BILL Holdings, Inc. (BILL) FY 2021 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. Some of the information contained in this Annual Report on Form 10-K includes forward-looking statements that involve risks and uncertainties. You should read the sections titled “Special Note Regarding Forward-Looking Statements” and “Risk Factors” for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

Overview

We are a leading provider of cloud-based software that simplifies, digitizes, and automates complex back-office financial operations for SMBs. By transforming how SMBs manage their cash inflows and outflows, we create efficiencies and free our customers to run their businesses.  Our vision is to become the leading one-stop solution that helps millions of businesses around the world manage their financial operations.

Our purpose-built, artificial-intelligence (AI)-enabled financial software platform creates seamless connections between our customers, their suppliers, and their clients. Customers use our platform to generate and process invoices, streamline approvals, make and receive payments, reconcile their books, and manage their cash. We have built sophisticated integrations with popular accounting software solutions, banks, card issuers, and payment processors, enabling our customers to access these mission-critical services through a single connection. In essence, we sit at the center of an SMB’s accounts payable and accounts receivable operations.

We efficiently reach SMBs through our proven direct and indirect go-to-market strategies. We acquire customers directly through digital marketing and inside sales, and indirectly through accounting firms and strategic partnerships. As of June 30, 2021, our partners included some of the most trusted brands in the financial services business, including 85 of the top 100 accounting firms and six of the top ten largest financial institutions in the U.S., including Bank of America, JPMorgan Chase, Wells Fargo Bank and American Express. As we add customers and partners, we expect our network to continue to grow organically.

On June 1, 2021, we completed our acquisition of DivvyPay, Inc. (Divvy), a leading provider of cloud-based spend management application and smart corporate cards to SMBs in the U.S. for an aggregate purchase price of $2.3 billion. Following the acquisition, Divvy became our wholly owned subsidiary. Our consolidated results of operations shown below for fiscal 2021 include the operating results of Divvy from the acquisition date on June 1, 2021. See Note 3 to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K for additional discussion about the acquisition of Divvy.

We have grown rapidly and scaled our business operations in recent periods. Our total revenue and net losses during fiscal 2021, which include the results of Divvy from the acquisition date, were $238.3 million and $98.7 million, respectively. Our total revenue during fiscal 2020 and 2019 was $157.6 million and $108.4, respectively, and our net losses during fiscal 2020 and 2019 were $31.1 million and $7.3 million, respectively.

Proposed Acquisition of Invoice2go

On July 19, 2021, we entered into an Agreement and Plan of Merger (Merger Agreement) with Invoice2go, Inc. (Invoice2go), a Delaware corporation that provides mobile-first accounts receivable software that empowers SMBs and freelancers to grow their client base, manage invoicing and payments, and build their brand. Invoice2go has operations in the U.S. and in Australia, and serves a large global customer base of SMBs. Pursuant to the terms of, and subject to the conditions set forth in the Merger Agreement, including customary purchase price adjustments, we will pay aggregate consideration of approximately $625.0 million in cash and stock in exchange for all of the outstanding equity interests of Invoice2go. Upon the consummation of the transactions contemplated by the Merger Agreement, Invoice2go will become our wholly owned subsidiary. The closing of the merger is subject to customary closing conditions such as (i) the approval of the Merger Agreement by Invoice2go stockholders in accordance with Delaware law and (ii) the expiration or termination of the applicable waiting period under the Hart-Scott Rodino Antitrust Improvements Act of 1976, as amended.

Impact of COVID-19

The full impact of the COVID-19 pandemic is inherently uncertain at the time of this report. The COVID-19 pandemic has resulted in travel restrictions and in some cases, prohibitions of non-essential activities, disruption and shutdown of

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businesses, and greater uncertainty in global financial markets. As the COVID-19 pandemic persists, it has significantly impacted the health and economic environment around the world. Many public and commercial establishments, including schools, restaurants, and shopping malls, have restricted their operations or closed due to restrictions imposed by the government. Our customers have been, and may continue to be, negatively impacted by the shelter-in-place and other similar state and local orders, the closure of manufacturing sites and country borders, and the increase in unemployment. These conditions may continue to have negative implications on demand for goods, the supply chain, production of goods, and transportation. A negative impact on our customers may cause them to go out of business, request discounts, extension of payment terms, or cancellation of their subscription to our platform. Any of these actions may have a negative impact on our future results of operations, liquidity, and financial condition.

Our business continues to operate despite the disruption of many business operations in the U.S. due to the COVID-19 pandemic. Although we have not experienced significant business disruptions thus far from the COVID-19 pandemic and there have been positive developments recently in the U.S. and in other countries in combating the COVID-19 pandemic because of vaccinations, we are unable to predict the full impact that the COVID-19 pandemic will have on our future results of operations, liquidity and financial condition due to numerous uncertainties, including the duration of the pandemic, the actions that may be taken by government authorities across the U.S. or other countries, the efficacy of vaccinations, the impact to our customers, strategic partners, and suppliers, and other factors described in the section titled “Risk Factors” in Part I, Item 1A of this Annual Report on Form 10-K.

Our Revenue Model

We generate revenue by charging subscription and transaction fees, and by earning interest on funds held in trust on behalf of customers while their payment transactions are clearing.

Our subscription revenue is primarily based on a fixed monthly or annual rate per user charged to our customers. Our transaction revenue is comprised of transaction fees and interchange income on a fixed or variable rate per transaction. Transactions primarily include card payments, check issuance, ACH origination, cross-border payments, and creation of invoices. Much of our revenue comes from repeat transactions, which are an important contributor to our recurring revenue.

We also generate revenue from interest earned on funds held in trust on behalf of customers while payment transactions are clearing. When we process payment transactions, the funds flow through our bank accounts and we have a balance of funds held for customers that is a function of the volume and the type of payments processed. Interest is earned from interest-bearing deposit accounts, certificates of deposit, money market funds, commercial paper, and U.S. Treasury securities. We hold these funds from the day they are withdrawn from a payer’s account to the day the funds are credited to the receiver. This revenue can fluctuate depending on the amount of customer funds held, as well as our yield on customer funds invested, which is influenced by market interest rates and our investments. We are authorized to hold customer funds and process payments through our bank accounts because we are a licensed money transmitter in all required U.S. states. This allows us to provide advanced treasury services and protect our customers from potential fraud.

Our Receivables Purchases and Servicing Model

We market Divvy charge cards to potential spending businesses and issue business-purpose charge cards through our partnerships with card issuing banks. When a business applies for a Divvy card, we utilize proprietary risk management capabilities to confirm the identity of the business, and perform a credit underwriting process to determine if the business is eligible for a Divvy card pursuant to our credit policies. Once approved for a Divvy card, the business is provided a credit limit and can use the Divvy software to request virtual cards or physical cards.

The majority of cards issued through our platform are by Cross River Bank, an FDIC-insured New Jersey state chartered bank and WEX Bank, an FDIC-insured Utah state chartered bank. Our partnerships with these banks allow us to benefit from the banks’ ability to issue cards under their membership with the Visa and Mastercard networks while leveraging their banking licenses to comply with various federal, state, and other laws. Under this arrangement, we must comply with the banks’ credit policies and underwriting procedures, and the banks maintain ultimate authority to decide whether to issue a card or approve a transaction. We are responsible for all fraud and unauthorized use of a card and generally are required to hold the bank harmless from such losses unless claims regarding fraud or unauthorized use are due to the sole gross negligence of the bank.

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When a spending business completes a purchase transaction, the payment to the merchant is made by our bank partner that issued the card. Obligations incurred by the spending business in connection with their purchase transaction are reflected as receivables on the bank’s balance sheet. The bank then sells a 100% participation interest in the receivable to us. Pursuant to our agreements with the banks, we are obligated to purchase the participation interests in all of the receivables originated through our platform, and our obligation are secured by cash deposits. When we purchase the participation right in the receivable, the purchase price is equal to the outstanding principal balance of the receivable

We act as the servicer on all receivables we purchase from our issuing bank partners and earn a servicing fee on loans we sell to our funding sources. We do not sell the servicing rights on any of the loans, allowing us to control the consumer experience end-to-end.

In order to purchase the participation rights in the receivables, we maintain a variety of funding arrangements, including warehouse facilities and purchase arrangements with a diverse set of funding sources. We typically fund a substantial portion of these receivable purchases by borrowing under credit facilities with our finance partners, although we may also fund receivables purchases using corporate cash. Typically, we immediately sell a portion of the receivables interests we have purchased to our warehousing subsidiary which funds the purchases through loans provided by our financing partners, and we may sell a portion of our receivables to a third-party institution pursuant to a purchase arrangement. As of June 30, 2021, we had $155.0 million in committed credit facility capacity, with $77.5 million drawn, and this is shown on our consolidated balance sheets included elsewhere in this Annual Report on Form 10-K. On average, our spending businesses pay their statement balances in approximately 20 days. We act as the servicer on all receivables we purchase from our issuing bank partners and earn a servicing fee and retain a beneficial interest derivative in the form of a deferred purchase price on loans we sell to our funding sources.

Our Business Model

We efficiently reach SMBs through our proven direct and indirect go-to-market strategies. We acquire customers directly through digital marketing and inside sales. We also acquire customers indirectly by partnering with leading companies that are trusted by our current and prospective customers, including accounting firms, financial institutions, and software companies.

Our revenue is visible and predictable from our existing customers. For fiscal 2021, over 85% of our subscription and transaction revenue, which we also refer to as core revenue, came from customers who were acquired prior to the start of the fiscal year. We expand within our existing customer base by adding more users, increasing transactions per customer, launching additional products, and through pricing and packaging our services. We make it easy for SMBs to try our platform through our risk-free trial program. Should an SMB choose to become a customer after the trial period, it can take several months to adapt their financial operations to fully leverage our platform. Even with a transition period, however, we believe our customer retention is strong. Excluding those customers of our financial institution partners, approximately 85% of customers as of June 30, 2020 were still customers as of June 30, 2021.

Net Dollar-Based Retention Rate

Net dollar-based retention rate is an important indicator of customer satisfaction and usage of our platform, as well as potential revenue for future periods. We calculate our net dollar-based retention rate at the end of each fiscal year. We calculate our net dollar-based retention rate by starting with the revenue billed to customers in the last quarter of the prior fiscal year (Prior Period Revenue). We then calculate the revenue billed to these same customers in the last quarter of the current fiscal year (Current Period Revenue), excluding interest earned on customer funds held in trust. Current Period Revenue includes any upsells and is net of contraction or attrition, but excludes revenue from new customers and excludes interest earned on customer funds held in trust. We then repeat the calculation of Prior Period Revenue and Current Period Revenue with respect to each of the preceding three quarters, and aggregate the four Prior Period Revenues (the Aggregate Prior Period Revenue) and the four Current Period Revenues (the Aggregate Current Period Revenue). Our net dollar-based retention rate equals the Aggregate Current Period Revenue divided by Aggregate Prior Period Revenue.

Our net dollar-based retention rate was 124%, 121% and 110% during fiscal 2021, 2020 and 2019, respectively. These consecutive increases are primarily attributable to increases in the number of users, more transactions per customer, and selling additional products to those customers.

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Customer Acquisition Efficiency

Our efficient direct and indirect go-to-market strategy, combined with our recurring revenue model, results in our short payback period. We define “payback period” as the number of quarters it takes for the cumulative non-GAAP gross profit we earn from customers acquired during a given quarter to exceed our total sales and marketing spend in that same quarter. For customers acquired during fiscal 2020, the average payback period was approximately five quarters.

Key Business Metrics

We regularly review several metrics, including the metrics presented in the table below, to measure our performance, identify trends affecting our business, prepare financial projections, and make strategic decisions. We believe that these key business metrics provide meaningful supplemental information for management and investors in assessing our historical and future operating performance. The calculation of the key metrics and other measures discussed below may differ from other similarly-titled metrics used by other companies, securities analysts or investors.

Number of Customers

For the purposes of measuring our key business metrics, we define customers as entities that are either billed directly by us or for which we bill our strategic partners during a particular period. Customers who are using our services during a trial period are not counted as new customers during that period. If an organization has multiple entities billed separately for the use of our platform, each entity is counted as a customer. The number of customers in the table above represents the total number of customers at the end of each fiscal year.

Total Payment Volume

To grow revenue from customers we must deliver a product experience that helps them automate their back-office financial operations. The more they use the product and rely upon our features to automate their operations, the more transactions they process on our platform. This metric provides an important indication of the value of transactions that customers are completing on the platform and is an indicator of our ability to generate revenue from our customers. We define TPV as the value of customer transactions that we process on our platform during a particular period. Our calculation of TPV includes payments that are subsequently reversed. Such payments comprised approximately 1% of TPV during fiscal 2021. TPV does not include transactions made by spending businesses on our spend management platform.

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Transactions Processed

We define transactions processed as the number of customer payment and spend transactions initiated and processed through our platform during a particular period. Payment transactions include checks, ACH items, wire transfers and card payments. Transactions processed do not include transactions made by spending businesses on our spend management platform.

Components of Results of Operations

Revenue

We generate revenue from two sources: (1) subscription and transaction fees, and (2) interest on funds held for customers.

Subscription fees are fixed monthly or annually and charged to our customers for the use of our platform to process transactions. Subscription fees are generally charged on a per user per period basis, normally monthly or annually. Transaction fees are fees collected for each transaction processed through our platform, on either a fixed or variable fee basis. Transaction fees primarily include processing of payments in the form of checks, ACH, cross-border payments, virtual cards, creation of invoices, and use of spend management application whereby we receive interchange income from merchants that accept Divvy cards.

Our contracts with SMB and accounting firm customers are generally either monthly or annual contracts. We determine the transaction price for these contracts by estimating the total consideration to be received over the contract term from subscription and transaction fees. We recognize the transaction price as a single performance obligation based on the proportion of transactions processed to the total estimated transactions to be processed over the contract period.

We enter into multi-year contracts with financial institutions which typically include fees for initial implementation services that are paid during the period the implementation services are provided as well as fees for subscription and transaction processing services, which are subject to guaranteed monthly minimum fees that are paid monthly over the contract term. These contracts enable the financial institutions to provide their customers with access to our online bill pay services through the financial institutions’ online platforms. Implementation services are required up-front to establish an infrastructure that allows the financial institutions’ online platforms to communicate with the Company’s online platform. A financial institution’s customers cannot access online bill pay services until implementation is complete. The fees we earn through these contracts vary based on the number of users and transactions to be processed. We have determined these contracts meet the variable consideration allocation exception and therefore we recognize the guaranteed monthly payments and any overages as revenue in the month they are earned. We recognize implementation fees based on the proportion of transactions processed to the total estimated transactions to be processed over the contract period.

Interest on funds held for customers consists of the interest that we earn from customer funds while payment transactions are clearing. Interest is earned from interest-bearing deposit accounts, certificates of deposit, money market funds, commercial paper, and U.S. Treasury securities, until those payments are cleared and credited to the intended recipient.

Cost of Revenue and Expenses

Cost of revenue – Cost of revenue consists primarily of personnel-related costs, including stock-based compensation expenses, for our customer success and payment operations teams, certain costs that are directly attributed to processing customers’ transactions (such as the cost of printing checks), postage for mailing checks, expenses for processing payments (ACH, check, and cross-border wires), direct and amortized costs for implementing and integrating our cloud-based platform into our strategic partners’ systems, costs for maintaining, optimizing, and securing our cloud payments infrastructure, amortization of capitalized internal-use developed software, amortization of developed technology, fees on the investment of customer funds, and allocation of overhead costs. We expect that cost of revenue will increase in absolute dollars, but may fluctuate as a percentage of total revenue from period to period, as we continue to invest in growing our business.

Research and development – Research and development expenses consist primarily of personnel-related expenses, including stock-based compensation expenses, incurred in developing new products or enhancing existing products, and allocated overhead costs. We capitalize certain software development costs that are attributable to developing new products and adding incremental functionality to our platform and amortize such costs in cost of revenue over the estimated life of the new product or incremental functionality, which is generally three years.

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We expense a substantial portion of research and development expenses as incurred. We believe that delivering new functionality is critical to attract new customers and expand our relationship with existing customers. We expect to continue to make investments in and expand our offerings to enhance our customers’ experience and satisfaction, and to attract new customers. We expect our research and development expenses to increase in absolute dollars, but they may fluctuate as a percentage of total revenue from period to period as we expand our research and development team to develop new products and product enhancements.

Sales and Marketing – Sales and marketing expenses consist primarily of personnel-related expenses, including stock-based compensation expenses, sales commissions, marketing program expenses, travel-related expenses and costs to market and promote our platform through advertisements, marketing events, partnership arrangements, direct customer acquisition, amortization of intangible assets, and allocated overhead costs. Sales commissions that are incremental to obtaining new customer contracts are deferred and amortized ratably over the estimated period of our relationship with new customers.

We focus our sales and marketing efforts on generating awareness of our company, platform, and products, creating sales leads, and establishing and promoting our brand. We plan to continue investing in sales and marketing efforts by driving our go-to-market strategies, building our brand awareness, and sponsoring additional marketing events; however, we will adjust our sales and marketing spend level as needed, as the spend may fluctuate from period to period, in response to changes in the economic environment.

General and Administrative – General and administrative expenses consist primarily of personnel-related expenses, including stock-based compensation expenses, for finance, risk management, legal and compliance, human resources and information technology, costs incurred for external professional services, provision for credit losses, losses from fraud, and allocated overhead costs. We expect to incur additional general and administrative expenses as we explore various growth initiatives, which include incurring higher professional services. We also expect to increase the size of our general and administrative functions to support the growth in our business. As a result, we expect that our general and administrative expenses will increase in absolute dollars but may fluctuate as a percentage of total revenue from period to period.

Other (expense) income, net – Other (expense) income, net consists primarily of the amortization of debt discount and issuance costs in connection with our issuance of the 2025 Notes, interest expense on our borrowings from credit agreements, loss on sale of card receivables, and loss on the revaluation of redeemable convertible preferred stock warrant liabilities, partially offset by interest income on corporate funds invested in money market instruments and highly liquid, investment-grade fixed income marketable securities, and accretion of debt premium.

(Benefit from) provision for income taxes – (Benefit from) provision for income taxes consists primarily of the income tax benefit from the change in deferred tax liability balance relating to the 2025 Notes and a partial release of valuation allowance in connection with the acquisition of Divvy.

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Results of Operations

The following table sets forth our results of operations for the periods presented (in thousands):

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The following table presents the components of our consolidated statements of operations for the periods presented as a percentage of total revenue:

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

Comparison of Fiscal 2021 and 2020

Revenue

The components of our revenue during fiscal 2021 and 2020 were as follows (amounts in thousands):

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

Subscription and transaction fees increased to $232.3 million during fiscal 2021 from $136.4 million during fiscal 2020, an increase of $95.9 million or 70%.

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Interest on funds held for customers decreased to $6.0 million during fiscal 2021 from $21.2 million during fiscal 2020, a decrease of $15.2 million or 72%. The decrease was due mainly to the decrease in the yield we earned from investing customer funds, partially offset by the increase in the balance of customer funds held while payment transactions clear. The average rate of return earned on customer funds held was 0.32% during fiscal 2021, a decrease of 123 basis points from fiscal 2020. The decrease in yield was due mainly to the U.S. Federal Reserve’s action to cut the federal funds rate during calendar year 2020 in response to the COVID-19 pandemic.

The decrease in the yield we earned was partially offset by the increase in the balance of customer funds held while payment transactions clear. The average daily balance of customer funds in transit increased to approximately $1.9 billion during fiscal 2021 from approximately $1.4 billion during fiscal 2020, an increase of 37%. Fund balances increased due to growth in TPV. Our TPV increased to approximately $140.3 billion during fiscal 2021 from approximately $96.5 billion during fiscal 2020, an increase of 45%.

Cost of Revenue, Gross Profit, and Gross Margin

Cost of revenue, gross profit, and gross margin during fiscal 2021 and 2020 were as follows (amounts in thousands):

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

Cost of revenue increased to $61.8 million during fiscal 2021 from $39.1 million during fiscal 2020, an increase of $22.7 million or 58%. The increase was due mainly to the following:

Gross margin decreased to 74% during fiscal 2021 from 75% during fiscal 2020, a decrease of 1% due primarily to the amortization of acquired developed technologies.

Research and Development Expenses

Research and development expenses during fiscal 2021 and 2020 were as follows (amounts in thousands):

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

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Research and development expenses increased to $90.2 million during fiscal 2021 from $53.4 million during fiscal 2020, an increase of $36.8 million or 69%. The increase was due mainly to the following:

As a percentage of total revenue, research and development expenses increased to 38% during fiscal 2021 from 34% during fiscal 2020 due mainly to the increase in stock-based compensation expense.

Sales and Marketing Expenses

Sales and marketing expenses during fiscal 2021 and 2020 were as follows (amounts in thousands):

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

Sales and marketing expenses increased to $71.4 million during fiscal 2021 from $45.4 million during fiscal 2020, an increase of $26.0 million or 57%. The increase was due mainly to the following:

As a percentage of total revenue, sales and marketing expenses increased to 30% during fiscal 2021 from 29% during fiscal 2020, due mainly to the non-cash amortization of acquired intangible assets.

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General and Administrative Expenses

General and administrative expenses during fiscal 2021 and 2020 were as follows (amounts in thousands):

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

General and administrative expenses increased to $128.8 million during fiscal 2021 from $53.9 million during fiscal 2020, an increase of $74.9 million or 139%. The increase was due mainly to the following:

As a percentage of total revenue, general and administrative expenses increased to 54% during fiscal 2021 from 34% during fiscal 2020 due mainly to the increase in stock-based compensation expense and professional and consulting fees.

Other (Expense) Income, Net

Other (expense) income, net during fiscal 2021 and 2020 was as follows (amounts in thousands):

(1) Includes the results of Divvy from the acquisition date on June 1, 2021.

The change in other (expense) income, net during fiscal 2021 compared to fiscal 2020 was due mainly to the following:

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(Benefit from) Provision for Income Taxes

(Benefit from) provision for income taxes during fiscal 2021 and 2020 was as follows (amounts in thousands):

Benefit from income taxes during fiscal 2021 primarily resulted from the release of our valuation allowance for deferred tax assets following the recording of a deferred income tax liability as part of our accounting for the acquisition of Divvy. In addition, during fiscal 2021 we partially reversed the deferred tax liability established in connection with our issuance of the 2025 Notes.

Comparison of Fiscal 2020 and 2019

The components of our revenue during fiscal 2020 and 2019 were as follows (amounts in thousands):

Subscription and transaction fees increased to $136.4 million during fiscal 2020 from $86.0 million during fiscal 2019, an increase of $50.4 million or 59%.

Interest on funds held for customers decreased to $21.2 million during fiscal 2020 from $22.4 million during fiscal 2019, a decrease of $1.2 million or 5%. The decrease was due to the decrease in the yield we earned from investing customer funds, partially offset by the increase in the balance of customer funds held while payment transactions clear. The decrease in the yield we earned was due mainly to the following:

The decrease in the yield we earned was offset by the increase in the balance of customer funds held while payment transactions clear. The average daily balance of customer funds in transit increased to approximately $1.4 billion during fiscal 2020 from approximately $1.1 billion during fiscal 2019, an increase of 25%. Fund balances increased due to growth in TPV. Our TPV increased to approximately $96.5 billion during fiscal 2020 from approximately $71.3 billion during fiscal 2019, an increase of 35%.

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Cost of Revenue, Gross Profit, and Gross Margin

Cost of revenue, gross profit, and gross margin during fiscal 2020 and 2019 were as follows (amounts in thousands):

Cost of revenue increased to $39.1 million during fiscal 2020 from $29.9 million during fiscal 2019, an increase of $9.2 million or 31%. The increase was due mainly to the following:

Gross margin increased to 75% during fiscal 2020 from 72% during fiscal 2019, an increase of 3%. The increase was driven primarily by higher revenue on increased adoption of new product offerings.

Research and Development Expenses

Research and development expenses during fiscal 2020 and 2019 were as follows (amounts in thousands):

Research and development expenses increased to $53.4 million during fiscal 2020 from $28.9 million during fiscal 2019, an increase of $24.5 million or 85%. The increase was due mainly to the following:

As a percentage of total revenue, research and development expenses increased to 34% during fiscal 2020 from 27% during fiscal 2019 due mainly to the increase in our headcount, which resulted in higher personnel-related costs, including non-cash stock-based compensation expense, relative to the increase in our revenue.

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Sales and Marketing Expenses

Sales and marketing expenses during fiscal 2020 and 2019 were as follows (amounts in thousands):

Sales and marketing expenses increased to $45.4 million during fiscal 2020 from $30.1 million during fiscal 2019, an increase of $15.3 million or 51%. The increase was due mainly to the following:

As a percentage of total revenue, sales and marketing expenses increased to 29% during fiscal 2020 from 27% during fiscal 2019, due mainly to the increase in our headcount, which resulted in higher personnel-related costs, including non-cash stock-based compensation expense, relative to the increase in our revenue.

General and Administrative Expenses

General and administrative expenses during fiscal 2020 and 2019 were as follows (amounts in thousands):

General and administrative expenses increased to $53.9 million during fiscal 2020 from $29.2 million during fiscal 2019, an increase of $24.7 million or 85%. The increase was due mainly to the following:

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As a percentage of total revenue, general and administrative expenses increased to 34% during fiscal 2020 from 27% during fiscal 2019 due mainly to the increase in our headcount, which resulted in higher personnel-related costs, including stock-based compensation expense, relative to the increase in our revenue.

Other Income, Net

Other income, net during fiscal 2020 and 2019 was as follows (amounts in thousands):

Other income, net increased to $3.2 million during fiscal 2020 from $2.3 million during fiscal 2019, an increase of $0.9 million or 35%. The increase was due mainly to the following:

The increase in other income, net was offset by a $0.7 million increase in loss on revaluation of redeemable convertible preferred stock warrant liabilities.

Provision for (benefit from) Income Taxes

Provision for (benefit from) income taxes during fiscal 2020 and 2019 was as follows (amounts in thousands):

The provision for income taxes during fiscal 2020 pertains primarily to state income taxes. The benefit from income taxes during fiscal 2019 pertains primarily to the income tax benefit that is reported on the consolidated statements of operations and is offset against the income tax on the unrealized gain on investments in available-for-sale securities that is shown on the consolidated statements of comprehensive loss.

Non-GAAP Financial Measures

To supplement our consolidated financial statements, which are prepared and presented in accordance with GAAP, we use certain non-GAAP financial measures, as described below, to understand and evaluate our core operating performance. These non-GAAP financial measures, which may be different than similarly-titled measures used by other companies, are presented to enhance investors’ overall understanding of our financial performance and should not be considered a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP.

We believe that these non-GAAP financial measures provide useful information about our financial performance, enhance the overall understanding of our past performance and future prospects and allow for greater transparency with respect to important metrics used by our management for financial and operational decision-making. We are presenting these non-GAAP metrics to assist investors in seeing our financial performance using a management view. We believe that these measures provide an additional tool for investors to use in comparing our core financial performance over multiple periods with other companies in our industry.

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Non-GAAP Gross Profit and Non-GAAP Gross Margin

We define non-GAAP gross profit and non-GAAP gross margin as gross profit and gross margin, respectively, excluding amortization of intangible assets, stock-based compensation expense, depreciation and amortization expense, and payroll taxes related to stock-based compensation expense. We believe non-GAAP gross profit and non-GAAP gross margin provide our management and investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of operations. The following table presents a reconciliation of our non-GAAP gross profit and non-GAAP gross margin to our gross profit and gross margin for the periods presented (amounts in thousands):

Free Cash Flow

Free cash flow is defined as net cash used in operating activities, reduced by purchases of property and equipment and capitalization of internal-use software costs. We believe free cash flow is an important liquidity measure of the cash (if any) that is available, after purchases of property and equipment and capitalization of internal-use software costs, for operational expenses and investment in our business. Free cash flow is useful to investors as a liquidity measure because it measures our ability to generate or use cash. Once our business needs and obligations are met, cash can be used to maintain a strong balance sheet and invest in future growth. The following table presents a reconciliation of our free cash flow to net cash used in operating activities for the periods presented (in thousands):

Liquidity and Capital Resources

As of June 30, 2021, our principal sources of liquidity were our cash and cash equivalents of $509.6 million, our available-for-sale short-term investments of $655.3 million, and our available lines of credit. Our cash equivalents are comprised primarily of money market funds and investments in debt securities with original maturities of three months or less. Our short-term investments are comprised primarily of available-for-sale investments in corporate bonds, certificates of deposit, asset-backed securities, municipal bonds, and U.S. treasury securities with original maturities of more than three months. Our lines of credit are comprised of credit agreements that we assumed from the acquisition of Divvy, under which we have a total borrowing commitment of $155.0 million. We can draw funds from these lines of credit to the extent there is sufficient balance of eligible acquired card receivables that serve as collateral.

On November 30, 2020, we issued $1.15 billion in aggregate principal amount of our 0% convertible senior notes (2025 Notes) due on December 1, 2025. The 2025 Notes, which are further described below, are senior, unsecured obligations, and will not accrue interest unless we determine that special interest obligations are deemed necessary. The 2025 Notes are convertible by the holders at their option during any calendar quarter after March 31, 2021 under certain

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circumstances. If the note holders exercise their right to convert, our current intent is to settle such conversion through a combination settlement involving a repayment of the principal portion in cash and the balance in shares of common stock.

We believe that our cash, cash equivalents, available-for sale short-term investments, and funds available under our lines of credit will be sufficient to meet our working capital requirements for at least the next 12 months. In the future, we may attempt to raise additional capital through the sale of equity securities or through equity-linked or debt financing arrangements to fund future operations or obligations, including the repayment of the principal amount of the 2025 Notes in the event that the 2025 Notes become convertible and the noteholders opt to exercise their right to convert. If we raise additional funds by issuing equity or equity-linked securities, the ownership of our existing stockholders will be diluted. If we raise additional financing by incurring additional indebtedness, we may be subject to increased fixed payment obligations and could also be subject to additional restrictive covenants, such as limitations on our ability to incur additional debt, and other operating restrictions that could adversely impact our ability to conduct our business. Any future indebtedness we incur may have terms that could be unfavorable to equity investors. There can be no assurances that we will be able to raise additional capital. The inability to raise capital would adversely affect our ability to achieve our business objectives.

Cash Flows

Below is a summary of our consolidated cash flows for the periods presented (in thousands):

Net Cash Provided by (Used in) Operating Activities

Our primary source of cash provided by our operating activities is our revenue from subscription and transaction fees. Our subscription revenue is primarily based on a fixed monthly or annual rate per user charged to our customers. Our transaction revenue is comprised of transaction fees on a fixed or variable rate per type of transaction. We also generate cash from the interest earned on funds held in trust on behalf of customers while payment transactions are clearing. Our primary uses of cash in our operating activities include payments for employee salary and related costs, payments to third parties to fulfill our payment transactions, payments to sales and marketing partners, and other general corporate expenditures.

Net cash provided in operating activities increased to $4.6 million during fiscal 2021 from a net cash used of $4.4 million during fiscal 2020 due mainly to the increase in subscription and transaction fees revenue; partially offset by the increase in payments for costs of services and operating expenses. In addition, the net increase was partially due to the timing of usage of funds to pay our corporate expenditures.

Net cash used in operating activities increased to $4.4 million during fiscal 2020 from $3.9 million during fiscal 2019 due primarily to the increase in payments for our services and operating expenses, primarily employee salary and related costs due to the increase in headcount and administrative costs as we now operate as a public company; partially offset by the increase in subscription and transaction fees revenue.

Net Cash Used in Investing Activities

Our cash proceeds from our investing activities consist primarily of proceeds from the maturities and sale of corporate and customer fund available-for-sale investments. Our cash usage for our investing activities consists primarily of purchases of corporate and customer fund available-for-sale investments, payment for business acquisition, purchases of property and equipment, and capitalization of internal-use software. Additionally, the increase or decrease in our net cash from investing activities is impacted by the net change in acquired card receivable balances.

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Net cash used in investing activities increased to $1.4 billion during fiscal 2021 from $249.5 million during fiscal 2020 due primarily to the increase in purchases of corporate and customer fund short-term investments, payment made to acquire Divvy, increase in acquired card receivables, and increase in purchases of property and equipment; partially offset by the increase in proceeds from the maturities and sale of corporate and customer short-term investments.

Net cash used in investing activities increased to $249.5 million during fiscal 2020 from $96.1 million during fiscal 2019 due primarily to the increase in purchases of corporate and customer fund short-term investments and the increase in purchases of property and equipment; partially offset by the increase in proceeds from the maturities of corporate and customer fund short-term investments.

Net Cash Provided by Financing Activities

Our cash proceeds from our financing activities consist primarily of proceeds from the issuance of the 2025 Notes, exercises of stock options, and employee purchases of our common stock under our employee stock purchase plan (ESPP). In addition, our cash proceeds from our financing activities during fiscal 2020 included net proceeds from our IPO and follow-on offering. Our cash usage for our financing activities consists primarily of payments of costs related to the issuance of debt and common stock, and payments for the purchase of Capped Calls. Additionally, the increase or decrease in our net cash from financing activities is impacted by the change in customer fund deposits liability.

Net cash provided by financing activities increased to $1.6 billion during fiscal 2021 from $863.1 million during fiscal 2020 due primarily to the proceeds from the issuance of the 2025 Notes, increase in exercises of stock options, increase in employee purchases of common stock under our ESPP, and increase in customer funds liability; offset by the purchase of Capped Calls in connection with the issuance of the 2025 Notes and repayment of our line of credit borrowings. Additionally, our cash from financing activities during fiscal 2020 included the net proceeds from our IPO and follow-on offering.

Net cash provided by financing activities increased to $863.1 million during fiscal 2020 from $491.7 million during fiscal 2019 due primarily to the proceeds from our IPO and follow-on offering (net of underwriting discounts and other offering costs), increase in exercises of stock options, and proceeds from our line of credit borrowings; partially offset by a lower change in customer funds deposits liability. Additionally, our cash from financing activities during fiscal 2019 included proceeds from the issuance of redeemable convertible preferred stock.

2025 Notes

As of June 30, 2021, we had outstanding 2025 Notes with aggregate principal amount of $1.15 billion. The 2025 Notes are convertible on or after September 1, 2025 until the close of business on the second scheduled trading day immediately preceding the maturity date on December 1, 2025. The 2025 Notes are convertible by the holders at their option during any calendar quarter after March 31, 2021 under certain circumstances, including if the last reported sale price of the Company's common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on and including the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the $160.88 per share initial conversion price. If the note holders exercise their right to convert, our current intent is to settle such conversion through a combination settlement involving a repayment of the principal portion in cash and the balance in shares of common stock.

In conjunction with the issuance of the 2025 Notes, we entered into capped call transactions with certain counterparties. The Capped Calls each have an initial strike price of approximately $160.88 per share, subject to certain adjustments. The Capped Calls have an initial cap price of $218.14 per share, subject to certain adjustments; provided that such cap price shall not be reduced to an amount less than the strike price of $160.88 per share. The purpose of the Capped Calls is to reduce the potential dilution of our common stock upon any conversion of the 2025 Notes and/or offset any cash payments that we are required to make in excess of the principal amount of such converted notes, as the case may be, with such reduction and/or offset subject to a cap.

Credit Agreements

The credit agreements that we assumed from Divvy consisted of (i) Revolving Credit and Security Agreement (2021 Revolving Credit Agreement) and (ii) Warehouse Credit Agreement (2019 Credit Agreement, as amended).

The 2021 Revolving Credit Agreement has a total commitment of $95.0 million consisting of a Class A facility amounting to $75.0 million and a Class B facility amounting to $20.0 million. The total outstanding borrowings from the

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Class A and Class B facilities, which bear interest at 2.75% and 10.25% per annum, respectively, plus LIBOR (subject to a floor rate of 0.25%), were $37.5 million and $10.0 million, respectively, as of June 30, 2021. The 2021 Revolving Credit Agreement matures in June 2023 or earlier pursuant to such agreement and the outstanding borrowings are payable on or before the maturity date.

The 2019 Credit Agreement (as amended) has a total commitment of $60.0 million. The outstanding borrowings from the amended 2019 Credit Agreement, which bear interest at 6.0% per annum plus LIBOR (subject to a floor rate of 2.0%), amounted to $30.0 million as of June 30, 2021. The interest rate drops to 4.5% per annum plus LIBOR (subject to a floor rate of 0.25%) beginning October 2021. The 2019 amended Credit Agreement matures in January 2023 and the outstanding borrowings are payable on or before the maturity date.

The available funds under our credit agreements, after deducting our borrowings totaling $77.5 million, was $77.5 million as of June 30, 2021.

Contractual Obligations and Other Commitments

Our principal commitments to settle our contractual obligations are as follows as of June 30, 2021 (in thousands):

Off-Balance Sheet Arrangements

We are contractually obligated to purchase all card receivables from U.S. based card issuing banks (Issuing Banks) including authorized transactions that have not cleared. The transactions that have been authorized but not cleared totaled $30.3 million as of June 30, 2021 and have not been recorded on our consolidated balance sheets. We have off-balance sheet credit exposures with these authorized but not cleared transactions; however, our expected credit losses with respect to these transactions was not significant as of June 30, 2021.

Other than our expected credit loss exposure on the card transactions that have not cleared, we had no other off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on our consolidated financial condition, results of operations, liquidity, capital expenditures, or capital resources as of June 30, 2021.

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Critical Accounting Estimates

Our consolidated financial statements have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, as well as the reported revenue generated, and reported expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

While our significant accounting policies are described in the notes to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K, we believe that the following critical accounting policies are most important to understanding and evaluating our reported financial results.

Revenue recognition

Our contracts with our customers require us to provide multiple services comprising subscription, transaction and implementation services. We identify performance obligations in these contracts by evaluating whether individual services are distinct. Services that are not distinct are combined into a single performance obligation. The evaluation of whether a service is distinct involves judgment and could impact the timing of revenue recognition. We determine the transaction price in these contracts based on the amount of consideration we expect to be entitled to, which are typically variable. The transaction price is then allocated to each separate performance obligation on a relative standalone selling price basis. Each performance obligation is analyzed to determine if it is satisfied over time or at a point in time. Our performance obligations are generally recognized as revenue over the period each performance obligation is satisfied using an attribution method that best reflects the measure of progress in satisfying the performance obligation. The attribution method used involves judgment and impacts the timing of revenue recognition.

Our implementation services included in certain contracts with our financial institution customers consist of the development of interfaces between our online platform and the financial institutions’ online platform. The financial institution’s customers cannot access online bill pay services until implementation is complete. As a result, initial implementation services are not capable of being distinct from subscription and transaction processing services, and are combined into a single performance obligation. We also evaluate the ability of financial institution customers to renew contracts without having to pay up-front implementation fees again to determine if it provides them a material right. Material rights, which have not been significant to date, are treated as separate performance obligations and are recognized over the expected period of benefit.  For such arrangements, we allocate revenue to each performance obligation based on its relative standalone selling price.

Business Combinations

We account for acquisitions using the acquisition method of accounting, which requires assigning the fair value of purchase consideration to the assets acquired, including liabilities assumed in the acquiree at the acquisition date. The excess of the fair value of purchase consideration over the fair value of these assets acquired and liabilities assumed in the acquiree is recorded as goodwill. When determining the fair values of assets acquired and liabilities assumed in the acquiree, management makes significant estimates and assumptions, especially with respect to intangible assets. Critical estimates in valuing intangible assets include, but are not limited to, expected future cash flows, which includes consideration of future growth rates and margins, attrition rates, future changes in technology and brand awareness, loyalty and position, and discount rates. Fair value estimates are based on the assumptions management believes a market participant would use in pricing the asset or liability. Amounts recorded in a business combination may change during the measurement period, which is a period not to exceed one year from the date of acquisition, as additional information about conditions existing at the acquisition date becomes available.

Convertible Senior Notes

The Company accounts for its convertible senior notes (Notes) by separating the principal amount into liability and equity components. The carrying amount of the liability component is calculated by measuring the fair value of a similar liability that does not have an associated convertible feature. The carrying amount of the equity component, which represents the conversion option, is determined by deducting the fair value of the liability component from the par value of

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the Notes as a whole. The difference between the principal amount of the Notes and the liability component is initially recorded as a debt discount and is amortized as interest expense using the effective interest method over the term of the Notes. The equity component of the Notes, which is included in additional paid-in capital, will not be remeasured as long as it continues to meet the conditions for equity classification.

The debt issuance costs are allocated between the liability and equity components based on the respective values of the liability and equity components. The debt issuance costs allocated to the liability component are being amortized as interest expense over the term of the Notes using the effective interest method. The debt issuance costs allocated to the equity component are presented as a reduction of additional paid-in capital in the accompanying consolidated balance sheets.

Leases

The Company determines if an arrangement is a lease, or contains a lease, by evaluating whether there is an identified asset and whether the Company controls the use of the identified asset throughout the period of use. The Company determines the classification of the lease, whether operating or financing, at the lease commencement date, which is the date the leased assets are made available for use.

The Company uses the non-cancelable lease term when recognizing the right-of-use (ROU) assets and lease liabilities, unless it is reasonably certain that a renewal or termination option will be exercised. The Company accounts for lease components and non-lease components as a single lease component. Modifications are assessed to determine whether incremental differences result in new contract terms and accounted for as a new lease or whether the additional right of use should be included in the original lease and continue to be accounted with the remaining ROU asset.

Operating lease ROU assets and lease liabilities are recognized at the lease commencement date based on the present value of the lease payments over the lease term. Lease payments consist of the fixed payments under the arrangement, less any lease incentives. Variable costs, such as common area maintenance costs, are not included in the measurement of the ROU assets and lease liabilities, but are expensed as incurred. As the implicit rate of the leases is not determinable, the Company uses an incremental borrowing rate in determining the present value of the lease payments. Lease expenses are recognized on a straight-line basis over the lease term.

The Company does not recognize ROU assets on lease arrangements with a term of 12 months or less.  Lease expense for such arrangements is recognized on a straight-line basis over the term of the lease.

Credit Losses on Acquired Card Receivables

We acquire card receivables pursuant to our contracts with certain Issuing Banks. The acquired card receivables portfolio consists of a large group of smaller balances from spending businesses across a wide range of industries. We establish an allowance for credit losses based on an estimate of uncollectible balances resulting from credit losses and such allowance could fluctuate depending on certain factors. An estimate of lifetime expected credit losses is performed by incorporating historical loss experience, as well as current and future economic conditions over a reasonable and supportable period beyond the balance sheet date. In estimating expected credit losses, we use models that entail a significant amount of judgment. The primary areas of judgment used in measuring the quantitative components of our reserves relate to the attributes used to segment the portfolio, the determination of the historical loss experience look-back period, and the weighting of historical loss experience by monthly cohort. We use these models and assumptions to determine the reserve rates applicable to the outstanding acquired card receivable balances to estimate reserves for expected credit losses. Based on historical loss experience, the probability of default decreases over time, therefore the attribute used to segment the portfolio is the length of time since an account’s credit limit origination. Our models use past loss experience to estimate the probability of default and exposure at default by aged balances. We also estimate the likelihood and magnitude of recovery of previously written off loans based on historical recovery experience. Additionally, we evaluate whether to include qualitative reserves to cover losses that are expected but may not be adequately represented in the quantitative methods or the economic assumptions. The qualitative reserves address possible limitations within the models or factors not included within the models, such as external conditions, changes in underwriting strategies, the nature and volume of the portfolio, and the volume and severity of past due accounts.

We review our assumptions periodically and the amount of allowance that we recorded may be impacted by actual performance of the acquired card receivables and changes in any of the assumptions used. In general, we write-off card receivables after the entire balance becomes 120 days delinquent.

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Customer Rewards

We offer a promotion program whereby users of our spend management application can earn rewards based on the volume of their card transactions. Users can redeem those rewards for cash, travel, and gift cards, among other things. We establish a rewards liability that represents management’s estimate of the cost for earned rewards. Our estimate of the liability is determined based on points earned for every card spend, an estimate of the redemption cost and an estimate of expected redemption (net of breakage). Our estimated liability could fluctuate based on the changes on the input used to make our estimate.

Stock-based compensation

Stock-based compensation expense related to stock option awards is measured at fair value on the date of grant using the Black-Scholes option-pricing model. We recognize the compensation costs for stock option awards on a straight-line basis over the requisite service period of the awards, which is generally the option vesting term of four years, reduced for estimated forfeitures at the date of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. We estimate the forfeiture rate based on the historical experience for annual grant years where the majority of the vesting terms have been satisfied.

The Black-Scholes option-pricing model requires the use of highly subjective assumptions, which determine the fair value of the stock option awards. These assumptions include:

Expected term – The expected term represents the period that stock option awards are expected to be outstanding. The expected term for stock option awards is determined using the simplified method. The simplified method deems the term to be the average of the time-to-vesting and the contractual life of the stock-based awards.

Expected volatility –The expected volatility was estimated based on the historical volatility of our common stock. The expected volatility that we used for stock option awards assumed in an acquisition was estimated based on the average volatility for comparable publicly traded companies over a period equal to the expected term of the stock option grants. The comparable companies were chosen based on their similar size, stage in the lifecycle or area of specialty.

Risk-free interest rate – The risk-free interest rate is based on the U.S. Treasury zero coupon issues in effect at the time of stock option awards for periods corresponding with the expected term of the option.

Expected dividend yield – We have never paid dividends on our common stock and have no plans to pay dividends on our common stock.

Recent Accounting Pronouncements

See Note 1 to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K for recently adopted accounting pronouncements and recently issued accounting pronouncements not yet adopted as of June 30, 2021.

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