CRM Q1 FY16 10-Q
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
 
(Mark One)
x
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended April 30, 2015
OR
¨
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission File Number: 001-32224
 
 
salesforce.com, inc.
(Exact name of registrant as specified in its charter)
 
 
Delaware
94-3320693
(State or other jurisdiction of
incorporation or organization)
(IRS Employer
Identification No.)
The Landmark @ One Market, Suite 300
San Francisco, California 94105
(Address of principal executive offices)
Telephone Number (415) 901-7000
(Registrant’s telephone number, including area code)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 (the “Exchange Act”) during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days:    Yes  x   No  ¨
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).    Yes  x   No  ¨
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer  x
Accelerated filer   ¨
 
 
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)
Smaller reporting company   ¨
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
As of April 30, 2015, there were approximately 656.0 million shares of the Registrant’s Common Stock outstanding.



Table of Contents


INDEX
 
 
 
Page No.
 
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
6
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.



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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS

salesforce.com, inc.
Condensed Consolidated Balance Sheets
(in thousands)
 
 
April 30,
2015
 
January 31,
2015
 
(unaudited)
 
 
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
941,956

 
$
908,117

Short-term marketable securities
77,059

 
87,312

Accounts receivable, net
926,381

 
1,905,506

Deferred commissions
208,101

 
225,386

Prepaid expenses and other current assets
310,983

 
280,554

Land and building improvements held for sale
140,345

 
143,197

Total current assets
2,604,825

 
3,550,072

Marketable securities, noncurrent
903,461

 
894,855

Property and equipment, net
1,737,094

 
1,125,866

Deferred commissions, noncurrent
153,018

 
162,796

Capitalized software, net
421,323

 
433,398

Goodwill
3,791,583

 
3,782,660

Other assets, net
754,378

 
628,320

Restricted cash
0

 
115,015

Total assets
$
10,365,682

 
$
10,692,982

Liabilities and stockholders’ equity
 
 
 
Current liabilities:
 
 
 
Accounts payable, accrued expenses and other liabilities
$
928,105

 
$
1,103,335

Deferred revenue
3,032,771

 
3,286,768

Total current liabilities
3,960,876

 
4,390,103

Convertible 0.25% senior notes, net
1,076,727

 
1,070,692

Loan assumed on 50 Fremont
198,776

 
0

Revolving credit facility
0

 
300,000

Deferred revenue, noncurrent
24,049

 
34,681

Other noncurrent liabilities
870,051

 
922,323

Total liabilities
6,130,479

 
6,717,799

Stockholders’ equity:
 
 
 
Common stock
656

 
651

Additional paid-in capital
4,864,652

 
4,604,485

Accumulated other comprehensive loss
(28,352
)
 
(24,108
)
Accumulated deficit
(601,753
)
 
(605,845
)
Total stockholders’ equity
4,235,203

 
3,975,183

Total liabilities and stockholders’ equity
$
10,365,682

 
$
10,692,982







See accompanying Notes.

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salesforce.com, inc.
Condensed Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Revenues:
 
 
 
 
Subscription and support
 
$
1,405,287

 
$
1,147,306

Professional services and other
 
105,880

 
79,466

Total revenues
 
1,511,167

 
1,226,772

Cost of revenues (1)(2):
 
 
 
 
Subscription and support
 
274,241

 
208,947

Professional services and other
 
107,561

 
83,358

Total cost of revenues
 
381,802

 
292,305

Gross profit
 
1,129,365

 
934,467

Operating expenses (1)(2):
 
 
 
 
Research and development
 
222,128

 
188,358

Marketing and sales
 
736,938

 
639,355

General and administrative
 
175,811

 
162,095

Operating lease termination resulting from purchase of 50 Fremont, net
 
(36,617
)
 
0

Total operating expenses
 
1,098,260

 
989,808

Income (loss) from operations
 
31,105

 
(55,341
)
Investment income
 
4,561

 
1,778

Interest expense
 
(16,675
)
 
(20,359
)
Other expense (1)(3)
 
(918
)
 
(10,847
)
Income (loss) before provision for income taxes
 
18,073

 
(84,769
)
Provision for income taxes
 
(13,981
)
 
(12,142
)
Net income (loss)
 
$
4,092

 
$
(96,911
)
Basic net income (loss) per share
 
$
0.01

 
$
(0.16
)
Diluted net income (loss) per share
 
$
0.01

 
$
(0.16
)
Shares used in computing basic net income (loss) per share
 
653,809

 
612,512

Shares used in computing diluted net income (loss) per share
 
664,310

 
612,512

_______________
(1) Amounts include amortization of purchased intangibles from business combinations, as follows:
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Cost of revenues
 
$
19,690

 
$
28,672

Marketing and sales
 
20,027

 
14,965

Other non-operating expense
 
815

 
0

(2) Amounts include stock-based expense, as follows:
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Cost of revenues
 
$
15,381

 
$
11,810

Research and development
 
31,242

 
27,284

Marketing and sales
 
70,534

 
67,133

General and administrative
 
25,403

 
24,865

(3) Amount includes approximately $8.5 million loss on conversions of our convertible 0.75% senior notes due January 2015 recognized during the three months ended April 30, 2014.

See accompanying Notes.

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salesforce.com, inc.
Condensed Consolidated Statements of Comprehensive Loss
(in thousands)
(unaudited)
 
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Net income (loss)
 
$
4,092

 
$
(96,911
)
Other comprehensive loss, before tax and net of reclassification adjustments:
 
 
 
 
Foreign currency translation and other gains (losses)
 
(1,855
)
 
3,115

Unrealized losses on investments
 
(2,389
)
 
(5,497
)
Other comprehensive loss, before tax
 
(4,244
)
 
(2,382
)
Tax effect
 
0

 
0

Other comprehensive loss, net of tax
 
(4,244
)
 
(2,382
)
Comprehensive loss
 
$
(152
)
 
$
(99,293
)






















See accompanying Notes.

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salesforce.com, inc.
Condensed Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Operating activities:
 
 
 
 
Net income (loss)
 
$
4,092

 
$
(96,911
)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
127,927

 
110,808

Amortization of debt discount and transaction costs
 
5,861

 
11,791

50 Fremont lease termination, net
 
(36,617
)
 
0

Loss on conversions of convertible senior notes
 
0

 
8,529

Amortization of deferred commissions
 
77,155

 
59,855

Expenses related to employee stock plans
 
142,560

 
131,092

Excess tax benefits from employee stock plans
 
(4,224
)
 
(9,041
)
Changes in assets and liabilities, net of business combinations:
 
 
 
 
Accounts receivable, net
 
979,170

 
676,682

Deferred commissions
 
(50,092
)
 
(40,896
)
Prepaid expenses and other current assets and other assets
 
(11,274
)
 
4,277

Accounts payable, accrued expenses and other liabilities
 
(239,072
)
 
(185,599
)
Deferred revenue
 
(264,629
)
 
(197,500
)
Net cash provided by operating activities
 
730,857

 
473,087

Investing activities:
 
 
 
 
Business combination, net of cash acquired
 
(12,470
)
 
0

Purchase of 50 Fremont land and building
 
(425,376
)
 
0

Deposit for purchase of 50 Fremont land and building
 
115,015

 
0

Non-refundable amounts received for sale of land available for sale
 
2,852

 
30,000

Strategic investments
 
(144,462
)
 
(16,246
)
Purchases of marketable securities
 
(207,225
)
 
(250,536
)
Sales of marketable securities
 
192,184

 
79,312

Maturities of marketable securities
 
14,446

 
7,198

Capital expenditures
 
(71,087
)
 
(60,098
)
Net cash used in investing activities
 
(536,123
)
 
(210,370
)
Financing activities:
 
 
 
 
Proceeds from employee stock plans
 
155,015

 
73,795

Excess tax benefits from employee stock plans
 
4,224

 
9,041

Payments on convertible senior notes
 
0

 
(283,892
)
Principal payments on capital lease obligations
 
(16,825
)
 
(10,594
)
Payments on revolving credit facility and term loan
 
(300,000
)
 
(7,500
)
Net cash used in financing activities
 
(157,586
)
 
(219,150
)
Effect of exchange rate changes
 
(3,309
)
 
2,689

Net increase in cash and cash equivalents
 
33,839

 
46,256

Cash and cash equivalents, beginning of period
 
908,117

 
781,635

Cash and cash equivalents, end of period
 
$
941,956

 
$
827,891







See accompanying Notes.

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salesforce.com, inc.
Condensed Consolidated Statements of Cash Flows
Supplemental Cash Flow Disclosure
(in thousands)
(unaudited)
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Supplemental cash flow disclosure:
 
 
 
 
Cash paid during the period for:
 
 
 
 
Interest
 
$
4,252

 
$
8,667

Income taxes, net of tax refunds
 
$
10,581

 
$
9,994

Non-cash financing and investing activities:
 
 
 
 
Fixed assets acquired under capital leases
 
$
2,960

 
$
5,886

Building in progress - leased facility acquired under financing obligation
 
$
19,966

 
$
12,760

Fair value of loan assumed on 50 Fremont
 
$
198,751

 
$
0

























See accompanying Notes.

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salesforce.com, inc.
Notes to Condensed Consolidated Financial Statements
1. Summary of Business and Significant Accounting Policies
Description of Business
Salesforce.com, inc. (the “Company”) is a leading provider of enterprise cloud computing services. The Company is dedicated to helping customers of all sizes and industries worldwide transform themselves into “customer companies” by empowering them to connect with their customers, partners, employees and products in entirely new ways. The Company provides customers with the solutions they need to build a next generation social front office with social and mobile cloud technologies.
Fiscal Year
The Company’s fiscal year ends on January 31. References to fiscal 2016, for example, refer to the fiscal year ending January 31, 2016.
Basis of Presentation
The accompanying condensed consolidated balance sheet as of April 30, 2015 and the condensed consolidated statements of operations, the condensed consolidated statements of comprehensive loss and the condensed consolidated statements of cash flows for the three months ended April 30, 2015 and 2014, respectively, are unaudited. The condensed consolidated balance sheet data as of January 31, 2015 was derived from the audited consolidated financial statements that are included in the Company’s Form 10-K for the fiscal year ended January 31, 2015, which was filed with the Securities and Exchange Commission (the “SEC”) on March 6, 2015. The accompanying statements should be read in conjunction with the audited consolidated financial statements and related notes contained in the Company’s fiscal 2015 Form 10-K.
The accompanying condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information. Accordingly, they do not include all of the financial information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of the Company’s management, the unaudited condensed consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements in the Form 10-K, and include all adjustments necessary for the fair presentation of the Company’s balance sheet as of April 30, 2015, and its results of operations, including its comprehensive loss, and its cash flows for the three months ended April 30, 2015 and 2014. All adjustments are of a normal recurring nature. The results for the three months ended April 30, 2015 are not necessarily indicative of the results to be expected for any subsequent quarter or for the fiscal year ending January 31, 2016.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions in the Company’s condensed consolidated financial statements and notes thereto.
Significant estimates and assumptions made by management include the determination of:
•
the best estimate of selling price of the deliverables included in multiple deliverable revenue arrangements,
•
the fair value of assets acquired and liabilities assumed for business combinations,
•
the recognition, measurement and valuation of current and deferred income taxes,
•
the fair value of convertible notes,
•
the fair value of stock awards issued and related forfeiture rates,
•
the valuation of strategic investments and the determination of other-than-temporary impairments, and
•
the assessment of determination of impairment of long-lived assets (property and equipment, goodwill and identified intangibles).
Actual results could differ materially from those estimates.



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Principles of Consolidation
The condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.
Segments
The Company operates as one operating segment. Operating segments are defined as components of an enterprise for which separate financial information is evaluated regularly by the chief operating decision maker, who is the chief executive officer, in deciding how to allocate resources and assessing performance. Over the past few years, the Company has completed several acquisitions. These acquisitions have allowed the Company to expand its offerings, presence and reach in various market segments of the enterprise cloud computing market. While the Company has offerings in multiple enterprise cloud computing market segments, the Company’s business operates in one operating segment because all of the Company's offerings operate on a single platform and are deployed in an identical way, and the Company’s chief operating decision maker evaluates the Company’s financial information and resources and assesses the performance of these resources on a consolidated basis. Since the Company operates in one operating segment, all required financial segment information can be found in the condensed consolidated financial statements.
Concentrations of Credit Risk and Significant Customers
The Company’s financial instruments that are exposed to concentrations of credit risk consist primarily of cash and cash equivalents, marketable securities and trade accounts receivable. Although the Company deposits its cash with multiple financial institutions, its deposits, at times, may exceed federally insured limits. Collateral is not required for accounts receivable. The Company maintains an allowance for doubtful accounts receivable balances. This allowance is based upon historical loss patterns, the number of days that billings are past due and an evaluation of the potential risk of loss associated with delinquent accounts.
No single customer accounted for more than five percent of accounts receivable at April 30, 2015 and January 31, 2015. No single customer accounted for five percent or more of total revenue during the three months ended April 30, 2015 and 2014.
Geographic Locations
As of April 30, 2015 and January 31, 2015, assets located outside the Americas were 13 percent and 12 percent of total assets, respectively.
Revenues by geographical region are as follows (in thousands):
 
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Americas
 
$
1,115,120

 
$
876,377

Europe
 
258,805

 
230,810

Asia Pacific
 
137,242

 
119,585

 

$
1,511,167

 
$
1,226,772

Americas revenue attributed to the United States was approximately 95 percent and 94 percent during the three months ended April 30, 2015 and 2014, respectively. No other country represented more than ten percent of total revenue during the three months ended April 30, 2015 and 2014.
Revenue Recognition
The Company derives its revenues from two sources: (1) subscription revenues, which are comprised of subscription fees from customers accessing the Company’s enterprise cloud computing services and from customers paying for additional support beyond the standard support that is included in the basic subscription fees; and (2) related professional services such as process mapping, project management, implementation services and other revenue. “Other revenue” consists primarily of training fees.
The Company commences revenue recognition when all of the following conditions are satisfied:
•
there is persuasive evidence of an arrangement;
•
the service has been or is being provided to the customer;

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•
the collection of the fees is reasonably assured; and
•
the amount of fees to be paid by the customer is fixed or determinable.
The Company’s subscription service arrangements are non-cancelable and do not contain refund-type provisions.
Subscription and Support Revenues
Subscription and support revenues are recognized ratably over the contract terms beginning on the commencement date of each contract, which is the date the Company’s service is made available to customers.
Amounts that have been invoiced are recorded in accounts receivable and in deferred revenue or revenue, depending on whether the revenue recognition criteria have been met.
Professional Services and Other Revenues
The majority of the Company’s professional services contracts are on a time and material basis. When these services are not combined with subscription revenues as a single unit of accounting, as discussed below, these revenues are recognized as the services are rendered for time and material contracts, and when the milestones are achieved and accepted by the customer for fixed price contracts. Training revenues are recognized as the services are performed.
Multiple Deliverable Arrangements
The Company enters into arrangements with multiple deliverables that generally include multiple subscriptions, premium support and professional services. If the deliverables have standalone value upon delivery, the Company accounts for each deliverable separately. Subscription services have standalone value as such services are often sold separately. In determining whether professional services have standalone value, the Company considers the following factors for each professional services agreement: availability of the services from other vendors, the nature of the professional services, the timing of when the professional services contract was signed in comparison to the subscription service start date and the contractual dependence of the subscription service on the customer’s satisfaction with the professional services work. To date, the Company has concluded that all of the professional services included in multiple deliverable arrangements executed have standalone value.
Multiple deliverables included in an arrangement are separated into different units of accounting and the arrangement consideration is allocated to the identified separate units based on a relative selling price hierarchy. The Company determines the relative selling price for a deliverable based on its vendor-specific objective evidence of selling price (“VSOE”), if available, or its best estimate of selling price (“BESP”), if VSOE is not available. The Company has determined that third-party evidence of selling price (“TPE”) is not a practical alternative due to differences in its service offerings compared to other parties and the availability of relevant third-party pricing information. The amount of revenue allocated to delivered items is limited by contingent revenue, if any.
For certain professional services, the Company has established VSOE as a consistent number of standalone sales of these deliverables have been priced within a reasonably narrow range. The Company has not established VSOE for its subscription services due to lack of pricing consistency, the introduction of new services and other factors. Accordingly, the Company uses its BESP to determine the relative selling price for its subscription services.
The Company determines BESP by considering its overall pricing objectives and market conditions. Significant pricing practices taken into consideration include the Company’s discounting practices, the size and volume of the Company’s transactions, the customer demographic, the geographic area where services are sold, price lists, its go-to-market strategy, historical standalone sales and contract prices. The determination of BESP is made through consultation with and approval by the Company’s management, taking into consideration the go-to-market strategy. As the Company’s go-to-market strategies evolve, the Company may modify its pricing practices in the future, which could result in changes in relative selling prices, including both VSOE and BESP.
Deferred Revenue
The deferred revenue balance does not represent the total contract value of annual or multi-year, non-cancelable subscription agreements. Deferred revenue primarily consists of billings or payments received in advance of revenue recognition from subscription services described above and is recognized as the revenue recognition criteria are met. The Company generally invoices customers in annual installments. The deferred revenue balance is influenced by several factors, including seasonality, the compounding effects of renewals, invoice duration, invoice timing, size and new business linearity within the quarter.

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Deferred revenue that will be recognized during the succeeding twelve month period is recorded as current deferred revenue and the remaining portion is recorded as noncurrent.
Deferred Commissions
Deferred commissions are the incremental costs that are directly associated with non-cancelable subscription contracts with customers and consist of sales commissions paid to the Company’s direct sales force.
The commissions are deferred and amortized over the non-cancelable terms of the related customer contracts, which are typically 12 to 36 months. The commission payments are paid in full the month after the customer’s service commences. The deferred commission amounts are recoverable through the future revenue streams under the non-cancelable customer contracts. The Company believes this is the preferable method of accounting as the commission charges are so closely related to the revenue from the non-cancelable customer contracts that they should be recorded as an asset and charged to expense over the same period that the subscription revenue is recognized. Amortization of deferred commissions is included in marketing and sales expense in the accompanying condensed consolidated statements of operations.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents are stated at fair value.
Marketable Securities
Management determines the appropriate classification of marketable securities at the time of purchase and reevaluates such determination at each balance sheet date. Securities are classified as available for sale and are carried at fair value, with the change in unrealized gains and losses, net of tax, reported as a separate component on the condensed consolidated statements of comprehensive loss. Fair value is determined based on quoted market rates when observable or utilizing data points that are observable, such as quoted prices, interest rates and yield curves. Declines in fair value judged to be other-than-temporary on securities available for sale are included as a component of investment income. In order to determine whether a decline in value is other-than-temporary, the Company evaluates, among other factors: the duration and extent to which the fair value has been less than the carrying value and its intent and ability to retain the investment for a period of time sufficient to allow for any anticipated recovery in fair value. The cost of securities sold is based on the specific-identification method. Interest on securities classified as available for sale is also included as a component of investment income.
Fair Value Measurement
The Company measures its cash equivalents, marketable securities and foreign currency derivative contracts at fair value.
The additional disclosures regarding the Company’s fair value measurements are included in Note 2 “Investments”.
Property and Equipment
Property and equipment are stated at cost. Depreciation is calculated on a straight-line basis over the estimated useful lives of those assets as follows:
 
Computer, equipment and software
3 to 9 years
Furniture and fixtures
5 years
Leasehold improvements
Shorter of the estimated lease term or 10 years
When assets are retired or otherwise disposed of, the cost and accumulated depreciation and amortization are removed from their respective accounts and any loss on such retirement is reflected in operating expenses.
Capitalized Internal-Use Software Costs
The Company capitalizes costs related to its enterprise cloud computing services and certain projects for internal use incurred during the application development stage. Costs related to preliminary project activities and post implementation activities are expensed as incurred. Internal-use software is amortized on a straight-line basis over its estimated useful life, which is generally three to five years. Management evaluates the useful lives of these assets on an annual basis and tests for impairment whenever events or changes in circumstances occur that could impact the recoverability of these assets.


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Goodwill, Intangible Assets, Long-Lived Assets and Impairment Assessments
The Company evaluates and tests the recoverability of its goodwill for impairment at least annually during the fourth quarter or more often if and when circumstances indicate that goodwill may not be recoverable.
Intangible assets are amortized over their useful lives. Each period the Company evaluates the estimated remaining useful life of its intangible assets and whether events or changes in circumstances warrant a revision to the remaining period of amortization. The carrying amounts of these assets are periodically reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of these assets may not be recoverable. Recoverability of these assets is measured by comparison of the carrying amount of each asset to the future undiscounted cash flows the asset is expected to generate. If the undiscounted cash flows used in the test for recoverability are less than the carrying amount of these assets, then the carrying amount of such assets is reduced to fair value.
The Company evaluates the recoverability of its long-lived assets for possible impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. If such review indicates that the carrying amount of long-lived assets is not recoverable, the carrying amount of such assets is reduced to fair value.
Business Combinations
The Company uses its best estimates and assumptions to accurately assign fair value to the tangible and intangible assets acquired and liabilities assumed at the acquisition date. The Company’s estimates are inherently uncertain and subject to refinement. During the measurement period, which may be up to one year from the acquisition date, the Company may record adjustments to the fair value of these tangible and intangible assets acquired and liabilities assumed, with the corresponding offset to goodwill. In addition, uncertain tax positions and tax-related valuation allowances are initially established in connection with a business combination as of the acquisition date. The Company continues to collect information and reevaluates these estimates and assumptions quarterly and records any adjustments to the Company’s preliminary estimates to goodwill provided that the Company is within the measurement period. Upon the conclusion of the measurement period or final determination of the fair value of assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded to the Company’s condensed consolidated statements of operations.
Leases and Asset Retirement Obligations
The Company categorizes leases at their inception as either operating or capital leases. In certain lease agreements, the Company may receive rent holidays and other incentives. The Company recognizes lease costs on a straight-line basis once control of the space is achieved, without regard to deferred payment terms such as rent holidays that defer the commencement date of required payments. Additionally, incentives received are treated as a reduction of costs over the term of the agreement.
The Company establishes assets and liabilities for the present value of estimated future costs to retire long-lived assets at the termination or expiration of a lease. Such assets are depreciated over the lease period of the operating expense.
The Company records assets and liabilities for the estimated construction costs incurred under build-to-suit lease arrangements to the extent it is involved in the construction of structural improvements or takes construction risk prior to commencement of a lease.
The Company additionally has entered into subleases for unoccupied leased office space. Losses are recognized in the period the sublease is executed. Any sublease payments received in excess of the straight-line rent payments for the sublease are recorded in other income (expense).
Accounting for Stock-Based Expense
The Company recognizes stock-based expenses related to stock options and restricted stock awards on a straight-line basis over the requisite service period of the awards, which is generally the vesting term of four years. The Company recognizes stock-based expenses related to shares issued pursuant to its 2004 Employee Stock Purchase Plan (“ESPP”) on a straight-line basis over the offering period, which is 12 months. Stock-based expenses are recognized net of estimated forfeiture activity. The estimated forfeiture rate applied is based on historical forfeiture rates. The Company does not anticipate paying any cash dividends in the foreseeable future and therefore uses an expected dividend yield of zero in the option pricing model.

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The fair value of each stock option grant was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions and fair value per share:
 
 
 
Three Months Ended 
 April 30,
Stock Options
 
2015
 
2014
Volatility
 
37.4

%
 
37.0

%
Estimated life
 
3.6 years

 
 
3.5 years

 
Risk-free interest rate
 
1.13-1.36

%
 
1.20-1.39

%
Weighted-average fair value per share of grants
 
$
19.52

 
 
$
16.93

 
There were no stock purchase rights granted under the ESPP in the three months ended April 30, 2015 or 2014 as these stock purchase rights are only granted in June and December.
The Company estimated its future stock price volatility considering both its observed option-implied volatilities and its historical volatility calculations. Management believes this is the best estimate of the expected volatility over the expected life of its stock options and stock purchase rights.
Income Taxes
The Company uses the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on temporary differences between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax laws is recognized in the condensed consolidated statement of operations in the period that includes the enactment date.
Valuation allowances are established when necessary to reduce deferred tax assets to the amounts that are more likely than not expected to be realized based on the weighting of positive and negative evidence. Future realization of deferred tax assets ultimately depends on the existence of sufficient taxable income of the appropriate character (for example, ordinary income or capital gain) within the carryback or carryforward periods available under the applicable tax law. The Company regularly reviews the deferred tax assets for recoverability based on historical taxable income, projected future taxable income, the expected timing of the reversals of existing temporary differences and tax planning strategies. The Company’s judgments regarding future profitability may change due to many factors, including future market conditions and the ability to successfully execute its business plans and/or tax planning strategies. Should there be a change in the ability to recover deferred tax assets, the tax provision would increase or decrease in the period in which the assessment is changed.
The Company’s tax positions are subject to income tax audits by multiple tax jurisdictions throughout the world. The Company recognizes the tax benefit of an uncertain tax position only if it is more likely than not that the position is sustainable upon examination by the taxing authority, solely based on its technical merits. The tax benefit recognized is measured as the largest amount of benefit which is greater than 50 percent likely to be realized upon settlement with the taxing authority. The Company recognizes interest accrued and penalties related to unrecognized tax benefits in the income tax provision.
Foreign Currency Translation
The functional currency of the Company’s major foreign subsidiaries is generally the local currency. Adjustments resulting from translating foreign functional currency financial statements into U.S. dollars are recorded as a separate component on the condensed consolidated statements of comprehensive loss. Foreign currency transaction gains and losses are included in net loss for the period. All assets and liabilities denominated in a foreign currency are translated into U.S. dollars at the exchange rate on the balance sheet date. Revenues and expenses are translated at the average exchange rate during the period. Equity transactions are translated using historical exchange rates.

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Warranties and Indemnification
The Company’s enterprise cloud computing services are typically warranted to perform in a manner consistent with general industry standards that are reasonably applicable and materially in accordance with the Company’s online help documentation under normal use and circumstances.
The Company’s arrangements generally include certain provisions for indemnifying customers against liabilities if its products or services infringe a third party’s intellectual property rights. To date, the Company has not incurred any material costs as a result of such obligations and has not accrued any liabilities related to such obligations in the accompanying condensed consolidated financial statements.
The Company has also agreed to indemnify its directors and executive officers for costs associated with any fees, expenses, judgments, fines and settlement amounts incurred by any of these persons in any action or proceeding to which any of those persons is, or is threatened to be, made a party by reason of the person’s service as a director or officer, including any action by the Company, arising out of that person’s services as the Company’s director or officer or that person’s services provided to any other company or enterprise at the Company’s request. The Company maintains director and officer insurance coverage that would generally enable the Company to recover a portion of any future amounts paid. The Company may also be subject to indemnification obligations by law with respect to the actions of its employees under certain circumstances and in certain jurisdictions.
New Accounting Pronouncement
In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” (“ASU 2014-09”) which amended the existing FASB Accounting Standards Codification. This standard establishes a principle for recognizing revenue upon the transfer of promised goods or services to customers, in an amount that reflects the expected consideration received in exchange for those goods or services. The standard also provides guidance on the recognition of costs related to obtaining and fulfilling customer contracts. In April 2015, the FASB proposed a one-year deferral of the effective date for the new revenue reporting standard for entities reporting under U.S. GAAP. In accordance with the deferral, ASU 2014-09 will be effective for fiscal 2019, including interim periods within that reporting period. The Company is currently in the process of assessing the adoption methodology, which allows the amendment to be applied retrospectively to each prior period presented, or with the cumulative effect recognized as of the date of initial application. The Company is also evaluating the impact of the adoption of ASU 2014-09 on its condensed consolidated financial statements and has not determined whether the effect will be material to either its revenue results or its deferred commissions balances.
2. Investments
Marketable Securities
At April 30, 2015, marketable securities consisted of the following (in thousands):
 
Investments classified as Marketable Securities
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
Corporate notes and obligations
$
582,682

 
$
1,887

 
$
(327
)
 
$
584,242

U.S. treasury securities
85,977

 
162

 
(12
)
 
86,127

Mortgage backed obligations
65,247

 
142

 
(554
)
 
64,835

Asset backed securities
170,983

 
142

 
(76
)
 
171,049

Municipal securities
36,418

 
98

 
(19
)
 
36,497

Foreign government obligations
524

 
17

 
0

 
541

U.S. agency obligations
15,832

 
12

 
(3
)
 
15,841

Covered bonds
20,893

 
495

 
0

 
21,388

Total marketable securities
$
978,556


$
2,955


$
(991
)

$
980,520


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At January 31, 2015, marketable securities consisted of the following (in thousands):
 
Investments classified as Marketable Securities
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
Corporate notes and obligations
$
605,724

 
$
3,031

 
$
(481
)
 
$
608,274

U.S. treasury securities
73,226

 
257

 
(1
)
 
73,482

Mortgage backed obligations
44,181

 
159

 
(415
)
 
43,925

Asset backed securities
120,049

 
131

 
(43
)
 
120,137

Municipal securities
36,447

 
115

 
(25
)
 
36,537

Foreign government obligations
12,023

 
278

 
0

 
12,301

U.S. agency obligations
19,488

 
26

 
(4
)
 
19,510

Covered bonds
66,816

 
1,185

 
0

 
68,001

Total marketable securities
$
977,954


$
5,182


$
(969
)

$
982,167

The duration of the investments classified as marketable securities is as follows (in thousands):
 
 
As of
 
April 30,
2015
 
January 31,
2015
Recorded as follows:
 
 
 
Short-term (due in one year or less)
$
77,059

 
$
87,312

Long-term (due after one year)
903,461

 
894,855

 
$
980,520

 
$
982,167

As of April 30, 2015, the following marketable securities were in an unrealized loss position (in thousands):
 
 
Less than 12 Months
 
12 Months or Greater
 
Total
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
Corporate notes and obligations
$
201,863

 
$
(312
)
 
$
5,853

 
$
(15
)
 
$
207,716

 
$
(327
)
U.S. treasury securities
27,419

 
(12
)
 
0

 
0

 
27,419

 
(12
)
Mortgage backed obligations
48,289

 
(460
)
 
7,081

 
(94
)
 
55,370

 
(554
)
Asset backed securities
85,730

 
(70
)
 
3,484

 
(6
)
 
89,214

 
(76
)
Municipal securities
13,151

 
(19
)
 
0

 
0

 
13,151

 
(19
)
U.S. agency obligations
2,172

 
(3
)
 
0

 
0

 
2,172

 
(3
)
 
$
378,624

 
$
(876
)
 
$
16,418

 
$
(115
)
 
$
395,042

 
$
(991
)
The unrealized losses for each of the fixed rate marketable securities were less than $100,000. The Company does not believe any of the unrealized losses represent an other-than-temporary impairment based on its evaluation of available evidence as of April 30, 2015. The Company expects to receive the full principal and interest on all of these marketable securities.
Fair Value Measurement
All of the Company’s cash equivalents, marketable securities and foreign currency derivative contracts are classified within Level 1 or Level 2 because the Company’s cash equivalents, marketable securities and foreign currency derivative contracts are valued using quoted market prices or alternative pricing sources and models utilizing observable market inputs.
The Company uses a three-tier fair value hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value:
 
Level 1.    Quoted prices (unadjusted) in active markets for identical assets or liabilities.

Level 2.    Other inputs that are directly or indirectly observable in the marketplace.


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Level 3.    Unobservable inputs which are supported by little or no market activity.

The following table presents information about the Company’s assets and liabilities that are measured at fair value as of April 30, 2015 and indicates the fair value hierarchy of the valuation (in thousands):
 
Description
Quoted Prices in
Active Markets
for Identical Assets
(Level 1)
 
Significant  Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Balances as of
April 30, 2015
Cash equivalents (1):
 
 
 
 
 
 
 
Time deposits
$
0

 
$
57,849

 
$
0

 
$
57,849

Money market mutual funds
40,432

 
0

 
0

 
40,432

Marketable securities:
 
 
 
 
 
 
 
Corporate notes and obligations
0

 
584,242

 
0

 
584,242

U.S. treasury securities
0

 
86,127

 
0

 
86,127

Mortgage backed obligations
0

 
64,835

 
0

 
64,835

Asset backed securities
0

 
171,049

 
0

 
171,049

Municipal securities
0

 
36,497

 
0

 
36,497

Foreign government obligations
0

 
541

 
0

 
541

U.S. agency obligations
0

 
15,841

 
0

 
15,841

Covered bonds
0

 
21,388

 
0

 
21,388

Foreign currency derivative contracts (2)
0

 
9,465

 
0

 
9,465

Total Assets
$
40,432

 
$
1,047,834

 
$
0

 
$
1,088,266

Liabilities
 
 
 
 
 
 
 
Foreign currency derivative contracts (3)
$
0

 
$
2,581

 
$
0

 
$
2,581

Total Liabilities
$
0

 
$
2,581

 
$
0

 
$
2,581

_____________ 
(1)Included in “cash and cash equivalents” in the accompanying condensed consolidated balance sheet as of April 30, 2015, in addition to $843.7 million of cash.
(2)Included in “prepaid expenses and other current assets” in the accompanying condensed consolidated balance sheet as of April 30, 2015.
(3)Included in “accounts payable, accrued expenses and other liabilities” in the condensed consolidated balance sheet as of April 30, 2015.

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The following table presents information about the Company’s assets and liabilities that are measured at fair value as of January 31, 2015 and indicates the fair value hierarchy of the valuation (in thousands):
 
Description
Quoted Prices in
Active Markets
for Identical Assets
(Level 1)
 
Significant Other
Observable Inputs (Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Balances as of
January 31, 2015
Cash equivalents (1):
 
 
 
 
 
 
 
Time deposits
$
0

 
$
292,487

 
$
0

 
$
292,487

Money market mutual funds
13,983

 
0

 
0

 
13,983

Marketable securities:
 
 
 
 
 
 
 
Corporate notes and obligations
0

 
608,274

 
0

 
608,274

U.S. treasury securities
0

 
73,482

 
0

 
73,482

Mortgage backed obligations
0

 
43,925

 
0

 
43,925

Asset backed securities
0

 
120,137

 
0

 
120,137

Municipal securities
0

 
36,537

 
0

 
36,537

Foreign government obligations
0

 
12,301

 
0

 
12,301

U.S. agency obligations
0

 
19,510

 
0

 
19,510

Covered bonds
0

 
68,001

 
0

 
68,001

Foreign currency derivative contracts (2)
0

 
10,611

 
0

 
10,611

Total Assets
$
13,983

 
$
1,285,265

 
$
0

 
$
1,299,248

Liabilities
 
 
 
 
 
 
 
Foreign currency derivative contracts (3)
$
0

 
$
5,694

 
$
0

 
$
5,694

Total Liabilities
$
0

 
$
5,694

 
$
0

 
$
5,694

______________ 
(1)Included in “cash and cash equivalents” in the accompanying condensed consolidated balance sheet as of January 31, 2015, in addition to $601.6 million of cash.
(2)Included in “prepaid expenses and other current assets” in the accompanying condensed consolidated balance sheet as of January 31, 2015.
(3)Included in “accounts payable, accrued expenses and other liabilities” in the accompanying condensed consolidated balance sheet as of January 31, 2015.
Derivative Financial Instruments
The Company enters into foreign currency derivative contracts with financial institutions to reduce the risk that its cash flows and earnings will be adversely affected by foreign currency exchange rate fluctuations. The Company uses forward currency derivative contracts to minimize the Company’s exposure to balances primarily denominated in British pounds, Euros, Japanese yen, Canadian dollars and Australian dollars. The Company’s foreign currency derivative contracts, which are not designated as hedging instruments, are used to reduce the exchange rate risk associated primarily with intercompany receivables and payables. The Company’s derivative financial instruments program is not designated for trading or speculative purposes. As of April 30, 2015 and January 31, 2015, the foreign currency derivative contracts that were not settled were recorded at fair value on the condensed consolidated balance sheets.
Foreign currency derivative contracts are marked-to-market at the end of each reporting period with gains and losses recognized as other expense to offset the gains or losses resulting from the settlement or remeasurement of the underlying foreign currency denominated receivables and payables. While the contract or notional amount is often used to express the volume of foreign currency derivative contracts, the amounts potentially subject to credit risk are generally limited to the amounts, if any, by which the counterparties’ obligations under the agreements exceed the obligations of the Company to the counterparties.

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Details on outstanding foreign currency derivative contracts related primarily to intercompany receivables and payables are presented below (in thousands):
 
 
As of
 
April 30, 2015
 
January 31, 2015
Notional amount of foreign currency derivative contracts
$
731,148

 
$
942,086

Fair value of foreign currency derivative contracts
$
6,884

 
$
4,917


The fair value of the Company’s outstanding derivative instruments are summarized below (in thousands):
 
 
 
Fair Value of Derivative Instruments
 
 
As of
  
Balance Sheet Location
April 30, 2015
 
January 31, 2015
Derivative Assets
 
 
 
 
Derivatives not designated as hedging instruments:
 
 
 
 
Foreign currency derivative contracts
Prepaid expenses and other current assets
$
9,465

 
$
10,611

Derivative Liabilities
 
 
 
 
Derivatives not designated as hedging instruments:
 
 
 
 
Foreign currency derivative contracts
Accounts payable, accrued expenses and other liabilities
$
2,581

 
$
5,694


The effect of the derivative instruments not designated as hedging instruments on the condensed consolidated statements of operations during the three months ended April 30, 2015 and 2014, respectively, are summarized below (in thousands):
 
 
 
 
 
 
 
Derivatives Not Designated as Hedging Instruments
Gains (Losses) on Derivative Instruments
Recognized in Income
  
 
 
Three Months Ended April 30,
 
Location
 
2015
 
2014
Foreign currency derivative contracts
Other income (expense)
 
$
11,459

 
$
(12
)
Strategic Investments
As of April 30, 2015, the Company has four investments in marketable equity securities measured using quoted prices in their respective active markets and certain interests in non-marketable equity and debt securities that are collectively considered strategic investments. As of April 30, 2015, the fair value of the Company’s marketable equity securities of $17.7 million includes an unrealized gain of $12.9 million. As of January 31, 2015, the Company had four investments in marketable equity securities that had a fair value of $17.8 million, which included an unrealized gain of $13.1 million. These investments are recorded at fair value in other assets, net on the condensed consolidated balance sheets.
The Company’s interest in non-marketable equity and debt securities consists of noncontrolling equity and debt investments in privately-held companies. The Company’s investments in these privately-held companies are reported at cost or marked down to fair value when an event or circumstance indicates an other-than-temporary decline in value has occurred. These investments are valued using significant unobservable inputs or data in an inactive market and the valuation requires the Company’s judgment due to the absence of market prices and inherent lack of liquidity.
As of April 30, 2015 and January 31, 2015, the carrying value of the Company’s investments in privately-held companies was $301.0 million and $158.0 million, respectively. These investments are recorded in other assets, net on the condensed consolidated balance sheets. The estimated fair value of the Company's investments in privately-held companies was $452.0 million as of April 30, 2015. The estimated fair value of the Company's investments in privately-held companies was $280.0 million as of January 31, 2015.

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Investment Income
Investment income consists of interest income, realized gains, and realized losses on the Company’s cash, cash equivalents and marketable securities. The components of investment income are presented below (in thousands):
 
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Interest income
 
$
3,049

 
$
1,764

Realized gains
 
2,128

 
117

Realized losses
 
(616
)
 
(103
)
Total investment income

$
4,561

 
$
1,778

Reclassification adjustments out of accumulated other comprehensive loss into net income (loss) were immaterial for the three months ended April 30, 2015 and 2014, respectively.
3. Property and Equipment
Property and Equipment
Property and equipment consisted of the following (in thousands):
 
As of
 
April 30, 2015
 
January 31, 2015
Land
$
183,888

 
$
0

Buildings
572,164

 
125,289

Computers, equipment and software
1,203,411

 
1,171,762

Furniture and fixtures
75,726

 
71,881

Leasehold improvements
394,674

 
376,761

 
2,429,863

 
$
1,745,693

Less accumulated depreciation and amortization
(692,769
)
 
(619,827
)
 
$
1,737,094

 
$
1,125,866

Depreciation and amortization expense totaled $72.5 million and $56.4 million during the three months ended April 30, 2015 and 2014, respectively.
Computers, equipment and software at April 30, 2015 and January 31, 2015 included a total of $737.8 million and $734.7 million acquired under capital lease agreements, respectively. Accumulated amortization relating to computers, equipment and software under capital leases totaled $233.3 million and $206.7 million, respectively, at April 30, 2015 and January 31, 2015. Amortization of assets under capital leases is included in depreciation and amortization expense.
In April 2014, the Company entered into an agreement to sell 8.8 net acres of undeveloped real estate in San Francisco, California, and a portion of associated perpetual parking rights, for which the Company received a nonrefundable deposit in the amount of $30.0 million. As of April 30, 2015, these 8.8 net acres and perpetual parking rights met the criteria to be classified as held for sale. As a result, the Company classified this portion of the Company's land and building improvements, which totaled $137.7 million, and the perpetual parking rights of $5.5 million, net of $2.9 million reimbursed for property taxes and other items, as land and building improvements held for sale in the current assets section of the accompanying condensed consolidated balance sheets. The sale of this portion of the Company's undeveloped real estate is expected to close within twelve months and is subject to certain closing conditions. As of April 30, 2015, the fair value of the Company's land, building improvements and perpetual parking rights, based on the expected sale proceeds, exceeds the carrying value.

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Table of Contents

In December 2012, the Company entered into a lease agreement for approximately 445,000 rentable square feet of office space at 350 Mission Street (“350 Mission”) in San Francisco, California. The space rented is for the total office space available in the building, which is in the process of being constructed. As a result of the Company’s involvement during the construction period, the Company is considered for accounting purposes to be the owner of the construction project. As of April 30, 2015, the Company had capitalized $136.5 million of construction costs, based on the construction costs incurred to date by the landlord, and recorded a corresponding noncurrent financing obligation liability of $136.5 million. The financing obligation carrying value also includes $8.3 million of tenant improvement obligations offset by $0.4 million of imputed interest. The total expected financing obligation associated with this lease upon completion of the construction of the building, inclusive of the amounts currently recorded, is $335.8 million, including interest (see Note 10 “Commitments” for future commitment details). The obligation will be settled through monthly lease payments to the landlord in phases as the office space becomes ready for occupancy. In April 2015, the building was placed into service.
There was no impairment of long-lived assets during the three months ended April 30, 2015 and 2014, respectively.
4. Business Combinations
50 Fremont
In February 2015, the Company acquired 50 Fremont Street, a 41-story building totaling approximately 817,000 rentable square feet located in San Francisco, California (“50 Fremont”). At the time of the acquisition, the Company was leasing approximately 500,000 square feet of the available space in 50 Fremont. As of April 30, 2015, the Company occupied approximately 515,000 square feet. The Company acquired 50 Fremont for the purpose of expanding its global headquarters in San Francisco. Pursuant to the acquisition agreement, the Company also acquired existing third-party leases and other intangible property and terminated the Company’s existing office leases with the seller. In accordance with ASC 805, Business Combinations, the Company accounted for the building purchase as a business combination.
The purchase consideration for the corporate headquarters building was as follows (in thousands):
 
Fair Value
Cash
$
435,189

Loan assumed on 50 Fremont
200,000

Prorations due to ownership transfer midmonth
2,411

Total purchase consideration
$
637,600

The following table summarizes the fair values of net tangible and intangible assets acquired (in thousands):
 
 
Fair Value
Building
$
435,390

Land
183,888

Termination of salesforce operating lease
9,483

Acquired lease intangibles
7,590

Loan assumed on 50 Fremont fair market value adjustment
1,249

Total
$
637,600

To fund the purchase of 50 Fremont, the Company used $115.0 million of restricted cash that the Company had on the balance sheet as of January 31, 2015.

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In connection with the purchase, the Company recognized a net non-cash gain totaling approximately $36.6 million on the termination of the lease signed in January 2012. This amount reflects a gain of $46.1 million for the reversal of tenant incentives provided from the previous landlord at the inception of the lease and a loss of $9.5 million related to the termination of the Company's operating lease. The tax impact as a result of the difference between tax and book basis of the building is insignificant after considering the impact of the Company's valuation allowance. These amounts above have been included in the Company's condensed consolidated statements of operations and condensed consolidated balance sheets. The Company has included the rental income from third party leases with other tenants in the building, and the proportionate share of building expenses for those leases, in other expense in the Company's condensed consolidated results of operations from the date of acquisition. These amounts are recorded in other expense as this net rental income is not part of our core operations. These amounts were not material for the periods presented. The Company expects to finalize the depreciable life of the building as soon as practicable, but not later than one year from the acquisition date.
Other Business Combination
During the three months ended April 30, 2015, the Company acquired one company for an aggregate of $12.4 million in cash, net of cash acquired, and has included the financial results of this company in its condensed consolidated financial statements from the date of acquisition. The Company accounted for this transaction as a business combination. In allocating the purchase consideration based on estimated fair values, the Company recorded $8.9 million of goodwill. Some of this goodwill balance is not deductible for U.S. income tax purposes.
Goodwill
Goodwill represents the excess of the purchase price in a business combination over the fair value of net tangible and intangible assets acquired. Goodwill amounts are not amortized, but rather tested for impairment at least annually during the fourth quarter.
Goodwill consisted of the following (in thousands):
Balance as of January 31, 2015
$
3,782,660

Other business combination
8,923

Balance as of April 30, 2015
$
3,791,583

5. Debt
Convertible Senior Notes
  
Par Value Outstanding
 
Equity
Component Recorded at Issuance
 
Liability Component of Par Value as of
(In thousands)
April 30,
2015
 
January 31,
2015
0.25% Convertible Senior Notes due April 1, 2018
$
1,150,000

 
$
122,421

(1)
$
1,076,727

 
$
1,070,692

___________ 
(1)This amount represents the equity component recorded at the initial issuance of the 0.25% convertible senior notes.

In March 2013, the Company issued at par value $1.15 billion of 0.25% convertible senior notes (the “0.25% Senior Notes”, or the “Notes”) due April 1, 2018, unless earlier purchased by the Company or converted. Interest is payable semi-annually, in arrears on April 1 and October 1 of each year.
The 0.25% Senior Notes are governed by an indenture between the Company, as issuer, and U.S. Bank National Association, as trustee. The 0.25% Senior Notes are unsecured and do not contain any financial covenants or any restrictions on the payment of dividends, the incurrence of senior debt or other indebtedness, or the issuance or repurchase of securities by the Company.
If converted, holders of the 0.25% Senior Notes will receive cash equal to the principal amount, and at the Company’s election, cash, shares of the Company’s common stock, or a combination of cash and shares, for any amounts in excess of the principal amounts.

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Certain terms of the conversion features of the 0.25% Senior Notes are as follows:
 
Conversion
Rate per $1,000
Par Value
 
Initial
Conversion
Price per
Share
 
Convertible Date
0.25% Senior Notes
15.0512

 
$
66.44

 
January 1, 2018
Throughout the term of the 0.25% Senior Notes, the conversion rate may be adjusted upon the occurrence of certain events, including any cash dividends. Holders of the 0.25% Senior Notes will not receive any cash payment representing accrued and unpaid interest upon conversion of a Note. Accrued but unpaid interest will be deemed to be paid in full upon conversion rather than canceled, extinguished or forfeited.
Holders may convert the 0.25% Senior Notes under the following circumstances:
•
during any fiscal quarter, if, for at least 20 trading days during the 30 consecutive trading day period ending on the last trading day of the immediately preceding fiscal quarter, the last reported sales price of the Company’s common stock for such trading day is greater than or equal to 130% of the applicable conversion price on such trading day;
•
in certain situations, when the trading price of the 0.25% Senior Notes is less than 98% of the product of the sale price of the Company’s common stock and the conversion rate;
•
upon the occurrence of specified corporate transactions described under the 0.25% Senior Notes indenture, such as a consolidation, merger or binding share exchange; or
•
at any time on or after the convertible date noted above.
Holders of the 0.25% Senior Notes have the right to require the Company to purchase with cash all or a portion of the Notes upon the occurrence of a fundamental change, such as a change of control, at a purchase price equal to 100% of the principal amount of the 0.25% Senior Notes plus accrued and unpaid interest. Following certain corporate transactions that constitute a change of control, the Company will increase the conversion rate for a holder who elects to convert the 0.25% Senior Notes in connection with such change of control.
In accounting for the issuances of the 0.25% Senior Notes, the Company separated the 0.25% Senior Notes into liability and equity components. The carrying amount of the liability component was calculated by measuring the fair value of a similar liability that does not have an associated convertible feature. The carrying amount of the equity component representing the conversion option was determined by deducting the fair value of the liability component from the par value of the 0.25% Senior Notes as a whole. The excess of the principal amount of the liability component over its carrying amount (“debt discount”) is amortized to interest expense over the term of the 0.25% Senior Notes. The equity component is not remeasured as long as it continues to meet the conditions for equity classification.
In accounting for the transaction costs related to the 0.25% Senior Notes issuance, the Company allocated the total amount incurred to the liability and equity components based on their relative values. Transaction costs attributable to the liability component are being amortized to expense over the terms of the 0.25% Senior Notes, and transaction costs attributable to the equity component were netted with the equity component in temporary stockholders’ equity and stockholders’ equity.
The 0.25% Senior Notes consisted of the following (in thousands):
 
 
As of
 
April 30,
2015
 
January 31,
2015
Liability component :
 
 
 
Principal:
 
 
 
0.25% Senior Notes (1)
$
1,150,000

 
$
1,150,000

Less: debt discount, net
 
 
 
0.25% Senior Notes (2)
(73,273
)
 
(79,308
)
Net carrying amount
$
1,076,727

 
$
1,070,692

(1)The effective interest rate of the 0.25% Senior Notes is 2.53%. The interest rate is based on the interest rates of similar liabilities at the time of issuance that did not have an associated convertible feature.

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(2)Included in the condensed consolidated balance sheets within Convertible 0.25% Senior Notes (which is classified as a noncurrent liability) and is amortized over the life of the 0.25% Senior Notes using the effective interest rate method.
The total estimated fair value of the Company’s 0.25% Senior Notes at April 30, 2015 was $1.4 billion. The fair value was determined based on the closing trading price per $100 of the 0.25% Senior Notes as of the last day of trading for the first quarter of fiscal 2016.
Based on the closing price of the Company’s common stock of $72.82 on April 30, 2015, the if-converted value of the 0.25% Senior Notes exceeded their principal amount by approximately $110.4 million. Based on the terms of the 0.25% Senior Notes, the Senior Notes were not convertible for the three months ended April 30, 2015.
Note Hedges
To minimize the impact of potential economic dilution upon conversion of the Notes, the Company entered into convertible note hedge transactions with respect to its common stock (the “0.25% Note Hedges”).
 
(in thousands, except for shares)
Date
 
Purchase
 
Shares
0.25% Note Hedges
March 2013
 
$
153,800

 
17,308,880

The 0.25% Note Hedges cover shares of the Company’s common stock at a strike price that corresponds to the initial conversion price of the 0.25% Notes, also subject to adjustment, and are exercisable upon conversion of the Notes. The 0.25% Note Hedges will expire upon the maturity of the 0.25% Notes. The 0.25% Note Hedges are intended to reduce the potential economic dilution upon conversion of the 0.25% Notes in the event that the market value per share of the Company’s common stock, as measured under the 0.25% Notes, at the time of exercise is greater than the conversion price of the 0.25% Notes. The 0.25% Note Hedges are separate transactions and are not part of the terms of the 0.25% Notes. Holders of the 0.25% Notes will not have any rights with respect to the 0.25% Note Hedges. The 0.25% Note Hedges do not impact earnings per share.
Warrants
 
Date
 
Proceeds
(in thousands)
 
Shares
 
Strike
Price
0.25% Warrants
March 2013
 
$
84,800

 
17,308,880

 
$
90.40

In March 2013, the Company also entered into a warrants transaction (the “0.25% Warrants”), whereby the Company sold warrants to acquire, subject to anti-dilution adjustments, shares of the Company’s common stock. The 0.25% Warrants were anti-dilutive for the periods presented. The 0.25% Warrants are separate transactions entered into by the Company and are not part of the terms of the 0.25% Notes or the 0.25% Note Hedges. Holders of the 0.25% Notes and 0.25% Note Hedges will not have any rights with respect to the 0.25% Warrants.
Revolving Credit Facility
In October 2014, the Company entered into an agreement (the “Credit Agreement”) with Wells Fargo, N.A. and certain other institutional lenders that provides for a $650.0 million unsecured revolving credit facility that matures in October 2019 (the “Credit Facility”). Immediately upon closing, the Company borrowed $300.0 million under the Credit Facility. The Borrowings under the Credit Facility bear interest, at the Company’s option at either a base rate, as defined in the Credit Agreement, plus a margin of 0.00% to 0.75% or LIBOR plus a margin of 1.00% to 1.75%. The Company is obligated to pay ongoing commitment fees at a rate between 0.125% and 0.25%. Such interest rate margins and commitment fees are based on the Company’s consolidated leverage ratio for the preceding four fiscal quarter periods. Interest and the commitment fees are payable in arrears quarterly. The Company may use amounts borrowed under the Credit Facility for working capital, capital expenditures and other general corporate purposes, including permitted acquisitions. Subject to certain conditions stated in the Credit Agreement, the Company may borrow amounts under the Credit Facility at any time during the term of the Credit Agreement. The Company may also prepay borrowings under the Credit Agreement, in whole or in part, at any time without premium or penalty, subject to certain conditions, and amounts repaid or prepaid may be reborrowed.
The Credit Agreement contains certain customary affirmative and negative covenants, including a consolidated leverage ratio covenant, a consolidated interest coverage ratio covenant, a limit on the Company’s ability to incur additional indebtedness, dispose of assets, make certain acquisition transactions, pay dividends or distributions, and certain other restrictions on the Company’s activities each defined specifically in the Credit Agreement. The Company was in compliance with the Credit Agreement’s covenants as of April 30, 2015.

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In March 2015, the Company paid down $300.0 million of outstanding borrowings under the Credit Facility. There are currently no outstanding borrowings held under the Credit Facility as of April 30, 2015.
The weighted average interest rate on borrowings under the Credit Facility was 1.6% for the period beginning in October 2014 and ended April 30, 2015.
Loan Assumed on 50 Fremont
The Company assumed a $200.0 million loan with the acquisition of 50 Fremont (the “Loan”). The Loan bears an interest rate of 3.75% per annum and is due in June 2023. The Loan requires interest only payments with the remaining principal due at maturity. The Loan can be prepaid at any time subject to a yield maintenance fee. The agreement governing the Loan contains certain customary affirmative and negative covenants that the Company was in compliance with as of April 30, 2015.
Interest Expense on Convertible Senior Notes, Revolving Credit Facility and Loan Secured by 50 Fremont
The following table sets forth total interest expense recognized related to the Notes, the Credit Facility and the Loan prior to capitalization of interest (in thousands):
 
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Contractual interest expense
 
$
3,350

 
$
2,903

Amortization of debt issuance costs
 
1,018

 
1,228

Amortization of debt discount
 
6,059

 
10,984

 
 
$
10,427

 
$
15,115

6. Other Balance Sheet Accounts
Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consisted of the following (in thousands):
 
 
As of
 
April 30,
2015
 
January 31,
2015
Deferred income taxes, net
$
44,342

 
$
35,528

Prepaid income taxes
21,362

 
21,514

Customer contract asset
10,492

 
16,620

Other taxes receivable
25,592

 
27,540

Prepaid expenses and other current assets
209,195

 
179,352

 
$
310,983

 
$
280,554

Customer contract asset reflects future billings of amounts that are contractually committed by ExactTarget’s existing customers as of the acquisition date in July 2013 that will be billed in the next 12 months. As the Company bills these customers this balance will reduce and accounts receivable will increase.

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Capitalized Software, net
Capitalized software consisted of the following (in thousands):
 
 
As of
 
April 30,
2015
 
January 31,
2015
Capitalized internal-use software development costs, net of accumulated amortization of $147,646 and $136,314, respectively
$
102,430

 
$
96,617

Acquired developed technology, net of accumulated amortization of $414,634 and $392,736, respectively
318,893

 
336,781

 
$
421,323

 
$
433,398

Capitalized internal-use software amortization expense totaled $11.3 million and $8.3 million for the three months ended April 30, 2015 and 2014, respectively. Acquired developed technology amortization expense totaled $21.9 million and $30.4 million for the three months ended April 30, 2015 and 2014, respectively.
The Company capitalized $1.6 million and $1.0 million of stock-based expenses related to capitalized internal-use software development and deferred professional services during the three months ended April 30, 2015 and 2014, respectively.
Other Assets, net
Other assets consisted of the following (in thousands):
 
As of
 
April 30,
2015
 
January 31,
2015
Deferred income taxes, noncurrent, net
$
8,930

 
$
9,275

Long-term deposits
19,163

 
19,715

Purchased intangible assets, net of accumulated amortization of $150,963 and $130,968, respectively
317,565

 
329,971

Acquired intellectual property, net of accumulated amortization of $17,409 and $15,695, respectively
15,595

 
15,879

Strategic investments
318,716

 
175,774

Customer contract asset
407

 
1,447

Other
74,002

 
76,259

 
$
754,378

 
$
628,320


Customer contract asset reflects future billings of amounts that were contractually committed by ExactTarget's existing customers as of the acquisition date in July 2013. As the Company bills these customers, this balance will decrease and accounts receivable will increase.
Purchased intangible assets amortization expense for the three months ended April 30, 2015 and 2014 was $20.0 million and $15.2 million, respectively. Acquired intellectual property amortization expense for the three months ended April 30, 2015 and 2014 was $1.7 million and $1.2 million, respectively.

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Accounts Payable, Accrued Expenses and Other Liabilities
Accounts payable, accrued expenses and other liabilities consisted of the following (in thousands):
 
 
As of
 
April 30,
2015
 
January 31,
2015
Accounts payable
$
60,227

 
$
95,537

Accrued compensation
308,589

 
457,102

Accrued other liabilities
380,227

 
321,032

Accrued income and other taxes payable
128,734

 
184,844

Accrued professional costs
27,814

 
16,889

Customer liability, current
10,561

 
13,084

Accrued rent
11,953

 
14,847

 
$
928,105

 
$
1,103,335

Customer liability reflects the legal obligation to provide future services that are contractually committed to ExactTarget’s existing customers but unbilled as of the acquisition date in July 2013. As these services are invoiced, this balance will decrease and deferred revenue will increase.
Other Noncurrent Liabilities
Other noncurrent liabilities consisted of the following (in thousands):
 
 
As of
 
April 30,
2015
 
January 31,
2015
Deferred income taxes and income taxes payable
$
106,499

 
$
94,396

Customer liability, noncurrent
288

 
1,026

Financing obligation, building in progress-leased facility
145,255

 
125,289

Long-term lease liabilities and other
618,009

 
701,612

 
$
870,051

 
$
922,323


7. Stockholders’ Equity
The Company maintains the following stock plans: the ESPP, the 2013 Equity Incentive Plan and the 2014 Inducement Equity Incentive Plan (the “2014 Inducement Plan”). The expiration of the 1999 Stock Option Plan (“1999 Plan”) in fiscal 2010 did not affect awards outstanding, which continue to be governed by the terms and conditions of the 1999 Plan. Offerings under the ESPP commenced in December 2011.
As of April 30, 2015, $70.5 million has been withheld on behalf of employees for future purchases under the ESPP and is recorded in accounts payable, accrued expenses and other liabilities.
Prior to February 1, 2006, options issued under the Company’s stock option plans generally had a term of 10 years. From February 1, 2006 through July 2013, options issued had a term of five years. After July 2013, options issued have a term of seven years.

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Stock activity excluding the ESPP is as follows:
 
 
 
 
Options Outstanding
 
Shares
Available for
Grant
 
Outstanding
Stock
Options
 
Weighted-
Average
Exercise Price
 
Aggregate
Intrinsic Value
Balance as of January 31, 2015
30,789,538

 
29,458,361

 
$
44.36

 
 
Increase in shares authorized:
 
 
 
 
 
 
 
2013 Equity Incentive Plan
908,405

 
0

 
0.00

 
 
2014 Inducement Equity Incentive Plan
109,666

 
0

 
0.00

 
 
Options granted under all plans
(597,589
)
 
597,589

 
66.98

 
 
Restricted stock activity
(653,021
)
 
0

 
0.00

 
 
Stock grants to board and advisory board members
(53,817
)
 
0

 
0.00

 
 
Exercised
0

 
(3,365,914
)
 
33.54

 
 
Plan shares expired
(858,610
)
 
0

 
0.00

 
 
Canceled
782,733

 
(782,733
)
 
43.38

 
 
Balance as of April 30, 2015
30,427,305

 
25,907,303

 
$
46.32

 
$
686,590,080

Vested or expected to vest
 
 
24,031,621

 
$
45.64

 
$
653,176,385

Exercisable as of January 31, 2015
 
 
9,224,356

 
$
35.38

 
$
345,386,983

The total intrinsic value of the options exercised during the three months ended April 30, 2015 and 2014 was $113.3 million and $68.8 million, respectively. The intrinsic value is the difference between the current market value of the stock and the exercise price of the stock option.
The weighted-average remaining contractual life of vested and expected to vest options is approximately 4.4 years.
As of April 30, 2015, options to purchase 9,224,356 shares were vested at a weighted average exercise price of $35.38 per share and had a remaining weighted-average contractual life of approximately 2.6 years. The total intrinsic value of these vested options as of April 30, 2015 was $345.4 million.
The following table summarizes information about stock options outstanding as of April 30, 2015:
 
 
 
Options Outstanding
 
Options Exercisable
Range of Exercise
Prices
 
Number
Outstanding
 
Weighted-
Average
Remaining
Contractual Life
(Years)
 
Weighted-
Average
Exercise
Price
 
Number of
Shares
 
Weighted-
Average
Exercise
Price
$0.86 to $27.56
 
3,757,745

 
2.9
 
$
22.85

 
2,777,045

 
$
22.62

$27.66 to $37.95
 
4,583,438

 
1.7
 
36.02

 
3,377,985

 
35.78

$38.03 to $52.14
 
3,020,285

 
3.0
 
39.94

 
1,484,315

 
39.65

52.30
 
4,602,478

 
5.6
 
52.30

 
1,392,231

 
52.30

$53.60 to $57.79
 
1,881,361

 
6.1
 
55.21

 
163,751

 
55.93

$59.34
 
6,747,253

 
6.6
 
59.34

 
0

 
0.00

$59.37 to $67.71
 
1,314,743

 
6.6
 
63.46

 
29,029

 
63.26

 
 
25,907,303

 
4.5
 
$
46.32

 
9,224,356

 
$
35.38


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Restricted stock activity is as follows:
 
 
Restricted Stock Outstanding
 
Outstanding
 
Weighted-
Average
Exercise Price
 
Aggregate
Intrinsic
Value
(in thousands)
Balance as of January 31, 2015
23,144,008

 
$
0.001

 
 
Granted
1,072,962

 
0.001

 
 
Canceled
(1,011,129
)
 
0.001

 
 
Vested and converted to shares
(1,828,661
)
 
0.001

 
 
Balance as of April 30, 2015
21,377,180

 
$
0.001

 
$
1,556,686

Expected to vest
18,423,081

 
 
 
$
1,341,569

The restricted stock, which upon vesting entitles the holder to one share of common stock for each share of restricted stock, has an exercise price of $0.001 per share, which is equal to the par value of the Company’s common stock, and generally vests over 4 years.
The weighted-average grant date fair value of the restricted stock issued for the three months ended April 30, 2015 and 2014 was $67.17 and $63.71, respectively.
Common Stock
The following number of shares of common stock were reserved and available for future issuance at April 30, 2015:
 
Options outstanding
25,907,303

Restricted stock awards and units outstanding
21,377,180

Stock available for future grant:
 
2013 Equity Incentive Plan
29,751,044

2014 Inducement Equity Incentive Plan
676,261

2004 Employee Stock Purchase Plan
2,849,312

Convertible senior notes
17,308,880

Warrants
17,308,880

 
115,178,860

8. Income Taxes
Effective Tax Rate
The Company computes its year-to-date provision for income taxes by applying the estimated annual effective tax rate to year to date pretax income or loss and adjusts the provision for discrete tax items recorded in the period. For the three months ended April 30, 2015, the Company reported a tax provision of $14.0 million on a pretax income of $18.1 million, which resulted in an effective tax rate of 77 percent. The tax provision recorded was primarily related to income taxes in profitable jurisdictions outside of the U.S.
For the three months ended April 30, 2014, the Company reported a tax expense of $12.1 million on a pretax loss of $84.8 million, which resulted in a negative effective tax rate of 14 percent. The tax provision recorded was related to income taxes in profitable jurisdictions outside the U.S. and the current tax expense in the U.S. The Company had U.S. current tax expense as a result of forecasted taxable income before considering certain excess tax benefits from stock options and vesting of restricted stock. This U.S. current tax expense was partially offset by tax benefit attributable to losses in certain U.S. states with no valuation allowance.
Tax Benefits Related to Stock-Based Compensation
The total income tax benefit related to stock-based awards was $43.7 million and $42.6 million for three months ended April 30, 2015 and 2014, respectively, the majority of which was not recognized as a result of the valuation allowance.

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Unrecognized Tax Benefits and Other Considerations
The Company records liabilities related to its uncertain tax positions. Tax positions for the Company and its subsidiaries are subject to income tax audits by multiple tax jurisdictions throughout the world. During the quarter ended April 30, 2015, the Company reached a settlement agreement upon completion of its tax examination in Japan which did not result in material impact to its income tax provision. Certain prior year tax returns are currently being examined by various taxing authorities in countries including the United States, Germany, Switzerland and the United Kingdom. To date, the Company has not received any material proposed adjustments.
The Company believes that it has provided adequate reserves for its income tax uncertainties in all open tax years. In the next 12 months, as some of the ongoing examinations are completed and tax positions in these tax years meet the conditions of being effectively settled, the Company anticipates it is reasonably possible that a decrease of unrecognized tax benefits up to approximately $19 million may occur.
9. Earnings/Loss Per Share
Basic earnings/loss per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding for the fiscal period. Diluted earnings/loss per share is computed by giving effect to all potential weighted average dilutive common stock, including options, restricted stock units, warrants and the convertible senior notes. The dilutive effect of outstanding awards and convertible securities is reflected in diluted earnings per share by application of the treasury stock method. Diluted loss per share for the three months ended April 30, 2014 is the same as basic loss per share as there is a net loss in the period and inclusion of potentially issuable shares is anti-dilutive.
A reconciliation of the denominator used in the calculation of basic and diluted earnings/(loss) per share is as follows (in thousands):
 
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Numerator:
 
 
 
 
Net income (loss)
 
$
4,092

 
$
(96,911
)
Denominator:
 
 
 
 
Weighted-average shares outstanding for basic loss per share
 
653,809

 
612,512

Effect of dilutive securities:
 
 
 
 
Convertible senior notes
 
0

 
0

Employee stock awards
 
10,501

 
0

Warrants
 
0

 
0

Adjusted weighted-average shares outstanding and assumed conversions for diluted loss per share
 
664,310

 
612,512

The weighted-average number of shares outstanding used in the computation of basic and diluted earnings/loss per share does not include the effect of the following potential outstanding common stock. The effects of these potentially outstanding shares were not included in the calculation of diluted earnings/loss per share because the effect would have been anti-dilutive (in thousands):
 
 
 
Three Months Ended April 30,
 
 
2015
 
2014
Stock awards
 
8,801

 
20,472

Convertible senior notes
 
17,309

 
30,662

Warrants
 
17,309

 
44,253

10. Commitments
Letters of Credit
As of April 30, 2015, the Company had a total of $67.9 million in letters of credit outstanding substantially in favor of certain landlords for office space. These letters of credit renew annually and expire at various dates through December 2030.

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Leases
The Company leases facilities space and certain fixed assets under non-cancelable operating and capital leases with various expiration dates.
As of April 30, 2015, the future minimum lease payments under non-cancelable operating and capital leases are as follows (in thousands):
 
 
Capital
Leases
 
Operating
Leases
 
Financing Obligation, Building in Progress-Leased Facility(1)
Fiscal Period:
 
 
 
 
 
Remaining nine months of fiscal 2016
$
86,398

 
$
227,050

 
$
1,777

Fiscal 2017
114,874

 
287,795

 
16,877

Fiscal 2018
119,086

 
244,615

 
21,107

Fiscal 2019
113,005

 
188,841

 
21,551

Fiscal 2020
201,507

 
181,765

 
21,995

Thereafter
0

 
1,052,718

 
252,517

Total minimum lease payments
634,870

 
$
2,182,784

 
$
335,824

Less: amount representing interest
(81,799
)
 

 

Present value of capital lease obligations
$
553,071

 

 

______________ 
(1) Total Financing Obligation, Building in Progress-Leased Facility noted above represents the total obligation on the lease agreement including amounts allocated to interest noted in Note 3 “Property and Equipment” and includes $145.3 million that was recorded to Financing obligation, building in progress-leased facility, which is included in Other noncurrent liabilities on the balance sheet.
The Company’s agreements for the facilities and certain services provide the Company with the option to renew. The Company’s future contractual obligations would change if the Company exercised these options.
The terms of the lease agreements provide for rental payments on a graduated basis. The Company recognizes rent expense on a straight-line basis over the lease period and has accrued for rent expense incurred but not paid. Of the total operating lease commitment balance of $2.2 billion, approximately $1.9 billion is related to facilities space. The remaining commitment amount is related to computer equipment, other leases, data center capacity and our development and test data center.
11. Legal Proceedings and Claims
In the ordinary course of business, the Company is or may be involved in various legal proceedings and claims related to alleged infringement of third-party patents and other intellectual property rights, commercial, corporate and securities, labor and employment, class actions, wage and hour, and other claims. The Company has been, and may in the future be, put on notice and/or sued by third parties for alleged infringement of their proprietary rights, including patent infringement.
During fiscal 2015, the Company received a communication from a large technology company alleging that the Company infringed certain of its patents.  The Company continues to analyze this claim.  No litigation has been filed to date.  There can be no assurance that this claim will not lead to litigation in the future.  The resolution of this claim is not expected to have a material adverse effect on the Company's financial condition, but it could be material to the net income or cash flows or both of a particular quarter. 
In general, the resolution of a legal matter could prevent the Company from offering its service to others, could be material to the Company’s financial condition or cash flows, or both, or could otherwise adversely affect the Company’s operating results.
The Company makes a provision for a liability relating to legal matters when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impacts of negotiations, estimated settlements, legal rulings, advice of legal counsel and other information and events pertaining to a particular matter. In management’s opinion, resolution of all current matters is not expected to have a material adverse impact on the Company’s condensed consolidated results of operations, cash flows or financial position.

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However, depending on the nature and timing of any such dispute, an unfavorable resolution of a matter could materially affect the Company’s future results of operations or cash flows, or both, of a particular quarter.
12. Related-Party Transactions
In January 1999, the Salesforce.com Foundation, which recently became a private foundation, also referred to as the Foundation, was chartered to build philanthropic programs that are focused on youth and technology. Beginning in 2008, Salesforce.org, which is a non-profit mutual benefit corporation, was established to resell the Company’s services to nonprofit organizations and certain higher education organizations. The Company’s chairman is the chairman of both the Foundation and Salesforce.org. The Company’s chairman, one of the Company’s employees and one of the Company’s board members hold three of the Foundation’s nine board seats. The Company’s chairman and one of the Company’s employees hold two of Salesforce.org’s six board seats. The Company does not control the Foundation’s or Salesforce.org's activities, and accordingly, the Company does not consolidate either of the related entities' statement of activities with its financial results.
Since the Foundation’s inception, the Company has provided at no charge certain resources to Foundation employees such as office space. The value of these items was approximately $0.3 million for the three months ended April 30, 2015.
Additionally, the Company has donated subscriptions to the Company’s service to other qualified non-profit organizations. The Company also allows Salesforce.org to resell the Company’s service to non-profit organizations and certain higher education entities. The Company does not charge Salesforce.org for these subscriptions, so revenue from subscriptions provided to non-profit organizations is provided to the Foundation to fund its charitable work. The value of the subscriptions pursuant to reseller agreements was approximately $14.1 million for the three months ended April 30, 2015. The Company plans to continue these programs.


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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion in“Management’s Discussion and Analysis of Financial Condition and Results of Operations” (“MD&A”), contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements consist of, among other things, trend analyses, statements regarding future events, future financial performance, our anticipated growth, the effect of general economic and market conditions, the impact of foreign currency exchange rate and interest rate fluctuations on our results, our business strategy and our plan to build our business, including our strategy to be the leading provider of enterprise cloud computing applications and platforms and to lead the industry shift to the “customer company,” our service performance and security, the expenses associated with new data centers, additional data center capacity, real estate and office facilities space, our operating results, new features and services, our strategy of acquiring or making investments in complementary businesses, joint ventures, services and technologies, and intellectual property rights, our ability to successfully integrate acquired businesses and technologies, our ability to continue the growth and to maintain deferred revenue and unbilled deferred revenue, our ability to protect our intellectual property rights, our ability to develop our brands, our ability to realize the benefits from strategic partnerships and investments, the effect of evolving government regulations, the valuation of deferred tax assets, the potential availability of additional tax assets in the future and related matters, the impact of expensing stock options, the sufficiency of our capital resources, factors related to our outstanding convertible notes, revolving credit facility, loan associated with 50 Fremont, compliance with our related debt covenants and capital lease obligations, and current and potential litigation involving us, all of which are based on current expectations, estimates, and forecasts, and the beliefs and assumptions of our management. Words such as “expects,” “anticipates,” “aims,” “projects,” “intends,” “plans,” “believes,” “estimates,” “seeks,” “assumes,” “may,” “should,” “could,” “foresees,” “forecasts,” variations of such words and similar expressions are also intended to identify such forward-looking statements. These forward-looking statements are subject to risks, uncertainties and assumptions that are difficult to predict. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. Readers are directed to risks and uncertainties identified below, under “Risk Factors” and elsewhere in this report, for factors that may cause actual results to be different than those expressed in these forward-looking statements. Except as required by law, we undertake no obligation to revise or update publicly any forward-looking statements for any reason.

Overview
We are a leading provider of enterprise cloud computing solutions, with a focus on customer relationship management, or CRM. We introduced our first CRM solution in February 2000 and we have since expanded our offerings with new editions, solutions, enhanced features, platform capabilities and a new analytics solution through internal development and acquisitions. We sell to businesses of all sizes and in almost every industry worldwide on a subscription basis.
Our mission is to help our customers transform themselves into “customer companies” by empowering them to connect with their customers in entirely new ways. With our six core cloud service offerings—Sales Cloud, Service Cloud, Marketing Cloud, Communities Cloud, Analytics Cloud and the Salesforce1 Platform—customers have the tools they need to build a next generation customer success platform. Key elements of our strategy include:
•
strengthening our market-leading solutions;
•
extending distribution into new and high-growth categories;
•
expanding strategic relationships with our existing customers;
•
pursuing new customers;
•
reducing customer attrition;
•
building our business in top software markets globally, which includes building partnerships that help add customers; and
•
encouraging the development of third-party applications on our cloud computing platforms.

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We believe the factors that will influence our ability to achieve our objectives include: our prospective customers’ willingness to migrate to enterprise cloud computing services; the availability, performance and security of our service; our ability to continue to release, and gain customer acceptance of, new and improved features; our ability to successfully integrate acquired businesses and technologies; successful customer adoption and utilization of our service; acceptance of our service in markets where we have few customers; the emergence of additional competitors in our market and improved product offerings by existing and new competitors; the location of new data centers; third-party developers’ willingness to develop applications on our platforms; our ability to attract new personnel and retain and motivate current personnel; and general economic conditions which could affect our customers’ ability and willingness to purchase our services, delay the customers’ purchasing decision or affect attrition rates.
To address these factors, we will need to, among other things, continue to add substantial numbers of paying subscriptions, upgrade our customers to fully featured versions or arrangements such as an Enterprise License Agreement, provide high quality technical support to our customers, encourage the development of third-party applications on our platforms and continue to focus on retaining customers at the time of renewal. Our plans to invest for future growth include the continuation of the expansion of our data center capacity, the hiring of additional personnel, particularly in direct sales, other customer-related areas and research and development, the expansion of domestic and international selling and marketing activities, specifically in our top markets, continuing to develop our brands, the addition of distribution channels, the upgrade of our service offerings, the development of new services such as the Analytics Cloud and Communities Cloud, the integration of acquired technologies, the expansion of our Marketing Cloud and Salesforce1 Platform core service offerings, and the additions to our global infrastructure to support our growth.
We also regularly evaluate acquisitions or investment opportunities in complementary businesses, joint ventures, services and technologies and intellectual property rights in an effort to expand our service offerings. We expect to continue to make such investments and acquisitions in the future and we plan to reinvest a significant portion of our incremental revenue in future periods to grow our business and continue our leadership role in the cloud computing industry. As a result of our aggressive growth plans, specifically our hiring plan and acquisition activities, we have incurred significant expenses from equity awards and amortization of purchased intangibles which have resulted in net losses on a U.S. generally accepted accounting principles ("GAAP") basis. As we continue with our growth plan and absent any one-time gains, we may continue to have net losses on a GAAP basis.
Our typical subscription contract term is 12 to 36 months, although terms range from one to 60 months, so during any fiscal reporting period only a subset of active subscription contracts is eligible for renewal. We calculate our attrition rate as of the end of each month. Our current attrition rate calculation does not include the Marketing Cloud service offerings. Our attrition rate was approximately nine percent as of April 30, 2015. We expect our attrition rate to remain consistent as we continue to expand our enterprise business and invest in customer success and related programs.
We expect marketing and sales costs, which were 49 percent of our total revenues for the three months ended April 30, 2015 and 52 percent for the same period a year ago, to continue to represent a substantial portion of total revenues in the future as we seek to grow our customer base, sell more products to existing customers, and build greater brand awareness.
In February 2015, we purchased a 41-story office building in San Francisco, California which we refer to as 50 Fremont. We currently occupy approximately 515,000 square feet of the 817,000 total rental square feet in the building. As part of the business combination accounting for the purchase, we recognized a one-time non-cash net gain of $36.6 million for the termination of the operating leases that existed prior to the purchase.
During the three months ended April 30, 2015, we also made several large strategic investments totaling approximately $145 million in privately-held companies, some of which are in the development stage. We plan to continue to make similar investments throughout the remainder of fiscal 2016.
Fiscal Year
Our fiscal year ends on January 31. References to fiscal 2016, for example, refer to the fiscal year ending January 31, 2016.

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Operating Segments
We operate as one operating segment. Operating segments are defined as components of an enterprise for which separate financial information is evaluated regularly by the chief operating decision maker, who in our case is the chief executive officer, in deciding how to allocate resources and assess performance. Over the past few years, we have completed several acquisitions. These acquisitions have allowed us to expand our offerings, presence and reach in various market segments of the enterprise cloud computing market. While we have offerings in multiple enterprise cloud computing market segments, our business operates in one operating segment because all of our offerings operate on a single platform and are deployed in an identical way, and our chief operating decision maker evaluates our financial information and resources and assesses the performance of these resources on a consolidated basis. Since we operate as one operating segment, all required financial segment information can be found in the condensed consolidated financial statements.
Sources of Revenues
We derive our revenues from two sources: (1) subscription revenues, which are comprised of subscription fees from customers accessing our enterprise cloud computing services and from customers paying for additional support beyond the standard support that is included in the basic subscription fees; and (2) related professional services such as process mapping, project management, implementation services and other revenue. “Other revenue” consists primarily of training fees. Subscription and support revenues accounted for approximately 93 percent of our total revenues for the three months ended April 30, 2015. Subscription revenues are driven primarily by the number of paying subscribers, varying service types, the price of our service and renewals. We define a “customer” as a separate and distinct buying entity (e.g., a company, a distinct business unit of a large corporation, a partnership, etc.) that has entered into a contract to access our enterprise cloud computing services. We define a “subscription” as a unique user account purchased by a customer for use by its employees or other customer-authorized users, and we refer to each such user as a “subscriber.” The number of paying subscriptions at each of our customers ranges from one to hundreds of thousands. None of our customers accounted for more than five percent of our revenues during the three months ended April 30, 2015 and 2014 .
Subscription and support revenues are recognized ratably over the contract terms beginning on the commencement dates of each contract. The typical subscription and support term is 12 to 36 months, although terms range from one to 60 months. Our subscription and support contracts are non-cancelable, though customers typically have the right to terminate their contracts for cause if we materially fail to perform. We generally invoice our customers in advance, in annual installments, and typical payment terms provide that our customers pay us within 30 days of invoice. Amounts that have been invoiced are recorded in accounts receivable and in deferred revenue, or in revenue depending on whether the revenue recognition criteria have been met. In general, we collect our billings in advance of the subscription service period.
Professional services and other revenues consist of fees associated with consulting and implementation services and training. Our consulting and implementation engagements are typically billed on a time and materials basis. We also offer a number of training classes on implementing, using and administering our service that are billed on a per person, per class basis. Our typical professional services payment terms provide that our customers pay us within 30 days of invoice.
In determining whether professional services can be accounted for separately from subscription and support revenues, we consider a number of factors, which are described in “Critical Accounting Estimates—Revenue Recognition” below.
Revenue by Cloud Service Offering
We are providing the information below on a supplemental basis to give additional insight into the revenue performance of our individual core service offerings.
Subscription and support revenues during the three months ended April 30, 2015 and 2014 consisted of the following by core service offering (in millions):
 
 
Three Months Ended 
 April 30, 2015
 
Three Months Ended 
 April 30, 2014
Sales Cloud
 
$
630.4

 
$
576.6

Service Cloud
 
407.7

 
294.8

Salesforce1 Platform and Other
 
224.0

 
164.9

Marketing Cloud
 
143.2

 
111.0

Total
 
$
1,405.3

 
$
1,147.3


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Subscription and support revenues from Analytics Cloud and Communities Cloud, which were introduced in October 2014, were not significant for the three months ended April 30, 2015. The Analytics Cloud revenue is included with Salesforce1 Platform and Other in the table above. Communities Cloud revenue is included in either Sales Cloud, Service Cloud or Salesforce1 Platform and Other revenue depending on the primary service offering purchased.
In situations where a customer purchases multiple cloud offerings, such as through an Enterprise License Agreement, we allocate the contract value to each core service offering based on the customer’s estimated product demand plan and the service that was provided at the inception of the contract. We do not update these allocations based on actual product usage during the term of the contract. We have allocated approximately 10 percent of our total subscription and support revenues for the three months ended April 30, 2015 and 2014, based on customers’ estimated product demand plans and these allocated amounts are included in the table above.
Additionally, some of our core service offerings have similar features and functions. For example, customers may use the Sales Cloud, the Service Cloud or our Salesforce1 Platform to record account and contact information, which are similar features across these core service offerings. Depending on a customer’s actual and projected business requirements, more than one core service offering may satisfy the customer’s current and future needs. We record revenue based on the individual products ordered by a customer, and not according to the customer’s business requirements and usage. In addition, as we introduce new features and functions within each offering, and refine our allocation methodology for changes in our business, we do not expect it to be practical to adjust historical revenue results by core service offering for comparability. Accordingly, comparisons of revenue performance by core service offering over time may not be meaningful.
Our Sales Cloud service offering is our most widely distributed service offering and has historically been the largest contributor of subscription and support revenues. As a result, Sales Cloud has the most international exposure and foreign exchange rate exposure relative to the other cloud service offerings. Conversely, revenue for Marketing Cloud is primarily derived from the Americas, with little impact from foreign exchange rate movement. We estimate that for the remainder of fiscal 2016, subscription and support revenues from the Sales Cloud service offering will continue to be the largest contributor of subscription and support revenue, and foreign currency will continue to have a more pronounced impact on Sales Cloud subscription and support revenues than revenues from our other cloud service offerings.
Seasonal Nature of Deferred Revenue, Accounts Receivable and Operating Cash Flow
Deferred revenue primarily consists of billings to customers for our subscription service. Over 90 percent of the value of our billings to customers is for our subscription and support service. We generally invoice our customers in annual cycles. Approximately 75 percent of all subscription and support invoices were issued with annual terms during the three months ended April 30, 2015 in comparison to nearly 68 percent during the same period a year ago. Occasionally, we bill customers for their multi-year contract on a single invoice which results in an increase in noncurrent deferred revenue. We typically issue renewal invoices in advance of the renewal service period, and depending on timing, the initial invoice for the subscription and services contract and the subsequent renewal invoice may occur in different quarters. This may result in an increase in deferred revenue and accounts receivable. There is a disproportionate weighting towards annual billings in the fourth quarter, primarily as a result of large enterprise account buying patterns. Our fourth quarter has historically been our strongest quarter for new business and renewals. The year on year compounding effect of this seasonality in both billing patterns and overall new and renewal business causes the value of invoices that we generate in the fourth quarter for both new business and renewals to increase as a proportion of our total annual billings. Accordingly, because of this billing activity, our first quarter is historically our largest collections and operating cash flow quarter.
The sequential quarterly changes in accounts receivable and the related deferred revenue and operating cash flow during the first quarter of our fiscal year are not necessarily indicative of the billing activity that occurs for the following quarters as displayed below (in thousands, except unbilled deferred revenue):
 
April 30,
2015
Fiscal 2016
 
Accounts receivable, net
$
926,381

Deferred revenue, current and noncurrent
3,056,820

Operating cash flow (1)
730,857

Unbilled deferred revenue, a non-GAAP measure
6.0 bn



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April 30,
2014
 
July 31,
2014
 
October 31,
2014
 
January 31,
2015
Fiscal 2015
 
 
 
 
 
 
 
Accounts receivable, net
$
684,155

 
$
834,323

 
$
794,590

 
$
1,905,506

Deferred revenue, current and noncurrent
2,324,615

 
2,352,904

 
2,223,977

 
3,321,449

Operating cash flow (1)
473,087

 
245,893

 
122,511

 
332,223

Unbilled deferred revenue, a non-GAAP measure
4.8 bn

 
5.0 bn

 
5.4 bn

 
5.7 bn


 
April 30,
2013
 
July 31,
2013
 
October 31,
2013
 
January 31,
2014
Fiscal 2014
 
 
 
 
 
 
 
Accounts receivable, net
$
502,609

 
$
599,543

 
$
604,045

 
$
1,360,837

Deferred revenue, current and noncurrent
1,733,160

 
1,789,648

 
1,734,619

 
2,522,115

Operating cash flow (1)
283,189

 
183,183

 
137,859

 
271,238

Unbilled deferred revenue, a non-GAAP measure
3.6 bn

 
3.8 bn

 
4.2 bn

 
4.5 bn

 
(1) Operating cash flow represents net cash provided by operating activities for the three months ended in the periods stated above.
 
Unbilled Deferred Revenue, a Non-GAAP Measure
The deferred revenue balance on our condensed consolidated balance sheets does not represent the total contract value of annual or multi-year, non-cancelable subscription agreements. Unbilled deferred revenue represents future billings under our subscription agreements that have not been invoiced and, accordingly, are not recorded in deferred revenue. Unbilled deferred revenue was approximately $6.0 billion as of April 30, 2015 and approximately $5.7 billion as of January 31, 2015. Our typical contract length is between 12 and 36 months. We expect that the amount of unbilled deferred revenue will change from quarter to quarter for several reasons, including the specific timing, duration and size of large customer subscription agreements, varying billing cycles of subscription agreements, the specific timing of customer renewals, foreign currency fluctuations, the timing of when unbilled deferred revenue is to be recognized as revenue, and changes in customer financial circumstances. For multi-year subscription agreements billed annually, the associated unbilled deferred revenue is typically high at the beginning of the contract period, zero just prior to renewal, and increases if the agreement is renewed. Low unbilled deferred revenue attributable to a particular subscription agreement is often associated with an impending renewal and may not be an indicator of the likelihood of renewal or future revenue from such customer. Accordingly, we expect that the amount of aggregate unbilled deferred revenue will change from year-to-year depending in part upon the number and dollar amount of subscription agreements at particular stages in their renewal cycle. Such fluctuations are not a reliable indicator of future revenues. Unbilled deferred revenue does not include minimum revenue commitments from indirect sales channels, as we recognize revenue, deferred revenue, and any unbilled deferred revenue upon sell-through to an end user customer.

Cost of Revenues and Operating Expenses
Cost of Revenues. Cost of subscription and support revenues primarily consists of expenses related to hosting our service and providing support, the costs of data center capacity, depreciation or operating lease expense associated with computer equipment and software, allocated overhead, amortization expense associated with capitalized software related to our services and acquired developed technologies and certain fees paid to various third parties for the use of their technology, services and data. We allocate overhead such as information technology infrastructure, rent and occupancy charges based on headcount. Employee benefit costs and taxes are allocated based upon a percentage of total compensation expense. As such, general overhead expenses are reflected in each cost of revenue and operating expense category. Cost of professional services and other revenues consists primarily of employee-related costs associated with these services, including stock-based expenses, the cost of subcontractors and allocated overhead. The cost of providing professional services is significantly higher as a percentage of the related revenue than for our enterprise cloud computing subscription service due to the direct labor costs and costs of subcontractors.
We intend to continue to invest additional resources in our enterprise cloud computing services. For example, we have invested in additional database software and we plan to open additional data centers and expand our current data center capacity in the future. As we acquire new businesses and technologies, the amortization expense associated with this activity will be included in cost of revenues. Additionally, as we enter into new contracts with third parties for the use of their technology, services or data, or as our sales volume grows, the fees paid to use such technology or services may increase. The

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timing of these additional expenses will affect our cost of revenues, both in terms of absolute dollars and as a percentage of revenues, in the affected periods.
Research and Development. Research and development expenses consist primarily of salaries and related expenses, including stock-based expenses, the costs of our development and test data center and allocated overhead. We continue to focus our research and development efforts on adding new features and services, integrating acquired technologies, increasing the functionality and security and enhancing the ease of use of our enterprise cloud computing services. Our proprietary, scalable and secure multi-tenant architecture enables us to provide all of our customers with a service based on a single version of our application. As a result, we do not have to maintain multiple versions, which enables us to have relatively lower research and development expenses as compared to traditional enterprise software companies.
We expect that in the future, research and development expenses will increase in absolute dollars and may increase as a percentage of total revenues as we invest in building the necessary employee and system infrastructure required to support the development of new, and improve existing, technologies and the integration of acquired businesses and technologies.
Marketing and Sales. Marketing and sales expenses are our largest cost and consist primarily of salaries and related expenses, including stock-based expenses, for our sales and marketing staff, including commissions, payments to partners, marketing programs and allocated overhead. Marketing programs consist of advertising, events, corporate communications, brand building and product marketing activities.
We plan to continue to invest in marketing and sales by expanding our domestic and international selling and marketing activities, building brand awareness, attracting new customers and sponsoring additional marketing events. The timing of these marketing events, such as our annual and largest event, Dreamforce, will affect our marketing costs in a particular quarter. We expect that in the future, marketing and sales expenses will increase in absolute dollars and continue to be our largest cost.
General and Administrative. General and administrative expenses consist of salaries and related expenses, including stock-based expenses, for finance and accounting, legal, internal audit, human resources and management information systems personnel, legal costs, professional fees, other corporate expenses and allocated overhead. We expect that in the future, general and administrative expenses will increase in absolute dollars as we invest in our infrastructure and we incur additional employee related costs, professional fees and insurance costs related to the growth of our business and international expansion. We expect general and administrative costs as a percentage of total revenues to either remain flat or decrease for the next several quarters.
Stock-Based Expenses. Our cost of revenues and operating expenses include stock-based expenses related to equity plans for employees and non-employee directors. We recognize our stock-based compensation as an expense in the statement of operations based on their fair values and vesting periods. These charges have been significant in the past and we expect that they will increase as our stock price increases, as we acquire more companies, as we hire more employees and seek to retain existing employees.
During the three months ended April 30, 2015