Sprout Social, Inc. 10-K

Item 8. Financial Statements and Supplementary Data Sprout Social, Inc. Consolidated Financial Statements As of December 31, 2020 and 2019 and for the Years Ended December 31, 2020, 2019 and 2018 Page(s) Report of Independent Registered Public Accounting Firm 91 Consolidated Balance Sheets as of December 31, 2020 and 2019 92 Consolidated Statements of Operations and Comprehensive Loss for the Years Ended December 31, 2020, 2019 and 2018 93 Consolidated Statements of Convertible Preferred Stock and Stockholders’ (Deficit)/Equity for the Years Ended December 31, 2020, 2019 and 2018 94 Consolidated Statements of Cash Flows for the Years Ended December 31, 2020, 2019 and 2018 96 Notes to Consolidated Financial Statements 98 90 Report of Independent Registered Public Accounting Firm To the Board of Directors and Stockholders of Sprout Social, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Sprout Social, Inc. and its subsidiaries, (the “Company”) as of December 31, 2020 and 2019, and the related consolidated statements of operations and comprehensive loss, of convertible preferred stock and stockholders’ (deficit)/equity, and of cash flows for each of the three years in the period ended December 31, 2020, including the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020 in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits of these consolidated financial statements in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion. /s/ PricewaterhouseCoopers LLP Chicago, Illinois February 24, 2021 We have served as the Company’s auditor since 2018. 91 Sprout Social, Inc. Consolidated Balance Sheets (in thousands, except share data) December 31, 2020 2019 Assets Current assets Cash and cash equivalents $ 114,515 $ 135,310 Short-term investments 49,364 — Accounts receivable, net of allowances of $ 1,428 and $ 706 at December 31, 2020 and 2019, respectively 17,178 11,099 Deferred commissions 8,622 5,574 Prepaid expenses and other assets 9,651 5,050 Total current assets 199,330 157,033 Property and equipment, net 14,925 13,529 Deferred commissions, net of current portion 8,757 5,505 Operating lease, right-of-use asset 10,132 5,618 Goodwill 2,299 2,299 Intangible assets, net 4,088 5,482 Other assets, net 138 125 Total assets $ 239,669 $ 189,591 Liabilities and Stockholders’ (Deficit)/Equity Current liabilities Accounts payable $ 1,543 $ 2,049 Deferred revenue 43,407 29,566 Operating lease liability 2,155 2,331 Accrued wages and payroll related benefits 9,885 4,053 Accrued expenses and other 6,587 5,057 Total current liabilities 63,577 43,056 Deferred revenue, net of current portion 355 209 Operating lease liability, net of current portion 23,638 18,196 Total liabilities 87,570 61,461 Commitments and contingencies (Note 10) Stockholders’ equity Class A common stock, par value $ 0.0001 per share; 1,000,000,000 shares authorized; 46,698,354 and 43,898,850 shares issued and outstanding at December 31, 2020, respectively; 41,714,870 and 39,041,065 shares issued and outstanding at December 31, 2019, respectively 4 4 Class B common stock, par value $ 0.0001 per share; 25,000,000 shares authorized; 9,574,566 and 9,367,622 shares issued and outstanding at December 31, 2020, respectively; 9,803,933 shares issued and outstanding at December 31, 2019 1 1 Additional paid-in capital 328,343 263,943 Treasury stock, at cost ( 29,206 ) ( 20,430 ) Accumulated deficit ( 147,043 ) ( 115,388 ) Total stockholders’ equity 152,099 128,130 Total liabilities and stockholders’ equity $ 239,669 $ 189,591 See Notes to Consolidated Financial Statements. 92 Sprout Social, Inc. Consolidated Statements of Operations and Comprehensive Loss (in thousands, except share and per share data) Year Ended December 31, 2020 2019 2018 Revenue Subscription $ 131,804 $ 102,243 $ 78,392 Professional services and other 1,145 464 421 Total revenue 132,949 102,707 78,813 Cost of revenue Subscription 34,196 27,862 20,726 Professional services and other 721 292 268 Total cost of revenue 34,917 28,154 20,994 Gross profit 98,032 74,553 57,819 Operating expenses Research and development 30,491 28,059 25,426 Sales and marketing 59,137 55,584 35,980 General and administrative 40,406 38,178 17,185 Total operating expenses 130,034 121,821 78,591 Loss from operations ( 32,002 ) ( 47,268 ) ( 20,772 ) Interest expense ( 366 ) ( 270 ) ( 617 ) Interest income 617 307 35 Other income 223 490 442 Loss before income taxes ( 31,528 ) ( 46,741 ) ( 20,912 ) Income tax expense 127 66 22 Net loss and comprehensive loss $ ( 31,655 ) $ ( 46,807 ) $ ( 20,934 ) Net loss per share attributable to common shareholders, basic and diluted $ ( 0.62 ) $ ( 2.54 ) $ ( 1.26 ) Weighted-average shares outstanding used to compute net loss per share, basic and diluted 51,368,737 18,438,695 16,593,258 See Notes to Consolidated Financial Statements. 93 Sprout Social, Inc. Consolidated Statements of Convertible Preferred Stock and Stockholders’ (Deficit)/Equity (in thousands, except share data) Series A, A-1, B, B-1 and C Convertible Redeemable Preferred Stock Voting Common Stock Additional Paid-in Capital Series A, A-1, B, B-1, C and D Convertible Preferred Stock (in equity) Treasury Stock Accumulated Deficit Total Stockholders’ (Deficit)/Equity Shares Amount Shares Amount Shares Amount Shares Amount Balances at December 31, 2017 19,837,966 $ 62,671 16,504,353 $ 1 $ 1,685 — $ — 1,973,851 $ ( 10,507 ) $ ( 47,647 ) $ ( 56,468 ) Exercise of stock options 174,756 — 106 106 Stock-based compensation expense 53 53 Reclassification of convertible preferred stock ( 19,837,966 ) ( 62,671 ) 19,837,966 62,671 62,671 Issuance of Series D convertible preferred stock 2,176,297 40,305 40,305 Net loss ( 20,934 ) ( 20,934 ) Balances at December 31, 2018 — — 16,679,109 1 1,844 22,014,263 102,976 1,973,851 ( 10,507 ) ( 68,581 ) 25,733 Exercise of stock options 163,962 — 92 92 Stock-based compensation expense 25,333 25,333 Issuance of common stock from settlement of equity awards 1,164,134 — — Taxes paid related to net share settlement of equity awards 699,954 ( 9,923 ) ( 9,923 ) Issuance of common stock in connection with initial public offering, net of underwriting discounts and issuance cost 8,823,530 2 133,700 133,702 Conversion of convertible preferred stock to common stock in connection with initial public offering 22,014,263 2 102,974 ( 22,014,263 ) ( 102,976 ) — Net loss ( 46,807 ) ( 46,807 ) Balances at December 31, 2019 — — 48,844,998 5 263,943 — — 2,673,805 ( 20,430 ) ( 115,388 ) 128,130 Exercise of stock options 963,157 — 370 370 Stock-based compensation expense 11,079 11,079 Issuance of common stock from settlement of equity awards 1,189,254 — — Taxes paid related to net share settlement of equity awards 324,298 ( 8,636 ) ( 8,636 ) 94 Sprout Social, Inc. Consolidated Statements of Convertible Preferred Stock and Stockholders’ (Deficit)/Equity (in thousands, except share data) Issuance of common stock in connection with underwriters' purchase of over-allotment shares, related to initial public offering, net of underwriters' discounts, commissions and offering costs 629,603 — 9,738 9,738 Exercise of warrants 26,960 — 140 8,345 ( 140 ) — Issuance of common stock in connection with follow-on public offering, net of underwriters' discounts, commissions and offering costs 1,612,500 — 41,936 41,936 Proceeds from disgorgement of stockholder short-swing profits 1,137 1,137 Net loss ( 31,655 ) ( 31,655 ) Balances at December 31, 2020 — $ — 53,266,472 $ 5 $ 328,343 — $ — 3,006,448 $ ( 29,206 ) $ ( 147,043 ) $ 152,099 See Notes to Consolidated Financial Statements. 95 Sprout Social, Inc. Consolidated Statements of Cash Flows (in thousands) Year Ended December 31, 2020 2019 2018 Cash flows from operating activities Net loss $ ( 31,655 ) $ ( 46,807 ) $ ( 20,934 ) Adjustments to reconcile net loss to net cash (used in) operating activities Depreciation of property and equipment 2,838 2,736 2,441 Amortization of line of credit issuance costs 215 194 128 Amortization of premium on investments 423 — — Amortization of acquired intangible assets 1,394 1,532 1,545 Amortization of deferred commissions 7,702 4,812 2,795 Amortization of right-of-use operating lease asset 1,053 1,056 — Stock-based compensation expense 11,079 25,333 53 Provision for accounts receivable allowances 2,005 2,208 793 Changes in operating assets and liabilities Accounts receivable ( 8,083 ) ( 2,756 ) ( 4,940 ) Prepaid expenses and other current assets ( 4,737 ) ( 2,657 ) ( 1,242 ) Deferred commissions ( 14,002 ) ( 8,170 ) ( 6,964 ) Accounts payable and accrued expenses 6,635 1,430 1,761 Deferred revenue 13,987 8,235 7,162 Lease liabilities ( 206 ) ( 1,560 ) — Deferred rent — — 164 Net cash (used in) operating activities ( 11,352 ) ( 14,414 ) ( 17,238 ) Cash flows from investing activities Purchases of property and equipment ( 4,015 ) ( 760 ) ( 2,097 ) Purchases of short-term investments ( 53,143 ) — — Proceeds from maturity of investments 3,356 — — Net cash (used in) investing activities ( 53,802 ) ( 760 ) ( 2,097 ) Cash flows from financing activities Proceeds from initial public offering, net of underwriters' discounts and commissions — 139,500 — Proceeds from underwriters' purchase of overallotment shares, related to the Company's initial public offering, net of underwriters' discounts and commissions 9,954 — — Proceeds from follow-on offering of common stock, net of underwriters' discounts and commissions 42,127 — — Proceeds from line of credit — — 11,000 Repayments of line of credit — — ( 14,000 ) Proceeds from issuance of convertible preferred stock — — 40,305 Payments for line of credit issuance costs ( 187 ) ( 148 ) ( 163 ) Proceeds from exercise of stock options 370 92 106 Proceeds from disgorgement of stockholders short-swing profits 1,137 — — Employee taxes paid related to the net share settlement of stock-based awards ( 8,636 ) ( 9,923 ) — 96 Sprout Social, Inc. Consolidated Statements of Cash Flows (in thousands) Payments of deferred offering costs ( 406 ) ( 5,227 ) — Net cash provided by financing activities 44,359 124,294 37,248 Net increase (decrease) in cash and cash equivalents ( 20,795 ) 109,120 17,913 Cash and cash equivalents Beginning of year 135,310 26,190 8,277 End of year $ 114,515 $ 135,310 $ 26,190 Supplemental cash flow information Cash paid for interest $ 138 $ 76 $ 489 Cash paid for income taxes $ 66 $ 22 $ — Supplemental disclosure of noncash investing and financing activities Operating lease liability arising from operating ROU asset obtained $ 5,472 $ — $ — Noncash exercise of stock warrants $ 140 $ — $ — Property and equipment acquired under lease incentives $ — $ — $ 927 Deferred offering costs, accrued but not yet paid $ — $ 573 $ — Balance of Property and equipment in Accounts Payable $ 367 $ — $ — See Notes to Consolidated Financial Statements. 97 Sprout Social, Inc. Notes to Consolidated Financial Statements 1. Nature of Operations and Summary of Significant Accounting Policies Nature of Operations Sprout Social, Inc. (“Sprout Social” or the “Company”), a Delaware corporation, began operating on April 21, 2010 to design, develop and operate a web-based comprehensive social media management tool enabling companies to manage and measure their online presence. Customers access their accounts online via a web-based interface or a mobile application. Some customers also purchase the Company’s professional services, which primarily consist of consulting and training services. The Company’s fiscal year end is December 31. The Company’s customers are primarily located throughout the United States, and a portion of customers are located in foreign countries. The Company is headquartered in Chicago, Illinois. Follow-on Offering On August 17, 2020, the Company completed an equity offering in which it issued and sold 1,612,500 shares of Class A common stock, inclusive of the exercised over-allotment option, at a public offering price of $ 27.50 per share. In addition, 5,287,500 shares of the Company’s common stock were sold by selling shareholders of the Company, inclusive of the over-allotment, as part of this offering. The Company received net proceeds of $ 42.1 million after deducting underwriting discounts and commissions. The Company did not receive any proceeds from the sale of common stock by selling shareholders. Initial Public Offering Over-allotment On January 15, 2020, the Company issued and sold 629,603 shares of Class A common stock for total net proceeds of $ 10.0 million after deducting underwriting discounts and commissions, as a result of the over-allotment option exercise by the underwriters of the Company’s initial public offering. Initial Public Offering On December 17, 2019, the Company completed its initial public offering or “IPO” in which it issued and sold 8,823,530 shares of Class A common stock at a price to the public of $ 17.00 per share. The shares sold and issued in the IPO resulted in an aggregate gross offering price of $ 150.0 million. The Company received net proceeds of $ 134.3 million after deducting underwriting discounts and commissions of $ 10.5 million and offering expenses of $ 5.2 million. Immediately prior to the closing of the IPO, all shares of outstanding convertible preferred stock automatically converted into an aggregate of 22,014,263 shares of Class A common stock. In addition, the Company authorized 1,000,000,000 Class A common shares, 25,000,000 Class B common shares and 10,000,000 shares of preferred stock for future issuance. Principles of Consolidation and Basis of Presentation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation. The consolidated financial statements and accompanying notes were prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). Use of Estimates The preparation of financial statements in conformity with GAAP requires management to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. The Company bases its estimates on 98 Sprout Social, Inc. Notes to Consolidated Financial Statements historical experience and on other assumptions that its management believes are reasonable under the circumstances. Actual results could differ from those estimates. The Company’s most significant estimates and judgments are those related to the estimated period of benefit for incremental costs of obtaining a contract with a customer, the incremental borrowing rate for operating leases, calculation of allowance for doubtful accounts, valuation of assets and liabilities acquired as part of business combinations, useful lives of long-lived assets, stock-based compensation, income taxes, commitments and contingencies and litigation, among others. Segment Information The Company operates as one operating segment. The Company’s chief operating decision maker (“CODM”) is its chief executive officer, who reviews financial information for purposes of making operating decisions, assessing financial performance and allocating resources. The Company’s CODM evaluates financial information on a consolidated basis. As the Company operates as one operating segment, all required segment financial information is found in the consolidated financial statements. Fair Value of Financial Instruments The Company has the following financial instruments: cash, cash equivalents, marketable securities, accounts receivable, accounts payable and accrued liabilities. The carrying value of the Company’s cash equivalents, accounts receivable, accounts payable and accrued liabilities approximates fair value due to their short-term nature. Cash and Cash Equivalents The Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents are recorded at cost, which approximates fair value. Interest earned on cash and cash equivalents is recorded as interest income in the consolidated statement of operations. Marketable Securities Marketable securities consist of corporate bonds, commercial paper, and U.S. Treasury securities. The Company classifies marketable securities as available-for-sale at the time of purchase and reevaluates such classification as of each balance sheet date. All marketable securities are recorded at their estimated fair values. Unrealized gains and losses for the available-for-sale debt securities that are unrelated to credit loss factors are recorded in accumulated other comprehensive income (loss), or AOCI. As of December 31, 2020 and December 31, 2019, the Company’s AOCI balance was insignificant. Unrealized losses determined to be credit-related are recorded as Other income in the consolidated statements of operations and comprehensive loss and as an allowance for credit losses on Marketable securities on the consolidated balance sheet. As of December 31, 2020, the gross unrealized gains and losses on available-for-sale debt securities were immaterial and there were no expected credit losses related to the Company's available-for-sale debt securities. Accounts Receivable and Allowance for Doubtful Accounts Accounts receivable primarily consist of amounts billed and currently due from customers, net of an allowance for doubtful accounts. Subscription fees billed in advance of the related subscription term represent contract liabilities and are presented as accounts receivable and deferred revenues upon establishment of an unconditional right to payment under non-cancellable contracts. Our typical payment terms provide for customer payment within 30 days of the date of the contract. 99 Sprout Social, Inc. Notes to Consolidated Financial Statements Accounts receivable are subject to collection risk. The Company performs evaluations of its customers’ financial positions and generally extends credit on account, without collateral. The Company determines the need for an allowance for doubtful accounts based upon various factors, including past collection experience, credit quality of the customer, age of the receivable balance and current economic conditions. If the financial condition of the Company’s customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. Amounts are charged against the allowance for doubtful accounts once collection efforts are unsuccessful. Bad debt expense was $ 2.0 million, $ 2.2 million and $ 0.8 million for the years ended December 31, 2020, 2019 and 2018, respectively. The allowance for doubtful accounts was $ 1.4 million and $ 0.7 million as of December 31, 2020 and 2019, respectively. The activity related to the allowance for doubtful accounts for the years ended December 31, 2020 and 2019 was as follows (in thousands): Balance at December 31, 2018 $ 374 Additions 1,920 Write-offs, net of recoveries ( 1,588 ) Balance at December 31, 2019 706 Additions 2,005 Write-offs, net of recoveries ( 1,283 ) Balance at December 31, 2020 $ 1,428 The activity related to the allowance for doubtful accounts for the year ended December 31, 2018 was immaterial. Concentration of Credit Risk Financial instruments that potentially expose the Company to concentrations of credit risk are primarily cash and cash equivalents, accounts receivable and marketable securities. The Company's cash and cash equivalents are generally held with large financial institutions. Although the Company's deposits may exceed federally insured limits, the financial institutions that the Company uses have high investment-grade credit ratings and, as a result, the Company believes that, as of December 31, 2020, its risk relating to deposits exceeding federally insured limits was not significant. The Company has credit risk regarding trade accounts receivable as the Company generally does not require collateral. Allowances are maintained for potential credit losses. As of December 31, 2020 and 2019, there were no individual customers that accounted for more than 10% of the Company’s total revenue or net accounts receivable. The Company’s marketable securities consist of investment-grade corporate bonds, commercial paper, and U.S. Treasury securities. The Company limits the amount of investments in any single issuer and believes that, as of December 31, 2020, its concentration of credit risk related to marketable securities was not significant. 100 Sprout Social, Inc. Notes to Consolidated Financial Statements Property and Equipment Property and equipment are recorded at cost, net of accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the following estimated useful lives: Computer equipment and hardware 3 - 5 years Furniture and fixtures 3 - 7 years Leasehold improvements Lesser of useful life or remaining lease term Maintenance and repairs that do not improve or extend the lives of the respective assets are expensed as incurred. Upon retirement or sale, the cost of assets disposed and the related accumulated depreciation are written off, and any resulting gain or loss is credited or charged to income. Goodwill Goodwill consists of the excess purchase price over the fair value of net assets acquired in purchase business combinations. The Company conducts a test for the impairment of goodwill on at least an annual basis as of October 1 st or sooner if indicators of impairment arise. The Company first assesses qualitative factors to determine whether it is more likely than not that goodwill is impaired. As part of the qualitative assessment, the Company evaluates factors including macroeconomic conditions, industry and market considerations, cost factors and overall financial performance of its reporting unit. The Company has a single reporting unit. If the Company concludes that it is more-likely-than-not that its single reporting unit is impaired or if the Company elects not to perform the optional qualitative assessment, a quantitative assessment is performed. For the quantitative assessment, the fair value of the Company’s reporting unit is compared with the carrying amount of net assets, including goodwill, related to the reporting unit. The Company recognizes an impairment charge for the amount, if any, by which the carrying amount of a reporting unit exceeds the fair value of the reporting unit. The Company did no t record any impairment loss during the years ended December 31, 2020 and 2019. Impairment of Long-Lived Assets The Company evaluates the recoverability of its long-lived assets, which includes property and equipment and intangible assets, whenever events or circumstances indicate that the carrying amount of these assets may not be recoverable. Recoverability of an asset is measured by comparison of its carrying amount to the anticipated future undiscounted cash flows that the asset is expected to generate. If that comparison indicates that the carrying amount is not recoverable, an impairment loss is recorded in the amount by which the carrying amount of the asset exceeds its fair value. The Company did no t record any impairment loss during the years ended December 31, 2020 and 2019. Revenue Recognition The Company generates revenues from subscriptions to the Company’s web-based social media management platform under a software-as-a-service model. Our subscriptions can range from monthly to one-year or multi-year arrangements and are generally non-cancellable. The Company’s customers do not have the right to take possession of the online software solution. The Company commences revenue recognition when control of these products is transferred to customers in an amount that reflects the consideration the Company expects to be entitled to in exchange for such products. 101 Sprout Social, Inc. Notes to Consolidated Financial Statements The Company determines revenue recognition through the following steps: • identify the contract with a customer; • identify the performance obligations in a contract; • determination of the transaction price; • allocate the transaction price to the performance obligations identified in the contract; and • recognize revenue when (or as) performance obligations are satisfied. Identify the contract with a customer A customer contract is generally identified when the Company and a customer have executed an agreement or online acceptance that requires the Company to grant access to its online software products and provide professional services in exchange for consideration from the customer. Identify the performance obligations in a contract A performance obligation is a promise to provide a distinct service or a series of distinct services. A service that is promised to a customer is distinct if the customer can benefit from the service either on its own or together with other readily available resources, and a company’s promise to transfer the service to the customer is separately identifiable from other promises in the contract. The Company has determined that subscriptions for its online software products are a distinct performance obligation, because no implementation work is required and the online software product is fully functional once a customer has access. In addition, the Company sells professional services consisting of, but not limited to, implementation fees, specialized training, one-time reporting services and recurring periodic reporting services. Professional services are distinct, as they are sold separately, and the customer can benefit from the services to make better use of the online product purchased. Determination of the transaction price The transaction price is the amount of consideration to which the Company expects to be entitled in exchange for transferring goods or services to a customer. The Company estimates any variable consideration it will be entitled at contract inception and will reassess as circumstances change, when determining the transaction price. The transaction price for subscription and professional services is generally fixed at contract inception; therefore, the Company’s contracts do not contain a significant amount of variable consideration. As a result, the amount of revenue recognized in the periods presented from performance obligations satisfied (or partially satisfied) in previous periods due to changes in the transaction price was not material. Allocate the transaction price to the performance obligations identified in the contract If the contract contains a single performance obligation, the Company allocates the entire transaction price to the single performance obligation. For contracts containing multiple performance obligations, the transaction price is allocated to each performance obligation based on the relative standalone selling price (“SSP”) of the services provided to the customer. The Company determines the SSP based upon the prices at which the Company separately sells subscription and various professional services, and based on the Company’s overall pricing objectives, taking into consideration market 102 Sprout Social, Inc. Notes to Consolidated Financial Statements conditions, value of the Company’s contracts, the types of offerings sold, customer demographics and other factors. Recognize revenue when (or as) performance obligations are satisfied Subscription revenues are recognized ratably over the contract terms beginning on the date the Company’s service is made available to customers, which typically begins on the commencement date of each contract as no implementation work is required. The Company’s customers do not have the right to take possession of the online software solution. The Company’s subscription service arrangements are generally non-cancellable and do not provide for refund of subscription fees. Professional services are typically provided for a fixed fee, and revenues are recognized over time for these contracts as services are provided to the customer. Professional services revenue represents less than 1% of revenue for the periods presented. Sales Commissions Sales force commissions are considered incremental costs of obtaining a contract with a customer. Sales commissions are paid on initial contracts with new customers and for expansion of contracts with existing customers. Commissions are not paid on customer renewals. Sales commissions are deferred and amortized on a straight-line basis over a period of benefit of three years , as determined by the Company. The Company determined the three-year period by taking into consideration the products sold, expected customer life, expected contract renewals, technology life cycle and other factors. Amortization expense is included as a component of sales and marketing expense. Deferred commissions during the year ended December 31, 2020 increased $ 6.3 million as a result of deferring incremental costs of obtaining contracts with customers of $ 14.0 million, which was offset by $ 7.7 million of amortization. Deferred commissions during the year ended December 31, 2019 increased $ 3.3 million as a result of deferring incremental costs of obtaining contracts with customers of $ 8.1 million, which was offset by $ 4.8 million of amortization. The Company periodically reviews the deferred sales commissions for impairment and noted no impairment loss for the years ended December 31, 2020 and 2019. Cost of Revenues Cost of revenues primarily consist of expenses related to hosting the Company’s service and providing support to customers, depreciation associated with computers and hardware and amortization expense related to acquired developed technologies. These expenses are comprised of hosted data center global costs, fees paid to third-party data providers and personnel-related costs directly associated with cloud infrastructure and customer support, including salaries, benefits, bonuses and allocated overhead. Overhead associated with facilities and information technology is allocated to cost of revenue and operating expenses based on headcount. Advertising Costs Advertising costs primarily include online advertising on search engines. Advertising costs are expensed as incurred and included as a component of sales and marketing expenses. The Company incurred approximately $ 3.1 million, $ 2.4 million and $ 1.5 million in advertising costs during the years ended December 31, 2020, 2019 and 2018, respectively. Research and Development Costs Costs incurred in research and development are expensed as incurred and consist primarily of payroll, employee benefits, allocated overhead and other expenses associated with product development. 103 Sprout Social, Inc. Notes to Consolidated Financial Statements Stock-Based Compensation The Company recognizes compensation expense for equity awards based on the grant‐date fair value over the remaining requisite service period for the award. For awards subject to graded vesting, the compensation expense recognized is at least equal to the vested portion of the award. The Company uses the Black‐Scholes option pricing model to measure the fair value of the option awards. The Company sets the exercise price at the estimated fair‐market value at the date of the grant. Management utilized third‐party valuations to assist with the determination of the Company’s estimated fair‐market value and common stock price prior to completion of its IPO on December 17, 2019. The exercise price affects the fair value of the option award in the Black‐Scholes option pricing model. The grant-date fair value of RSUs that contain a market condition is determined using a Monte Carlo valuation model. The Company recognizes forfeitures as they occur. Foreign Currency The functional currency of the Company’s foreign subsidiaries is the U.S. dollar. Accordingly, monetary balance sheet accounts are remeasured using exchange rates in effect at the balance sheet dates and non-monetary items are remeasured at historical exchange rates. Expenses are generally remeasured at the average exchange rates for the period. Foreign currency related gains and losses have been immaterial during the periods presented. Leases The Company determines if an arrangement is a lease at inception, and all significant lease arrangements are generally recognized at lease commencement. Operating lease right-of-use, or ROU, assets and operating lease liabilities are recognized at commencement based on the present value of fixed payments not yet paid over the remaining lease term. ROU assets also include any initial indirect costs incurred and any lease payments made at or before the lease commencement date, less lease incentives received. For short-term leases of 12 months or less, no ROU asset or lease liability is recorded. The Company records rent expense in its consolidated statement of operations and comprehensive loss on a straight-line basis over the term of the lease and records variable lease payments as incurred. Additionally, the Company has elected to combine lease and non-lease components and account for them as a single component. ROU assets represent the Company’s right to use an underlying asset during the lease term, and lease liabilities represent its obligations to make lease payments arising from the lease. The Company’s lease terms may include options to extend or terminate the lease when it is reasonably certain that it will exercise the option. The Company uses its incremental borrowing rate in determining the lease liabilities, as its leases generally do not provide an implicit rate. The incremental borrowing rate is an estimate of the collateralized borrowing rate the Company would incur on future lease payments over a similar term based on the information available at the commencement date. The Company does not have any finance leases. Commitments and Contingencies The Company evaluates all pending or threatened commitments and contingencies, if any, that are reasonably likely to have a material effect on its operations or financial position. The Company assesses the probability of an adverse outcome and records a provision for a liability when management believes that it is probable that a liability has been incurred and the amount can be reasonably estimated. Income Taxes The Company accounts for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that 104 Sprout Social, Inc. Notes to Consolidated Financial Statements have been included in the financial statements. Under this method, deferred tax assets and liabilities are determined on the basis of the differences between the financial statement and tax bases of assets and liabilities by using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date. The Company recognizes deferred tax assets to the extent that these assets are believed to be more likely than not to be realized. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts that are more likely than not expected to be realized. In making such a determination, all available positive and negative evidence is considered, including future reversals of existing taxable temporary differences, projected future taxable income, tax-planning strategies and results of recent operations. Tax benefits for uncertain tax positions are based upon management’s evaluation of the information available at the reporting date. To be recognized in the financial statements, a tax benefit must be at least more-likely-than-not of being sustained based on technical merits. The benefit for positions meeting the recognition threshold is measured as the largest benefit more-likely-than-not of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The Company’s policy is to recognize interest and penalties related to the underpayment of income taxes as a component of provision for income taxes. Accrued interest and penalties are included on the related tax liability line in the consolidated balance sheets, as applicable. The Company files income tax returns in the U.S. federal jurisdiction, Illinois and other state jurisdictions. It is difficult to predict the final timing and resolution of any particular uncertain tax position. Based on the Company’s assessment of many factors, including past experience and complex judgments about future events, the Company does not currently anticipate significant changes in its uncertain tax positions over the next 12 months. Deferred Offering Costs Deferred offering costs of $ 5.8 million, primarily consisting of certain legal, accounting and other third-party fees that were directly associated with the IPO, were recorded in stockholders’ equity as a reduction of additional paid-in capital generated upon closing of the IPO on December 17, 2019. Deferred offering costs of $ 0.2 million were recorded in stockholders’ equity as a reduction of additional paid-in capital generated upon closing of the follow-on offering on August 17, 2020. Net Loss per Share The Company calculates basic net loss per share by dividing net loss attributable to common shareholders by the weighted-average number of the Company’s common stock shares outstanding during the respective period. Net loss attributable to common shareholders is net loss minus convertible preferred stock dividends declared, of which there were none during the periods presented. The Company calculates diluted net loss per share using the treasury stock and if-converted methods, which consider the potential impacts of outstanding stock options, RSUs, warrants and convertible preferred stock. Under these methods, the numerator and denominator of the net loss per share calculation are adjusted for these securities if the impact of doing so increases net loss per share. During the periods presented, the impact is to decrease net loss per share and therefore the Company is precluded from adjusting its calculation for these securities. As a result, diluted net loss per share is calculating using the same formula as basic net loss per share. 105 Sprout Social, Inc. Notes to Consolidated Financial Statements Recently Adopted Accounting Pronouncements In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”), including subsequent amendments. ASU 2016-02 requires lessees to record a ROU asset and lease liability for almost all leases. This ASU does not substantially impact lessor accounting. The Company adopted the standard on January 1, 2019 using a modified retrospective approach of applying the new standard at the adoption date. Under this approach, the Company will continue to report comparative periods presented in the period of adoption under ASC 840. The Company has elected the package of practical expedients permitted under the transition guidance within the new standard, which does not require it to reassess 1) whether any expired or existing contracts contain leases, 2) the lease classification of any expired or existing leases or 3) any initial direct costs for any existing leases. Adoption of this standard resulted in recognition of ROU assets of $ 6.7 million, short-term lease liabilities of $ 1.8 million, long-term lease liabilities of $ 20.3 million, a decrease in accrued expenses and other of $ 0.7 million and a decrease in deferred rent, net of current portion of $ 14.7 million, with no impact on retained earnings as of January 1, 2019. The adoption of the standard did not have a significant impact on the Company’s consolidated statement of operations. See Note 5 for further details. In June 2016, the FASB issued ASU 2016-13, including subsequent amendments, Measurement of Credit Losses on Financial Instruments (Topic 326) (“ASU 2016-13”), which modifies the accounting methodology for most financial instruments by establishing a new “expected loss model” that requires entities to estimate current expected credit losses on financial instruments, including trade accounts receivable, by using all practical and relevant information. This guidance is effective for interim and annual periods beginning after December 15, 2019. The Company adopted the ASU as of January 1, 2020, and the adoption did not have a material impact on the Company’s consolidated financial statements. In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other-Internal-Use Software (“ASU 2018-15”), which aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The guidance is effective for interim and annual reporting periods beginning after December 15, 2019. The Company adopted the ASU as of January 1, 2020, and the adoption did not have a material impact on the Company’s consolidated financial statements. Recent Accounting Pronouncements Not Yet Adopted In December 2019, the FASB issued ASU 2019-12, Simplifying the Accounting for Income Taxes , which simplifies certain aspects of accounting for income taxes. The guidance is effective for interim and annual reporting periods beginning after December 15, 2020, and early adoption is permitted. The Company does not expect adoption of this standard to have a material effect on the Company’s consolidated financial statements. 2. Revenue Recognition Disaggregation of Revenue The Company provides disaggregation of revenue based on geographic region in Note 11 and based on the subscription versus professional services and other classification on the consolidated statements of operations and comprehensive loss, as it believes these best depict how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors. 106 Sprout Social, Inc. Notes to Consolidated Financial Statements Deferred Revenue Deferred revenue is recorded upon establishment of unconditional right to payment under non-cancellable contracts for subscription and professional services described above and is recognized as the revenue recognition criteria are met. The Company generally invoices customers in advance in monthly, quarterly, semi-annual and annual installments. The deferred revenue balance is influenced by several factors, including the compounding effects of renewals, invoice duration, timing and size. Deferred revenue during the year ended December 31, 2020, increased $ 14.0 million as a result of $ 146.9 million of additional invoicing which was offset by $ 132.9 million of revenue recognized during the same period. Deferred revenue during the year ended December 31, 2019, increased $ 8.3 million as a result of $ 111.0 million of additional invoicing which was offset by $ 102.7 million of revenue recognized during the same period. The amount of revenue recognized during the years ended December 31, 2020 and 2019 that was included in deferred revenue at the beginning of each period was $ 28.9 million and $ 20.9 million, respectively. As of December 31, 2020, including amounts already invoiced and amounts contracted but not yet invoiced, $ 64.4 million of revenue is expected to be recognized from remaining performance obligations, of which 85 % is expected to be recognized in the next 12 months, 13 % is expected to be recognized in the subsequent 12 months and the remainder thereafter. 3. Property and Equipment As of the dates specified below, property and equipment consisted of the following (in thousands): As of December 31, 2020 2019 Leasehold improvements $ 18,308 $ 15,075 Furniture and fixtures 3,991 3,630 Computer equipment and hardware 2,487 1,926 Total property and equipment 24,786 20,631 Less: Accumulated depreciation ( 9,861 ) ( 7,102 ) Total property and equipment, net $ 14,925 $ 13,529 The Company recognized depreciation expense on property and equipment of $ 2.8 million, $ 2.7 million and $ 2.4 million for the years ended December 31, 2020, 2019 and 2018, respectively. 107 Sprout Social, Inc. Notes to Consolidated Financial Statements 4. Intangible Assets As of the dates specified below, intangible assets, net consisted of the following (in thousands): As of December 31, 2020 2019 Customer relationships $ 7,300 $ 7,300 Trademark 120 120 Technology platform 1,150 1,150 Noncompetition agreement 110 110 8,680 8,680 Less: Accumulated amortization Customer relationships ( 3,212 ) ( 2,169 ) Trademark ( 120 ) ( 120 ) Technology platform ( 1,150 ) ( 799 ) Noncompetition agreement ( 110 ) ( 110 ) ( 4,592 ) ( 3,198 ) Intangible assets, net $ 4,088 $ 5,482 Amortization of intangible assets totaled $ 1.4 million, $ 1.5 million, and $ 1.5 million for the years ended December 31, 2020, 2019 and 2018, respectively. The expected future amortization of intangible assets as of December 31, 2020 is summarized as follows (in thousands): Years Ending December 31, Amortization Expense 2021 $ 1,043 2022 1,043 2023 1,043 2024 959 2025 — $ 4,088 Intangible assets are all amortizable and have weighted-average amortization periods as follows: Intangible assets Years Customer relationships 7 Trademark 2 Technology platform 3 Noncompetition agreement 2 108 Sprout Social, Inc. Notes to Consolidated Financial Statements 5. Operating Leases The Company entered into operating lease agreements for offices in Chicago, Illinois, San Francisco, California, and Seattle, Washington. The operating leases require escalating monthly rental payments ranging from $ 17,000 to $ 280,000 . Under the terms of the lease agreements, the Company is also responsible for its proportionate share of taxes and operating costs, which are treated as variable lease costs. The Chicago lease expires in January 2028 and the Seattle lease expired in July 2020. The San Francisco lease expired in June 2019. The Company’s operating leases typically contain options to extend or terminate the term of the lease. The Company currently does not include any options to extend leases in its lease terms as it is not reasonably certain to exercise them. As such, it has recorded lease obligations only through the initial optional termination dates above. On January 21, 2020, the Company entered into a new lease agreement for an office in Seattle, Washington with an expected total future commitment of $ 7.9 million. The lease commenced in September 2020 and is expected to expire in January 2031. For accounting purposes under ASC 842, the lease commenced on January 23, 2020, resulting in the recording of a $ 5.4 million right-of-use operating lease asset and operating lease liability. The following table provides a summary of operating lease assets and liabilities as of December 31, 2020 (in thousands): Assets Operating lease right-of-use assets $ 10,132 Liabilities Operating lease liabilities 2,155 Operating lease liabilities, non-current 23,638 Total operating lease liabilities $ 25,793 Operating lease expense for the year ended December 31, 2020 and 2019 was $ 2.5 million and $ 2.3 million, respectively. Variable lease costs for the year ended December 31, 2020 and 2019 was $ 2.7 million and $ 2.8 million, respectively. Rent expense recorded under ASC 840 for the year ended December 31, 2018 was $ 4.7 million. Cash payments related to operating leases for the year ended December 31, 2020 and 2019 were $ 4.4 million and $ 5.6 million, respectively. The Company recognized $ 0.2 million, $ 0.5 million, and $ 0.4 million of sublease rental income in other income on the consolidated statement of operations in 2020, 2019, and 2018, respectively. As of December 31, 2020, the weighted-average remaining lease term is 8.0 years and the weighted-average discount rate is 5.6 %. Remaining maturities of operating lease liabilities as of December 31, 2020 are as follows (in thousands): 109 Sprout Social, Inc. Notes to Consolidated Financial Statements Years ending December 31, 2021 $ 3,540 2022 3,930 2023 4,021 2024 4,112 2025 4,205 Thereafter 12,293 Total future minimum lease payments $ 32,101 Less: imputed interest ( 6,308 ) Total operating lease liabilities $ 25,793 6. Income Taxes The Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”) was enacted on March 27, 2020 in the United States. The CARES Act provides a substantial stimulus and assistance package intended to address the impact of the COVID-19 pandemic, including tax relief and government loans, grants, and investments. The CARES Act did not have a material impact on our provision for income taxes. The Company elected to account for Global Intangible Low–Taxed Income (“GILTI”) as a current-period expense when incurred. Therefore, the Company has not recorded deferred taxes for basis differences expected to reverse in the future periods. There has historically been no provision for income taxes because the Company has historically incurred operating losses and maintains a full valuation allowance against its net deferred tax assets. In 2020, 2019, and 2018, the Company recognized an immaterial provision related to foreign income taxes. The components of loss before income taxes are as follows (in thousands): Year Ended December 31, 2020 2019 2018 Domestic $ ( 30,544 ) $ ( 45,106 ) $ ( 20,748 ) Foreign ( 984 ) ( 1,635 ) ( 164 ) Loss before income taxes $ ( 31,528 ) $ ( 46,741 ) $ ( 20,912 ) 110 Sprout Social, Inc. Notes to Consolidated Financial Statements A reconciliation of the difference between the federal statutory rate and the effective income tax rate as a percentage of income before taxes for the years ended December 31, 2020, 2019, and 2018 is as follows (in thousands): Year Ended December 31, 2020 2019 2018 Amount Tax Rate Amount Tax Rate Amount Tax Rate Federal statutory income tax $ ( 6,643 ) 21.00 % $ ( 9,801 ) 21.00 % $ ( 4,414 ) 21.00 % State income tax, net of federal tax benefit ( 1,056 ) 3.34 ( 1,577 ) 3.38 ( 618 ) 2.94 Foreign tax ( 51 ) 0.16 ( 25 ) 0.05 22 ( 0.10 ) Section 162(m) limitation 2,128 ( 6.73 ) — — — — Other 489 ( 1.45 ) 328 ( 0.72 ) 253 ( 1.20 ) Valuation allowance net of deferred tax assets 12,432 ( 39.30 ) 12,989 ( 27.83 ) 4,247 ( 20.21 ) Stock-based compensation ( 7,321 ) 23.14 ( 1,267 ) 2.71 11 ( 0.05 ) Return to provision 149 ( 0.47 ) ( 581 ) 1.25 ( 45 ) 0.21 Change of rate — — — — 566 ( 2.69 ) Effective income tax rate $ 127 ( 0.3 ) % $ 66 ( 0.2 ) % $ 22 ( 0.1 ) % Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred taxes at December 31, 2020 and 2019 are as follows (in thousands): As of December 31, 2020 2019 Deferred tax assets Net operating loss carryforwards $ 43,610 $ 30,285 Operating lease liability 6,175 4,915 Other 1,834 1,522 Total deferred tax assets 51,619 36,722 Deferred tax liabilities Depreciation and amortization ( 3,264 ) ( 3,598 ) Deferred commissions and bonus ( 4,161 ) ( 2,652 ) Operating lease right-of-use asset ( 2,426 ) ( 1,345 ) Other ( 1,056 ) ( 847 ) Total deferred tax liabilities ( 10,907 ) ( 8,442 ) Less: Valuation allowance ( 40,712 ) ( 28,280 ) Net deferred tax asset (liability) $ — $ — Due to the Company’s history of net losses and the difficulty in predicting future results, the Company believes that it cannot rely on projections of future taxable income to realize the deferred tax assets. Accordingly, it has established a full valuation allowance against its net deferred tax assets. 111 Sprout Social, Inc. Notes to Consolidated Financial Statements Significant management judgment is required in determining the Company’s deferred tax assets and liabilities and valuation allowances for purposes of assessing its ability to realize any future benefit from its net deferred tax assets. The Company intends to maintain this valuation allowance until sufficient positive evidence exists to support the reversal of the valuation allowance. Income tax expense recorded in the future will be reduced to the extent that sufficient positive evidence materializes to support a reversal of, or decrease in, the Company’s valuation allowance. The increase in the valuation allowance for deferred tax assets was approximately $ 12.4 million for the year ended December 31, 2020. The Company has total net operating loss carryforwards for federal income tax purposes of approximately $ 37.4 million as of December 31, 2020, which begin to expire in 2031. The Company has total net operating loss carryforwards for U.S. state income tax purposes of approximately $ 6.2 million as of December 31, 2020, which begin to expire in 2031. The operating loss carryforwards may be limited due to a change in control in the Company’s ownership as defined by the Internal Revenue Code Sections 382. Any future changes in the Company’s ownership may limit the use of such carryforward benefits. The Company’s effective income tax rates for the periods presented differ from the statutory rate of 25% due primarily to the impact of the tax reform and the change in the deferred tax asset valuation allowance. The Company files income tax returns in the U.S. federal jurisdiction and various state jurisdictions. Due to its operating loss carryforwards, the U.S. federal statute of limitations remains open for tax year 2010 and onward and the Company continues to be subject to examination by the Internal Revenue Service for tax years 2010 and later. The resolutions of any examinations are not expected to be material to these financial statements. As of December 31, 2020 and 2019, there are no penalties or accrued interest recorded in the consolidated financial statements. The calculation of the Company’s tax obligations involves dealing with uncertainties in the application of complex tax laws and regulations. ASC 740, Income Taxes, provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, on the basis of the technical merits. The Company has assessed its income tax positions and recorded tax benefits for all years subject to examination, based upon its evaluation of the facts, circumstances and information available at each period end. For those tax positions where the Company has determined there is a greater than 50% likelihood that a tax benefit will be sustained, the Company has recorded the largest amount of tax benefit that may potentially be realized upon ultimate settlement with a taxing authority that has full knowledge of all relevant information. For those income tax positions where it is determined there is less than 50% likelihood that a tax benefit will be sustained, no tax benefit has been recognized. The Company had no uncertain tax positions during the years ended December 31, 2020 and 2019. The Company recognizes interest and, if applicable, penalties for any uncertain tax positions. Interest and penalties are recorded as a component of income tax expense. In the years ended December 31, 2020 and 2019, the Company did no t have any accrued interest or penalties associated with any unrecognized tax benefits. The Company does not provide for U.S. income taxes on unremitted earnings of foreign subsidiaries. Unremitted earnings of foreign subsidiaries were immaterial at December 31, 2020. 7. Revolving Line of Credit On December 1, 2017, the Company entered into a Loan and Security Agreement (the “Agreement”) with a financial institution, which was amended on February 26, 2018, July 26, 2018, January 31, 2019, November 26, 2019 and February 5, 2020. The Agreement includes a revolving line of credit facility under which the Company may borrow up to $ 40.0 million as of December 31, 2020. The revolving line of credit facility has a maturity date of January 31, 2022. Borrowings under the Agreement 112 Sprout Social, Inc. Notes to Consolidated Financial Statements are collateralized by substantially all assets of the Company. There was no outstanding balance under the Agreement as of December 31, 2020 and 2019. The Agreement contains customary affirmative and negative covenants. The November 2019 amendment includes a “streamline period”, or Streamline Period, concept, which occurs when the Company maintains, for every consecutive day in the immediately preceding fiscal quarter, the sum of (i) unrestricted cash plus (ii) unused availability under the revolving line of credit in an amount equal to or greater than $ 75.0 million (the “Streamline Balance”). Any Streamline Period terminates on the earlier of the occurrence of an event of default and failure to maintain the Streamline Balance. Interest on borrowings accrues at an interest rate equal to the greater of (i) 4.75 % and (ii) (x) at any time when the Streamline Period is not in effect, one and one-half of one percent ( 1.50 %) above the prime rate and (y) at any time when the Streamline Period is in effect, the prime rate. The Company is contingently liable under two standby letters of credit which are required as security for the Company’s current office leases (Note 5). The agreements allow for the Company to elect to secure the letters of credit with restricted cash or by reducing the revolving credit facility borrowing capacity. At December 31, 2020 and 2019, the Company elected to reduce the revolving credit facility borrowing capacity by $ 3.2 million as security for future lease payments. 8. Convertible Preferred Stock and Stockholders’ Equity Common Stock As of December 31, 2020, the Company has authorized 1,000,000,000 shares of Class A common stock with a par value of $ 0.0001 per share and 25,000,000 shares of Class B common stock with a par value of $ 0.0001 per share. Each holder of Class A and Class B common stock shall be entitled to one and ten votes, respectively, for each share held as of the record date and shall be entitled to receive dividends, when, as and if declared by the Board of Directors. Each share of Class B common stock is convertible into one share of Class A common stock at any time and will convert automatically upon certain transfers and upon the earlier of (i) the first date on which the voting power of all then outstanding shares of Class B common stock represents less than 10 % of the combined voting power of all then outstanding shares of Class A common stock and Class B common stock, (ii) the date that is seven ( 7 ) years from the closing of the IPO on December 17, 2019 and (iii) the date specified by a vote of the holders of a majority of the then outstanding shares of Class B common stock, voting as a separate class. Following such conversion, each share of Class A common stock will have one vote per share and the rights of the holders of all outstanding shares of common stock will be identical. The total Class A and Class B common stock outstanding as of December 31, 2020 is 43,898,850 and 9,367,622 shares, respectively. 113 Sprout Social, Inc. Notes to Consolidated Financial Statements Convertible Preferred Stock As of December 31, 2018, the Company had the following preferred stock outstanding (in thousands, except share and per share data): As of December 31, 2018 Series Issue Date Shares Authorized Shares Issued and Outstanding Carrying Amount Aggregate Liquidation Preference Issuance Price Per Share Series A convertible preferred stock (“Series A”) April and June 2010 2,690,403 2,690,403 $ 448 $ 448 $ 0.1667 Series A-1 convertible preferred stock (“Series A-1”) October 2010 1,600,000 1,600,000 800 800 0.5000 Series B convertible preferred stock (“Series B”) February 2011 6,108,000 6,108,000 9,961 9,999 1.6370 Series B-1 convertible preferred stock (“Series B-1”) June 2014 2,492,570 2,449,700 9,663 9,714 3.9655 Series C convertible preferred stock (“Series C”) February 2016 6,989,863 6,989,863 41,799 42,000 6.0087 Series D convertible preferred stock (“Series D”) December 2018 2,176,297 2,176,297 40,305 40,500 18.6096 Total all series 22,057,133 22,014,263 $ 102,976 $ 103,461 Immediately prior to the closing of the IPO on December 17, 2019, all shares of outstanding convertible preferred stock automatically converted into an aggregate of 22,014,263 shares of Class A common stock. There was no convertible preferred stock outstanding at December 31, 2020 and 2019, respectively. 9. Incentive Stock Plan On April 27, 2016, the Company established the Sprout Social, Inc. 2016 Stock Plan (the “2016 Plan”) as an amendment and restatement of the Sprout Social, Inc. 2010 Amended and Restated Stock Incentive Plan, under which awards, including options, restricted stock purchases rights, restricted stock bonus or restricted stock unit awards, for up to 5,467,862 shares of common stock may, at the discretion of the Board of Directors, be issued to employees, consultants, and directors of the Company. Under the 2016 Plan, any shares withheld upon settlement of RSUs, as elected by the employee to cover withholding taxes, will again be available for future grants under the plan. There were no changes to existing stock options outstanding as a result of the amendment and restatement. The exercise price for each award is determined by the Board of Directors. However, each option must have an exercise price of at least the fair market value of the option and no less than 110 % of fair market value for options granted to a 10 % owner optionee. Effective October 17, 2019, the Company established the Sprout Social, Inc. 2019 Incentive Award Plan (the “2019 Plan”), under which awards, including options, stock appreciation rights, restricted stock awards, restricted stock unit awards, other stock or cash based awards and dividend equivalent awards, for up to 5,293,497 shares of Class A common stock may, at the discretion of the Board of Directors, be issued to employees, consultants, and directors of the Company. Effective December 12, 2019, the Company established the Sprout Social, Inc. 2019 Class B Incentive Award Plan (the “Class B Plan”), under which cash and equity incentive awards, for up to 550,000 shares of Class B common stock may, at the discretion of the Board of Directors, be issued to employees, consultants, and directors of the Company, with the expectation that shares will only be 114 Sprout Social, Inc. Notes to Consolidated Financial Statements issued to the Company’s CEO depending on the valuation of the Company in connection with the IPO and the achievement of market capitalization thresholds thereafter. The only awards granted as of December 31, 2020 are stock options, restricted stock units and restricted stock awards. Stock Options The options become fully vested at such time or times, or upon such event or events, and subject to such terms, conditions, performance criteria, and restrictions as shall be determined by the Board of Directors and set forth in each stock option notice; provided, however, that no exercise period shall exceed ten years from the grant date. The fair value of each option is estimated on the date of grant based on the Black-Scholes option pricing model. The annual rate of dividends is expressed as a dividend yield which is a constant percentage of the stock price, which is determined by the board of directors with input from a third-party valuation specialist. The expected life of an option represents the period of time that an option is expected to be outstanding. The risk‐free interest rate is based on the rate of U.S. Treasury securities with maturities consistent with the estimated expected term of the awards. The Company has not paid dividends and does not anticipate paying a cash dividend on common stock in the foreseeable future and, accordingly, uses an expected dividend yield of zero . As the Company was privately held during the life of the options, there is no historical basis of the stock volatility. Accordingly, the expected volatility is based primarily on the historical volatilities of similar entities’ common stock over the most recent period commensurate with the estimated expected term of the awards. The expected term of an award is determined using the simplified method for plain vanilla options, consistent with applicable accounting guidance. There was no compensation expense included in the statement of operations for options in 2020 and 2019. Total compensation expense included in the statement of operations for options was $ 0.1 million in 2018. The table below summarizes the stock option activity for the year ended December 31, 2020: Number of Options Weighted Average Exercise Price Weighted Average Contractual Term Aggregate Intrinsic Value (in years) (in thousands) Outstanding at beginning of period 1,159,577 $ 0.54 2.67 $ 17,990 Granted at fair value — — Exercised ( 998,462 ) 0.51 Forfeited ( 105 ) 1.08 Outstanding at end of period 161,010 $ 0.69 3.05 $ 7,200 Options exercisable at December 31, 2020 161,010 $ 0.69 3.05 $ 7,200 The Company has computed the aggregate intrinsic value of amounts disclosed in the above table based on the difference between the original exercise price of the options and the estimated fair value of the Company’s common stock as of December 31, 2020. 115 Sprout Social, Inc. Notes to Consolidated Financial Statements The intrinsic value of options exercised for the years ended December 31, 2020, 2019 and 2018 was $ 44.8 million, $ 2.5 million and $ 1.1 million, respectively. At the end of 2015, the Company ceased issuing stock options. The following summarizes information about the Company’s options outstanding as of December 31, 2020: Options Outstanding Options Exercisable Exercise Price Shares Weighted- Average Remaining Contractual Term Shares Weighted- Average Remaining Contractual Term (in years) (in years) $ 0.31 - $ 0.69 81,010 2.1 81,010 2.1 $ 0.70 - $ 1.07 10,000 3.5 10,000 3.5 $ 1.08 - $ 1.10 60,000 4.1 60,000 4.1 $ 1.11 - $ 3.97 10,000 4.6 10,000 4.6 161,010 161,010 Restricted Stock Units At the end of 2015, the Company began issuing restricted stock units. The general terms of the restricted stock units issued under the 2016 Plan require both a service and performance condition to be satisfied prior to vesting. The service condition is satisfied upon the participant’s completion of a required period of continuous service from the vesting start date. The performance condition was satisfied upon the completion of the IPO. The general terms of the restricted stock units issued under the 2019 Plan require only a service condition to be satisfied prior to vesting. One executive grant was issued during 2020 under the 2019 Plan requiring both the satisfaction of a service condition and a performance condition which includes the achievement of certain subscription revenue targets, prior to vesting. The restricted stock units issued under the Class B Plan require both a performance condition and a market condition to be satisfied prior to vesting. The performance condition was satisfied upon the completion of the IPO. The grant-date fair value of RSUs that contain a market condition is determined using a Monte Carlo valuation model in order to simulate a range of possible future stock prices. Key assumptions used include a risk‐free interest rate of 1.61 % and expected volatility of 62.5 %. The table below summarizes the activity regarding unvested restricted stock units for the year ended December 31, 2020: Restricted Stock Units Weighted Average Grant Date Fair Value Unvested at December 31, 2019 2,011,348 $ 11.02 Granted 998,025 29.36 Vested ( 948,335 ) 9.85 Forfeited ( 60,456 ) 11.17 Unvested at December 31, 2020 2,000,582 $ 20.72 The weighted-average grant date fair value per share for restricted stock units granted during the years ended December 31, 2020, 2019 and 2018 was $ 29.36 , $ 13.32 and $ 6.91 , respectively. The total 116 Sprout Social, Inc. Notes to Consolidated Financial Statements unrecognized stock-based compensation expense relating to these awards as of December 31, 2020 was $ 35.0 million, which is expected to be recognized over a weighted-average period of 3.5 years. Restricted Stock Awards In June 2019, the Company recognized $ 5.3 million of stock-based compensation expense related to a restricted stock award (RSA) grant of 434,436 shares to its Chief Executive Officer, which vested in full on the grant date. In accordance with the RSA grant agreement, the award was net settled to satisfy the federal and state tax withholding obligations, resulting in the issuance of 242,155 shares of common stock. The net settlement was treated as a repurchase of treasury shares. All of the expense was recognized in general and administrative on the consolidated statement of operations and comprehensive loss. Stock-based Compensation Expense Stock-based compensation expense is included in the consolidated statement of operations and comprehensive loss as follows (in thousands): Years Ended December 31, 2020 2019 2018 Cost of revenue $ 749 $ 1,126 $ 9 Research and development 1,935 2,290 28 Sales and marketing 2,464 8,697 15 General and administrative 5,931 13,220 1 Total stock-based compensation expense $ 11,079 $ 25,333 $ 53 117 Sprout Social, Inc. Notes to Consolidated Financial Statements 10. Commitments and Contingencies Contractual Obligations The Company has non-cancellable minimum guaranteed purchase commitments for data and services. Contractual commitments as of December 31, 2020 are as follows (in thousands): Years ending December 31, 2021 $ 20,486 2022 27,495 2023 15,222 2024 — 2025 — Thereafter — Total contractual obligations $ 63,203 Legal Matters From time to time in the normal course of business, the Company may be subject to various legal matters such as threatened or pending claims or proceedings. There were no material such matters as of and for the year ended December 31, 2020. Indemnification In the ordinary course of business, the Company often includes standard indemnification provisions in its arrangements with third parties, including vendors, customers, investors and the Company’s directors and officers. Pursuant to these provisions, the Company may be obligated to indemnify such parties for losses or claims suffered or incurred. It is not possible to determine the maximum potential loss under these indemnification provisions due to the Company’s limited history of prior indemnification claims and the unique facts and circumstances involved in each particular provision. There were no material obligations under such indemnification agreements as of and for the year ended December 31, 2020. 11. Geographic Data As described in the Summary of Significant Accounting Policies, the Company operates as one operating segment. Long-lived assets by geographical region are based on the location of the legal entity that owns the assets. As of December 31, 2020 and 2019, there were no significant long-lived assets held by entities outside of the United States. Revenue by geographical region is determined by location of the Company’s customers. Revenue from customers outside of the United States was approximately 29 %, 29 % and 30 % for the year 118 Sprout Social, Inc. Notes to Consolidated Financial Statements ended December 31, 2020, 2019 and 2018, respectively. Revenue by geographical region is as follows (in thousands): Year Ended December 31, 2020 2019 2018 Americas $ 104,208 $ 80,574 $ 61,501 EMEA 21,341 16,220 12,674 Asia Pacific 7,400 5,913 4,638 Total $ 132,949 $ 102,707 $ 78,813 12. Net Loss per Share Basic net loss per share is calculated by dividing the net loss by the weighted average number of outstanding shares of common stock each period. Diluted net loss per share is calculated by giving effect to all potential dilutive common stock equivalents, which includes stock options, RSUs, preferred stock and warrants. Because the Company incurred net losses each period, the basic and diluted calculations are the same. Basic and diluted net loss per share are the same for each class of common stock, as both Class A and Class B stockholders are entitled to the same liquidation and dividend rights. The following table presents the calculation for basic and diluted net loss per share (in thousands, except share and per share data): Year Ended December 31, 2020 2019 2018 Net loss attributable to common shareholders $ ( 31,655 ) $ ( 46,807 ) $ ( 20,934 ) Weighted average common shares outstanding 51,368,737 18,438,695 16,593,258 Net loss per share, basic and diluted $ ( 0.62 ) $ ( 2.54 ) $ ( 1.26 ) The following outstanding shares of common stock equivalents were excluded from the calculation of diluted net los s per share for each period, as the impact of including them would have been anti-dilutive. Prior to the IPO, the Company’s RSUs included a triggering liquidation performance condition prior to vesting. As su ch, these were treated as contingently issuable shares and were excluded from potential dilutive impact until the triggering liquidation performance condition was satisfied upon completion of the IPO on December 17, 2019. As of December 31, 2020 2019 2018 Stock options outstanding 161,010 1,159,577 1,313,121 RSUs outstanding 2,000,582 2,364,650 — Convertible preferred stock — — 19,945,290 Warrants — 35,305 35,305 Total potentially dilutive shares 2,161,592 3,559,532 21,293,716 119 Sprout Social, Inc. Notes to Consolidated Financial Statements 13. Fair Value Measurements The Company measures certain financial assets at fair value. Fair value is determined based upon the exit price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants, as determined by either the principal market or the most advantageous market. Inputs used in the valuation techniques to derive fair values are classified based on a three-level hierarchy, as follows: • Level 1: Quoted prices in active markets for identical assets or liabilities. • Level 2: Observable inputs, other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3: Unobservable inputs that are supported by little or no market activity. The following tables present information about the Company’s financial assets that are measured at fair value and indicate the fair value hierarchy of the valuation inputs used (in thousands): December 31, 2020 Level 1 Level 2 Level 3 Total Marketable Securities: Corporate bonds $ — $ 22,810 $ — $ 22,810 Commercial paper — 16,477 — 16,477 U.S. Treasury securities — 10,077 — 10,077 Total assets $ — $ 49,364 $ — $ 49,364 Marketable securities are classified within Level 2 because they are valued using inputs other than quoted prices that are directly or indirectly observable in the market. The carrying amounts of certain financial instruments, including cash held in banks, cash equivalents, accounts receivable, accounts payable and accrued liabilities, approximate fair value due to their short-term maturities and are excluded from the fair value tables above. As of December 31, 2020, the Company held investment-grade marketable securities that had maturities within one year and were accounted for as available-for-sale securities. There was not a significant difference between the amortized cost and fair value of these securities. The gross unrealized gains and losses associated with these securities were immaterial as of December 31, 2020. The Company did not have marketable securities as of December 31, 2019. 14. Employee Benefit Plan The Company sponsors a qualified 401(k) defined contribution plan for the benefit of its employees. The Company made matching contributions to the plan totaling $ 1.7 million, $ 1.3 million and $ 1.0 million for the years ended December 31, 2020, 2019 and 2018, respectively. 120 Sprout Social, Inc. Notes to Consolidated Financial Statements 15. Related Party Transactions During the year ended December 31, 2020, the Company received $ 1.1 million in cash for the disgorgement of stockholder short-swing profits under Section 16(b) of the Exchange Act. The amount was recorded as an increase to additional paid-in capital on the consolidated balance sheet. An employee of an affiliate of Goldman Sachs & Co. LLC, a member of the underwriting syndicate of the Company’s IPO, serves on the Company’s board of directors pursuant to the Sixth Amended and Restated Voting Agreement, which provides that holders of a majority of the Company’s common stock issued or issuable upon conversion of its Series C preferred stock have the right to appoint one member to the Company’s board of directors. Prior to the IPO, entities affiliated with Goldman Sachs & Co. LLC owned a majority of the Company’s Series C preferred stock, and these entities continue to hold a majority of the common stock issued upon conversion of the Company’s Series C preferred stock at the closing of the IPO. Upon closing of the IPO on December 17, 2019, the Company paid $ 4.2 million to Goldman Sachs & Co. LLC for underwriting discounts and commissions. 16. Subsequent Events The Company has evaluated subsequent events after the balance sheet date through February 24, 2021, the date the financial statements were issued. Management has determined that no events or transactions have occurred subsequent to the balance sheet date that require disclosure in the financial statements. 121 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None.