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EX-32.2 - EXHIBIT 32.2 - Workday, Inc.wday-04302017xex322.htm
EX-32.1 - EXHIBIT 32.1 - Workday, Inc.wday-04302017xex321.htm
EX-31.2 - EXHIBIT 31.2 - Workday, Inc.wday-04302017xex312.htm
EX-31.1 - EXHIBIT 31.1 - Workday, Inc.wday-04302017xex311.htm
EX-10.4 - EXHIBIT 10.4 - Workday, Inc.wday-04302017xex104.htm

 
 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
FORM 10-Q
 
 
 
(Mark One)
x
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended April 30, 2017
OR
¨
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission File Number: 001-35680
 
 
 
Workday, Inc.
(Exact name of registrant as specified in its charter) 
 
 
 
Delaware
 
20-2480422
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification No.)
6230 Stoneridge Mall Road
Pleasanton, California 94588
(Address of principal executive offices)
Telephone Number (925) 951-9000
(Registrant’s telephone number, including area code) 
 
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 (the "Exchange Act") during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days:    Yes  x    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x   No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of large accelerated filer, accelerated filer, smaller reporting company, and emerging growth company in Rule 12b-2 of the Exchange Act.
Large accelerated filer
x
Accelerated filer
¨
Non-accelerated filer
¨  (Do not check if a smaller reporting company)
Smaller reporting company
¨
 
 
Emerging growth company
¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
As of May 31, 2017, there were approximately 207 million shares of the registrant’s common stock outstanding.
 
 
 



Workday, Inc.
 
 
Page No.
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 
 
 
 
 
 
 

2


PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Workday, Inc.
Condensed Consolidated Balance Sheets
(in thousands)
(unaudited)
 
April 30, 2017
 
January 31, 2017
*As Adjusted
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
498,931

 
$
539,923

Marketable securities
1,616,770

 
1,456,822

Trade and other receivables, net
297,894

 
409,780

Deferred costs
51,819

 
51,330

Prepaid expenses and other current assets
68,406

 
66,590

Total current assets
2,533,820

 
2,524,445

Property and equipment, net
404,102

 
365,877

Deferred costs, noncurrent
114,504

 
117,249

Acquisition-related intangible assets, net
43,915

 
48,787

Goodwill
158,193

 
158,354

Other assets
54,207

 
53,570

Total assets
$
3,308,741

 
$
3,268,282

Liabilities and stockholders’ equity
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
28,182

 
$
26,824

Accrued expenses and other current liabilities
71,161

 
61,582

Accrued compensation
110,227

 
110,625

Unearned revenue
1,079,874

 
1,086,212

Total current liabilities
1,289,444

 
1,285,243

Convertible senior notes, net
541,393

 
534,423

Unearned revenue, noncurrent
120,389

 
135,331

Other liabilities
36,658

 
36,677

Total liabilities
1,987,884

 
1,991,674

Stockholders’ equity:
 
 
 
Common stock
205

 
202

Additional paid-in capital
2,791,520

 
2,681,200

Accumulated other comprehensive income (loss)
(190
)
 
2,071

Accumulated deficit
(1,470,678
)
 
(1,406,865
)
Total stockholders’ equity
1,320,857

 
1,276,608

Total liabilities and stockholders’ equity
$
3,308,741

 
$
3,268,282

*
See Note 2 for a summary of adjustments.

See Notes to Condensed Consolidated Financial Statements
3



Workday, Inc.
Condensed Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)
 
Three Months Ended April 30,
 
2017
 
2016
 
 
*As Adjusted
Revenues:
 
 
 
Subscription services
$
399,736

 
$
280,168

Professional services
80,125

 
67,509

Total revenues
479,861

 
347,677

Costs and expenses(1):
 
 
 
Costs of subscription services
59,798

 
49,200

Costs of professional services
76,913

 
59,427

Product development
196,439

 
141,778

Sales and marketing
155,709

 
127,619

General and administrative
51,202

 
41,183

Total costs and expenses
540,061

 
419,207

Operating loss
(60,200
)
 
(71,530
)
Other expense, net
(1,663
)
 
(5,838
)
Loss before provision for income taxes
(61,863
)
 
(77,368
)
Provision for income taxes
2,181

 
1,135

Net loss
$
(64,044
)
 
$
(78,503
)
Net loss per share, basic and diluted
$
(0.31
)
 
$
(0.40
)
Weighted-average shares used to compute net loss per share, basic and diluted
203,818

 
194,529


(1)      Costs and expenses include share-based compensation expenses as follows:
Costs of subscription services
$
5,691


$
4,397

Costs of professional services
8,021


5,293

Product development
51,029


32,968

Sales and marketing
23,159


19,002

General and administrative
19,888


16,575

*
See Note 2 for a summary of adjustments.

See Notes to Condensed Consolidated Financial Statements
4



Workday, Inc.
Condensed Consolidated Statements of Comprehensive Loss
(in thousands)
(unaudited)
 
Three Months Ended April 30,
 
2017
 
2016
 
 
*As Adjusted
Net loss
$
(64,044
)
 
$
(78,503
)
Other comprehensive loss, net of tax:
 
 
 
Net change in foreign currency translation adjustment
(277
)
 
681

Net change in unrealized gains (losses) on available-for-sale investments
(775
)
 
552

Net change in market value of effective foreign currency forward exchange contracts
(1,209
)
 
(11,064
)
Other comprehensive loss, net of tax
(2,261
)
 
(9,831
)
Comprehensive loss
$
(66,305
)
 
$
(88,334
)
*
See Note 2 for a summary of adjustments.

See Notes to Condensed Consolidated Financial Statements
5



Workday, Inc.
Condensed Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
 
Three Months Ended April 30,
 
2017
 
2016
 
 
*As Adjusted
Cash flows from operating activities
 
 
 
Net loss
$
(64,044
)
 
$
(78,503
)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
33,377

 
26,124

Share-based compensation expenses
107,788

 
78,235

Amortization of deferred costs
13,637

 
10,439

Amortization of debt discount and issuance costs
6,950

 
6,599

Other
2,678

 
(318
)
Changes in operating assets and liabilities:
 
 
 
Trade and other receivables, net
111,815

 
98,319

Deferred costs
(11,381
)
 
(9,226
)
Prepaid expenses and other assets
(3,050
)
 
2,388

Accounts payable
(565
)
 
(1,722
)
Accrued expenses and other liabilities
4,089

 
5,545

Unearned revenue
(21,272
)
 
24,937

Net cash provided by (used in) operating activities
180,022

 
162,817

Cash flows from investing activities
 
 
 
Purchases of marketable securities
(613,251
)
 
(633,956
)
Maturities of marketable securities
441,870

 
625,588

Sales of available-for-sale securities
9,074

 
200

Owned real estate projects
(29,539
)
 
(18,986
)
Capital expenditures, excluding owned real estate projects
(30,593
)
 
(34,478
)
Purchases of cost method investments
(450
)
 
(100
)
Other

 
388

Net cash provided by (used in) investing activities
(222,889
)
 
(61,344
)
Cash flows from financing activities
 
 
 
Proceeds from issuance of common stock from employee equity plans
2,253

 
3,381

Other
(44
)
 
376

Net cash provided by (used in) financing activities
2,209

 
3,757

Effect of exchange rate changes
(132
)
 
638

Net increase (decrease) in cash, cash equivalents and restricted cash
(40,790
)
 
105,868

Cash, cash equivalents and restricted cash at the beginning of period
541,894

 
300,087

Cash, cash equivalents and restricted cash at the end of period
$
501,104

 
$
405,955

 
 
 
 
Reconciliation of cash, cash equivalents and restricted cash to the condensed consolidated balance sheets
 
 
 
Cash and cash equivalents
$
498,931

 
$
404,604

Restricted cash included in Prepaid expenses and other current assets
2,173

 
1,351

Total cash, cash equivalents and restricted cash
$
501,104

 
$
405,955

 
 
 
 
Supplemental cash flow data
 
 
 
Cash paid for interest
$

 
$
4

Cash paid for income taxes
1,346

 
581

Non-cash investing and financing activities:
 
 
 
Vesting of early exercise stock options
$
282

 
$
460

Property and equipment, accrued but not paid
32,515

 
21,507

Non-cash additions to property and equipment
142

 
521

*    See Note 2 for a summary of adjustments.

See Notes to Condensed Consolidated Financial Statements
6



Workday, Inc.
Notes to Condensed Consolidated Financial Statements
Note 1. Overview and Basis of Presentation
Company and Background
Workday provides financial management, human capital management, and analytics applications designed for the world's largest companies, educational institutions, and government agencies. We offer innovative and adaptable technology focused on the consumer internet experience and cloud delivery model. Our applications are designed for global enterprises to manage complex and dynamic operating environments. We provide our customers highly adaptable, accessible and reliable applications to manage critical business functions that enable them to optimize their financial and human capital resources. We were originally incorporated in March 2005 in Nevada and in June 2012, we reincorporated in Delaware. As used in this report, the terms "Workday," "registrant," "we," "us," and "our" mean Workday, Inc. and its subsidiaries unless the context indicates otherwise.
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States ("GAAP") and applicable rules and regulations of the Securities and Exchange Commission ("SEC") regarding interim financial reporting. The condensed consolidated financial statements include the results of Workday, Inc. and its wholly-owned subsidiaries. Certain information and note disclosures normally included in the financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. In the opinion of our management, the information contained herein reflects all adjustments necessary for a fair presentation of Workday’s results of operations, financial position and cash flows. All such adjustments are of a normal, recurring nature. The results of operations for the quarter ended April 30, 2017 shown in this report are not necessarily indicative of results to be expected for the full year ending January 31, 2018. The unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements in our Annual Report on Form 10-K for the year ended January 31, 2017, filed with the SEC on March 20, 2017.
Effective February 1, 2017, we adopted the requirements of Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers and ASU No. 2016-18, Statement of Cash Flows, Restricted Cash as discussed in Note 2. All amounts and disclosures set forth in this Form 10-Q have been updated to comply with the new standards, as indicated by the "as adjusted" footnote.
Certain prior period amounts reported in our condensed consolidated financial statements and notes thereto have been reclassified to conform to current period presentation.
Use of Estimates
The preparation of condensed consolidated financial statements in conformity with GAAP requires us to make certain estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the condensed consolidated financial statements, as well as the reported amounts of revenues and expenses during the reporting period. These estimates include, but are not limited to, the determination of the period of benefit for deferred commissions, certain assumptions used in the valuation of equity awards, and the fair value of assets acquired and liabilities assumed through business combinations. Actual results could differ from those estimates and such differences could be material to our condensed consolidated financial position and results of operations.
Segment Information
We operate in one operating segment, cloud applications. Operating segments are defined as components of an enterprise where separate financial information is evaluated regularly by the chief operating decision maker, who is our chief executive officer, in deciding how to allocate resources and assessing performance. Our chief operating decision maker allocates resources and assesses performance based upon discrete financial information at the consolidated level.

7


Note 2. Accounting Standards and Significant Accounting Policies
Recently Adopted Accounting Pronouncements
ASU No. 2014-09
In May 2014, the Financial Accounting Standards Board ("FASB") issued ASU No. 2014-09, Revenue from Contracts with Customers ("Topic 606"). Topic 606 supersedes the revenue recognition requirements in Accounting Standards Codification ("ASC") Topic 605, Revenue Recognition ("Topic 605"), and requires the recognition of revenue when promised goods or services are transferred to customers in an amount that reflects the considerations to which the entity expects to be entitled to in exchange for those goods or services. Topic 606 also includes Subtopic 340-40, Other Assets and Deferred Costs - Contracts with Customers, which requires the deferral of incremental costs of obtaining a contract with a customer. Collectively, we refer to Topic 606 and Subtopic 340-40 as the "new standard."
We early adopted the requirements of the new standard as of February 1, 2017, utilizing the full retrospective method of transition. Adoption of the new standard resulted in changes to our accounting policies for revenue recognition, trade and other receivables, and deferred commissions as detailed below. We applied the new standard using a practical expedient where the consideration allocated to the remaining performance obligations or an explanation of when we expect to recognize that amount as revenue for all reporting periods presented before the date of the initial application is not disclosed.
The impact of adopting the new standard on our fiscal 2017 and fiscal 2016 revenues is not material. The primary impact of adopting the new standard relates to the deferral of incremental commission costs of obtaining subscription contracts. Under Topic 605, we deferred only direct and incremental commission costs to obtain a contract and amortized those costs over the term of the related subscription contract, which was generally between three and five years. Under the new standard, we defer all incremental commission costs to obtain the contract. We amortize these costs over a period of benefit that we have determined to be five years.
ASU No. 2016-09
In March 2016, the FASB issued ASU No. 2016-09, Improvements to Employee Share-Based Payment Accounting (Topic 718), which simplifies the accounting for share-based payment transactions, including accounting for income taxes, forfeitures, and classification in the statement of cash flows. As of February 1, 2017, we adopted the applicable provisions of ASU No. 2016-09 as follows:
The guidance requires excess tax benefits and tax deficiencies to be recorded as income tax benefit or expense in the statement of operations when the awards vest or are settled, and eliminates the requirement to reclassify cash flows related to excess tax benefits from operating activities to financing activities on the statement of cash flows. We adopted the guidance prospectively effective February 1, 2017. Amounts previously recorded to Additional paid-in capital related to windfall tax benefits prior to February 1, 2017 remain in Stockholders' equity.
The guidance eliminates the requirement that excess tax benefits must be realized (through a reduction in income taxes payable) before companies can recognize them. We have applied the modified retrospective transition method upon adoption. The previously unrecognized excess tax effects were recorded as a deferred tax asset in the amount of $448.0 million, of which $447.8 million was fully offset by a valuation allowance, and the remaining $0.2 million resulted in a cumulative-effect adjustment to Accumulated deficit as of February 1, 2017.
ASU No. 2016-18
In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows, Restricted Cash (Topic 230), which requires that a statement of cash flows explain the change during the period for the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. The guidance is effective for our fiscal year beginning February 1, 2018. We early adopted ASU No. 2016-18 retrospectively, effective February 1, 2017. As a result of including restricted cash with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts presented on the condensed consolidated statement of cash flows, net cash flows for the three months ended April 30, 2016 increased by $1 million.

8


We adjusted our condensed consolidated financial statements from amounts previously reported due to the adoption of ASU No. 2014-09 and ASU No. 2016-18. Select condensed consolidated balance sheet line items, which reflect the adoption of the new ASU's are as follows (in thousands):
 
January 31, 2017
 
As previously reported
 
Adjustments
 
 
 
As adjusted
Assets
 
 
 
 
 
 
 
Trade and other receivables, net
$
383,908

 
$
25,872

 
a
 
$
409,780

Prepaid expenses and other current assets
88,336

 
(21,746
)
 
a
 
66,590

Deferred costs
27,537

 
23,793

 
a
 
51,330

Deferred costs, noncurrent
43,310

 
73,939

 
a
 
117,249

Liabilities
 
 
 
 
 
 
 
Unearned revenue
$
1,097,417

 
$
(11,205
)
 
a
 
$
1,086,212

Unearned revenue, noncurrent
135,970

 
(639
)
 
a
 
135,331

Select unaudited condensed consolidated statement of operations line items, which reflect the adoption of the new ASUs are as follows (in thousands):
 
Three months ended April 30, 2016
 
As previously reported
 
Adjustments
 
 
 
As adjusted
Revenues:
 
 
 
 
 
 
 
Subscription services
$
280,003

 
$
165

 
a
 
$
280,168

Professional services
65,427

 
2,082

 
a
 
67,509

Total revenues
345,430

 
2,247

 
a
 
347,677

Costs and expenses:
 
 
 
 
 
 
 
Sales and marketing
127,491

 
128

 
a
 
127,619

Operating loss
(73,649
)
 
2,119

 
a
 
(71,530
)
Net loss
$
(80,622
)
 
$
2,119

 
a
 
$
(78,503
)
Net loss per share, basic and diluted
$
(0.41
)
 
$
0.01

 
a
 
$
(0.40
)
Select unaudited condensed consolidated statement of cash flows line items, which reflect the adoption of the new ASUs are as follows (in thousands):
 
Three months ended April 30, 2016
 
As previously reported
 
Adjustments
 
 
 
As adjusted
Cash flows from operating activities
 
 
 
 
 
 
 
Net loss
$
(80,622
)
 
$
2,119

 
a
 
$
(78,503
)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
 
 
 
 
 
 
 
Amortization of deferred costs
5,873

 
4,566

 
a
 
10,439

Changes in operating assets and liabilities:
 
 
 
 
 
 
 
Trade and other receivables, net
101,047

 
(2,728
)
 
a
 
98,319

Deferred costs
(4,788
)
 
(4,438
)
 
a
 
(9,226
)
Prepaid expenses and other assets
(776
)
 
3,164

 
a, b
 
2,388

Unearned revenue
26,269

 
(1,332
)
 
a
 
24,937

Net cash provided by (used in) operating activities
161,466

 
1,351

 
b
 
162,817

Net increase (decrease) in cash and cash equivalents
104,517

 
1,351

 
b
 
105,868

Cash, cash equivalents and restricted cash at the end of period
$
404,604

 
$
1,351

 
b
 
$
405,955


9


a
Adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers.
b
Adjusted to reflect the adoption of ASU No. 2016-18, Statement of Cash Flows, Restricted Cash.
Summary of Significant Accounting Policies
Except for the accounting policies for revenue recognition, trade and other receivables, and deferred commissions that were updated as a result of adopting ASU No. 2014-09, there have been no changes to our significant accounting policies described in the Annual Report on Form 10-K for the year ended January 31, 2017, filed with the SEC on March 20, 2017, that have had a material impact on our condensed consolidated financial statements and related notes.
Revenue Recognition
We derive our revenues primarily from subscription services and professional services. Revenues are recognized when control of these services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those services.
We determine revenue recognition through the following steps:
Identification of the contract, or contracts, with a customer
Identification of the performance obligations in the contract
Determination of the transaction price
Allocation of the transaction price to the performance obligations in the contract
Recognition of revenue when, or as, we satisfy a performance obligation
Subscription Services Revenues
Subscription services revenues primarily consist of fees that provide customers access to one or more of our cloud applications for finance, human resources, and analytics, with routine customer support. Revenue is generally recognized over time on a ratable basis over the contract term beginning on the date that our service is made available to the customer. Our subscription contracts are generally three years or longer in length, billed annually in advance, and non-cancelable.
Professional Services Revenues
Professional services revenues primarily consist of fees for deployment and optimization services, as well as training. The majority of our consulting contracts are billed on a time and materials basis and revenue is recognized over time as the services are performed. For contracts billed on a fixed price basis, revenue is recognized over time based on the proportion performed.
Contracts with Multiple Performance Obligations
Some of our contracts with customers contain multiple performance obligations. For these contracts, we account for individual performance obligations separately if they are distinct. The transaction price is allocated to the separate performance obligations on a relative standalone selling price basis. We determine the standalone selling prices based on our overall pricing objectives, taking into consideration market conditions and other factors, including the value of our contracts, the cloud applications sold, customer demographics, geographic locations, and the number and types of users within our contracts.
Trade and Other Receivables
Trade and other receivables are primarily comprised of trade receivables that are recorded at the invoice amount, net of an allowance for doubtful accounts, which is not material. Other receivables represent unbilled receivables related to subscription and professional services contracts.
Deferred Commissions
Sales commissions earned by our sales force are considered incremental and recoverable costs of obtaining a contract with a customer. These costs are deferred and then amortized over a period of benefit that we have determined to be five years. We determined the period of benefit by taking into consideration our customer contracts, our technology and other factors. Amortization expense is included in Sales and marketing expenses in the accompanying condensed consolidated statements of operations.

10


Recently Issued Accounting Pronouncements
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which requires the recognition of lease assets and lease liabilities on the balance sheet by lessees for those leases currently classified as operating leases under ASC Topic 840 Leases. The guidance is effective for our fiscal year beginning February 1, 2019. Early adoption is permitted. We are evaluating the accounting, transition and disclosure requirements of the standard and cannot currently estimate the financial statement impact of adoption.
In October 2016, the FASB issued ASU No. 2016-16, Intra-Entity Transfers of Assets Other Than Inventory (Topic 740), which requires entities to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. Prior to the issuance of this ASU, existing guidance prohibited the recognition of current and deferred income taxes for an intra-entity asset transfer until the asset had been sold to an outside party. The guidance is effective for our fiscal year beginning February 1, 2018. Early adoption is permitted. We are evaluating the accounting, transition and disclosure requirements of the standard and cannot currently estimate the financial statement impact of adoption.
Note 3. Marketable Securities
At April 30, 2017, marketable securities consisted of the following (in thousands):
 
Amortized Cost
 
Unrealized Gains
 
Unrealized Losses
 
Aggregate Fair Value
U.S. agency obligations
$
1,022,208

 
$
22

 
$
(1,067
)
 
$
1,021,163

U.S. treasury securities
254,523

 
2

 
(103
)
 
254,422

Corporate bonds
320,798

 
18

 
(367
)
 
320,449

Commercial paper
362,364

 

 

 
362,364

Money market funds
57,308

 

 

 
57,308

 
$
2,017,201

 
$
42

 
$
(1,537
)
 
$
2,015,706

Included in cash and cash equivalents
$
398,936

 
$

 
$

 
$
398,936

Included in marketable securities
$
1,618,265

 
$
42

 
$
(1,537
)
 
$
1,616,770

At January 31, 2017, marketable securities consisted of the following (in thousands):
 
Amortized Cost
 
Unrealized Gains
 
Unrealized Losses
 
Aggregate Fair Value
U.S. agency obligations
$
908,874

 
$
179

 
$
(535
)
 
$
908,518

U.S. treasury securities
192,028

 
48

 
(25
)
 
192,051

Corporate bonds
290,272

 
42

 
(429
)
 
289,885

Commercial paper
323,106

 

 

 
323,106

Money market funds
24,425

 

 

 
24,425

 
$
1,738,705

 
$
269

 
$
(989
)
 
$
1,737,985

Included in cash and cash equivalents
$
281,163

 
$

 
$

 
$
281,163

Included in marketable securities
$
1,457,542

 
$
269

 
$
(989
)
 
$
1,456,822

We do not believe the unrealized losses represent other-than-temporary impairments based on our evaluation of available evidence, which includes our intent to hold these investments to maturity as of April 30, 2017. No marketable securities held as of April 30, 2017 have been in a continuous unrealized loss position for more than 12 months. We classify our marketable securities as available-for-sale at the time of purchase and reevaluate such classification as of each balance sheet date. We consider all marketable securities as available for use in current operations, including those with maturity dates beyond one year, and therefore classify these securities as current assets in the accompanying condensed consolidated balance sheets. Marketable securities on the condensed consolidated balance sheets consist of securities with original maturities at the time of purchase greater than three months and the remainder of the securities are reflected in cash and cash equivalents. During the three months ended April 30, 2017 and 2016, we sold $9 million and $0.2 million, respectively, of our marketable securities and the realized gains from the sales are immaterial.

11


Note 4.    Fair Value Measurements
We measure our financial assets and liabilities at fair value at each reporting period using a fair value hierarchy that requires that we maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s classification within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. Three levels of inputs may be used to measure fair value:
Level 1 — Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2 — Other inputs that are directly or indirectly observable in the marketplace.
Level 3 — Unobservable inputs that are supported by little or no market activity.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The following table presents information about our assets and liabilities that are measured at fair value on a recurring basis and their assigned levels within the valuation hierarchy as of April 30, 2017 (in thousands):
Description
Level 1
 
Level 2
 
Level 3
 
Total
U.S. agency obligations
$

 
$
1,021,163

 
$

 
$
1,021,163

U.S. treasury securities
254,422

 

 

 
254,422

Corporate bonds

 
320,449

 

 
320,449

Commercial paper

 
362,364

 

 
362,364

Money market funds
57,308

 

 

 
57,308

Foreign currency derivative assets

 
6,934

 

 
6,934

Total assets
$
311,730

 
$
1,710,910

 
$

 
$
2,022,640

Foreign currency derivative liabilities
$

 
$
4,229

 
$

 
$
4,229

Total liabilities
$

 
$
4,229

 
$

 
$
4,229

The following table presents information about our assets and liabilities that are measured at fair value on a recurring basis and their assigned levels within the valuation hierarchy as of January 31, 2017 (in thousands):
Description
Level 1
 
Level 2
 
Level 3
 
Total
U.S. agency obligations
$

 
$
908,518

 
$

 
$
908,518

U.S. treasury securities
192,051

 

 

 
192,051

Corporate bonds

 
289,885

 

 
289,885

Commercial paper

 
323,106

 

 
323,106

Money market funds
24,425

 

 

 
24,425

Foreign currency derivative assets

 
7,909

 

 
7,909

Total assets
$
216,476

 
$
1,529,418

 
$

 
$
1,745,894

Foreign currency derivative liabilities
$

 
$
2,127

 
$

 
$
2,127

Total liabilities
$

 
$
2,127

 
$

 
$
2,127

Fair Value Measurements of Other Financial Instruments
The following table presents the carrying amounts and estimated fair values of our financial instruments that are not recorded at fair value in the condensed consolidated balance sheets (in thousands): 
 
April 30, 2017
 
January 31, 2017
 
Net Carrying Amount Before Unamortized Debt Issuance Costs
 
Estimated
Fair Value
 
Net Carrying Amount Before Unamortized Debt Issuance Costs
 
Estimated
Fair Value
0.75% Convertible senior notes
$
329,664

 
$
407,313

 
$
325,620

 
$
402,259

1.50% Convertible senior notes
215,586

 
311,480

 
213,180

 
310,470


12


The difference between the principal amount of the notes, $350 million for the 0.75% convertible senior notes and $250 million for the 1.50% convertible senior notes, and the net carrying amount before unamortized debt issuance costs represents the unamortized debt discount (see Note 10). The estimated fair value of the convertible senior notes, which we have classified as Level 2 financial instruments, was determined based on the quoted bid price of the convertible senior notes in an over-the-counter market on the last trading day of each reporting period.
Based on the closing price of our common stock of $87.40 on April 30, 2017, the if-converted value of the 0.75% convertible senior notes and the if-converted value of the 1.50% convertible senior notes were greater than their respective principal amounts.
Note 5. Deferred Costs
Deferred costs, which primarily consist of deferred sales commissions, were $166 million and $169 million as of April 30, 2017 and January 31, 2017, respectively. For the three months ended April 30, 2017 and 2016, amortization expense for the deferred costs was $14 million and $10 million, respectively, and there was no impairment loss in relation to the costs capitalized.
Note 6. Property and Equipment, Net
Property and equipment, net consisted of the following (in thousands):
 
April 30, 2017
 
January 31, 2017
Land
$
6,592

 
$
6,592

Buildings
144,657

 
115,302

Computers, equipment and software
344,875

 
323,311

Computers, equipment and software acquired under capital leases
16,830

 
18,298

Furniture and fixtures
26,552

 
24,462

Leasehold improvements
113,320

 
108,673

Property and equipment, gross (1)
652,826

 
596,638

Less accumulated depreciation and amortization
(248,724
)
 
(230,761
)
Property and equipment, net
$
404,102

 
$
365,877

(1)  
Property and equipment, gross includes construction-in-progress for owned real estate projects of $120 million and $115 million that has not yet been placed in service as of April 30, 2017 and January 31, 2017, respectively.
Depreciation expense totaled $27 million and $22 million for the three months ended April 30, 2017 and 2016, respectively.
Note 7. Acquisition-related Intangible Assets, Net
Acquisition-related intangible assets, net consisted of the following (in thousands):
 
April 30, 2017
 
January 31, 2017
Acquired developed technology
$
64,900

 
$
64,900

Customer relationship assets
1,000

 
1,000

 
65,900

 
65,900

Less accumulated amortization
(21,985
)
 
(17,113
)
Acquisition-related intangible assets, net
$
43,915

 
$
48,787

Amortization expense related to acquired developed technology and customer relationship assets was $5 million and $1 million for the three months ended April 30, 2017 and 2016, respectively.
As of April 30, 2017, our future estimated amortization expense related to acquired developed technology and customer relationship assets is as follows (in thousands):
Fiscal Period:
 
2018
$
14,414

2019
18,904

2020
10,281

2021
316

Total
$
43,915


13


Note 8. Other Assets
Other assets consisted of the following (in thousands):
 
April 30, 2017
 
January 31, 2017
Cost method investments
$
14,454

 
$
14,004

Acquired land leasehold interest, net
9,649

 
9,676

Deposits
4,024

 
3,488

Net deferred tax assets
3,784

 
4,336

Other
22,296

 
22,066

Total
$
54,207

 
$
53,570

Our cost method investments include investments in private companies in which we do not have the ability to exert significant influence. The investments are tested for impairment at least annually, and more frequently upon the occurrence of certain events.
Note 9. Derivative Instruments
Derivative Financial Instruments
We conduct business on a global basis in multiple foreign currencies, subjecting Workday to foreign currency risk. To mitigate this risk, we utilize hedging contracts as described below. We do not enter into any derivatives for trading or speculative purposes.
Our foreign currency contracts are classified within Level 2 of the fair value hierarchy because the valuation inputs are based on quoted prices and market observable data of similar instruments in active markets, such as currency spot and forward rates.
Cash Flow Hedges
We are exposed to foreign currency fluctuations resulting from customer contracts denominated in foreign currencies. We have a hedging program in which we enter into foreign currency forward contracts related to certain customer contracts. We designate these forward contracts as cash flow hedging instruments as the accounting criteria for such designation have been met. The effective portion of the gains or losses resulting from changes in the fair value of these hedges is recorded in Accumulated other comprehensive income (loss) ("OCI") on the condensed consolidated balance sheets and will be subsequently reclassified to the related revenue line item in the condensed consolidated statements of operations in the same period that the underlying revenues are earned. The changes in value of these contracts resulting from changes in forward points are excluded from the assessment of hedge effectiveness and are recorded as incurred in Other expense, net in the condensed consolidated statements of operations. Cash flows from such forward contracts are classified as operating activities.
As of April 30, 2017 and January 31, 2017, we had outstanding foreign currency forward contracts designated as cash flow hedges with total notional values of $325 million and $252 million, respectively. All contracts have maturities not greater than 25 months. The notional value represents the amount that will be bought or sold upon maturity of the forward contract.
During the three months ended April 30, 2017 and 2016, all cash flow hedges were considered effective.
Foreign Currency Forward Contracts not Designated as Hedges
We also enter into foreign currency forward contracts to hedge a portion of our net outstanding monetary assets and liabilities. These forward contracts are not designated as hedging instruments under applicable accounting guidance, and therefore all changes in the fair value of the forward contracts are recorded in Other expense, net in the condensed consolidated statements of operations. These forward contracts are intended to offset the foreign currency gains or losses associated with the underlying monetary assets and liabilities. Cash flows from such forward contracts are classified as operating activities.
As of April 30, 2017 and January 31, 2017, we had outstanding forward contracts with total notional values of $42 million and $51 million, respectively. All contracts have maturities not greater than 15 months.

14


The fair values of outstanding derivative instruments were as follows (in thousands):
 
 
Condensed Consolidated Balance Sheets Location
 
April 30, 2017
 
January 31, 2017
Derivative Assets:
 
 
 
 
 
 
Foreign currency forward contracts designated as cash flow hedges
 
Prepaid expenses and other current assets and Other assets
 
$
5,882

 
$
7,149

Foreign currency forward contracts not designated as hedges
 
Prepaid expenses and other current assets
 
1,052

 
760

Derivative Liabilities:
 
 
 
 
 
 
Foreign currency forward contracts designated as cash flow hedges
 
Accrued expenses and other current liabilities and Other liabilities
 
$
3,728

 
$
1,605

Foreign currency forward contracts not designated as hedges
 
Accrued expenses and other current liabilities
 
501

 
522

Gains (losses) associated with foreign currency forward contracts designated as cash flow hedges were as follows (in thousands):
 
 
Condensed Consolidated Statement of Operations and Statement of Comprehensive Loss Locations
 
Three Months Ended April 30,
 
 
 
2017
 
2016
Gains (losses) recognized in OCI (effective portion)(1)
 
Net change in market value of effective foreign currency forward exchange contracts
 
$
(975
)
 
$
(10,954
)
Gains (losses) reclassified from OCI into income (effective portion)
 
Revenues
 
234

 
110

Gains (losses) recognized in income (amount excluded from effectiveness testing and ineffective portion)
 
Other expense, net
 
623

 
151

(1) 
Of the total effective portion of foreign currency forward contracts designated as cash flow hedges as of April 30, 2017, net gains of $4 million are expected to be reclassified out of OCI within the next 12 months.
Gains (losses) associated with foreign currency forward contracts not designated as cash flow hedges were as follows (in thousands):
 
 
Condensed Consolidated Statement of Operations Location
 
Three Months Ended April 30,
Derivative Type
 
 
2017
 
2016
Foreign currency forward contracts not designated as hedges
 
Other expense, net
 
$
(6
)
 
$
(1,319
)
We are subject to master netting agreements with certain counterparties of the foreign exchange contracts, under which we are permitted to net settle transactions of the same currency with a single net amount payable by one party to the other. It is our policy to present the derivatives gross in the condensed consolidated balance sheets. Our foreign currency forward contracts are not subject to any credit contingent features or collateral requirements and we do not believe we are subject to significant counterparty concentration risk given the short-term nature, volume, and size of the derivative contracts outstanding.

15


As of April 30, 2017, information related to these offsetting arrangements was as follows (in thousands):
 
 
Gross Amounts of Recognized Assets
 
Gross Amounts Offset in the Condensed Consolidated Balance Sheets
 
Net Amounts of Assets Presented in the Condensed Consolidated Balance Sheets
 
Gross Amounts Not Offset in the Condensed Consolidated Balance Sheets
 
Net Assets Exposed
 
 
 
 
 
Financial Instruments
 
Cash Collateral Received
 
Derivative Assets:
 
 
 
 
 
 
 
 
 
 
 
 
Counterparty A
 
$
1,081

 
$

 
$
1,081

 
$
(1,081
)
 
$

 
$

Counterparty B
 
5,827

 

 
5,827

 
(2,720
)
 

 
3,107

Counterparty C
 
2

 

 
2

 

 

 
2

Counterparty D
 
24

 

 
24

 

 

 
24

Total
 
$
6,934

 
$

 
$
6,934

 
$
(3,801
)
 
$

 
$
3,133

 
 
Gross Amounts of Recognized Liabilities
 
Gross Amounts Offset in the Condensed Consolidated Balance Sheets
 
Net Amounts of Liabilities Presented in the Condensed Consolidated Balance Sheets
 
Gross Amounts Not Offset in the Condensed Consolidated Balance Sheets
 
Net Liabilities Exposed
 
 
 
 
 
Financial Instruments
 
Cash Collateral Pledged
 
Derivative Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Counterparty A
 
$
1,509

 
$

 
$
1,509

 
$
(1,081
)
 
$

 
$
428

Counterparty B
 
2,720

 

 
2,720

 
(2,720
)
 

 

Total
 
$
4,229

 
$

 
$
4,229

 
$
(3,801
)
 
$

 
$
428

Note 10. Convertible Senior Notes, Net
Convertible Senior Notes
In June 2013, we issued 0.75% convertible senior notes due July 15, 2018 ("2018 Notes") with a principal amount of $350 million. The 2018 Notes are unsecured, unsubordinated obligations, and interest is payable in cash in arrears at a fixed rate of 0.75% on January 15 and July 15 of each year. The 2018 Notes mature on July 15, 2018 unless repurchased or converted in accordance with their terms prior to such date. We cannot redeem the 2018 Notes prior to maturity.
Concurrently, we issued 1.50% convertible senior notes due July 15, 2020 ("2020 Notes") with a principal amount of $250 million (together with the 2018 Notes, referred to as "the Notes"). The 2020 Notes are unsecured, unsubordinated obligations, and interest is payable in cash in arrears at a fixed rate of 1.50% on January 15 and July 15 of each year. The 2020 Notes mature on July 15, 2020 unless repurchased or converted in accordance with their terms prior to such date. We cannot redeem the 2020 Notes prior to maturity.
The terms of the Notes are governed by Indentures by and between us and Wells Fargo Bank, National Association, as Trustee ("the Indentures"). Upon conversion, holders of the Notes will receive cash, shares of Class A common stock or a combination of cash and shares of Class A common stock, at our election.
For the 2018 Notes, the initial conversion rate is 12.0075 shares of Class A common stock per $1,000 principal amount, which is equal to an initial conversion price of approximately $83.28 per share of Class A common stock, subject to adjustment. Prior to the close of business on March 14, 2018, the conversion is subject to the satisfaction of certain conditions as described below. For the 2020 Notes, the initial conversion rate is 12.2340 shares of Class A common stock per $1,000 principal amount, which is equal to an initial conversion price of approximately $81.74 per share of Class A common stock, subject to adjustment. Prior to the close of business on March 13, 2020, the conversion is subject to the satisfaction of certain conditions, as described below.
Holders of the Notes who convert their Notes in connection with certain corporate events that constitute a make-whole fundamental change (as defined in the Indentures) are, under certain circumstances, entitled to an increase in the conversion rate. Additionally, in the event of a corporate event that constitutes a fundamental change (as defined in the Indentures), holders of the Notes may require us to repurchase all or a portion of their Notes at a price equal to 100% of the principal amount of the Notes, plus any accrued and unpaid interest.

16


Holders of the Notes may convert all or a portion of their Notes prior to the close of business on March 14, 2018 for the 2018 Notes and March 13, 2020 for the 2020 Notes, in multiples of $1,000 principal amount, only under the following circumstances:
if the last reported sale price of Class A common stock for at least twenty trading days during a period of thirty consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price of the respective Notes on each applicable trading day;
during the five business day period after any five consecutive trading day period in which the trading price per $1,000 principal amount of the respective Notes for each day of that five day consecutive trading day period was less than 98% of the product of the last reported sale price of Class A common stock and the conversion rate of the respective Notes on such trading day; or
upon the occurrence of specified corporate events, as noted in the Indentures.
In accounting for the issuance of the Notes, we separated each of the Notes into liability and equity components. The carrying amounts of the liability components were calculated by measuring the fair value of similar liabilities that do not have associated convertible features. The carrying amount of the equity components representing the conversion option were determined by deducting the fair value of the liability components from the par value of the respective Notes. These differences represent debt discounts that are amortized to interest expense over the respective terms of the Notes. The equity components are not remeasured as long as they continue to meet the conditions for equity classification.
We allocated the total issuance costs incurred to the Notes on a prorated basis using the aggregate principal balances. In accounting for the issuance costs related to the Notes, we allocated the total amount of issuance costs incurred to liability and equity components. Issuance costs attributable to the liability components are being amortized to interest expense over the respective terms of the Notes, and the issuance costs attributable to the equity components were netted against the respective equity components in Additional paid-in capital. For the 2018 Notes, we recorded liability issuance costs of $7 million and equity issuance costs of $2 million. Amortization expense for the liability issuance costs was $0.4 million for each of the three month periods ended April 30, 2017 and 2016. For the 2020 Notes, we recorded liability issuance costs of $5 million and equity issuance costs of $2 million. Amortization expense for the liability issuance costs was $0.2 million for each of the three month periods ended April 30, 2017 and 2016.
The Notes, net consisted of the following (in thousands):
 
April 30, 2017
 
January 31, 2017
 
2018 Notes
 
2020 Notes
 
2018 Notes
 
2020 Notes
Principal amounts:
 
 
 
 
 
 
 
    Principal
$
350,000

 
$
250,000

 
$
350,000

 
$
250,000

    Unamortized debt discount(1)
(20,336
)
 
(34,414
)
 
(24,380
)
 
(36,820
)
Net carrying amount before unamortized debt issuance costs
329,664

 
215,586

 
325,620

 
213,180

    Unamortized debt issuance costs(1)
(1,698
)
 
(2,159
)
 
(2,050
)
 
(2,327
)
Net carrying amount
$
327,966

 
$
213,427

 
$
323,570

 
$
210,853

Carrying amount of the equity component(2)
$
74,892

 
$
66,007

 
$
74,892

 
$
66,007

(1) 
Included in the condensed consolidated balance sheets within Convertible senior notes, net and amortized over the remaining lives of the Notes on a straight-line basis as it approximates the effective interest rate method.
(2) 
Included in the condensed consolidated balance sheets within Additional paid-in capital, net of $2 million and $2 million for the 2018 Notes and 2020 Notes, respectively, in equity issuance costs.
As of April 30, 2017, the remaining life of the 2018 Notes and 2020 Notes is approximately 14 months and 38 months, respectively.

17


The effective interest rates of the liability components of the 2018 Notes and 2020 Notes are 5.75% and 6.25%, respectively. These interest rates were based on the interest rates of similar liabilities at the time of issuance that did not have associated convertible features. The following table sets forth total interest expense recognized related to the Notes (in thousands):
 
Three Months Ended April 30,
 
2017
 
2016
 
2018
Notes
 
2020
Notes
 
2018
Notes
 
2020
Notes
Contractual interest expense
$
656

 
$
938

 
$
656

 
$
938

Interest cost related to amortization of debt issuance costs
352

 
168

 
352

 
167

Interest cost related to amortization of the debt discount
4,044

 
2,406

 
3,819

 
2,261

Notes Hedges
In connection with the issuance of the Notes, we entered into convertible note hedge transactions with respect to our Class A common stock ("Purchased Options"). The Purchased Options cover, subject to anti-dilution adjustments substantially identical to those in the Notes, approximately 7.3 million shares of our Class A common stock and are exercisable upon conversion of the Notes. The Purchased Options have initial exercise prices that correspond to the initial conversion prices of the 2018 Notes and 2020 Notes, respectively, subject to anti-dilution adjustments substantially similar to those in the Notes. The Purchased Options will expire in 2018 for the 2018 Notes and in 2020 for the 2020 Notes, if not earlier exercised. The Purchased Options are intended to offset potential economic dilution to our Class A common stock upon any conversion of the Notes. The Purchased Options are separate transactions and are not part of the terms of the Notes.
We paid an aggregate amount of $144 million for the Purchased Options, which is included in Additional paid-in capital in the condensed consolidated balance sheets.
Warrants
In connection with the issuance of the Notes, we also entered into warrant transactions to sell warrants ("the Warrants") to acquire, subject to anti-dilution adjustments, up to approximately 4.2 million shares in July 2018 and 3.1 million shares in July 2020 of our Class A common stock at an exercise price of $107.96 per share. If the Warrants are not exercised on their exercise dates, they will expire. If the market value per share of our Class A common stock exceeds the applicable exercise price of the Warrants, the Warrants will have a dilutive effect on our earnings per share assuming that we are profitable. The Warrants are separate transactions, and are not part of the terms of the Notes or the Purchased Options.
We received aggregate proceeds of $93 million from the sale of the Warrants, which is recorded in Additional paid-in capital in the condensed consolidated balance sheets.
Note 11. Commitments and Contingencies
Facility and Computing Infrastructure-related Commitments
We have entered into non-cancelable agreements for certain of our offices and data centers with various expiration dates. Certain of our office leases are with an affiliate of our Chairman, David Duffield, who is also a significant stockholder (see Note 17). Our operating lease agreements generally provide for rental payments on a graduated basis and for options to renew, which could increase future minimum lease payments if exercised. This includes payments for office and data center square footage, as well as data center power capacity for certain data centers. We generally recognize these expenses on a straight-line basis over the period in which we benefit from the lease and we have accrued for rent expense incurred but not paid. Total rent expense was $19 million and $17 million for the three months ended April 30, 2017 and 2016, respectively.
In January 2014, we entered into a 95-year lease for a 6.9-acre parcel of vacant land in Pleasanton, California, under which we paid $2 million for base rent from commencement through December 31, 2020. Annual rent payments of $0.2 million plus increases based on increases in the consumer price index begin on January 1, 2021 and continue through the end of the lease.
Additionally, we have entered into a non-cancelable agreement with a computing infrastructure vendor that expires on October 31, 2024.

18


Legal Matters
We are a party to various legal proceedings and claims which arise in the ordinary course of business. We make a provision for a liability relating to legal matters when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impacts of negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular matter. In our opinion, as of April 30, 2017, there was not at least a reasonable possibility that we had incurred a material loss, or a material loss in excess of a recorded accrual, with respect to such loss contingencies.
Note 12. Common Stock and Stockholders’ Equity
Common Stock
As of April 30, 2017, there were 131 million shares of Class A common stock and 75 million shares of Class B common stock outstanding. The rights of the holders of Class A common stock and Class B common stock are identical, except with respect to voting and conversion. Each share of Class A common stock is entitled to one vote per share and each share of Class B common stock is entitled to ten votes per share. Each share of Class B common stock can be converted into a share of Class A common stock at any time at the option of the holder.
Employee Equity Plans
Our 2012 Equity Incentive Plan ("EIP") serves as the successor to our 2005 Stock Plan (together with the EIP, the "Stock Plans"). Pursuant to the terms of the EIP, the share reserve increased by 10 million shares in March 2017, and as of April 30, 2017, we had approximately 62 million shares of Class A common stock available for future grants.
We also have a 2012 Employee Stock Purchase Plan ("ESPP"). Under the ESPP, eligible employees are granted options to purchase shares at the lower of 85% of the fair market value of the stock at the time of grant or 85% of the fair market value at the time of exercise. Options to purchase shares are granted twice yearly on or about June 16 and December 16 and exercisable on or about the succeeding December 15 and June 15, respectively, of each year. Pursuant to the terms of the ESPP, the share reserve increased by 2 million shares in March 2017. As of April 30, 2017, 8 million shares of Class A common stock were available for issuance under the ESPP.
Stock Options
The Stock Plans provide for the issuance of incentive and nonstatutory options to employees and non-employees. Options issued under the Stock Plans generally are exercisable for periods not to exceed 10 years and generally vest over five years. A summary of information related to stock option activity during the three months ended April 30, 2017 is as follows:
 
Outstanding
Stock
Options
 
Weighted-
Average
Exercise
Price
 
Aggregate
Intrinsic
Value (in millions)
Balance as of January 31, 2017
9,096,592

 
$
4.34

 
$
716

Stock option grants

 

 
 
Stock options exercised
(625,290
)
 
3.60

 
 
Stock options canceled
(3,575
)
 
9.08

 
 
Balance as of April 30, 2017
8,467,727

 
$
4.39

 
$
703

Vested and expected to vest as of April 30, 2017
8,465,367

 
$
4.39

 
$
703

Exercisable as of April 30, 2017
8,364,499

 
$
4.32

 
$
695

As of April 30, 2017, there was a total of $2 million in unrecognized compensation cost related to unvested stock options which is expected to be recognized over a weighted-average period of approximately 6 months.

19


Restricted Stock Units
The Stock Plans provide for the issuance of restricted stock units ("RSUs") to employees. RSUs generally vest over four years. A summary of information related to RSU activity during the three months ended April 30, 2017 is as follows: 
 
Number of  Shares
 
Weighted-Average
Grant Date Fair Value
Balance as of January 31, 2017
11,502,721

 
$
78.45

RSUs granted
5,726,171

 
83.77

RSUs vested
(1,987,516
)
 
76.70

RSUs forfeited
(272,289
)
 
71.93

Balance as of April 30, 2017
14,969,087

 
$
80.84

As of April 30, 2017, there was a total of $1.1 billion in unrecognized compensation cost related to unvested RSUs, which is expected to be recognized over a weighted-average period of approximately 3.1 years.
Performance-based Restricted Stock Units
During fiscal 2017, 0.3 million shares of performance-based restricted stock units ("PRSUs") were granted to all employees other than executive management and included performance conditions related to company-wide goals and service conditions. These performance conditions were met and the PRSUs vested on March 15, 2017. During the three months ended April 30, 2017, we recognized $6 million in compensation cost related to these PRSUs.
Note 13. Unearned Revenue and Performance Obligations
$361 million and $251 million of subscription services revenue was recognized during the three months ended April 30, 2017 and 2016, respectively, that was included in the unearned revenue balances at the beginning of the respective periods. Professional services revenue recognized in the same periods from unearned revenue balances at the beginning of the respective periods was not material.
Transaction Price Allocated to the Remaining Performance Obligations
As of April 30, 2017, approximately $4.0 billion of revenue is expected to be recognized from remaining performance obligations for subscription contracts. We expect to recognize revenue on approximately two thirds of these remaining performance obligations over the next 24 months, with the balance recognized thereafter. Revenue from remaining performance obligations for professional services contracts as of April 30, 2017 was not material.
Note 14. Other Expense, Net
Other expense, net consisted of the following (in thousands):
 
Three Months Ended April 30,
 
2017
 
2016
Interest income
$
4,029

 
$
2,214

Interest expense (1)
(6,986
)
 
(8,031
)
Other income (expense)
1,294

 
(21
)
Other expense, net
$
(1,663
)
 
$
(5,838
)
(1) 
Interest expense includes the contractual interest expense related to the 2018 Notes and 2020 Notes and non-cash interest related to amortization of the debt discount and debt issuance costs (see Note 10).

20


Note 15. Income Taxes
We compute the year-to-date income tax provision by applying the estimated annual effective tax rate to the year-to-date pre-tax income or loss and adjust for discrete tax items in the period. We reported a tax expense of $2 million and $1 million for the three months ended April 30, 2017 and 2016, respectively. The income tax provision for each of the three month periods ended April 30, 2017 and 2016 was primarily attributable to state taxes and income tax expense in profitable foreign jurisdictions.
We are subject to income tax audits in the U.S. and foreign jurisdictions. We record liabilities related to uncertain tax positions and believe that we have provided adequate reserves for income tax uncertainties in all open tax years. Due to our history of tax losses, all years remain open to tax audit.
We periodically evaluate the realizability of our net deferred tax assets based on all available evidence, both positive and negative. The realization of net deferred tax assets is dependent on our ability to generate sufficient future taxable income during periods prior to the expiration of tax attributes to fully utilize these assets. As of April 30, 2017, we intend to continue maintaining a full valuation allowance on our deferred tax assets except for certain jurisdictions.
Note 16. Net Loss Per Share
Basic net loss per share attributable to common stockholders is computed by dividing the net loss attributable to common stockholders by the weighted-average number of shares of common stock outstanding during the period. Diluted net loss per share is computed by giving effect to all potential shares of common stock, including our outstanding stock options, outstanding warrants, common stock related to unvested early exercised stock options, common stock related to unvested restricted stock units and awards and convertible senior notes to the extent dilutive, and common stock issuable pursuant to the ESPP. Basic and diluted net loss per share was the same for each period presented, as the inclusion of all potential common shares outstanding would have been anti-dilutive.
The net loss per share attributable to common stockholders is allocated based on the contractual participation rights of the Class A common shares and Class B common shares as if the loss for the year had been distributed. As the liquidation and dividend rights are identical, the net loss attributable to common stockholders is allocated on a proportionate basis.
We consider shares issued upon the early exercise of options subject to repurchase and unvested restricted stock awards to be participating securities because holders of such shares have non-forfeitable dividend rights in the event of our declaration of a dividend for common shares. In future periods, to the extent we are profitable, we will subtract earnings allocated to these participating securities from net income to determine net income attributable to common stockholders.
The following table presents the calculation of basic and diluted net loss attributable to common stockholders per share (in thousands, except per share data):
 
Three Months Ended April 30,
 
2017
 
2016
 
 
* As Adjusted
 
Class A
 
Class B
 
Class A
 
Class B
Net loss per share, basic and diluted:
 
 
 
 
 
 
 
Numerator:
 
 
 
 
 
 
 
Allocation of distributed net loss
$
(40,599
)
 
$
(23,445
)
 
$
(47,433
)
 
$
(31,070
)
Denominator:
 
 
 
 
 
 
 
Weighted-average common shares outstanding
129,206

 
74,612

 
117,537

 
76,992

Basic and diluted net loss per share
$
(0.31
)
 
$
(0.31
)
 
$
(0.40
)
 
$
(0.40
)
*
Adjusted to reflect adoption of ASU No. 2014-09, Revenue from Contracts with Customers. For further information, see Note 2.


21


The anti-dilutive securities excluded from the weighted-average shares used to calculate the diluted net loss per common share were as follows (in thousands):
 
Three Months Ended April 30,
 
2017
 
2016
Outstanding common stock options
8,468

 
11,843

Shares subject to repurchase
70

 
492

Unvested restricted stock awards, units, and PRSUs
15,133

 
13,214

Shares related to the convertible senior notes
7,261

 
7,261

Shares subject to warrants related to the issuance of convertible senior notes
7,261

 
7,261

Shares issuable pursuant to the ESPP
485

 
314

 
38,678

 
40,385

Note 17. Related Party Transactions
We currently lease certain office space from an affiliate of our Chairman, Mr. Duffield, adjacent to our corporate headquarters in Pleasanton, California under various lease agreements. The average term of the agreements is 10 years and the total rent due under the agreements is $9 million for the fiscal year ended January 31, 2018, and $91 million in total. Rent expense under these agreements was $2 million for each of the three month periods ended April 30, 2017 and 2016.
Note 18. Geographic Information
Disaggregation of Revenue
We sell our subscription contracts and related services in two primary geographical markets: to customers located in the United States, and to customers located outside of the United States. Revenue by geography is generally based on the address of the customer as specified in our master subscription agreement. The following table sets forth revenue by geographic area (in thousands):
 
Three Months Ended April 30,
 
2017
 
2016
 
 
*As Adjusted
United States
$
383,171

 
$
286,349

Other countries
96,690

 
61,328

Total
$
479,861

 
$
347,677

*
Adjusted to reflect adoption of ASU No. 2014-09, Revenue from Contracts with Customers. For further information, see Note 2.
No single country other than the United States had revenues greater than 10% of total revenues for the three months ended April 30, 2017 and 2016. No customer individually accounted for more than 10% of our trade and other receivables, net as of April 30, 2017 or January 31, 2017.
Long-Lived Assets
We attribute our long-lived assets, which primarily consist of property and equipment, to a country based on the physical location of the assets. The following table sets forth property and equipment by geographic area (in thousands):
 
April 30, 2017
 
January 31, 2017
United States
$
356,186

 
$
321,442

Ireland
39,356

 
35,720

Other countries
8,560

 
8,715

Total
$
404,102

 
$
365,877


22


SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements. All statements contained in this report other than statements of historical fact, including statements regarding our future results of operations and financial position, our business strategy and plans, and our objectives for future operations, are forward-looking statements. The words "believe," "may," "will," "estimate," "continue," "anticipate," "intend," "expect," "seek," "plan," and similar expressions are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and trends that we believe may affect our financial condition, results of operations, business strategy, short-term and long-term business operations and objectives, and financial needs. These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described in the "Risk Factors" section. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and trends discussed in this report may not occur and actual results could differ materially and adversely from those anticipated or implied by the forward-looking statements.
You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activities, performance, or achievements. We are under no duty to update any of these forward-looking statements after the date of this report or to conform these statements to actual results or revised expectations.
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 notes thereto included elsewhere in this report. The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this report, as well as in the section entitled "Risk Factors."
Overview
Workday provides financial management, human capital management, and analytics applications designed for the world's largest companies, educational institutions, and government agencies. We offer innovative and adaptable technology focused on the consumer Internet experience and cloud delivery model. Our applications are designed for global enterprises to manage complex and dynamic operating environments. We provide our customers highly adaptable, accessible and reliable applications to manage critical business functions that enable them to optimize their financial and human capital resources.
We were founded in 2005 to deliver cloud applications to global enterprises. Our applications are designed around the way people work today—in an environment that is global, collaborative, fast-paced and mobile. Our cycle of frequent updates has facilitated rapid innovation and the introduction of new applications throughout our history. We began offering our Human Capital Management ("HCM") application in 2006, and our Financial Management application in 2007. Since then we have continued to invest in innovation and have consistently introduced new services to our customers.
We offer Workday applications to our customers on an enterprise-wide subscription basis, typically with three-year or longer terms and with subscription fees largely based on the size of the customer’s workforce. We generally recognize revenues from subscription fees ratably over the term of the contract. We currently derive a substantial majority of our subscription services revenues from subscriptions to our HCM application. We market our applications through our direct sales force.
Our diverse customer base includes medium-sized and large, global companies, and our direct sales force generally targets organizations with more than 1,000 workers. We have achieved significant growth in a relatively short period of time with a substantial amount of our growth coming from new customers. Our current financial focus is on growing our revenues and expanding our customer base. While we are incurring losses today, we strive to invest in a disciplined manner across all of our functional areas to sustain continued near-term revenue growth and support our long-term initiatives. Our operating expenses have increased significantly in absolute dollars in recent periods, primarily due to the significant growth of our employee population. We had approximately 6,900 and approximately 5,600 employees as of April 30, 2017 and 2016, respectively.

23


We intend to continue investing for long-term growth. We have invested, and expect to continue to invest, heavily in our application development efforts to deliver additional compelling applications and to address customers’ evolving needs. In addition, we plan to continue to expand our ability to sell our applications globally, particularly in Europe and Asia, by investing in product development and customer support to address the business needs of local markets, increasing our sales and marketing organizations, acquiring, building and/or leasing additional office space, and expanding our ecosystem of services partners to support local deployments. We expect to make further significant investments in our data center infrastructure as we plan for future growth. We are also investing in personnel to service our growing customer base. These investments will increase our costs on an absolute basis in the near-term. Many of these investments will occur in advance of experiencing any direct benefit from them and will make it difficult to determine if we are allocating our resources efficiently. We expect our product development, sales and marketing, and general and administrative expenses as a percentage of total revenues to decrease over time as we grow our revenues, and we anticipate that we will gain economies of scale by increasing our customer base without direct incremental development costs and by utilizing more of the capacity of our data centers.
Since inception, we have invested heavily in our professional services organization to help ensure that customers successfully deploy and adopt our applications. Additionally, we continue to expand our professional services partner ecosystem to further support our customers. We believe our investment in professional services, as well as partners building consulting practices around Workday, will drive additional customer subscriptions and continued growth in revenues. Due to the expanding partner ecosystem, we expect that the rate of professional services revenue growth will decline over time and continue to be lower than subscription revenue growth.
Components of Results of Operations
Revenues
We primarily derive our revenues from subscription services and professional services. Subscription services revenues primarily consist of fees that give our customers access to our cloud applications, which include related customer support. Professional services fees include deployment services, optimization services, and training.
Subscription services revenues accounted for 83% of our total revenues during the three months ended April 30, 2017 and represented 97% of our total unearned revenue as of April 30, 2017. Subscription services revenues are driven primarily by the number of customers, the number of workers at each customer, the specific applications subscribed to by each customer, and the price of our applications.
The mix of the applications to which a customer subscribes can affect our financial performance due to price differentials in our applications. Pricing for our applications varies based on many factors, including the maturity of the application and its acceptance in the marketplace. New products or services offerings by competitors in the future could also impact the mix and pricing of our offerings.
Subscription services revenues are recognized over time as they are delivered and consumed concurrently over the contractual term, beginning on the date our service is made available to the customer. Our subscription contracts typically have a term of three years or longer and are generally non-cancelable. We generally invoice our customers annually in advance. Amounts that have been invoiced are initially recorded as unearned revenue.
The majority of our consulting engagements are billed on a time and materials basis, and revenues are typically recognized over time as the services are performed. In some cases, we supplement our consulting teams by subcontracting resources from our service partners and deploying them on customer engagements. As our professional services organization and the Workday-related consulting practices of our partner firms continue to develop, we expect the partners to increasingly contract directly with our subscription customers. As a result of this trend, and the increase of our subscription services revenues, we expect professional services revenues as a percentage of total revenues to decline over time.
Costs and Expenses
Costs of subscription services revenues. Costs of subscription services revenues consist primarily of employee-related expenses related to hosting our applications and providing customer support, the costs of data center capacity, and depreciation of computer equipment and software.
Costs of professional services revenues. Costs of professional services revenues consist primarily of employee-related expenses associated with these services, the cost of subcontractors and travel.
Product development. Product development expenses consist primarily of employee-related costs. We continue to focus our product development efforts on adding new features and applications, increasing the functionality and enhancing the ease of use of our cloud applications.

24


Sales and marketing. Sales and marketing expenses consist primarily of employee-related costs, sales commissions, marketing programs and travel. Marketing programs consist of advertising, events, corporate communications, brand building and product marketing activities. Sales commissions are considered incremental costs of obtaining a contract with a customer and are deferred and amortized over the period of benefit that we have determined to be five years.
General and administrative. General and administrative expenses consist of employee-related costs for finance and accounting, legal, human resources and management information systems personnel, professional fees and other corporate expenses.
Results of Operations
Revenues
Our total revenues for the three months ended April 30, 2017 and 2016 were as follows (in thousands, except percentages): 
 
Three Months Ended April 30,
 
 
 
2017
 
2016
 
% Change
 
 
*As Adjusted
 
Revenues:
 
 
 
 
 
Subscription services
$
399,736

 
$
280,168

 
43%
Professional services
80,125

 
67,509

 
19%
Total revenues
$
479,861

 
$
347,677

 
38%
*
See Note 2 of the notes to the condensed consolidated financial statements for a summary of adjustments.
Total revenues were $480 million for the three months ended April 30, 2017, compared to $348 million during the prior year period, an increase of $132 million, or 38%. Subscription services revenues were $400 million for the three months ended April 30, 2017, compared to $280 million for the prior year period, an increase of $120 million, or 43%. The increase in subscription services revenues was due primarily to an increased number of customer contracts as compared to the prior year period. Professional services revenues were $80 million for the three months ended April 30, 2017, compared to $68 million for the prior year period, an increase of $12 million, or 19%. The increase in professional services revenues was due primarily to the addition of new customers and a greater number of customers requesting deployment and integration services.
Operating Expenses
GAAP operating expenses were $540 million for the three months ended April 30, 2017, compared to $419 million for the prior year period, an increase of $121 million, or 29%. The increases were primarily due to an increase of $93 million in employee-related costs driven by higher headcount and $9 million in depreciation and amortization expense.
We use the non-GAAP financial measure of non-GAAP operating expenses to understand and compare operating results across accounting periods, for internal budgeting and forecasting purposes, for short- and long-term operating plans, and to evaluate our financial performance and the ability of operations to generate cash. We believe that non-GAAP operating expenses reflect our ongoing business in a manner that allows for meaningful period-to-period comparisons and analysis of trends in our business, as they exclude expenses that are not reflective of ongoing operating results. We also believe that non-GAAP operating expenses provide useful information to investors and others in understanding and evaluating our operating results and future prospects in the same manner as management and in comparing financial results across accounting periods and to those of peer companies.
Non-GAAP operating expenses are calculated by excluding share-based compensation expenses, and certain other expenses, which consist of employer payroll tax-related items on employee stock transactions and amortization of acquisition-related intangible assets.
Non-GAAP operating expenses were $419 million for the three months ended April 30, 2017, compared to $334 million for the prior year period, an increase of $85 million, or 25%. The increases were primarily due to an increase of $60 million in employee-related costs driven by higher headcount, $5 million in facility and IT-related expenses, $5 million in depreciation and amortization expense and $4 million in service contracts expense to expand data center capacity.

25


Reconciliations of our GAAP to non-GAAP operating expenses were as follows (in thousands):
 
Three Months Ended April 30, 2017
 
GAAP
Operating
Expenses
 
Share-Based
Compensation
Expenses(1)
 
Other
Operating
Expenses(2)
 
Non-GAAP
Operating
Expenses(3)
Costs of subscription services
$
59,798

 
$
(5,691
)
 
$
(546
)
 
$
53,561

Costs of professional services
76,913

 
(8,021
)
 
(906
)
 
67,986

Product development
196,439

 
(51,029
)
 
(8,962
)
 
136,448

Sales and marketing
155,709

 
(23,159
)
 
(1,674
)
 
130,876

General and administrative
51,202

 
(19,888
)
 
(1,318
)
 
29,996

Total costs and expenses
$
540,061

 
$
(107,788
)
 
$
(13,406
)
 
$
418,867

 
 
Three Months Ended April 30, 2016
 
GAAP
Operating
Expenses
*As Adjusted
 
Share-Based
Compensation
Expenses (1)
 
Other
Operating
Expenses (2)
 
Non-GAAP
Operating
Expenses(3)
*As Adjusted
Costs of subscription services
$
49,200

 
$
(4,397
)
 
$
(319
)
 
$
44,484

Costs of professional services
59,427

 
(5,293
)
 
(490
)
 
53,644

Product development
141,778

 
(32,968
)
 
(3,794
)
 
105,016

Sales and marketing
127,619

 
(19,002
)
 
(1,090
)
 
107,527

General and administrative
41,183

 
(16,575
)
 
(812
)
 
23,796

Total costs and expenses
$
419,207

 
$
(78,235
)
 
$
(6,505
)
 
$
334,467

(1) 
Share-based compensation expenses were $108 million and $78 million for the three months ended April 30, 2017 and 2016, respectively. The increase in share-based compensation expenses was primarily due to grants of RSUs to existing and new employees.
(2) 
Other operating expenses include employer payroll tax-related items on employee stock transactions of $8 million and $5 million for the three months ended April 30, 2017 and 2016, respectively. In addition, other operating expenses included amortization of acquisition-related intangible assets of $5 million and $1 million for the three months ended April 30, 2017 and 2016.
(3) 
See "Non-GAAP Financial Measures" below for further information.
*
See Note 2 of the notes to the condensed consolidated financial statements for a summary of adjustments.
Costs of Subscription Services
See the table above for a reconciliation of GAAP to non-GAAP operating expenses.
GAAP operating expenses in costs of subscription services were $60 million for the three months ended April 30, 2017, compared to $49 million for the prior year period, an increase of $11 million, or 22%. The increase was primarily due to increases of $5 million in employee-related costs driven by higher headcount, $3 million in depreciation expense related to our data centers, and $2 million in facility and IT-related expenses.
Non-GAAP operating expenses in costs of subscription services were $54 million for the three months ended April 30, 2017, compared to $44 million for the prior year period, an increase of $10 million, or 23%. The increase was primarily due to increases of $3 million in employee-related costs driven by higher headcount, $3 million in depreciation expense related to our data centers, and $2 million in facility and IT-related expenses.
We expect that GAAP and non-GAAP operating expenses in costs of subscription services will continue to increase in absolute dollars as we improve and expand our data center capacity and operations.
Costs of Professional Services
See the table above for a reconciliation of GAAP to non-GAAP operating expenses.
GAAP operating expenses in costs of professional services were $77 million for the three months ended April 30, 2017, compared to $59 million for the prior year period, an increase of $18 million, or 31%. The increase was primarily due to additional costs of $15 million to staff our deployment and integration engagements.

26


Non-GAAP operating expenses in costs of professional services were $68 million for the three months ended April 30, 2017, compared to $54 million for the prior year period, an increase of $14 million, or 26%. The increase was primarily due to additional costs of $12 million to staff our deployment and integration engagements.
Going forward, we expect GAAP and non-GAAP costs of professional services as a percentage of total revenues to continue to decline as we increasingly rely on our service partners to deploy our applications and as the number of our customers continues to grow. For fiscal 2018, we anticipate GAAP and non-GAAP professional services margins to be lower than fiscal 2017 as we invest in programs to ensure ongoing customer success.
Product Development
See the table above for a reconciliation of GAAP to non-GAAP operating expenses.
GAAP operating expenses in product development were $196 million for the three months ended April 30, 2017, compared to $142 million for the prior year period, an increase of $54 million, or 38%. The increase was primarily due to increases of $42 million in employee-related costs driven by higher headcount and $6 million in facility and IT-related expenses.
Non-GAAP operating expenses in product development were $136 million for the three months ended April 30, 2017, compared to $105 million for the prior year period, an increase of $31 million, or 30%. The increase was primarily due to increases of $22 million in employee-related costs driven by higher headcount and $6 million in facility and IT-related expenses.
We expect that GAAP and non-GAAP product development expenses will continue to increase in absolute dollars as we improve and expand our applications and develop new technologies.
Sales and Marketing
See the table above for a reconciliation of GAAP to non-GAAP operating expenses.
GAAP operating expenses in sales and marketing were $156 million for the three months ended April 30, 2017, compared to $128 million for the prior year period, an increase of $28 million, or 22%. The increase was primarily due to increases of $24 million in employee-related costs driven by higher headcount and higher commissionable sales volume, $2 million in advertising, marketing and event costs, and $2 million in facility and IT-related expenses.
Non-GAAP operating expenses in sales and marketing were $131 million for the three months ended April 30, 2017, compared to $108 million for the prior year period, an increase of $23 million, or 21%. The increase was primarily due to increases of $19 million in employee-related costs driven by higher headcount and higher commissionable sales volume, $2 million in advertising, marketing and event costs, and $2 million in facility and IT-related expenses.
We expect that GAAP and non-GAAP sales and marketing expenses will continue to increase in absolute dollars as we continue to invest in the expansion of our domestic and international selling and marketing activities to build brand awareness and attract new customers.
General and Administrative
See the table above for a reconciliation of GAAP to non-GAAP operating expenses.
GAAP operating expenses in general and administrative were $51 million for the three months ended April 30, 2017, compared to $41 million for the prior year period, an increase of $10 million, or 24%. The increase was primarily due to $8 million in additional employee-related costs driven by higher headcount and $2 million in higher professional fees.
Non-GAAP operating expenses in general and administrative were $30 million for the three months ended April 30, 2017, compared to $24 million for the prior year period, an increase of $6 million, or 25%. The increase was primarily due to $4 million in additional employee-related costs driven by higher headcount and $2 million in higher professional fees.
We expect GAAP and non-GAAP general and administrative expenses will continue to increase in absolute dollars as we further invest in our infrastructure and support our global expansion.

27


Operating Margins
GAAP operating margins improved from (21)% for the three months ended April 30, 2016 to (13)% for the three months ended April 30, 2017. The improvements in our GAAP operating margins in the three months ended April 30, 2017 were primarily due to higher subscription services revenues, higher professional services revenues and improvements in operating leverage.
We use non-GAAP operating margins to understand and compare operating results across accounting periods, for internal budgeting and forecasting purposes, for short- and long-term operating plans, and to evaluate our financial performance and the ability of operations to generate cash. We believe that non-GAAP operating margins reflect our ongoing business in a manner that allows for meaningful period-to-period comparisons and analysis of trends in our business, as they exclude expenses that are not reflective of ongoing operating results. We also believe that non-GAAP operating margins provide useful information to investors and others in understanding and evaluating our operating results and future prospects in the same manner as management and in comparing financial results across accounting periods and to those of peer companies.
Non-GAAP operating margins are calculated using GAAP revenues and non-GAAP operating expenses. See "Non-GAAP Financial Measures" below for further information.
Non-GAAP operating margins improved from 4% for the three months ended April 30, 2016 to 13% for the three months ended April 30, 2017. The improvements in our non-GAAP operating margins in the three months ended April 30, 2017 were primarily due to higher subscription services revenues, higher professional services revenues and improvements in operating leverage.
Reconciliations of our GAAP to non-GAAP operating margins were as follows:
 
Three Months Ended April 30, 2017
 
GAAP
Operating
Expenses
 
Share-Based
Compensation
Expenses
 
Other
Operating
Expenses
 
Non-GAAP
Operating
Expenses (1)
Operating margin
(12.5
)%
 
22.5
%
 
2.7
%
 
12.7
%
 
Three Months Ended April 30, 2016
 
GAAP
Operating
Expenses *As Adjusted
 
Share-Based
Compensation
Expenses
 
Other
Operating
Expenses
 
Non-GAAP
Operating
Expenses (1)  *As Adjusted
Operating margin
(20.6
)%
 
22.5
%
 
1.9
%
 
3.8
%
(1) 
See "Non-GAAP Financial Measures" below for further information.
*
See Note 2 of the notes to condensed consolidated financial statements for a summary of adjustments.
Other Expense, Net
Other expense, net, decreased $4 million for the three months ended April 30, 2017 as compared to the prior year period. The decrease is primarily due to an increase in interest income of $2 million and a decrease in interest expense of $1 million for the three month period ended April 30, 2017.
Liquidity and Capital Resources
As of April 30, 2017, our principal sources of liquidity were cash, cash equivalents and marketable securities totaling $2.1 billion, which were held for working capital purposes. Our cash equivalents and marketable securities are comprised primarily of U.S. agency obligations, U.S. treasury securities, corporate bonds, commercial paper, and money market funds.
We have financed our operations primarily through sales of equity securities, customer payments, and issuance of debt. Our future capital requirements will depend on many factors, including our customer growth rate, subscription renewal activity, the timing of construction of facilities in Pleasanton, California and the acquisition of additional facilities, the timing and extent of development efforts, the expansion of sales and marketing activities, the introduction of new and enhanced services offerings, the continuing market acceptance of our services, and acquisition activities. We may enter into arrangements to acquire or invest in complementary businesses, services and technologies or intellectual property rights in the future. We also may choose to seek additional equity or debt financing.

28


Our cash flows for the three months ended April 30, 2017 and 2016 were as follows (in thousands):
 
Three Months Ended April 30,
 
2017
 
2016
 
 
*As Adjusted
Net cash provided by (used in):
 
 
 
Operating activities
$
180,022

 
$
162,817

Investing activities
(222,889
)
 
(61,344
)
Financing activities
2,209

 
3,757

Effect of exchange rate changes
(132
)
 
638

Net increase (decrease) in cash, cash equivalents and restricted cash
$
(40,790
)
 
$
105,868

*    See Note 2 of the notes to condensed consolidated financial statements for a summary of adjustments.
Operating Activities
Cash provided by operating activities was $180 million and $163 million for the three months ended April 30, 2017 and 2016, respectively. The improvement in cash flow provided by operating activities was primarily due to increases in sales and the related cash collections, partially offset by higher operating expenses driven by increased headcount.
Investing Activities
Cash used in investing activities for the three months ended April 30, 2017 was $223 million, which was primarily the result of timing of purchase and maturities of marketable securities, capital expenditures for owned real estate projects of $3 million, capital expenditures for our new customer briefing and development center ("development center") of $27 million, and capital expenditures for data center and office space projects of $31 million. These payments were partially offset by proceeds of $9 million from the sale of available-for-sale securities.
Cash used in investing activities for the three months ended April 30, 2016 was $61 million, which was primarily the result of the timing of purchases and maturities of marketable securities, the purchase of an office building and land in Pleasanton, California for $15 million, capital expenditures for our development center of $4 million, and capital expenditures for data center and office space projects of $34 million.
We expect capital expenditures related to owned real estate projects, including construction of our development center, will be approximately $175 million for fiscal 2018. We expect capital expenditures, excluding owned real estate projects, will be approximately $160 million for fiscal 2018. We expect that these capital outlays will largely be used to expand the infrastructure of our data centers and to build out additional office space to support our growth.
Financing Activities
Cash provided by financing activities was $2 million and $4 million for the three months ended April 30, 2017 and 2016, respectively, which was primarily due to proceeds from the issuance of common stock from employee equity plans.
Free Cash Flows
In evaluating our performance internally, we focus on long-term, sustainable growth in free cash flows. We define free cash flows, a non-GAAP financial measure, as net cash provided by (used in) operating activities minus capital expenditures (excluding owned real estate projects). See "Non-GAAP Financial Measures" below for further information.

29


Free cash flows improved by $21 million to $149 million for the three months ended April 30, 2017, compared to $128 million for the prior year period. The improvement was primarily due to increases in sales and the related cash collections and decreases in capital expenditures (excluding owned real estate projects), slightly offset by higher operating expenses driven by increased headcount.
Reconciliations of Net cash provided by (used in) operating activities to free cash flows were as follows (in thousands):
 
Three Months Ended April 30,
 
Trailing Twelve Months Ended April 30,
 
2017
 
2016
 
2017
 
2016
 
 
*As Adjusted
 
 
*As Adjusted
Net cash provided by (used in) operating activities
$
180,022

 
$
162,817

 
$
367,831

 
$
329,255

Capital expenditures, excluding owned real estate projects
(30,593
)
 
(34,478
)
 
(116,928
)
 
(139,825
)
Free cash flows
$
149,429

 
$
128,339

 
$
250,903

 
$
189,430

*
See Note 2 of the notes to condensed consolidated financial statements for a summary of adjustments.

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Non-GAAP Financial Measures
Regulation S-K Item 10(e), "Use of non-GAAP financial measures in Commission filings," defines and prescribes the conditions for use of non-GAAP financial information. Our measures of non-GAAP operating expenses, non-GAAP operating margin and free cash flows each meet the definition of a non-GAAP financial measure.
Non-GAAP Operating Expenses and non-GAAP Operating Margins
We define non-GAAP operating expenses as our total operating expenses excluding the following components, which we believe are not reflective of our ongoing operational expenses. Similarly, the same components are also excluded from the calculation of non-GAAP operating margins. In each case, for the reasons set forth below, management believes that excluding the component provides useful information to investors and others in understanding and evaluating our operating results and future prospects in the same manner as management, in comparing financial results across accounting periods and to those of peer companies, and to better understand the long-term performance of our core business.
Share-Based Compensation Expenses. Although share-based compensation is an important aspect of the compensation of our employees and executives, management believes it is useful to exclude share-based compensation expenses in order to better understand the long-term performance of our core business and to facilitate comparison of our results to those of peer companies. For restricted stock unit awards, the amount of share-based compensation expenses is not reflective of the value ultimately received by the grant recipients. Moreover, determining the fair value of certain of the share-based instruments we utilize involves a high degree of judgment and estimation and the expense recorded may bear little resemblance to the actual value realized upon the vesting or future exercise of the related share-based awards. Unlike cash compensation, the value of stock options and shares offered under the ESPP, which are elements of our ongoing share-based compensation expenses, is determined using a complex formula that incorporates factors, such as market volatility and forfeiture rates, that are beyond our control.
Other Operating Expenses. Other operating expenses include employer payroll tax-related items on employee stock transactions and amortization of acquisition-related intangible assets. The amount of employer payroll tax-related items on employee stock transactions is dependent on our stock price and other factors that are beyond our control and do not correlate to the operation of the business. For business combinations, we generally allocate a portion of the purchase price to intangible assets. The amount of the allocation is based on estimates and assumptions made by management and is subject to amortization. The amount of purchase price allocated to intangible assets and the term of its related amortization can vary significantly and are unique to each acquisition and thus we do not believe it is reflective of our ongoing operations.
Free Cash Flows
We define free cash flows as net cash provided by (used in) operating activities minus capital expenditures (excluding owned real estate projects). Capital expenditures deducted from cash flows from operations do not include purchases of land and buildings, and construction costs of our new development center and of other owned buildings. We exclude these owned real estate projects as they are infrequent, non-recurring in nature and distinctly separate from our ongoing business operations. We use free cash flows as a measure of financial progress in our business, as it balances operating results, cash management and capital efficiency. We believe information regarding free cash flows provides investors and others with an important perspective on the cash available to make strategic acquisitions and investments, to fund ongoing operations and to fund other capital expenditures.
Limitations on the Use of Non-GAAP Financial Measures
A limitation of our non-GAAP financial measures of non-GAAP operating expenses, non-GAAP operating margin and free cash flows is that they do not have uniform definitions. Our definitions will likely differ from the definitions used by other companies, including peer companies, and therefore comparability may be limited. Thus, our non-GAAP financial measures of non-GAAP operating expenses, non-GAAP operating margin and free cash flows should be considered in addition to, not as a substitute for, or in isolation from, measures prepared in accordance with GAAP. Additionally, in the case of share-based compensation, if we did not pay out a portion of compensation in the form of share-based compensation and related employer payroll tax-related items, the cash salary expense included in costs of revenues and operating expenses would be higher, which would affect our cash position. Further, the non-GAAP financial measure of non-GAAP operating expenses has certain limitations because it does not reflect all items of expense that affect our operations and are reflected in the GAAP financial measure of total operating expenses.
We compensate for these limitations by reconciling GAAP to non-GAAP financial measures and reviewing these measures in conjunction with GAAP financial information. We encourage investors and others to review our financial information in its entirety, not to rely on any single financial measure and to view our non-GAAP financial measures in conjunction with the most comparable GAAP financial measures.

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See Results of Operations—Operating Expenses and Results of Operations—Operating Margins for reconciliations from the most directly comparable GAAP financial measures, GAAP operating expenses and GAAP operating margins, to the non-GAAP financial measures, non-GAAP operating expenses and non-GAAP operating margins, for the three months ended April 30, 2017 and 2016.
See Liquidity and Capital Resources—Free Cash Flows for a reconciliation from the most comparable GAAP financial measure, Net cash provided by (used in) operating activities, to the non-GAAP financial measure, free cash flow, for the three months ended April 30, 2017 and 2016.
Contractual Obligations
Our contractual obligations primarily consist of our convertible senior notes due in 2018 and 2020, as well as obligations under leases for office space, co-location facilities for data center capacity and computing infrastructure platforms for business operations. As of April 30, 2017, the future non-cancelable minimum payments under operating leases and computing infrastructure agreements were $328 million. During the remainder of the year ended January 31, 2018, we anticipate leasing additional office space near our headquarters and in various other locations around the world to support our growth. In addition, our existing lease agreements often provide us with options to renew. We expect our future operating lease obligations will increase as we expand our operations.
We are not required to make principal payments under the Notes prior to maturity. If the Notes are not converted to Class A common stock prior to their maturity dates, we are required to repay $350 million in principal on July 15, 2018 and $250 million in principal on July 15, 2020. We are also required to make interest payments on a semi-annual basis at the interest rates described in Note 10 of the notes to the condensed consolidated financial statements.
In January 2014, we entered into a 95-year lease for a 6.9-acre parcel of land in Pleasanton, California, under which we paid $2 million for base rent from commencement through December 31, 2020. Annual rent payments of $0.2 million plus increases based on increases in the consumer price index begin on January 1, 2021 and continue through the end of the lease. Our new development center, consisting of approximately 410,000 square feet of office space, is being constructed on this property.
We do not consider outstanding purchase orders to be contractual obligations as they represent authorizations to purchase rather than binding agreements.
Off-Balance Sheet Arrangements
Through April 30, 2017, we did not have any relationships with unconsolidated organizations or financial partnerships, such as structured finance or special purpose entities that would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
Critical Accounting Policies and Estimates
Our condensed consolidated financial statements are prepared in accordance with GAAP. The preparation of these condensed consolidated financial statements requires us to make certain estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses, and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions. Our actual results may differ from these estimates under different assumptions or conditions.
Except for the accounting policies for revenue recognition and deferred commissions that were updated as a result of adopting ASU No. 2014-09, there have been no changes to our critical accounting policies and estimates described in the Annual Report on Form 10-K for the year ended January 31, 2017, filed with the Securities and Exchange Commission ("SEC") on March 20, 2017, that have had a material impact on our condensed consolidated financial statements and related notes.
Revenue Recognition
We derive our revenues primarily from subscription services and professional services. Revenues are recognized when control of these services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those services.
We determine revenue recognition through the following steps:
Identification of the contract, or contracts, with a customer
Identification of the performance obligations in the contract
Determination of the transaction price
Allocation of the transaction price to the performance obligations in the contract
Recognition of revenue when, or as, we satisfy a performance obligation

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Subscription Services Revenues
Subscription services revenues primarily consist of fees that provide customers access to one or more of our cloud applications for finance, human resources, and analytics, with routine customer support. Revenue is generally recognized over time on a ratable basis over the contract term beginning on the date that our service is made available to the customer. Our subscription contracts are generally three years or longer in length, billed annually in advance, and non-cancelable.
Professional Services Revenues
Professional services revenues primarily consist of fees for deployment and optimization services, as well as training. The majority of our consulting contracts are billed on a time and materials basis and revenue is recognized over time as the services are performed. For contracts billed on a fixed price basis, revenue is recognized over time based on the proportion performed.
Contracts with Multiple Performance Obligations
Some of our contracts with customers contain multiple performance obligations. For these contracts, we account for individual performance obligations separately if they are distinct. The transaction price is allocated to the separate performance obligations on a relative standalone selling price basis. We determine the standalone selling prices based on our overall pricing objectives, taking into consideration market conditions and other factors, including the value of our contracts, the cloud applications sold, customer demographics, geographic locations, and the number and types of users within our contracts.
Deferred Commissions
Sales commissions earned by our sales force are considered incremental and recoverable costs of obtaining a contract with a customer. These costs are deferred and then amortized over a period of benefit that we have determined to be five years. We determined the period of benefit by taking into consideration our customer contracts, our technology and other factors. Amortization expense is included in Sales and marketing expenses in the accompanying condensed consolidated statements of operations.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Foreign Currency Exchange Risk
We transact business globally in multiple currencies. As a result, our results of operations and cash flows are subject to fluctuations due to changes in foreign currency exchange rates. As of April 30, 2017 and 2016, our most significant currency exposures were the Euro, British pound and Canadian dollar.
We have a hedging program designed to identify material foreign currency exposures, manage these exposures and reduce the potential effects of currency fluctuations through the purchase of foreign currency exchange contracts. For further information, see Note 9 of the notes to condensed consolidated financial statements.
Interest Rate Sensitivity
We had cash, cash equivalents and marketable securities totaling $2.1 billion as of April 30, 2017, and $2.0 billion as of January 31, 2017. Cash equivalents and marketable securities were invested primarily in U.S. agency obligations, U.S. treasury securities, corporate bonds, commercial paper, and money market funds. The cash, cash equivalents and marketable securities are held for working capital purposes. Our investment portfolios are managed to preserve capital and meet liquidity needs. We do not enter into investments for trading or speculative purposes.
Our cash equivalents and our portfolio of marketable securities are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future investment income may fluctuate due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our marketable securities as "available for sale," no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or declines in fair value are determined to be other-than-temporary.
An immediate increase of 100-basis points in interest rates would have resulted in a $10 million and $9 million market value reduction in our investment portfolio as of April 30, 2017 and January 31, 2017, respectively. An immediate decrease of 100-basis points in interest rates would have increased the market value by $10 million and $8 million as of April 30, 2017 and January 31, 2017, respectively. This estimate is based on a sensitivity model that measures market value changes when changes in interest rates occur. Fluctuations in the value of our investment securities caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities before maturity.
Market Risk and Market Interest Risk
In June 2013, we issued $350 million of 0.75% convertible senior notes due July 15, 2018 ("2018 Notes") and $250 million of 1.50% convertible senior notes due July 15, 2020 ("2020 Notes" and together with the 2018 Notes, referred to as "the Notes"). Holders may convert the Notes prior to maturity upon the occurrence of certain circumstances. Upon conversion, holders of the 2018 Notes and 2020 Notes will receive cash, shares of Class A common stock or a combination of cash and shares of Class A common stock, at our election.
Concurrently with the issuance of the Notes, we entered into separate note hedge and warrant transactions. These separate transactions were completed to reduce the potential economic dilution from the conversion of the Notes.
Our Notes have fixed annual interest rates at 0.75% and 1.50% and, therefore, we do not have economic interest rate exposure on our Notes. However, the values of the Notes are exposed to interest rate risk. Generally, the fair market value of our fixed interest rate Notes will increase as interest rates fall and decrease as interest rates rise. In addition, the fair values of the 2018 Notes and the 2020 Notes are affected by our stock price. The carrying values of our 2018 Notes and 2020 Notes were $328 million and $213 million, respectively, as of April 30, 2017. These represent the liability component of the principal balance of our Notes as of April 30, 2017. The total estimated fair values of the 2018 Notes and 2020 Notes at April 30, 2017 were $407 million and $311 million, respectively, and the fair value was determined based on the quoted bid price of the Notes in an over-the-counter market as of the last day of trading for the three months ended at April 30, 2017, which were $116.38 and $124.59 respectively. For further information, see Note 10 of the notes to condensed consolidated financial statements.

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ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, ("the Exchange Act"), as of the end of the period covered by this report.
In designing and evaluating our disclosure controls and procedures, management recognizes that any disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.
Based on management’s evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures are designed to, and are effective to, provide assurance at a reasonable level that the information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosures.
(b) Changes in Internal Control Over Financial Reporting
Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of any changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during our most recently completed fiscal quarter. Based on that evaluation, our principal executive officer and principal financial officer concluded that there has not been any material change in our internal control over financial reporting during the quarter covered by this report that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

35


PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, we are or may be involved in various legal proceedings arising from the normal course of business including matters related to alleged infringement of third-party patents and other intellectual property rights, commercial, employment and other claims. We are not presently a party to any litigation the outcome of which we believe, if determined adversely to us, would individually or taken together have a material adverse effect on our business, operating results, cash flows or financial condition. Defending such proceedings is costly and can impose a significant burden on management and employees, we may receive unfavorable preliminary or interim rulings in the course of litigation, and there can be no assurances that favorable final outcomes will be obtained. The resolution of legal matters could prevent us from offering one or more of our applications, services or features to others, could require us to change our technology or business practices, pay monetary damages or enter into short- or long-term royalty or licensing agreements, or could otherwise be material to our financial condition or cash flows, or both, or adversely affect our operating results.

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ITEM 1A. RISK FACTORS
Investing in our securities involves a high degree of risk. You should consider carefully the risks and uncertainties described below, together with all of the other information in this report, including the condensed consolidated financial statements and the related notes included elsewhere in this report, before making an investment decision. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties that we are unaware of, or that we currently believe are not material, may also become important factors that materially and adversely affect our business. If any of the following risks actually occurs, our business operations, financial condition, results of operations, and prospects could be materially and adversely affected. The market price of our securities could decline due to the materialization of these or any other risks, and you could lose part or all of your investment.
Risk Factors Related to Our Business
If our security measures are breached or unauthorized access to customer data is otherwise obtained, our applications may be perceived as not being secure, customers may reduce the use of or stop using our applications and we may incur significant liabilities.
Our applications involve the storage and transmission of our customers’ sensitive and proprietary information, including personal or identifying information regarding their employees, customers and suppliers, as well as their finance and payroll data. As a result, unauthorized access or use of this data could result in the loss or destruction of information, litigation, indemnity obligations and other liabilities. While we have security measures in place designed to protect the integrity of customer information and prevent data loss, misappropriation and other security breaches, if these measures are compromised as a result of third-party action, including intentional misconduct by computer hackers, employee error, malfeasance or otherwise, and someone obtains unauthorized access to or use of our customers’ data, our reputation could be damaged, our business may suffer and we could incur significant liabilities. Cyber security challenges, including threats to our own IT infrastructure or those of our customers or third-party providers, are often targeted at companies such as ours, and may take a variety of forms ranging from individual and groups of hackers to sophisticated organizations. Key cyber security risks range from viruses, worms and other malicious software programs to "mega breaches" targeted against cloud services and other hosted software, any of which can result in disclosure of confidential information and intellectual property, defective products, production downtimes, supply shortages and compromised data. Because the techniques used to obtain unauthorized access or sabotage systems change frequently and generally are not identified until they are launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. Any or all of these issues could negatively affect our ability to attract new customers, cause existing customers to elect to terminate or not renew their subscriptions, result in reputational damage, cause us to pay remediation costs and/or issue service credits or refunds to customers for prepaid and unused subscription services, or result in lawsuits, regulatory fines or other action or liabilities, which could adversely affect our operating results.
We depend on data centers and computing infrastructure operated by third parties and any disruption in these operations could adversely affect our business.
We host our applications and serve our customers from data centers located in Ashburn, Virginia; Atlanta, Georgia; Portland, Oregon; Dublin, Ireland; and Amsterdam, the Netherlands. While we control and have access to our servers and all of the components of our network that are located in our external data centers, we do not control the operation of these facilities. The owners of our data center facilities have no obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew these agreements on commercially reasonable terms, or if one of our data center operators is acquired or ceases business, we may be required to transfer our servers and other infrastructure to new data center facilities, and we may incur significant costs and possible service interruption in connection with doing so.
In addition, we rely upon third parties, which we refer to as our hosted infrastructure partners, to operate certain aspects of our services, such as environments for development testing, training and sales demonstrations, as well as others. For example, Amazon Web Services ("AWS") provides a distributed computing infrastructure platform for business operations and we have announced our intention to make certain of our service offerings available through AWS. Given this, any disruption of or interference at our hosted infrastructure partners would impact our operations and our business could be adversely impacted.

37


Problems faced by our third-party data center operations or hosted infrastructure partners, with the telecommunications network providers with whom we or they contract, or with the systems by which our telecommunications providers allocate capacity among their customers, including us, could adversely affect the experience of our customers. Our third-party data center operators or hosted infrastructure partners could decide to close their facilities without adequate notice. In addition, any financial difficulties, such as bankruptcy, faced by our third-party data center operators, our hosted infrastructure partners or any of the other service providers with whom we or they contract may have negative effects on our business, the nature and extent of which are difficult to predict. Additionally, if our data centers or hosted infrastructure partners are unable to keep up with our needs for capacity, this could have an adverse effect on our business. Any changes in third-party service levels at our data centers or at our hosted infrastructure partners or any errors, defects, disruptions, or other performance problems with our applications or the hosted infrastructure on which they run could adversely affect our reputation and may damage our customers’ stored files or result in lengthy interruptions in our services. Interruptions in our services might adversely affect our reputation and operating results, cause us to issue refunds or service credits to customers for prepaid and unused subscription services, subject us to potential liabilities, result in contract terminations, or adversely affect our renewal rates.
Furthermore, our financial management application is essential to Workday's and our customers’ financial projections, reporting and compliance programs, particularly customers who are public reporting companies. Any interruption in our service may affect the availability, accuracy or timeliness of such projections, reporting and compliance programs and as a result could damage our reputation, cause our customers to terminate their use of our applications, require us to issue refunds for prepaid and unused subscription services, require us to indemnify our customers against certain losses and prevent us from gaining additional business from current or future customers, as well as impact our ability to accurately and timely meet our reporting and other compliance obligations.
If we fail to manage our technical operations infrastructure, or experience service outages or delays in the deployment of our applications, we may be subject to liabilities and our reputation and operating results may be adversely affected.
We have experienced significant growth in the number of users, transactions and data that our operations infrastructure supports. We seek to maintain sufficient excess capacity in our operations infrastructure to meet the needs of all of our customers, as well as our own needs, and to ensure that our services and solutions are accessible within an acceptable load time. We also seek to maintain excess capacity to facilitate the rapid provision of new customer deployments and the expansion of existing customer deployments. In addition, we need to properly manage our technological operations infrastructure in order to support version control, changes in hardware and software parameters, updates, the evolution of our applications and to reduce infrastructure latency associated with dispersed geographic locations. However, the provision of new hosting infrastructure requires significant lead time. If we do not accurately predict our infrastructure requirements, our existing customers may experience service outages. If our operations infrastructure fails to scale, customers may experience delays as we seek to obtain additional capacity.
We have experienced, and may in the future experience, system disruptions, outages and other performance problems. These problems may be caused by a variety of factors, including infrastructure changes, human or software errors, viruses, security attacks (internal and external), fraud, spikes in customer usage and denial of service issues. In some instances, we may not be a