What changed in this filing

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Item 2. Management’s Discussion and Analysis

2020-11-05 compared with 2020-08-10 · 117 added, 168 removed, 434 unchanged (40% of the section changed)

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This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act.

These statements are often identified by the use of words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “project,” “will,” “would” or the negative or plural of these words or similar expressions or variations and such forward-looking statements include, but are not limited to, statements with respect to our outlook;

the impact of new accounting standards;

deferred revenue;

our business strategy, plans and objectives for future operations;

our future financial and business performance and the uncertain negative impacts that COVID-19 may have on our business, financial condition, results of operations and changes in overall level of security software spending and volatility in the global economy.

our future financial and business performance and the uncertain negative impacts that COVID-19 may have on our business, financial condition, results of operations and the global economy.

The events described in these forward-looking statements are subject to a number of risks, uncertainties, assumptions and other factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by the forward-looking statements.

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Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.

Rapid7 is a leading cyber security solutions provider, on a mission to make successful security tools and practices accessible to all.

Rapid7 Insight Platform technology, expert services, and thought-leading research enables over 9,100 customers to improve their security programs so that they can safely advance and innovate.

Rapid7 is advancing security with visibility, analytics, and automation delivered through our Insight Platform.

Our solutions simplify the complex, allowing security teams to work more effectively with IT and development to reduce vulnerabilities, monitor for malicious behavior, investigate and shut down attacks, and automate routine tasks.

In the nearly 20 years that Rapid7 has been in business, security companies and trends have come and gone, while broader technology innovation continues to advance rapidly.

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Our customers span a wide variety of industries such as technology, energy, financial services, healthcare and life sciences, manufacturing, media and entertainment, retail, education, real estate, transportation, government and professional services.

As of June 30, 2020, we had over 9,100

customers in 139 countries, including 46% of the Fortune 100.

Our revenue was not concentrated with any individual customer and no customer represented more than 1% of our revenue for the three and six months ended June 30, 2020 or 2019.

As of September 30, 2020, we had over 9,300 customers in 130 countries, including 48% of the Fortune 100.

Our revenue was not concentrated with any individual

customer and no customer represented more than 1% of our revenue for the three and nine months ended September 30, 2020 or 2019.

We sell our products and professional services through direct inside and field sales teams and indirect channel partner relationships.

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Recent Developments

Acquisition of Divvy Cloud Corporation

On May 1, 2020, we acquired Divvy Cloud Corporation (DivvyCloud), a Cloud Security Posture Management (CSPM) company, for a purchase consideration of $130.8 million in cash paid at closing, $7.4 million in deferred cash payments and $0.1 million in estimated working capital and other purchase price adjustments.

In addition, in connection with the acquisition, we will issue an aggregate of 200,596 shares of Rapid7’s common stock to the founders of DivvyCloud in three equal annual installments beginning on the first anniversary of the closing date.

Convertible Senior Notes

On May 1, 2020, we issued $230.0 million aggregate principal amount of convertible senior notes due May 1, 2025 (collectively, the 2025 Notes).

The total net proceeds from the offering, after deducting initial purchase discounts and estimated debt issuance costs, were $222.8 million.

The 2025 Notes are unsecured obligations and bear interest at a fixed rate of 2.25% per annum, payable semi-annually in arrears on May 1 and November 1 of each year, commencing on November 1, 2020.

The 2025 Notes will mature on May 1, 2025, unless earlier converted, redeemed or repurchased.

The 2025 Notes do not contain any financial covenants.

The 2025 Notes are governed by an indenture between the Company, as issuer, and U.S.

Bank National Association, as trustee (the 2025 Indenture).

In connection with the issuance of the 2025 Notes, we entered into capped call transactions with certain counterparties (the 2025 Capped Calls).

We used $27.3 million of the net proceeds from the 2025 Notes to purchase the 2025 Capped Calls.

The 2025 Capped Calls are expected to offset potential dilution to our common stock upon conversion of the 2025 Notes.

The 2025 Capped Calls have an initial cap price of $93.88 per share, subject to certain adjustments.

Credit Agreement

On April 23, 2020, we entered into a Credit and Security Agreement the (Credit Agreement), with KeyBank National Association that provides for a $30.0 million revolving credit facility, with a letter of credit sublimit of $15.0 million and an accordion feature under which we can increase the credit facility to up to $70.0 million.

The Credit Agreement matures on April 23, 2023 and contains certain financial covenants including to maintain specified minimum recurring revenue and liquidity amounts.

In May 2020, we utilized the accordion feature to increase the credit facility to $50.0 million.

The borrowings under the Credit Agreement bear interest, at our option, at a rate equal to either the London Interbank Offered Rate (LIBOR) rate (subject to a 1.00% floor), plus an applicable margin equal to 2.50% per annum or the alternate base rate (subject to a floor), plus an applicable margin equal to 0% per annum.

We are required to pay a 0.20% per annum commitment fee on the unused portion of the credit facility.

As of June 30, 2020, we did not have any outstanding borrowings under the Credit Agreement.

COVID-19 Response

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We are focused on ensuring continuity for our customers and partners.

During the three months ended June 30, 2020, we slowed hiring and reduced discretionary spending, and in addition, we continue to realize savings that naturally accrue from less travel and virtual rather than in-person events.

During the third quarter of 2020, we slowed hiring and reduced discretionary spending from what was initially anticipated at the beginning of the fiscal year 2020.

In addition, we continue to realize savings that naturally accrue from less travel and virtual rather than in-person events.

The continuing COVID-19 pandemic is expected to result in a sustained global slowdown of economic activity that is likely to decrease demand for a broad variety of goods and services, including from our customers.

We currently expect our operational and financial performance to be negatively impacted by the slowdown in activity associated with the COVID-19 pandemic for the year ending December 31, 2020 and beyond.

The extent of the impact of the COVID-19 on our operational and financial

performance will depend on certain developments, including the duration and spread of the disease, its impact on industry events, and its effect on our customers, partners, suppliers and vendors and other parties with whom we do business, all of which are uncertain and cannot be predicted at this time.

The extent of the impact of the COVID-19 on our operational and financial performance will depend on certain developments, including the duration and spread of the disease, its impact on industry events, and its effect on our customers, partners, suppliers and vendors and other parties with whom we do business, all of which are uncertain and cannot be predicted at this time.

To the extent possible, we are conducting business as usual, with necessary or advisable modifications to employee travel, employee work locations, and cancellation of Rapid7 in-person marketing events.

We will continue to actively monitor the rapidly evolving situation related to COVID-19 and may take further actions that alter our business operations, including those that may be required by federal, foreign, state or local authorities, or that we determine are in the best interests of our employees, customers, partners, suppliers, vendors and stockholders.

We will continue to actively monitor the at times rapidly evolving situation related to COVID-19 and may take further actions that alter our business operations, including those that may be required by federal, foreign, state or local authorities, or that we determine are in the best interests of our employees, customers, partners, suppliers, vendors and stockholders.

At this point, the extent to which the COVID-19 pandemic may impact our business, results of operations and financial condition is uncertain.

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We also offer various professional services across all of our offerings, including deployment and training services related to our software and cloud-based products, incident response services, penetration testing and security advisory services.

Customers can purchase our professional services together with our product offerings or on a stand-alone basis pursuant to fixed fee or time-and-materials agreements.

For the three months ended June 30, 2020 and 2019, recurring revenue, defined as revenue from term software licenses, content subscriptions, managed services, cloud-based subscriptions and maintenance and support, was 91% and 87%, respectively, of total revenue.

For the six months ended June 30, 2020 and 2019, recurring revenue was 90% and 86%, respectively, of total revenue.

Our renewal rate was 105% and 113% for the three and six months ended June 30, 2020 and 2019, respectively.

For the three months ended June 30, 2019, our renewal rate was adjusted from the previously disclosed 116% to 113% based on a reclassification of certain upsells and cross-sells.

can purchase our professional services together with our product offerings or on a stand-alone basis pursuant to fixed fee or time-and-materials agreements.

For the three months ended September 30, 2020 and 2019, recurring revenue, defined as revenue from term software licenses, content subscriptions, managed services, cloud-based subscriptions and maintenance and support, was 91% and 88%, respectively, of total revenue.

For the nine months ended September 30, 2020 and 2019, recurring revenue was 91% and 87%, respectively, of total revenue.

Our renewal rate was 103% and 111% for the three months ended September 30, 2020 and 2019, respectively.

We calculate our renewal rate by dividing the dollar value of renewed customer agreements, including upsells and cross-sells of additional products, but excluding professional services, in a trailing 12-month period by the dollar value of the corresponding customer agreements.

We monitor the following key metrics to help us measure and evaluate the effectiveness of our operations:

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Operating cash flow $ 11,078 $ 1,839 $ 4,305 $ (9,244)

As of June 30,

As of September 30,

(dollars in thousands)

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Our capped calls transactions are intended to offset potential dilution from the conversion features in our convertible senior notes.

Although we cannot reflect the anti-dilutive impact of the capped call transactions under GAAP, we do reflect the anti-dilutive impact of the capped call transactions in non-GAAP net income (loss) per basic and diluted share to provide investors with useful information in evaluating our financial performance on a per share basis.

Although we cannot reflect the anti-dilutive impact of the capped call transactions under GAAP, we do reflect the anti-dilutive impact of the capped call transactions in non-GAAP net income (loss) per diluted share to provide investors with useful information in evaluating our financial performance on a per share basis.

Adjusted EBITDA.

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Our non-GAAP financial measures may not provide information that is directly comparable to that provided by other companies in our industry, as other companies in our industry may calculate non-GAAP financial results differently, particularly related to non-recurring, unusual items.

In addition, there are limitations in using non-GAAP financial measures because the non-GAAP financial measures are not prepared in accordance with GAAP, may be different from non-GAAP financial measures used by other companies and exclude expenses that may have a material impact upon our reported financial results.

Further, stock-based compensation expense has been and will continue to be for the foreseeable future a significant recurring expense in our business and an important part of the compensation provided to our employees.

The following tables reconcile GAAP gross profit to non-GAAP gross profit for the three and six months ended June 30, 2020 and 2019:

Three Months Ended June 30, Six Months Ended June 30,

The following tables reconcile GAAP gross profit to non-GAAP gross profit for the three and nine months ended September 30, 2020 and 2019:

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Non-GAAP total gross profit $ 77,613 $ 61,865 $ 219,965 $ 176,166

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Non-GAAP gross profit – products $ 76,527 $ 60,820 $ 217,249 $ 171,908

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Non-GAAP gross profit – professional services $ 1,086 $ 1,045 $ 2,716 $ 4,258

The following table reconciles GAAP loss from operations to non-GAAP income from operations for the three and six months ended June 30, 2020 and 2019:

Three Months Ended June 30, Six Months Ended June 30,

The following table reconciles GAAP loss from operations to non-GAAP income from operations for the three and nine months ended September 30, 2020 and 2019:

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Non-GAAP income from operations $ 2,444 $ 542 $ 2,776 $ 1,619

The following table reconciles GAAP net loss to non-GAAP net income (loss) income for the three and six months ended June 30, 2020 and 2019:

Three Months Ended June 30, Six Months Ended June 30,

The following table reconciles GAAP net loss to non-GAAP net income (loss) and GAAP net loss per share to non-GAAP net income (loss) per share for the three and nine months ended September 30, 2020 and 2019:

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Non-GAAP net income (loss) $ 25 $ 571 $ (1,474) $ 2,822

Reconciliation of net (loss) income per share, basic:

Reconciliation of net income (loss) per share, basic:

GAAP net loss per share, basic $ (0.50) $ (0.29) $ (1.38) $ (0.82)

Non-GAAP adjustments to net loss 0.50 0.30 1.35 0.88

Non-GAAP net (loss) income per share, basic $ 0.06 $ 0.02 $ (0.03) $ 0.05

Reconciliation of net (loss) income per share, diluted:

Non-GAAP net income (loss) per share, basic $ 0.00 $ 0.01 $ (0.03) $ 0.06

Reconciliation of net income (loss) per share, diluted:

GAAP net loss per share, diluted $ (0.50) $ (0.29) $ (1.38) $ (0.82)

Non-GAAP adjustments to net loss 0.50 0.30 1.35 0.87

Non-GAAP net (loss) income per share, diluted $ 0.05 $ 0.02 $ (0.03) $ 0.04

Non-GAAP net income (loss) per share, diluted $ 0.00 $ 0.01 $ (0.03) $ 0.05

Weighted average shares used in GAAP per share calculation, basic and diluted 51,293,210 49,020,449 50,707,553 48,437,686

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Diluted 53,894,202 52,404,657 50,707,553 51,879,345

The following table reconciles GAAP net loss to adjusted EBITDA for the three and six months ended June 30, 2020 and 2019:

Three Months Ended June 30, Six Months Ended June 30,

The following table reconciles GAAP net loss to adjusted EBITDA for the three and nine months ended September 30, 2020 and 2019:

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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We generate revenue primarily from selling products and professional services through a variety of delivery models to meet the needs of our diverse customer base.

We generally bill customers and collect payment for both our products and services at the beginning of a contractual period.

We generate products revenue from the sale of (1) cloud-based subscriptions for our InsightVM, InsightIDR, InsightAppSec and InsightConnect products, (2) managed services offerings, which utilize our products and (3) term or perpetual software licenses for our Nexpose, Metasploit, AppSpider and DivvyCloud products, as well as associated content subscriptions for our Nexpose and Metasploit products.

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Substantially all of our customers purchase an agreement for maintenance and support in connection with their purchase of a Nexpose, Metasploit or AppSpider software license.

Lastly, we also generate appliance revenue that is included in our products revenue and is associated with hardware sold with our Nexpose product to certain customers.

Professional Services

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Our total cost of revenue consists of the costs of products and professional services.

Cost of revenue include overhead costs for depreciation, facilities, IT, information security, and recruiting.

Cost of revenue includes overhead costs for depreciation, facilities, IT, information security, and recruiting.

Our IT overhead costs include IT personnel compensation costs and costs associated with our IT infrastructure.

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Cost of products consists of personnel and related costs for our content, support, managed service and cloud operations teams, including salaries and other payroll related costs, bonuses, stock-based compensation and allocated overhead costs.

Also included in cost of products are software license fees, hardware, cloud computing costs and internet connectivity expenses directly related to delivering our products, amortization of contract fulfillment costs, as well as amortization of certain intangible assets including internally developed software.

Also included in cost of products are software license fees, cloud computing costs and internet connectivity expenses directly related to delivering our products, amortization of contract fulfillment costs, as well as amortization of certain intangible assets including internally developed software.

Cost of Professional Services

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The following table sets forth our selected consolidated statements of operations data:

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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(1) Cost of revenue and operating expenses include stock-based compensation expense and depreciation and amortization expense as follows:

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Total stock-based compensation expense $ 17,128 $ 10,426 $ 46,921 $ 29,490

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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The following table sets forth our selected consolidated statements of operations data expressed as a percentage of revenue:

Three Months Ended June 30, Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

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Net loss (24.3) % (17.3) % (23.4) % (16.8) %

Comparison of the Three Months Ended June 30, 2020 and 2019

Three Months Ended June 30, Change

Comparison of the Three Months Ended September 30, 2020 and 2019

Three Months Ended September 30, Change

2020 2019 $ %

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Total revenue $ 105,075 $ 83,155 $ 21,920 26.4 %

Total revenue increased by $20.0 million in the three months ended June 30, 2020 compared to the same period in 2019.

Total revenue increased by $21.9 million in the three months ended September 30, 2020 compared to the same period in 2019.

The $21.9 million increase in revenue was primarily from existing customers and was due to an increase in revenue from renewals, upsells and cross-sells as a result of the continued growth of our customer base.

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All renewals, upsells and cross-sells are considered revenue from existing customers.

The increase in total revenue in the three months ended June 30, 2020 compared to the same period in 2019 was comprised of $16.3 million generated from sales in North America and $3.7 million generated from sales from the rest of the world.

The increase in total revenue in the three months ended September 30, 2020 compared to the same period in 2019 was comprised of $17.7 million generated from sales in North America and $4.2 million generated from sales from the rest of the world.

Cost of Revenue

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

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Total gross margin % 70.5 % 71.6 %

Total cost of revenue increased by $6.9 million in the three months ended June 30, 2020 compared to the same period in 2019, primarily due to a $3.8 million increase in personnel costs, inclusive of a $0.4 million increase in stock-based compensation expense, resulting from an increase in headcount to support our growing customer base, and a $2.6 million increase in cloud computing costs related to growing cloud-based subscription revenue.

The $3.8 million increase in personnel costs included $0.5 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition.

Total cost of revenue increased by $7.4 million in the three months ended September 30, 2020 compared to the same period in 2019, primarily due to a $4.0 million increase in personnel costs, inclusive of a $0.5 million increase in stock-based compensation expense, resulting from an increase in headcount to support our growing customer base, and a $2.9 million increase in cloud computing costs related to growing cloud-based subscription revenue.

The $4.0 million increase in personnel costs included $0.3 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition in May 2020.

Our increase in total cost of revenue also included a $0.8 million increase in amortization expense for acquired intangible assets, a $0.3 million increase in amortization expense for capitalized internally-developed software and a $0.3 million increase in allocated overhead driven largely by an increase in IT and facilities costs.

These increases were partially offset by a $0.6 million decrease in other expenses.

Total gross margin percentage decreased for the three months ended June 30, 2020 compared to the same period in 2019.

The decrease in products gross margin for the three months ended June 30, 2020 was primarily due to an increase in revenue from cloud-based subscriptions and managed services, which have lower gross margins than our licensed software products.

The decrease in professional services gross margin for the three months ended June 30, 2020 was primarily due to a reduction in professional services revenue as customers delayed scheduling the delivery of services in response to the COVID-19 pandemic.

These increases were partially offset by a $0.4 million decrease in third-party professional service consulting costs and a $0.5 million decrease in other expenses.

Total gross margin percentage decreased for the three months ended September 30, 2020 compared to the same period in 2019.

The decrease in products gross margin for the three months ended September 30, 2020 was primarily due to an increase in revenue from cloud-based subscriptions and managed services, which have lower gross margins than our licensed software products.

Operating Expenses

Research and Development Expense

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

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% of revenue 27.1 % 24.2 %

Research and development expense increased by $6.5 million in the three months ended June 30, 2020 compared to the same period in 2019, primarily due to a $5.7 million increase in personnel costs and an increase of $0.7 million in allocated overhead driven largely by an increase in IT and facilities costs and a $0.1 million increase in other expenses.

Research and development expense increased by $8.4 million in the three months ended September 30, 2020 compared to the same period in 2019, primarily due to a $7.1 million increase in personnel costs and an increase of $0.7 million in allocated overhead driven largely by an increase in IT and facilities costs and a $0.6 million increase in other expenses.

The $7.1 million increase in personnel costs was primarily due to a $4.3 million increase in salaries and related costs driven by growth in headcount, including $2.2 million in additional salaries and related costs attributable to the employees acquired in the acquisition of DivvyCloud in May 2020, and a $2.8 million increase in stock-based compensation expense, including $1.6 million of stock-based compensation expense related to restricted stock units (RSUs) issued to retained employees and common stock to be issued to the founders as part of the acquisition of DivvyCloud.

Sales and Marketing Expense

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

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% of revenue 46.1 % 48.0 %

Sales and marketing expense increased by $6.8 million in the three months ended June 30, 2020 compared to the same period in 2019, primarily due to a $7.1 million increase in personnel costs due to an increase in headcount, inclusive of a $1.4 million increase in stock-based compensation expense, and due to a $1.5 million increase in commission expense and a $0.8 million increase in allocated overhead driven largely by an increase in IT and facilities costs.

The $7.1 million increase in personnel costs included $1.2 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition, including

$0.4 million in stock-based compensation expense related to RSUs issued to retained employees.

These increases were partially offset by a $1.6 million decrease in travel and entertainment expenses and a $1.0 million decrease in marketing and advertising costs, as a result of reduced costs due to the COVID-19 pandemic.

Sales and marketing expense increased by $8.5 million in the three months ended September 30, 2020 compared to the same period in 2019, primarily due to a $6.8 million increase in personnel costs, a $1.4 million increase in marketing and advertising costs, a $1.6 million increase in commission expense and a $0.1 million increase in other expenses.

The $6.8 million increase in personnel costs was primarily due a $5.3 million increase in salaries and related costs driven by growth in headcount, including $2.2 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition in May 2020, and a $1.5 million increase in stock-based compensation expense, including $0.6 million in stock-based compensation expense related to

RSUs issued to DivvyCloud retained employees.

These increases were partially offset by a $1.4 million decrease in travel and entertainment expenses as a result of reduced travel due to the COVID-19 pandemic.

General and Administrative Expense

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

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% of revenue 14.3 % 13.5 %

General and administrative expense increased by $3.3 million in the three months ended June 30, 2020 compared to the same period in 2019, primarily due to a $2.5 million increase in personnel costs due to an increase in headcount, inclusive of a $1.9 million increase in stock-based compensation expense, and a $0.8 million increase in professional fees primarily due to litigation and acquisition-related expenses and other professional consulting fees.

General and administrative expense increased by $3.8 million in the three months ended September 30, 2020 compared to the same period in 2019, primarily due to a $2.5 million increase in personnel costs due to an increase in headcount, inclusive of a $2.0 million increase in stock-based compensation expense, and a $0.4 million increase in professional fees primarily due to litigation expenses and other professional consulting fees, a $0.4 million increase in other office expenses and a $0.5 million increase in other expenses.

Interest Income

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

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% of revenue 0.1 % 1.7 %

Interest income decreased by $1.4 million in the three months ended June 30, 2020 compared to the same period in 2019 primarily due to a decrease in interest rates.

Interest income decreased by $1.4 million in the three months ended September 30, 2020 compared to the same period in 2019 primarily due to a decrease in interest rates.

Interest Expense

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

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% of revenue (7.0) % (4.1) %

Interest expense increased by $2.6 million in the three months ended June 30, 2020 compared to the same period in 2019 primarily due to an increase in interest expense and amortization of debt discount and issuance costs related to the 2025 Notes.

Interest expense increased by $3.9 million in the three months ended September 30, 2020 compared to the same period in 2019 primarily due to an increase in interest expense and amortization of debt discount and issuance costs related to the 2025 Notes.

Other Income (Expense), Net

Three Months Ended June 30, Change

Three Months Ended September 30, Change

2020 2019 $ %

(dollars in thousands)

Other income (expense), net $ 210 $ (29) $ 239 NM

Other income (expense), net $ 143 $ (492) $ 635 (129.1) %

% of revenue 0.1 % (0.6) %

Other income (expense), net increased by $0.2 million in the three months ended June 30, 2020 compared to the same period in 2019 due to realized and unrealized foreign currency gains, primarily related to the euro and British pound sterling.

Provision for (Benefit from) Income Taxes

Three Months Ended June 30, Change

Other income (expense), net changed from other expense of $0.5 million in the three months ended September 30, 2019 to other income of $0.1 million in the three months ended September 30, 2020 due to realized and unrealized foreign currency gains and losses, primarily related to the euro and British pound sterling.

Provision for Income Taxes

Three Months Ended September 30, Change

2020 2019 $ %

(dollars in thousands)

Provision for (benefit from) income taxes $ 235 $ (519) $ 754 (145.3) %

Provision for income taxes $ 527 $ 207 $ 320 154.6 %

% of revenue 0.5 % 0.2 %

Provision for (benefit from) income taxes changed from a benefit of $0.5 million in the three months ended June 30, 2019 to an expense of $0.2 million in the three months ended June 30, 2020 primarily due to a $0.8 million deferred tax benefit in the prior period which resulted from a partial release of our valuation allowance to account for the creation of a deferred tax liability for the developed technology intangible asset acquired in the acquisition of NetFort, which was not deductible for tax purposes.

Comparison of the Six Months Ended June 30, 2020 and 2019

Six Months Ended June 30, Change

Provision for income taxes increased by $0.3 million in the three months ended September 30, 2020 compared to the same period in 2019 due to an increase in our operations in foreign jurisdictions.

Comparison of the Nine Months Ended September 30, 2020 and 2019

Nine Months Ended September 30, Change

2020 2019 $ %

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Total revenue $ 298,327 $ 235,299 $ 63,028 26.8 %

Total revenue increased by $41.1 million in the six months ended June 30, 2020 compared to the same period in 2019.

The $41.1 million increase in revenue consisted of a $0.6 million increase in revenue from new customers and a $40.5 million increase in revenue from existing customers.

The $40.5 million increase in revenue from existing customers was due to an increase in revenue from renewals, upsells and cross-sells as a result of the continued growth of our customer base.

Revenue from new customers represents the revenue recognized from the customer's initial purchase.

Total revenue increased by $63.0 million in the nine months ended September 30, 2020 compared to the same period in 2019.

The $63.0 million increase in revenue was primarily from existing customers and was due to an increase in revenue from renewals, upsells and cross-sells.

All renewals, upsells and cross-sells are considered revenue from existing customers.

The increase in total revenue in the six months ended June 30, 2020 compared to the same period in 2019 was comprised of $32.9 million generated from sales in North America and $8.2 million generated from sales from the rest of the world.

The $0.4 million decrease in professional services revenue in the six months ended June 30, 2020 compared to the same period in 2019 was primarily due to a decline in services as customers delayed the scheduling of services in response to the COVID-19 pandemic.

The increase in total revenue in the nine months ended September 30, 2020 compared to the same period in 2019 was comprised of $50.6 million generated from sales in North America and $12.4 million generated from sales from the rest of the world.

The $0.6 million decrease in professional services revenue in the nine months ended September 30, 2020 compared to the same period in 2019 was primarily due to a decline in services as customers delayed the scheduling of services in response to the COVID-19 pandemic.

Cost of Revenue

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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Total gross margin % 70.6 % 72.0 %

Total cost of revenue increased by $14.6 million in the six months ended June 30, 2020 compared to the same period in 2019, primarily due to a $6.3 million increase in personnel costs, inclusive of a $0.8 million increase in stock-based compensation expense, resulting from an increase in headcount to support our growing customer base, and a $5.2 million increase in cloud computing costs related to growing cloud-based subscription revenue.

The $6.3 million increase in personnel costs included $0.5 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition.

Our increase in total cost of revenue also included a $2.0 million increase in allocated overhead driven by costs related to our global kick-off meeting as well as an increase in IT and facilities costs, a $0.8 million increase in amortization expense for acquired intangible assets, a $0.7 million increase in amortization expense for capitalized internally-developed software and a $0.4 million increase in third-party professional service consulting costs.

Total cost of revenue increased by $22.0 million in the nine months ended September 30, 2020 compared to the same period in 2019, primarily due to a $10.4 million increase in personnel costs, inclusive of a $1.2 million increase in stock-based compensation expense, resulting from an increase in headcount to support our growing customer base, and a $8.1 million increase in cloud computing costs related to growing cloud-based subscription revenue.

The $10.4 million increase in personnel costs included $0.8 million of additional costs attributable to the employees acquired in the May 2020 DivvyCloud acquisition.

Our increase in total cost of revenue also included a $2.3 million increase in allocated overhead driven by costs related to our global kick-off meeting as well as an increase in IT and facilities costs, a $1.6 million increase in amortization expense for acquired intangible assets and a $0.9 million increase in amortization expense for capitalized internally-developed software.

These increases were partially offset by a $1.3 million decrease in other expenses.

Total gross margin percentage decreased for the six months ended June 30, 2020 compared to the same period in 2019.

The decrease in products gross margin for the six months ended June 30, 2020 was primarily due to an increase in revenue from cloud-based subscriptions and managed services, which have lower gross margins than our licensed software products.

The decrease in professional services gross margin for the six months ended June 30, 2020 was primarily due to a reduction in professional services revenue as customers rescheduled services in response to the COVID-19 pandemic.

Total gross margin percentage decreased for the nine months ended September 30, 2020 compared to the same period in 2019.

The decrease in products gross margin for the nine months ended September 30, 2020 was primarily due to an increase in revenue from cloud-based subscriptions and managed services, which have lower gross margins than our licensed software products.

The decrease in professional services gross margin for the nine months ended September 30, 2020 was primarily due to a reduction in professional services revenue as customers rescheduled services in response to the COVID-19 pandemic.

Operating Expenses

Research and Development Expense

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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% of revenue 26.4 % 24.5 %

Research and development expense increased by $12.8 million in the six months ended June 30, 2020 compared to the same period in 2019, primarily due to a $9.3 million increase in personnel costs and an increase of $3.7 million in allocated overhead driven by costs related to our global kick-off meeting and an increase in IT and facilities costs, partially offset by a decrease of $0.2 million in other expenses.

Research and development expense increased by $21.2 million in the nine months ended September 30, 2020 compared to the same period in 2019, primarily due to a $16.5 million increase in personnel costs and an increase of $4.3 million in allocated overhead driven by costs related to our global kick-off meeting and an increase in IT and facilities costs, and an increase of $0.4 million in other expenses.

The $16.5 million increase in personnel costs was primarily due to a $9.9 million increase in salaries and related costs driven by growth in headcount, including $3.0 million in additional salaries and related costs attributable to the employees acquired in the acquisition of DivvyCloud in May 2020, and a $6.6 million increase in stock-based compensation expense including, $2.6 million of stock-based compensation expense related to RSUs issued to retained employees and common stock to be issued to the founders as part of the acquisition of DivvyCloud.

Sales and Marketing Expense

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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% of revenue 47.5 % 48.1 %

Sales and marketing expense increased by $19.8 million in the six months ended June 30, 2020 compared to the same period in 2019, primarily due to a $13.5 million increase in personnel costs due to an increase in headcount, inclusive of a $2.6 million increase in stock-based compensation expense, and a $5.6 million increase in allocated overhead driven by costs related to our global kick-off meeting as well as an increase in IT and facilities costs.

The $13.5 million increase in personnel costs included $1.2 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition, including $0.4 million in stock-based compensation expense related to RSUs issued to retained employees.

Our increase in sales and marketing expense also included a $3.0 million increase in commission expense.

These increases were partially offset by a $1.8 million decrease in travel and entertainment expenses, as a result of reduced costs due to the COVID-19 pandemic, and a $0.5 million decrease in other expenses.

Sales and marketing expense increased by $28.3 million in the nine months ended September 30, 2020 compared to the same period in 2019, primarily due to a $20.3 million increase in personnel costs, a $5.2 million increase in allocated overhead driven by costs related to our global kick-off meeting as well as an increase in IT and facilities costs, a $4.6 million increase in commission expense, a $1.1 million increase in marketing and advertising costs and a $0.3 million increase in other expenses.

The $20.3 million increase in personnel costs was primarily due a $16.2 million increase in salaries and related costs driven by growth in headcount, including $3.5 million of additional costs attributable to the employees acquired in the DivvyCloud acquisition in May 2020, and a $4.1 million increase in stock-based compensation expense, including $1.0 million in stock-based compensation expense related to RSUs issued to DivvyCloud retained employees.

These increases were partially offset by a $3.2 million decrease in travel and entertainment expenses as a result of reduced travel due to the COVID-19 pandemic.

General and Administrative Expense

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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% of revenue 14.6 % 13.7 %

General and administrative expense increased by $7.5 million in the six months ended June 30, 2020 compared to the same period in 2019, primarily due to a $5.0 million increase in personnel costs due to an increase in headcount, inclusive of a $3.5 million increase in stock-based compensation expense, a $1.8 million increase in professional fees primarily due to litigation and acquisition-related expenses and other professional consulting fees, a $0.5 million increase in allocated overhead driven by costs related to our global kick-off meeting as well as an increase in IT and facilities costs, and a $0.2 million increase in other expenses.

General and administrative expense increased by $11.3 million in the nine months ended September 30, 2020 compared to the same period in 2019, primarily due to a $7.6 million increase in personnel costs due to an increase in headcount, inclusive of a $5.5 million increase in stock-based compensation expense, a $2.1 million increase in professional fees primarily due to litigation and acquisition-related expenses and other professional consulting fees, a $0.4 million increase in allocated overhead driven by costs related to our global kick-off meeting as well as an increase in IT and facilities costs, a $0.5 million increase in other office expenses and a $0.7 million increase in other expenses.

Interest Income

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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% of revenue 0.5 % 2.0 %

Interest income decreased by $2.1 million in the six months ended June 30, 2020 compared to the same period in 2019 primarily due to a decrease in interest rates.

Interest income decreased by $3.4 million in the nine months ended September 30, 2020 compared to the same period in 2019 primarily due to a decrease in interest rates.

Interest Expense

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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% of revenue (5.7) % (4.2) %

Interest expense increased by $2.8 million in the six months ended June 30, 2020 compared to the same period in 2019 primarily due to an increase in interest expense and amortization of debt discount and issuance costs related to the 2025 Notes.

Interest expense increased by $6.8 million in the nine months ended September 30, 2020 compared to the same period in 2019 primarily due to an increase in interest expense and amortization of debt discount and issuance costs related to the 2025 Notes.

Other Income (Expense), Net

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

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% of revenue — % (0.3) %

Other income (expense), net remained consistent in the six months ended June 30, 2020 compared to the same period in 2019.

Other income (expense), net decreased by $0.6 million in the nine months ended September 30, 2020 compared to the same period in 2019 due to realized and unrealized foreign currency gains and losses, primarily related to the euro and British pound sterling.

Provision for (Benefit from) Income Taxes

Six Months Ended June 30, Change

Nine Months Ended September 30, Change

2020 2019 $ %

(dollars in thousands)

Provision for (benefit from) income taxes $ 478 $ (294) $ 772 (262.6) %

Provision for (benefit from) income taxes $ 1,005 $ (87) $ 1,092 NM

% of revenue 0.3 % — %

Provision for (benefit from) income taxes changed from a benefit of $0.3 million in the six months ended June 30, 2019 to an expense of $0.5 million in the six months ended June 30, 2020 primarily due to a $0.8 million deferred tax benefit in the prior period which resulted from a partial release of our valuation allowance to account for the creation of a deferred tax liability for the developed technology intangible asset acquired in the acquisition of NetFort, which was not deductible for tax purposes.

Provision for (benefit from) income taxes changed from a benefit of $0.1 million in the nine months ended September 30, 2019 to an expense of $1.0 million in the nine months ended September 30, 2020 primarily due to a $0.8 million deferred tax benefit in the prior period which resulted from a partial release of our valuation allowance to account for the creation of a deferred tax liability for the developed technology intangible asset acquired in the acquisition of NetFort, which was not deductible for tax purposes, and a $0.3 million increase in our operations in foreign jurisdictions.

Liquidity and Capital Resources

As of June 30, 2020, we had $279.3 million in cash and cash equivalents, $41.7 million in short- and long-term investments that have maturities ranging from four to fifteen months and an accumulated deficit of $562.8 million.

As of September 30, 2020, we had $239.4 million in cash and cash equivalents, $92.0 million in short- and long-term investments that have maturities ranging from one to nineteen months and an accumulated deficit of $588.4 million.

Since our inception, we have generated significant losses and expect to continue to generate losses for the foreseeable future.

Our principal sources of liquidity are cash and cash equivalents, short and long-term investments and our Credit Agreement.

Our principal sources of liquidity are cash and cash equivalents, short and long-term investments and our Credit and Security Agreement (Credit Agreement).

To date, we have financed our operations primarily through private and public equity financings and issuance of convertible senior notes and through cash generated by operating activities.

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If we are unable to raise additional capital on terms satisfactory to us when we require it, our business, operating results and financial condition could be adversely affected.

The following table shows a summary of our cash flows for the six months ended June 30, 2020 and 2019:

Six Months Ended June 30,

The following table shows a summary of our cash flows for the nine months ended September 30, 2020 and 2019:

Nine Months Ended September 30,

(in thousands)

Cash, cash equivalents and restricted cash at beginning of period $ 123,413 $ 99,565

Net cash used in operating activities (6,773) (11,083)

Net cash provided by (used in) operating activities 4,305 (9,244)

Net cash (used in) provided by investing activities (90,469) 16,733

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Cash, cash equivalents and restricted cash at end of period $ 239,709 $ 114,925

Credit Agreement

On April 23, 2020, we entered into a Credit and Security Agreement, the (Credit Agreement), with KeyBank National Association that provides for a $30.0 million revolving credit facility with an accordion feature under which we can increase the credit facility to up to $70.0 million.

The Credit Agreement matures on April 23, 2023 and contains certain financial covenants including to maintain specified minimum recurring revenue and liquidity amounts.

In May 2020, we utilized the accordion feature increasing the credit facility to $50.0 million.

We are required to pay a 0.20% per annum commitment fee on the unused portion of the credit facility.

As of June 30, 2020, we did not have any outstanding borrowings under the Credit Agreement.

Acquisition of DivvyCloud

On May 1, 2020, we acquired DivvyCloud, for a purchase consideration of $130.8 million in cash paid at closing, $7.4 million in deferred cash payments and $0.1 million in estimated working capital and other purchase price adjustments.

The deferred cash payments will be held by Rapid7 to satisfy indemnification obligations and certain post-closing purchase price adjustments.

The deferred cash payments for post-closing purchase price adjustments is payable three months from the acquisition date in the amount of $0.2 million and the remaining $7.2 million is payable on the fifteenth month anniversary of the acquisition date.

Convertible Senior Notes

On May 1, 2020, we issued $230.0 million aggregate principal amount of convertible senior notes due May 1, 2025 (collectively, the 2025 Notes).

The total net proceeds from the offering, after deducting initial purchase discounts and estimated debt issuance costs, was $222.8 million.

The 2025 Notes are unsecured obligations and bear interest at a fixed rate of 2.25% per annum, payable semi-annually in arrears on May 1 and November 1 of each year, commencing on November 1, 2020.

Notes will mature on May 1, 2025, unless earlier converted, redeemed or repurchased.

The 2025 Notes do not contain any financial covenants.

The 2025 Notes are governed by an indenture between the Company, as issuer, and U.S.

Bank National Association, as trustee (the 2025 Indenture).

In connection with the issuance of the 2025 Notes, we entered into capped call transactions with certain counterparties (the 2025 Capped Calls).

We used $27.3 million of the net proceeds from the 2025 Notes to purchase the 2025 Capped Calls.

The Capped Calls are expected to offset potential dilution to our common stock upon conversion of the 2025 Notes.

The 2025 Capped Calls have an initial cap price of $93.88 per share, subject to certain adjustments.

Uses of Funds

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Operating Activities

Operating activities used $6.8 million of cash and cash equivalents in the six months ended June 30, 2020, which reflects our continued growth in revenue offset by continued investments in our operations and impact of the timing of working capital items.

Operating activities provided $4.3 million of cash and cash equivalents in the nine months ended September 30, 2020, which reflects our continued growth in revenue offset by continued investments in our operations and impact of the timing of working capital items.

Cash provided by operating activities reflected our net loss of $69.9 million and an increase in our net operating assets and liabilities of $3.2 million, offset by $77.4 million of non-cash charges related primarily to depreciation and amortization, stock-based compensation expense, amortization of debt discount and debt issuance costs, provision for doubtful accounts and other non-cash charges.

The increase in our net operating assets and liabilities was primarily due to a $12.0 million decrease in deferred revenue, a $7.4 million decrease in accrued expenses, primarily as a result of the payout of annual bonuses and year-end commissions, a $1.0 million decrease in other liabilities, a $3.0 million increase in deferred contract acquisition and fulfillment costs, which each had a negative impact on operating cash flow.

The increase in our net operating assets and liabilities was primarily due to a $10.5 million decrease in deferred revenue, a $5.3 million increase in deferred contract acquisition and fulfillment costs, a $3.1 million decrease in accrued expenses, primarily as a result of the payout of annual bonuses and year-end commissions, and a $0.9 million decrease in other liabilities, which each had a negative impact on operating cash flow.

These factors were partially offset by a $13.2 million decrease in accounts receivable due to an increase in collections, and a $1.9 million increase in accounts payable and a $1.4 million decrease in prepaid expenses and other assets, which each had a positive impact on operating cash flow.

Operating activities used $11.1 million of cash and cash equivalents in the six months ended June 30, 2019, which reflects our continued growth in revenue offset by continued investments in our operations and impact of the timing of working capital items.

Operating activities used $9.2 million of cash and cash equivalents in the nine months ended September 30, 2019, which reflects our continued growth in revenue offset by continued investments in our operations and impact of the timing of working capital items.

Cash used in operating activities reflected our net loss of $39.5 million and an increase in our net operating assets and liabilities of $18.9 million, offset by $49.2 million of non-cash charges related primarily to depreciation and amortization, stock-based compensation expense, amortization of debt discount and debt issuance costs, provision for doubtful accounts and other non-cash charges.

The increase in our net operating assets and liabilities was primarily due to a $7.3 million decrease in accrued expenses primarily as a result of the payout of annual bonuses and year-end commissions, a $5.0 million decrease in deferred revenue, a $3.2 million increase in deferred contract acquisition and fulfillment costs, and a $9.3 million increase in prepaid expenses and other assets, which each had a negative impact on operating cash flow.

The increase in our net operating assets and liabilities was primarily due to a $5.3 million decrease in accrued expenses, a $12.1 million decrease in deferred revenue, a $5.4 million increase in deferred contract acquisition and

fulfillment costs, and a $9.9 million increase in prepaid expenses and other assets, which each had a negative impact on operating cash flow.

These factors were partially offset by a $10.9 million decrease in accounts receivable due to collections, a $1.3 million increase in other liabilities and a $1.1 million increase in accounts payable, which each had a positive impact on operating cash flow.

Investing Activities

Investing activities used $35.3 million of cash in the six months ended June 30, 2020, consisting of $125.8 million of cash paid for the acquisition of DivvyCloud, net of cash acquired of $5.0 million, $146.6 million of investment sales and maturities, offset by $49.2 million for purchases of investments, $4.0 million in capital expenditures to purchase leasehold improvements, furniture and fixtures and computer equipment and $2.9 million for capitalization of internal-use software costs.

Investing activities provided $32.4 million of cash in the six months ended June 30, 2019, consisting of $140.3 million of investment sales and maturities, offset by $72.4 million for purchases of investments, $17.7 million in capital expenditures to purchase leasehold improvements and furniture and fixtures, primarily related to office space build-outs, and computer equipment, $14.6 million of cash paid for the acquisition of NetFort and $3.2 million for capitalization of internal-use software costs.

Investing activities used $90.5 million of cash in the nine months ended September 30, 2020, consisting of $125.8 million of cash paid for the acquisition of DivvyCloud, net of cash acquired of $5.0 million, $7.1 million in capital expenditures to purchase leasehold improvements, furniture and fixtures and computer equipment and $4.4 million for capitalization of internal-use software costs, partially offset by $46.8 million of investment sales and maturities, net of purchases.

Investing activities provided $16.7 million of cash in the nine months ended September 30, 2019, consisting of $63.1 million of investment sales and maturities, net of purchases, partially offset by $27.1 million in capital expenditures to purchase leasehold improvements and furniture and fixtures, primarily related to office space build-outs including our new corporate headquarters and computer equipment, $14.6 million of cash paid for the acquisition of NetFort and $4.7 million for capitalization of internal-use software costs.

Financing Activities

Financing activities provided $199.6 million of cash in the six months ended June 30, 2020, which consisted primarily of $223.5 million in proceeds from the issuance of the 2025 Notes, net of issuance costs paid of $6.5 million, $3.7 million in proceeds from the exercise of stock options and $3.3 million in proceeds from the issuance of common stock purchased by employees under the Rapid7, Inc.

2015 Employee Stock Purchase Plan (ESPP), partially offset by $27.3 million for the purchase of 2025 Capped Calls, $3.4 million in withholding taxes paid for the net share settlement of equity awards and $0.2 million of payments of debt issuance costs.

Financing activities provided $5.9 million of cash in the six months ended June 30, 2019, which consisted primarily of $6.1 million in proceeds from the exercise of stock options and $2.6 million in proceeds from the issuance of common stock purchased by employees under the ESPP, partially offset by $2.8 million in withholding taxes paid for the net share settlement of equity awards.

Financing activities provided $202.3 million of cash in the nine months ended September 30, 2020, which consisted primarily of $222.8 million in proceeds from the issuance of the 2025 Notes, net of issuance costs paid of $7.2 million, $6.2 million in proceeds from the exercise of stock options and $7.1 million in proceeds from the issuance of common stock purchased by employees under the Rapid7, Inc.

2015 Employee Stock Purchase Plan (ESPP), partially offset by $27.3 million for the purchase of 2025 Capped Calls, $5.9 million in withholding taxes paid for the net share settlement of equity awards, $0.4 million of payments of debt issuance costs and $0.2 million of deferred consideration payments.

Financing activities provided $8.5 million of cash in the nine months ended September 30, 2019, which consisted primarily of $7.9 million in proceeds from the exercise of stock options and $5.5 million in proceeds from the issuance of common stock purchased by employees under the ESPP, partially offset by $4.9 million in withholding taxes paid for the net share settlement of equity awards.

Contractual Obligations and Commitments

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In January 2020, we amended our contract with Amazon Web Services (AWS) which increased our total purchase obligation by $15.0 million, $40.0 million and $50.0 million in 2021, 2022 and 2023, respectively, for a total additional obligation of $105.0 million.

As of June 30, 2020, other than the items noted above, there were no material changes in our contractual obligations and commitments from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2019 filed with the SEC on February 28, 2020.

As of September 30, 2020, other than the items noted above, there were no material changes in our contractual obligations and commitments from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2019 filed with the SEC on February 28, 2020.

Off-Balance Sheet Arrangements

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Our actual results may differ from these estimates.

There have been no material changes in our critical accounting policies from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2019 filed with the SEC on February 28, 2020.

There have been no

material changes in our critical accounting policies from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2019 filed with the SEC on February 28, 2020.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis