
 41 
 
 Notes to Consolidated Financial Statements 42 
 

 
 
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 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM 
 
 
 To the Stockholders and the Board of Directors of Pegasystems Inc. 
 Cambridge, Massachusetts 
 
 
 Opinions on the Financial Statements and Internal Control over Financial Reporting 
 We have audited the accompanying consolidated balance sheets of Pegasystems Inc. and subsidiaries (the "Company") as of December 31, 2020 and 2019, the related consolidated statements of operations, comprehensive (loss) income, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2020, and the related notes (collectively referred to as the “financial statements”). We also have audited the Company’s internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control — Integrated Framework (2013) i ssued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). 
 In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control — Integrated Framework (2013) issued by COSO. 
 Basis for Opinions 
 The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on and Changes in Internal Control over Financial Reporting. Our responsibility is to express an opinion on these financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. 
 We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects. 
 Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures to respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. 
 Definition and Limitations of Internal Control over Financial Reporting 
 A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America (“generally accepted accounting principles”). A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. 
 Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. 
 Critical Audit Matters 
 The critical audit matters communicated below are matters arising from the current-period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing a separate opinion on the critical audit matters or on the accounts or disclosures to which they relates. 
 Revenue Recognition – Software License Arrangements - Refer to Note 2 to the financial statements 
 The Company generates revenue from multiple sources, including software license revenue primarily derived from license sales of the Company’s Pega Platform and other software applications, maintenance revenue from client support, and services revenue primarily derived from cloud sales of the Company’s hosted Pega Platform and other software applications and consulting services. 
 The Company’s license and cloud arrangements often contain multiple performance obligations. These performance obligations may be included in the same contract or negotiated separately. Additionally, the Company enters into amendments to previously executed contracts which constitute contract modifications. Certain new complex arrangements require a detailed analysis of the contractual terms and application of more complex accounting guidance, specifically for contracts with higher contract values. Factors with potentially significant judgments include: 
 • Identification of the complete client arrangement 
 • Accounting treatment of contract modifications 
 • Valuation and allocation of identified material rights 
 • Allocation of arrangement consideration to bundled fixed price work orders 
 Given the accounting complexity and the management judgment necessary to properly identify, classify, and account for performance obligations, auditing such estimates involved especially complex and subjective auditor judgment in relation to license and cloud arrangements. 
 How the Critical Audit Matter Was Addressed in the Audit 
 Our audit procedures related to license and cloud revenue arrangements included the following, among others: 
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 • We tested the effectiveness of controls over revenue recognition, including those over the identification of performance obligations included in the transaction, accounting treatment of contract modifications, identification of material rights, and allocation of arrangement consideration. 
 • We selected a sample of client contracts and performed the following: 
 ◦ Evaluated whether the Company properly identified the terms of the arrangements and considered all arrangement terms that may have an impact on revenue recognition. 
 ◦ Evaluated whether the Company appropriately identified all performance obligations in the arrangement and whether the methodology to allocate the transaction price to the individual performance obligations was appropriately applied. 
 ◦ Tested the accuracy of management’s calculation of revenue for each performance obligation by developing an expectation for the revenue to be recorded in the current period and comparing it to the Company’s recorded balances. 
 ◦ Evaluated management’s assessment of any ongoing negotiations with clients and bundling with statements of work. 
 ◦ Analyzed the proper accounting treatment for any contract modifications based on 1) whether the additional products and services are distinct from the products and services in the original arrangement, and 2) whether the amount of consideration expected for the added products and services reflects the stand-alone selling price of those products and services. 
 ◦ Evaluated management’s determination of whether certain renewal clauses, additional product offers, or additional usage offers represented material rights included in the contract and whether they were properly valued based on the incremental discount provided and the probability of the right being exercised. 
 ◦ For contracts with a performance obligation of bundled fixed price services, evaluated whether management reasonably estimated the number of hours that each project will require and independently recalculated the stand-alone selling price for each bundled fixed price service. 
 ◦ Obtained evidence of delivery of the elements of the arrangement to the client. 
 Convertible senior notes and capped calls— Refer to Note 10 to the financial statements 
 In February 2020, the Company issued Convertible Senior Notes (the "Notes") with an aggregate principal amount of $600 million, due March 1, 2025, in a private placement. In accounting for the issuance of the Notes, the Company separated the Notes into liability and equity components. The carrying amount of the liability component was calculated by measuring the fair value of a similar debt instrument that does not have an associated convertible feature. The fair value was determined utilizing a discounted cash flow model that includes assumptions such as implied credit spread, expected volatility, and the risk-free rate for notes with a similar term. The carrying amount of the equity component representing the conversion option was determined by deducting the fair value of the liability component from the par value of the Notes. The equity component is not remeasured as long as it continues to meet the conditions for equity classification. 
 In February 2020, the Company also entered into privately negotiated capped call transactions (“Capped Call Transactions”) with certain financial institutions. The Capped Call Transactions are generally expected to reduce potential dilution to the common stock upon any conversion of Notes and/or offset any potential cash payments the Company is required to make in excess of the principal amount of converted Notes. The Capped Call Transactions are accounted for as derivative instruments which are recorded at fair value at the end of each reporting period. The fair value was determined utilizing a lattice model that includes inputs and assumptions such as stock price, expected term, volatility, risk-free rate and implied yield. 
 There is complexity in applying the accounting framework for the Notes and the related Capped Call Transactions. In addition, the determination of the fair value of the liability component of the convertible notes and the Capped Call Transactions requires the Company to make significant estimates and assumptions relating to the implied credit spread, expected volatility, and the risk-free rate for the liability component of the Convertible Notes, and the expected term, volatility, risk-free rate and implied yield for the derivative value of the Capped Call Transactions. Performing audit procedures to evaluate the appropriateness of the accounting framework and the reasonableness of the estimates and assumptions used in the fair value of the liability component of the Notes and the Capped Call Transactions required a high degree of auditor judgment and an increased extent of effort, including the need to involve our fair value specialists. 
 How the Critical Audit Matter Was Addressed in the Audit 
 Our audit procedures related to the accounting for the Notes and Capped Call Transactions, including the Company’s judgments and calculations related to the fair value of the liability component of the Notes and the derivative value of the Capped Call Transactions, included the following procedures, among others: 
 • We tested the effectiveness of controls over the Company’s accounting for the Notes and Capped Call Transactions, and over the determination of the fair value of the liability component of the Notes and fair value of the Capped Call Transaction derivative. 
 • With the assistance of professionals in our firm having expertise in debt issuance and derivative transaction accounting, we evaluated the Company’s conclusions regarding the accounting treatment applied to the Notes and Capped Call Transactions. 
 • With the assistance of fair value specialists, we evaluated the reasonableness of the valuation methodologies and the significant assumptions used to determine the respective fair values of the liability component of the Notes and the Capped Call Transaction derivative, by: 
 ◦ Testing the source information underlying the respective fair values of the liability component of the Notes and the Capped Call Transaction derivative and the mathematical accuracy of the calculations. 
 ◦ Developing estimates of the respective fair values of the liability component of the Notes and the Capped Call Transaction derivative using independent expectations of the significant assumptions, and comparing our estimates of fair value to the Company’s estimates. 
 
 
 
 
 /s/ DELOITTE & TOUCHE LLP 
 
 
 Boston, Massachusetts 
 February 17, 2021 
 
 
 We have served as the Company's auditor since 2000. 
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 PEGASYSTEMS INC. 
 CONSOLIDATED BALANCE SHEETS 
 (in thousands, except per share amounts) 
 
 
 
 December 31, 2020 December 31, 2019 
 Assets 
 Current assets: 
 Cash and cash equivalents $ 171,899 $ 68,363 
 Marketable securities 293,269 — 
 Total cash, cash equivalents, and marketable securities 465,168 68,363 
 Accounts receivable 215,827 199,720 
 Unbilled receivables 207,155 180,219 
 Other current assets 88,760 57,308 
 Total current assets 976,910 505,610 
 Unbilled receivables 113,278 121,736 
 Goodwill 79,231 79,039 
 Other long-term assets 434,843 278,427 
 Total assets $ 1,604,262 $ 984,812 
 
 Liabilities and Stockholders’ Equity 
 Current liabilities: 
 Accounts payable $ 24,028 $ 17,475 
 Accrued expenses 59,261 48,001 
 Accrued compensation and related expenses 123,012 104,126 
 Deferred revenue 232,865 190,080 
 Other current liabilities 20,969 18,273 
 Total current liabilities 460,135 377,955 
 Convertible senior notes, net 518,203 — 
 Operating lease liabilities 59,053 52,610 
 Other long-term liabilities 24,699 15,237 
 Total liabilities 1,062,090 445,802 
 Commitments and Contingencies (Note 19) 
 Stockholders’ equity: 
 Preferred stock, $ 0.01 par value, 1,000 shares authorized; none issued 
 — — 
 Common stock, $ 0.01 par value, 200,000 shares authorized; 80,890 and 79,599 shares issued and outstanding at December 31, 2020 and 2019, respectively 
 809 796 
 Additional paid-in capital 204,432 140,523 
 Retained earnings 339,879 410,919 
 Accumulated other comprehensive (loss) 
 Net unrealized gain on available-for-sale marketable securities, net of tax 46 — 
 Foreign currency translation adjustments ( 2,994 ) ( 13,228 ) 
 Total stockholders’ equity 542,172 539,010 
 Total liabilities and stockholders’ equity $ 1,604,262 $ 984,812 

 
 
 See notes to consolidated financial statements. 
 
 
 37 

 
 
 

 PEGASYSTEMS INC. 
 CONSOLIDATED STATEMENTS OF OPERATIONS 
 (in thousands, except per share amounts) 
 
 
 
 Year Ended
December 31, 
 2020 2019 2018 
 Revenue 
 Software license $ 294,910 $ 279,448 $ 288,119 
 Maintenance 296,709 280,580 263,875 
 Pega Cloud 208,268 133,746 82,627 
 Consulting 217,630 217,609 256,960 
 Total revenue 1,017,517 911,383 891,581 
 Cost of revenue 
 Software license 2,928 3,656 5,169 
 Maintenance 22,311 25,656 24,565 
 Pega Cloud 76,575 65,828 37,409 
 Consulting 209,099 214,882 234,622 
 Total cost of revenue 310,913 310,022 301,765 
 Gross profit 706,604 601,361 589,816 
 Operating expenses 
 Selling and marketing 545,693 474,459 373,495 
 Research and development 236,986 205,210 181,710 
 General and administrative 67,452 56,570 51,643 
 Total operating expenses 850,131 736,239 606,848 
 (Loss) from operations ( 143,527 ) ( 134,878 ) ( 17,032 ) 
 Foreign currency transaction gain (loss) 3,704 ( 2,335 ) 2,421 
 Interest income 1,223 2,020 2,715 
 Interest expense ( 19,356 ) ( 212 ) ( 10 ) 
 Gain on capped call transactions 31,697 — — 
 Other income (loss), net 1,370 559 363 
 (Loss) before (benefit from) income taxes ( 124,889 ) ( 134,846 ) ( 11,543 ) 
 (Benefit from) income taxes ( 63,516 ) ( 44,413 ) ( 22,160 ) 
 Net (loss) income $ ( 61,373 ) $ ( 90,433 ) $ 10,617 
 (Loss) earnings per share 
 Basic $ ( 0.76 ) $ ( 1.14 ) $ 0.14 
 Diluted $ ( 0.76 ) $ ( 1.14 ) $ 0.13 
 Weighted-average number of common shares outstanding 
 Basic 80,336 79,055 78,564 
 Diluted 80,336 79,055 83,064 

 
 
 See notes to consolidated financial statements. 
 
 
 
 
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 PEGASYSTEMS INC. 
 CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME 
 (in thousands) 
 
 
 
 2020 2019 2018 
 Net (loss) income $ ( 61,373 ) $ ( 90,433 ) $ 10,617 
 Other comprehensive income (loss), net of tax 
 Unrealized gain (loss) on available-for-sale securities 46 249 ( 17 ) 
 Foreign currency translation adjustments 10,234 ( 155 ) ( 6,600 ) 
 Total other comprehensive income (loss), net of tax 10,280 94 ( 6,617 ) 
 Comprehensive (loss) income $ ( 51,093 ) $ ( 90,339 ) $ 4,000 

 
 
 See notes to consolidated financial statements. 
 
 
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 PEGASYSTEMS INC. 
 CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY 
 (in thousands, except per share amounts) 
 
 
 
 Common Stock Additional Paid-In Capital Retained Earnings Accumulated Other Comprehensive (Loss) Income Total 
Stockholders’ Equity 
 Number 
of Shares Amount 
 Balance at January 1, 2018 78,081 $ 781 $ 152,097 $ 509,697 $ ( 6,705 ) $ 655,870 
 Repurchase of common stock ( 1,001 ) ( 10 ) ( 55,265 ) — — ( 55,275 ) 
 Issuance of common stock for stock compensation plans 1,413 14 ( 39,375 ) — — ( 39,361 ) 
 Issuance of common stock under the employee stock purchase plan 33 — 1,767 — — 1,767 
 Stock-based compensation — — 63,981 — — 63,981 
 Cash dividends declared ($ 0.12 per share) 
 — — — ( 9,451 ) — ( 9,451 ) 
 Other comprehensive (loss) — — — — ( 6,617 ) ( 6,617 ) 
 Net income — $ — $ — $ 10,617 $ — $ 10,617 
 December 31, 2018 78,526 $ 785 $ 123,205 $ 510,863 $ ( 13,322 ) $ 621,531 
 Repurchase of common stock ( 333 ) ( 3 ) ( 21,133 ) — — ( 21,136 ) 
 Issuance of common stock for stock compensation plans 1,375 14 ( 44,853 ) — — ( 44,839 ) 
 Issuance of common stock under the employee stock purchase plan 31 — 2,202 — — 2,202 
 Stock-based compensation — — 81,102 — — 81,102 
 Cash dividends declared ($ 0.12 per share) 
 — — — ( 9,511 ) — ( 9,511 ) 
 Other comprehensive income — — — — 94 94 
 Net (loss) — — — ( 90,433 ) — ( 90,433 ) 
 December 31, 2019 79,599 $ 796 $ 140,523 $ 410,919 $ ( 13,228 ) $ 539,010 
 Equity component of convertible senior notes, net — — 61,604 — — 61,604 
 Repurchase of common stock ( 278 ) ( 3 ) ( 28,271 ) — — ( 28,274 ) 
 Issuance of common stock for stock compensation plans 1,536 16 ( 75,578 ) — — ( 75,562 ) 
 Issuance of common stock under the employee stock purchase plan 33 — 3,039 — — 3,039 
 Stock-based compensation — — 103,115 — — 103,115 
 Cash dividends declared ($ 0.12 per share) 
 — — — ( 9,667 ) — ( 9,667 ) 
 Other comprehensive income — — — — 10,280 10,280 
 Net (loss) — — — ( 61,373 ) — ( 61,373 ) 
 December 31, 2020 80,890 $ 809 $ 204,432 $ 339,879 $ ( 2,948 ) $ 542,172 

 
 
 See notes to consolidated financial statements. 
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 PEGASYSTEMS INC. 
 CONSOLIDATED STATEMENTS OF CASH FLOWS 
 (in thousands) 
 
 
 
 2020 2019 2018 
 Operating activities 
 Net (loss) income $ ( 61,373 ) $ ( 90,433 ) $ 10,617 
 Adjustments to reconcile net (loss) income to cash (used in) provided by operating activities 
 Stock-based compensation 103,068 80,909 63,862 
 (Gain) loss on capped call transactions ( 31,697 ) — — 
 Deferred income taxes ( 59,777 ) ( 49,317 ) ( 30,898 ) 
 Amortization of deferred commissions 33,302 29,152 17,271 
 Lease expense 16,248 14,497 — 
 Amortization of debt discount and issuance costs 14,813 — — 
 Amortization of intangible assets and depreciation 21,348 21,396 25,295 
 Amortization of investments 1,073 800 1,596 
 Foreign currency transaction (gain) loss ( 3,704 ) 2,335 ( 2,421 ) 
 Other non-cash ( 879 ) ( 521 ) ( 1,678 ) 
 Change in operating assets and liabilities: 
 Accounts receivable, unbilled receivables, and contract assets ( 32,321 ) 1,088 25,779 
 Other current assets ( 12,959 ) ( 6,344 ) ( 6,068 ) 
 Accounts payable, accrued compensation, and accrued expenses 37,945 25,670 20,798 
 Deferred revenue 43,661 1,937 28,951 
 Deferred commissions ( 55,175 ) ( 49,746 ) ( 44,036 ) 
 Other long-term assets and liabilities ( 14,136 ) ( 23,588 ) ( 4,712 ) 
 Cash (used in) provided by operating activities ( 563 ) ( 42,165 ) 104,356 
 Investing activities 
 Purchases of investments ( 326,549 ) ( 11,424 ) ( 69,494 ) 
 Proceeds from maturities and called investments 28,811 13,634 33,991 
 Sales of investments 1,424 89,406 — 
 Payments for acquisitions, net of cash acquired — ( 10,934 ) ( 800 ) 
 Investment in property and equipment ( 25,369 ) ( 10,608 ) ( 11,893 ) 
 Cash (used in) provided by investing activities ( 321,683 ) 70,074 ( 48,196 ) 
 Financing activities 
 Proceeds from issuance of convertible senior notes 600,000 — — 
 Purchase of capped calls related to convertible senior notes ( 51,900 ) — — 
 Payment of debt issuance costs ( 14,527 ) — — 
 Dividend payments to stockholders ( 9,628 ) ( 9,486 ) ( 9,432 ) 
 Proceeds from revolving credit facility — 45,000 — 
 Payments on revolving credit facility — ( 45,000 ) — 
 Common stock repurchases for tax withholdings for net settlement of equity awards ( 72,523 ) ( 42,637 ) ( 37,594 ) 
 Common stock repurchases under stock repurchase program ( 27,974 ) ( 22,135 ) ( 54,434 ) 
 Cash provided by (used in) financing activities 423,448 ( 74,258 ) ( 101,460 ) 
 Effect of exchange rate changes on cash and cash equivalents 2,334 290 ( 2,557 ) 
 Net increase (decrease) in cash and cash equivalents 103,536 ( 46,059 ) ( 47,857 ) 
 Cash and cash equivalents, beginning of period 68,363 114,422 162,279 
 Cash and cash equivalents, end of period $ 171,899 $ 68,363 $ 114,422 
 
 Supplemental disclosures 
 Interest paid on convertible notes $ 2,338 $ — $ — 
 Income taxes paid $ 3,377 $ 4,745 $ 6,630 
 Non-cash investing and financing activity: 
 Dividends payable $ 2,427 $ 2,388 $ 2,363 

 
 
 See notes to consolidated financial statements. 
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 PEGASYSTEMS INC. 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 

 
 
 
 1. BASIS OF PRESENTATION 
 Business 
 The Company develops, markets, licenses, and supports customer engagement and digital process automation software applications in addition to the Pega Platform™ for clients that wish to build and extend their own applications. The Company provides consulting, training, support, and hosting services to facilitate the use of its software. 
 Management estimates and reporting 
 The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S.”) requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. Actual results could differ from those estimates. Accounts with reported amounts based on significant estimates and judgments include, but are not limited to, revenue, unbilled receivables, deferred revenue, deferred income taxes, deferred commissions, income taxes payable, convertible senior notes, capped call transactions, intangible assets, and goodwill. 
 Principles of consolidation 
 The Company’s consolidated financial statements reflect Pegasystems Inc. and subsidiaries in which the Company holds a controlling financial interest. All intercompany accounts and transactions were eliminated in consolidation. 
 
 2. SIGNIFICANT ACCOUNTING POLICIES 
 Revenue 
 The Company’s revenue is primarily derived from: 
 • software license revenue from sales of the Company’s Pega Platform and software applications. Software licenses represent functional intellectual property and are delivered separately from maintenance and services. 
 • maintenance revenue from client support including software upgrades (on a when and if available basis), telephone support, and bug fixes or patches. 
 • Pega Cloud revenue, which is sales of the Company’s hosted Pega Platform and software applications. 
 • consulting revenue, which is primarily related to new software license implementations, training, and reimbursable costs. 
 Performance Obligations 
 The Company’s software license and Pega Cloud arrangements often contain multiple performance obligations. If a contract contains multiple performance obligations, the Company accounts for each distinct performance obligation separately. The transaction price is allocated to the separate performance obligations on a relative stand-alone selling price basis. Any discounts or expected potential future price concessions are considered when determining the total transaction price. The Company’s policy is to exclude sales and similar taxes collected from clients from the determination of transaction price. 
 The Company’s typical performance obligations are: 
 
 Performance Obligation How Standalone Selling Price is Typically Determined When Performance Obligation is Typically Satisfied When Payment is Typically Due 
 Perpetual license Residual approach Upon transfer of control to the client, defined when the client can use and benefit from the license (point in time) Effective date of the license 
 Term license Residual approach Upon transfer of control to the client, defined when the client can use and benefit from the license (point in time) Annually, or more frequently, over the term of the license 
 Maintenance Consistent pricing relationship as a percentage of the related license and observable in stand-alone renewal transactions (1) 
 Ratably over the term of the maintenance (over time) Annually, or more frequently, over the term of the maintenance 
 Pega Cloud Residual approach Ratably over the term of the service (over time) Annually, or more frequently, over the term of the service 
 Consulting
- time and materials Observable hourly rate for time and materials-based services in similar geographies for similar contract sizes Based on hours incurred to date Monthly 
 Consulting 
- fixed price Observable hourly rate for time and materials-based services in similar geographies for similar contract sizes multiplied by estimated hours for the project Based on hours incurred as a percentage of total estimated hours As contract milestones are achieved 

 (1) Technical support and software updates are considered distinct services but accounted for as a single performance obligation, as they have the same pattern of transfer to the client. 
 The Company utilizes the residual approach for performance obligations since the selling price is highly variable and stand-alone selling price is not discernible from past transactions or other observable evidence. Periodically, the Company reevaluates whether the residual approach remains appropriate. As required, the Company evaluates its residual approach estimate compared to all available observable data in order to conclude the estimate is representative of its stand-alone selling price. 
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 If the contract grants the client the option to acquire additional products or services, the Company assesses whether the option represents a material right to the client that the client would not receive without entering into that contract. Discounts on options to purchase additional products and services greater than discounts available to similar clients are accounted for as an additional performance obligation. 
 During most of each client contract term, the amount invoiced is generally less than the amount of revenue recognized to date, primarily because we transfer control of the performance obligation related to the software license at the inception of the contract term. A significant portion of the total contract consideration is typically allocated to the license performance obligation. Therefore, our contracts often result in the recording of unbilled receivables and contract assets throughout most of the contract term. The Company records an unbilled receivable or contract asset when revenue recognized on a contract exceeds the billings. The Company recognizes an impairment on receivables and contract assets if, after contract inception, it becomes probable that payment is not collectible. The Company reviews receivables and contract assets on an individual basis for impairment. 
 Variable consideration 
 The Company’s arrangements can include variable fees, such as the option to purchase additional usage of a previously delivered software license. The Company may also provide pricing concessions to clients, a business practice that also gives rise to variable fees in contracts. For variable fees arising from the client’s acquisition of additional usage of a previously delivered software license, the Company applies the sales and usage-based royalties guidance related to a license of intellectual property and recognizes the revenue in the period the underlying sale or usage occurs. The Company includes variable fees in the determination of total transaction price if it is not probable that a future significant reversal of revenue will occur. The Company uses the expected value or most likely value amount, whichever is more appropriate for specific circumstances, to estimate variable consideration, and the estimates are based on the level of historical price concessions offered to clients. The variable consideration related to pricing concessions and other forms of variable consideration, including usage-based fees, have not been material to the Company’s consolidated financial statements. 
 Significant financing components 
 The Company generally does not intend to provide financing to its clients, as financing arrangements are not contemplated as part of the negotiated terms of contracts between the Company and its clients. Although there may be instances with an intervening period between the delivery of the license and the payment, typically in term license arrangements, the purpose of that timing difference is to align the client’s payment with the timing of the use of the software license or service. 
 In certain circumstances, however, there are instances where revenue recognition timing differs from the timing of payment due to extended payment terms or fees that are non-proportional to the associated usage of software licenses. In these instances, the Company evaluates whether a significant financing component exists. This evaluation includes determining the difference between the consideration the client would have paid at the time the performance obligation was satisfied and the amount of consideration actually paid. Contracts that include a significant financing component are adjusted for the time value of money at the rate inherent in the contract, the client’s borrowing rate, or the Company’s incremental borrowing rate, depending upon the recipient of the financing. 
 During 2020, 2019, and 2018, significant financing components were not material. 
 Contract modifications 
 The Company assesses contract modifications to determine: 
 • if the additional products and services are distinct from the products and services in the original arrangement; and 
 • if the amount of consideration expected for the added products and services reflects the stand-alone selling price of those products and services. 
 A contract modification meeting both criteria is accounted for as a separate contract. A contract modification not meeting both criteria is considered a change to the original contract and is accounted for on either: 
 • a prospective basis as a termination of the existing contract and the creation of a new contract; or 
 • a cumulative catch-up basis. 
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 Deferred commissions 
 The Company recognizes an asset for the incremental costs of obtaining a client contract, primarily related to sales commissions. The Company expects to benefit from those costs for more than one year, as the Company primarily pays sales commissions on the initial contract. As a result, there are no commensurate commissions paid on contract renewals. Deferred commissions are allocated to each performance obligation within the contract and amortized according to the transfer of underlying goods and services within those contracts and expected renewals. The expected benefit period is determined based on the length of the client contracts, client attrition rates, the underlying technology life-cycle, and the competitive marketplace’s influence in which the products and services are sold. Deferred costs allocated to maintenance and deferred costs for Pega Cloud arrangements are amortized over an average expected benefit period of five years . Deferred costs allocated to software licenses, and any expected renewals of term software licenses within the five years expected benefit period, are amortized at the point in time control of the software license is transferred. Deferred costs allocated to consulting are amortized over a period consistent with the pattern of transfer of control for the related services. 
 Financial instruments 
 The principal financial instruments held by the Company consist of cash equivalents, marketable securities, receivables, capped call transactions, and accounts payable. The Company considers debt securities that are readily convertible to known amounts of cash with maturities of three months or less from the purchase date to be cash equivalents. Interest is recorded when earned. All of the Company’s investments are classified as available-for-sale and are carried at fair value. Unrealized gains and losses considered temporary in nature are recorded as a component of accumulated other comprehensive loss, net of related income taxes. The Company reviews all investments for reductions in fair value that are other-than-temporary. When such reductions occur, the investment cost is adjusted to fair value by recording a loss on investments in the consolidated statements of operations. Gains and losses on investments are calculated based upon the specific investment. 
 See "Note 4. Receivables, Contract Assets, And Deferred Revenue", "Note 10. Debt", and "Note 12. Fair Value Measurements" for additional information. 
 Property and equipment 
 Property and equipment are recorded at cost. Depreciation and amortization are computed using the straight-line method over the estimated useful lives of the assets, which are three years for computer equipment and five years for furniture and fixtures. Leasehold improvements are amortized over the lesser of the lease’s term or the useful life of the asset. Repairs and maintenance costs are expensed as incurred. 
 Leases 
 All the Company’s leases are operating leases, primarily composed of office space leases. The Company accounts for a contract as a lease when it has the right to control the asset for a period of time while obtaining substantially all of the asset’s economic benefits. The Company determines the initial classification and measurement of its operating right of use assets and lease liabilities at the lease commencement date and thereafter if modified. Fixed lease costs are recognized on a straight-line basis over the term of the lease. Variable lease costs are recognized in the period in which the obligation for those payments is incurred. The Company combines lease and non-lease components in the determination of lease costs for its office space leases. The lease liability includes lease payments related to options to extend or renew the lease term if the Company is reasonably certain it will exercise those options. The Company’s leases do not contain any material residual value guarantees or restrictive covenants. 
 Internal-use software 
 The Company capitalizes and amortizes certain direct costs associated with computer software developed or purchased for internal use incurred during the application development stage. Costs related to preliminary project activities and post-implementation activities are expensed as incurred. The Company amortizes capitalized software costs generally over three to five years , commencing on the date the software is placed into service. 
 Goodwill 
 Goodwill represents the residual purchase price paid in a business combination after the fair value of all identified assets and liabilities have been recorded. Goodwill is not amortized. The Company has a single reporting unit. The Company performed a qualitative assessment as of November 30, 2020, 2019, and 2018, and concluded that there was no impairment since it was not more likely than not that the fair value of its reporting unit was less than its carrying value. 
 Intangible and long-lived assets 
 All of the Company’s intangible assets are amortized using the straight-line method over their estimated useful life. The Company evaluates its long-lived tangible and intangible assets for impairment whenever events or changes in circumstances indicate that such assets’ carrying amount may not be recoverable. Impairment is assessed by comparing the undiscounted cash flows expected to be generated by the long-lived tangible or intangible assets to their carrying value. If impairment exists, the Company calculates the impairment by comparing the carrying value to its fair value as determined by discounted expected cash flows. 
 44 

 
 

 Cash equivalents 
 Cash equivalents include money market funds, time deposits and other investments with original maturities of three months or less. 
 Business combinations 
 The Company uses its best estimates and assumptions to assign a fair value to the tangible and intangible assets acquired and liabilities assumed at the acquisition date. The Company’s estimates are inherently uncertain and subject to refinement. During the measurement period, which may be up to one year from the acquisition date, the Company may record adjustments to the fair value of these tangible and intangible assets acquired and liabilities assumed, with the corresponding offset to goodwill. In addition, uncertain tax positions and tax-related valuation allowances are initially established in connection with a business combination as of the acquisition date. The Company continues to collect information and reevaluates these estimates and assumptions quarterly and records any adjustments to the Company’s preliminary estimates to goodwill provided that the Company is within the measurement period. Upon the conclusion of the measurement period or final determination of the fair value of assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded to the Company’s consolidated statements of operations. 
 Research and development and software development costs 
 Research and development costs are expensed as incurred. Capitalization of computer software developed for resale begins upon the establishment of technological feasibility, generally demonstrated by a working model or an operative version of the computer software product. Such costs have not been material to date, as technological feasibility is established within a short time frame from the software’s general availability. As a result, no costs were capitalized in 2020, 2019, or 2018. 
 Stock-based compensation 
 The Company recognizes stock-based compensation expense associated with equity awards based on the award’s fair value at the grant date. Stock-based compensation is recognized over the requisite service period, which is generally the vesting period of the equity award and is adjusted each period for anticipated forfeitures. See "Note 14. Stock-Based Compensation" for discussion of the Company’s key assumptions included in determining the fair value of its equity awards at the grant date. 
 Foreign currency translation and remeasurement 
 The translation of assets and liabilities for the Company’s subsidiaries with functional currencies other than the U.S. dollar are made at period-end exchange rates. Revenue and expense accounts are translated at the average exchange rates during the period transactions occurred. The resulting translation adjustments are reflected in accumulated other comprehensive income. Realized and unrealized exchange gains or losses from transactions and remeasurement adjustments are reflected in foreign currency transaction gain (loss) in the accompanying consolidated statements of operations. 
 Accounting for income taxes 
 The Company uses the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on temporary differences between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The Company regularly assesses the need for a valuation allowance against its deferred tax assets. Future realization of the Company’s deferred tax assets ultimately depends on sufficient taxable income within the available carryback or carryforward periods. Taxable income sources include taxable income in prior carryback years, future reversals of existing taxable temporary differences, tax planning strategies, and future taxable income. The Company records a valuation allowance to reduce its deferred tax assets to an amount it believes is more-likely-than-not to be realized. Changes in the valuation allowance impacts income tax expense in the period of adjustment. The Company’s deferred tax valuation allowance requires significant judgment and uncertainties, including assumptions about future taxable income that are based on historical and projected information. The Company recognizes excess tax benefits when they are realized, as a reduction of the provision for income taxes. 
 The Company assesses its income tax positions and records tax benefits based upon management’s evaluation of the facts, circumstances, and information available at the reporting date. For those tax positions where it is more-likely-than-not that a tax benefit will be sustained, the Company records the largest amount of tax benefit with a greater than 50 percent likelihood of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information. For those income tax positions where it is not more-likely-than-not that a tax benefit will be sustained, no tax benefit is recognized in the financial statements. The Company classifies liabilities for uncertain tax positions as non-current liabilities unless the uncertainty is expected to be resolved within one year. The Company classifies interest and penalties on uncertain tax positions as income tax expense. 
 As a global company, the Company uses significant judgment to calculate and provide for income taxes in each of the tax jurisdictions in which it operates. In the ordinary course of the Company’s business, there are transactions and calculations undertaken whose ultimate tax outcome cannot be certain. Some of these uncertainties arise as a consequence of transfer pricing for transactions with the Company’s subsidiaries and nexus and tax credit estimates. In addition, the calculation of acquired tax attributes and the associated limitations are complex. See "Note 16. Income Taxes" for additional information. 
 45 

 
 

 Advertising expense 
 Advertising costs are expensed as incurred. Advertising costs were $ 8.7 million, $ 6.7 million, and $ 6.9 million during 2020, 2019, and 2018, respectively. 
 
 New Accounting Standards 
 Convertible debt 
 In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2020-06, “Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity” (ASU 2020-06), which simplifies the accounting for certain financial instruments with characteristics of liabilities and equity, including convertible instruments and contracts in an entity’s own equity. The standard eliminates the liability and equity separation model for convertible instruments with a cash conversion feature. As a result, after adoption, entities will no longer separately present in equity an embedded conversion feature for such debt. Additionally, the embedded conversion feature will no longer be amortized into income as interest expense over the instrument’s life. Instead, entities will account for a convertible debt instrument wholly as debt unless (1) a convertible instrument contains features that require bifurcation as a derivative under ASC Topic 815, Derivatives and Hedging, or (2) a convertible debt instrument was issued at a substantial premium. Additionally, the standard requires applying the if-converted method to calculate convertible instruments’ impact on diluted earnings per share (“EPS”). The standard is effective for fiscal years beginning after December 15, 2021, with early adoption permitted for fiscal years beginning after December 15, 2020. It can be adopted on either a full retrospective or modified retrospective basis. The Company is currently evaluating the effect this ASU will have on its consolidated financial statements and related disclosures. The Company expects to elect to early adopt the new standard in the first quarter of 2021. 
 
 3. MARKETABLE SECURITIES 
 
 December 31, 2020 
 (in thousands) Amortized Cost Unrealized Gains Unrealized Losses Fair Value 
 Government debt $ 39,996 $ — $ ( 8 ) $ 39,988 
 Corporate debt 253,345 88 ( 152 ) 253,281 
 $ 293,341 $ 88 $ ( 160 ) $ 293,269 

 
 As of December 31, 2020, marketable securities maturities ranged from January 2021 to December 2023, with a weighted-average remaining maturity of 1.5 years. 
 As of December 31, 2019, the Company did not hold any marketable securities. 
 
 4. RECEIVABLES, CONTRACT ASSETS, AND DEFERRED REVENUE 
 Receivables 
 
 (in thousands) 
 December 31, 2020 December 31, 2019 
 Accounts receivable $ 215,827 $ 199,720 
 Unbilled receivables 207,155 180,219 
 Long-term unbilled receivables 113,278 121,736 
 $ 536,260 $ 501,675 

 Unbilled receivables are client committed amounts for which revenue recognition precedes billing, and billing is solely subject to the passage of time. 
 Unbilled receivables are expected to be billed in the future as follows: 
 
 (Dollars in thousands) 
 December 31, 2020 
 1 year or less $ 207,155 65 % 
 1-2 years 83,992 26 % 
 2-5 years 29,286 9 % 
 $ 320,433 100 % 

 Unbilled receivables based upon contract effective date: 
 
 (Dollars in thousands) 
 December 31, 2020 
 2020 $ 149,867 47 % 
 2019 87,941 27 % 
 2018 31,097 10 % 
 2017 31,668 10 % 
 2016 and prior 19,860 6 % 
 $ 320,433 100 % 

 
 
 46 

 
 

 Major clients 
 No client represented 10% or more of the Company’s total accounts receivable and unbilled receivables as of December 31, 2020 or December 31, 2019. 
 Contract assets and deferred revenue 
 
 (in thousands) 
 December 31, 2020 December 31, 2019 
 Contract assets (1) 
 $ 15,296 $ 5,558 
 Long-term contract assets (2) 
 7,777 5,420 
 $ 23,073 $ 10,978 
 Deferred revenue $ 232,865 $ 190,080 
 Long-term deferred revenue (3) 
 8,991 5,407 
 $ 241,856 $ 195,487 

 (1) Included in other current assets. (2) Included in other long-term assets. (3) Included in other long-term liabilities. 
 Contract assets are client committed amounts for which revenue recognized exceeds the amount billed to the client where the right to payment is subject to conditions other than the passage of time, such as completing a related performance obligation. Deferred revenue consists of billings and payments received in advance of revenue recognition. Contract assets and deferred revenue are netted at the contract level for each reporting period. 
 The change in deferred revenue in the year ended December 31, 2020 was primarily due to new billings in advance of revenue recognition and $ 187.6 million of revenue recognized during the period that was included in deferred revenue on December 31, 2019. 
 
 5. DEFERRED COMMISSIONS 
 
 December 31, 
 (in thousands) 
 2020 2019 
 Deferred commissions (1) 
 $ 108,624 $ 85,314 

 (1) Included in other long-term assets. 
 
 (in thousands) 2020 2019 2018 
 Amortization of deferred commissions (1) 
 $ 33,302 $ 29,152 $ 17,271 

 (1) Included in selling and marketing expenses. 
 
 6. PROPERTY AND EQUIPMENT (1) 
 
 (in thousands) December 31, 
 2020 2019 
 Leasehold improvements 
 $ 52,335 $ 42,162 
 Computer equipment 
 30,211 25,147 
 Furniture and fixtures 
 10,572 8,524 
 Computer software purchased 
 8,415 7,775 
 Computer software developed for internal use 
 18,542 17,606 
 Fixed assets in progress 
 2,077 4,044 
 122,152 105,258 
 Less: accumulated depreciation 
 ( 81,754 ) ( 70,975 ) 
 $ 40,398 $ 34,283 

 
 (1) Included in other long-term assets. 
 
 
 
 (in thousands) 2020 2019 2018 
 Depreciation expense $ 17,378 $ 14,771 $ 13,875 

 
 
 
 
 7. GOODWILL AND OTHER INTANGIBLE ASSETS 
 Goodwill 
 
 (in thousands) 
 2020 2019 
 January 1, $ 79,039 $ 72,858 
 Acquisition — 6,179 
 Currency translation adjustments 192 2 
 December 31, $ 79,231 $ 79,039 

 
 47 

 
 

 Intangibles 
 Intangible assets are recorded at cost and amortized using the straight-line method over their estimated useful lives as follows: 
 
 December 31, 2020 
 (in thousands) Useful Lives Cost Accumulated Amortization Net Book Value (1) 
 
 Client-related 
 4 - 10 years 
 $ 63,168 $ ( 55,877 ) $ 7,291 
 Technology 
 2 - 10 years 
 64,843 ( 56,386 ) 8,457 
 Other 
 1 - 5 years 
 5,361 ( 5,361 ) — 
 $ 133,372 $ ( 117,624 ) $ 15,748 

 (1) Included in other long-term assets. 
 
 December 31, 2019 
 (in thousands) Useful Lives Cost Accumulated Amortization Net Book Value (1) 
 
 Client-related 4 - 10 years 
 $ 63,140 $ ( 54,368 ) $ 8,772 
 Technology 2 - 10 years 
 64,843 ( 53,898 ) 10,945 
 Other 1 - 5 years 
 5,361 ( 5,361 ) — 
 $ 133,344 $ ( 113,627 ) $ 19,717 

 (1) Included in other long-term assets. 
 Amortization of intangible assets was: 
 
 (in thousands) 
 2020 2019 2018 
 Cost of revenue $ 2,487 $ 3,500 $ 5,027 
 Selling and marketing 1,483 3,125 6,416 
 
 
 $ 3,970 $ 6,625 $ 11,443 

 Future estimated amortization expense related to intangible assets: 
 
 (in thousands) 
 December 31, 2020 
 2021 $ 3,657 
 2022 3,557 
 2023 3,289 
 2024 2,520 
 2025 and after 2,725 
 $ 15,748 

 
 
 
 8. SEGMENT INFORMATION 
 Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision-maker (“CODM”) in deciding how to allocate resources and in assessing performance. 
 The Company derives substantially all of its revenue from the sale and support of one group of similar products and services – software that provides case management, business process management, and real time decisioning solutions to improve customer engagement and operational excellence in the enterprise applications market. To assess performance, the Company’s CODM, the Chief Executive Officer, reviews financial information on a consolidated basis. Therefore, the Company determined it has one operating segment and one reporting unit. 
 Long-lived assets related to the Company’s U.S. and international operations were: 
 
 (Dollars in thousands) December 31, 
 
 2020 2019 
 U.S. $ 31,339 78 % $ 26,644 78 % 
 International 9,059 22 % 7,639 22 % 
 $ 40,398 100 % $ 34,283 100 % 

 
 
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 9. LEASES 
 Expense 
 
 (in thousands) 2020 2019 
 Fixed lease costs $ 20,235 $ 18,250 
 Short-term lease costs 1,669 1,291 
 Variable lease costs 4,470 5,554 
 $ 26,374 $ 25,095 

 Total rent expense under operating leases was $ 14.9 million for 2018. 
 Right of use assets and lease liabilities 
 
 (in thousands) December 31, 2020 December 31, 2019 
 Right of use assets (1) 
 $ 67,651 $ 58,273 
 Lease liabilities (2) 
 $ 18,541 $ 15,885 
 Long-term lease liabilities $ 59,053 $ 52,610 

 (1) Represents the Company’s right to use the leased asset during the lease term. Included in other long-term assets. (2) Included in other current liabilities. 
 The weighted-average remaining lease term and discount rate for the Company’s leases were: 
 
 December 31, 2020 December 31, 2019 
 Weighted-average remaining lease term 4.7 years 4.0 years 
 Weighted-average discount rate (1) 
 5.4 % 5.8 % 

 (1) The rates implicit in most of the Company’s leases are not readily determinable. Therefore the Company uses its incremental borrowing rate as the discount rate when measuring operating lease liabilities. The incremental borrowing rate represents an estimate of the interest rate the Company would incur to borrow an amount equal to the lease payments on a collateralized basis over the lease term in a similar economic environment. 
 Maturities of lease liabilities are: 
 
 (in thousands) December 31, 2020 
 1 year or less $ 22,164 
 1-2 years 21,747 
 2-3 years 21,599 
 3-4 years 7,683 
 > 4 years 14,431 
 Total lease payments 87,624 
 Less: imputed interest (1) ( 10,030 ) 
 Total short and long-term lease liabilities $ 77,594 

 (1) Lease liabilities are measured at the present value of the remaining lease payments using a discount rate determined at lease commencement, unless the discount rate is updated due to a lease reassessment event. 
 Cash flow information 
 
 (in thousands) 2020 2019 
 Cash paid for leases $ 20,548 $ 19,727 
 Right of use assets recognized for new leases and amendments (non-cash) $ 24,276 $ 31,155 

 
 
 49 

 
 
 

 10. DEBT 
 Convertible senior notes and capped calls 
 Convertible senior notes 
 In February 2020, the Company issued Convertible Senior Notes (the "Notes") with an aggregate principal amount of $ 600 million, due March 1, 2025, in a private placement. The proceeds from the Notes were used or are anticipated to be used for the Capped Call Transactions (described below), working capital, and other general corporate purposes. There are no required principal payments until the maturity of the Notes. The Notes accrue interest at an annual rate of 0.75 %, payable semi-annually in arrears on March 1 and September 1, beginning on September 1, 2020. 
 Proceeds from the Notes and Capped Call Transactions: 
 
 (in thousands) Amount 
 Principal $ 600,000 
 Less: issuance costs ( 14,527 ) 
 Less: Capped Call Transactions ( 51,900 ) 
 $ 533,573 

 Conversion rights 
 The conversion rate is 7.4045 shares of common stock per $ 1,000 principal amount of the Notes, representing an initial conversion price of $ 135.05 per share of common stock. The Company will settle conversions by paying or delivering, as applicable, cash, shares of its common stock, or a combination of cash and shares of its common stock, at the Company’s election, based on the applicable conversion rate. The conversion rate will be adjusted upon the occurrence of certain events, including spin-offs, tender offers, exchange offers, and certain stockholder distributions. 
 Beginning on September 1, 2024, noteholders may convert their Notes at any time at their election. Before September 1, 2024, noteholders may convert their Notes in the following circumstances: 
 • During any calendar quarter commencing after the calendar quarter ending on June 30, 2020 (and only during such calendar quarter), if the last reported sale price per share of the Company’s common stock exceeds one hundred and thirty percent ( 130 %) of the conversion price for each of at least twenty ( 20 ) trading days (whether or not consecutive) during the thirty ( 30 ) consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter. 
 • During the five consecutive business days immediately after any five consecutive trading day period (the “Measurement Period”), if the trading price per $1,000 principal amount of Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price per share of common stock on such trading day and the conversion rate on such trading day. 
 • Upon the occurrence of certain corporate events or distributions, or if the Company calls all or any Notes for redemption, then the noteholder of any Note may convert such Note at any time before the close of business on the business day immediately before the related redemption date (or if the Company fails to pay the redemption price due on such redemption date in full, at any time until the Company pays such redemption price in full). 
 As of December 31, 2020, no Notes were eligible for conversion at the noteholders’ election. 
 Repurchase rights 
 On or after March 1, 2023 and on or before the 40th scheduled trading day immediately before the maturity date, the Company may redeem for cash all or part of the Notes at a repurchase price equal to 100 % of the principal amount, plus accrued and unpaid interest, if the last reported sale price of the Company’s common stock exceeded 130 % of the conversion price then in effect for at least 20 trading days (whether or not consecutive) during any 30 consecutive trading day period ending on, and including, the trading day immediately preceding the date on which the Company provides a redemption notice. 
 If certain corporate events that constitute a “Fundamental Change” (as described below) occur at any time, each noteholder will have the right, at such noteholder’s option, to require the Company to repurchase for cash all of such noteholder’s Notes, or any portion of the principal thereof that is equal to $1,000 or an integral multiple of $1,000, at a repurchase price equal to 100 % of the principal amount thereof, plus accrued and unpaid interest. A fundamental change relates to events such as mergers, changes in control of the Company, liquidation/dissolution of the Company, or the delisting of the Company’s common stock. 
 Impact of the Notes 
 In accounting for the transaction, the Notes have been separated into liability and equity components. 
 • The initial carrying amount of the liability component was calculated by measuring a similar debt instrument’s fair value that does not have an associated conversion feature. The excess of the Notes’ principal amount over the initial carrying amount of the liability component, the debt discount, is amortized as interest expense over the Notes’ contractual term. 
 • The equity component was recorded as an increase to additional paid-in capital and is not remeasured as long as it continues to meet the conditions for equity classification. The carrying amount of the equity component representing the conversion option was determined by deducting the fair value of the liability component from the par value of the Convertible Senior Notes. 
 50 

 
 

 The Company incurred issuance costs of $ 14.5 million related to the Notes, allocated between the Notes’ liability and equity components proportionate to the initial carrying amount of the liability and equity components. 
 • Issuance costs attributable to the liability component are recorded as an offset to the Notes’ principal balance. They are amortized as interest expense using the effective interest method over the contractual term of the Notes. 
 • Issuance costs attributable to the equity component are recorded as an offset to the equity component in additional paid-in capital and are not amortized. 
 Net carrying amount of the liability component: 
 
 (in thousands) December 31, 2020 
 Principal $ 600,000 
 Unamortized debt discount ( 71,222 ) 
 Unamortized issuance costs ( 10,575 ) 
 $ 518,203 

 Net carrying amount of the equity component, included in additional paid-in capital: 
 
 (in thousands) December 31, 2020 
 Conversion options (1) 
 $ 61,604 

 (1) Net of issuance costs and taxes. 
 Interest expense related to the Notes: 
 
 (in thousands) 2020 
 Contractual interest expense ( 0.75 % coupon) 
 $ 3,825 
 Amortization of debt discount (1) 
 12,898 
 Amortization of issuance costs (1) 
 1,915 
 $ 18,638 

 (1) Amortized based upon an effective interest rate of 4.31 %. 
 Future payments of principal and contractual interest: 
 
 December 31, 2020 
 (in thousands) Principal Interest Total 
 
 2021 — 4,500 4,500 
 2022 — 4,500 4,500 
 2023 — 4,500 4,500 
 2024 — 4,500 4,500 
 2025 600,000 1,488 601,488 
 $ 600,000 $ 19,488 $ 619,488 

 Capped Call Transactions 
 In February 2020, the Company entered into privately negotiated capped call transactions (“Capped Call Transactions”) with certain financial institutions. The Capped Call Transactions cover 4.4 million shares (representing the number of shares for which the Notes are initially convertible) of the Company’s common stock. They are generally expected to reduce potential dilution to the common stock upon any conversion of Notes and/or offset any potential cash payments the Company is required to make in excess of the principal amount of converted Notes, as the case may be, with such reduction and/or offset subject to a cap. The cap price of the Capped Call Transactions is $ 196.44 , subject to adjustment upon the occurrence of specified extraordinary events affecting the Company, including merger events and tender offers. 
 The Capped Call Transactions are accounted for as derivative instruments. The Capped Call Transactions do not qualify for the Company’s own equity scope exception in ASC 815 since, in some cases of early settlement, the settlement value of the Capped Call Transactions, calculated in accordance with the governing documents, may not represent a fair value measurement. The Capped Call Transactions are classified as “other long-term assets” and remeasured to fair value at the end of each reporting period, resulting in a non-operating gain or loss. 
 Change in value of Capped Call Transactions: 
 
 (in thousands) Year Ended
December 31, 2020 
 Value at issuance $ 51,900 
 Fair value adjustment 31,697 
 Balance as of December 31, $ 83,597 

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 Credit facility 
 In November 2019, and as amended as of February 2020, July 2020, and September 2020, the Company entered into a five-year $ 100 million senior secured revolving credit agreement (the “Credit Facility”) with PNC Bank, National Association (“PNC”). The Company may use borrowings to finance working capital needs and for general corporate purposes. Subject to specific conditions, the Credit Facility allows the Company to increase the aggregate commitment to $ 200 million. The commitments expire on November 4, 2024, and any outstanding loans will be payable on such date. The Credit Facility, as amended, contains customary covenants, including, but not limited to, those relating to additional indebtedness, liens, asset divestitures, and affiliate transactions. 
 The Company is also required to comply with financial covenants, including: 
 • Beginning with the fiscal quarter ended on September 30, 2020 and ending with the fiscal quarter ended December 31, 2021, at least $ 200 million in cash and investments held by Pegasystems Inc. 
 • Beginning with the quarter ended on March 31, 2022, a maximum net consolidated leverage ratio of 3.5 to 1.0 (with a step-up in the event of certain acquisitions) and a minimum consolidated interest coverage ratio of 3.5 to 1.0. 
 As of December 31, 2020 and December 31, 2019, the Company had no outstanding borrowings under the Credit Facility. 
 
 11. STOCKHOLDERS’ EQUITY 
 Preferred stock 
 The Company has 1 million authorized shares of preferred stock, $ 0.01 par value per share, of which none were issued and outstanding at December 31, 2020. The Board of Directors has the authority to issue the shares of preferred stock in one or more series, to establish the number of shares to be included in each series, and to determine the designation, powers, preferences, and rights of the shares of each series and the qualifications, limitations, or restrictions thereof, without any further vote or action by the stockholders. The issuance of preferred stock could decrease the earnings and assets available for distribution to holders of common stock and may have the effect of delaying, deferring, or defeating a change in control of the Company. The Company had no t issued any shares of preferred stock through December 31, 2020. 
 Common stock 
 The Company has 200 million authorized shares of common stock, $ 0.01 par value per share, of which 80.9 million shares were issued and outstanding at December 31, 2020. 
 Dividends declared 
 
 2020 2019 2018 
 Dividends declared (per share) $ 0.12 $ 0.12 $ 0.12 
 Dividend payments to stockholders (in thousands) $ 9,628 $ 9,486 $ 9,432 

 The Company’s paid a quarterly cash dividend of $ 0.03 per share in 2020, 2019, and 2018, however, the Board of Directors may terminate or modify the dividend program at any time without prior notice. 
 
 Stock repurchases 
 
 (in thousands) 2020 2019 2018 
 Shares Amount Shares Amount Shares Amount 
 January 1, $ 45,484 $ 6,620 $ 34,892 
 Authorizations (1) 
 $ 20,516 $ 60,000 $ 27,003 
 Repurchases (2) 
 ( 278 ) $ ( 28,274 ) ( 333 ) $ ( 21,136 ) ( 1,001 ) $ ( 55,275 ) 
 December 31, $ 37,726 $ 45,484 $ 6,620 

 (1) On June 15, 2020, the Company announced that the Board of Directors extended the current stock repurchase program’s expiration date to June 30, 2021 and increased the remaining stock repurchase authority to $ 60 million. 
 (2) Purchases under this program have been made on the open market. 
 
 12. FAIR VALUE MEASUREMENTS 
 Assets and liabilities measured at fair value on a recurring basis 
 The Company records its cash equivalents, marketable securities, Capped Call Transactions, and venture investments at fair value on a recurring basis. Fair value is an exit price, representing the amount that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants based on assumptions that market participants would use in pricing an asset or liability. 
 As a basis for classifying the fair value measurements, a three-tier fair value hierarchy, which classifies the fair value measurements based on the inputs used in measuring fair value, was established as follows: 
 • Level 1 - observable inputs such as quoted prices in active markets for identical assets or liabilities; 
 • Level 2 - significant other inputs that are observable either directly or indirectly; and 
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 • Level 3 - significant unobservable inputs on which there is little or no market data, which require the Company to develop its own assumptions. This hierarchy requires the Company to use observable market data, when available, and minimize unobservable inputs when determining fair value. 
 The fair value of the Capped Call Transactions at the end of each reporting period is determined using a Black-Scholes option-pricing model. The valuation models use various market-based inputs, including stock price, remaining contractual term, expected volatility, risk-free interest rate, and expected dividend yield, as applicable. The Company applies judgment in its determination of expected volatility. The Company considers both historical and implied volatility levels of the underlying equity security and, to a lesser extent, historical peer group volatility levels. The Company’s venture investments are recorded at fair value based on valuation methods using the observable transaction price and other unobservable inputs, including the volatility, rights, and obligations of the securities the Company holds. 
 The Company’s assets and liabilities measured at fair value on a recurring basis: 
 
 December 31, 2020 December 31, 2019 
 (in thousands) Level 1 Level 2 Level 3 Total Level 1 Level 2 Level 3 Total 
 Cash equivalents $ 42,339 $ 14,000 $ — $ 56,339 $ — $ — $ — $ — 
 Marketable securities $ — $ 293,269 $ — $ 293,269 $ — $ — $ — $ — 
 Capped Call Transactions (1) (2) 
 $ — $ 83,597 $ — $ 83,597 $ — $ — $ — $ — 
 Venture investments (1) (3) 
 $ — $ — $ 8,345 $ 8,345 $ — $ — $ 4,871 $ 4,871 

 (1) Included in other long-term assets. 
 (2) See "Note 10. Debt" for additional information. 
 (3) Investments in privately-held companies. 
 Change in venture investments: 
 
 (in thousands) 2020 2019 
 January 1, $ 4,871 $ 3,390 
 New investments 3,306 1,444 
 Sales of investments ( 1,424 ) — 
 Changes in foreign exchange rates 118 37 
 Fair value adjustment 1,474 — 
 December 31, $ 8,345 $ 4,871 

 
 
 The carrying value of certain other financial instruments, including receivables and accounts payable, approximates fair value due to these items’ relatively short maturity. 
 Fair value of the Notes 
 The fair value of the Company’s Notes was recorded at $ 515.9 million upon issuance, which reflected the principal amount of the Notes less the fair value of the conversion feature. The fair value of the debt component was determined based on a discounted cash flow model. The discount rate used reflected both the time value of money and credit risk inherent in the Notes. The carrying value of the Notes will be accreted, over the remaining term to maturity, to their principal value of $ 600 million. 
 The Notes’ fair value (inclusive of the conversion feature embedded in the Notes) was $ 706.5 million as of December 31, 2020. The fair value was determined based on the Notes’ quoted price in an over-the-counter market on the last trading day of the reporting period and classified within Level 2 in the fair value hierarchy. See "Note 10. Debt" for additional information. 
 Credit risk 
 In addition to receivables, the Company is potentially subject to concentrations of credit risk from the Company’s cash, cash equivalents, and marketable securities. The Company’s cash and cash equivalents are generally held with large, diverse financial institutions worldwide to reduce the Company’s credit risk exposure. Investment policies have been implemented that limit purchases of marketable debt securities to investment-grade securities. 
 
 13. REVENUE 
 Geographic revenue 
 
 (Dollars in thousands) 2020 2019 2018 
 U.S. $ 613,844 61 % $ 525,191 57 % $ 469,987 52 % 
 Other Americas 49,441 5 % 60,536 7 % 53,239 6 % 
 United Kingdom (“U.K.”) 91,517 9 % 87,382 10 % 95,628 11 % 
 Europe (excluding U.K.), Middle East, and Africa 156,056 15 % 137,946 15 % 147,248 17 % 
 Asia-Pacific 106,659 10 % 100,328 11 % 125,479 14 % 
 $ 1,017,517 100 % $ 911,383 100 % $ 891,581 100 % 

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 Revenue streams 
 
 (in thousands) 2020 2019 2018 
 Perpetual license $ 28,558 $ 80,015 $ 109,863 
 Term license 266,352 199,433 178,256 
 Revenue recognized at a point in time 294,910 279,448 288,119 
 Maintenance 296,709 280,580 263,875 
 Pega Cloud 208,268 133,746 82,627 
 Consulting 217,630 217,609 256,960 
 Revenue recognized over time 722,607 631,935 603,462 
 $ 1,017,517 $ 911,383 $ 891,581 

 
 
 
 (in thousands) 2020 2019 2018 
 Pega Cloud 208,268 133,746 82,627 
 Maintenance 296,709 280,580 263,875 
 Term license $ 266,352 $ 199,433 $ 178,256 
 Subscription (1) 
 771,329 613,759 524,758 
 Perpetual license 28,558 80,015 109,863 
 Consulting 217,630 217,609 256,960 
 Total revenue $ 1,017,517 $ 911,383 $ 891,581 

 (1) Reflects client arrangements subject to renewal (Pega Cloud, maintenance, and term license). 
 Remaining performance obligations ("Backlog") 
 Expected future revenue on existing contracts: 
 
 December 31, 2020 
 (Dollars in thousands) Perpetual license Term license Maintenance Pega Cloud Consulting Total 
 1 year or less $ 11,514 $ 105,920 $ 227,803 $ 248,223 $ 19,226 $ 612,686 57 % 
 1-2 years 395 7,962 54,509 193,064 346 256,276 24 % 
 2-3 years — 4,928 28,320 104,542 851 138,641 13 % 
 Greater than 3 years — 4 19,283 44,308 1,189 64,784 6 % 
 $ 11,909 $ 118,814 $ 329,915 $ 590,137 $ 21,612 $ 1,072,387 100 % 

 
 
 
 December 31, 2019 
 (Dollars in thousands) Perpetual license Term license Maintenance Pega Cloud Consulting Total 
 1 year or less $ 2,305 $ 97,826 $ 206,882 $ 165,571 $ 20,798 $ 493,382 58 % 
 1-2 years 2,179 12,014 30,291 128,109 1,439 174,032 21 % 
 2-3 years — 3,132 17,844 84,788 132 105,896 13 % 
 Greater than 3 years — 3,861 13,277 43,702 1,993 62,833 8 % 
 $ 4,484 $ 116,833 $ 268,294 $ 422,170 $ 24,362 $ 836,143 100 % 

 
 
 
 14. STOCK-BASED COMPENSATION 
 The following table presents the stock-based compensation expense included in the Company’s consolidated statements of operations: 
 
 (in thousands) 2020 2019 2018 
 Cost of revenue $ 20,796 $ 18,822 $ 16,862 
 Selling and marketing 46,283 32,665 23,237 
 Research and development 22,885 18,938 15,274 
 General and administrative 13,104 10,484 8,489 
 $ 103,068 $ 80,909 $ 63,862 
 Income tax benefit $ ( 20,464 ) $ ( 16,392 ) $ ( 13,383 ) 

 The Company periodically grants stock options and restricted stock units (“RSUs”) for a fixed number of shares upon vesting to employees and non-employee Directors. Beginning in 2019, the Company granted Directors awards in the form of common stock and stock options. 
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 Most of the Company’s stock-based compensation arrangements vest over five years , with 20 % vesting after one year and the remaining 80 % vesting in equal quarterly installments over the remaining four years . The Company’s stock options have a term of ten years . The Company recognizes stock-based compensation using the accelerated attribution method, treating each vesting tranche as if it were an individual grant. The stock-based compensation expense recognized during a period is based on the value of the awards that are ultimately expected to vest. Forfeitures are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Ultimately, the Company recognizes the actual expense over the vesting period only for the shares that vest. 
 Employees may elect to receive 50 % of the employee’s target incentive compensation under the Company’s Corporate Incentive Compensation Plan (the “CICP”) in the form of RSUs instead of cash. If elected by an employee, the equity amount is equal in value on the date of grant to 50 % of the employee’s target incentive opportunity, based on the employee’s base salary. The number of RSUs granted is determined by dividing 50 % of the employee’s target incentive opportunity by 85 % of the closing price of the Company’s common stock on the grant date, less the present value of expected dividends during the vesting period. If elected, the award vests 100 % on the following year’s CICP payout date. Vesting is conditioned upon the performance conditions of the CICP and on continued employment; if threshold funding does not occur, the RSUs will not vest. The Company considers vesting to be probable on the grant date and recognizes the associated stock-based compensation expense over the requisite service period beginning on the grant date and ending on the vesting date. 
 The Company grants awards that allow for the settlement of vested stock options and RSUs on a net share basis (“net settled awards”). With net settled awards, the employee does not surrender any cash or shares upon exercise. Instead, the Company withholds the number of shares to cover the exercise price (in the case of stock options) and the minimum statutory tax withholding obligations (in the case of stock options and RSUs) from the shares that would otherwise be issued upon exercise or settlement. The exercise of stock options and settlement of RSUs on a net share basis results in fewer shares issued by the Company. 
 Share-based compensation plans 
 2004 Long-Term Incentive Plan (as amended and restated) 
 In 2004, the Company adopted the 2004 Long-Term Incentive Plan (as amended and restated, the “2004 Plan”) to provide employees, non-employee Directors, and consultants with opportunities to purchase stock through incentive stock options and non-qualified stock options. Subsequent amendments to the plan increased the number of shares authorized for issuance under the plan to 36 million, extended the term of the plan to 2030, and limited annual compensation to any non-employee Director to $ 0.5 million. 
 As of December 31, 2020, 9.9 million shares were subject to outstanding options and stock-based awards under the 2004 Plan. 
 2006 Employee Stock Purchase Plan 
 In 2006, the Company adopted the 2006 Employee Stock Purchase Plan (the “2006 ESPP”) under which the Company’s employees are entitled to purchase up to an aggregate of one million shares of common stock, at a price equal to at least 85 % of the fair market value of the Company’s common stock on the lesser of the commencement date or completion date for offerings under the plan, or such higher price as the Company’s Board of Directors may establish from time to time. Until the Company’s Board of Directors determines otherwise, the Board has set the purchase price at 95 % of the fair market value on the completion date of the offering period. As a result, the 2006 ESPP is non-compensatory and is tax-qualified. Therefore, as of December 31, 2020, no compensation expense related to the plan had been recognized. In October 2012, the Company’s Board of Directors amended the term of the 2006 ESPP such that it will continue until there are no shares remaining under the plan or until the plan is terminated by the Board of Directors, whichever occurs first. 
 As of December 31, 2020, 0.5 million shares had been issued thereunder. 
 Shares issued and available for issuance 
 During 2020, the Company issued 1.6 million shares to its employees and directors under the Company’s share-based compensation plans. 
 As of December 31, 2020, there were 11.1 million shares available for issuance for future equity grants under the Company’s stock plans, consisting of 10.6 million shares under the 2004 Plan and 0.5 million shares under the 2006 ESPP. 
 Grant activity 
 Stock options 
 The Company estimates the fair value of stock options using a Black-Scholes option-pricing model. Key inputs used to estimate the fair value of stock options include the exercise price of the award, expected term of the option, expected volatility of the Company’s common stock over the option’s expected term, risk-free interest rate over the option’s expected term, and the Company’s expected annual dividend yield. The exercise price for stock options is greater than or equal to the shares’ fair market value at the grant date. 
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 The following table summarizes the Company’s fair value assumptions for stock options: 
 
 2020 2019 2018 
 Weighted-average grant-date fair value $ 24.16 $ 19.10 $ 18.03 
 Assumptions used in the Black-Scholes option-pricing model: 
 Expected annual volatility (1) 
 31 % 32 % 34 % 
 Expected term in years (2) 
 4.5 4.5 4.5 
 Risk-free interest rate (3) 
 0.7 % 2.4 % 2.6 % 
 Expected annual dividend yield (4) 
 0.2 % 0.3 % 0.4 % 

 (1) The expected annual volatility for each grant is determined based on the average of historic daily price changes of the Company’s common stock over a period, which approximates the expected option term. 
 (2) The expected option term for each grant is determined based on the historical exercise behavior of employees and post-vesting employment termination behavior. 
 (3) The risk-free interest rate is based on the yield of U.S. Treasury securities with a commensurate maturity with the expected option term at the time of grant. 
 (4) The expected annual dividend yield is based on the weighted-average dividend yield assumptions used for options granted during the applicable period. 
 The following table summarizes the combined stock option activity under the Company’s stock option plans for 2020: 
 
 Shares 
(in thousands) Weighted-average Exercise Price Weighted-average Remaining Contractual Term (in years) Aggregate Intrinsic Value 
(in thousands) 
 Options outstanding as of January 1, 2020 7,436 $ 44.76 
 Granted 2,018 92.81 
 Exercised ( 1,777 ) 33.52 
 Forfeited ( 286 ) 62.86 
 Options outstanding as of December 31, 2020 7,391 $ 59.88 
 Vested and expected to vest as of December 31, 2020 6,225 $ 57.85 7.1 $ 469,374 
 Exercisable as of December 31, 2020 2,935 $ 38.73 5.6 $ 277,450 

 The aggregate intrinsic value of stock options exercised (i.e., the difference between the market price at exercise and the price paid by the employee at exercise) in 2020, 2019, and 2018 was $ 126.8 million, $ 63.3 million, and $ 56.8 million, respectively. The aggregate intrinsic value of stock options outstanding and exercisable as of December 31, 2020 is based on the difference between the closing price of the Company’s stock of $ 133.26 and the exercise price of the applicable stock options. 
 As of December 31, 2020, the Company had unrecognized stock-based compensation expense related to the unvested portion of stock options of $ 35.9 million that is expected to be recognized as expense over a weighted-average period of 2.3 years. 
 RSUs 
 RSUs deliver to the recipient a right to receive a specified number of shares of the Company’s common stock upon vesting. The Company values its RSUs at the fair value of its common stock on the grant date, which is the closing price of its common stock on the grant date less the present value of expected dividends during the vesting period, as the recipient is not entitled to dividends during the requisite service period. 
 The weighted-average grant-date fair value for RSUs granted in 2020, 2019, and 2018 was $ 93.68 , $ 66.21 , and $ 58.52 , respectively. 
 The following table summarizes the combined RSU activity for all grants, including the CICP, under the 2004 Plan for 2020: 
 
 Shares 
(in thousands) Weighted- Average Grant-Date 
Fair Value Aggregate Intrinsic Value 
(in thousands) 
 Nonvested as of January 1, 2020 2,565 $ 55.61 
 Granted 1,168 93.68 
 Vested ( 1,059 ) 51.11 
 Forfeited ( 212 ) 65.17 
 Nonvested as of December 31, 2020 2,462 $ 74.78 $ 328,023 
 Expected to vest as of December 31, 2020 1,841 $ 76.05 $ 245,339 

 The fair value of RSUs vested in 2020, 2019, and 2018 was $ 108.4 million, $ 77.0 million, and $ 66.5 million, respectively. The aggregate intrinsic value of RSUs outstanding and expected to vest as of December 31, 2020 is based on the closing price of the Company’s stock of $ 133.26 on December 31, 2020. 
 As of December 31, 2020, the Company had $ 68.6 million of unrecognized stock-based compensation expense related to all unvested RSUs that is expected to be recognized as expense over a weighted-average period of 2.1 years. 
 Common stock 
 In 2020, the Company granted 0.01 million shares of common stock to Directors with a weighted-average grant-date fair value of $ 117.47 per share. 
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 15. EMPLOYEE BENEFIT PLANS 
 The Company sponsors defined contribution plans for qualifying employees, including a 401(k) plan in the United States to which the Company makes discretionary matching contributions. 
 The following expenses related to defined contribution plans were recorded in the Company’s consolidated statements of operations: 
 
 (in thousands) 2020 2019 2018 
 U.S. 401(k) Plan $ 8,109 $ 6,676 $ 5,506 
 International plans 16,132 13,021 11,101 
 $ 24,241 $ 19,697 $ 16,607 

 
 
 
 16. INCOME TAXES 
 The components of (loss) before (benefit from) income taxes are: 
 
 (in thousands) 2020 2019 2018 
 Domestic $ ( 59,281 ) $ ( 51,396 ) $ ( 27,494 ) 
 Foreign ( 65,608 ) ( 83,450 ) 15,951 
 $ ( 124,889 ) $ ( 134,846 ) $ ( 11,543 ) 

 The components of (benefit from) income taxes are: 
 
 (in thousands) 2020 2019 2018 
 Current: 
 Federal $ ( 11,251 ) $ 1,050 $ ( 1,862 ) 
 State 399 405 287 
 Foreign 7,113 3,449 10,313 
 Total current (benefit from) provision for ( 3,739 ) 4,904 8,738 
 Deferred: 
 Federal ( 34,573 ) ( 25,356 ) ( 18,939 ) 
 State ( 8,119 ) ( 5,143 ) ( 3,702 ) 
 Foreign ( 17,085 ) ( 18,818 ) ( 8,257 ) 
 Total deferred (benefit) ( 59,777 ) ( 49,317 ) ( 30,898 ) 
 $ ( 63,516 ) $ ( 44,413 ) $ ( 22,160 ) 

 A reconciliation of the U.S federal statutory tax rate and the Company’s effective tax rate, is as follows: 
 
 (in thousands) 2020 2019 2018 
 U.S. federal income taxes at statutory rates $ ( 26,227 ) $ ( 28,318 ) $ ( 2,424 ) 
 Valuation allowance ( 5,881 ) 727 510 
 State income taxes, net of federal benefit and tax credits ( 6,994 ) ( 4,450 ) ( 3,329 ) 
 Permanent differences 1,773 2,606 1,302 
 GILTI, FDII, and BEAT (1) 
 — — 399 
 Federal research and experimentation credits ( 5,716 ) ( 4,295 ) ( 6,991 ) 
 Tax effects of foreign activities 3,050 3,056 ( 399 ) 
 Tax-exempt income — ( 91 ) ( 137 ) 
 Provision to return adjustments 3,416 ( 5,460 ) 253 
 Non-deductible compensation 1,806 1,716 1,025 
 Expiration of statutes and changes in estimates 55 2,420 ( 516 ) 
 Excess tax benefits related to share-based compensation ( 25,797 ) ( 14,291 ) ( 13,541 ) 
 Cares Act ( 10,576 ) — — 
 Impact of change in tax law 7,489 1,908 1,636 
 Other 86 59 52 
 $ ( 63,516 ) $ ( 44,413 ) $ ( 22,160 ) 

 (1) Global Intangible Low Taxed Income (“GILTI”), Foreign-Derived Intangible Income (“FDII”), and Base Erosion and Anti-abuse Tax (“BEAT”) 
 57 

 
 

 Cares Act 
 On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (“Cares Act”) was enacted to address the economic impact of the COVID-19 pandemic in the United States. Among other things, the Cares Act allows a five-year carryback period for tax losses generated in 2019 through 2021. 
 The Company carried back net operating losses generated in 2019, resulting in an income tax benefit of $ 5.7 million. The $ 5.7 million income tax benefit represents the Federal rate differential between 35% and 21%. In addition, the Company applied the carryback provisions of the Cares Act to its net operating losses generated in 2020, which resulted in the reclassification of $ 4.8 million net operating losses from a deferred income tax asset to refundable income taxes. The Company does not expect the other income tax provisions of the Cares Act to have a material impact on its financial statements. 
 Deferred income taxes 
 Significant components of net deferred tax assets and liabilities are: 
 
 December 31, 
 (in thousands) 2020 2019 
 Deferred tax assets: 
 Net operating loss carryforwards $ 88,129 $ 70,960 
 Accruals and reserves 26,309 24,902 
 Interest expense carryforward 3,464 — 
 Depreciation 4,795 2,493 
 Tax credit carryforwards 31,556 15,307 
 Other 370 199 
 Total deferred tax assets 154,623 113,861 
 Valuation allowances ( 23,409 ) ( 28,007 ) 
 Total net deferred tax assets 131,214 85,854 
 Deferred tax liabilities: 
 Capped call transactions ( 20,858 ) — 
 Convertible senior notes ( 6,473 ) — 
 Software revenue ( 11,477 ) ( 23,859 ) 
 Intangibles ( 4,338 ) ( 6,103 ) 
 Total deferred tax liabilities ( 43,146 ) ( 29,962 ) 
 $ 88,068 $ 55,892 

 The Company regularly assesses the need for a valuation allowance against its deferred tax assets. In making that assessment, the Company considers both positive and negative evidence related to the likelihood of realizing the deferred tax assets to determine, based on the weight of available evidence, whether it is more-likely-than-not that some or all of the deferred tax assets will not be realized. This determination requires significant judgment, including assumptions about future taxable income based on historical and projected information. In 2020, the change in valuation allowances was primarily due to the expiration of $ 5.9 million in acquisition-related net operating losses. There were no material changes in valuation allowances in 2019. 
 As of December 31, 2020, the Company’s net operating losses and credit carryforwards are: 
 
 (in thousands) 
 Federal State 
 Net operating losses (1) 
 $ 124,115 $ 9,149 
 Net operating losses due to acquisitions (1) 
 $ 76,826 $ 1,466 
 Credit carryforwards (2) 
 $ 24,372 $ 1,895 
 Credit carryforwards due to acquisitions $ 640 $ 60 

 (1) Excludes federal and state net operating losses of $ 29.5 million and $ 0.8 million, respectively, from prior acquisitions that the Company expects will expire unutilized. 
 (2) Excludes federal and state tax credits of $ 0.1 million and $ 9.0 million, respectively, that the Company expects will expire unutilized. 
 Carryforward losses and credits expire between 2021 and 2038, except for the 2020 federal net operating loss of $ 47.3 million and $ 1.2 million of state credits, which both have unlimited carryforward periods. 
 The Company’s India subsidiary is primarily located in Special Economic Zones (“SEZs”) and is entitled to a tax holiday in India. The tax holiday reduces or eliminates income tax in India. The tax holiday in the Hyderabad SEZ is scheduled to expire in 2024. The tax holiday in the Bangalore SEZ is scheduled to expire in 2022. For 2020, 2019, and 2018, the income tax holiday reduced the Company’s provision for income taxes by $ 1.7 million, $ 1.9 million, and $ 1.3 million, respectively. 
 58 

 
 

 Uncertain tax benefits 
 A rollforward of the Company’s gross unrecognized tax benefits is: 
 
 (in thousands) 
 2020 2019 2018 
 Balance as of January 1, 
 $ 23,271 $ 18,157 $ 19,150 
 Additions for tax positions related to the current year 653 510 978 
 Additions for tax positions of prior years 962 4,917 174 
 Reductions for tax positions of prior years ( 1,085 ) ( 313 ) ( 2,145 ) 
 
 
 
 Balance as of December 31, 
 $ 23,801 $ 23,271 $ 18,157 

 As of December 31, 2020, the Company had $ 23.8 million of total unrecognized tax benefits, which would decrease the Company’s effective tax rate if recognized. 
 As of December 31, 2020 and December 31, 2019, the Company’s income tax receivable was $ 44.1 million and $ 25.9 million, respectively. 
 Tax examinations 
 The Company files federal and state income tax returns in the U.S. and in various foreign jurisdictions. In the ordinary course of business, the Company and its subsidiaries are examined by various tax authorities, including the Internal Revenue Service in the U.S. As of December 31, 2020, the Company’s U.S. federal tax returns for the years 2014 through 2017 were under examination by the Internal Revenue Service. In addition, certain foreign jurisdictions are auditing the Company’s income tax returns for periods ranging from 2010 through 2018. The Company does not expect the results of these audits to have a material effect on the Company’s financial condition, results of operations, or cash flows. With few exceptions, the statute of limitations remains open in all jurisdictions for the tax years 2014 to the present. 
 
 17. (LOSS) EARNINGS PER SHARE 
 Basic earnings per share is calculated using the weighted-average number of common shares outstanding during the applicable period. Diluted earnings per share is calculated using the weighted-average number of common shares outstanding during the applicable period, plus the dilutive effect of outstanding stock options and RSUs, using the treasury stock method. In periods of loss, all stock options and RSUs are excluded from the weighted-average number of common shares, as their inclusion would be anti-dilutive. 
 
 (in thousands, except per share amounts) 2020 2019 2018 
 Net (loss) income $ ( 61,373 ) $ ( 90,433 ) $ 10,617 
 Weighted-average common shares outstanding 80,336 79,055 78,564 
 (Loss) earnings per share, basic $ ( 0.76 ) $ ( 1.14 ) $ 0.14 
 
 Net (loss) income $ ( 61,373 ) $ ( 90,433 ) $ 10,617 
 Stock options — — 2,891 
 RSUs — — 1,609 
 Effect of dilutive securities — — 4,500 
 Weighted-average common shares outstanding, assuming dilution 80,336 79,055 83,064 
 (Loss) earnings per share, diluted $ ( 0.76 ) $ ( 1.14 ) $ 0.13 
 
 Outstanding anti-dilutive stock options and RSUs (1) 
 6,278 5,911 188 

 (1) Certain outstanding stock options and RSUs were excluded from the computation of diluted earnings per share because they were anti-dilutive in the period presented. These awards may be dilutive in the future. 
 
 18. COMMITMENTS AND CONTINGENCIES 
 Commitments 
 See "Note 9. Leases" for additional information. 
 Contingencies 
 The Company is a party in various contractual disputes, litigation, and potential claims arising in the ordinary course of business. The Company does not believe that the resolution of these matters will have a material adverse effect on its financial position or results of operations. 
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 19. SUBSEQUENT EVENTS 
 Relocation of Corporate Headquarters 
 On February 12, 2021, the Company executed the Lease Termination Agreement with Charles Park Owner LLC to accelerate the lease termination date for the Company’s corporate headquarters in Cambridge, Massachusetts to October 1, 2021. Under the terms of the Lease Termination Agreement, the Company will receive a payment of $ 18 million. The Company is obligated to make rent payments outlined in the existing lease agreements until October 1, 2021, the new lease termination date. 
 Qurious.io acquisition 
 In January 2021, the Company acquired Qurious.io, Inc., a cloud-based real time speech analytics solution for customer service teams. The acquisition was immaterial. 
 
 
 
 
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 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE 
 None.
PEGASYSTEMS INC 10-K

Item 8. Financial Statements and Supplementary Data
