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MarketScreener Homepage  >  Equities  >  Nasdaq  >  Splunk Inc.    SPLK

SPLUNK INC.

(SPLK)
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SPLUNK : Management's Discussion and Analysis of Financial Condition and Results of Operations (form 10-Q)

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06/01/2020 | 04:05pm EDT
The following discussion and analysis of our financial condition and results of
operations should be read in conjunction with our condensed consolidated
financial statements and related notes appearing elsewhere in this Quarterly
Report on Form 10-Q. This discussion contains forward-looking statements based
upon current expectations that involve risks and uncertainties. Our actual
results may differ materially from those anticipated in these forward-looking
statements. Statements that are not purely historical are forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
Forward-looking statements are often identified by the use of words such as, but
not limited to, "anticipate," "believe," "can," "continue," "could," "estimate,"
"expect," "predict," "intend," "may," "might," "plan," "project," "potential,"
"seek," "should," "target," "will," "would" and similar expressions or
variations intended to identify forward-looking statements. Such statements
include, but are not limited to, statements concerning our business and our
market opportunity, our future financial and
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operating results; our planned investments, particularly in our product
development efforts; our planned expansion of our sales and marketing
organization; our expectations regarding our acquisitions; our expectation that
we will continue to use acquisitions to contribute to our growth objectives; our
growth and product integration strategies; our continued efforts to market and
sell both domestically and internationally; our expectations about seasonal
trends; the impact of the COVID-19 pandemic and related public health measures
on our business; our ability to achieve our goals; our expectations regarding
our revenues mix and the impact of our business model transition; our
expectations regarding our cost of revenues and gross margin; use of non-GAAP
(as defined below) financial measures; our expectations regarding new accounting
standards; our expectations regarding our operating expenses, including
increases in research and development, sales and marketing, and general and
administrative expenses; our expectations regarding our capital expenditures;
sufficiency of cash to meet cash needs for at least the next 12 months; exposure
to interest rate changes; inflation; anticipated income tax rates and
liabilities; our expectations regarding our leases; exposure to exchange rate
fluctuations and our ability to manage such exposure; and our expected cash
flows and liquidity.

These statements are based on the beliefs and assumptions of our management
based on information currently available to us. Such forward-looking statements
are subject to risks, uncertainties and other important factors that could cause
actual results and the timing of certain events to differ materially from future
results expressed or implied by such forward-looking statements. Factors that
could cause or contribute to such differences include, but are not limited to,
those identified below, and those discussed in the section titled "Risk Factors"
included under Part II, Item 1A below. Furthermore, such forward-looking
statements speak only as of the date of this report. Except as required by law,
we undertake no obligation to update any forward-looking statements to reflect
events or circumstances that occur after the date of this report.

Amounts reported in millions are rounded based on the amounts in thousands. As a
result, the sum of the components reported in millions may not equal the total
amount reported in millions due to rounding. In addition, percentages presented
are calculated from the underlying numbers in thousands and may not add to their
respective totals due to rounding.

Overview


Splunk provides innovative software solutions that ingest data from different
sources including systems, devices and interactions, and turn that data into
meaningful business insights across the organization. Our Data-to-Everything
platform enables users to investigate, monitor, analyze and act on data
regardless of format or source. Data is produced by nearly every software
application and electronic device across an organization and contains a
real-time record of various activities, such as business transactions, customer
and user behavior, and security threats. Beyond an organization's traditional
information technology ("IT") and security infrastructure, data from the
Industrial Internet, including industrial control systems, sensors, supervisory
control and data acquisition ("SCADA") systems, networks, manufacturing systems,
smart meters and the Internet of Things ("IoT"), which includes
consumer-oriented systems, such as electronic wearables, mobile devices,
automobiles and medical devices are also continuously generating data. Our
Data-to-Everything platform helps organizations gain the value contained in data
by delivering real-time information to enable operational decision making.

We believe the market for products that deliver real-time business insights from
data presents a substantial opportunity as data grows in volume and diversity,
creating new risks, opportunities and challenges for organizations. Since our
inception, we have invested a substantial amount of resources developing our
offerings to address this market.

Our offerings are designed to deliver rapid return-on-investment for our
customers. They generally do not require customization, long deployment cycles
or extensive professional services commonly associated with traditional
enterprise software applications. Prospective users can get started with our
free online sandboxes that enable our customers to immediately try and
experience Splunk offerings. Users that prefer to deploy the software
on-premises can take advantage of our free 60-day trial of Splunk Enterprise and
a 15-day free trial is available to users that prefer the core functionalities
of Splunk Enterprise delivered as a cloud service. These users can sign up for
Splunk Cloud and avoid the need to provision, deploy and manage internal
infrastructure. Alternatively, they can simply download and install the
software, typically in a matter of hours, to connect to their relevant data
sources. We offer free development-test licenses for certain commercial
customers, allowing users to explore new data and use cases in a non-production
environment without incurring additional fees. We also offer support, training
and professional services to our customers to assist in the deployment of our
software.

For Splunk Enterprise, we typically base our license fees on either the estimated daily data indexing capacity or the compute power our customers require. Beginning in fiscal 2020, we shifted our licensing model whereby a substantial majority of our license revenues consist of revenues from term licenses, and to a much lesser extent, perpetual licenses, under which we generally recognize the license fee portion of these arrangements upfront. As a result, the timing of when we enter into large

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Table of Contents term and perpetual licenses may lead to fluctuations in our revenues and operating results because our expenses are largely fixed in the short-term.


Splunk Cloud delivers the core capabilities of Splunk Enterprise as a scalable,
reliable cloud service. We typically base our Splunk Cloud annual subscription
fees on either the volume of data indexed per day including a fixed amount of
data storage, or purchased infrastructure and data storage our customers
require. We recognize the revenues associated with our cloud services ratably
over the associated subscription term.

Splunk Enterprise Security ("ES") addresses emerging security threats and
security information and event management ("SIEM") use cases through monitoring,
alerts and analytics. Splunk IT Service Intelligence ("ITSI") is a machine
learning powered monitoring and analytics solution that correlates nearly any
kind of data across IT and the business to provide monitoring and
troubleshooting support and predict problems before they have an impact. Splunk
Phantom automates and orchestrates incident response workflows to take immediate
action the moment an incident is detected. VictorOps is a cloud-based
Collaborative Incident Response system that delivers context-rich alerts,
reducing the time required to react to and address incidents. SignalFx is a
cloud-based service that provides real-time monitoring and metrics for cloud
infrastructure, microservices and applications observability, as well as
application performance management ("APM") for organizations.

Our revenue mix has shifted from sales of perpetual licenses to sales of term
licenses and cloud subscriptions and we expect it will continue to shift in
favor of cloud subscriptions as we transition to a predominantly subscription
model. We expect our transition to a subscription model will impact the timing
of our recognition of revenue as an increasing percentage of our sales become
recognized ratably, as well as impact our operating margins as cloud services
become a larger percentage of our sales. To the extent our shift to a
predominantly subscription model happens faster than we expect, our ability to
predict our revenue and margins in any particular period may be more limited. We
have also shifted from generally invoicing our multi-year contracts upfront to
invoicing on an annual basis. Accordingly, we have seen the timing of our cash
collections extend over a longer period of time than it has historically, and
expect this to negatively impact operating cash flows through at least fiscal
2022.

We use total annual recurring revenue ("Total ARR") and cloud annual recurring
revenue ("Cloud ARR") to identify the annual recurring value of customer
contracts at the end of a reporting period and to monitor the growth of our
recurring business as we transition to a predominantly subscription model. Total
ARR represents the annualized revenue run-rate of active term license,
maintenance, and subscription contracts at the end of a reporting period. Cloud
ARR represents the annualized revenue run-rate of active subscription contracts
at the end of a reporting period. Total ARR was $1.77 billion and Cloud ARR was
$480 million as of April 30, 2020.

We intend to continue investing for long-term growth. We have invested and
intend to continue to invest in product development to deliver additional
features and performance enhancements, deployment models and solutions that can
address new end markets. We expect to continue to expand our sales and marketing
organizations to market and sell our software both in the United States and
internationally.

We have utilized and expect to continue to utilize acquisitions to contribute to
our long-term growth objectives. During fiscal 2020, we completed the
acquisitions of SignalFx, Inc. ("SignalFx"), a developer of real-time monitoring
and metrics for cloud infrastructure, microservices and applications, Cloud
Native Labs, Inc. ("Omnition"), which develops a platform for distributed
tracing and application monitoring and Streamlio, Inc., which specializes in
designing and operating streaming data solutions.

Our goal is to make our software the platform for delivering real-time business insights from data. The key elements of our growth strategy are to:

•Extend our technological capabilities.


•Continue to expand our direct and indirect sales organization, including our
partner relationships, to increase our sales capacity and enable greater market
presence.

•Further penetrate our existing customer base and drive enterprise-wide adoption.

•Enhance our value proposition through a focus on solutions which address core and expanded use cases.

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•Grow our user communities and partner ecosystem to increase awareness of our
brand, target new use cases, drive operational leverage and deliver more
targeted, higher value solutions.

•Continue to deliver a rich developer environment to enable rapid development of enterprise applications that leverage data and the Splunk platform.


We believe the factors that will influence our ability to achieve our goals
include, among other things, our ability to deliver new offerings as well as
additional product functionality; acquire new customers across geographies and
industries; cultivate incremental sales from our existing customers by driving
increased use of our software within organizations; provide additional solutions
that leverage our core data platform to help organizations understand and
realize the value of their data in specific end markets and use cases; add
additional original equipment manufacturer ("OEM") and strategic relationships
to enable new sales channels for our software as well as extend our integration
with third-party products; help software developers leverage the functionality
of our data platform through software development kits ("SDKs") and application
programming interfaces ("APIs"); and successfully integrate acquired businesses
and technologies.

In December 2019, COVID-19 was reported in China, in January 2020 the World
Health Organization ("WHO") declared it a Public Health Emergency of
International Concern, and in March 2020 the WHO declared it a pandemic. The
long-term impact of COVID-19 on our operational and financial performance will
depend on certain developments including the duration, spread, severity, and
potential recurrence of the virus. Our future performance will also depend on
the impact of COVID-19 on our customers, partners, employee productivity, and
sales cycles, including as a result of travel restrictions. These potential
developments are uncertain and cannot be predicted and as such, the extent to
which COVID-19 will impact our business, operations, financial condition and
results of operations over the long term is unknown. Furthermore, due to our
shift to a predominantly subscription model, the effect of COVID-19 may not be
fully reflected in our results of operations until future periods.
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Financial Summary
(Dollars in millions)

Three Months Ended April 30, 2020 and 2019
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[[Image Removed: splk-20200430_g5.jpg]] [[Image Removed: splk-20200430_g6.jpg]]
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_________________________
* Refer to Non-GAAP Financial Results and Reconciliations below for further
information regarding our GAAP to non-GAAP Financial Measures and related
reconciliations.

Our customer base spans numerous industry verticals, including cloud and online
services, education, financial services, government, healthcare/pharmaceuticals,
industrials/manufacturing, media/entertainment, retail/ecommerce, technology and
telecommunications, among others. As of April 30, 2020, our customers include
over 90 of the Fortune 100 companies.

Our quarterly results reflect seasonality in the sale of our offerings.
Historically, a pattern of increased sales in the fourth fiscal quarter as a
result of industry buying patterns has positively impacted sales activity in
that period, which can result in lower sequential revenues in the following
first fiscal quarter. Our gross margins and operating losses have been affected
by these historical trends because the majority of our expenses are relatively
fixed in the short-term. The majority of our expenses are personnel-related and
include salaries, stock-based compensation, benefits and incentive-based
compensation plan expenses. As a result, we have not experienced significant
seasonal fluctuations in the timing of expenses from period to period.

Non-GAAP Financial Results and Reconciliations


To supplement our condensed consolidated financial statements, which are
prepared and presented in accordance with GAAP, we provide investors with the
following non-GAAP financial measures: cost of revenues, cloud services gross
profit, gross margin, research and development expense, sales and marketing
expense, general and administrative expense, operating income (loss), operating
margin, income tax provision (benefit), net income (loss), net income (loss) per
share and free cash flow (collectively the "non-GAAP financial measures"). These
non-GAAP financial measures exclude all or a combination of the following (as
reflected in the following reconciliation tables): expenses related to
stock-based compensation and related employer payroll tax, amortization of
acquired intangible assets, capitalized software development costs and non-cash
interest expense related to our convertible senior notes. The non-GAAP financial
measures are also adjusted for our estimated tax rate on non-GAAP income (loss).
To determine the annual non-GAAP tax rate, we evaluate a financial projection
based on our non-GAAP results. The annual non-GAAP tax rate takes into account
other factors including our current operating structure, our
existing tax positions in various jurisdictions and key legislation in major
jurisdictions where we operate. The non-GAAP tax rate applied to the three
months ended April 30, 2020 was 20%. We will provide updates to this rate on an
annual basis, or more frequently if material changes occur. The applicable
fiscal 2020 tax rates are noted in the reconciliations. In addition, our
non-GAAP financial measures include free cash flow, which represents operating
cash flow less purchases of property and equipment. We consider free cash flow
to be a liquidity measure that provides useful information to management and
investors about the amount of cash generated or used by the business.

We exclude stock-based compensation expense because it is non-cash in nature and
excluding this expense provides meaningful supplemental information regarding
our operational performance and allows investors the ability to make more
meaningful comparisons between our operating results and those of other
companies. We exclude employer payroll tax expense related to employee stock
plans in order for investors to see the full effect that excluding that
stock-based compensation expense had on our operating results. These expenses
are tied to the exercise or vesting of underlying equity awards and the price of
our common stock at the time of vesting or exercise, which may vary from period
to period independent of the operating performance of our business. We also
exclude amortization of acquired intangible assets, capitalized software
development costs and non-cash interest expense related to our convertible
senior notes from our non-GAAP financial measures because these expenses are
considered by management to be outside of our core operating results.

There are limitations in using non-GAAP financial measures because the non-GAAP
financial measures are not prepared in accordance with GAAP, may be different
from non-GAAP financial measures used by our competitors and exclude expenses
that may have a material impact upon our reported financial results. Further,
stock-based compensation expense has been and will continue to be for the
foreseeable future a significant recurring expense in our business and an
important part of the compensation provided to our employees. The presentation
of the non-GAAP financial measures is not intended to be considered in isolation
or as a substitute for, or superior to, the financial information prepared and
presented in accordance with GAAP. We use these non-GAAP financial measures for
financial and operational decision-making purposes and as a means to evaluate
period-to-period comparisons. We believe that these non-GAAP financial measures
provide useful information about our operating results, enhance the overall
understanding of past financial performance and future prospects and allow for
greater transparency with respect to key metrics used by management in our
financial and operational decision making. In addition, these non-GAAP financial
measures facilitate comparisons to competitors' operating results. The non-GAAP
financial measures are meant to supplement and be viewed in conjunction with
GAAP financial measures.

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The following table reconciles our net cash provided by operating activities to
free cash flow:

                                                                                 Three Months Ended April 30,
(In thousands)                                                                      2020                  2019
Net cash provided by operating activities                                    $       46,044$  35,029
Less purchases of property and equipment                                            (14,756)            (14,900)
Free cash flow (non-GAAP)                                                    $       31,288$  20,129
Net cash provided by (used in) investing activities                          $      147,009$  (6,275)
Net cash used in financing activities                                       

$ (47,810)$ (68,647)

The following table reconciles our GAAP to non-GAAP financial measures for the three months ended April 30, 2020:

                                                                                                                                                          Non-cash interest
                                                                Stock-based compensation           Amortization of                                       expense related to          Income tax effects
(In thousands, except per share                                   and related employer           acquired intangible         Capitalized software        convertible senior          related to non-GAAP
amounts)                                        GAAP                  payroll tax                      assets                  development costs                notes                  adjustments (2)             Non-GAAP
Cost of revenues                            $  128,617$        (13,982)$        (10,373)             $            -              $              -          $             -               $ 104,262
Gross margin                                      70.4  %                    3.2       %                    2.4      %                    -      %                      -  %                     -       %            76.0  %
Research and development                       192,124                   (71,265)                           (25)                      3,548                             -                        -                 124,382
Sales and marketing                            319,224                   (59,422)                        (4,333)                          -                             -                        -                 255,469
General and administrative                      82,724                   (21,645)                             -                           -                             -                        -                  61,079
Operating loss                                (288,612)                  166,314                         14,731                      (3,548)                            -                        -                (111,115)
Operating margin                                 (66.5) %                   38.3       %                    3.4      %                 (0.8)     %                      -  %                     -       %           (25.6) %
Income tax benefit                              (1,669)                        -                              -                           -                             -                  (20,198)                (21,867)
Net loss                                    $ (305,579)$        166,314               $         14,731              $       (3,548)             $         20,416          $        20,198$ (87,468)
Net loss per share (1)                      $    (1.94)         $           1.05               $           0.09              $        (0.02)             $           0.13          $          0.13               $   (0.56)


_________________________
(1)        Calculated based on 157,534 weighted-average shares of common stock.
(2)        Represents the tax effect of the non-GAAP adjustments based on the
estimated annual effective tax rate of 20%.

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The following table reconciles our GAAP to non-GAAP financial measures for the
three months ended April 30, 2019:

                                                                                                                                         Non-cash interest
                                                                     Stock-based compensation           Amortization of                 expense

related to Income tax effects

                                                                       and related employer           acquired intangible               convertible senior        related to non-GAAP
(In thousands, except per share amounts)             GAAP                  payroll tax                      assets                             notes                adjustments (2)          Non-GAAP
Cost of revenues                                 $   95,823$        (11,674)              $         (5,922)                   $              -          $              -          $ 78,227
Gross margin                                           77.4  %                    2.8       %                    1.4      %                            -  %                      -  %           81.6  %
Research and development                            129,290                   (43,445)                          (249)                                  -                         -            85,596
Sales and marketing                                 278,961                   (53,403)                          (955)                                  -                         -           224,603
General and administrative                           65,762                   (21,546)                             -                                   -                         -            44,216
Operating loss                                     (144,986)                  130,068                          7,126                                   -                         -            (7,792)
Operating margin                                      (34.1) %                   30.6       %                    1.7      %                            -  %                      -  %           (1.8) %
Income tax provision                                  3,233                         -                              -                                   -                    (2,432)              801
Net income (loss)                                $ (155,429)$        130,068               $          7,126                    $         

19,005 $ 2,432 $ 3,202 Net income (loss) per share (1)

                  $    (1.04)$   0.02


_________________________
(1)        GAAP net loss per share calculated based on 149,060 weighted-average
shares of common stock. Non-GAAP net income per share calculated based on
155,247 diluted weighted-average shares of common stock, which includes 6,367
potentially dilutive shares related to employee stock awards. GAAP to non-GAAP
net income (loss) per share is not reconciled due to the difference in the
number of shares used to calculate basic and diluted weighted-average shares of
common stock.
(2)        Represents the tax effect of the non-GAAP adjustments based on the
estimated annual effective tax rate of 20%.

The following table reconciles our GAAP to non-GAAP Cloud services gross profit:

                                                                                             Three Months Ended
                                                                                                  October 31,        January 31,
(In thousands)                                       April 30, 2019         July 31, 2019             2019               2020            April 30, 2020
GAAP Cloud services gross profit                    $      29,729

$ 35,296$ 39,395$ 46,428$ 58,662 Stock-based compensation and related employer payroll tax

                                        1,533                  1,634              1,543              2,756                  2,390
Amortization of acquired intangible assets                    418                    417              2,497              4,488                  5,006
Non-GAAP Cloud services gross profit                $      31,680$      37,347$  43,435$  53,672$      66,058



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Components of Operating Results

Revenues


License revenues. License revenues consist of revenues from term licenses, and
to a much lesser extent perpetual licenses, under which we generally recognize
the license fee portion of the arrangement upfront, assuming all revenue
recognition criteria are satisfied. License revenues reflect the revenues
recognized from sales of licenses to new customers and additional licenses to
existing customers, including sales from the renewal of term licenses. We are
focused on acquiring new customers and increasing revenues from our existing
customers as they realize the value of our software by indexing higher volumes
of data and expanding the use of our software through additional use cases and
broader deployment within their organizations. In addition, seasonal trends that
contribute to increased sales activity in the fourth fiscal quarter often result
in lower sequential revenues in the first fiscal quarter, and we expect this
trend to continue.

Cloud services revenues. Cloud services allow customers to use hosted software
over the contract period without taking possession of the software. We recognize
the revenues associated with our cloud services ratably, over the associated
subscription term.

"Cloud services" revenues have been reclassified from "Maintenance and services"
revenues on our condensed consolidated statements of operations. We believe this
presentation provides a more meaningful representation of the nature of our
revenue. This reclassification had no impact on our previously reported total
revenues.

Maintenance and services revenues. Maintenance and services revenues consist of revenues from maintenance agreements and professional services and training.


•Maintenance revenues. When a term license is purchased, maintenance is bundled
with the license for the term of the license period. Typically, when purchasing
a perpetual license, a customer also purchases one year of maintenance for which
we charge a percentage of the license fee. Customers with maintenance agreements
are entitled to receive support and unspecified upgrades and enhancements when
and if they become available during the maintenance period. We recognize the
revenues associated with maintenance agreements ratably, on a straight-line
basis, over the associated maintenance period. Maintenance revenues as a
percentage of total revenues were 26% and 28% for the three months ended April
30, 2020 and 2019, respectively.

•Professional services and training revenues. We have a professional services
organization focused on helping our customers deploy our software in highly
complex operational environments and train their personnel. Training and
professional services have stated billing rates per service hour or are provided
on a subscription basis, accordingly, revenues are recognized as services are
delivered or ratably over the subscription period. We have experienced continued
growth in our professional services revenues primarily due to the deployment of
our software with some customers that have large, highly complex IT
environments.

Cost of Revenues


Cost of license revenues. Cost of license revenues includes all direct costs to
deliver our products, including salaries, benefits, stock-based compensation and
related expenses such as employer taxes, allocated overhead for facilities and
IT and amortization of acquired intangible assets. We recognize these expenses
as they are incurred.

Cost of cloud services revenues. Cost of cloud services revenues includes salaries, benefits, stock-based compensation and related expenses such as employer taxes for our cloud services organization, allocated overhead for depreciation of equipment, facilities and IT, amortization of acquired intangible assets and third-party hosting fees. We recognize expenses related to our cloud services organizations as they are incurred.


Cost of maintenance and services revenues. Cost of maintenance and services
revenues includes salaries, benefits, stock-based compensation and related
expenses such as employer taxes for our maintenance and services organizations,
third-party consulting services and allocated overhead for depreciation of
equipment, facilities and IT. We recognize expenses related to our maintenance
and services organizations as they are incurred.

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Operating Expenses

Our operating expenses are classified into three categories: research and
development, sales and marketing and general and administrative. For each
category, the largest component is personnel costs, which include salaries,
employee benefit costs, bonuses, commissions as applicable, stock-based
compensation and related expenses such as employer taxes. Operating expenses
also include allocated overhead costs for depreciation of equipment, facilities
and IT. Allocated costs for facilities include costs for compensation of our
facilities personnel, leasehold improvements and rent. Our allocated costs for
IT include costs for compensation of our IT personnel, costs associated with our
IT infrastructure and software subscriptions. Operating expenses are generally
recognized as incurred.

Research and development. Research and development expenses primarily consist of
personnel and facility-related costs attributable to our research and
development personnel. We have devoted our product development efforts primarily
to enhancing the functionality and expanding the capabilities of our software
and services. We expect that our research and development expenses will continue
to increase, in absolute dollars, as we increase our research and development
headcount to further strengthen and enhance our software and services and invest
in the development of our solutions and apps.

Sales and marketing. Sales and marketing expenses primarily consist of personnel
and facility-related costs for our sales, marketing and business development
personnel, commissions earned by our sales personnel, and the cost of marketing
and business development programs, including advertising programs to promote our
brand and awareness, demand generating activities and customer events. We expect
that sales and marketing expenses will continue to increase, in absolute
dollars, as we continue to hire additional personnel and invest in marketing
programs.

General and administrative. General and administrative expenses primarily
consist of personnel and facility-related costs for our executive, finance,
legal, human resources and administrative personnel; our legal, accounting and
other professional services fees; and other corporate expenses. We anticipate
continuing to incur additional expenses due to growing our operations, including
higher legal, corporate insurance and accounting expenses.

Interest and Other Income (Expense), Net


Interest and other income (expense), net consists primarily of interest expense
related to our convertible senior notes, foreign exchange gains and losses,
interest income on our investments and cash and cash equivalents balances and
changes in the fair value of forward exchange contracts.

Income Tax Provision (Benefit)


The income tax provision (benefit) consists of federal, state and foreign income
taxes. We recognize deferred tax assets and liabilities for the expected tax
consequences of temporary differences between the tax basis of assets and
liabilities and their reported amounts using enacted tax rates in effect for the
year in which we expect the differences to reverse. To the extent that we
believe any amounts are not more-likely-than-not to be realized, we record a
valuation allowance to reduce the deferred income tax assets. Because of our
history of U.S. net operating losses, we have established a full valuation
allowance against potential future benefits for U.S. deferred tax assets. We
regularly assess the need for the valuation allowance on our deferred tax
assets, and to the extent that we determine that an adjustment is needed, such
adjustment will be recorded in the period that the determination is made.
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Results of Operations

The following table sets forth our results of operations for the periods presented and as a percentage of our total revenues for those periods. The period-to-period comparison of financial results is not necessarily indicative of financial results to be achieved in future periods.

Condensed Consolidated Statements of Operations Data


                                                                               Three Months Ended April 30,
(In thousands and as % of revenues)                                                  2020                                             2019
Revenues
License                                                   $     148,385               34.2  %       $  202,862            47.7  %
Cloud services                                                  112,152               25.8              62,055            14.6
Maintenance and services                                        173,540               40.0             159,933            37.6
Total revenues                                                  434,077              100.0             424,850           100.0
Cost of revenues
License (1)                                                       6,066                4.1               5,682             2.8
Cloud services (1)                                               53,490               47.7              32,326            52.1
Maintenance and services (1)                                     69,061               39.8              57,815            36.1
Total cost of revenues                                          128,617               29.6              95,823            22.6
Gross profit                                                    305,460               70.4             329,027            77.4
Operating expenses
Research and development                                        192,124               44.3             129,290            30.4
Sales and marketing                                             319,224               73.5             278,961            65.7
General and administrative                                       82,724               19.1              65,762            15.5
Total operating expenses                                        594,072              136.9             474,013           111.6
Operating loss                                                 (288,612)             (66.5)           (144,986)          (34.1)
Interest and other income (expense), net
Interest income                                                   6,475                1.5              16,346             3.8
Interest expense                                                (24,437)              (5.6)            (23,017)           (5.4)
Other income (expense), net                                        (674)              (0.2)               (539)           (0.1)
Total interest and other income (expense), net                  (18,636)              (4.3)             (7,210)           (1.7)
Loss before income taxes                                       (307,248)             (70.8)           (152,196)          (35.8)
Income tax provision (benefit)                                   (1,669)              (0.4)              3,233             0.8
Net loss                                                  $    (305,579)             (70.4) %       $ (155,429)          (36.6) %

_________________________

(1) Calculated as a percentage of the associated revenues.

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Comparison of the Three Months Ended April 30, 2020 and 2019

Revenues

(Dollars in millions)

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Our revenue mix has shifted from sales of perpetual licenses to sales of term
licenses and cloud subscriptions and we expect it will continue to shift in
favor of cloud subscriptions as we transition to a predominantly subscription
model. We expect our transition to a subscription model will impact the timing
of our recognition of revenue as an increasing percentage of our sales become
recognized ratably. The increase in cloud services revenues was primarily driven
by increased sales of our cloud services as a result of our transition to a
predominantly subscription model. Our customers are increasingly purchasing our
Splunk Cloud service as it delivers the benefits of Splunk Enterprise, while
eliminating the need to purchase, deploy and manage infrastructure.



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The increase in maintenance and services revenues was primarily driven by
increased professional services revenues. The decrease in license revenues was
primarily driven by the shift in our revenue mix from sales of term licenses to
cloud subscriptions.

Three Months Ended April 30, 2020 and 2019

Total revenues increased $9.2 million, or 2.2%, primarily due to the following:

+ increase of $50.1 million, or 80.7%, in cloud services revenues + increase of $13.6 million, or 8.5%, in maintenance and services revenues + increase in the total number of orders greater than $1.0 million from 46 to 81 - decrease of $54.5 million, or (26.9)%, in license revenues

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Cost of Revenues and Gross Margin
(Dollars in millions)

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Three Months Ended April 30, 2020 and 2019

Total cost of revenues increased $32.8 million, or 34.2%, primarily due to the increase in cloud services cost of revenues, as a result of our ongoing transition to a predominantly subscription model. Cloud services cost of revenues increased $21.2 million, or 65.5%, primarily due to the following:


+ increase of $10.9 million in third-party hosting fees to support our cloud
services
+ increase of $4.9 million in salaries and benefits, including stock-based
compensation expense as we increased headcount
+ increase of $4.6 million in intangible asset amortization related to our
acquisitions

Maintenance and services cost of revenues increased $11.2 million, or 19.5%, primarily due to the following:

+ increase of $7.5 million in salaries and benefits, including stock-based compensation expense as we increased headcount + increase of $3.3 million in overhead expenses, primarily due to facility-related costs

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Total gross margin decreased primarily due to a shift in the overall revenue mix in favor of cloud services, which have lower gross margins than our license business.

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Operating Expenses
(Dollars in millions)

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Research and Development Expense
Three Months Ended April 30, 2020 and 2019


Research and development expense increased $62.8 million, or 48.6%, primarily due to the following:


+ increase of $55.2 million in salaries and benefits, which includes a $27.3
million increase in stock-based compensation expense as we increased headcount
+ increase of $4.2 million in overhead expenses, primarily due to
facility-related costs
+ increase of $2.9 million in hosting fees to support our product development
efforts

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Sales and Marketing Expense
Three Months Ended April 30, 2020 and 2019


Sales and marketing expense increased $40.3 million, or 14.4%, primarily due to the following:


+ increase of $37.7 million in salaries and benefits, which includes a $6.2
million increase in stock-based compensation expense as we increased headcount
to expand our field sales organization
+ increase of $9.2 million in overhead expenses, primarily due to
facility-related costs
- decrease of $4.4 million in sales-related event costs, primarily due to the
cancellation of our annual sales achievement event as a result of the COVID-19
pandemic and related restrictions

General and Administrative Expense
Three Months Ended April 30, 2020 and 2019


General and administrative expense increased $17.0 million, or 25.8%, primarily due to the following:

+ increase of $8.2 million in salaries and benefits as we increased headcount + increase of $5.4 million in overhead expenses, primarily due to facility-related costs

Interest and Other Income (Expense), net


                                                                           Three Months Ended April 30,
(In thousands)                                                               2020                   2019
Interest and other income (expense), net
Interest income                                                       $        6,475$    16,346
Interest expense                                                             (24,437)              (23,017)
Other income (expense), net                                                     (674)                 (539)
Total interest and other income (expense), net                        $     

(18,636) $ (7,210)

Three Months Ended April 30, 2020 and 2019

Interest and other income (expense), net reflects a net increase in expense of $11.4 million, primarily due to a decrease in interest income from our investments and an increase in interest expense related to our convertible senior notes.

Income Tax Provision (Benefit)


                                           Three Months Ended April 30,
(In thousands)                             2020                         

2019

Income tax provision (benefit)      $       (1,669)                  $ 

3,233

Three Months Ended April 30, 2020 and 2019



The decrease in income tax provision (benefit) for the three months ended April
30, 2020 was primarily due to an increase in net loss before taxes resulting in
less base erosion and anti-abuse taxes, the benefit of our operating loss used
to offset Other comprehensive income under intraperiod tax allocation rules and
current benefits recorded because of the Coronavirus Aid, Relief, and Economic
Security Act ("CARES Act").

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Liquidity and Capital Resources

(In thousands)                    April 30, 2020       January 31, 2020
Cash and cash equivalents        $      922,507$       778,653
Investments, current                    834,067               976,508
Investments, non-current                 17,142                35,370




(In millions)
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Our principal sources of liquidity are our cash and cash equivalents,
investments and net accounts receivable. As of April 30, 2020, we had $1.77
billion of cash, cash equivalents and investments of which $115.9 million was
held by foreign subsidiaries. We believe that these funds will be sufficient to
meet our anticipated cash needs for at least the next 12 months. We intend to
continue to focus our capital expenditures for the remainder of fiscal 2021 to
support the growth in our operations, including acquisition-related activities.

Beginning in fiscal 2020, we shifted from generally invoicing our multi-year
contracts upfront to invoicing on an annual basis. Accordingly, we have seen the
timing of our cash collections extend over a longer period of time than it has
been historically, and expect this to negatively impact operating cash flows
through at least fiscal 2022.

Our future capital requirements will depend on many factors including our growth rate, the timing and extent of spending to support development efforts, the expansion of sales and marketing activities, the introduction of new and enhanced software and services offerings, the investments in our systems infrastructure, the continuing market acceptance of our offerings and our planned investments, particularly in our product development efforts or acquisitions of complementary businesses, applications or technologies.


In September 2018, we issued $2.13 billion aggregate principal amount of
convertible senior notes, which includes $1.27 billion aggregate principal
amount of 0.50% Convertible Senior Notes due 2023 and $862.5 million aggregate
principal amount of 1.125% Convertible Senior Notes due 2025 (collectively, the
"Notes"). In connection with the issuance of the Notes, we entered into
privately negotiated capped call transactions with certain counterparties (the
"Capped Calls"). The premiums paid for the purchase of the Capped Calls were
$274.3 million. Refer to Note 7 of our accompanying Notes to Condensed
Consolidated Financial Statements included elsewhere in this Quarterly Report on
10-Q.

In the event that additional financing is required from outside sources, we may
not be able to raise it on terms acceptable to us, if at all. If we are unable
to raise additional capital when desired, our business, operating results and
financial condition could be adversely affected.

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Operating Activities

Operating activities consist of our net loss adjusted for certain non-cash items and changes in operating assets and liabilities during the year.

Three Months Ended April 30, 2020 and 2019



Net cash provided by operating activities was $46.0 million for the three months
ended April 30, 2020 compared to $35.0 million from the prior year. The increase
in net cash provided by operating activities was primarily due to the following:

+ increase in accounts receivable collections
+ decrease in payments for prepaid expenses

The increase in net cash provided by operating activities was partially offset
by an increase in payments for accrued expenses and other liabilities, and a
reduction in deferred revenue.

Investing Activities
Three Months Ended April 30, 2020 and 2019


Net cash provided by investing activities was $147.0 million for the three
months ended April 30, 2020 compared to net cash used in investing activities of
$6.3 million from the prior year. The decrease in net cash used by investing
activities was primarily related to the following:

+ decrease of $158.7 million in purchases of investments, net of maturities


Financing Activities
Three Months Ended April 30, 2020 and 2019


Net cash used in financing activities was $47.8 million for the three months
ended April 30, 2020 compared to $68.6 million from the prior year.
The decrease in net cash used in financing activities was primarily due to the
following:

+ decrease of $19.8 million in taxes paid related to net share settlement of equity awards

Contractual Obligations and Commitments

There have been no significant changes to our contractual obligations and commitments discussed in our Annual Report on Form 10-K for the year ended January 31, 2020 except for those disclosed in Notes 3 and 4 of our accompanying Notes to Condensed Consolidated Financial Statements in Part 1, Item 1, "Financial Information" of this Quarterly Report on Form 10-Q.

Off-Balance Sheet Arrangements


During the three months ended April 30, 2020 and 2019, we did not have any
relationships with unconsolidated organizations or financial partnerships, such
as structured finance or special purpose entities that have been established for
the purpose of facilitating off-balance sheet arrangements or other
contractually narrow or limited purposes.

Indemnification Arrangements


During the ordinary course of business, we may indemnify, hold harmless and
agree to reimburse for losses suffered or incurred, our customers, vendors and
each of their affiliates for certain intellectual property infringement and
other claims by third parties with respect to our offerings, in connection with
our commercial license arrangements or related to general business dealings with
those parties.

As permitted under Delaware law, we have entered into indemnification agreements
with our officers, directors and certain employees, indemnifying them for
certain events or occurrences while they serve as our officers or directors or
those of our direct and indirect subsidiaries.

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To date, there have not been any costs incurred in connection with such
indemnification obligations; therefore, there is no accrual of such amounts as
of April 30, 2020. We are unable to estimate the maximum potential impact of
these indemnifications on our future results of operations.

Critical Accounting Policies and Estimates


We prepare our condensed consolidated financial statements in accordance with
GAAP. The preparation of condensed consolidated financial statements also
requires us to make estimates and assumptions that affect the reported amounts
of assets, liabilities, revenues, costs and expenses and related disclosures. We
base our estimates on historical experience and on various other assumptions
that we believe to be reasonable under the circumstances. Actual results could
differ significantly from the estimates made by our management. To the extent
that there are differences between our estimates and actual results, our future
financial statement presentation, financial condition, results of operations and
cash flows will be affected.

Recently Issued Accounting Pronouncements


For information with respect to recent accounting pronouncements and the impact
of these pronouncements on our condensed consolidated financial statements,
refer to Note 1 in our accompanying Notes to Condensed Consolidated Financial
Statements included in Part I of this Quarterly Report on Form 10-Q.

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