Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations (in thousands, except head count, ratios, time periods and percentages)
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and related notes appearing elsewhere in this Annual Report on Form 10-K. In addition to historical financial information, the following discussion may contain predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties, including those discussed under Item 1A, Risk Factors and elsewhere in this Form 10-K. These risks could cause our actual results to differ materially from any future performance suggested below. Please see “Cautionary Note Regarding Forward Looking Statements” at the beginning of this Form 10-K.
For a comparison of our results of operations for the fiscal years ended December 31, 2021 and 2020, see “Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the year ended December 31, 2021, filed on February 22, 2022.
Overview
OneSpan helps organizations accelerate digital transformations by enabling secure, compliant, and refreshingly easy digital customer agreements and transaction experiences. We deliver digital agreement products and services that automate and secure customer-facing and revenue-generating business processes. Our solutions help organizations streamline and secure user experiences, which in turn allows them to drive growth, reduce risk, and unlock their business potential.
We are a global leader in providing high-assurance identity and authentication security as well as enterprise-grade electronic signature (e-signature) solutions, for use cases ranging from simple transactions to workflows that are complex or require higher levels of security. Our solutions help our clients ensure the integrity of the people and records associated with digital agreements, transactions, and interactions in industries including banking, financial services, healthcare, digital services and others. We are trusted by global blue-chip enterprises, including more than 60% of the world’s largest 100 banks, and process millions of digital agreements and billions of transactions in more than 100 countries annually.
Our solutions are powered by a portfolio of products and services across identity verification, authentication, virtual interactions and transactions, and secure digital storage. These products and services can be acquired and embedded individually within enterprise business workflows or assembled into tailored solutions for simple yet secure business-to-business, business-to-employee, and business-to-customer experiences.
We offer our solutions through cloud-based and on-premises solutions using both open standards and proprietary technologies. We offer our products primarily through a subscription licensing model. Our solutions are sold worldwide through our direct sales force, as well as through distributors, resellers, systems integrators, and original equipment manufacturers.
Business Transformation
We are currently in the midst of a business transition and transformation. Our total revenue decreased on a year-over-year basis in 2020, and 2021, and we experienced negative operating income and net losses in both of those years. During 2021 and early 2022, our previous CEO, CFO, and several other senior executives left the company. In late
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November 2021, our current CEO joined us and has built a new executive team over the course of 2022 to affect the transformation.
In May 2022, we announced a three-year strategic transformation plan that began on January 1, 2023. We believe this transformation plan will enable us to build on our strong solution portfolio and market position, enhance our enterprise go-to-market strategy, accelerate revenue growth, and drive efficiencies to support margin expansion and increased profitability. In conjunction with the strategic transformation plan and to enable a more efficient capital deployment model, effective with the quarter ended June 30, 2022, we began reporting under the following two lines of business, which are our reportable operating segments: Digital Agreements and Security Solutions.
•Digital Agreements. Digital Agreements consists of solutions that enable our clients to secure and automate business processes associated with their digital agreement and customer transaction lifecycles that require consent, non-repudiation and compliance. These solutions, which are largely cloud-based, include our OneSpan Sign e-signature solution and our recently introduced OneSpan Notary and Virtual Room solutions. As our transformation plan progresses, we expect to include other cloud-based security modules associated with the secure transaction lifecycle of identity verification, authentication, virtual interactions and transactions, and secure digital storage in the Digital Agreements segment. This segment also includes costs attributable to our transaction- cloud platform.
•Security Solutions. Security Solutions consists of our broad portfolio of software products and/or software development kits (SDKs) that are used to build applications designed to defend against attacks on digital transactions across online environments, devices and applications. These solutions, which are largely on-premises software products, include identity verification, multi-factor authentication and transaction signing, such as mobile application security, mobile software tokens, and Digipass authenticators that are not cloud-connected devices.
We expect to manage Digital Agreements for accelerated growth and market share gains and Security Solutions for cash flows given its more modest growth profile. Across both segments, we are building on our strong foundation in both e-signature and cybersecurity by enhancing product features, developing new solutions, and building out our next-generation transaction cloud platform, which we expect will allow us to efficiently deliver security and e-signature solutions to our customers across their entire digital agreement lifecycle. We also plan to enhance our go-to-market strategy by prioritizing growth at large enterprise accounts, expanding our direct sales force, and accessing new routes to market through alliances and partnerships.
Our transformation plan involves numerous risks and uncertainties. Please see Item IA, Risk Factors.
Restructuring Plan
In December 2021, our Board approved a restructuring plan designed to advance our operating model, streamline our business, improve efficiency, and enhance our capital resources. The first phase of this restructuring plan began and was substantially completed during the three months ended March 31, 2022.
In May 2022, our Board approved additional actions related to the restructuring plan through the year ending December 31, 2025. The additional actions consist primarily of headcount-related reductions designed to continue to advance the same objectives as the first phase of the plan.
As part of the restructuring plan, we reduced headcount by eliminating approximately 100 positions. We incurred severance and related benefits costs, recorded in “Restructuring and other related charges” in the consolidated statement of operations for the year ended December 31, 2022.
Macroeconomic Events
Macroeconomic events impacting our business are discussed below. Throughout 2022, we operated under uncertain market conditions, influenced by events such as the Russia-Ukraine conflict, the continuing impact of the COVID-19 pandemic, disruption to our supply chain and the inflationary cost environment. For a more complete discussion of the risks we encounter in our business, please see Item 1A, Risk Factors.
Russia-Ukraine Conflict
While we do not anticipate that the current posture of the Russia-Ukraine conflict will materially and adversely affect our results of operations, the conflict is still ongoing and future impacts are difficult to estimate. An escalation of the conflict’s current scope or expansion of the conflict’s economic disruption could materially and adversely affect our
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company and its operations. The conflict has and may continue to have a significant impact on the global macroeconomic and geopolitical environments, including increased volatility in capital and commodity markets, rapid changes to regulatory conditions (including the use of sanctions), supply chain and operational challenges for multinational corporations, inflationary pressures and an increased risk of cybersecurity incidents.
COVID-19, Supply Chain Disruption and Inflationary Cost Environment
During 2022, the supply chain for our Digipass devices was impacted by global issues related to the effects of the COVID-19 pandemic, the Russia-Ukraine conflict and the inflationary cost environment, particularly with respect to materials in the semiconductor market, including part shortages, increased freight costs, diminished transportation capacity and labor constraints. This has resulted in disruptions in our supply chain, as well as difficulties and delays in procuring certain semiconductor components. Since late 2021, our costs have increased due to elevated lead times and increased material costs, in particular the need to purchase semiconductor components from alternative sources. We expect increased costs to procure materials within the semiconductor market to continue in 2023. Further, we anticipate the broader impact of inflationary pressures and increased material and supply chain costs and disruptions will continue in 2023.
In response to these supply chain conditions, in 2022 we focused on improving our supplier network, engineering alternative designs and working to reduce supply shortages. We are actively managing our inventory in an effort to minimize supply chain disruptions and enable continuity of supply and services to our customers, and we expect to maintain elevated levels of inventory for certain of our products until supply constraints have been remediated. We are also considering alternative manufacturing and supply arrangements, including moving more of our manufacturing from China to Romania or other locations, to mitigate these supply chain risks in the future.
In order to combat rising inflation in the U.S., the Federal Reserve has raised interest rates multiple times since the beginning of 2022. The increase in U.S. dollar interest rates and overall market conditions led to significant strengthening of the U.S. dollar against other global currencies in 2022. The strong U.S. dollar reduced the impact of cash generated from our foreign operations during 2022, driven by revenues and costs that are denominated in foreign currencies, which impacted our revenue, operating cash flows and net income throughout 2022. We expect these impacts to continue into 2023.
Although the macroeconomic environment presented challenges in 2022 and may continue to do so in 2023, we are encouraged by customer demand for our products and services, particularly in our e-signature solution in the Digital Agreements segment and our mobile, security, authentication server and Digipass solutions in our Security Solutions segment. We believe our existing balances of cash and cash equivalents, along with our short-term investments, will continue to be sufficient to satisfy our liquidity requirements associated with our existing operations.
Components of Operating Results
Revenue
We generate revenue from the sale of our subscriptions, maintenance and support, professional services, and Digipass hardware products. We believe comparison of revenues between periods is heavily influenced by the timing of orders and shipments reflecting the transactional nature of significant parts of our business.
•Product and license revenue. Product and license revenue includes Digipass hardware products and software licenses, which are provided on a perpetual or term basis subscription model.
•Service and other revenue. Service and other revenue includes solutions that are provided on a cloud-based subscription model, maintenance and support, and professional services.
Cost of Goods Sold
Our total cost of goods sold consists of cost of product and license revenue and cost of service and other revenue. We expect our cost of goods sold to increase in absolute dollars as our business grows, although it may fluctuate as a percentage of total revenue from period to period.
•Cost of product and license revenue. Cost of product and license revenue primarily consists of direct product and license costs, including personnel costs, production costs, and freight.
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•Cost of service and other revenue. Cost of service and other revenue primarily consists of costs related to cloud subscription solutions, including personnel and equipment costs, and personnel costs of employees providing professional services and maintenance and support.
Gross Profit
Gross profit is revenue net of the cost of goods sold. Gross profit as a percentage of total revenue, or gross margin, has been and will continue to be affected by a variety of factors, including our average selling price, manufacturing costs, the mix of products sold, and the mix of revenue among products, subscriptions and services. We expect our gross margins to fluctuate over time depending on these factors.
Operating Expenses
Our operating expenses are generally based on anticipated revenue levels and fixed over short periods of time. As a result, small variations in revenue may cause significant variations in the period-to-period comparisons of operating income or operating income as a percentage of revenue.
Generally, the most significant factor driving our operating expenses is headcount. Direct compensation and benefit plan expenses generally represent between 50% and 60% of our operating expenses. In addition, a number of other expense categories are directly related to headcount. We attempt to manage our headcount within the context of the economic environments in which we operate and the investments we believe we need to make for our infrastructure to support future growth and for our products to remain competitive.
Historically, operating expenses have been impacted by changes in foreign exchange rates. We estimate the change in currency rates in 2022 compared to 2021 resulted in a decrease in operating expenses of approximately $7.5 million in 2022.
The comparison of operating expenses can also be impacted significantly by costs related to our stock-based and long-term incentive plans. In 2022, 2021, and 2020, operating expenses included $8.8 million, $5.2 million, and $6.0 million, respectively, of expenses related to stock-based and long-term incentive plans. Stock-based compensation expense during 2022 included a significant number of new grants to our newly hired executives, as well as an overall expansion of the equity incentive program put in place for the long-term retention of our employees. Long-term incentive plan compensation expense includes both cash and stock-based incentives.
•Sales and marketing. Sales and marketing expenses consist primarily of personnel costs, commissions and bonuses, trade shows, marketing programs and other marketing activities, travel, outside consulting costs, and long-term incentive compensation. We expect sales and marketing expenses to increase in absolute dollars as we expand our salesforce and marketing activities to support our strategic transformation plan, although our sales and marketing expenses may fluctuate as a percentage of total revenue.
•Research and development. Research and development expenses consist primarily of personnel costs and long-term incentive compensation. We expect research and development costs to increase in absolute dollars as we continue to enhance and expand our product offerings and cloud platform. However, our research and development expenses may fluctuate as a percentage of total revenue due to expected growth of our team and continued capitalization of certain costs related to the expansion of our cloud product portfolio.
•General and administrative. General and administrative expenses consist primarily of personnel costs, legal, consulting and other professional fees, and long-term incentive compensation. We expect general and administrative expenses to increase in absolute dollars to support the anticipated growth of our business, although our general and administrative expenses may fluctuate as a percentage of total revenue.
•Impairment of intangible assets. Impairment of intangible assets are incurred when we determine that the carrying value of an asset exceeds its fair value. We test annually, or when triggering events arise.
During the year ended December 31, 2022, we performed an impairment review of the customer relationships intangible assets obtained in our 2018 acquisition of Dealflo Limited (“Dealflo”). The impairment review was triggered by our July 2022 notification to customers regarding our intent to gradually sunset our Dealflo solution in the months leading up to December 31, 2023. The results of the impairment review indicated that the carrying value of the Dealflo customer relationships exceeded the fair value, and we recorded a $3.8
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million impairment charge on the entire remaining value of the asset during the year ended December 31, 2022.
•Amortization of intangible assets. Acquired intangible assets are amortized over their respective amortization periods and are periodically evaluated for impairment.
•Restructuring and related charges. Restructuring and other related charges consists of severance and related benefits incurred from headcount reductions as part of our restructuring plan. We plan to incrementally incur additional restructuring costs through December 31, 2025, when the plan terminates.
Segment Results
Segment operating income (loss) consists of the revenue generated by a segment, less the direct costs of revenue, sales and marketing, research and development, and general and administrative expenses, amortization and impairment charges that are incurred directly by a segment. Unallocated corporate costs include companywide costs that are not attributable to a particular segment. Financial results by operating segment are included below under Results of Operations.
Interest Income (Expense), Net
Interest income (expense), net, consists of income earned on our cash equivalents and short-term investments. Our cash equivalents and short-term investments are invested in short-term instruments at current market rates.
Other Income (Expense), Net
Other income (expense), net, primarily includes exchange gains (losses) on transactions that are denominated in currencies other than our subsidiaries’ functional currencies, subsidies received from foreign governments in support of our research and development in those countries and other miscellaneous non-operational expenses.
Income Taxes
Our effective tax rate reflects our global structure related to the ownership of our intellectual property (“IP”). The majority of our IP in our Security Solutions business is owned by two subsidiaries, one in the U.S. and one in Switzerland. The IP in our Digital Agreements business is owned by a subsidiary in Canada. These subsidiaries have entered into agreements with most of the other OneSpan entities under which those other entities provide services to the IP owners on either a percentage of revenue or on a cost-plus basis or both. In addition, many of our OneSpan entities operate as distributors for all of our OneSpan products. Under this structure, the earnings of our service provider subsidiaries are relatively constant. These service provider companies tend to be in jurisdictions with higher effective tax rates. Fluctuations in earnings flow to the IP owners.
As the majority of our revenues are generated outside of the U.S., our consolidated effective tax rate is influenced by the effective tax rate of our foreign operations. Changes in the effective rate related to foreign operations reflect changes in the geographic mix of earnings and the tax rates in each of the countries in which it is earned. The statutory tax rate for the primary foreign tax jurisdictions ranges from 11% to 35%.
The Company recorded changes in valuation allowance of $4.4 million and $15.0 million, as of December 31, 2022 and 2021, respectively, against deferred tax assets that, based on management’s assessment are considered not to be more likely than not to be realized. The increase in the valuation allowance in 2022 reflects Net Operating Losses (“NOLs”), other deduction carryforwards, and credits for which the realization is not more likely than not. The change in valuation allowance also reflects other factors including, but not limited to, changes in management’s assessment of the ability to use existing deferred tax assets, including NOLs and other deduction carryforwards.
Management assesses the need for a valuation allowance on a regular basis, weighing all positive and negative evidence to determine whether a deferred tax asset will be fully or partially realized. In evaluating the realizability of deferred tax assets, significant pieces of negative evidence such as 3-year cumulative losses are considered. Management also reviewed reversal patterns of temporary differences to determine if the Company would have sufficient taxable income due to the reversal of temporary differences to support the realization of deferred tax assets. In 2022, Management made the decision to establish a valuation allowance against certain deferred tax assets in jurisdictions that were not previously valued as the deferred tax assets were no longer more likely than not to be realized. Management continues to maintain a valuation allowance against certain deferred tax assets in other jurisdictions where assets had been previously valued. For
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all other remaining deferred tax assets, management believes it is still more likely than not that the results of future operations will generate sufficient taxable income to realize the deferred tax assets.
Impact of Currency Fluctuations
In 2022 and 2021, respectively, we generated approximately 83% and 86% of our revenues and incurred approximately 66% and 68% of our operating expenses outside of the U.S. As a result, changes in currency exchange rates, especially the Euro exchange rate and the Canadian Dollar exchange rate, can have a significant impact on our revenue and operating expenses.
While the majority of our revenue is generated outside of the U.S., a significant amount of our revenue earned during the year ended December 31, 2022 was denominated in U.S. Dollars. In 2022, approximately 54% of our revenue was denominated in U.S. Dollars, 42% was denominated in Euros and 4% was denominated in other currencies. In 2021, approximately 51% of our revenue was denominated in U.S. Dollars, 44% was denominated in Euros and 5% was denominated in other currencies.
In general, to minimize the net impact of currency fluctuations on operating income, we attempt to denominate an amount of billings in a currency such that it would provide a hedge against the operating expenses being incurred in that currency. We expect that changes in currency rates may impact our future results if we are unable to match amounts of revenue with our operating expenses in the same currency. If the amount of our revenue in Europe denominated in Euros continues as it is now or declines, we may not be able to balance fully the exposures of currency exchange rates on revenue and operating expenses.
The financial position and the results of operations of our foreign subsidiaries, with the exception of our subsidiaries in Switzerland, Singapore and Canada, are measured using the local currency as the functional currency. Accordingly, assets and liabilities are translated into U.S. Dollars using current exchange rates as of the balance sheet date. Revenues and expenses are translated at average exchange rates prevailing during the year. Translation adjustments arising from differences in exchange rates generated comprehensive loss of $7.2 million in 2022 and $3.0 million in 2021. These amounts are included as a separate component of stockholders’ equity. The functional currency for our subsidiaries in Switzerland, Singapore and Canada is the U.S. Dollar.
Gains and losses resulting from foreign currency transactions are included in the consolidated statements of operations in other income (expense). Foreign exchange transaction losses aggregated $1.8 million and foreign exchange transaction gains aggregated less than $0.1 million for the years ended December 31, 2022 and 2021, respectively.
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Results of Operations
In conjunction with our strategic transformation plan, effective with the quarter ended June 30, 2022, we began reporting under the following two lines of business, which are our reportable operating segments: Digital Agreements and Security Solutions.
The following table sets forth, for the periods indicated, selected segment and consolidated operating results.
Years Ended December 31,
(In thousands, except percentages)
Digital Agreements
Gross margin 77 % 73 %
Security
Gross margin 65 % 65 %
Total Company:
Gross margin 68 % 67 %
Statements of operations reconciliation:
Corporate operating expenses not allocated at the segment level 64,514 59,911
Revenue
Revenue by products and services allocated to the segments for the years ended December 31, 2022 and 2021 is as follows:
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Years Ended December 31,
Digital Agreements Security Solutions Digital Agreements Security Solutions
(In thousands)
(1) Subscription includes cloud and on-premises subscription revenue, previously referred to as "subscription" and
"term-based software licenses", respectively.
(2) Professional services and other includes perpetual software licenses revenue, which was approximately 2% of
total revenue for the year ended December 31, 2022 and approximately 5% of revenue for the year ended
December 31, 2021.
For the year ended December 31, 2022, total revenue increased by $4.5 million, or 2%, compared to the year ended December 31, 2021. Changes in foreign exchange rates as compared to the same period in 2021 negatively impacted total revenue by approximately $12.2 million.
Additional information on our revenue by segment follows.
•Digital Agreements revenue increased $7.9 million, or 19%, during the year ended December 31, 2022 compared to the year ended December 31, 2021. The increase in Digital Agreements revenue was driven by new customer revenue and existing customer expansion, partially offset by the non-renewal of certain contracts and contraction. We saw the conversion of some of our large existing on-premises Digital Agreements customers convert to our cloud subscription model, contributing to the growth. Changes in foreign exchange rates as compared to the same period in 2021 negatively impacted Digital Agreements revenue by $0.4 million.
•Security Solutions revenue decreased $3.3 million, or approximately 2%, during the year ended December 31, 2022 compared to the year ended December 31, 2021. This decrease was driven by lower hardware revenues as a result of delayed production deliveries due to global supply chain disruptions. In addition, we experienced lower volume hardware purchases from existing customers. Both maintenance and professional services and other revenue decreased while subscription revenue increased in conjunction with the transition from perpetual license to term license deals. Changes in foreign exchange rates compared to the same period in 2021 negatively impacted Security Solutions revenue by $11.8 million, driven largely by the US Dollar strengthening versus the Euro.
Revenue by Geographic Regions: We classify our sales by customer location in three geographic regions: 1) EMEA, which includes Europe, Middle East and Africa; 2) the Americas, which includes sales in North, Central, and
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South America; and 3) Asia Pacific (APAC), which also includes Australia, New Zealand, and India. The breakdown of revenue in each of our major geographic areas was as follows:
Years Ended December 31,
(In thousands, except percentages)
Revenue
% of Total Revenue
For the year ended December 31, 2022, revenue generated in EMEA was $4.6 million or 4% lower than the same period in 2021, driven largely by the strengthening of the U.S. Dollar compared to the Euro, as well as lower hardware sales.
For the year ended December 31, 2022, revenue generated in the Americas was $9.1 million or 13% higher than the same period in 2021, driven primarily by higher cloud subscription revenue as a result of both new customers and expansion of services to existing customers as a result of higher usage of our products.
For the year ended December 31, 2022, revenue generated in the Asia Pacific region (APAC) was less than $0.1 million or less than 1% higher than the same period in 2021.
Cost of Goods Sold and Gross Margin
Years Ended December 31,
(In thousands, except percentages)
Cost of goods sold
Gross margin
Product and license 63 % 62 %
Services and other 74 % 73 %
Total gross margin 68 % 67 %
The cost of product and license revenue decreased $1.1 million or 2% for the year ended December 31, 2022 compared to the year ended December 31, 2021. The decrease in cost of product and license was driven by lower hardware sales, partially offset by higher third-party software licensing costs in conjunction with higher software license sales, as well as price increases for our hardware components, and higher shipping costs for certain hardware products.
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The cost of services and other revenue decreased by less than $0.1 million, or less than 1% during the year ended December 31, 2022, compared to the year ended December 31, 2021.
Gross profit increased $5.6 million, or 4% for the year ended December 31, 2022 compared to the year ended December 31, 2021. Total gross margin was 68% for the year ended December 31, 2022, compared to 67% for the year ended December 31, 2021. The improvement in total gross margin was primarily due to product mix and certain cloud cost incentives received, partially offset by foreign currency impact. Subscription revenue increased 30% year-over-year, while hardware revenue decreased 7%.
The majority of our inventory purchases are denominated in U.S. Dollars. Our sales are denominated in various currencies, including the Euro. The impact of changes in currency rates are estimated to have had a favorable impact on overall cost of goods sold of approximately $1.0 million for the year ended December 31, 2022. Had currency rates in 2022 been equal to rates in the comparable period of 2021, the gross profit margin would have been approximately 1 percentage points higher for the year ended December 31, 2022.
Additional information on our gross profit by segment follows.
•Digital Agreements gross profit increased $7.9 million, or 27%, for the year ended December 31, 2022 compared to the prior year. The increase in gross profit was driven by higher revenues and lower outside services costs for operating our cloud platform due to higher usage tier discounts, including a one-time incentive credit. Digital Agreements gross margin for the years ended December 31, 2022 and 2021 was 77% and 73%, respectively.
•Security Solutions Security Solutions gross profit decreased $2.3 million, or approximately 2%, for the year ended December 31, 2022 compared to the prior year. The decrease in profitability was primarily driven by higher hardware materials and logistics costs relative to the average selling price of the units. Security Solutions gross margin was 65% for each of the years ended December 31, 2022 and 2021 .
Operating Expenses
For the year ended December 31, 2022, operating expenses increased by $6.6 million, or 4%, compared to the year ended December 31, 2021. Changes in foreign exchange rates favorably impacted operating expenses by approximately $7.5 million as compared to the year ended December 31, 2021.
The following table presents the breakout of operating expenses by category as of December 31, 2022 and 2021:
Years Ended December 31,
(In thousands, except percentages)
Operating costs
Impairment of intangible assets 3,828 — 3,828 NM
Restructuring and other related charges 9,482 — 9,482 NM
Sales and Marketing Expenses
Sales and marketing expenses decreased $1.8 million, or 3%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. The decrease was primarily related to lower headcount and associated payroll related expenses during the year ended December 31, 2022 compared to the prior year.
Average full-time sales and marketing employee headcount for year ended December 31, 2022 was 344, compared to 368 for year ended December 31, 2021. Average headcount in 2022 was 7% lower than in 2021.
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In future periods, we expect sales and marketing spend to increase as we enhance our enterprise go-to-market strategy. We are focused on new logo growth through building brand awareness, as well as expanding offerings to our existing customers. We expect to expand our sales force and add new distribution channels.
Research and Development Expenses
Research and development expenses decreased $5.7 million, or 12%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. The decrease in expense was driven primarily by the capitalization of expanded research and development costs of $4.0 million to enhance our transaction-cloud platform and our Digital Agreements product offerings. Personnel costs were also lower for the year ended December 31, 2022 compared to the prior year as a result of restructuring actions that reduced headcount.
Average full-time research and development employee headcount for year ended December 31, 2022 was 340, compared to 363 for year ended December 31, 2021. Average headcount in 2022 was 6% lower than in 2021.
General and Administrative Expenses
General and administrative expenses increased $2.5 million, or 5%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This increase in expense was due to higher average compensation per employee, higher stock-based compensation expense, and higher travel costs. The increases were partially offset by lower outside services costs.
Average full-time general and administrative employee headcount for year ended December 31, 2022 was 139, compared to 135 for the year ended December 31, 2021. Average general and administrative headcount in 2022 was 3% higher than in 2021.
Impairment of Intangible Assets
For the year ended December 31, 2022, we recorded $3.8 million of impairment of intangible assets charges. The impaired intangible assets were customer relationships associated with our Dealflo product, which was purchased in connection with a prior year acquisition.
Restructuring and Other Related Charges
Restructuring and other related charges were $9.5 million for the year ended December 31, 2022. The charges include severance, retention pay, and related benefit costs incurred in conjunction with our restructuring plans.
Amortization of Intangible Assets
Amortization of intangible assets for the year ended December 31, 2021 was $4.1 million, compared to $5.9 million for the year ended December 31, 2021, a decrease of $1.7 million or 30%. The decrease was driven by certain intangible assets acquired in the prior years becoming fully amortized.
Segment Operating Income (Loss)
Information on our operating income (loss) by segment follows.
•Digital Agreements Operating income for the year ended December 31, 2022 was $5.4 million, compared to operating loss of $1.6 million for the the prior year. The operating income increase reflects our strategic transformation plan to accelerate growth in this operating segment, which drove higher revenues. The increase in operating income was also driven by the capitalization of research and development costs for internal-use software incurred to grow the Digital Agreements product offerings. A one-time incentive credit from our cloud services provider also contributed to the increase, as well as lower payroll related expenses due to lower headcount, partially offset by the impact of foreign currency fluctuations.
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•Security Solutions For the year ended December 31, 2022, Security Solutions operating income was $32.1 million, which was $3.3 million, or 10%, lower than the prior year. This decrease was driven by the intangible assets impairment, an increase in material and freight costs, and the impact of foreign currency fluctuations.
Interest Income (expense), net
Years Ended December 31,
(In thousands, except percentages)
Interest income (expense), net $ 595 (1) $ 596 NM
Interest income (expense), net, was $0.6 million for the year ended December 31, 2022, compared to less than $(0.1) million for the year ended December 31, 2021. The increase in interest income is related to higher interest rates favorably impacting our invested cash balances during 2022.
Other Income (Expense), Net
Years Ended December 31,
(In thousands, except percentages)
Other income (expense), net, includes subsidies received from foreign governments in support of our research and development in those countries, exchange gains (losses) on transactions that are denominated in currencies other than our subsidiaries’ functional currencies, and other miscellaneous non-operational, non-recurring income and expenses.
For the year ended December 31, 2022, other income (expense), net was $14.8 million, compared to less than $(0.1) million for the year ended December 31, 2021. The fluctuation was primarily driven by the $14.8 million gain on sale of our equity-method investment in Promon AS.
Provision for income taxes
Years Ended December 31,
(In thousands, except percentages)
We recorded Provision for income taxes for the year ended December 31, 2022 of $2.7 million compared to $4.4 million for the year ended December 31, 2021. The decrease in expense recorded for the year ended December 31, 2022 was primarily attributable to the jurisdictional mix of profit before taxes, and a lower valuation allowance recorded in 2022 compared to 2021.
Loss Carryforwards Available
At December 31, 2022, we have gross deferred tax assets of $46.8 million resulting from U.S. federal, foreign and state NOL carryforwards of $125.7 million and other foreign deductible carryforwards of $124.2 million. At December 31, 2022, we have a valuation allowance of $37.7 million against deferred tax assets related to certain carryforwards.
Key Business Metrics and Non-GAAP Financial Measures
In our quarterly earnings press releases and conference calls, we discuss the below key metrics and financial measures that are not calculated according to generally accepted accounting principles (“GAAP”). These metrics and non-GAAP financial measures help us monitor and evaluate the effectiveness of our operations and evaluate period-to-period comparisons. Management believes that these metrics and non-GAAP financial measures help illustrate underlying trends
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in our business. We use these metrics and non-GAAP financial measures to establish budgets and operational goals (communicated internally and externally), manage our business and evaluate our performance. We also believe that both management and investors benefit from referring to these metrics and non-GAAP financial measures as supplemental information in assessing our performance and when planning, forecasting, and analyzing future periods. We believe these metrics and non-GAAP financial measures are useful to investors both because they allow for greater transparency with respect to financial measures used by management in their financial and operational decision-making and also because they are used by investors and the analyst community to help evaluate the health of our business.
Annual Recurring Revenue
We use annual recurring revenue, or ARR, as an approximate measure to monitor the revenue growth of our recurring business. ARR represents the annualized value of the active portion of SaaS, term-based license, maintenance and support contracts, and other subscription services at the end of the reporting period.
ARR is calculated as the approximate annualized value of our customer recurring contracts as of the measurement date. These include subscription, term-based license, and maintenance contracts and exclude one-time fees. To the extent that we are negotiating a renewal with a customer after the expiration of a recurring contract, we continue to include that revenue in ARR if we are actively in discussions with the customer for a new recurring contract or renewal, or until such customer notifies us that it is not renewing its recurring contract.
ARR does not have any standardized meaning and is therefore unlikely to be comparable to similarly titled measures presented by other companies. ARR should be viewed independently of revenue and deferred revenue as ARR is an operating metric and is not intended to be combined with or replace these items. ARR is not a forecast of future revenue, which can be impacted by contract start and end dates and renewal rates, and does not include revenue from perpetual licenses, purchases of Digipass authenticators that are not cloud-connected devices, training, professional services or other sources of revenue that are not deemed to be recurring in nature.
At December 31, 2022, we reported ARR of $138.7 million, which was 12% higher than 2021 ARR of $124.1 million. Changes in foreign exchange rates during the year ended December 31, 2022 as compared to the prior year negatively impacted ARR by approximately $3.9 million. ARR growth was primarily driven by an increase in subscription contracts.
Net Retention Rate
Net Retention Rate, or NRR, is defined as the approximate year-over-year percentage growth in ARR from the same set of customers at the end of the prior year period. It measures the Company’s ability to increase revenue across our existing customer base through expanded use of our platform, offset by customers whose subscription contracts with us are not renewed or renew at a lower amount. The company’s ability to drive growth and generate incremental revenue depends, in part, on our ability to maintain and grow our relationships with customers. NRR is an important way in which we track our performance in this area.
We previously referred to NRR as Dollar-Based Net Expansion (DBNE). There is no change in how we define or calculate NRR as compared to DBNE.
We reported NRR of 107% and 115% at December 31, 2022 and 2021, respectively. Year-over-year, NRR was impacted by foreign currency exchange impacts, longer sales cycles in certain international regions, timing related to contract renewals, and contraction.
Adjusted EBITDA
We define Adjusted EBITDA as net income before interest, taxes, depreciation, amortization, long-term incentive compensation, and certain non-recurring items, including acquisition related costs, lease exit costs, rebranding costs, and non-routine shareholder matters. We use Adjusted EBITDA as a simplified measure of performance for use in communicating our performance to investors and analysts and for comparisons to other companies within our industry.
As a performance measure, we believe that Adjusted EBITDA presents a view of our operating results that is most closely related to serving our customers. By excluding interest, taxes, depreciation, amortization, long-term incentive compensation, impairment of intangible assets, restructuring costs, and certain other non-recurring items, we are able to
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evaluate performance without considering decisions that, in most cases, are not directly related to meeting our customers’ requirements and were either made in prior periods (e.g., depreciation, amortization, long-term incentive compensation, non-routine shareholder matters), deal with the structure or financing of the business (e.g., interest, one-time strategic action costs, restructuring costs, impairment charges) or reflect the application of regulations that are outside of the control of our management team (e.g., taxes). In addition, removing the impact of these items helps us compare our core business performance with that of our competitors.
Non-GAAP financial metrics such as Adjusted EBITDA are not measures of performance under GAAP and should not be considered in isolation or as alternatives or substitutes for the most directly comparable financial measures calculated in accordance with GAAP, but, rather, should be considered together with our consolidated financial statements, which are prepared in accordance with GAAP and included in Part IV, Item 15, Exhibits and Financial Statement Schedules.
The following table reconciles net income as reported on our consolidated statements of operations to non-GAAP Adjusted EBITDA:
Years EndedDecember 31,
Interest (expense) income, net (595) 1
Depreciation and amortization of intangible assets 7,066 8,926
Long-term incentive compensation 8,813 5,202
Impairment of intangible assets 3,828 —
Restructuring and other related charges 9,482 —
(1) For the year ended December 31, 2022, non-recurring items consist of $4.3 million of outside services related to our strategic action plan, and a $(14.8) million non-operating gain on the sale of our equity-method investment in Promon AS.
For the year ended December 31, 2021, non-recurring items consist of $3.5 million of outside service costs related to our strategic action plan, $2.8 million of outside service costs related to the proxy contest that took place in 2021 and the related $0.7 million settlement with Legion Partners.
Adjusted EBITDA increased during the year ended December 31, 2022 compared to 2021, primarily due to higher Net income (loss) as well as increases in certain expenses excluded from Adjusted EBITDA. Long-term incentive compensation, Impairment of intangible assets, and Restructuring and other related charges were offset by a $14.8 million net gain from the sale of our equity-method investment in Promon.
Please see further discussion in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations for an analysis of what comprises Net loss in the consolidated statements of operations for the years ended December 31, 2022 and 2021, and additional detail around items excluded from Adjusted EBITDA.
Liquidity and Capital Resources
As of December 31, 2022, we had net cash balances (total cash and cash equivalents) of $96.5 million and short-term investments of $2.3 million. At December 31, 2022, short-term investments consist of corporate notes and bonds. At December 31, 2021, we had net cash balances of $63.4 million and short-term investments of $35.1 million. Short-term investments at December 31, 2021 consisted of U.S. treasury bills and notes, government agency notes, corporate notes and bonds, and high-quality commercial paper with maturities at acquisition of more than three months and less than twelve months.
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We are party to lease agreements that require letters of credit to secure the obligations. The restricted cash related to these letters of credit is recorded in "Other non-current assets" on the consolidated balance sheets in the amounts of $0.8 million at December 31, 2022 and 2021.
As of December 31, 2022, we held $58.9 million of cash and cash equivalents in subsidiaries outside of the United States. Of that amount, $58.0 million is not subject to repatriation restrictions, but may be subject to taxes upon repatriation.
We expect that our existing cash and cash equivalents will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for at least the next 12 months.
Our cash flows are as follows:
Years Ended December 31,
(In thousands)
Cash provided by (used in):
Effect of foreign exchange rate changes on cash and cash equivalents (372) (895)
Operating Activities
Cash used in operating activities is primarily comprised of net income (loss), as adjusted for non-cash items, and changes in operating assets and liabilities. Non-cash adjustments consist primarily of amortization and impairment of intangible assets, deferred taxes, depreciation of property and equipment, and stock-based compensation. We expect cash inflows from operating activities to be affected by increases or decreases in sales and timing of collections and payment of expenditures. Our primary uses of cash from operating activities have been for personnel costs. We expect cash outflows from operating activities to be affected by increases in personnel cost as we grow our business.
For the year ended December 31, 2022, $5.8 million of cash was used in operating activities. This was primarily driven by severance payments, offset by changes in accounts receivable, inventories, accounts payable, and deferred revenue. For the year ended December 31, 2021, $2.7 million of cash was used in operating activities.
Our working capital at December 31, 2022 was $86.7 million, a decrease of $11.3 million, or 12%, from $98.0 million at December 31, 2021. The decrease was due to a lower operating income driven by restructuring and other related charges as well as lower capital needs as we better manage the timing of cash collections and vendor payments.
Investing Activities
The changes in cash flows from investing activities primarily relate to timing of purchases, maturities and sales of investments, purchases of property and equipment, and activity in connection with acquisitions. We expect to continue to purchase property and equipment to support the continued growth of our business as well to continue to invest in our infrastructure and activity in connection with acquisitions.
For the year ended December 31, 2022 cash of $46.6 million was provided by investing activities, compared to cash of $11.0 million used in investing activities during the year ended December 31, 2021. The cash provided for the year ended December 31, 2022 was primarily attributable to the proceeds received from the sale of our equity investment in Promon AS and the sale of certain of our short-term investments.
Financing Activities
The changes in cash flows from financing activities primarily relate to the purchases of common stock under our share repurchase program and tax payments for restricted stock issuances.
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For the year ended December 31, 2022, net cash used in financing activities was $7.3 million, which consisted of $5.7 million of common stock repurchased and $1.6 million of tax payments for restricted stock issuances.
For the year ended December 31, 2021, net cash used in financing activities was $10.4 million, which consisted of $7.5 million of common stock repurchased and $2.9 million of tax payments for restricted stock issuances.
Off-Balance Sheet Arrangements
The Company has no off-balance sheet arrangements.
Contractual Obligations and Commitments
We have purchase obligations of $24.6 million, including $5.3 million of inventory purchase obligations which are expected to be consummated in the next 12 months, $17.4 million of committed hosting arrangements which we expect will be used in the next one to two years, and $2.0 million for other software agreements related to the administration of our business which range from one to three years.
We have operating lease obligations of $10.7 million which will expire in the next one to seven years. The operating lease obligations do not include common area maintenance charges or real estate taxes under our operating leases, for which the Company is also obligated. These charges are generally not fixed and can fluctuate from year to year.
We have taxes payable of $4.5 million due within the next one to three years, which primarily represent deemed repatriation tax from 2017. The Company had $0.0 million and $0.5 million of unrecognized tax benefits as of December 31, 2022 and 2021, respectively.
Critical Accounting Policies and Estimates
Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires management 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 and the reported amounts of revenue and expenses during the reporting period.
On an on-going basis, management evaluates its estimates and judgments, including those related to bad debts, net realizable value of inventory and intangible assets. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following critical accounting policies affect significant judgments and estimates used in the preparation of its consolidated financial statements.
Revenue Recognition
We record revenue in accordance with ASC Topic 606 "Revenue from Contracts with Customers". 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; and
•Recognition of revenue when, or as, we satisfy a performance obligation.
Revenues are recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those products or services, which excludes any sales incentives and amounts collected on behalf of third parties. Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, that are collected by us from a
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customer, are excluded from revenue. Shipping and handling costs associated with outbound freight before control over a product has transferred to a customer are accounted for as a fulfillment cost and are included in "Cost of goods sold".
Nature of Goods and Services
We derive our revenues primarily from product and license revenue, which includes hardware products and on-premises subscription revenue, and services and other, which is inclusive of cloud subscription revenue, maintenance and support, and professional services.
Subscription: Subscription includes cloud and on-premises subscription revenue, previously referred to as “subscription” and “term-based software licenses”, respectively.
We generate cloud subscription revenues from our Digital Agreements and Security Solutions cloud service offerings. Our standard customer arrangements do not provide the customer with the right to take possession of the software supporting the cloud-based application service at any time. As such, these arrangements are considered service contracts and revenue is recognized ratably over the service period of the contract. Customer payments are normally in advance for annual service.
Revenue from the sale of on-premises subscription revenue is recorded upon delivery which is the latter of when the customer receives the ability to access the software or when they are legally allowed to use the software. No significant obligations or contingencies exist with regard to delivery, customer acceptance or rights of return at the time revenue is recognized. We offer term licenses for on-premises subscription revenue ranging from one to five years in length. For term licenses, payments are either on installment or in advance. In limited circumstances, we integrate third-party software solutions into our software products. We have determined that, consistent with our conclusion under prior revenue recognition rules, generally we act as the principal with respect to the satisfaction of the related performance obligation and record the corresponding revenue on a gross basis from these transactions. For transactions in which we do not act as the principal, we recognize revenue on a net basis. The fees owed to the third parties are recognized as a component of cost of goods sold when the revenue is recognized.
Maintenance and support: Maintenance and support agreements generally call for us to provide software updates and technical support, respectively, to customers. The annual fee for maintenance and technical support is recognized ratably over the term of the maintenance and support agreement as this is the period the services are delivered. Customer payments are normally in advance for annual service.
Professional Services and other Revenue: Professional services revenues are primarily comprised of implementing, automating and extending business processes, technology infrastructure, and software applications. Professional services revenues are recognized over time as services are rendered, usually over a period of time that is generally less than a few months. Most projects are performed on a time and materials basis while a portion of revenues is derived from projects performed on a fixed fee. For time and material contracts, revenues are generally recognized and invoiced by multiplying the number of hours expended in the performance of the contract by the contractual hourly rates. For fixed fee contracts, revenues are generally recognized using an input method based on the ratio of hours expended to total estimated hours to complete the services. Customer payments normally correspond with delivery. Professional services and other revenue includes perpetual licenses revenue which was less than 3% of revenue for the year ended December 31, 2022 and less than 6% for the year ended December 31, 2021. Perpetual licenses grant the customer unlimited access to the software.
Hardware products: Revenue from the sale of security hardware is recorded upon shipment, which is the point at which control of the goods are transferred and the completion of the performance obligations, unless there are specific terms that would suggest control is transferred at a later date (e.g. delivery). No significant obligations or contingencies typically exist with regard to delivery, customer acceptance or rights of return at the time revenue is recognized. Customer invoices and subsequent payments normally correspond with delivery.
The Company also enters into separate service agreements with certain hardware customers to perform distribution services. In these situations, revenue is recognized prior to physical delivery of a good (i.e. “bill-and-hold arrangements). The Company evaluates bill-and-hold arrangement, and records revenue accordingly when the following criteria is met:
•The reason for the bill-and-hold arrangement is substantive;
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•The product is identified separately as belonging to the customer;
•The product currently is ready for physical transfer to the customer; and
•OneSpan does not have the ability to use the product or to direct it to another customer.
Multiple-Element Arrangements
In our typical multiple-element arrangement, the primary deliverables include:
1.A client component (i.e. an item that is used by the person being authenticated in the form of either a new standalone hardware device or software that is downloaded onto a device that the customer already owns);
2.Server system software that is installed on the customer’s systems (i.e., software on the server system that verifies the identity of the person being authenticated) or licenses for additional users on the server system software if the server system software had been installed previously; and
3.Post contract support (PCS) in the form of maintenance on the server system software or support.
Our multiple-element arrangements may also include other items that are usually delivered prior to the recognition of any revenue and are incidental to the overall transaction such as initialization of the hardware device, customization of the hardware device itself or the packaging in which it is delivered, deployment services where we deliver the device to our customer’s end-use customer or employee and, in some limited cases, professional services to assist with the initial implementation of a new customer.
Significant Judgments
We enter into contracts to deliver a combination of hardware devices, software licenses, subscriptions, maintenance and support and, in some situations, professional services. The Company evaluates the nature of the goods or services promised in these arrangements to identify the distinct performance obligations. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment depending on the terms and conditions of the respective customer arrangement. When a hardware client device and licenses to server software are sold in a contract, they are treated as a single performance obligation because the software license is deemed to be a component of the hardware that is integral to the functionality of the hardware that is used by our customers for identity authentication. When a software client device is sold in a contract server software, the licenses are considered a single performance obligation to deliver the authentication solution to the customer. In either of these types of arrangements, maintenance and support and professional services are typically distinct separate performance obligations from the hardware or software solutions. Our contracts to deliver subscription services typically do not include multiple performance obligations; however, in certain limited cases customers may purchase professional services that are distinct performance obligations.
For contracts that contain multiple performance obligations, the transaction price is allocated to the separate performance obligations based on their estimated relative standalone selling price. Judgment is required to determine the stand-alone selling price (“SSP”) of each distinct performance obligation. We determine SSP for maintenance and support and professional services based on observable inputs; specifically, the range of prices charged to customers to renew annual maintenance and support contracts and the range of hourly rates we charge our customers in standalone professional services contracts. In instances where SSP is not directly observable, and when we sell at a highly variable price range, such as for transactions involving software licenses or subscriptions, we determine the SSP for those performance obligations using the residual approach.
Credit Losses
In accordance with Accounting Standards Update (ASU) No. 2016-13, the Company evaluates its allowance based on expected losses rather than incurred losses, which is known as the current expected credit loss (CECL) model. The allowance is determined using the loss rate approach and is measured on a collective (pool) basis when similar risk characteristics exist. Where financial instruments do not share risk characteristics, they are evaluated on an individual
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basis. The allowance is based on relevant available information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts.
Income Taxes
As a global company, we calculate and provide for income taxes in each tax jurisdiction in which we operate. The provision for income taxes includes the amounts payable or refundable for the current year, the effect of deferred taxes and impacts from uncertain tax positions. Our provision for income taxes is significantly affected by shifts in the geographic mix of our pre-tax earnings across tax jurisdictions, changes in tax laws and regulations, and tax planning opportunities available in each tax jurisdiction.
Deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial statement and tax bases of our assets and liabilities and for operating losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates that will apply to taxable income in the years in which those differences are expected to be recovered or settled. Valuation allowances are established for deferred tax assets when it is more likely than not that a tax benefit will not be realized. We recognize the effect of a change in tax rates on deferred tax assets and liabilities and in income in the period that includes the enactment date.
We recognize tax benefits for tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50 percent likely to be realized upon ultimate settlement. Unrecognized tax benefits are tax benefits claimed in our income tax returns that do not meet these recognition and measurement standards. Assumptions, judgments, and the use of estimates are required in determining whether the “more-likely-than-not” standard has been met when developing the provision for income taxes.
We recognize the tax impact of including certain foreign earnings in U.S. taxable income as a period cost. We have recognized deferred income taxes for local country income and withholding taxes that could be incurred on distributions of non-U.S. earnings because we do not plan to indefinitely reinvest such earnings.
We monitor for changes in tax laws and reflect the impacts of tax law changes in the period of enactment.
Recently Issued Accounting Pronouncements
For information regarding our new accounting pronouncements, see Note 2, Summary of Significant Accounting Policies, in the notes to consolidated financial statements included in Part IV, Item 15, Exhibits and Financial Statements Schedules.
Item 7A - Quantitative and Qualitative Disclosures about Market Risk (In thousands)
Foreign Currency Exchange Risk – In 2022, approximately 83% of our business was conducted outside the United States, primarily in Europe, Latin America and Asia Pacific. A significant portion of our business operations is transacted in foreign currencies. As a result, we have exposure to foreign exchange fluctuations. We are affected by both foreign currency translation and transaction adjustments. Translation adjustments result from the conversion of the foreign subsidiaries’ balance sheets and income statements to U.S. Dollars at year-end exchange rates and weighted average exchange rates, respectively. Translation adjustments resulting from this process are recorded directly into stockholders’ equity. Transaction adjustments result from currency exchange movements when one of our companies transacts business in a currency that differs from its local currency. These adjustments are recorded as gains or losses in our consolidated statements of operations. Our business transactions are spread across numerous countries and currencies. As noted in Management’s Discussion and Analysis above, we attempt to minimize the net impact of currency on operating earnings by denominating an amount of billings in a currency such that it would provide a hedge against the operating expenses being incurred in that currency.
Interest Rate Risk – We have minimal interest rate risk. We had no debt outstanding at December 31, 2022. Our cash, cash equivalents, and short-term investments are invested in short-term instruments at current market rates. If rates were to increase or decrease by one percentage point, our interest income would increase or decrease by less than $0.1 million annually.
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Item 8 - Financial Statements and Supplementary Data
The information in response to this item is included in our consolidated financial statements, together with the report thereon of KPMG LLP, in Item 15, Exhibits and Financial Statement Schedules, and in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A - Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer (our principal executive officer) and Chief Financial Officer (our principal financial officer), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under Exchange Act as of December 31, 2022.
Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of December 31, 2022, to provide reasonable assurance that the information required to be disclosed by us in reports filed under the Exchange Act, is recorded, processed, summarized and reported within the time period specified in the rules and forms of the SEC, and is accumulated and communicated to management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.
Management’s Annual Report on Internal Control over Financial Reporting
The management of OneSpan Inc. is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) promulgated under the Exchange Act ). Management, led by our Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of our internal control over financial reporting based upon the criteria set forth in the Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control—Integrated Framework (2013).
Management has concluded that its internal control over financial reporting was effective as of December 31, 2022 to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statements in accordance with U.S. GAAP.
KPMG LLP, an independent registered public accounting firm, has audited the effectiveness of our internal control over financial reporting as of December 31, 2022, included on page F-2 of this Annual Report on Form 10-K.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting (as that term is defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter ended December 31, 2022, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting
Limitations on the Effectiveness of Controls
Management believes that our disclosure controls and procedures and internal control over financial reporting are designed to provide reasonable assurance of achieving their objectives and are effective at the reasonable assurance level. However, our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies and procedures may deteriorate.
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Item 9B - Other Information
On February 23, 2022, the Compensation Committee of our Board of Directors (the “Compensation Committee”) adopted the 2023 Management Incentive Plan (the “2023 MIP”), a cash-based incentive compensation plan pursuant to which eligible employees of OneSpan Inc. and its subsidiaries, including named executive officers, are eligible for an annual bonus.
Participants in the 2023 MIP are eligible to receive a cash bonus (“Bonus”) based upon a combination of (1) our achievement against targets for designated performance metrics (“Company Performance Factors”) and (2) their individual performance (the “Individual Performance Factor”). The Company Performance Factors are weighted to account for a total of 90% of the potential Bonus amount and the Individual Performance Factor is weighted to account for 10% of the potential Bonus amount. The weighted Company Performance Factors and Individual Performance Factor are added together to create a Combined Performance Factor, which is used to calculate the amount of the Bonus.
The two Company Performance Factors are Revenue and Adjusted EBITDA. “Revenue” refers to our publicly reported revenue, and Adjusted EBITDA is defined in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations. The Revenue factor is weighted at 70% and the Adjusted EBITDA factor is weighted at 20% (for a total Company Performance Factor weighting of 90%). Different levels of achievement against the Revenue and Adjusted EBITDA targets will correspond to different Bonus payout levels, as follows:
•Revenue: The Company must achieve a minimum of 97.9% of the Revenue target in order for the Revenue factor to contribute to the Bonus payout calculation. For the Revenue factor, a 97.9% achievement level would correspond to the minimum payout level of 50%; a 100% achievement level would correspond to the target payout level of 100%; and a 105.3% or greater achievement level would correspond to the maximum payout level of 150%.
•Adjusted EBITDA: The Company must achieve a minimum of 66.7% of the Adjusted EBITDA target in order for the Adjusted EBITDA factor to contribute to the Bonus payout calculation. For the Adjusted EBITDA factor, a 66.7% achievement level would correspond to the minimum payout level of 50%; a 100% achievement level would correspond to the target payout level of 100%; and a 133.3% or greater achievement level would correspond to the maximum payout level of 125%.
For achievement levels that fall between the maximum, target, and minimum Revenue and Adjusted EBITDA achievement levels, the corresponding payout levels will be calculated using linear interpolation.
10% of the potential Bonus amount is calculated based on a participant’s performance against individual performance objectives set by their manager. Performance that meets expectations will correspond to a 100% payout level for the Individual Performance Factor, and performance that is below or above expectations will be adjusted accordingly.
In addition to the Company Performance Factors and the Individual Performance Factor, the potential Bonus under the 2023 MIP depends on a participant’s eligible target Bonus amount, which may be expressed either as a fixed dollar amount or as a percentage of the participant's base salary.
Achievement against the Company Performance Factors is based on the Company's 2023 financial performance and is subject to approval by the Board of Directors or the Compensation Committee. The Board of Directors or the Compensation Committee may make adjustments to the targets for the Company Performance Factors to address the impact of any mergers, acquisitions or other unexpected activities, developments, trends or events. In addition, achievement of the targets for the Company Performance Factors may, in the Board of Directors' or Compensation Committee’s discretion, include or exclude the impact of any of the following events that occur during 2023: any reorganization or restructuring transactions; extraordinary nonrecurring items; and significant acquisitions or divestitures. OneSpan reserves the right to unilaterally alter or discontinue the 2023 MIP at its complete discretion, unless specifically prohibited under local law.
The foregoing summary of the terms of the 2023 MIP is qualified in its entirety by reference to the 2023 MIP, which the Company expects to file as an exhibit to its Quarterly Report on Form 10-Q for the quarter ending March 31, 2023.
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Also on February 23, 2022, the Compensation Committee approved, and on February 27, 2022 OneSpan entered into, the following two amendments to agreements with our CEO, Matthew Moynahan:
Amendment and Restatement of 2022 PSU Agreement. The original 2022 performance-based restricted stock unit (PSU) agreement between Mr. Moynahan and the Company dated June 23, 2022 provided that one-third of the PSUs granted under the agreement would be earned and vest based on the Company’s performance against 2022 targets for Subscription and Term Revenue and Adjusted EBITDA; one-third would be earned and vest based on performance metrics to be established by the Compensation Committee for 2023; and one-third would be earned and vest based on performance metrics to be established by the Compensation Committee for 2024. The amendment and restatement of the 2022 PSU Agreement (the “Amended PSU Agreement”) provides that the PSUs granted under the Amended PSU Agreement are earned based entirely on the Company’s performance against 2022 targets for Subscription and Term Revenue and Adjusted EBITDA, and once earned, vest as to one-third of the earned shares on December 31 of each of 2022, 2023, and 2024, provided that Mr. Moynahan is still employed with the Company as of the applicable vesting date. In the event Mr. Moynahan is terminated without cause or resigns his employment within 18 months following a change in control of the Company, all earned shares will vest in full. The definitions of the terms “cause”, “good reason”, and “change in control” are set forth in the Amended PSU Agreement. The purpose of the Amended PSU Agreement was to effectuate the Compensation Committee’s original intent with respect to this 2022 grant to Mr. Moynahan, which was to incentivize and reward 2022 performance.
Amendment and Restatement of Employment Agreement. This amendment and restatement (the “Amended Employment Agreement”) of Mr. Moynahan’s employment agreement with the Company dated November 29, 2021 makes a variety of changes to the original agreement in order to conform Mr. Moynahan’s agreement to certain of the Company’s practices for more recently hired executives, including: providing that Mr. Moynahan will receive the severance pay specified in the agreement if he is terminated without cause or resigns for good reason within 18 months (rather than 12 months) following a change in control of the Company; providing that in the event he is terminated without cause or leaves for good reason (whether or not in connection with a change in control), the Company will pay his full COBRA premiums rather than the employer portion only; requiring Mr. Moynahan to execute the Company’s standard executive non-disclosure and invention assignment agreement and standard non-competition and non-solicitation agreement for Massachusetts-based executives, the latter of which contemplates a one-year non-compete and non-solicit period; clarifying certain timing requirements and logistics in the event of Mr. Moynahan’s resignation for good reason; clarifying separation and release requirements in the event of a separation from the Company; and making certain other administrative, clarifying and conforming changes. The definitions of the terms “cause”, “good reason”, and “change in control” are set forth in the Amended Employment Agreement. The Amended Employment Agreement also increases Mr. Moynahan's base salary to $600,000 per year, effective in the next reasonably practicable pay period following the effective date of the Amended Employment Agreement.
The foregoing summaries of the terms of the Amended PSU Agreement and the Amended Employment Agreement are qualified in their entirety by reference to the full respective agreements, which the Company expects to file as exhibits to its Quarterly Report on Form 10-Q for the quarter ending March 31, 2023.
Item 9C - Disclosure Regarding Foreign Jurisdictions that Prevent Inspection
Not applicable.
PART III
Item 10 - Directors, Executive Officers and Corporate Governance
All information in response to this Item, other than the required information on executive officers, is incorporated by reference to the “Information regarding our Board of Directors” and “Delinquent Section 16(a) Reports” sections of OneSpan’s Proxy Statement to be filed with the SEC for the 2023 Annual Meeting of Stockholders. The required information on executive officers is set forth in Part I of this Form 10-K under "Information about our Executive Officers."
Item 11 - Executive Compensation
The information in response to this Item is incorporated by reference to the “Executive Compensation” and "Director Compensation" sections of OneSpan’s Proxy Statement (except for the section titled "Executive Compensation - Pay versus Performance) to be filed with the SEC for the 2023 Annual Meeting of Stockholders.
54
Item 12 - Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information in response to this Item is incorporated by reference to the “Security Ownership of Certain Beneficial Owners, Directors and Management” section of OneSpan’s Proxy Statement to be filed with the SEC for the 2023 Annual Meeting of Stockholders.
Item 13 - Certain Relationships and Related Transactions, and Director Independence
The information in response to this Item is incorporated by reference to the “Directors and Executive Officers” and “Transactions with Related Persons” sections of OneSpan’s Proxy Statement to be filed with the SEC for the 2023 Annual Meeting of Stockholders.
Item 14 - Principal Accounting Fees and Services
The information in response to this Item is incorporated by reference to the “Fees Paid to Independent Registered Public Accounting Firm for 2022 and 2021” section of OneSpan’s Proxy Statement to be filed with the SEC for the 2023 Annual Meeting of Stockholders.
PART IV
Item 15 - Exhibits and Financial Statement Schedules
(a)The following documents are filed as part of this Annual Report on Form 10-K.
(1)The following consolidated financial statements and notes thereto, and the related independent auditors’ report, are included on pages F-1 through F-39 of this Annual Report on Form 10-K:
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2022 and 2021
Consolidated Statements of Operations for the Years Ended December 31, 2022, 2021 and 2020
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2022, 2021 and 2020
Consolidated Statements of Stockholders’ Equity for the Years Ended December 31, 2022, 2021 and 2020
Consolidated Statements of Cash Flows for the Years Ended December 31, 2022, 2021 and 2020
Notes to Consolidated Financial Statements
(2)The following consolidated financial statement schedule of the Company is included on page F-40 of this Form 10-K:
Schedule II – Valuation and Qualifying Accounts
All other financial statement schedules are omitted because such schedules are not required or the information required has been presented in the aforementioned consolidated financial statements.
(3)The following exhibits are filed with this Annual Report on Form 10-K or incorporated by reference as set forth at the end of the list of exhibits:
55
ExhibitNumber Description
10.1 Form of Director and Officer Indemnification Agreement
10.3* Employment Agreement between the Registrant and Lara Mataac
56
ExhibitNumber Description
21 Subsidiaries of Registrant
23 Consent of KPMG LLP
101.SCH XBRL Taxonomy Extension Schema Document
101.CAL XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB XBRL Taxonomy Extension Label Linkbase Document
101.PRE XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF XBRL Taxonomy Extension Definition Linkbase Document
___________________________
*Compensatory plan or management contract.
OneSpan Inc. will furnish any of the above exhibits to stockholders upon written request addressed to the Secretary at the address given on the cover page of this Form 10-K.
57
OneSpan Inc.
INDEX TO FINANCIAL STATEMENTS AND SCHEDULE
Financial Statements
Report of Independent Registered Public Accounting Firm F-2
Consolidated Balance Sheets as of December 31, 2022 and 2021 F-4
Notes to Consolidated Financial Statements F-9
Financial Statement Schedule
The following consolidated financial statement schedule is included herein:
Schedule II – Valuation and Qualifying Accounts F-40
All other financial statement schedules are omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto.
F-1
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
OneSpan Inc.:
Opinions on the Consolidated Financial Statements and Internal Control Over Financial Reporting
We have audited the accompanying consolidated balance sheets of OneSpan Inc. and subsidiaries (the Company) as of December 31, 2022 and 2021, the related consolidated statements of operations, comprehensive income (loss), stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2022, and the related notes and financial statement schedule II (collectively, the consolidated financial statements). We also have audited the Company’s internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control – Integrated Framework(2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2022, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022 based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
Basis for Opinions
The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audit of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and
F-2
directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Identification of performance obligations in contracts containing software licenses with unique terms and conditions
As discussed in Notes 2 and 5 to the consolidated financial statements, the Company enters into contracts to deliver a combination of hardware devices, software licenses, subscriptions, maintenance and support and, in some situations, professional services. The Company evaluates the nature of the goods and services promised in these arrangements to identify the distinct performance obligations. The Company recognized total revenue of $219 million, a portion of which related to contracts containing software licenses, for the year ended December 31, 2022.
We identified the evaluation of the Company’s identification of performance obligations in contracts containing software licenses with unique terms and conditions as a critical audit matter. Specifically, complex auditor judgment was required to evaluate the Company's identification of performance obligations in such contracts, including for contracts with new customers or contracts that were amended with existing customers.
The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls related to the Company’s revenue recognition process. This included controls related to the identification of performance obligations and evaluation of unique terms and conditions present in individual contracts. We tested a selection of contracts, including contracts with new customers and contracts that were amended with existing customers, by obtaining and reading the underlying contract and accounting analysis to evaluate the Company’s identification of performance obligations. Specifically, we evaluated the completeness and accuracy of the Company’s identification of terms and conditions that were unique to the selected contracts and the Company’s determination of the impact of those terms and conditions on revenue recognition.
/s/ KPMG LLP
We have served as the Company’s auditor since 1996.
Chicago, Illinois
February 28, 2023
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OneSpan Inc.
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
December 31,
ASSETS
Current assets
Operating lease right-of-use assets 8,022 9,197
Intangible assets, net of accumulated amortization 12,482 21,270
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Short-term income taxes payable 2,438 1,103
Long-term income taxes payable 2,565 5,054
Stockholders' equity
Accumulated other comprehensive loss (14,550) (11,182)
Total liabilities and stockholders' equity $ 335,082 $ 342,271
See accompanying notes to consolidated financial statements.
F-4
OneSpan Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Years Ended December 31,
Revenue
Cost of goods sold
Operating costs
Impairment of intangible assets 3,828 — —
Restructuring and other related charges 9,482 — —
Interest income (expense), net 595 (1) 404
Net loss per share
Weighted average common shares outstanding
See accompanying notes to consolidated financial statements.
F-5
OneSpan Inc.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
Years Ended December 31,
Other comprehensive loss
Cumulative translation adjustment, net of tax (7,245) (2,997) 4,534
Unrealized losses on available-for-sale securities 18 (21) —
See accompanying notes to consolidated financial statements.
F-6
OneSpan Inc.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands)
Description Shares Amount Shares Amount
Net income (loss) — — — — — (5,455) — (5,455)
Foreign currency translation adjustment, net of tax — — — — — — 4,534 4,534
Tax payments for stock issuances (96) — — — (2,030) — — (2,030)
Pension adjustment, net of tax — — — — — — (1,459) (1,459)
Foreign currency translation adjustment, net of tax — — — — — 26 (2,997) (2,971)
Tax payments for stock issuances (145) — — — (2,923) — — (2,923)
Pension adjustment, net of tax — — — — — — 2,056 2,056
Unrealized gain (loss) on available-for-sale securities — — — — — — (21) (21)
Tax payments for stock issuances (92) — — — (1,587) — — (1,587)
Pension adjustment, net of tax — — — — — — 3,859 3,859
Unrealized gain (loss) on available-for-sale securities — — — — — — 18 18
See accompanying notes to consolidated financial statements.
F-7
OneSpan Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Years Ended December 31,
Cash flows from operating activities:
Depreciation and amortization of intangible assets 7,066 8,926 12,003
Impairment of intangible assets 3,828 — —
Gains on sale of equity-method investment (14,810) — —
Changes in operating assets and liabilities:
Net cash (used in) provided by operating activities (5,786) (2,745) 14,922
Cash flows from investing activities:
Additions to intangible assets (29) (35) (133)
Sale of equity-method investment 18,874 — —
Net cash provided by (used in) investing activities 46,587 (10,980) (4,664)
Cash flows from financing activities:
Tax payments for restricted stock issuances (1,587) (2,923) (2,030)
Effect of exchange rate changes on cash (372) (895) 914
Supplemental cash flow disclosures:
Cash paid for interest $ — $ — $ —
(1) End of period cash, cash equivalents, and restricted cash includes $0.8 million, $0.8 million and $0.9 million of restricted cash at December 31, 2022, 2021, and 2020, respectively.
See accompanying notes to consolidated financial statements.
F-8
OneSpan Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Unless otherwise noted, references in this Annual Report on Form 10-K to “OneSpan” and “Company” refer to OneSpan Inc. and its subsidiaries.
Note 1 – Description of the Company and Basis of Presentation
Description of the Company
OneSpan helps organizations accelerate digital transformations by enabling secure, compliant, and easy customer agreements and transaction experiences. The Company is a global leader in providing high-assurance identity and authentication security as well as enterprise-grade electronic signature (e-signature) solutions for use cases ranging from simple transactions to workflows that are complex or require higher levels of security. The Company’s solutions help its clients ensure the integrity of the people and records associated with digital agreements, transactions, and interactions in industries including banking, financial services, healthcare, and professional services. The Company offers a portfolio of products and services across identity verification, authentication, virtual interactions and transactions, and secure digital storage. OneSpan has operations in Austria, Australia, Belgium, Canada, China, France, Japan, The Netherlands, Singapore, Switzerland, the United Arab Emirates, the United Kingdom (U.K), and the United States (U.S.).
Transformation Plan
In May 2022, the Company announced a three-year strategic transformation plan that begins on January 1, 2023. The Company expects this transformation plan will enable it to build on its strong solution portfolio and market position, enhance its enterprise go-to-market strategy, accelerate revenue growth, and drive efficiencies to support margin expansion and increased profitability. In conjunction with the strategic transformation plan and to enable a more efficient capital deployment model, effective with the quarter ended June 30, 2022, the Company began reporting under the following two lines of business, which are its reportable operating segments: Digital Agreements and Security Solutions. The Company plans to manage Digital Agreements for accelerated growth and market share gains and Security Solutions for cash flow given its more modest growth profile. For further information regarding the Company’s reportable segments, see Note 3, Segment Information.
While the Company’s consolidated results will not be impacted, the Company has recast its segment information during 2022 for comparable presentation.
Principles of Consolidation
The consolidated financial statements include the accounts of OneSpan Inc. and its wholly owned subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation.
Estimates and Assumptions
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.
Foreign Currency Translation and Transactions
The financial position and results of the operations of the majority of the Company’s foreign subsidiaries are measured using the local currency as the functional currency. Accordingly, assets and liabilities are translated into U.S. Dollars using current exchange rates as of the balance sheet date. Revenue and expenses are translated at average exchange rates prevailing during the year. Translation adjustments arising from differences in exchange rates are charged or credited to other comprehensive income (loss). Gains or (losses) resulting from foreign currency transactions were $(1.9) million, less than $0.1 million, and less than $0.1 million in 2022, 2021, and 2020, respectively, and are included in "Other income (expense)" in the consolidated statements of operations.
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Note 2 – Summary of Significant Accounting Policies
Cash and Cash Equivalents and Restricted Cash
Cash and cash equivalents are stated at cost plus accrued interest, which approximates fair value. Cash equivalents are high-quality short-term money market instruments and commercial paper with maturities at acquisition of three months or less. Cash and cash equivalents are held by a number of U.S. and non-U.S. commercial banks and money market investment funds. The Company is party to lease agreements that require letters of credit to secure the obligations. The restricted cash related to these letters of credit is recorded in “Other non-current assets” in the consolidated balance sheets in the amount of $0.8 million at December 31, 2022 and 2021.
Short-term Investments
The Company’s short-term investments are in debt securities which consist of U.S treasury bills and notes, U.S. government agency notes, corporate notes, and high-quality commercial paper with maturities at acquisition of more than three months and less than twelve months. The Company classifies its investments in debt securities as available-for-sale.In accordance with Accounting Standards Update "ASU" No. 2016-13, credit impairments are recorded through an allowance and are recorded through a charge to the consolidated statement of operations. Unrealized gains or losses not related to credit impairments are recorded in “Accumulated other comprehensive loss” on the consolidated balance sheets. The Company reviews available-for-sale debt securities for impairments related to credit losses and other factors each quarter. As of December 31, 2022 and 2021, the unrealized gains and losses were not material.
Credit Losses
Reasonable assurance of collection is a requirement for revenue recognition. Credit limit adjustments for existing customers may result from the periodic review of outstanding accounts receivable. The Company records trade accounts receivable at invoice values, which are generally equal to fair value.
In accordance with ASU No. 2016-13, the Company evaluates its allowance based on expected losses rather than incurred losses, which is known as the current expected credit loss (“CECL”) model. The allowance is determined using the loss rate approach and is measured on a collective (pool) basis when similar risk characteristics exist. Where financial instruments do not share risk characteristics, they are evaluated on an individual basis. The allowance is based on relevant available information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts.
Fair Value of Financial Instruments
At December 31, 2022 and 2021, the Company's financial instruments were Cash and cash equivalents, Short-term investments, Accounts receivable, Accounts payable, and Accrued liabilities. The estimated fair value of financial instruments has been determined by using available market information and appropriate valuation methodologies, as defined in Accounting Standards Codification "ASC" 820, Fair Value Measurements. The fair values of the financial instruments were not materially different from their carrying amounts at December 31, 2022 and 2021. See Note 9, Fair Value Measurements, for additional detail.
Inventories
Inventories, consisting principally of hardware and component parts, are stated at the lower of cost or net realizable value. Cost is determined using the first-in-first-out (FIFO) method. The Company writes down inventory when it appears that the carrying cost of the inventory may not be recovered through subsequent sale of the inventory. The Company analyzes the quantity of inventory on hand, the quantity sold in the past year, the anticipated sales volume in the form of sales to new customers as well as sales to previous customers, the expected sales price and the cost of making the sale when evaluating the valuation of inventory. If the sales volume or sales price of a specific model declines significantly, additional write downs may be required.
Property and Equipment, net
Property and equipment, net, is stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the related assets ranging from three to ten years. Leasehold improvements are depreciated over
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the lesser of the remaining lease term or 10 years. Additions and improvements are capitalized, while expenditures for maintenance and repairs are charged to operations as incurred. Gains or losses resulting from sales or retirements are recorded as incurred, at which time related costs and accumulated depreciation are removed from the accounts.
Accounting for Leases
All of the Company's leases are operating leases.
The Company records leases in accordance with ASC Topic 842, Leases. The Company elected the following practical expedients:
•The package of practical expedients permitted under the transition guidance within the new standard. The practical expedient package applies to leases commenced prior to adoption of the new standard and permits companies not to reassess whether existing or expired contracts contain a lease, the lease classification, and any initial direct costs for existing leases.
•The short-term lease practical expedient, which allowed the Company to exclude short-term leases from recognition in the consolidated balance sheets;
•The Company has lease agreements that contain lease and non-lease components. For automobile leases, lease and non-lease components are accounted for together. For office leases, the components are accounted for separately using a relative standalone selling basis; and
•The Company applies the portfolio approach to automobile leases with similar characteristics that commence in the same period.
The difference between the asset and liability is a result of lease incentives, such as tenant improvement allowances, and deferred rent on the consolidated balance sheet at transition. See Note 11, Leases, for additional information.
Goodwill
Goodwill represents the excess of purchase price over the fair value of net identifiable assets acquired in a business combination. The Company assesses the impairment of goodwill annually or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. The annual impairment test date is October 1.
The Company’s impairment assessment begins with a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. The qualitative assessment includes comparing the overall financial performance of the reporting unit against the planned results. Additionally, the reporting unit’s fair value is assessed in light of certain events and circumstances, including macroeconomic conditions, industry and market considerations, cost factors, and other relevant entity- and reporting unit specific events. The selection and assessment of qualitative factors used to determine whether it is more likely than not that the fair value of a reporting unit exceeds the carrying value involves significant judgments. If it is determined under the qualitative assessment that it is more likely than not that the fair value of a reporting unit is less than its carrying value, then the estimated fair value of the reporting unit is compared with its carrying value. An impairment charge is recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value.
As a result of the transformation plan and new reportable operating segments, the Company allocated the goodwill balance to each of its reporting units and respective reportable operating segments on May 17, 2022. Prior to the transformation plan, the Company operated under one reporting unit. See Note 1, Description of the Company and Basis of Presentation, for additional information.
No goodwill impairment was recorded during the years ended December 31, 2022, 2021, and 2020.
Long-Lived and Intangible Assets
Finite-lived intangible assets include proprietary technology, customer relationships, and other intangible assets. Intangible assets other than patents with definite lives are amortized over the useful life, generally three to seven years for
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proprietary technology and five to twelve years for customer relationships. Patents are amortized over the life of the patent, generally 20 years in the U.S. Intangible assets arising from business combinations, such as acquired technology, customer relationships, and other intangible assets, are originally recorded at fair value.
Long-lived assets, including property, plant and equipment, operating lease right-of-use assets, finite-lived intangible assets being amortized and capitalized software costs for internal use, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the long-lived asset group may not be recoverable. An impairment loss shall be recognized if the carrying amount of a long-lived asset group exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. If it is determined that an impairment loss has occurred, the loss is measured as the amount by which the carrying amount of the long-lived asset group exceeds its fair value. Long-lived assets held for sale are reported at the lower of carrying value or fair value less cost to sell.
Equity Method Investment
On January 31, 2022, the Company sold its equity interest in Promon AS (Promon) for $18.9 million and recorded the gain on sale of $14.8 million in “Other income (expense), net”, on the consolidated statement of operations for the year ended December 31, 2022. Promon is a technology company headquartered in Norway that specializes in mobile app security, whose solutions focus largely on Runtime Application Self-Protection (RASP).
Prior to January 31, 2022, the Company held a 17% interest in Promon and applied the equity method of accounting to its investment in Promon because it exercised significant influence on, but did not hold a controlling interest in, the investee. Under the equity method of accounting, the Company’s proportionate share of the net earnings (losses) of Promon was reported in “Other income (expense), net”, on the consolidated statements of operations. The impact of the proportionate share of net earnings (losses) was immaterial for the years ended December 31, 2022, 2021, and 2020, as were the relative size of Promon’s assets and operations in relation to the Company’s.
The Company intends to continue to purchase and integrate Promon’s RASP technology into its customer software solutions.
Share Repurchase Program
On May 12, 2022, the Board of Directors terminated the stock repurchase program adopted on September 10, 2020 and adopted a new stock repurchase program under which the Company is authorized to repurchase up to $50.0 million of its issued and outstanding common stock. Share purchases under the program will take place in open market transactions or in privately negotiated transactions and may be made from time to time depending on market conditions, share price, trading volume, and other factors. The timing of the repurchases and the amount of stock repurchased in each transaction is subject to OneSpan’s sole discretion and will depend upon market and business conditions, applicable legal and credit requirements and other corporate considerations. The authorization is effective until May 11, 2024 unless the total amount has been used or authorization has been cancelled.
During the year ended December 31, 2022, the Company repurchased 0.4 million shares of the Company’s stock for $5.7 million in the aggregate at an average cost of $12.83 per share under its repurchase program.
Revenue Recognition
We record revenue in accordance with ASC Topic 606 "Revenue from Contracts with Customers". 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; and
•Recognition of revenue when, or as, we satisfy a performance obligation.
F-12
Revenues are recognized when control of the promised goods or services is transferred to the Company's customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those products or services, which excludes any sales incentives and amounts collected on behalf of third parties. Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, that are collected by the Company from a customer, are excluded from revenue. Shipping and handling costs associated with outbound freight before control over a product has transferred to a customer are accounted for as a fulfillment cost and are included in "Cost of goods sold".
Nature of Goods and Services
We derive our revenues primarily from product and license revenue, which includes hardware products and on-premises subscription revenue, and services and other, which is inclusive of cloud subscription revenue, maintenance and support, and professional services.
Subscription: Subscription includes cloud and on-premises subscription revenue, previously referred to as “subscription” and “term-based software licenses”, respectively.
Cloud subscription revenues are generated from from the Company's Digital Agreements and Secruity Solutions service offerings. Standard customer arrangements do not provide the customer with the right to take possession of the software supporting the cloud-based application service at any time. As such, these arrangements are considered service contracts and revenue is recognized ratably over the service period of the contract. Customer payments are normally in advance for annual service.
Revenue from the sale of on-premises subscription revenue is recorded upon delivery which is the latter of when the customer receives the ability to access the software or when they are legally allowed to use the software. No significant obligations or contingencies exist with regard to delivery, customer acceptance or rights of return at the time revenue is recognized. We offer term licenses for on-premises subscription revenue ranging from one to five years in length.. For term licenses, payments are either on installment or in advance. In limited circumstances, we integrate third-party software solutions into our software products. We have determined that, consistent with our conclusion under prior revenue recognition rules, generally we act as the principal with respect to the satisfaction of the related performance obligation and records the corresponding revenue on a gross basis from these transactions. For transactions in which we do not act as the principal, we recognize revenue on a net basis. The fees owed to the third parties are recognized as a component of cost of goods sold when the revenue is recognized.
Maintenance and support: Maintenance and support agreements generally call for the Company to provide software updates and technical support, respectively, to customers. The annual fee for maintenance and technical support is recognized ratably over the term of the maintenance and support agreement as this is the period the services are delivered. Customer payments are normally in advance for annual service.
Professional Services and other Revenue: Professional services revenues are primarily comprised of implementing, automating and extending business processes, technology infrastructure, and software applications. Professional services revenues are recognized over time as services are rendered, usually over a period of time that is generally less than a few months. Most projects are performed on a time and materials basis while a portion of revenues is derived from projects performed on a fixed fee. For time and material contracts, revenues are generally recognized and invoiced by multiplying the number of hours expended in the performance of the contract by the contractual hourly rates. For fixed fee contracts, revenues are generally recognized using an input method based on the ratio of hours expended to total estimated hours to complete the services. Customer payments normally correspond with delivery. Professional services and other revenue includes perpetual licenses revenue, which was less than 3% of revenue for the year ended December 31, 2022 and less than 6% for the year ended December 31, 2021. Perpetual licenses grant the customer unlimited access to the software.
Hardware products: Revenue from the sale of security hardware is recorded upon shipment, which is the point at which control of the goods are transferred and the performance obligations are completed, unless there are specific terms that would suggest control is transferred at a later date (e.g. delivery). No significant obligations or contingencies typically exist with regard to delivery, customer acceptance or rights of return at the time revenue is recognized. Customer invoices and subsequent payments normally correspond with delivery.
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The Company also enters into separate service agreements with certain hardware customers to perform
distribution services.In these situations, revenue is recognized prior to physical delivery of a good (i.e. “bill-and-hold arrangements). The Company evaluates bill-and-hold arrangement, and records revenue accordingly when the following criteria is met:
•The reason for the bill-and-hold arrangement is substantive;
•The product is identified separately as belonging to the customer;
•The product currently is ready for physical transfer to the customer;
•The Company does not have the ability to use the product or to direct it to another customer.
Multiple-Element Arrangements
In the Company's typical multiple-element arrangement, the primary deliverables include:
1.A client component (i.e. an item that is used by the person being authenticated in the form of either a new standalone hardware device or software that is downloaded onto a device that the customer already owns);
2.Server system software that is installed on the customer’s systems (i.e. software on the server system that verifies the identity of the person being authenticated) or licenses for additional users on the server system software if the server system software had been installed previously; and
3.Post contract support (PCS) in the form of maintenance on the server system software or support.
The Company's multiple-element arrangements may also include other items that are usually delivered prior to the recognition of any revenue and are incidental to the overall transaction such as initialization of the hardware device, customization of the hardware device itself or the packaging in which it is delivered, deployment services where the Company delivers the device to its customer’s end-use customer or employee and, in some limited cases, professional services to assist with the initial implementation of a new customer.
Significant Judgments
The Company enters into contracts to deliver a combination of hardware devices, software licenses, subscriptions, maintenance and support and, in some situations, professional services. The Company evaluates the nature of the goods or services promised in these arrangements to identify the distinct performance obligations. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment depending on the terms and conditions of the respective customer arrangement. When a hardware client device and licenses to server software are sold in a contract, they are treated as a single performance obligation because the software license is deemed to be a component of the hardware that is integral to the functionality of the hardware that is used by customers for identity authentication. When a software client device is sold in a contract server software, the licenses are considered a single performance obligation to deliver the authentication solution to the customer. In either of these types of arrangements, maintenance and support and professional services are typically distinct separate performance obligations from the hardware or software solutions. Contracts to deliver subscription services typically do not include multiple performance obligations; however, in certain limited cases customers may purchase professional services that are distinct performance obligations.
For contracts that contain multiple performance obligations, the transaction price is allocated to the separate performance obligations based on their estimated relative standalone selling price. Judgment is required to determine the stand-alone selling price (“SSP”) of each distinct performance obligation. We determine SSP for maintenance and support and professional services based on observable inputs; specifically, the range of prices charged to customers to renew annual maintenance and support contracts and the range of hourly rates we charge customers in standalone professional services contracts. In instances where SSP is not directly observable, and when we sell at a highly variable price range, such as for transactions involving software licenses or subscriptions, we determine the SSP for those performance obligations using the residual approach.
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Cost of Goods Sold
Included in "Product and license cost of goods sold" are direct product costs and direct costs to deliver and provide software licenses. Cost of goods sold related to service and other revenues are primarily costs related to cloud subscription solutions, including personnel and equipment costs, and personnel costs of employees providing professional services and maintenance support.
Research and Development Costs
As part of the strategic transformation plan announced in May 2022, the Company began investing in its Digital Agreements operating segment for accelerated growth. In conjunction with expanded research and development activities to grow the Company’s transaction-cloud platform and Digital Agreements product offerings, the Company began capitalizing certain costs incurred in connection with obtaining or developing internal-use software during the year ended December 31, 2022. These costs include payroll and payroll-related costs for employees who are directly associated with the internal-use software projects, external direct costs of materials and services costs while developing the software. Capitalized software costs are included in “Property and equipment, net” on the consolidated balance sheets and are amortized using the straight-line method over the estimated life of three years. Capitalization of such costs ceases when the project is substantially complete and ready for its intended purpose. Costs incurred during the preliminary project and post-implementation stages, as well as software maintenance and training costs, are expensed in the period in which they are incurred. Other costs for research and development, principally the design and development of hardware, and the design and development of software prior to the determination of technological feasibility, are expensed as incurred on a project-by-project basis.
The Company capitalized $4.0 million of internal-use software during the year ended December 31, 2022.
Other costs for research and development, principally the design and development of hardware, and the design and development of software prior to the determination of technological feasibility, are expensed as incurred on a project-by-project basis.
Stock-Based Compensation
The Company has stock-based employee compensation plans, described in Note 14, Stock Compensation. ASC 718, Stock Compensation, requires the Company to estimate the fair value of restricted stock granted to employees, directors and others to record compensation expense equal to the estimated fair value. Compensation expense is recorded on a straight-line basis over the vesting period for time-based awards and performance and market-based awards with cliff vesting provisions and on a graded basis for performance and market-based awards with graded vesting provisions. Forfeitures are recorded as incurred.
Retirement Benefits
The Company records annual expenses relating to defined benefit pension plans based on calculations which include various actuarial assumptions, including discount rates, assumed asset rates of return, compensation increases, and turnover rates. The Company reviews its actuarial assumptions on an annual basis and make modifications to the assumptions based on current rates and trends. The effects of gains, losses, and prior service costs and credits are amortized over the average service life. The funded status, or projected benefit obligation less plan assets, for each plan, is reflected in the consolidated financial statements using a December 31 measurement date.
Other Income (Expense), Net
Other income (expense), net, consists primarily of exchange gains (losses) on transactions that are denominated in currencies other than the Company’s subsidiaries’ functional currencies, subsidies received from foreign governments in support of the Company's research and development in those countries and other miscellaneous non-operational income and expenses.
Income Taxes
The Company calculates and provides for income taxes in each tax jurisdiction in which it operates. The provision for income taxes includes the amounts payable or refundable for the current year, the effect of deferred taxes and impacts
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from uncertain tax positions. The Company’s provision for income taxes is significantly affected by shifts in the geographic mix of its pre-tax earnings across tax jurisdictions, changes in tax laws and regulations, and tax planning opportunities available in each tax jurisdiction.
Deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial statement and tax bases of the Company's assets and liabilities and for operating losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates that will apply to taxable income in the years in which those differences are expected to be recovered or settled. Valuation allowances are established for deferred tax assets when it is more likely than not that a tax benefit will not be realized. The Company recognizes the effect of a change in tax rates on deferred tax assets and liabilities and in income in the period that includes the enactment date.
The Company recognizes tax benefits for tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50 percent likely to be realized upon ultimate settlement. Unrecognized tax benefits are tax benefits claimed in the Company's income tax returns that do not meet these recognition and measurement standards. Assumptions, judgments, and the use of estimates are required in determining whether the “more-likely-than-not” standard has been met when developing the provision for income taxes.
The Company recognizes the tax impact of including certain foreign earnings in U.S. taxable income as a period cost. The Company has recognized deferred income taxes for local country income and withholding taxes that could be incurred on distributions of non-U.S. earnings because management does not plan to indefinitely reinvest such earnings.
The Company monitors for changes in tax laws and reflect the impacts of tax law changes in the period of enactment.
Recently Issued Accounting Pronouncements
In November 2021, the FASB issued ASU 2021-10, Government Assistance: Disclosures by Business Entities about Government Assistance ("ASU 2021-10"), which requires business entities to disclose certain information about certain government assistance they receive. ASU 2021-10 is effective for annual periods beginning after December 15, 2021. The adoption of this standard did not have a material impact on the Company's consolidated financial statements.
From time to time, new accounting pronouncements are issued by the FASB or other standard setting bodies that are adopted by the Company as of the specified effective date. Unless otherwise discussed, management believes that the issued standards that are not yet effective will not have a material impact on the consolidated financial statements upon adoption.
Note 3 - Segment Information
In May 2022, the Company announced a three-year strategic transformation plan begins on January 1, 2023. The Company expects this transformation plan that will enable it to build on its strong solution portfolio and market position, enhance its enterprise go-to-market strategy, accelerate revenue growth, and drive efficiencies to support margin expansion and increased profitability. In conjunction with the strategic transformation plan and to enable a more efficient capital deployment model, effective with the quarter ended June 30, 2022, the Company began reporting under the following two lines of business, which are its reportable operating segments: Digital Agreements and Security Solutions. The Company expects to manage Digital Agreements for accelerated growth and market share gains and Security Solutions for cash flow given its more modest growth profile.