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EX-32.1 - EXHIBIT 32.1 - LIFELOCK, INC.lock-ex321x20160930x10q.htm
EX-31.2 - EXHIBIT 31.2 - LIFELOCK, INC.lock-ex312x20160930x10q.htm
EX-31.1 - EXHIBIT 31.1 - LIFELOCK, INC.lock-ex311x20160930x10q.htm
EX-10.7 - EXHIBIT 10.7 - LIFELOCK, INC.lock-ex107x20160930x10q.htm
EX-10.6 - EXHIBIT 10.6 - LIFELOCK, INC.lock-ex106x20160930x10q.htm
EX-10.5 - EXHIBIT 10.5 - LIFELOCK, INC.lock-ex105x20160930x10q.htm
EX-10.4 - EXHIBIT 10.4 - LIFELOCK, INC.lock-ex104x20160930x10q.htm
EX-10.3 - EXHIBIT 10.3 - LIFELOCK, INC.lock-ex103x20160930x10q.htm
EX-10.2 - EXHIBIT 10.2 - LIFELOCK, INC.lock-ex102x20160930x10q.htm
EX-10.1 - EXHIBIT 10.1 - LIFELOCK, INC.lock-ex101x20160930x10q.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2016     
or   
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission file number: 001-35671 
LifeLock, Inc.
(Exact name of registrant as specified in its charter)
Delaware
 
56-2508977
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
60 East Rio Salado Parkway, Suite 400
Tempe, Arizona 85281
(Address of principal executive offices and zip code)
(480) 682-5100
(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 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 ý    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 ý    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. (Check one):
Large accelerated filer
ý
  
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 ý
As of October 28, 2016, there were outstanding 94,146,117 shares of the registrant’s common stock, $0.001 par value.





LIFELOCK, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2016
TABLE OF CONTENTS
 
LifeLock, LifeLock Standard, LifeLock Advantage, LifeLock Ultimate, LifeLock Ultimate Plus, LifeLock Junior, Id Analytics and the LockMan logo are registered trademarks of LifeLock, Inc. or its subsidiaries. All other trademarks are the property of their respective owners.


i



PART I - FINANCIAL INFORMATION
Item 1.
Financial Statements (Unaudited)
LIFELOCK, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
(unaudited)
 
 
 
 
September 30, 2016
 
December 31, 2015
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
34,806

 
$
50,239

Marketable securities
131,298

 
196,474

Trade and other receivables, net
17,080

 
13,974

Prepaid expenses and other current assets
9,168

 
12,303

Total current assets
192,352

 
272,990

Property and equipment, net
44,665

 
30,485

Goodwill
172,087

 
172,087

Intangible assets, net
21,830

 
30,174

Deferred tax assets, net
81,164

 
77,363

Other non-current assets
13,627

 
9,710

Total assets
$
525,725

 
$
592,809

Liabilities and stockholders’ equity
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
8,645

 
$
24,747

Accrued expenses and other liabilities
57,362

 
76,226

Deferred revenue
189,034

 
166,403

Total current liabilities
255,041

 
267,376

Other non-current liabilities
20,113

 
7,367

Total liabilities
275,154

 
274,743

Commitments and contingencies

 

Stockholders’ equity:
 
 
 
Common stock, $0.001 par value, 300,000,000 authorized at September 30, 2016 and December 31, 2015; 100,850,257 and 95,877,947 shares issued and 93,647,679 and 95,832,238 outstanding at September 30, 2016 and December 31, 2015, respectively
101

 
96

Preferred stock, $0.001 par value, 10,000,000 shares authorized and no shares issued and outstanding at September 30, 2016 and December 31, 2015

 

Treasury stock, at cost; 7,202,578 shares and no shares held at September 30, 2016 and December 31, 2015, respectively
(74,974
)
 

Additional paid-in capital
544,009

 
532,388

Accumulated other comprehensive loss
(118
)
 
(361
)
Accumulated deficit
(218,447
)
 
(214,057
)
Total stockholders’ equity
250,571

 
318,066

Total liabilities and stockholders’ equity
$
525,725

 
$
592,809

  
 
See accompanying notes to condensed consolidated financial statements.


1



LIFELOCK, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)
 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Revenue:
 
 
 
 
 
 
 
Consumer revenue
$
161,671

 
$
144,648

 
$
470,260

 
$
411,178

Enterprise revenue
8,623

 
7,304

 
23,746

 
20,139

Total revenue
170,294

 
151,952

 
494,006

 
431,317

Cost of services
34,782

 
33,988

 
118,410

 
103,470

Gross profit
135,512

 
117,964

 
375,596

 
327,847

Costs and expenses:
 
 
 
 
 
 
 
Sales and marketing
68,416

 
62,850

 
240,492

 
209,470

Technology and development
20,379

 
19,396

 
61,509

 
52,928

General and administrative
21,882

 
120,984

 
73,700

 
160,815

Amortization of acquired intangible assets
1,982

 
2,084

 
8,344

 
6,251

Total costs and expenses
112,659

 
205,314

 
384,045

 
429,464

Income (loss) from operations
22,853

 
(87,350
)
 
(8,449
)
 
(101,617
)
Other income (expense):
 
 
 
 
 
 
 
Interest expense
(111
)
 
(89
)
 
(403
)
 
(265
)
Interest income
272

 
219

 
875

 
498

Other, net
(85
)
 

 
(214
)
 
(183
)
Total other income
76

 
130

 
258

 
50

Income (loss) before income taxes
22,929

 
(87,220
)
 
(8,191
)
 
(101,567
)
Income tax expense (benefit)
8,527

 
(22,075
)
 
(3,801
)
 
(27,784
)
Net income (loss)
$
14,402

 
$
(65,145
)
 
$
(4,390
)
 
$
(73,783
)
Net income (loss) per share attributable to common stockholders:
 
 
 
 
 
 
 
Basic
$
0.16

 
$
(0.68
)
 
$
(0.05
)
 
$
(0.78
)
Diluted
$
0.15

 
$
(0.68
)
 
$
(0.05
)
 
$
(0.78
)
Weighted-average common shares outstanding used in computing net income (loss) per share attributable to common stockholders:
 
 
 
 
 
 
 
Basic
92,034

 
95,340

 
93,052

 
94,660

Diluted
97,321

 
95,340

 
93,052

 
94,660

 
See accompanying notes to condensed consolidated financial statements.

2



LIFELOCK, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in thousands)
(unaudited)
 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Net income (loss)
$
14,402

 
$
(65,145
)
 
$
(4,390
)
 
$
(73,783
)
Other comprehensive gain (loss), net of tax
 
 
 
 
 
 
 
Unrealized gain (loss) on marketable securities
(89
)
 
117

 
243

 
39

Comprehensive income (loss)
$
14,313

 
$
(65,028
)
 
$
(4,147
)
 
$
(73,744
)
 
 
 
 
See accompanying notes to condensed consolidated financial statements.

3



LIFELOCK, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 
For the Nine Months Ended September 30,
 
2016
 
2015
Operating activities
 
 
 
Net loss
$
(4,390
)
 
$
(73,783
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
Depreciation and amortization
17,082

 
13,292

Stock-based compensation
25,509

 
20,287

Provision for doubtful accounts
352

 
150

Amortization of premiums on marketable securities
1,521

 
2,310

Deferred income tax benefit
(3,801
)
 
(27,784
)
Other
343

 
250

Change in operating assets and liabilities:
 
 
 
Trade and other receivables
(3,956
)
 
(3,469
)
Prepaid expenses and other current assets
3,136

 
(1,022
)
Other non-current assets
167

 
357

Accounts payable
(14,622
)
 
1,548

Accrued expenses and other liabilities
(18,120
)
 
117,693

Deferred revenue
22,631

 
25,629

Other non-current liabilities
408

 
265

Net cash provided by operating activities
26,260

 
75,723

Investing activities
 
 
 
Acquisition of business, net of cash acquired

 
(12,797
)
Acquisition of property and equipment, including capitalization of internal use software
(11,299
)
 
(9,057
)
Purchases of marketable securities
(83,896
)
 
(191,846
)
Sales and maturities of marketable securities
148,298

 
122,936

Premiums paid for company-owned life insurance policies
(4,337
)
 
(4,337
)
Net cash provided by (used in) investing activities
48,766

 
(95,101
)
Financing activities
 
 
 
Proceeds from stock-based compensation plans
15,780

 
10,144

Payments related to the repurchases of common stock
(100,000
)
 

Payments for employee tax withholdings related to restricted stock units and awards
(6,239
)
 
(1,793
)
Net cash provided by (used in) financing activities
(90,459
)
 
8,351

Net decrease in cash and cash equivalents
(15,433
)
 
(11,027
)
Cash and cash equivalents at beginning of period
50,239

 
146,569

Cash and cash equivalents at end of period
$
34,806

 
$
135,542

Supplemental cash flow information:
 
 
 
Non-cash financing and investing activities:
 
 
 
Building in progress - leased facility acquired under financing obligation
$
12,338

 
$

 
 
See accompanying notes to condensed consolidated financial statements.


4



LIFELOCK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (unaudited)
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (U.S. GAAP), and applicable Securities and Exchange Commission (SEC), rules and regulations regarding interim financial reporting. Certain information and note disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations. Therefore, these condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2015, or fiscal 2015 Form 10-K.
The condensed consolidated balance sheet as of December 31, 2015 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including notes required by U.S. GAAP.
The accompanying unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the financial position, results of operations, and cash flows for the interim periods, but are not necessarily indicative of the anticipated results of operations for the entire year ending December 31, 2016 or any future period.
Basis of Consolidation
The condensed consolidated financial statements include our accounts and those of our wholly and indirectly owned subsidiaries. We eliminate all intercompany balances and transactions, including intercompany profits, in consolidation.
Use of Estimates
The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires us to make certain estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. We continually evaluate our estimates, including those related to the allocation of the purchase price associated with acquisitions; the carrying value of long-lived assets; the amortization period of long-lived assets; the carrying value, capitalization, and amortization of software and website development costs; the carrying value of goodwill and other intangible assets; the amortization period of intangible assets; the provision for income taxes and related deferred tax accounts, and realizability of deferred tax assets; certain accrued expenses; contingencies, litigation, and related legal accruals; and the value attributed to employee stock options and other stock-based awards. We base our estimates on historical experience, current business factors, and various other assumptions that we believe are necessary to consider to form a basis for making judgments. Actual results could be materially different from these estimates.
2. Summary of Significant Accounting Policies
Leases
We lease office space and data centers in various locations under operating leases with original lease periods up to 11 years. Rent expense is recognized on a straight-line basis from the day we take possession of the premises through the end of the lease term. Rent abatements and rent escalation provisions are considered in determining the straight-line rent expense with any difference between rent expense and rent payable recorded as an increase or decrease in deferred rent. Tenant improvement allowances are recorded as leasehold improvements within property and equipment and within deferred rent.
We record assets and liabilities for the present value of estimated construction costs incurred under build-to-suit lease arrangements to the extent we are involved in the construction of structural improvements or take substantially all of the construction period risk prior to commencement of a lease. Ground rents are imputed and accrued for during the construction period, and are recorded in rent expense. At completion of a construction project, we perform an analysis to determine if the transfer to the owner/lessor meets the requirements for sale-leaseback treatment. If we maintain significant continuing involvement, we will continue to carry the construction costs and corresponding financing obligation on our balance sheet until the involvement or the term of the lease ends. If it is determined that we will not maintain significant continuing involvement, we record a sale of the premises back to the owner/lessor, and remove the construction costs and financing obligation from our consolidated balance sheet.
There have been no other material changes to our significant accounting policies from those disclosed in our fiscal 2015 Form 10-K.

5



Recently Issued Accounting Standards
In May 2014, the FASB, issued ASU 2014-09, Revenue from Contracts with Customers, which provides guidance for revenue recognition. The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under today’s guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price, and allocating the transaction price to each separate performance obligation. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers: Deferral of the Effective Date, which defers the effective date of ASU 2014-09 for all entities for one year. Consequently, the guidance provided in ASU 2014-09 will be effective for us in the first quarter of our fiscal year ending December 31, 2018. Early adoption is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The guidance permits the use of either the retrospective or cumulative effect transition method. In March 2016, the FASB issued ASU 2016-08, Revenue from Contracts with Customers: Principal versus Agent Considerations, which clarifies the implementation guidance on principal versus agent considerations. ASU 2016-08 is effective the same date as ASU 2014-09, Revenue from Contracts with Customers. In April 2016, the FASB issued ASU 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing, which clarifies the guidance related to identifying performance obligations and licensing implementation guidance. ASU 2016-10 reduces the cost and complexity of applying certain aspects of the guidance both at implementation and on an ongoing basis. The effective date for ASU 2016-10 is the same as ASU 2014-09. We are currently in the process of evaluating the impact of the adoption of this guidance on our consolidated financial statements and have not yet selected a transition method.
In February 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update (ASU) 2016-02, Leases, which requires lessees to recognize the assets and liabilities on their balance sheet for the rights and obligations created by operating leases and will also require disclosures designed to give users of financial statements information on the amount, timing, and uncertainty of cash flows arising from leases. The guidance provided by ASU 2016-02 is effective for annual periods beginning after December 15, 2018 and interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the effect of ASU 2016-06 on our consolidated financial statements and do not plan to early adopt this guidance.
In March 2016, the FASB issued ASU 2016-09, Compensation - Stock Compensation (Topic 718) Improvements to Employee Share-Based Payment Accounting, which require all income tax effects of awards to be recognized in the income statement when the awards vest or are settled, as well as revising guidance around classification of awards as either equity or liabilities, forfeitures and classification on the statement of cash flows. ASU 2016-09 is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the effect of ASU 2016-09 on our consolidated financial statements and do not plan to early adopt this guidance.
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which makes changes to how certain cash receipt and cash payments are presented and classified in the cash flow statement. ASU 2016-15 is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The amendments in ASU 2016-15 will be applied using a retrospective transition method for each period presented unless it is impracticable to apply the amendments retrospectively, in which case prospective application would be applied as of the earliest date practicable. Early adoption is permitted. We are currently evaluating the effect of ASU 2016-15 on our consolidated financial statements and do not plan to early adopt this guidance.
3. Marketable Securities
We classify all marketable securities as current regardless of contractual maturity dates because we consider such investments to represent cash available for current operations.
As of September 30, 2016 and December 31, 2015, we did not consider any of our marketable securities to be other-than-temporarily impaired.  When evaluating our investments for other-than-temporary impairment, we review factors such as the length of time and extent to which fair value has been below its cost basis, the financial condition of the issuer, our ability and intent to hold the security, and whether it is more likely than not that we will be required to sell the investment before recovery of its cost basis.

6



The following is a summary of marketable securities designated as available-for-sale as of September 30, 2016:
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
(in thousands)
Corporate bonds
$
100,964

 
$
14

 
$
(126
)
 
$
100,852

Government securities
9,695

 
10

 

 
9,705

Commercial paper
8,187

 

 

 
8,187

Agency securities
7,255

 
3

 

 
7,258

Municipal bonds
4,050

 

 
(2
)
 
4,048

Certificates of deposit
1,248

 

 

 
1,248

Total marketable securities
$
131,399

 
$
27

 
$
(128
)
 
$
131,298

The following is a summary of amortized cost and estimated fair value of marketable securities as of September 30, 2016 by maturity:
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
(in thousands)
Due in one year or less
$
121,461

 
$
27

 
$
(94
)
 
$
121,394

Due after one year
9,938

 

 
(34
)
 
$
9,904

Total marketable securities
$
131,399

 
$
27

 
$
(128
)
 
$
131,298

The following is a summary of marketable securities designated as available-for-sale as of December 31, 2015:
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
(in thousands)
Corporate bonds
$
125,132

 
$
1

 
$
(304
)
 
$
124,829

Commercial paper
37,236

 

 

 
37,236

Municipal bonds
16,228

 
2

 
(6
)
 
16,224

Government securities
8,704

 
1

 
(17
)
 
8,688

Agency securities
7,273

 

 
(20
)
 
7,253

Certificates of deposit
2,244

 

 

 
2,244

Total marketable securities
$
196,817

 
$
4

 
$
(347
)
 
$
196,474

The following is a summary of amortized cost and estimated fair value of marketable securities as of December 31, 2015 by maturity:
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
(in thousands)
Due in one year or less
$
164,147

 
$
2

 
$
(221
)
 
$
163,928

Due after one year
32,670

 
2

 
(126
)
 
32,546

Total marketable securities
$
196,817

 
$
4

 
$
(347
)
 
$
196,474


7



4. Fair Value Measurements
As of September 30, 2016 and December 31, 2015, the fair value of our financial assets was as follows:
 
Level 1
 
Level 2
 
Level 3
 
Total
 
(in thousands)
September 30, 2016
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Money market funds (1)
$
14,733

 
$

 
$

 
$
14,733

Corporate bonds (2)

 
100,852

 

 
100,852

Government securities (2)

 
9,705

 

 
9,705

Commercial paper (2)

 
8,187

 

 
8,187

Agency securities (2)

 
7,258

 

 
7,258

Municipal bonds (2)

 
4,048

 

 
4,048

Certificates of deposit (2)

 
1,248

 

 
1,248

Total assets measured at fair value
$
14,733

 
$
131,298

 
$

 
$
146,031

December 31, 2015
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Money market funds (1)
$
18,114

 
$

 
$

 
$
18,114

Corporate bonds (2)

 
124,829

 

 
124,829

Commercial paper (3)

 
47,294

 

 
47,294

Municipal bonds (2)

 
16,223

 

 
16,223

Government securities (2)

 
8,688

 

 
8,688

Agency securities (2)

 
7,253

 

 
7,253

Certificates of deposit (2)

 
2,244

 

 
2,244

Total assets measured at fair value
$
18,114

 
$
206,531

 
$

 
$
224,645

(1) 
Classified in cash and cash equivalents
(2) 
Classified in marketable securities.
(3) 
Includes commercial paper with maturities of three months or less at time of purchase of $10.1 million classified in cash and cash equivalents and commercial paper with maturities of greater than three months of $37.2 million classified in marketable securities. 
5. Financing Arrangements
There have been no changes in our Credit Agreement and related documents with Bank of America, which we refer to as our Senior Credit Facility, from the disclosure in our fiscal 2015 Form 10-K. At September 30, 2016 and December 31, 2015 we were in compliance with all the covenants of the Senior Credit Facility.
As of September 30, 2016, we had outstanding letters of credit in the amount of $1.3 million.
6. Leases
In April 2016, we entered into a lease agreement for approximately 60,000 rentable square feet of office space located in Mountain View, CA. We rented the total office space available in the building, which is currently under construction. As a result of our involvement during the construction period, we are deemed to be the owner of the construction project for accounting purposes. Accordingly, we recorded a $12.3 million construction in process asset in property and equipment, net, representing the total fair value of the building paid by the lessor including estimated construction period costs to date and a corresponding noncurrent financing obligation liability in our September 30, 2016 condensed consolidated balance sheet. We have also recorded imputed ground rent expense of $0.6 million for the three- and nine-months ended September 30, 2016. Construction is expected to be completed in the first quarter of 2017 at which point we will evaluate whether or not we meet the requirements for sale-leaseback treatment. If we do meet the requirements for sale-leaseback treatment upon completion of construction, we will record the sale of the premises back to the owner/lessor and remove the construction in process asset and corresponding noncurrent financing obligation liability from our consolidated balance sheet and the lease will be accounted for as an operating lease under which we expect to recognize rent expense of approximately $4.0 million per year during the term of the lease. If we are unable to meet the requirements for sale-leaseback treatment, the lease will be treated as a financing obligation and we will continue to carry the value of the building and construction costs on our balance sheet. Rent payments

8



will be treated as principal and interest payments on the financing obligation, with an amount recorded as estimated ground lease expense each period. The capitalized costs of the building will be depreciated over an estimated useful life of 30 years.
The following summarizes the future minimum lease payments for all outstanding lease agreements as of September 30, 2016:
 
 
 
Financing
 
 
 
Obligation,
 
 
 
Building in
 
Operating
 
Progress -
 
Leases
 
Leased Facility
Remaining 2016
$
1,959

 
$

2017
7,429

 
1,717

2018
6,751

 
4,222

2019
6,355

 
4,349

2020
4,773

 
4,480

Thereafter
14,151

 
27,605

Gross future minimum lease payments
41,418

 
42,373

Less: expected proceeds from sublease rentals
(776
)
 

Net future minimum lease payments
$
40,642

 
$
42,373

Rent expense for the three- and nine-months ended September 30, 2016 was $2.4 million and $6.4 million, respectively, net of sublease income. Rent expense for the three- and nine-months ended September 30, 2015 was $1.5 million and $4.3 million, respectively.
7. Stockholders’ Equity
Stock Repurchases
In November 2015, we announced that our board of directors approved the repurchase of up to $100 million of our common stock, representing approximately 7% of our outstanding common stock. The repurchase program was completed in the second quarter of 2016, with the final settlement of shares completed in the third quarter 2016. Repurchases under the program were made through open market and privately negotiated transactions as described below.
In February 2016, we entered into an issuer forward repurchase transaction confirmation (the ASR Agreement) with Bank of America, N.A. to repurchase common stock as part of the approved $100 million share repurchase program. Under the ASR Agreement, we paid Bank of America, N.A. $50 million and received an initial delivery of 4.2 million shares of common stock. The total number of shares purchased was determined based on the volume weighted average price of our common stock during the term of the ASR Agreement. In the second quarter 2016, Bank of America, N.A. delivered approximately 76,000 shares for the final settlement of the ASR Agreement.
We accounted for the ASR Agreement as two separate transactions: (i) approximately 4.2 million shares of common stock initially delivered, which represented approximately $42.5 million, was accounted for as a treasury stock transaction and (ii) the remaining $7.5 million unsettled portion of the ASR Agreement was determined to be a forward contract indexed to our common stock. The initial repurchase of shares resulted in an immediate reduction of the outstanding shares used to calculate the weighted-average common shares outstanding for basic and diluted net income (loss) per share on the delivery date. We determined that the forward contract indexed to our common stock met all of the applicable criteria for equity classification, and therefore the contract was not accounted for as a derivative. We recorded the $7.5 million unsettled portion of the ASR Agreement, which represents the implied value of the forward contract, in additional paid-in capital on the condensed consolidated balance sheet upon execution of the ASR Agreement. Upon the final delivery of shares of the ASR Agreement, the forward contract was reclassified from additional paid-in capital to treasury stock for the value of the additional shares received, which amounted to approximately $1.0 million.

9



In May 2016, we entered into a second issuer forward repurchase transaction confirmation (the Second ASR Agreement) with Bank of America, N.A. to repurchase common stock as the final part of our approved $100 million share repurchase program. Under the Second ASR Agreement, we paid Bank of America, N.A. approximately $48.1 million and received an initial delivery of 3.5 million shares of common stock. The total number of shares purchased was determined based on the volume weighted average price of our common stock during the term of the Second ASR Agreement (the Valuation Period). In July 2016, we returned approximately 0.3 million shares to Merill Lynch, Pierce, Fenner & Smith pursuant to the Second ASR Agreement as a result of the increase in our stock price during the Valuation Period.
We accounted for the Second ASR Agreement as two separate transactions: (i) approximately 3.5 million shares of common stock initially delivered, which represented approximately $40.9 million, was accounted for as a treasury stock transaction; and (ii) the remaining $7.2 million unsettled portion of the Second ASR Agreement was determined to be a forward contract indexed to our common stock. The initial repurchase of shares resulted in an immediate reduction of the outstanding shares used to calculate the weighted-average common shares outstanding for basic and diluted net income (loss) per share on the delivery date. We determined that the forward contract indexed to our common stock met all of the applicable criteria for equity classification, and therefore the contract was not accounted for as a derivative. We recorded the $7.2 million unsettled portion of the Second ASR Agreement, which represented the implied value of the forward contract, in additional paid-in capital. Upon final settlement of the Second ASR Agreement in August 2016, the value of the shares delivered to Merill Lynch, Pierce, Fenner & Smith was reclassified to additional paid-in capital from treasury stock for approximately $4.8 million.
We were authorized by our board of directors pursuant to the $100 million share repurchase program to repurchase shares of common stock in the open market pursuant to trading plans meeting the requirements of Rule 10b5-1 under the Securities Exchange Act of 1934, (the Exchange Act). During the nine-month period ended September 30, 2016, we repurchased 0.2 million shares of common stock at an average price of $10.49 per share under such trading plans. In connection with the Second ASR Agreement, we terminated our trading plans.
Stock-Based Compensation
We issue stock-based awards to our employees in the form of stock options, restricted stock units, and restricted stock. We also have an Employee Stock Purchase Plan, or ESPP. The following table summarizes the components of stock-based compensation expense included in our condensed consolidated statements of operations:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
Cost of services
$
486

 
$
449

 
$
1,445

 
$
1,286

Sales and marketing
1,672

 
1,238

 
4,793

 
3,385

Technology and development
2,574

 
2,514

 
7,893

 
6,226

General and administrative
3,880

 
3,662

 
11,378

 
9,390

Total stock-based compensation
$
8,612

 
$
7,863

 
$
25,509

 
$
20,287

Unrecognized stock-based compensation expenses totaled $78.4 million as of September 30, 2016, which we expect to recognize over a weighted-average time period of 2.9 years.
Stock Warrants
During the nine-month period ended September 30, 2016, warrants to purchase common shares of 2,334,044 were net exercised for a total of 2,210,335 shares. There are no warrants outstanding as of September 30, 2016.
8. Net Income (Loss) Per Share
We compute basic net income (loss) per share using the two-class method required for participating securities. We consider unvested restricted stock to be participating because holders of such shares have non-forfeitable one-for-one dividend rights. The holders of unvested restricted stock do not have a contractual obligation to share in net losses. Basic net income (loss) per share attributable to common stockholders is calculated by dividing net income (loss) attributable to common stockholders by the weighted-average number of common shares outstanding for the period. We compute diluted net income (loss) per share attributable to common stockholders giving effect to all potential dilutive common stock, including awards granted under our equity compensation plans and warrants to acquire common stock.

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The following table sets forth the computation of basic and diluted net income (loss) per share attributable to common stockholders:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands, except share and per share data)
Numerator:
 
 
 
 
 
 
 
Net income (loss)
$
14,402

 
$
(65,145
)
 
$
(4,390
)
 
$
(73,783
)
Less: Net income attributable to participating securities
(109
)
 

 

 

Net income (loss) attributable to common stockholders
$
14,293

 
$
(65,145
)
 
$
(4,390
)
 
$
(73,783
)
Denominator (basic):
 
 
 
 
 
 
 
Weighted average common shares outstanding
92,034,474

 
95,340,136

 
93,052,376

 
94,659,931

Denominator (diluted):
 
 
 
 
 
 
 
Weighted average common shares outstanding
92,034,474

 
95,340,136

 
93,052,376

 
94,659,931

Dilutive stock options outstanding
3,716,283

 

 

 

Dilutive restricted stock units and awards
1,557,016

 

 

 

Dilutive shares purchased under ESPP
13,530

 

 

 

Net weighted average common shares outstanding
97,321,303

 
95,340,136

 
93,052,376

 
94,659,931

Net income (loss) per share attributable to common stockholders:
 
 
 
 
 
 
 
Basic
$
0.16

 
$
(0.68
)
 
$
(0.05
)
 
$
(0.78
)
Diluted
$
0.15

 
$
(0.68
)
 
$
(0.05
)
 
$
(0.78
)
Potentially dilutive securities, including common equivalent shares in which the exercise price together with other assumed proceeds exceed the average market price of common stock for the applicable period, were not included in the calculation of diluted net income (loss) per share attributable to common stockholders as their impact would be anti-dilutive. The following weighted-average number of outstanding employee stock options, restricted stock units and restricted stock awards, warrants to purchase common stock, and shares purchased under our ESPP were excluded from the computation of diluted net income (loss) per share attributable to common stockholders:  
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Stock options outstanding
5,006,875

 
10,328,593

 
9,268,689

 
8,876,984

Restricted stock units and restricted stock awards
210,720

 
2,574,405

 
2,469,961

 
1,888,205

Common equivalent shares from stock warrants

 
2,168,299

 
276,937

 
2,210,012

Shares purchased under ESPP

 
54,271

 

 
67,858

 
5,217,595

 
15,125,568

 
12,015,587

 
13,043,059

9. Income Taxes
Income taxes for the interim periods presented have been included in the accompanying condensed consolidated financial statements on the basis of an estimated annual effective tax rate. Based on an estimated annual effective tax rate and discrete items, the estimated income tax expense for the three-month period ended September 30, 2016 was $8.5 million and the estimated income tax benefit for the three-month period ended September 30, 2015 was $22.1 million. For the nine-month periods ended September 30, 2016 and 2015, the estimated income tax benefit was $3.8 million and $27.8 million, respectively. The determination of the interim period income tax provision utilizes the effective tax rate method, which requires us to estimate certain annualized components of the calculation of the income tax provision, including the annual effective tax rate by entity and jurisdiction. Our effective tax rate differed from the U.S. federal and state statutory rate for the three- and -month periods ended September 30, 2016 and 2015 primarily as a result of tax return to provision adjustments which resulted in an income tax benefit of $0.8 million and $0.4 million, respectively.

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We continually evaluate all positive and negative information to determine if our deferred tax assets are realizable in accordance with ASC 740-10-30, which states that "all available evidence shall be considered in determining whether a valuation allowance for deferred tax assets is needed." In December 2015, the proposed comprehensive settlement agreements resolving outstanding litigation relating to our past marketing representations and information security programs were approved by the Federal Trade Commission, (FTC), the representatives of the Ebarle class action (as described in more detail in Note 11), and were approved by the court presiding over the Ebarle lass action. As a result of the expense of $96 million and $20 million recorded in the years ended December 31, 2015 and 2014, respectively, we have three years of cumulative pretax net losses. We reviewed the cumulative settlement of $116 million and determined that it was non-recurring in nature, not indicative of future performance, and, as such, would not materially affect our ability to generate taxable income in the future. In addition to excluding the impact of the non-recurring settlement amounts, we have seen improving pre-tax book income over the past five years and we are forecasting to continue generating pre-tax book income. As a result of the consideration of the factors discussed above, we believe that it is more likely than not that we will be able to realize our net deferred tax assets not currently subject to a valuation allowance.
10. Segment Reporting
We operate our business and our Chief Operating Decision Maker, or CODM, who is our Chief Executive Officer and President, reviews and assesses our operating performance using two reportable segments: our consumer segment and our enterprise segment. In our consumer segment, we offer proactive identity theft protection services to consumers on an annual or monthly subscription basis. In our enterprise segment, we offer consumer risk management services to our enterprise customers.
Revenue and income (loss) from operations by operating segment for the three-month period ended September 30, 2016 and goodwill and total assets by operating segment as of September 30, 2016 were:  
 
Consumer
 
Enterprise
 
Eliminations
 
Total
 
(in thousands)
Revenue
 
 
 
 
 
 
 
External customers
$
161,671

 
$
8,623

 
$

 
$
170,294

Intersegment revenue

 
2,253

 
(2,253
)
 

Income (loss) from operations
26,636

 
(3,783
)
 

 
22,853

Goodwill
112,550

 
59,537

 

 
172,087

Total assets
434,517

 
91,979

 
(771
)
 
525,725

Revenue and income (loss) from operations by operating segment for the nine-month period ended September 30, 2016 was as follows:
 
Consumer
 
Enterprise
 
Eliminations
 
Total
 
(in thousands)
Revenue
 
 
 
 
 
 
 
External customers
$
470,260

 
$
23,746

 
$

 
$
494,006

Intersegment revenue

 
6,866

 
(6,866
)
 

Income (loss) from operations
4,881

 
(13,330
)
 

 
(8,449
)
Revenue and loss from operations by operating segment for the three-month period ended September 30, 2015 and goodwill and total assets by operating segment as of December 31, 2015 were:
 
Consumer
 
Enterprise
 
Eliminations
 
Total
 
(in thousands)
Revenue
 
 
 
 
 
 
 
External customers
$
144,648

 
$
7,304

 
$

 
$
151,952

Intersegment revenue

 
2,068

 
(2,068
)
 

Loss from operations
(84,249
)
 
(3,101
)
 

 
(87,350
)
Goodwill
112,550

 
59,537

 

 
172,087

Total assets
492,796

 
100,753

 
(740
)
 
592,809


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Revenue and loss from operations by operating segment for the nine-month period ended September 30, 2015 was as follows:
 
Consumer
 
Enterprise
 
Eliminations
 
Total
 
(in thousands)
Revenue
 
 
 
 
 
 
 
External customers
$
411,178

 
$
20,139

 
$

 
$
431,317

Intersegment revenue

 
6,232

 
(6,232
)
 

Loss from operations
(90,456
)
 
(11,161
)
 

 
(101,617
)
We derive all of our revenue from sales in the United States, and substantially all of our long-lived assets are located in the United States.
11. Contingencies
As part of our consumer services, we offer broad member service support. If a member’s identity has been compromised, our member service team and remediation specialists will assist the member with its resolution. This includes our $1 million service guarantee, which is backed by an identity theft insurance policy, under which we will spend up to $1 million to cover certain third-party costs and expenses incurred in connection with the remediation, such as legal and investigatory fees, subject to certain terms and conditions. This insurance also covers certain out-of-pocket expenses, such as loss of income, replacement of fraudulent withdrawals, and costs associated with child and elderly care, travel, stolen purse/wallet, and replacement of documents, subject to certain terms and conditions. While we have reimbursed members for claims under this guarantee, the amounts in aggregate for the nine-month periods ended September 30, 2016 and 2015 were not material.
On July 21, 2015 the FTC lodged, under seal, in the United States District Court for the District of Arizona, a motion seeking to hold us in contempt of the consent decree we entered into with the FTC in 2010 (the FTC Order). On December 17, 2015, we entered into a comprehensive settlement agreement with the FTC, pursuant to which we resolved all matters related to the FTC Contempt Action and provided a mechanism to fund a settlement of the Ebarle Class Action described below.
On January 19, 2015, plaintiffs Napoleon Ebarle and Jeanne Stamm filed a nationwide putative consumer class action lawsuit against us in the United States District Court for the Northern District of California. A second amended complaint was filed on November 4, 2015 on behalf of four plaintiffs who alleged that we engaged in deceptive marketing and sales practices in connection with our membership plans in violation of the Arizona Consumer Fraud Act, Breach of Contract, unjust enrichment and violation of the Federal Declaratory Judgment Act.
Under the terms of the FTC settlement, $100 million, was paid in December 2015 and was placed into the registry of the court overseeing the FTC Contempt Action, $68 million of which was authorized to be distributed to fund the consumer redress contemplated by the Ebarle Class Action settlement. Those funds have been transferred to the supervision of the court overseeing the Ebarle Class Action Settlement.
On September 20, 2016, the court overseeing the Ebarle Class Action entered judgment and an order granting plaintiffs’ motion for final approval of the parties’ proposed settlement agreement, awarding plaintiffs’ counsel $10.2 million in fees and costs and awarding each of the four plaintiffs $2,000 as a service award, these amounts were previously expensed in the third quarter of 2015. Beginning on October 11, 2016, the Court-appointed settlement administrator distributed settlement checks to settlement class members using the $68 million transferred in February 2016 to the court-appointed settlement administrator from the court’s registry in the FTC Contempt Action. The remaining $32 million of the settlement remains in the registry of the Arizona court. In addition, we have $3.0 million accrued for a potential settlement with states attorneys general for related claims.
Appeals of the final approval order and judgment were filed by six objectors prior to the filing deadline and are pending in the Ninth Circuit Court of Appeals. The appeals do not impact the timing of the payment of settlement checks to settlement class members or payment of the attorneys’ fees, costs and service awards to plaintiffs. A mediation assessment conference is scheduled with the Court of Appeals for November 9, 2016, in connection with the initial appeal filed, and the appeal briefs are currently due on various dates in January through March 2017. However, the parties have agreed to consolidate the appeals which is likely to have an impact on the current schedule.
On August 1, 2014, our subsidiaries Lemon and Lemon Argentina, S.R.L. (Lemon Argentina, and together, the Lemon Entities) filed a lawsuit in Santa Clara Superior Court in San Jose, California, against Wenceslao Casares, former General Manager of Lemon, Cynthia McAdam, former General Counsel of Lemon, and Federico Murrone, Martin Apesteguia and Fabian Cuesta, each a former employee and former member of the board of directors of Lemon Argentina (the Argentine Executives). The complaint alleges breaches of employment-related contracts and breaches of fiduciary duties involving each named individual’s work for

13



third-party Xapo, Inc. and/or Xapo, Ltd. during their employment by the applicable Lemon Entity.  On January 30, 2015, the Lemon Entities filed a second amended complaint alleging breaches of employment-related contracts, breaches of fiduciary duties, and fraud, and seeking declaratory relief against Mr. Casares, Ms. McAdam, and the Argentine Executives.  The Argentine Executives entered their appearances in the litigation on July 24, 2015 and filed a motion to dismiss for inconvenient forum on September 8, 2015. That motion was heard on December 4, 2015 and granted on January 4, 2016, with an order staying the action in its entirety. The Lemon Entities filed a notice of appeal on March 1, 2016.
Mr. Casares filed a cross-claim against us and Lemon, Inc. (now Lemon, LLC) on July 24, 2015, for breach of contract, breach of the implied covenant of good faith and fair dealing, conversion, unjust enrichment, and declaratory relief, all arising from the termination of his employment.  Because of the January 4, 2016 order staying the case in its entirety, the court did not rule on the motion to dismiss. Mr. Casares filed a separate complaint against us, Lemon, LLC, and Shareholder Representative Services LLC (SRS) in Delaware Chancery Court on October 7, 2015 for breach of contract and seeking a declaratory judgment.  The action concerns a December 12, 2014 settlement agreement that resolved certain disputes against other former stockholders of Lemon, Inc. arising out of our December 11, 2013 Lemon acquisition.  We, along with Lemon, LLC, moved to dismiss the complaint on October 28, 2015.  Mr. Casares responded by filing an amended complaint on January 8, 2016. LifeLock, Inc. and Lemon, LLC moved to dismiss the amended complaint. That motion was heard on September 27, 2016 and granted in part and denied in part the same day. The Court has not yet set a schedule for pretrial or trial proceedings in the case.
On September 19, 2016, LifeLock and its subsidiary Lemon. LLC, filed a lawsuit in Delaware Chancery Court against Mr. Casares and Ms. McAdam, stemming from the December 11, 2013 merger between LifeLock and Lemon. Specifically, the complaint alleges that both Mr. Casares and Ms. McAdam breached the representations and warranties in the merger agreement and associated contracts, such as their respective non-disclosure agreement, by failing to disclose Lemon’s pre-merger development of Xapo. The complaint also alleges that Mr. Casares and Ms. McAdam fraudulently induced LifeLock to enter into the merger agreement, breached their fiduciary duties to Lemon, and were unjustly enriched from their fraudulent conduct. Defendants filed a motion to dismiss on October 24, 2016. The parties have not yet agreed to a briefing schedule for the motion.
On July 22, 2015, Miguel Avila, representing himself and seeking to represent a class of persons who acquired our securities from July 30, 2014 to July 20, 2015, inclusive, filed a class action complaint in the United States District Court for the District of Arizona. His complaint alleged that Todd Davis, Christopher Power, and we violated Sections 10(b) and 20(a) of the Exchange Act by making materially false or misleading statements, or failing to disclose material facts about our business, operations, and prospects, including with regard to our information security program, advertising, recordkeeping, and our compliance with the FTC Order. The complaint sought certification as a class action, compensatory damages, and attorney’s fees and costs. On September 21, 2015, four other Company stockholders, Oklahoma Police Pension and Retirement System, Oklahoma Firefighters Pension and Retirement System, Larisa Gassel, and Donna Thompson, and their respective attorneys all filed motions seeking to be appointed the lead plaintiff and lead counsel in this class action. On October 9, 2015, the Court appointed Oklahoma Police Pension and Retirement System and Oklahoma Firefighters Pension and Retirement System as lead plaintiffs. On December 10, 2015 lead plaintiffs filed a substantively similar amended complaint. Lead plaintiffs moved to lift the discovery stay imposed by the Private Securities Litigation Reform Act on January 21, 2016. On February 8, 2016, we, along with Mr. Davis and Mr. Power, opposed that motion and on April 22, 2016, the Court denied lead plaintiffs’ motion. We, along with Mr. Davis and Mr. Power, moved to dismiss the amended complaint on January 29, 2016. On August 3, 2016 the Court granted our motion to dismiss and later permitted lead plaintiffs until September 23, 2016 to seek leave to amend their complaint. On September 23, 2016, lead plaintiffs moved for leave to file a proposed Second Amended Complaint, which we did not oppose.  On October 13, 2016, the Court granted lead plaintiffs’ motion for leave to file a second amended complaint.  On October 14, 2016, lead plaintiffs filed the Second Amended Complaint, which is substantively similar to the amended complaint but adds our President, Hilary Schneider, as a named defendant. We, along with Ms. Schneider and Messrs. Davis and Power will move to dismiss the Second Amend Complaint by December 16, 2016, pursuant to a schedule stipulated by the parties and order by the Court.
On March 3, 2014, and March 10, 2014, two securities class action complaints were filed in the United States District Court for the District of Arizona, against us, Mr. Davis, and Mr. Power. On June 16, 2014, the court consolidated the complaints into a single action captioned In re LifeLock, Inc. Securities Litigation and appointed a lead plaintiff and lead counsel. On August 15, 2014, the lead plaintiff filed the Consolidated Amended Class Action Complaint (the Consolidated Amended Complaint), seeking to represent a class of persons who acquired our securities from February 26, 2013 to May 16, 2014, inclusive (the Class Period). The Consolidated Amended Complaint alleged that we, along with Mr. Davis, Mr. Power, and Ms. Schneider, violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, by making materially false or misleading statements, or failing to disclose material facts regarding certain of our business, operational, and compliance policies, including with regard to certain of our services, our data security program, and Mr. Davis’ compliance with the FTC Order. The Consolidated Amended Complaint alleged that, as a result, certain of our financial statements issued during the Class Period and certain public statements made by Ms. Schneider, Mr. Davis, and Mr. Power during the Class Period, were false and misleading. The Consolidated Amended Complaint sought certification as a class action, compensatory damages, and

14



attorneys’ fees and costs. On December 17, 2014, the court granted our and the other defendants’ motion and dismissed the Consolidated Amended Complaint, giving the lead plaintiff 21 days to seek leave to amend. On January 16, 2015, lead plaintiff filed his Second Consolidated Amended Complaint which contained similar allegations, but no longer named Ms. Schneider as a defendant. On July 21, 2015, the court granted our and the other defendants’ motion to dismiss the Second Consolidated Amended Complaint, without leave to amend, and entered judgment in our favor. On August 18, 2015, the lead plaintiff along with another stockholder, City of Hallandale Beach Police and Firefighters’ Personnel Retirement Fund, moved to vacate the judgment on the grounds that the FTC’s July 21, 2015 motion seeking to hold us in contempt of the FTC Order constituted surprise and newly discovered evidence. Plaintiffs also sought permission to file a Third Consolidated Amended Complaint. We, Mr. Davis, and Mr. Power opposed plaintiffs’ motion. On September 18, 2015, the court denied plaintiffs’ motion to vacate the July 21, 2015 judgment and plaintiffs’ request to file another complaint. On September 21, 2015, plaintiffs filed a notice of appeal with the Ninth Circuit Court of Appeals. Plaintiffs appeal from the lower court’s July 21, 2015 order dismissing the Second Consolidated Amended Complaint and entering judgment in our favor, and the court’s September 18, 2015 order denying plaintiffs’ motion to vacate that judgment. Briefing of the appeal has been completed, but oral argument on the appeal has not been set by the Ninth Circuit.
We are subject to other legal proceedings and claims that have arisen in the ordinary course of business. Although there can be no assurance as to the ultimate disposition of these matters and those discussed above, we believe, based upon the information available at this time, that, except as disclosed above, a material adverse outcome related to the matters is neither probable nor estimable.

15



Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion of our financial condition and results of operations in conjunction with the condensed consolidated financial statements and the notes thereto included elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements included in our Annual Report on Form 10-K for fiscal year 2015, (the fiscal 2015 Form 10-K). This Quarterly Report on Form 10-Q contains “forward-looking statements” that involve substantial risks and uncertainties. The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Exchange Act, including, but not limited to, statements regarding our expectations, beliefs, intentions and strategies, including our expectations and beliefs and intentions regarding our services, the identity theft protection services industry and competitive landscape, our strategic partner channel, our investments, our expected expenditures for new member acquisitions and to grow our business, investments in sales and marketing and in technology and development, future operations, future financial position, fluctuations in our financial performance from period to period, future revenue, projected expenses, our ability to fund continuing operations and plans and objectives of management and adapt our products and service offerings to evolving regulatory or data source requirements . In some cases, you can identify forward-looking statements by terms such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “might,” “plan,” “project,” “will,” “would,” “should,” “could,” “can,” “predict,” “potential,” “continue,” “objective,” or the negative of these terms, and similar expressions intended to identify forward-looking statements. However, not all forward-looking statements contain these identifying words.
These forward-looking statements reflect our current views about future events and involve known risks, uncertainties, and other factors that may cause our actual results, levels of activity, performance, or achievement to be materially different from those expressed or implied by the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” included in this Quarterly Report on Form 10-Q and the other filings we make with the Securities and Exchange Commission (SEC). Furthermore, such forward-looking statements speak only as of the date on which they are made. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.
Overview
We are a leading provider of proactive identity theft protection services for consumers and consumer risk management services for enterprises. In our consumer business, we help protect our members by monitoring identity-related events, such as new account openings, credit-related applications and other non-credit related information. If we detect that someone is using a member’s personally identifiable information, we offer notifications and alerts, including actionable alerts for certain new account openings and applications, and allow our members to confirm valid or unauthorized identity use. If a member confirms that the use of his or her identity is unauthorized, we can take actions designed to help protect the member’s identity and help determine whether there has been an identity theft. In the event that an identity theft has actually occurred, we can take actions designed to help rectify the impact of the theft of the member’s identity through our remediation services. Our remediation service team works directly with government agencies, merchants, and creditors to help remediate the impact of the identity theft event utilizing our remediation expertise on behalf of our members. In our enterprise business, we help protect our enterprise customers by delivering on-demand identity risk, identity-authentication, and credit information about consumers. Our enterprise customers utilize this information to make decisions about additional steps required before opening or modifying accounts and providing products, services, or credit to consumers to reduce financial losses from identity fraud.
The foundation of our identity theft protection services is the LifeLock ecosystem. This ecosystem combines large data repositories of personally identifiable information and consumer transactions, proprietary predictive analytics, and a scalable technology platform. Our members and enterprise customers enhance our ecosystem by continually contributing to the identity and transaction data in our repositories. We apply predictive analytics to the data in our repositories to provide our members and enterprise customers actionable intelligence that helps protect against identity theft and identity fraud.
We derive the substantial majority of our revenue from member subscription fees from our consumer business. We primarily offer our identity theft protection services to consumer subscribers under our LifeLock Standard, LifeLock Advantage, LifeLock Ultimate Plus, and LifeLock Junior Services. We also offer LifeLock Benefit Elite, identity theft protection, created specifically for employers and brokers to offer as a benefit for employees. Our consumer services are offered on a monthly or annual subscription basis. Our average revenue per member is lower than our retail list prices due to wholesale or bulk pricing that we offer to strategic partners in our embedded product, employee benefits, and breach distribution channels to drive our membership growth. In our embedded product channel, our strategic partners embed our consumer services into their products and services and pay us on behalf of their customers; in our employee benefit channel, employers primarily offer our consumer services as a voluntary benefit as part of their employee benefit enrollment process; and in our breach channel, enterprises that have experienced a data breach pay us a fee to provide our services to the victims of

16



the data breach. We also offer special discounts and promotions from time to time as incentives to prospective members to enroll in one of our consumer services. Our members pay us the full subscription fee at the beginning of each subscription period, in most cases by authorizing us to directly charge their credit or debit cards. We initially record the subscription fee as deferred revenue and then recognize it ratably on a daily basis over the subscription period. The prepaid subscription fees enhance our visibility of revenue and allow us to collect cash prior to paying our fulfillment partners.
We also derive revenue from transaction fees from our enterprise customers. Our enterprise customers pay us based on their monthly volume of transactions with us, with over 30% of our enterprise customers committed to monthly transaction minimums. We recognize revenue at the end of each month based on transaction volume for that month and bill our enterprise customers at the conclusion of each month.
We have historically invested significantly in new member acquisition and expect to continue to do so for the foreseeable future. Our largest operating expense is advertising for member acquisition, which we record as a sales and marketing expense. This is comprised of radio, television, and print advertisements; direct mail campaigns; online display advertising; paid search and search-engine optimization; third-party endorsements; and education programs. We also pay internal and external sales commissions, which we record as a sales and marketing expense. In general, increases in revenue and cumulative ending members occur during and after periods of significant and effective direct retail marketing efforts.
Our Business Model
We operate our business and our Chief Operating Decision Maker, or CODM, who is our CEO and President, reviews and assesses our operating performance using two reportable segments: our consumer segment and our enterprise segment. We review and assess our operating performance primarily using segment revenue, income (loss) from operations, total assets and other key financial and operating metrics discussed below. These performance measures include the allocation of operating expenses to our reportable segments based on management’s specific identification of costs associated to those segments.
Consumer Services
We evaluate the lifetime value of a member relationship over its anticipated lifecycle. While we generally incur member acquisition costs in advance of or at the time we acquire the member, we recognize revenue ratably over the subscription period. As a result, a member relationship is not profitable at the beginning of the subscription period even though it is likely to have value to us over the lifetime of the member relationship.
When a member’s subscription automatically renews in each successive period, the relative value of that member increases because we do not incur significant incremental acquisition costs. We also benefit from decreasing fulfillment and member support costs related to that member, as well as economies of scale in our capital and operating and other support expenditures.
Enterprise Services
In our enterprise business, the majority of our costs relate to personnel primarily responsible for data analytics, data management, software development, sales and operations, and various support functions. Our enterprise customers typically provide us with their customer transaction data as part of our service, allowing us to build and refine our models without incurring significant third-party data expenses. We continually evaluate third-party data sources and acquire data from such sources when we believe such data will enhance the performance of our models. New customer acquisition is often a lengthy process. We make a significant investment in the sales team, including costs related to detailed retrospective data analysis to help demonstrate the return on investment to prospective customers had our services been deployed over a specific period of time. Because most of our enterprise business expenses are fixed, we typically incur modest incremental costs when we add new enterprise customers, resulting in additional economies of scale.
Key Metrics
We regularly review a number of operating and financial metrics to evaluate our business, determine the allocation of our resources, measure the effectiveness of our sales and marketing efforts, make corporate strategy decisions, and assess operational efficiencies.

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Key Operating Metrics
The following table summarizes our key operating metrics:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands, except percentages and per member data)
(Unaudited)
Cumulative ending members
4,414

 
4,080

 
4,414

 
4,080

Gross new members
254

 
251

 
903

 
989

Member retention rate
85.5
%
 
86.6
%
 
85.5
%
 
86.6
%
Average cost of acquisition per member
$
255

 
$
237

 
$
255

 
$
202

Monthly average revenue per member
$
12.25

 
$
11.91

 
$
12.05

 
$
11.68

Enterprise transactions
103,240

 
74,280

 
272,504

 
208,324

Cumulative ending members. We calculate cumulative ending members as the total number of members at the end of the relevant period. The majority of our members are paying subscribers who have enrolled in our consumer services directly with us on a monthly or annual basis. Other members receive our consumer services through third-party entities that pay us directly because of a breach within the entity. Entities also embed our service within a broader third-party offering, or as an employee benefit paid for by the member's employer, which adds to our member total. We monitor cumulative ending members because it provides an indication of the revenue and expenses that we expect to recognize in the future.

lock-201603_chartx43813a02.jpg
As of September 30, 2016, our cumulative ending member base increased 8% year over year. Several factors drove this increase, including the success of our marketing campaigns, increased awareness of data breaches, media coverage of identity theft, and our member retention rate. The year over year increase as of September 30, 2016 is lower than the year over year increase of 16% as of September 30, 2015, primarily as a result of an increase in members during the nine-month period ended September 30, 2015 as a result of a breach at a large health insurance company in the first quarter of 2015, which resulted in our most successful gross new member quarter in our history. In addition, as a result of the FTC litigation which commenced in the quarter ended September 30, 2015, we reduced marketing expenses with our strategic partners and certain other campaigns resulting in reduced enrollments. While new member growth from our direct to consumer channel has improved through the first nine months of 2016, we do not expect new member growth from our strategic partner channel to return to previous levels for several quarters. We have also experienced an increase in cancellations through the first nine months of 2016 due to the expiration of a large number of breach contracts and a higher number of cancellations from our online affiliates.

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Gross new members. We calculate gross new members as the total number of new members who enroll in one of our consumer services during the relevant period. Many factors may affect the volume of gross new members in each period, including the effectiveness of our marketing campaigns, the timing of our marketing programs, the effectiveness of our strategic partnerships, and the general level of identity theft coverage in the media, including the occurrence of material breach events. In addition, enrollments from our employee benefit channel are expected to be heavily weighted to the fourth fiscal quarter when the majority of employers have open enrollment periods. We monitor gross new members because it provides an indication of the revenue and expenses that we expect to recognize in the future. Gross new members increased 1% for the three-month period ended September 30, 2016 and decreased 9% for the nine-month period ended September 30, 2016 compared to the same periods last year. The decrease in our gross new members for the nine-month periods ended September 30, 2016 was primarily due to the media attention related to the large breach at a health insurance company in the first quarter of 2015, which resulted in our most successful gross new member quarter in our history. In addition, we continue to develop the strategic partner channel which was significantly impacted by the FTC litigation which commenced in the quarter ended September 30, 2015. Due to the impact of the FTC litigation and a shift to focus on larger partners, we do not expect the strategic partner channel to have a material impact in the current year, but we expect the channel to have a positive impact in future years.
Member retention rate. We define member retention rate as the percentage of members on the last day of the prior year who remain members on the last day of the current year. Similarly, for quarterly presentations, we use the percentage of members on the last day of the comparable quarterly period in the prior year who remain members on the last day of the current quarterly period. A number of factors may increase our member retention rate, including increases in the proportion of members enrolled on an annual subscription, increases in the number of alerts a member receives, and increases in the proportion of members enrolled through strategic partners with whom the member has a strong association. Conversely, factors that may reduce our member retention rate include increases in the number of members enrolled on a monthly subscription and the end of enrollment programs in our embedded product and breach channels. In addition, the length of time a member has been enrolled in one of our services will affect our member retention rate with longer-term members having a positive impact. Historically, the member retention rate for our premium services has been lower than the member retention rate for our basic-level services, which we believe is driven primarily by the price difference of those services.
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Our member retention rate as of September 30, 2016 was significantly impacted by the high number of cancellations of members who enrolled during the first quarter of 2015 as a result of the breach at a large health insurance company who failed to renew on their first anniversary during the first nine months of 2016. Historically the first renewal date for our members is when we experience our lowest member retention. In addition, there was a large number of cancellations in the nine-month period ended September 30, 2016 from oil and gas employers within our employee benefit channel as a result of a downturn in the oil and gas industry. We also saw a number of cancellations which resulted from the expiration of breach contracts. In addition we experienced an increase in cancellations in the last six months of fiscal 2015 associated with the announcement of

19



the FTC litigation. As our retention rate is determined on an annual basis these factors will continue to impact the annual retention rate for several quarters. We also continue to see an on-going shift of our enrollments to premium products and monthly billing plans. Both of these cohorts tend to have slightly higher cancellation rates than our standard product and annual payment plans, so we expect this trend to continue. We further expect that our retention rates may be affected by payments to class members related to our FTC litigation related Ebarle class action that began during the fourth quarter of 2016.
Average cost of acquisition per member. We calculate average cost of acquisition per member as our sales and marketing expense for our consumer segment during the relevant period divided by our gross new members for the period. A number of factors may influence this metric, including shifts in the mix of our media spend. For example, when we engage in marketing efforts to build our brand, our short-term cost of acquisition per member increases with the expectation that it will decrease over the long term as marketing spend decreases. In addition, when we introduce new partnerships, such as partnerships in our embedded product channel, our average cost of acquisition per member may decrease due to the volume of members that enroll in our consumer services in a relatively short period of time. The average cost of acquisition per member is typically lowered by enrollments in the employee benefit channel which typically have a much lower cost of acquisition and are expected to occur predominately in the fourth fiscal quarter when the majority of employers hold open enrollment. We monitor average cost of acquisition per member to evaluate the efficiency of our marketing programs in acquiring new members. Our average cost of acquisition per member increased for the three- and nine-month periods ended September 30, 2016 when compared with the same periods in the prior year as a result of our continued investment in our sales and marketing efforts and a decrease in gross new members period over period due in part to the impact of the breach at a large health insurance company in the first quarter of 2015. As a result of the high level of impacted people and the media coverage related to this breach, we were able to acquire a high number of gross new members at a lower cost of acquisition in the first half of 2015 as compared to our typical cost of acquisition, including the cost of acquisition in the first nine months of 2016. In addition, we believe that as a result of the FTC matter, enrollments through relationships with strategic partners were lower in the first nine months of 2016 than in prior periods. Generally, as with our employee benefits channel, enrollments through relationships with strategic partners are at a lower average cost of acquisition per member.
Our member retention rate and the increasing monthly average revenue per member, primarily from the continued penetration of our premium service offerings, results in a higher lifetime value of a member relationship. This enables us to absorb a higher average cost of acquisition per member and still recognize value over the lifetime of our member relationships.
Monthly average revenue per member. We calculate monthly average revenue per member as our consumer revenue during the relevant period divided by the average number of cumulative ending members during the relevant period (determined by taking the average of the cumulative ending members at the beginning of the relevant period and the cumulative ending members at the end of each month in the relevant period), divided by the number of months in the relevant period. A number of factors may influence this metric, including whether a member enrolls in one of our premium services; whether we offer the member any promotional discounts upon enrollment; the distribution channel through which we acquire the member, as we offer wholesale pricing in our embedded product, employee benefit, and breach channels; and whether a new member subscribes on a monthly or annual basis, as members enrolling on an annual subscription receive a discount for paying for a year in advance. While our retail list prices have historically remained unchanged, we have seen our monthly average revenue per member increase primarily due to increased adoption of our premium services by a greater percentage of our members, a trend we expect to continue. We monitor monthly average revenue per member because it is a strong indicator of revenue in our consumer business and of the performance of our premium services.

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Our monthly average revenue per member increased approximately 3% for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increases resulted primarily from the continued success of our premium service offerings, which accounted for more than 40% of our gross new members for the three- and nine-month periods ended September 30, 2016. Monthly average revenue per member growth has been negatively impacted by the slow-down in the strategic partner channel which typically has a higher premium mix of members.
Enterprise transactions. Our enterprise transactions are processed by ID Analytics, our wholly owned subsidiary, and are calculated as the total number of enterprise transactions processed for either an identity risk or credit risk score during the relevant period. Enterprise transactions have historically been higher in the fourth quarter as the level of credit applications and general consumer spending increases. We monitor the volume of enterprise transactions because it is a strong indicator of revenue in our enterprise business.
Enterprise transactions increased 39% and 31% for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. Enterprise transactions increased as we continued to add net new customers and to expand our offerings with our existing customer base.
Key Financial Metrics
The following table summarizes our key financial metrics:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
Consumer revenue
$
161,671

 
$
144,648

 
$
470,260

 
$
411,178

Enterprise revenue
8,623

 
7,304

 
23,746

 
20,139

Total revenue
170,294

 
151,952

 
494,006

 
431,317

Adjusted net income
33,549

 
27,579

 
35,060

 
32,323

Adjusted EBITDA
36,548

 
29,797

 
43,540

 
39,314

Free cash flow
22,927

 
18,378

 
41,097

 
68,302

Please see descriptions and reconciliations of non-GAAP financial measures below.

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Adjusted Net Income
Adjusted net income is a non-U.S. GAAP financial measure that we calculate as net income excluding amortization of acquired intangible assets, stock-based compensation, income tax benefits and expenses resulting from changes in our deferred tax assets, and acquisition related expenses. For the three- and nine-month periods ended September 30, 2016, we also excluded the expenses for the FTC and related litigation and the impact of a legal reserve for the settlement of a derivative lawsuit. In addition, for the three- and nine-month periods ended September 30, 2015, we excluded the impact of the legal reserve for a settlement of a class action lawsuit and expenses for the FTC and related litigation. Adjusted net income is a key measure we use to understand and evaluate our operating performance and trends. In particular, the exclusion of certain expenses in calculating adjusted net income can provide a useful measure for period-to-period comparisons of our core business, and reflects a metric that management reviews in the evaluation of our business.
Accordingly, we believe that adjusted net income provides useful information to investors and others in understanding and evaluating our operating results in the same manner as we do. We believe that the exclusion of certain items of income and expense from net income (loss) in calculating adjusted net income is useful because (i) the amount of such income and expense in any specific period may not directly correlate to the underlying operational performance of our business, and/or (ii) such income and expense can vary significantly between periods as a result of new acquisitions and full amortization of previously acquired intangible assets. 
Our use of adjusted net income has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our operating results as reported under U.S. GAAP. Some of these limitations include the following:
although amortization of intangible assets is a non-cash charge, additional intangible assets may be acquired in the future and adjusted net income does not reflect cash capital expenditure requirements for new acquisitions;
adjusted net income does not reflect the cash requirements for the class action lawsuit and the FTC and related litigation;
adjusted net income does not reflect the cash requirements for new acquisitions;
adjusted net income does not reflect changes in, or cash requirements for, our working capital needs;
adjusted net income does not consider the potentially dilutive impact of stock-based compensation;
adjusted net income does not reflect the deferred income tax benefit from the release of the valuation allowance or income tax expenses which reduce our deferred tax asset for net operating losses or other net changes in deferred tax assets;
adjusted net income does not reflect the expenses incurred for new acquisitions; and
other companies, including companies in our industry, may calculate adjusted net income (loss) or similarly titled measures differently, limiting their usefulness as a comparative measure.
Because of these limitations, you should consider adjusted net income alongside other financial performance measures, including various net income (loss), cash flow metrics, and our other U.S. GAAP results. The following table presents a reconciliation of net income (loss) to adjusted net income for applicable items of income and expense that impacted each of the periods indicated:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Reconciliation of Net Income (Loss) to Adjusted Net Income:
(in thousands)
Net income (loss)
$
14,402

 
$
(65,145
)
 
$
(4,390
)
 
$
(73,783
)
Amortization of acquired intangible assets
1,982

 
2,084

 
8,344

 
6,251

Stock-based compensation
8,612

 
7,863

 
25,509

 
20,287

Deferred income tax expense (benefit)
8,527

 
(22,075
)
 
(3,801
)
 
(27,784
)
Legal reserves and settlements

 
96,000

 
6,000

 
98,500

Expenses related to the FTC litigation
26

 
5,733

 
3,398

 
5,733

Acquisition related expenses

 
3,119

 

 
3,119

Adjusted net income
$
33,549

 
$
27,579

 
$
35,060

 
$
32,323


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Adjusted EBITDA
Adjusted EBITDA is a non-U.S. GAAP financial measure that we calculate as net income (loss) excluding depreciation and amortization, stock-based compensation, interest expense, interest income, other income (expense), income tax (benefit) expense, and acquisition related expenses. For the three- and nine-month periods ended September 30, 2016, we also excluded the expenses for the FTC and related litigation and the impact of a legal reserve for the settlement of the derivative lawsuit. In addition, for the three- and nine-month periods ended September 30, 2015, we excluded the impact of the legal reserve for a settlement with a class action lawsuit and expenses for the FTC and related litigation. We have included adjusted EBITDA in this Quarterly Report on Form 10-Q because it is a key measure we use to understand and evaluate our core operating performance and trends, to prepare and approve our annual budget, and to develop short- and long-term operational plans. In particular, the exclusion of certain expenses in calculating adjusted EBITDA can provide a useful measure for period-to-period comparisons of our core business, and reflects a metric that management reviews in the evaluation of our business. Additionally, adjusted EBITDA is a key financial measure used in determining management’s incentive compensation.
Accordingly, we believe that adjusted EBITDA provides useful information to investors and others in understanding and evaluating our operating results in the same manner as we do. We believe that the exclusion of certain items of income and expense from net income (loss) in calculating adjusted EBITDA is useful because (i) the amount of such income and expense in any specific period may not directly correlate to the underlying operational performance of our business, and/or (ii) such income and expense can vary significantly between periods as a result of new acquisitions and full amortization of previously acquired intangible assets.
Our use of adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our operating results as reported under U.S. GAAP. Some of these limitations include the following:
although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements;
adjusted EBITDA does not reflect the cash requirements for the class action lawsuit and the FTC and related litigation;
adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;
adjusted EBITDA does not consider the potentially dilutive impact of stock-based compensation;
adjusted EBITDA does not reflect cash interest income or expense;
adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us;
adjusted EBITDA does not reflect the expenses incurred for new acquisitions; and
other companies, including companies in our industry, may calculate adjusted EBITDA or similarly titled measures differently, limiting their usefulness as a comparative measure.

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Because of these limitations, you should consider adjusted EBITDA alongside other financial performance measures, including various net income (loss), cash flow metrics, and our other U.S. GAAP results. The following table presents a reconciliation of net income (loss) to adjusted EBITDA for applicable items of income and expense that impacted each of the periods indicated:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Reconciliation of Net Income (Loss) to Adjusted EBITDA:
(in thousands)
Net income (loss)
$
14,402

 
$
(65,145
)
 
$
(4,390
)
 
$
(73,783
)
Depreciation and amortization
5,057

 
4,432

 
17,082

 
13,292

Stock-based compensation
8,612

 
7,863

 
25,509

 
20,287

Interest expense
111

 
89

 
403

 
265

Interest income
(272
)
 
(219
)
 
(875
)
 
(498
)
Other expense
85

 

 
214

 
183

Income tax expense (benefit)
8,527

 
(22,075
)
 
(3,801
)
 
(27,784
)
Legal reserves and settlements

 
96,000

 
6,000

 
98,500

Expenses related to the FTC litigation
26

 
5,733

 
3,398

 
5,733

Acquisition related expenses

 
3,119

 

 
3,119

Adjusted EBITDA
$
36,548

 
$
29,797

 
$
43,540

 
$
39,314

Free Cash Flow
Free cash flow is a non-U.S. GAAP financial measure that we calculate as net cash provided by operating activities less net cash used in investing activities for acquisitions of property and equipment. Additionally, we add or deduct legal settlements paid or received, respectively, and we also adjust for expenses paid for the FTC matters and related litigation. We use free cash flow as a measure of our operating performance; for planning purposes, including the preparation of our annual operating budget; to allocate resources to enhance the financial performance of our business; to evaluate the effectiveness of our business strategies; to provide consistency and comparability with past financial performance; to determine capital requirements; to facilitate a comparison of our results with those of other companies; and in communications with our board of directors concerning our financial performance.
We use free cash flow to evaluate our business because, although it is similar to net cash provided by (used in) operating activities, we believe it typically presents a more conservative measure of cash flow as purchases of property and equipment are necessary components of ongoing operations. We believe that this non-U.S. GAAP financial measure is useful in evaluating our business because free cash flow reflects the cash surplus available to fund the expansion of our business, excluding expenses related to the FTC litigation and settlement, after payment of capital expenditures relating to the necessary components of ongoing operations. We also believe that the use of free cash flow provides consistency and comparability with our past financial performance, and facilitates period-to-period comparisons of operations.
Although free cash flow is frequently used by investors in their evaluations of companies, free cash flow has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our operating results as reported under U.S. GAAP. Some of these limitations include the following:
free cash flow does not reflect our future requirements for contractual commitments to third- party providers;
free cash flow does not reflect the cash requirements or recoveries for legal settlements or expenses paid for the the FTC and related litigation;
free cash flow does not reflect the non-cash component of employee compensation or depreciation and amortization of property and equipment; and
other companies, including companies in our industry, may calculate free cash flow or similarly titled measures differently, limiting their usefulness as comparative measures.

24



Free cash flow does not necessarily represent funds available for discretionary use and is not necessarily a measure of our ability to fund our cash requirements. Because of these limitations, you should consider free cash flow alongside other financial performance measures, including net cash provided by operating activities, net income (loss), and our other U.S. GAAP results. The following table presents a reconciliation of net cash provided by operating activities to free cash flow for each of the periods indicated:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Reconciliation of Net Cash Provided By Operating Activities to Free Cash Flow:
(in thousands)
Net cash provided by operating activities
$
5,626

 
$
20,826

 
$
26,260

 
$
75,723

Acquisitions of property and equipment
(1,962
)
 
(4,084
)
 
(11,299
)
 
(9,057
)
Legal settlements paid (received)
18,642

 

 
21,142

 

Expenses paid for the FTC litigation
621

 
1,636

 
4,994

 
1,636

Free cash flow
$
22,927

 
$
18,378

 
$
41,097

 
$
68,302

Factors Affecting Our Performance
Customer cost of acquisition. We expect to continue to make significant expenditures to grow our member and enterprise customer bases. Our average cost of acquisition per member and the number of new members we generate depends on a number of factors, including the effectiveness of our marketing campaigns, changes in cost of media, the competitive environment in our markets, the prevalence of identity theft issues in the media, publicity about our company, and the level of differentiation of our services. Shifts in the mix of our media spend also influence our member acquisition costs. For example, when we engage in marketing efforts to build our brand, our member acquisition costs increase in the short term with the expectation that they will decrease over the long term. We also continually test new media outlets, marketing campaigns, and call center scripting, each of which impacts our average cost of acquisition per member. In addition, given the past success of our premium services, we expect to be able to absorb a higher average cost of acquisition per member and still recognize value over the lifetime of our member relationships.
Mix of members by services, billing cycle, and distribution channel. Our performance is affected by the mix of members subscribing to our various consumer services, by billing cycle (annual versus monthly), and by the distribution channel through which we acquire the member. Our adjusted EBITDA, adjusted net income, free cash flow, and average cost of acquisition per member are all affected by this mix. We have seen a recent shift to more monthly members, in large part due to the increase in the number of members enrolling through our embedded product and employee benefits channels in which our members enroll on a monthly basis. Since releasing our Ultimate Plus and Advantage products in the third quarter of 2014, and with subsequent changes to these product offerings,we have continued to see over 40% of our new enrollments purchase these two premium products, and have seen an increase in these premium members electing to take the product on a monthly subscription.
Customer retention. Our ability to maintain our current member retention rate may be affected by a number of factors, including the effectiveness of our services, the performance of our member services organization, external media coverage of identity theft, the continued evolution of our service offerings, the competitive environment, the effectiveness of our media spend, the timing of employee benefit and breach service enrollments, and other developments.
Our enterprise business relies on the retention of enterprise customers to maintain the effectiveness of our services because our enterprise customers typically provide us with their customer transaction data as part of our service. Losing a significant number of these customers would reduce the breadth and effectiveness of our services. In addition, less than 1% of our overall revenue for the three- and nine-month periods ended September 30, 2016 was derived from direct competitors to our consumer business. As we have given notice of non-renewal to competitors in our consumer segment, we have allowed such contracts to lapse, and accordingly, this may continue to decline over time.
Investments to grow our business. We expect to continue to invest to grow our business. These investments include the development and marketing of new services, including investments in our technology and development team primarily in Northern and Southern California, and the continued enhancement of our existing services. These investments will increase our operating expenses in the near term and thus may negatively impact our operating results in the short term, although we anticipate that these investments will grow and improve our business over the long term.

25



Regulatory developments. Our business is subject to regulation by federal, state, local, and foreign authorities. Any changes to the existing applicable laws, regulations, or rules or the interpretation thereof by regulatory authorities; any determination that other laws, regulations, or rules are applicable to us; or any determination that we have violated any of these laws, regulations, or rules could adversely affect our operating results. The business of some of our vendors, data providers and enterprise customers may also by subject to regulation by such governmental authorities and changes in applicable laws, regulations or rules applicable to them may as a result require us to adapt our product and service offerings in a timely manner. As previously disclosed, in 2010, we entered into an order with the FTC (the FTC Order). In 2010, at the same time we entered into the FTC Order, we entered into companion orders with 35 states' attorneys general that imposed on us injunctive provisions similar to the FTC Order relating to our advertising and marketing of our identity theft protection services. On July 21, 2015, the FTC initiated a contempt action alleging that we violated the FTC Order, which we refer to as the FTC Contempt Action. On December 17, 2015, the FTC approved a comprehensive settlement agreement, pursuant to which we resolved all matters related to the FTC Contempt Action and provided a mechanism to fund a settlement in the Ebarle Class Action (as described in more detail in Part II, Item 1 - Legal Proceedings). Under the terms of the settlement, $100 million was placed into the registry of the court overseeing the FTC Contempt Action, $68 million of which was distributed to the court overseeing the Ebarle Class Action to fund the consumer redress contemplated by that settlement, which was approved by the court, and the remaining $32 million of the settlement remains in the registry of the Arizona court. While the Ebarle Class Action court ruling has been appealed by certain objectors in the case, the $68 million redress checks have been distributed to consumers who are members of the class. At this stage, we are not aware of proceedings initiated against us by any states’ attorneys general, alleging that we violated the companion orders from 2010. As of September 30, 2016, we have $3 million accrued for a potential settlement with states’ attorneys general. The ultimate resolution of the matter with the states’ attorneys general is uncertain and may involve a materially higher settlement than $3 million.
We collect and remit sales tax in several states related to the sale of our consumer services. Other states or one or more other jurisdictions could seek to impose sales or other tax collection obligations on us in the future. A successful assertion by any state or other jurisdiction that we should be collecting sales or other taxes on the sale of our services could, among other things, increase the cost of our services, create significant administrative burdens for us, result in substantial tax liabilities, discourage current members and other consumers from purchasing our services, or otherwise substantially harm our business and operating results.
For a discussion of additional factors and risks facing our business, see “Risk Factors” in Part II Item 1A. of this Form 10-Q, in our fiscal 2015 Form 10-K, and in our other filings with the SEC.
Basis of Presentation and Key Components of Our Results of Operations
We operate our business and our CODM reviews and assesses our operating performance using two reportable segments: our consumer segment and our enterprise segment. We review and assess our operating performance using segment revenue, income (loss) from operations, total assets and our key financial and operating metrics. These performance measures include the allocation of operating expenses to our reportable segments based on management’s specific identification of costs associated to those segments.
Revenue
We derive revenue in our consumer segment primarily from fees paid by our members for identity theft protection services offered on a subscription basis. Our members subscribe to our consumer services on a monthly or annual, automatically renewing basis and pay us the full subscription fee at the beginning of each subscription period, in most cases by authorizing us to directly charge their credit or debit cards. In some cases, we offer members a free trial period, which is typically 30 days. Our members may cancel their membership with us at any time without penalty and, when they do, we issue a refund for the unused portion of the canceled membership. We recognize revenue for member subscriptions ratably on a daily basis from the latter of cash receipt, activation of a member’s account, or expiration of free trial periods to the end of the subscription period.
We also provide consumer services for which the primary customer is an enterprise purchasing identity theft protection services on behalf of its employees or customers. In such cases, we defer revenue for each member until the member’s account has been activated. We then recognize revenue ratably on a daily basis over the term of the subscription period.
We derive revenue in our enterprise segment from fees paid by our enterprise customers for fraud and risk solutions, which we generally provide under multi-year contracts, many of which renew automatically. Our enterprise customers pay us based on their monthly volume of transactions with us, and approximately 30% of them are committed to paying monthly minimum fees. We recognize revenue based on a negotiated fee per transaction. Transaction fees in excess of any of the monthly minimum fees are billed and recorded as revenue in addition to the monthly minimum fees. In some instances, we receive up-front non-refundable payments against which the monthly minimum fees are applied. The up-front non-refundable payments are recorded as deferred revenue and recognized as revenue monthly over the usage period. If an enterprise customer

26



does not meet its monthly minimum fee, we bill the negotiated monthly minimum fee and recognize revenue for that amount. We derive a small portion of our enterprise revenue from special projects in which we are engaged to deliver a report at the end of the analysis, which we record upon delivery and acceptance of the report.
Cost of Services
Cost of services in our consumer segment consists primarily of costs associated with our member services organization and fulfillment partners. Our member support operations include wages and benefits for personnel performing these functions and facility costs directly associated with our sales and service delivery functions. We also pay fees to third-party service providers related to the fulfillment of our consumer services, including the premiums associated with the identity theft insurance that we provide to our members, and merchant credit card fees.
Costs of services in our enterprise segment primarily includes wages and benefits of personnel, and the facility costs that are directly associated with the data analytics and data management.
We expect our cost of services to increase to the extent we continue to increase the number of our members and enterprise customers. Our cost of services is heavily affected by prevailing salary levels, which affect our internal direct costs and fees paid to third-party service providers. Accordingly, increases in the market rate for wages would increase our cost of services.
Gross Margin
Gross profit as a percentage of total revenue, or gross margin, has been and will continue to be affected by a variety of factors. Increases in personnel and facility costs directly associated with the provision of our services can negatively affect our gross margin. Our gross margin can also be affected by higher fulfillment costs due to enhancements in our services or the introduction of new services, such as the addition of insurance coverage in our consumer services. A significant increase in the number of members we enroll through our strategic partner distribution channels can also negatively affect our gross margin because we offer wholesale pricing to our strategic partners. In prior periods, sales taxes we paid on behalf of our members, and settlements with state tax authorities, also negatively affected our gross margin. Conversely, operating efficiencies in our member services organization can improve our gross margin. We expect our gross margin to fluctuate from period to period depending on all of these factors.
Sales and Marketing
Sales and marketing expenses consist primarily of direct response advertising and online search costs, commissions paid on a per-member basis to our online affiliates and on a percentage of revenue basis to our co-marketing partners, and wages and benefits for sales and marketing personnel. Direct response marketing costs include television, radio, and print advertisements as well as costs to create and produce these advertisements. Online search costs consist primarily of pay-per-click payments to search engines and other online advertising media, such as banner ads. We expense advertising costs as incurred, and historically, they have occurred unevenly across periods. Our sales and marketing expenses also include payments related to our sponsorship and promotional partners. In order to continue to grow our business and the awareness of our services, we plan to continue to commit substantial resources to our sales and marketing efforts. As a result, for the near term, we expect our sales and marketing expenses will continue to increase in absolute dollars and vary as a percentage of revenue, depending on the timing of those expenses and our revenue.
Technology and Development
Technology and development expenses consist primarily of personnel costs incurred in product development, maintenance and testing of our websites, enhancing our existing services and developing new services, internal information systems and infrastructure, data privacy and security systems, third-party development, and other internal-use software systems. Our development costs are primarily incurred in the United States and are directed at enhancing our existing service offerings and developing new service offerings. In order to continue to grow our business and enhance our services, we plan to continue to commit resources to technology and development. In addition, ID Analytics has historically spent a higher portion of its revenue on technology and development. As a result, we expect our technology and development expenses will continue to increase in absolute dollars for the foreseeable future.
General and Administrative
General and administrative expenses consist primarily of personnel costs, professional fees, and facility-related expenses associated with our internal support functions. Our professional fees principally consist of outside legal, auditing, accounting, and other consulting fees. Legal costs included within our general and administrative expenses also include costs incurred to litigate and settle various legal matters, including the FTC related litigation. We expect our general and administrative expenses will increase in absolute dollars for the foreseeable future as we hire additional personnel and expand our office facilities to support our overall growth and incur additional costs associated with our public company and regulatory compliance.

27



Amortization of Acquired Intangible Assets
Amortization of acquired intangible assets is the amortization expense associated with core technology, customer relationships, trade names and trademarks, and assembled workforce resulting from business acquisitions. As of September 30, 2016, we had $21.8 million in intangible assets, net of amortization, as a result of our acquisitions. The acquired intangible assets have useful lives of between one and ten years and we expect to recognize approximately $10.3 million of amortization expense in the year ending December 31, 2016.
Provision for Income Taxes
We are subject to federal income tax as well as state income tax in various states in which we conduct business. Our effective tax rate for the nine-month periods ended September 30, 2016 and 2015, approximated the U.S. federal statutory tax rate plus the impact of state taxes and permanent and other temporary differences.
Results of Operations
Comparison of the Three- and Nine-Month Periods Ended September 30, 2016 and 2015
Total Revenue
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Consumer revenue
$
161,671

 
$
144,648

 
11.8
%
 
$
470,260

 
$
411,178

 
14.4
%
Enterprise revenue
8,623

 
7,304

 
18.1
%
 
23,746

 
20,139

 
17.9
%
Total revenue
$
170,294

 
$
151,952

 
12.1
%
 
$
494,006

 
$
431,317

 
14.5
%
Consumer revenue increased by $17.0 million and $59.1 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increase resulted primarily from the increase in the number of our members, which grew 8% to approximately 4.4 million as of September 30, 2016 as compared to September 30, 2015. In addition, our monthly average revenue per member increased 3% for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increase in members and monthly average revenue per member resulted from the continued success of our premium service offerings, including our LifeLock Advantage and LifeLock Ultimate Plus services, and our advertising and marketing campaigns designed to increase the overall awareness of our services and identity theft. However, the increase in members and monthly average revenue per member were slowed primarily due to the weakness in our strategic partner channel as a result of the FTC litigation in the third fiscal quarter of 2015 and a focus on larger partners, and therefore we do not expect this channel to provide significant new members in 2016.
Enterprise revenue increased by $1.3 million and $3.6 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increases are attributable to the growth of our enterprise customer base and expansion of our offerings to our current customer base.
Cost of Services and Gross Profit
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Cost of services
$
34,782

 
$
33,988

 
2.3
%
 
$
118,410

 
$
103,470

 
14.4
%
Percentage of revenue
20.4
%
 
22.4
%
 
 
 
24.0
%
 
24.0
%
 
 
Gross profit
135,512

 
117,964

 
14.9
%
 
375,596

 
327,847

 
14.6
%
Gross margin
79.6
%
 
77.6
%
 
 
 
76.0
%
 
76.0
%
 
 
Gross profit increased by $17.5 million and $47.7 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increases resulted primarily from increased revenue associated with the growth in the number of our members and increased monthly average revenue per member. Gross margin for the nine-month period ended September 30, 2016 remained flat, primarily attributable to costs incurred in the second quarter with respect to the migration of credit services for premium members to our new data platform, which resulted in additional expense

28



of approximately $6.0 million that would have been spread out over the remainder of our fiscal year under our previous data platform.  
Sales and Marketing
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Sales and marketing
$
68,416

 
$
62,850

 
8.9
%
 
$
240,492

 
$
209,470

 
14.8
%
Percentage of revenue
40.2
%
 
41.4
%
 
 
 
48.7
%
 
48.6
%
 
 
Sales and marketing expenses increased by $5.6 million and $31.0 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increases resulted from increased advertising expenses, external sales commissions, and personnel costs, including increased non-cash stock-based compensation. The increase in our sales and marketing expenses reflected our investment to drive new membership growth, our continued advertising of our premium service offerings, and our efforts to highlight the growing identity theft issue and to educate consumers.
Technology and Development
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Technology and development
$
20,379

 
$
19,396

 
5.1
%
 
$
61,509

 
$
52,928

 
16.2
%
Percentage of revenue
12.0
%
 
12.8
%
 
 
 
12.5
%
 
12.3
%
 
 
Technology and development expenses increased by $1.0 million and $8.6 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The increases resulted primarily from increased personnel costs, including non-cash stock-based compensation, which were primarily the result of continuing to expand our product and technology team, primarily in Silicon Valley in Northern California. In addition, we also made investments in product enhancements, security, infrastructure, and market research.
General and Administrative
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
General and administrative
$
21,882

 
$
120,984

 
(81.9
)%
 
$
73,700

 
$
160,815

 
(54.2
)%
Percentage of revenue
12.8
%
 
79.6
%
 
 
 
14.9
%
 
37.3
%
 
 
General and administrative expenses decreased by $99.1 million and $87.1 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The decrease relates primarily to the third quarter 2015 accrual of $96 million for the settlement with the FTC and a national class of consumers as part of the Ebarle Class Action, to resolve outstanding litigation, and a potential settlement with certain states' attorneys general in addition to a decrease in legal fees associated with such matters, which caused general and administrative expenses to be significantly higher than usual for the three- and nine-month periods ended September 30, 2015. The decreases were partially offset by an increase in personnel costs, including non-cash stock-based compensation, and additional costs associated with our regulatory compliance, and office expansion. In the second quarter of 2016, we accrued $6.0 million for the settlement of securities derivative lawsuits, which was paid in the third quarter of 2016.

29



Amortization of Acquired Intangible Assets
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Amortization of acquired intangible assets
$
1,982

 
$
2,084

 
(4.9
)%
 
$
8,344

 
$
6,251

 
33.5
%
Percentage of revenue
1.2
%
 
1.4
%
 
 
 
1.7
%
 
1.4
%
 
 
Amortization of acquired intangible assets decreased by $0.1 million and increased $2.1 million for the three- and nine-month periods ended September 30, 2016, respectively, compared to the same periods last year. The period over period increase and quarter over quarter decrease is due to the acceleration of amortization of our technology intangible asset acquired in the Lemon acquisition and an assembled workforce intangible asset acquired in 2015, which were fully amortized through the second quarter of 2016.   
Other Income
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Interest expense
$
(111
)
 
$
(89
)
 
24.7
 %
 
$
(403
)
 
$
(265
)
 
52.1
%
Interest income
272

 
219

 
24.2
 %
 
875

 
498

 
75.7
%
Other
(85
)
 

 
N/A

 
(214
)
 
(183
)
 
16.9
%
Total other income
$
76

 
$
130

 
(41.5
)%
 
$
258

 
$
50

 
416.0
%
Other income remained generally flat for the three-month period ended September 30, 2016 compared to the third quarter 2015, and increased $0.2 million for the nine-month period ended September 30, 2016 compared to the same period last year. The increase in the nine-month period was primarily due to the increase in interest income on our marketable securities.
Income Tax Expense (Benefit)
 
For the Three Months Ended
 
For The Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
% Change
 
2016
 
2015
 
% Change
 
(in thousands)
Income tax benefit
$
8,527

 
$
(22,075
)
 
(138.6
)%
 
$
(3,801
)
 
$
(27,784
)
 
(86.3
)%
Effective tax rate
37.2
%
 
25.3
%
 
 
 
46.4
%
 
27.4
%
 
 
Our effective tax rate for the three- and nine-month periods ended September 30, 2016 and 2015, differed from the U.S. federal statutory tax rate plus the impact of state taxes as a result of tax return to provision adjustments which resulted in an income tax benefit of $0.8 million and $0.4 million, respectively.
Liquidity and Capital Resources
As of September 30, 2016, we had $34.8 million in cash and cash equivalents, which consisted of cash and money market funds, and $131.3 million in marketable securities, which consisted of corporate bonds, municipal bonds, government securities, agency securities, commercial paper, and certificates of deposit.  We classify our marketable securities as short-term regardless of contractual maturity based on our ability to liquidate those investments for use in current operations. Additionally, we have a revolving line of credit, described below. We did not draw on the line of credit during the nine-month period ended September 30, 2016.  As of September 30, 2016, we had no outstanding debt.  We believe that our existing cash and cash equivalents and marketable securities together with cash generated from operations will be sufficient to fund our operations for at least the next 12 months, including amounts reserved for potential legal settlements. However, our future liquidity and capital requirements may vary materially from our expectations depending on many factors, including, but not limited to our revenues and gross margins, our cash flows from operations, the timing of payments with respect to the settlements, expenses

30



and judgments related to our litigation matters, future disputes or litigation, and the availability of our revolving line of credit. We may need to seek additional capital and such capital may not be available on terms acceptable to us or at all.
Operating Activities
For the nine-month period ended September 30, 2016, operating activities generated $26.3 million in cash despite a net loss of $4.4 million, resulting from adjustments for non-cash items such as depreciation and amortization of $17.1 million, stock-based compensation of $25.5 million, and an income tax benefit of $3.8 million. We also had an increase in deferred revenue related to the overall growth of our business which provided operating cash of $22.6 million and we had a decrease in operating cash as a result of changes in other operating assets and liabilities of $33.0 million, which included payments for previously accrued legal settlements of $21.1 million.
For the nine-month period ended September 30, 2015, operating activities generated $75.7 million in cash as a result of a net loss of $73.8 million, adjusted by non-cash items such as depreciation and amortization of $13.3 million, stock-based compensation of $20.3 million, and an income tax benefit of $27.8 million. An increase in deferred revenue related to the overall growth of our business provided operating cash of $25.6 million and positive net operating cash flows of $115.4 million from other operating assets and liabilities.
Investing Activities
For the nine-month period ended September 30, 2016, we used $11.3 million of cash to acquire property and equipment, primarily computer equipment and software, including personnel and third-party costs related to internally developed software, as we continue to expand our team and enhance our service, and we paid $4.3 million of premiums for company-owned life insurance policies. In addition, we had net cash inflows of $64.4 million attributable to the maturities and coupon payments of our marketable securities.
For the nine-month period ended September 30, 2015, we acquired BitYota, Inc. for $12.8, we used $9.1 million of cash to acquire property and equipment primarily attributable to the expansion of our office locations, we invested a net $68.9 million of cash in marketable securities, and we paid $4.3 million of premiums for company-owned life insurance policies.
Financing Activities
For the nine-month period ended September 30, 2016, net cash used in financing activities was $90.5 million as a result of cash paid related to the repurchase of our common stock of $100.0 million, primarily under our accelerated share repurchase programs, and $6.2 million paid for employee withholding tax related to net distributions of restricted stock units and restricted stock, offset by cash received from the exercise of stock options of $15.8 million.
For the nine-month period ended September 30, 2015, financing activities generated net cash of $8.4 million as a result of cash received from the exercise of stock options of $10.1 million, offset by $1.7 million paid for employee withholding tax related to net distributions of restricted stock units and restricted stock.
Debt Obligations  
Senior Credit Facility
There have been no changes in our Credit Agreement and related documents with Bank of America, which we refer to as our Senior Credit Facility, from the disclosure in our fiscal 2015 Form 10-K. At September 30, 2016, we were in compliance with all the covenants of the Senior Credit Facility.
As of September 30, 2016, we had outstanding letters of credit in the amount of $1.3 million in connection with certain leases for office space, and no other amounts were outstanding.
Contractual Obligations
In April 2016, we entered into a nine-year lease agreement for an office building in Mountain View, CA. The total expected minimum operating lease commitment is $42.4 million, which is accounted for as a build-to-suit lease. We have an option to renew the lease for an additional seven-year term. There were no other material changes in our commitments under contractual obligations to those disclosed in our fiscal 2015 Form 10-K.
Off-Balance Sheet Arrangements
We do not engage in any off-balance sheet financing activities, nor do we have any interest in entities referred to as variable interest entities.

31



Critical Accounting Policies and Estimates
Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, costs and expenses, and related disclosures. These estimates form the basis for judgments we make about the carrying values of our assets and liabilities, which are not readily apparent from other sources. We base our estimates and judgments on historical experience and on various other assumptions that we believe are reasonable under the circumstances. On an ongoing basis, we evaluate our estimates and assumptions. Our actual results may differ from these estimates under different assumptions or conditions.
We believe that the assumptions and estimates associated with revenue recognition for payments and other fees, income taxes, and stock-based compensation have the greatest potential impact on our condensed consolidated financial statements. Therefore, we consider these to be our critical accounting policies and estimates.
There have been no material changes to our critical accounting policies and estimates as compared to the critical accounting policies and estimates described in our fiscal 2015 Form 10-K.
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
There have been no material changes in our primary market risk exposures or how we manage those exposures from the information disclosed in Part II, Item 7A of our fiscal 2015 Form 10-K. For further discussion of quantitative and qualitative disclosures about market risk, reference is made to our fiscal 2015 Form 10-K.
Item 4.
Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Management, together with our CEO and CFO, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this Quarterly Report on Form 10-Q. The purpose of this evaluation is to determine if, as of the end of the period covered by this Quarterly Report on Form 10-Q, our disclosure controls and procedures are effective such that the information required to be disclosed in the reports we file or submit under the Exchange Act (i) is recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms and (ii) is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. Based on this evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of September 30, 2016.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting identified in management's evaluation pursuant to Rules 13a-15(d) or 15d-15(d) of the Exchange Act during the period covered by this Quarterly Report on Form 10-Q that materially affected, or are reasonably likely to material affect, our internal control over financial reporting.
Limitations on Effectiveness of Controls and Procedures
Management, including our CEO and CFO, does not expect that our disclosure controls and procedures or our internal controls over financial reporting will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues, misstatements, errors, and instances of fraud, if any, within our company have been or will be prevented or detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls also can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks that internal controls may become inadequate as a result of changes in conditions, or through the deterioration of the degree of compliance with policies or procedures.

32



PART II - OTHER INFORMATION
Item 1.
Legal Proceedings
On July 21, 2015 the FTC lodged, under seal, in the United States District Court for the District of Arizona, a motion seeking to hold us in contempt of the consent decree we entered into with the FTC in 2010 (the FTC Order). On December 17, 2015, we entered into a comprehensive settlement agreement with the FTC, pursuant to which we resolved all matters related to the FTC Contempt Action and provided a mechanism to fund a settlement of the Ebarle Class Action described below. On January 19, 2015, plaintiffs Napoleon Ebarle and Jeanne Stamm filed a nationwide putative consumer class action lawsuit against us in the United States District Court for the Northern District of California. A second amended complaint was filed on November 4, 2015 on behalf of four plaintiffs who alleged that we engaged in deceptive marketing and sales practices in connection with our membership plans in violation of the Arizona Consumer Fraud Act, Breach of Contract, unjust enrichment and violation of the Federal Declaratory Judgment Act.
Under the terms of the FTC settlement, $100 million was placed into the registry of the court overseeing the FTC Contempt Action, $68 million of which was authorized to be distributed to fund the consumer redress contemplated by the Ebarle Class Action settlement. Those funds have been transferred to the supervision of the court overseeing the Ebarle Class Action Settlement.
On September 20, 2016, the court overseeing the Ebarle Class Action entered judgment and an order granting plaintiffs’ motion for final approval of the parties’ proposed settlement agreement, awarding plaintiffs’ counsel $10.2 million in fees and costs and awarding each of the four plaintiffs $2,000 as a service award. Beginning on October 11, 2016, the Court-appointed settlement administrator distributed settlement checks to settlement class members using the $68 million transferred in February 2016 to the court-appointed settlement administrator from the court’s registry in the FTC Contempt Action. The remaining $32 million of the settlement remains in the registry of the Arizona court. In addition, we have $3.0 million accrued for a potential settlement with states attorneys general for related claims.
Appeals of the final approval order and judgment were filed by six objectors prior to the filing deadline and are pending in the Ninth Circuit Court of Appeals. The appeals do not impact the timing of the payment of settlement checks to settlement class members or payment of the attorneys’ fees, costs and service awards to plaintiffs. A mediation assessment conference is scheduled with the Court of Appeals for November 9, 2016, in connection with the initial appeal filed, and the appeal briefs are currently due on various dates in January through March 2017. However, the parties have agreed to consolidate the appeals which is likely to have an impact on the current schedule.
On August 1, 2014, our subsidiaries Lemon and Lemon Argentina, S.R.L. (Lemon Argentina, and together, the Lemon Entities) filed a lawsuit in Santa Clara Superior Court in San Jose, California, against Wenceslao Casares, former General Manager of Lemon, Cynthia McAdam, former General Counsel of Lemon, and Federico Murrone, Martin Apesteguia and Fabian Cuesta, each a former employee and former member of the board of directors of Lemon Argentina (the Argentine Executives). The complaint alleges breaches of employment-related contracts and breaches of fiduciary duties involving each named individual’s work for third-party Xapo, Inc. and/or Xapo, Ltd. during their employment by the applicable Lemon Entity.  On January 30, 2015, the Lemon Entities filed a second amended complaint alleging breaches of employment-related contracts, breaches of fiduciary duties, and fraud, and seeking declaratory relief against Mr. Casares, Ms. McAdam, and the Argentine Executives.  The Argentine Executives entered their appearances in the litigation on July 24, 2015 and filed a motion to dismiss for inconvenient forum on September 8, 2015. That motion was heard on December 4, 2015 and granted on January 4, 2016, with an order staying the action in its entirety. The Lemon Entities filed a notice of appeal on March 1, 2016.
Mr. Casares filed a cross-claim against us and Lemon, Inc. (now Lemon, LLC) on July 24, 2015, for breach of contract, breach of the implied covenant of good faith and fair dealing, conversion, unjust enrichment, and declaratory relief, all arising from the termination of his employment.  Because of the January 4, 2016 order staying the case in its entirety, the court did not rule on the motion to dismiss. Mr. Casares filed a separate complaint against us, Lemon, LLC, and Shareholder Representative Services LLC (SRS) in Delaware Chancery Court on October 7, 2015 for breach of contract and seeking a declaratory judgment.  The action concerns a December 12, 2014 settlement agreement that resolved certain disputes against other former stockholders of Lemon, Inc. arising out of our December 11, 2013 Lemon acquisition.  We, along with Lemon, LLC, moved to dismiss the complaint on October 28, 2015.  Mr. Casares responded by filing an amended complaint on January 8, 2016. LifeLock, Inc. and Lemon, LLC moved to dismiss the amended complaint. That motion was heard on September 27, 2016 and granted in part and denied in part the same day. The Court has not yet set a schedule for pretrial or trial proceedings in the case.
On September 19, 2016, LifeLock and its subsidiary Lemon. LLC, filed a lawsuit in Delaware Chancery Court against Mr. Casares and Ms. McAdam, stemming from the December 11, 2013 merger between LifeLock and Lemon. Specifically, the complaint alleges that both Mr. Casares and Ms. McAdam breached the representations and warranties in the merger agreement and associated contracts, such as their respective non-disclosure agreement, by failing to disclose Lemon’s pre-merger development of Xapo. The complaint also alleges that Mr. Casares and Ms. McAdam fraudulently induced LifeLock to enter

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into the merger agreement, breached their fiduciary duties to Lemon, and were unjustly enriched from their fraudulent conduct. Defendants filed a motion to dismiss on October 24, 2016. The parties have not yet agreed to a briefing schedule for the motion.
On July 22, 2015, Miguel Avila, representing himself and seeking to represent a class of persons who acquired our securities from July 30, 2014 to July 20, 2015, inclusive, filed a class action complaint in the United States District Court for the District of Arizona. His complaint alleged that Todd Davis, Christopher Power, and we violated Sections 10(b) and 20(a) of the Securities Exchange Act by making materially false or misleading statements, or failing to disclose material facts about our business, operations, and prospects, including with regard to our information security program, advertising, recordkeeping, and our compliance with the FTC Order. The complaint sought certification as a class action, compensatory damages, and attorney’s fees and costs. On September 21, 2015, four other Company stockholders, Oklahoma Police Pension and Retirement System, Oklahoma Firefighters Pension and Retirement System, Larisa Gassel, and Donna Thompson, and their respective attorneys all filed motions seeking to be appointed the lead plaintiff and lead counsel in this class action. On October 9, 2015, the Court appointed Oklahoma Police Pension and Retirement System and Oklahoma Firefighters Pension and Retirement System as lead plaintiffs. On December 10, 2015 lead plaintiffs filed a substantively similar amended complaint. Lead plaintiffs moved to lift the discovery stay imposed by the Private Securities Litigation Reform Act on January 21, 2016. On February 8, 2016, we, along with Mr. Davis and Mr. Power, opposed that motion and on April 22, 2016, the Court denied lead plaintiffs’ motion. We, along with Mr. Davis and Mr. Power, moved to dismiss the amended complaint on January 29, 2016. On August 3, 2016 the Court granted our motion to dismiss and later permitted lead plaintiffs until September 23, 2016 to seek leave to amend their complaint. On September 23, 2016, lead plaintiffs moved for leave to file a proposed Second Amended Complaint, which we did not oppose.  On October 13, 2016, the Court granted lead plaintiffs’ motion for leave to file a second amended complaint.  On October 14, 2016, lead plaintiffs filed the Second Amended Complaint, which is substantively similar to the amended complaint but adds our President, Hilary Schneider, as a named defendant. We, along with Ms. Schneider and Messrs. Davis and Power will move to dismiss the Second Amend Complaint by December 16, 2016, pursuant to a schedule stipulated by the parties and order by the Court.
On March 3, 2014, and March 10, 2014, two securities class action complaints were filed in the United States District Court for the District of Arizona, against us, Mr. Davis, and Mr. Power. On June 16, 2014, the court consolidated the complaints into a single action captioned In re LifeLock, Inc. Securities Litigation and appointed a lead plaintiff and lead counsel. On August 15, 2014, the lead plaintiff filed the Consolidated Amended Class Action Complaint (the Consolidated Amended Complaint), seeking to represent a class of persons who acquired our securities from February 26, 2013 to May 16, 2014, inclusive (the Class Period). The Consolidated Amended Complaint alleged that we, along with Mr. Davis, Mr. Power, and Ms. Schneider, violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, by making materially false or misleading statements, or failing to disclose material facts regarding certain of our business, operational, and compliance policies, including with regard to certain of our services, our data security program, and Mr. Davis’ compliance with the FTC Order. The Consolidated Amended Complaint alleged that, as a result, certain of our financial statements issued during the Class Period and certain public statements made by Ms. Schneider, Mr. Davis, and Mr. Power during the Class Period, were false and misleading. The Consolidated Amended Complaint sought certification as a class action, compensatory damages, and attorneys’ fees and costs. On December 17, 2014, the court granted our and the other defendants’ motion and dismissed the Consolidated Amended Complaint, giving the lead plaintiff 21 days to seek leave to