PEGASYSTEMS INC 10-K

ITEM 1. BUSINESS Our Business We develop, market, license, host, and support enterprise software that helps organizations simplify business complexity. Our powerful low-code platform for workflow automation and AI-powered decisioning enables the world’s leading brands and government agencies to hyper-personalize customer experiences, streamline customer service, and automate mission-critical business processes and workflows. With Pega, our clients can leverage our intelligent technology and scalable architecture to accelerate their digital transformation. Our client success teams, world-class partners, and clients themselves leverage our Pega Express™ methodology to design and deploy mission-critical applications quickly and collaboratively. To grow our business, we intend to: • increase market share by developing and delivering a low-code platform for workflow automation and AI-powered decisioning for buyers in marketing, sales, service, operations, and IT that can work together seamlessly with maximum competitive differentiation; • deepen and expand our relationships with existing clients; • establish relationships with new clients; and • continue to scale our marketing efforts to support the way today’s buyers discover, evaluate, and choose products and services. Whether we are successful depends, in part, on our ability to: • execute our marketing and sales strategies; • appropriately manage our expenses as we grow our organization; • effectively develop new products and enhance our existing products; and • incorporate acquired technologies into our solutions and unified Pega Platform. Subscription transition We are transitioning our business to sell software primarily through subscription arrangements. Until we fully complete our subscription transition, which we expect will occur in 2023, our revenue and operating cash flow growth may be impacted. Operating performance and the actual mix of revenue and new arrangements in each period can fluctuate based on client preferences for our perpetual and subscription offerings. See risk factor "If we fail to manage our transition to a more subscription-based business model successfully, our results of operations and/or cash flows could be negatively impacted" in Item 1A of this Annual Report for additional information. Our Products Pega Infinity™, the latest version of our software portfolio, helps connect enterprises to their customers in real-time across channels, streamline business operations, and adapt to meet changing requirements. 4 Our applications and platform intersect with and encompass several software markets, including: • Customer Engagement, including Customer Relationship Management (“CRM”); • Digital Process Automation (“DPA”), including Business Process Management (“BPM”), Workflow, and Dynamic Case Management (“DCM”); • Low-code application development platforms (“LCAP”), including Multi-experience Development Platforms (“MXDP”); • Robotic Process Automation (“RPA”); • Business Rules Management Systems (“BRMS”); • Decision Management, including predictive and adaptive analytics; and • the Vertical-Specific Software (“VSS”) market of industry solutions and packaged applications. 1:1 Customer Engagement Our omnichannel customer engagement applications are designed to maximize the lifetime value of customers and help reduce the costs of serving customers while ensuring a consistent, unified, and personalized customer experience. At the center of our customer engagement applications is the Pega Customer Decision Hub™, our real-time, AI-powered decision engine, which can predict a customer’s behavior and recommend the “next best action” to take across channels in real-time. It is designed to enable enterprises to improve customer acquisition and experience across inbound, outbound, and paid media channels. It incorporates Artificial Intelligence (“AI”) in the form of predictive and machine-learning analytics, as well as business rules, and executes these decisions in real-time to evaluate the context of each customer interaction and dynamically deliver the most relevant action, offer, content, and channel. Customer Service The Pega Customer Service™ application simplifies customer service. It is designed to anticipate customer needs, connect customers to the right people and systems, automate or intelligently guide customer interactions, rapidly and continuously evolve the customer service experience, and allow enterprises to deliver consistent interactions across channels and improve employee productivity. The application consists of a contact center desktop, case management for customer service, chat, knowledge management, mobile field service, omnichannel self-service, AI-powered virtual assistants, and industry-specific processes (“Microjourney™”) and data models. For clients who want to extend intelligence and automation into the early stages of the customer journey, Pega Sales Automation™ automates and manages the entire sales process, from prospecting to product fulfillment. It allows enterprises to capture best practices and leverage AI to guide sales teams through the sales and customer onboarding processes. Intelligent Automation Pega Platform, our software for Intelligent Automation, boosts the efficiency of our clients’ processes and workflows. This technology allows organizations to take an end-to-end approach to transformation by using intelligence and design thinking to streamline processes and create better experiences for their customers and employees. Intelligent automation goes beyond traditional Business Process Management (BPM) to unify technologies such as Robotic Process Automation (“RPA”) and AI and enable organization-wide digital transformation. With its Intelligent Automation capabilities, the Pega Platform allows clients to break down silos, improve customer-centricity, add agility to legacy technology, and provide end-to-end automation to support the needs of customers and employees. Our Capabilities We drive better business outcomes for our clients in three ways: • 1:1 Customer Engagement : we enable clients to hyper-personalize interactions with their customers using our AI-powered decision engine, resulting in higher customer lifetime value. • Customer Service : we enable clients to streamline customer service and deliver better service experiences for their customers and employees, resulting in higher customer satisfaction and loyalty and reduced cost. • Intelligent Automation : we enable clients to automate mission-critical workflows, resulting in improved operational efficiency, faster time to value, and lower cost. We deliver our solution through our Center-out Business™ Architecture ® , enabling clients to transcend channels and internal data silos to achieve quick wins and long-term transformation. This approach insulates business logic from back-end and front-end complexity, delivering consistent experiences to customers and agility to the business. The key aspects of this architecture are: Centrally-managed intelligence Pega’s centrally-managed intelligence ensures AI and business rules operate across all channels. Applications built on Pega’s low-code Platform leverage predictive and adaptive analytics to deliver personalized customer experiences and maximize business objectives. For example, Pega Customer Decision Hub, a centralized, always-on “customer brain,” unleashes the power of predictive analytics, machine learning, and real-time decisioning across our clients’ data, systems, and touchpoints - orchestrating engagement across customer interaction channels. 5 End-to-end automation aligned with business outcomes We combine human-assisted robotic desktop automation and unattended robotic process automation with our unified workflow and case management capabilities. This combination provides our platform and applications the differentiated ability to automate customer-facing and back office operational processes from “end to end,” connecting across organizational and system silos to connect customers and employees to outcomes seamlessly and easily. Consistent omnichannel experiences With centrally defined business and process logic, Pega provides dynamic, open APIs to keep front-end channels and business logic aligned for consistent customer experiences. By leveraging innovative user interface (UI) technology, Pega-powered processes and decisions can be easily embedded into existing front-ends or used as the basis for new employee-facing applications. Insulation of back-end complexity Pega’s architecture insulates case and decision logic from the complexity of back-end systems. Our data virtualization automatically pulls in needed data in a common structure, regardless of source. This capability gives clients the agility to build new experiences on existing systems, modernizing legacy systems without breaking existing processes. A layered approach to managing variation Pega’s Situational Layer Cake organizes logic into layers that map to the unique dimensions of a client’s business – customer types, lines of business, geographies, etc. This layered approach lets organizations manage variations of their businesses without duplicating logic. This capability allows initial deployments into a single department or region to seamlessly scale to manage the complexity of a global, multi-line enterprise. In addition to our Center-out Business Architecture, Pega technology has been designed to be deployed rapidly, be changed easily, and scale across changing architecture needs. Pega Express™ Methodology and low-code Our solutions are designed to quickly improve targeted customer outcomes with out-of-the-box functionality that connects enterprise data and systems to customer experience channels. From there, organizations can scale one customer experience at a time to realize greater value while delivering increasingly consistent and personalized customer experiences. We prescribe a “Microjourney” approach to delivery that breaks customer journeys into discrete processes that drive meaningful outcomes, such as “inquiring about a bill” or “updating an insurance policy,” allowing us to combine design-thinking and out-of-the-box functionality to deliver rapid results and ensure the ability to enhance applications in the future. Our approach leverages low-code to improve business and IT collaboration and bypass the error-prone and time-consuming process of manually translating requirements into code. Users design software in low-code visual models that reflect the needs of the business. The software application is created and optimized automatically and directly from the model, helping to close the costly gap between vision and execution. Changes to the code are made by altering the model, and application documentation is generated directly from the model. Cloud choice Pega Cloud ® allows clients to develop, test, and deploy, on an accelerated basis, our applications and the Pega Platform using a secure, flexible internet-based infrastructure, minimizing cost while focusing on core revenue-generating competencies. Clients can also manage the Pega deployment themselves using the cloud architecture they prefer. This multi-cloud approach of both Pega Cloud and client-managed cloud gives our clients the ability to select and change, as needed, the best cloud architecture for the security, data access, speed-to-market, and budget requirements of each application they deploy. Our Services and Support We offer services and support through our Global Client Success, Global Service Assurance, Global Client Support, and Pega Academy ™ groups. We also use third-party contractors to assist us in providing these services. • Global Client Success – Global Client Success guides our clients to maximize their investment in our technology and realize the business outcomes they are targeting. Within Global Client Success, our Client Innovation team helps clients transform and prototype their customer journeys through our Pega Catalyst™ offering, our Success team ensures our clients receive the maximum business value from their Pega investments, and our Pega Consulting team provides planning, design, implementation, and advisory and assurance services. • Global Service Assurance – Global Service Assurance addresses risks to client success because of technical concerns. By providing technical staff dedicated to client success, we reduce the time to resolve technical issues, eliminate lengthy deliberations of technical resource logistics, and increase clients’ confidence in our technology and client service. • Global Client Support – Global Client Support provides technical support for our products and Pega Cloud services. Support services include cloud service reliability management, online support community management, self-service knowledge, proactive problem prevention through information and knowledge sharing, problem tracking, prioritization, escalation, diagnosis, and resolution. 6 • Pega Academy – The success of our sales strategy for repeat sales to target clients depends on enablement and ecosystem engagement. We have increased our ability to train partners and clients to implement our technology and made it easier for individuals to stay current as it evolves. We offer instructor-led and online training to our employees, clients, and partners. We have also partnered with universities to provide our courseware as part of student curriculum to expand our ecosystem. Engagement is an important part of our strategy to create a broad ecosystem passionate about Pega technology. Our Partners We collaborate with global systems integrators and technology consulting firms that provide consulting services to our clients, as well as Independent Software Vendors (“ISVs”) and technology partners that extend clients’ investments with integrated solutions . In addition, Authorized Training Partners (“ATPs”) support Pega customers in local languages, while our Workforce Development Partners let clients outsource their recruiting . Strategic partnerships with these firms are important to our sales efforts because they influence buying decisions, identify sales opportunities, and complement our software with their domain expertise, solutions, and services capabilities. These partners may deliver strategic business planning, consulting, project management, training, and implementation services to our clients. Our partners include well-respected major firms, such as Accenture PLC, Amazon.com, Inc., Capgemini SA, Coforge, Cognizant Technology Solutions Corporation, EY, HCL Infosys, Merkle, PwC, Tata Consultancy Services Limited, Tech Mahindra Limited, Virtusa Corporation, and Wipro Limited. Our Markets Target Clients Our target clients are Global 3000 organizations and government agencies that require solutions to distinguish themselves in the markets they serve. Our solutions achieve and facilitate differentiation by increasing business agility, driving growth, improving productivity, attracting and retaining customers, and reducing risk. Along with our partners, we deliver solutions tailored to our clients’ specific industry needs. Our clients represent many industries, including: • Financial services – Financial services organizations rely on software to market, onboard, cross-sell, retain, and service their customers, as well as automate the operations that support these customer interactions. Our intelligent automation, customer service, account onboarding, Know Your Customer (“KYC”), payment dispute and exception management, collections, and next best action solutions allow clients to improve the efficiency of their operations and provide better service to their customers. • Communications and media – Communications and media organizations need to address high levels of customer churn, growing pressure to increase revenue, and an ability to respond quickly to changing market conditions. Our solutions enable organizations to reshape how they engage with customers and increase customer lifetime value throughout the customer lifecycle by delivering personalized customer experiences and intelligent workflows. Our solutions are designed to solve the most critical business issues, including increasing cross-sell/upsell, improving customer service effectiveness, and automating work. • Government – Government agencies need to modernize legacy systems and processes to meet the growing demands for improved constituent service, lower costs, reduced fraud, and greater transparency. Our solutions deliver advanced capabilities to help streamline operations and optimize service delivery through an agile, low-risk approach. • Life sciences and healthcare – Life sciences and healthcare organizations are looking for solutions to improve patient and clinician engagement, as well as deliver personalized products, services, and care while reducing costs, automating processes, increasing operational efficiency, and integrating front and back-offices. Our customer engagement and intelligent automation solutions allow life science organizations to accelerate the research and development and product launch process, digitize clinical trials, transform operations, and provide regulatory transparency. Our solutions allow healthcare clients to address the sales, service, care, operational, financial, administrative, regulatory requirements of healthcare consumerism, reform, and transformation to healthcare services organizations. • Insurance – Insurance companies, whether competing globally or nationally, need software to automate policyholder acquisition, cross-sell/upsell, underwriting, claims, policy service, and retention activities across operations and distribution channels. Insurers are also becoming increasingly sensitive to improving customer service and overall customer experience. Our solutions for insurance carriers are designed to help increase business value by delivering customer-focused experiences and personalized interactions that help drive higher sales, lower expense ratios, and mitigate risk. • Consumer services – Consumer services organizations provide services to a range of consumers in industries such as transportation, utilities, internet providers, retail, hospitality, and entertainment. Our 1:1 customer engagement, customer service, and intelligent automation solutions help these organizations personalize their customer engagement and automate work to drive revenue through cross-sell/upsell and increase service efficiency while increasing customer satisfaction. • Manufacturing and high tech – Manufacturers streamline their complex global operations and create more value for their customers, dealers, distributors, and suppliers while directly managing the performance, uptime, and impact of their connected products, equipment, and experiences. Our manufacturing solutions reduce the complexity of enterprise operations in domains like supply chain, order management, quality management, shared services, customer service, and aftermarket services, including warranty management and captive finance, while minimizing the constraints on digital transformation caused by legacy systems. 7 Competition The markets for our offerings are intensely competitive, rapidly changing, and highly fragmented as current competitors expand their product offerings and new companies enter the market. We compete in the CRM, including marketing, sales, and customer service, and DPA, including BPM, case management, decision management, robotic automation, co-browsing, social engagement, and mobile application development platform software markets, as well as in markets for the vertical applications we provide (e.g., Pega Know Your Customer TM for Financial Services, Pega Care Management™). We also compete with clients’ internal information systems departments that seek to modify their existing systems or develop their own proprietary systems and professional service organizations that develop their own products or create custom software in conjunction with rendering consulting services. Competitors vary in size, scope, and breadth of the products and services they offer and include some of the world’s largest companies, including Salesforce.com, Microsoft Corporation, Oracle Corporation, SAP SE, ServiceNow, and International Business Machines Corporation (“IBM”). We have been most successful in competing for clients whose businesses are characterized by a high degree of change, complexity, or regulation. We believe we are competitively differentiated from our competitors because our unified Pega Platform is designed to allow client business and IT staff, using a single, intuitive user interface, to build and evolve enterprise applications in a fraction of the time it would take with disjointed architectures and tools offered by many of our competitors. In addition, our applications, built on the Pega Platform, provide the same level of flexibility and ability to adapt to our clients’ needs as the Pega Platform. We believe we compete favorably due to our expertise in our target industries and our long-standing client relationships. We believe we compete less favorably on some of the above factors against our larger competitors, many of which have greater sales, marketing, and financial resources, more extensive geographical presence, and greater name recognition. In addition, we may be at a competitive disadvantage against our larger competitors with respect to our ability to provide expertise outside our target industries. See risk factor "The market for our offerings is intensely and increasingly competitive, rapidly changing, and fragmented" in Item 1A of this Annual Report for additional information. Intellectual Property We rely primarily on a combination of copyright, patent, trademark, and trade secrets laws, as well as confidentiality and intellectual property agreements to protect our proprietary rights. We have obtained patents relating to our system architecture and products in strategic global markets. We enter into confidentiality, intellectual property ownership, and license agreements with our employees, partners, clients, and other third parties. To protect our proprietary rights, we also control access to and ownership of software, services, documentation, and other information. Sales and Marketing We encourage our direct sales force and outside partners to co-market, pursue joint sales initiatives, and drive broader adoption of our technology, helping us grow our business more efficiently and focus our resources on continued innovation and enhancement of our solutions. In addition, strategic partnerships with management consulting firms and major systems integrators are important to our sales efforts because they influence buying decisions, help us identify sales opportunities, and complement our software and services with their domain expertise and consulting capabilities. We also partner with technology providers and application developers. To support our sales efforts, we conduct a broad range of marketing programs, including awareness advertising, client and industry-targeted solution campaigns, trade shows, including our PegaWorld ® iNspire user conference, solution seminars and webinars, industry analyst and press relations, web and digital marketing, community development, social media presence, and other direct and indirect marketing efforts. In addition, our consulting employees, business partners, and other third parties also conduct joint and separate marketing campaigns that generate sales leads. Research and Development Our research and development organization is responsible for product architecture, core technology development, product testing, and quality assurance. Our product development priority is to continue expanding our technology’s capabilities and ensure we deliver superior cloud-native solutions. We intend to maintain and extend the support of our existing applications, and we may choose to invest in additional strategic applications that incorporate the latest business innovations. We also intend to maintain and extend the support of popular hardware platforms, operating systems, databases, and connectivity options to facilitate easy and rapid deployment in diverse IT infrastructures. Our goal with all products is to enhance product capabilities, implementation ease, long-term flexibility, and improve client service. 8 Backlog As of December 31, 2021, we expected to recognize approximately $1.3 billion in revenue from backlog on existing contracts in future periods. See "Remaining performance obligations ("Backlog")" in Item 7 of this Annual Report for additional information. Our People As of January 31, 2022, we had 6,133 employees, of which 2,537 were based in the Americas, 1,422 were based in Europe, 1,826 were based in India, and 348 were based elsewhere in Asia-Pacific. As a high technology company, our employees are critical to our success. We strive to be an employer of choice that can attract and retain exceptional talent. We aim to create a corporate culture that is equitable, inclusive, and diverse. We believe that encouraging employee development will help achieve our goal of developing, expanding, and retaining our workforce to support our business. We build our corporate culture through a variety of initiatives, including global inclusion and diversity, employee engagement, pay equity, and employee development. Global Inclusion and Diversity An inclusive and diverse culture contributes to our ability to deliver innovative products and services, which is critical to our success. Our commitment to inclusion and diversity begins with a highly skilled and diverse board and includes our commitment to educate both managers and individual contributors about our corporate values. We have made significant investments in furthering our culture of inclusion, including hiring a Global Leader of Inclusion and Diversity in 2020 and a Diversity Talent Attraction Partner in 2021. We expanded our diversity recruiting efforts and delivered inclusivity workshops to managers and individual contributors at all levels. We currently sponsor formal employee resource groups for the following communities: women, veterans, Black, LGBTQIA+, Asian, Latinx, and persons with disabilities. Employee Engagement, Health, and Well-Being Our efforts to recruit and retain diverse and passionate employees include providing competitive rewards packages and ensuring active communication throughout the Company. We regularly solicit and collect feedback to better understand and improve our employee experience and identify opportunities to strengthen our corporate culture. In 2021, in addition to our employee survey and continuous feedback tools, we hosted check-in chats with our leadership team to directly address our employees’ questions and constructive feedback. We are committed to creating an environment that supports our employees’ health and overall well-being, focusing on physical, emotional, financial, and personal wellness. PegaUp!, our employee wellness program, includes awareness campaigns, fitness classes, guided meditation, as well as health, wellness, and financial seminars. Pay Equity We compensate our employees for what they do and how they do it, regardless of their gender, race, or other personal characteristics. To deliver that commitment, we benchmark and set pay ranges based on market data and consider individual factors, such as an employee’s role and experience, job location, and job performance. We also regularly review our compensation practices, both in terms of our overall workforce and individual employees, to ensure our pay is fair and equitable. Employee Development Employee development underpins our efforts to execute our strategy and continue creating and selling innovative products and services. We continually invest in our employees’ career growth and provide employees with a wide range of development opportunities, including formal and informal learning, mentoring, and coaching. Pega Academy helps employees, clients, and partners gain and advance Pega software skills more rapidly. To ensure our business’s long-term continuity, we actively manage talent development to fill the roles most critical to our success. To support our current and future leaders’ development, Pega offers five programs addressing the development of people managers and leaders in a cohort format comprised of all functions and geographies. We also provide educational resources and classes, career training, and education reimbursement programs. In 2021, more than 4,900 of our employees participated in a formal education program. Corporate Information Pegasystems Inc. was incorporated in Massachusetts in 1983. Our stock is traded on the NASDAQ Global Select Market under the symbol “PEGA.” Our website is located at www.pega.com, and our investor relations website is located at www.pega.com/about/investors. Available Information We make available our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to these reports, free of charge, through our website as soon as reasonably practicable after we electronically file such material with or furnish such material to the SEC. We also make available on our website reports filed by our executive officers and directors on Forms 3, 4, and 5 regarding their ownership of our securities. Our Code of Conduct is available on our website in the “Governance” section. The SEC maintains a website that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov. 9