The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes for the three months endedMarch 31, 2022 . This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from the results described in or implied by the forward-looking statements. Factors that could cause or contribute to those differences include, but are not limited to, those identified below and those discussed in the sections titled "Risk Factors" included in our Annual Report on Form 10-K for the year endedDecember 31, 2021 filed with theU.S. Securities and Exchange Commission onMarch 16, 2022 ("2021 Annual Report") and "Cautionary Note Regarding Forward-Looking Statements" included elsewhere in this Quarterly Report on Form 10-Q.
BASIS OF PRESENTATION
As used in this report, unless the context otherwise requires, references to "Sterling," "we," "us," "our," the "Company," and similar references refer toSterling Check Corp. Numerical figures included in this report have been subject to rounding adjustments. Accordingly, numerical figures shown as totals in various tables may not be arithmetic aggregations of the figures that precede them. In addition, we round certain percentages presented in this report to the nearest whole number. As a result, figures expressed as percentages in the text may not total 100% or, when aggregated, may not be the arithmetic aggregation of the percentages that precede them. OnSeptember 10, 2021 , our Board of Directors authorized a stock split and we filed an amendment to our certificate of incorporation to effectuate a 1,198-for-1 split of our outstanding common stock. The stock split was effectuated such that (i) each then outstanding share of common stock was increased to 1,198; (ii) the number of shares of common stock into which then-outstanding options to purchase common stock is exercisable was proportionately increased; and (iii) the exercise price of each then-outstanding option to purchase common stock was proportionately reduced. The accompanying discussion gives retroactive effect as though the 1,198-for-1 stock split of our common stock occurred for all periods presented.
Overview
We are a global provider of technology-enabled background and identity verification services. We provide the foundation of trust and safety that our clients need to create great environments for their most essential resource-people. We offer a comprehensive hiring and risk management solution that begins with identity verification, followed by criminal background screening, credential verification, drug and health screening, processing of employee documentation required for onboarding and ongoing risk monitoring. Our services are delivered through our purpose-built, proprietary, cloud-based technology platform that empowers organizations with real-time and data-driven insights to conduct and manage their employment screening programs efficiently and effectively. Our interfaces are supported by our powerful artificial intelligence ("AI")-driven fulfillment platform, which leverages more than 3,300 automation integrations, including Application Programming Interfaces and Robotic Process Automation bots. This enables 90% ofUnited States ("U.S.") criminal searches to be automated and allows us to complete 70% ofU.S. criminal searches within the first hour and 90% within the first day. As ofDecember 31, 2021 , over 95% of our revenue is processed through platforms hosted in the cloud, which allows us to consistently maintain 99.9% platform availability while being prepared to scale into the future. Our client-centric approach underpins everything we do. We serve a diverse and global client base in a wide range of industries, such as healthcare, gig economy, financial and business services, industrials, retail, contingent, technology, media and entertainment, transportation and logistics, hospitality, education and government. Employers are facing numerous challenges, including complex and changing legal and regulatory requirements, a rise in fraudulent job applications, a growing spotlight on reputation and more complex global workforces. Successfully navigating these challenges requires an industry-specific perspective, given differing candidate profiles, economics, competitive dynamics and regulatory demands. To serve these differing needs, our sales and support delivery model is organized around industry-specific teams ("Verticals") and geographic markets ("Regions"). Experienced client success, sales, product and operations teams dedicated to individual Verticals collaborate with our clients to address their unique challenges and compliance requirements while providing industry best practice guidance. Our delivery model provides our clients with both the personal touch and consultative partnership of a small boutique firm and the global reach, scale, innovation and resources of an industry leader; all of which benefit small- and mid-sized businesses, global multinational enterprises and 30
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everyone in between. Additionally, this delivery model supports our principle of "Compliance by Design", enabling clients to maintain compliance globally. Our clients face a dynamic and rapidly evolving global labor market with increasing complexity and regulatory requirements. As a result, we believe our solutions are mission-critical to their core human resources, risk management and compliance functions. During the twelve months endedDecember 31, 2021 , we completed over 95 million searches for over 50,000 clients, including over 50% of the Fortune 100 and over 50% of the Fortune 500. We believe the combination of our deep market expertise from our sales and support combined with the flexibility of our proprietary technology platform enable us to deliver industry-leading, highly specialized solutions to our clients in a scalable manner, driving growth and differentiating us from our competitors. We offer an extensive suite of global products addressing a wide range of complex client needs, and we see compelling opportunities to continue extending our operating presence in other geographies. We believe we have a unique ability to translate client needs into superior local market solutions through a combination of portfolio depth and breadth, local know-how and language capabilities. Additionally, we view a targeted, disciplined approach to strategic mergers and acquisitions ("M&A") as highly complementary to our other key growth objectives, compounding and/or accelerating related opportunities. Through our investments in technology, we have established a unified platform, allowing us to quickly integrate targets and drive synergies. We expect Sterling's proven track record of M&A-with 11 acquisitions over the last 11 years-to continue to support and elevate the various layers of our future growth profile. Throughout our more than 45-year operating history, innovation and self-disruption have been at the core of what we do every day. Our history of unique, industry-oriented market insights allows us to be at the forefront of innovation which includes multiple industry-leading solutions. For example, we pioneered criminal fulfillment technology (CourtDirect), arrest record and incarceration alert products, post-hire monitoring capabilities, AI-enhanced record review and validation process and the industry's only proprietary technology in a single-sourcedU.S. -nationwide fingerprint network. Our commitment to innovation has continued with the recent development and introduction of enhanced global language support capabilities, a cloud-based operating platform and a comprehensive identity verification solution. Enabled by our market leadership and platform investments, we have established a foundation and roadmap for future innovation which includes industry-specific products, growing our Identity-as-a-Service capabilities and further geographic expansion. Emerging Growth Company The Jumpstart Our Business Startups Act of 2012 (the "JOBS Act") permits us, as an "emerging growth company," to take advantage of an extended transition period to comply with new or revised accounting standards applicable to public companies. We have elected to use this extended transition period and, as a result, we will adopt new or revised accounting standards on the relevant dates on which adoption of such standards is required for private companies. We will cease to be an emerging growth company upon the earliest of (a) the last day of the fiscal year in which we have total annual gross revenues of$1.07 billion or more; (b) the last day of our fiscal year following the fifth anniversary of the date of our IPO; (c) the date on which we have issued more than$1.0 billion in nonconvertible debt during the previous three years; or (d) the date on which we are deemed to be a "large accelerated filer" as defined in Rule 12b-2 under the Exchange Act, which would occur as of the last day of a fiscal year in which the market value of our common stock held by non-affiliates equals or exceeds$700 million as of the last business day of the second fiscal quarter of such fiscal year.
Recent Accounting Standards Updates
Refer to Note 3, "Recent Accounting Standards Updates" of the condensed consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q for information about recent accounting pronouncements.
Components of Our Results of Operations
The following discussion summarizes the key components of our unaudited condensed consolidated statements of income and comprehensive income. We have one operating and reporting segment.
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Revenues
We generate revenue by providing background and identity verification services to our clients. We have an attractive business model underpinned by stable and highly recurring transactional revenues, significant operating leverage and low capital requirements that contribute to strong cash flow generation. We recognize revenue under theFinancial Accounting Standards Board's Accounting Standards Codification Topic No. 606, "Revenue from Contracts with Customers" ("ASC 606"). Under ASC 606, we recognize revenue when control of the promised goods or services is transferred to clients, generally at a point in time, in an amount that reflects the consideration that we are entitled to for those goods or services. A majority of ourU.S. enterprise client contracts are exclusive to Sterling or require Sterling to be used as the primary provider. Additionally, they are typically multi-year agreements with automatic renewal terms, no termination for convenience clauses and set pricing with Sterling's right to increase prices annually upon notice. The strength of our contracts combined with our high levels of client retention results in a high degree of revenue visibility. Our revenue drivers are acquiring new clients (which we measure by new client growth, calculated as discussed in the following paragraph), retaining existing clients (which we measure by gross retention rate, calculated as discussed in the following paragraph), and growing our existing client relationships through upselling, cross-selling, and organic and inorganic growth in our client's operations that lead to an increase in hiring (which we measure by base growth, calculated as discussed in the following paragraph). New client growth for the relevant period is calculated as revenues from clients that are in the first twelve months of billing with Sterling divided by total revenues from the prior period, expressed as a percentage. Base growth is defined as growth in revenues in the current period, from clients that have been billing with us for longer than twelve calendar months, includes revenue from cross-sell and up-sell, and is provided net of attrition, which is the revenue impact from accounts considered lost. Base growth is expressed as a percentage, where the denominator is total revenues from the prior period. Gross retention rate is a percentage, the numerator of which is prior period revenues less the revenue impact from accounts considered lost and the denominator is prior period revenues. The revenue impact is calculated as revenue decline of lost accounts in the relevant period from the prior period for the months after they were considered lost. Therefore, the attrition impact of clients lost in the current year may be partially captured in both the current and following period's retention rates depending on what point during the period they are lost. Our gross retention rate does not factor in the revenue impact, whether growth or decline, attributable to existing clients or the incremental revenue impact of new clients. In addition to organic growth through the drivers mentioned above, we may from time to time consider acquisitions that drive growth in our business. In those instances, inorganic growth will refer to the revenue from acquisitions for the twelve months following an acquisition. Any incremental revenue generation thereafter will be considered organic growth. Our revenues come from the following services which are sold as a bundle or individually, with revenue recognized at the time of delivery of background screening reports. •Identity Verification - Leveraging innovative technologies in fingerprinting, facial recognition and ID validation to verify that candidates are who they say they are. •Background Checks - County, state and federal criminal checks fulfilled through proprietary automation technology enabling global criminal screening capabilities in over 240 countries and territories. Other services include credit checks, civil checks, motor vehicle registration confirmation and social media checks. •Credential Verification - Thorough employment and education verification services and licensing certification backed by a powerful fulfillment engine. •Drug and Health Screening - Comprehensive, accurate and fast drug and health screening services through a network of over 15,000 collection sites supporting theSubstance Abuse and Mental Health Services Administration in theU.S.
•Onboarding - Custom forms including
32 -------------------------------------------------------------------------------- Tab le of Contents •Post-Hire Monitoring - Continuous screening allowing for greater mobility and safety for remote, onsite and contingent jobs and also ensuring prompt risk warnings on any changes to an employee's profile.
Operating Expenses
Our cost structure is flexible and provides us with operational leverage to be able to effectively adapt to changing client needs and broader economic events. Additionally, in 2020, 2021 and to date in 2022, we implemented strategic structural changes in our business to improve operating leverage and accelerate modernizing our technological infrastructure including leveraging robotics process automation. We moved to a virtual-first strategy and closed or reduced the size of 11 offices globally and began reducing our data center footprint as we executed moving our revenue to the cloud and streamlined our sales and operations organization for greater operational efficiency. In any given period, operating expenses are driven by the amount of revenue, mix of clients and products, and impact of automation, productivity and procurement initiatives. While we expect operating expenses to increase in absolute dollars to support our continued growth, we believe that operating expenses will decline gradually as a percentage of total revenues in the future as our business grows and our operating scale continues to improve.
Operating expenses include the following costs:
Cost of Revenues
Cost of revenues includes costs related to delivery of services and includes third-party vendor costs associated with acquisition of data and to a lesser extent, costs related to our onshore and offshore fulfillment teams and facilities and hosting costs for our cloud-based platforms. Our ability to grow profitably depends on our ability to manage our cost structure. Our costs are affected by third-party costs including government fees and data vendor costs, as these third parties have discretion to adjust pricing. Third-party data costs include amounts paid to third parties for access to government records, other third-party data and services, as well as costs related to our court runner network. Third-party costs of services are largely variable in nature. Where applicable, these are typically invoiced to our clients as direct pass-through costs. Cost of revenues also includes salaries and benefits expense for personnel involved in the processing and fulfillment of our screening products and solutions, as well as our client care organization, and facilities costs for our onshore and offshore fulfillment centers. Additional vendor costs are third-party costs for robotics process automation related to fulfillment, and third-party costs related to hosting our fulfillment platforms in the cloud. We do not allocate depreciation and amortization to cost of revenues.
Corporate Technology and Production Systems
Included in this line item are costs related to maintaining our corporate information technology infrastructure and non-capitalizable costs to develop and maintain our production systems. Corporate information technology expenses consist of personnel costs supporting internal operations such as information technology support and the maintenance of our information security and business continuity functions. Also included are third-party costs including cloud computing costs that support our corporate internal systems, software licensing and maintenance, telecommunications and other technology infrastructure costs. Production systems costs consist of non-capitalizable personnel costs including contractor costs incurred for the development of platform and product initiatives, and production support and maintenance. Platform and product initiatives facilitate the development of our technology platform and the launch of new screening products. Production support and maintenance includes costs to support and maintain the technology underlying our existing screening products, and to enhance the ease of use for our cloud applications. Certain personnel costs related to new products and features are capitalized and amortization of these capitalized costs is included in the depreciation and amortization line item. Included within Corporate technology and production systems are non-capitalizable production system and corporate information technology expenses related to Project Ignite, a three-phase strategic investment initiative. Phase one of Project Ignite modernized client and candidate experiences and is complete. Phase two of Project Ignite focused on decommissioning our on-premises data centers and migrating our production systems and corporate information technological infrastructure to a managed service provider in the cloud. During the first half of 2021, we completed phase two related to the migration of our production and fulfillment systems to the cloud, and as a result, over 95% of our revenue is processed through platforms hosted in the cloud. The remaining expense to complete phase two is the decommissioning of our on-premises data centers 33
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for our internal corporate technology infrastructure and migration to the cloud. This final component is expected to be substantially completed byJune 30, 2022 . Phase three of Project Ignite is decommissioning of platforms purchased over the prior ten years and the migration of the clients to one global platform. This third and final phase, which we expect to substantially complete in 2022, will unify our clients onto a single global platform. The future costs related to completing these initiatives will be included in our Corporate technology and production systems expense.
Selling, General and Administrative
Selling expenses consist of personnel costs, travel expenses and other expenses for our client success, sales and marketing teams. Additionally, selling expenses include the cost of marketing and promotional events, corporate communications and other brand-building activities. General and administrative expenses consist of personnel and related expenses for human resources, legal and compliance, finance, global shared services and executives. Additional costs include professional fees, stock-based compensation, insurance premiums and other corporate expenses.
We expect our selling, general, and administrative ("SG&A") expenses to increase in the future, primarily as a result of additional public company related reporting and compliance costs.
In addition, non-cash stock-based compensation expense associated with special one-time bonus grants in connection with our IPO of options and restricted stock under ourSterling Check Corp. 2021 Omnibus Incentive Plan (discussed in Note 14, "Stock-based Compensation" to our audited consolidated financial statements included in Part II, Item 8. "Financial Statements and Supplementary Data" of our 2021 Annual Report) began in the third quarter of 2021 and will continue over the following four years. Over the long term, we expect our SG&A expenses to decrease as a percentage of our revenue as we leverage our past investments.
Depreciation and Amortization
Definite-lived intangible assets consist of intangibles acquired through acquisition and the costs of developing internal-use software. They are amortized using a straight-line basis over their estimated useful lives except for customer lists, to which we apply an accelerated method of amortization. The costs of developing internal-use software are capitalized during the application development stage. Amortization commences when the software is placed into service and is computed using the straight-line method over the useful life of the underlying software of three years.
Depreciation of our property and equipment is computed on the straight-line basis over the estimated useful life of the assets, generally three to five years or, for leasehold improvements, the shorter of seven years or the term of the lease.
Impairment of Long-Lived Assets
Long-lived assets, such as property, equipment and capitalized internal use software subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, such as (i) a significant adverse change in the extent or manner in which it is being used or in its physical condition, (ii) a significant adverse change in legal factors or in business climate that could affect its value, or (iii) a current-period operation or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast that demonstrates continuing losses associated with its use. An asset is considered impaired if the carrying amount exceeds the undiscounted future net cash flows the asset is expected to generate. An impairment charge is recognized for the amount by which the carrying amount of the assets exceeds its fair value. The adjusted carrying amount of the asset becomes its new cost basis. For a depreciable long-lived asset, the new cost basis will be depreciated or amortized over the remaining useful life of that asset. Assets held for sale are reported at the lower of the carrying amount or fair value, less selling costs.
Interest Expense, Net
Interest expense consists of interest and the amortization discount on the First Lien Term Loan (as defined under "-Liquidity and Capital Resources-Credit Facility.")
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Gain on Interest Rate Swaps
Gain on interest rate swaps consists of realized and unrealized gains on our interest rate swap, which we entered into to reduce our exposure to variability in expected future cash flows on the First Lien Term Loan, which bears interest at a variable rate. We are currently party to one interest rate swap. Unrealized gains and losses result from changes in the fair value of the swap and realized gains and losses reflect the amounts payable or receivable between the fixed rate on the swap and LIBOR. Our interest rate swap expires inJune 2022 and does not qualify for hedge accounting treatment.
Income Tax Provision
Income tax provision consists of domestic and foreign corporate income taxes related to earnings from our sale of services, with statutory tax rates that differ by jurisdiction. We expect the income earned by our international entities to grow over time as a percentage of total income, which may impact our effective income tax rate. However, our effective tax rate will be affected by many other factors including changes in tax laws, regulations or rates, new interpretations of existing laws or regulations, shifts in the allocation of income earned throughout the world and changes in overall levels of income before tax. The computation of the provision for or benefit from income taxes for interim periods is determined by applying the estimated annual effective tax rate to year-to-date (loss) income before tax and adjusting for discrete tax items recorded in the period, if any.
Results of Operations
Three Months Ended
The following table sets forth certain historical consolidated financial
performance for the three months ended
Three Months Ended Increase/ March 31, (Decrease) 2021 2022 $ % (dollars in thousands, except per share amounts) Revenues$ 139,370 $ 191,972 $ 52,602 37.7 %
Cost of revenues (exclusive of depreciation and
amortization below) 67,579 100,956 33,377 49.4 % Corporate technology and production systems 10,353 12,552 2,199 21.2 % Selling, general and administrative 29,606 42,333 12,727 43.0 % Depreciation and amortization 20,549 20,156 (393) (1.9) % Impairments of long-lived assets 2,876 - (2,876) (100.0) % Total operating expenses 130,963 175,997 45,034 34.4 % Operating income 8,407 15,975 7,568 90.0 % Interest expense, net 7,570 6,336 (1,234) (16.3) % Gain on interest rate swaps (46) (328) (282) 613.0 % Other income (271) (354) (83) 30.6 % Total other expense, net 7,253 5,654 (1,599) (22.0) % Income before income taxes 1,154 10,321 9,167 794.4 % Income tax provision 526 4,085 3,559 676.6 % Net income$ 628 $ 6,236 $ 5,608 893.0 % Net income margin 0.5 % 3.2 % 2.8 % Net income per share - basic$ 0.01 $ 0.07 $ 0.06 836.3 % Revenues Revenues increased by 37.7%, or$52.6 million , from$139.4 million for the three months endedMarch 31, 2021 to$192.0 million for the three months endedMarch 31, 2022 . The 37.7% growth rate was driven by 30.4% organic constant currency revenue growth and 8.0% inorganic growth from the acquisition of EBI, partially offset 35
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by a 0.7% unfavorable impact from fluctuations in foreign currency. The organic revenue increase reflected base revenue growth of 20.1%, including cross-sell and up-sell, net of attrition, and new customer growth of 9.7%. Notably, our investments in technology and products, coupled with our best-in-class turnaround times and customer-first focus, drove a 200 basis point improvement in our gross retention rate from 94% for the twelve months endedMarch 31, 2021 to 96% for the twelve months endedMarch 31, 2022 . Pricing was relatively stable across the periods and not meaningful to the change in revenues. Total revenue in ourU.S. business grew 45.9% year-over-year. We saw broad-based strength across our industry Verticals, with particularly exceptional results in our Consumer and Gig, Industrials, Technology Media and Financial and Business Services Verticals, as we executed our growth playbook and benefited from secular tailwinds that are driving increased labor turnover. Our international business experienced total revenue growth of 8.2%, with double-digit revenue growth inCanada and APAC. Cost of Revenues Cost of revenues increased by 49.4%, or$33.4 million , from$67.6 million for the three months endedMarch 31, 2021 to$101.0 million for the three months endedMarch 31, 2022 . This was driven by a$25.5 million increase due to increased volume and a$7.9 million increase due to higher cost of revenue on the EBI business, additional payroll and related expenses due to increased headcount to support revenue growth and higher stock-based compensation expense related to IPO equity grants to employees. Cost of revenues as a percentage of revenues increased by 410 basis points from 48.5% for the three months endedMarch 31, 2021 to 52.6% for the three months endedMarch 31, 2022 .
Corporate Technology and Production Systems Expense
Corporate technology and production systems expense increased by 21.2%, or$2.2 million , from$10.4 million for the three months endedMarch 31, 2021 to$12.6 million for the three months endedMarch 31, 2022 . These expenses include costs related to maintaining our corporate information technology infrastructure and non-capitalizable costs to develop and maintain our production systems. Costs related to maintaining our corporate information technology infrastructure increased by$1.6 million from$4.6 million for the three months endedMarch 31, 2021 to$6.1 million for the three months endedMarch 31, 2022 primarily due to the acquisition of EBI, increased headcount and third party software license cost to support growth and increased stock-based compensation expense from IPO equity grants to employees. Costs to develop platform and product initiatives increased by$0.7 million from$3.6 million for the three months endedMarch 31, 2021 to$4.2 million for the three months endedMarch 31, 2022 due primarily to increased stock-based compensation expense resulting from IPO equity grants to employees. Costs related to maintaining our production systems remained flat at$2.2 million for the three months endedMarch 31, 2021 and 2022. These expenses also include non-capitalizable costs related to Project Ignite. We incurred$0.9 million related to phase one,$1.3 million related to phase two and$0.7 million related to phase three in the three months endedMarch 31, 2021 , and$1.0 million related to phase two and$2.2 million related to phase three in the three months endedMarch 31, 2022 . For more information about Project Ignite, including information related to the anticipated completion and treatment of non-capitalizable expenses in future periods, please see "-Components of our Results of Operations-Operating Expenses-Corporate Technology and Production Systems."
Selling, General and Administrative
Selling, general and administrative expenses increased by 43.0%, or$12.7 million , from$29.6 million for the three months endedMarch 31, 2021 to$42.3 million for the three months endedMarch 31, 2022 . The year-over-year increase was primarily driven by a$5.2 million increase in payroll and related taxes and benefits expense driven by additional headcount, partially due to the EBI acquisition, a$3.3 million increase in stock-based compensation expense related to IPO equity grants to employees and a$2.7 million increase due to higher professional fees and insurance costs related to operating as a public company. The remainder of the increase was due to higher variable costs required to support revenue growth.
Depreciation and Amortization
Depreciation and amortization expense decreased by 1.9%, or$0.4 million , from$20.5 million for the three months endedMarch 31, 2021 to$20.2 million for the three months endedMarch 31, 2022 , primarily due to 36
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lower intangible asset amortization, as new intangible assets were added at a lower rate compared to those which became fully depreciated in the interim period coupled with reduced fixed asset depreciation resulting from decreased capital expenditure activity.
Impairments of Long-Lived Assets
Impairments of long-lived assets totaled$2.9 million for the three months endedMarch 31, 2021 primarily resulting from the write-off of fixed assets related to the exit of ourBellevue, Washington office. There was no impairment of goodwill or other intangible assets during the three months endedMarch 31, 2022 .
Interest Expense, Net
Interest expense decreased by 16.3%, or$1.2 million , from$7.6 million for the three months endedMarch 31, 2021 to$6.3 million for the three months endedMarch 31, 2022 primarily due to the reduction in the outstanding debt balance following the$100 million principal payment on our First Lien Term Loan inNovember 2021 . Amortization of the loan discount and deferred issuance costs resulted in expense of$0.6 million and$0.5 million for three months endedMarch 31, 2021 and 2022, respectively.
Gain on Interest Rate Swaps
Gain on interest rate swaps increased$0.3 million , from a gain of less than$0.1 million for the three months endedMarch 31, 2021 to a gain of$0.3 million for the three months endedMarch 31, 2022 due to a realized loss of$2.1 million offset by a mark to market ("MTM") gain of$2.4 million . Income Tax Provision Income tax provision increased$3.6 million from$0.5 million for the three months endedMarch 31, 2021 to$4.1 million for the three months endedMarch 31, 2022 , resulting in an effective tax rate of 45.6% and 39.6%, respectively. The increase in the income tax provision is primarily due to the increase in income before taxes. Income before taxes increased$9.2 million from$1.2 million for the three months endedMarch 31, 2021 to$10.3 million for the three months endedMarch 31, 2022 . For the three months endedMarch 31, 2021 and 2022, the effective rate differs from the statutory rate mainly due to a jurisdictional mix of earnings and permanent items.
Net Income and Net Income Margin
Net income increased$5.6 million from net income of$0.6 million for the three months endedMarch 31, 2021 to net income of$6.2 million for the three months endedMarch 31, 2022 . Net income margin increased 281 basis points from a net income margin of 0.5% for the three months endedMarch 31, 2021 to a net income margin of 3.2% for the three months endedMarch 31, 2022 .
The increase in both net income and net income margin resulted primarily from improved operating leverage as revenues increased by 37.7% while operating expenses increased by only 34.4%.
Net Income per Share
Net income per share increased
Non-GAAP Financial Measures
This Quarterly Report on Form 10-Q contains "non-GAAP financial measures," which are financial measures that are not calculated and presented in accordance with US GAAP. Specifically, we make use of the non-GAAP financial measures "organic constant currency revenue growth", "Adjusted EBITDA," "Adjusted EBITDA Margin," "Adjusted Net Income," "Adjusted Earnings Per Share" and "Adjusted Free Cash Flow" to assess the performance of our business.
Organic constant currency revenue growth is calculated by adjusting for inorganic revenue growth, which is defined as the impact to revenue growth in the current period from merger and acquisition ("M&A") activity
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that has occurred over the past twelve months, and converting the current period revenue at foreign currency exchange rates consistent with the prior period. We present organic constant currency revenue growth because we believe it assists investors and analysts in comparing our operating performance across reporting periods on a consistent basis by excluding items that we do not believe are indicative of our core operating performance; however, it has limitations as an analytical tool, and you should not consider such a measure either in isolation or as a substitute for analyzing our results as reported under US GAAP. In particular, organic constant currency revenue growth does not reflect M&A activity or the impact of foreign currency exchange rate fluctuations. Adjusted EBITDA is defined as net income adjusted for provision for income taxes, interest expense, depreciation and amortization, stock-based compensation, transaction expenses related to our public offering and one-time public company transition expenses, M&A activity, optimization and restructuring, technology transformation costs, foreign currency (gains) and losses and other costs affecting comparability. Adjusted EBITDA Margin is defined as Adjusted EBITDA divided by revenue for the applicable period. We present Adjusted EBITDA and Adjusted EBITDA Margin because we believe they assist investors and analysts in comparing our operating performance across reporting periods on a consistent basis by excluding items that we do not believe are indicative of our core operating performance. Management and our Board of Directors use Adjusted EBITDA and Adjusted EBITDA Margin to evaluate the factors and trends affecting our business to assess our financial performance and in preparing and approving our annual budget and believe they are helpful in highlighting trends in our core operating performance. Further, our executive incentive compensation is based in part on components of Adjusted EBITDA. Adjusted EBITDA and Adjusted EBITDA Margin have limitations as analytical tools and should not be considered in isolation or as substitutes for our results as reported under US GAAP. Adjusted EBITDA excludes items that can have a significant effect on our profit or loss and should, therefore, be considered only in conjunction with net income (loss) for the period. Because not all companies use identical calculations, these measures may not be comparable to other similarly titled measures of other companies. Adjusted Net Income is a non-GAAP profitability measure. Adjusted Net Income is defined as net income adjusted for amortization of acquired intangible assets, stock-based compensation, transaction expenses related to our public offering and one-time public company transition expenses, M&A activity, optimization and restructuring, technology transformation costs, and certain other costs affecting comparability, adjusted for the applicable tax rate. Adjusted Earnings Per Share is defined as Adjusted Net Income divided by diluted weighted average shares for the applicable period. We present Adjusted Net Income and Adjusted Earnings Per Share because we believe they assist investors and analysts in comparing our operating performance across reporting periods on a consistent basis by excluding certain material non-cash items and unusual items that we do not expect to continue at the same level in the future. Our management believes that the inclusion of supplementary adjustments to net income (loss) applied in presenting Adjusted Net Income provide additional information to investors about certain material non-cash items and about items that we do not expect to continue at the same level in the future. Adjusted Net Income and Adjusted Earnings Per Share have limitations as analytical tools, and you should not consider such measures either in isolation or as substitutes for analyzing our results as reported under US GAAP. Adjusted Free Cash Flow is defined asNet Cash provided by (used in) Operating Activities minus purchases of property and equipment and purchases of intangible assets and capitalized software. We present Adjusted Free Cash Flow because we believe it assists investors and analysts in comparing our operating performance across reporting periods on a consistent basis by excluding certain material non-recurring, non-operating cash items that we do not expect to continue at the same level in the future. Adjusted Free Cash Flow has limitations as an analytical tool, and you should not consider such measure either in isolation or as a substitute for analyzing our results as reported under US GAAP. 38
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Organic Constant Currency Revenue Growth
The following table reconciles revenue growth, the most directly comparable US GAAP measure, to organic constant currency revenue growth for the three months endedMarch 31, 2021 and 2022. There was no impact of inorganic revenue growth on our revenue in the three months endedMarch 31, 2021 . For the three months endedMarch 31, 2022 , we have provided the impact of revenue from the acquisition of EBI. Three Months Ended March 31, 2021 2022 Reported revenue growth 16.7 % 37.7 % Inorganic revenue growth (1) - % 8.0 % Impact from foreign currency exchange (2) 2.1 % (0.7) % Organic constant currency revenue growth 14.6 % 30.4 % __________ (1)Impact to revenue growth in the current period from M&A activity that has occurred over the past twelve months. (2)Impact to revenue growth in the current period from fluctuations in foreign currency exchange rates.
Adjusted EBITDA and Adjusted EBITDA Margin
Adjusted EBITDA increased by 29.4%, or$10.8 million , from$36.8 million for the three months endedMarch 31, 2021 to$47.6 million for the three months endedMarch 31, 2022 . This was due to increased revenue and improved operating leverage. Adjusted EBITDA Margin decreased by 159 basis points year-over-year from 26.4% for the three months endedMarch 31, 2021 to 24.8% for the three months endedMarch 31, 2022 , predominantly driven by a full quarter of public company costs as well as lower margin from EBI. The following table reconciles net income, the most directly comparable US GAAP measure, to Adjusted EBITDA for the three months endedMarch 31, 2021 and 2022: Three Months Ended March 31, 2021 2022 (dollars in thousands) Net income$ 628 $ 6,236
Income tax provision (benefit) 526 4,085 Interest expense, net
7,570 6,336
Depreciation and amortization 20,549 20,156 Stock-based compensation
898 5,108 Transaction expenses(1) 1,089 1,888 Restructuring(2) 3,035 346
Technology Transformation(3) 2,059 3,762
Gain on interest rate swaps(4) (46) (328) Other(5) 496 47 Adjusted EBITDA$ 36,804 $ 47,636 Adjusted EBITDA Margin 26.4 % 24.8 % (1)Consists of transaction expenses related to mergers and acquisitions, associated earn-outs, investor management fees in connection with the Fourth Amended and Restated Management Services Agreement and costs related to preparation of our IPO and one-time public company transition expenses. For the three months endedMarch 31, 2021 , approximately$0.6 million related to preparation of our IPO and approximately$0.4 million in costs related to mergers and acquisitions. For the three months ended March 39
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31, 2022, costs consisted primarily of$1.5 million of one-time public company transition expenses and$0.3 million in costs related to mergers and acquisitions. (2)Consists of restructuring-related costs, including executive recruiting and severance charges, and lease termination costs and disposal of fixed assets related to our real estate consolidation efforts. During 2019 and 2020, we executed an extensive restructuring program, significantly strengthening our management team and creating a client-facing industry-specific Vertical organization. This program was completed by the end of 2020 and the final costs related to this program were incurred through the first quarter of 2021. Beginning in 2020, we began executing a virtual-first strategy, closing offices and reducing office space globally. For the three months endedMarch 31, 2021 , approximately$2.5 million was related to our real estate consolidation program, consisting primarily of the write-off on disposal of fixed assets for our exited facility inBellevue, Washington . The remaining costs consisted of$0.5 million of restructuring-related executive recruiting and severance charges. For the three months endedMarch 31, 2022 , the costs consisted of$0.3 million in expenses related to our real estate consolidation program. (3)Includes costs related to technology modernization efforts, as well as costs related to decommissioning of on premise production systems and redundant fulfillment systems of acquired companies and the migration to the Company's platform. We believe that these costs are discrete and non-recurring in nature, as they relate to a one-time restructuring and decommissioning of our on-premise production systems and corporate technological infrastructure and the move to a managed service provider, decommissioning redundant fulfillment systems and modernizing internal functional systems. As such, they are not normal, recurring operating expenses and are not reflective of ongoing trends in the cost of doing business. The significant majority of these are related to the last two phases of Project Ignite, a three-phase strategic investment initiative launched in 2019 to create an enterprise-class global platform, with the remainder related to an investment made to modernize internal functional systems in preparation for our public company infrastructure. For the three months endedMarch 31, 2021 , we made an investment of approximately$3.0 million in Project Ignite. For the three months endedMarch 31, 2022 , investment related to Project Ignite was$3.2 million . The remaining$0.6 million relates to costs for decommissioning of the on-premise production system and decommissioning of the redundant fulfillment system of EBI and migrating onto the Company's platform. (4)Consists of gain on interest rate swaps. See Part I. Item 3. "Quantitative and Qualitative Disclosures about Market Risk-Interest Rate Risk" for additional information on interest rate swaps. (5)Consists of costs related to loss on foreign currency transactions.
The following table presents the calculation of Net Income Margin and Adjusted
EBITDA Margin for the three months ended
Three Months Ended March 31, 2021 2022 (dollars in thousands) Net income$ 628 $ 6,236
Adjusted EBITDA
$ 139,370 $ 191,972 Net income margin 0.5 % 3.2 %
Adjusted EBITDA margin 26.4 % 24.8 %
Adjusted Net Income and Adjusted Earnings Per Share
Adjusted Net Income increased by 57.9%, or
Adjusted Earnings Per Share-basic increased by 52.9%, or$0.09 per share from$0.17 per share for the three months endedMarch 31, 2021 to$0.26 per share for the three months endedMarch 31, 2022 . Adjusted Earnings Per Share-diluted increased by 47.1%, or$0.08 per share from$0.17 per share for the three months endedMarch 31, 2021 to$0.25 per share for the three months endedMarch 31, 2022 . The increase in Earnings Per Share-basic and Earnings Per Share-diluted was primarily due to the increase in Adjusted Net Income. 40
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The following table reconciles net income, the most directly comparable US GAAP measure, to Adjusted Net Income and Adjusted Earnings Per Share for the three months endedMarch 31, 2021 and 2022: Three Months Ended March 31, 2021 2022 (in thousands, except per share amounts) Net income$ 628 $ 6,236 Income tax provision 526 4,085 Income before income taxes 1,154 10,321 Amortization of acquired intangible assets 13,263 13,764 Stock-based compensation 898 5,108 Transaction expenses(1) 1,089 1,888 Restructuring(2) 3,035 346 Technology Transformation(3) 2,059 3,762 Gain on interest rate swaps(4) (46) (328) Other(5) 496 47
Adjusted Net Income before income tax effect 21,948 34,908 Income tax effect(6)
6,498 10,507 Adjusted Net Income$ 15,450 $ 24,401 Net Income per share-basic$ 0.01 $ 0.07 Net Income per share-diluted$ 0.01 $ 0.06 Adjusted Earnings Per Share-basic$ 0.17 $ 0.26 Adjusted Earnings Per Share-diluted$ 0.17 $ 0.25 (1)Consists of transaction expenses related to mergers and acquisitions, associated earn-outs, investor management fees, and costs related to preparation of our IPO and one-time public company transition expenses. (2)Consists of restructuring-related costs, including executive recruiting and severance charges, and lease termination costs and disposal of fixed assets related to our real estate consolidation efforts. During 2019 and 2020, we executed an extensive restructuring program, significantly strengthening our management team and creating a client-facing industry-specific Vertical organization. This program was completed by the end of 2020 and the final costs related to this program were incurred through the first quarter of 2021. Beginning in 2020, we began executing a virtual-first strategy, closing offices and reducing office space globally. (3)Includes costs related to technology modernization and acquisition-related technology integration and migration efforts. We believe that these costs are discrete and non-recurring in nature, as they relate to a one-time restructuring and decommissioning of our on-premise production systems and corporate technological infrastructure and the move to a managed service provider, decommissioning redundant fulfillment systems and modernizing internal functional systems. As such, they are not normal, recurring operating expenses and are not reflective of ongoing trends in the cost of doing business. The significant majority of these are related to the last two phases of Project Ignite, with the remainder related to an investment made to modernize internal functional systems in preparation for our public company infrastructure. (4)Consists of gain on interest rate swaps. See Part I. Item 3. "Quantitative and Qualitative Disclosures about Market Risk-Interest Rate Risk" for additional information on interest rate swaps. (5)Consists of costs related to loss on foreign currency transactions. (6)Normalized effective tax rates of 29.6% and 30.1% have been used to compute Adjusted Net Income for the three months endedMarch 31, 2021 and 2022, respectively. As ofDecember 31, 2021 , we had net operating loss carryforwards of approximately$80.7 million for federal income tax purposes and deferred tax assets of approximately$8.2 million related to state and foreign income tax loss carryforwards available to reduce future income subject to income taxes. The amount of actual cash taxes we pay for federal, state, and foreign income taxes differs significantly from the effective income tax rate computed in accordance with US GAAP, and from the normalized rate shown above. 41
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The following table reconciles net income per share, the most directly
comparable US GAAP measure, to Adjusted Earnings Per Share for the three months
ended
Three Months EndedMarch 31, 2021 2022
(in thousands, except share and per share amounts) Net income
$ 628$ 6,236 Less: Undistributed amounts allocated to participating securities 3 - Undistributed earnings allocated to stockholders $
625
Weighted average number of shares outstanding - basic 88,602,167 93,967,819 Weighted average number of shares outstanding - diluted 92,165,163 99,186,456 Net income per share - basic$ 0.01 $ 0.07 Net income per share - diluted $
0.01
Adjusted Net Income$ 15,450 $ 24,401 Less: Undistributed amounts allocated to participating securities 64 - Undistributed earnings allocated to stockholders $
15,386
Weighted average number of shares outstanding - basic 88,602,167 93,967,819 Weighted average number of shares outstanding - diluted 92,165,163 99,186,456 Adjusted earnings per share - basic$ 0.17 $ 0.26 Adjusted earnings per share - diluted $
0.17
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The following table presents the calculation of Adjusted Diluted Earnings Per
Share for the three months ended
Three Months Ended March 31, 2021 2022 Net income per share - diluted$ 0.01 $ 0.06 Adjusted Net Income adjustments per share Income tax expense 0.01 0.04 Amortization of acquired intangible assets 0.14 0.14 Stock-based compensation 0.01 0.05 Transaction expenses(1) 0.01 0.02 Restructuring(2) 0.03 - Technology Transformation(3) 0.02 0.04 Gain on interest rate swaps(4) - - Other(5) 0.01 - Income tax effect(6) (0.07) (0.11) Adjusted earnings per share - diluted$ 0.17 $ 0.25 Weighted average number of shares outstanding used in computation of Adjusted Diluted Earnings Per Share: Weighted average number of shares outstanding - diluted (US GAAP) 92,165,163 99,186,456
Options not included in weighted average number of shares outstanding - diluted (US GAAP) (using treasury stock method)
- - Weighted average number of shares outstanding - diluted (non-GAAP) (using treasury stock method) 92,165,163 99,186,456 (1)Consists of transaction expenses related to mergers and acquisitions, associated earn-outs, investor management fees, and costs related to preparation of our IPO and one-time public company transition expenses. (2)Consists of restructuring-related costs, including executive recruiting and severance charges, and lease termination costs and disposal of fixed assets related to our real estate consolidation efforts. During 2019 and 2020, we executed an extensive restructuring program, significantly strengthening our management team and creating a client-facing industry-specific Vertical organization. This program was completed by the end of 2020 and the final costs related to this program were incurred through the first quarter of 2021. Beginning in 2020, we began executing a virtual-first strategy, closing offices and reducing office space globally. (3)Includes costs related to technology modernization and acquisition-related technology integration and migration efforts. We believe that these costs are discrete and non-recurring in nature, as they relate to a one-time restructuring and decommissioning of our on-premise production systems and corporate technological infrastructure and the move to a managed service provider, decommissioning redundant fulfillment systems and modernizing internal functional systems. As such, they are not normal, recurring operating expenses and are not reflective of ongoing trends in the cost of doing business. The significant majority of these are related to the last two phases of Project Ignite, with the remainder related to an investment made to modernize internal functional systems in preparation for our public company infrastructure. (4)Consists of gain on interest rate swaps. See Part 1. Item 3. "Quantitative and Qualitative Disclosures about Market Risk-Interest Rate Risk" for additional information on interest rate swaps. (5)Consists of costs related to loss on foreign currency transactions. (6)Normalized effective tax rates of 29.6% and 30.1% have been used to compute Adjusted Net Income for the three months endedMarch 31, 2021 and 2022, respectively. As ofDecember 31, 2021 , we had net operating loss carryforwards of approximately$80.7 million for federal income tax purposes and deferred tax assets of approximately$8.2 million related to state and foreign income tax loss carryforwards available to reduce future income subject to income taxes. The amount of actual cash taxes we pay for federal, state, and foreign income taxes differs significantly from the effective income tax rate computed in accordance with US GAAP, and from the normalized rate shown above. 43
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Liquidity and Capital Resources
Overview
Liquidity describes the ability of a company to generate sufficient cash flows to meet the cash requirements of its business operations, including working capital needs to meet operating expenses, debt service, acquisitions, capital expenditures, other commitments and contractual obligations. We consider liquidity in terms of cash flows from operations and their sufficiency to fund our operating and investing activities. Our primary cash needs are for day-to-day operations, working capital requirements, capital expenditures for ongoing development of our technological offering and other mandatory payments such as taxes, and debt principal and interest obligations. Our liquidity needs are met primarily through cash flows from operations, which include cash received from customers less cash costs related to our operations. Our capital expenditures can vary depending on the timing of the development of new products and services and technological enhancement-related investments. Capital expenditures for the three months endedMarch 31, 2021 and 2022 were approximately$4.2 million and$5.2 million , respectively, primarily related to capitalizable software development. We believe that our projected cash position and cash flows from operations will be sufficient to fund our liquidity requirements for at least the next twelve months. However, our future liquidity requirements could be higher than we currently expect as a result of various factors. For example, any future investments, acquisitions, joint ventures or other similar transactions may require additional capital. In addition, our ability to continue to meet our future liquidity requirements will depend on, among other things, our ability to achieve anticipated levels of revenues and cash flows from operations and our ability to manage costs and working capital successfully, all of which are subject to general economic, financial, competitive and other factors beyond our control. In the event we require any additional capital, it will take the form of equity or debt financing, or both, and there can be no assurance that we will be able to raise any such financing on terms acceptable to us or at all. As ofMarch 31, 2022 , we had cash and cash equivalents of approximately$44.3 million . As ofDecember 31, 2021 , we had cash and cash equivalents of$48.0 million . All cash and cash equivalents are held with independent financial institutions with a minimum credit rating of A as defined by the three main credit rating agencies. As ofMarch 31, 2022 , all cash and cash equivalents were held in accounts with banks such that the funds are immediately available or in fixed term deposits with a maximum maturity of three months.
Credit Facility
InJune 2015 , our subsidiarySterling Midco Holdings, Inc. (predecessor toSterling Infosystems, Inc. ) entered into a first lien credit agreement as borrower (as most recently amended by the Sixth Amendment thereto datedAugust 11, 2021 , the "Credit Agreement") withKeyBank National Association , as administrative agent (the "Administrative Agent"), certain guarantors party thereto and various lenders, includingGoldman Sachs Lending Partners LLC , as lenders. The Credit Agreement provides for aggregate principal borrowings of$795.0 million (subject to the increase described below), comprising a$655.0 million original principal amount of term loan (the "First Lien Term Loan") which matures inJune 2024 and a$140.0 million revolving credit facility (the "Revolving Credit Facility"), which matures the earlier of (a)August 11, 2026 or(b)December 31, 2023 unless, on or prior toDecember 31, 2023 , the First Lien Term Loan has been (i) refinanced with the proceeds of indebtedness with a final maturity date that is no earlier thanFebruary 11, 2027 or (ii) amended, modified or waived, such that the final maturity date of the First Lien Term Loan is no earlier thanFebruary 11, 2027 . Amounts outstanding under the First Lien Term Loan bear interest under either of the following two rates, elected in advance quarterly by the borrower for periods of either one month, two months, three months or six months: (1) an applicable rate of 2.5% plus a base rate (equal to the greater of (a) the prime rate (b) the federal funds rate plus 1/2 of 1% or (c) the one-month LIBOR plus 1%, subject to a 2% floor); or (2) an applicable rate of 3.5% plus one-month LIBOR which is subject to a 1% floor. Interest on LIBOR borrowings is payable on the last business day of the interest period selected except in the case of a six-month election, in which case it is payable on the last day of the third and sixth month. The interest rate in effect for the First Lien Term Loan as ofMarch 31, 2022 was 4.5%. The First Lien Term Loan requires$1.6 million repayment of principal on the last business day of each March, June, September and December. Under the Credit Agreement, we must also make a mandatory prepayment of principal in the amount of 50% of the excess cash, as defined in the Credit Agreement, generated in any given year, if our Net Leverage Ratio (as defined in the Credit Agreement) is 44
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greater than or equal to 2.95:1.00. Per the terms of the Credit Agreement, there was no excess cash flow payment required for the year endedDecember 31, 2021 . OnNovember 1, 2021 , the Company utilized the net proceeds from the IPO and cash on hand to repay$100.0 million of outstanding borrowings under the First Lien Term Loan. All remaining outstanding principal is due at maturity inJune 2024 . We have been in compliance with all covenants under the Credit Agreement since origination.
Pursuant to the Sixth Amendment to the Credit Agreement, the
Amounts outstanding under the Revolving Credit Facility bear interest at a tiered floating interest rate based on the net leverage ratio of the borrower. The rate may be chosen periodically in advance of each interest period at the election of the borrower, as follows: (1) an applicable rate of 2.5% plus the greater of (a) the prime rate (b) the federal funds rate plus 1/2 of 1% (c) the one-month LIBOR plus 1% or (d) a 2% floor or (2) an applicable rate of 3.5% plus one-month LIBOR. In addition, there is a quarterly fee of 0.50% or 0.375% on the unused portion of the commitments based on the first lien net leverage ratio. Unused and therefore available borrowings under the Revolving Credit Facility, net of letters of credit, were$139.3 million as ofDecember 31, 2021 andMarch 31, 2022 . The Revolving Credit Facility matures on the earlier ofAugust 11, 2026 orDecember 31, 2023 unless, on or prior toDecember 31, 2023 , the First Lien Term Loan has been refinanced with a final maturity date that is no earlier thanFebruary 11, 2027 or amended, modified or waived, such that the final maturity date of the First Lien Term Loan is no earlier thanFebruary 11, 2027 . We can use available funding capacity under the Revolving Credit Facility to satisfy letters of credit related to leased office space and other obligations, subject to a sublimit equal to the lesser of$20.0 million or aggregate amounts available for borrowing under the Revolving Credit Facility. The issuance of letters of credit reduce the available capacity under the Revolving Credit Facility. We had outstanding letters of credit totaling$0.7 million as ofDecember 31, 2021 andMarch 31, 2022 and additional availability for letters of credit of$19.3 million . The Credit Agreement contains covenants that, among other things restrict our ability to: incur certain additional indebtedness; transfer money between our various subsidiaries; pay dividends on, repurchase or make distributions with respect to our subsidiaries' capital stock or make other restricted payments; issue stock of subsidiaries; make certain investments, loans or advances; transfer and sell certain assets; create or permit liens on assets; consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; enter into certain transactions with our affiliates; and amend certain documents. The Credit Agreement also contains financial covenants that require us to maintain a total specified leverage ratio of less than 6.75:1.00 for so long as we have borrowed at least 35% or more of the total availability under the Revolving Credit Facility. Compliance with the financial covenants may be waived by lenders holding a majority of the Revolving Credit Facility. We were in compliance with all financial covenants under the Credit Agreement as ofMarch 31, 2022 . Obligations under the Credit Agreement are collateralized by a first lien on substantially all the assets and outstanding capital stock of the Company subject to exceptions. The Credit Agreement also contains various events of default, including, without limitation, the failure to pay interest or principal when the same is due, cross default and cross acceleration provisions, the failure of representations and warranties contained in the agreements to be true and certain insolvency events. If an event of default occurs and is continuing, the principal amounts outstanding under the Credit Agreement, together with all accrued and unpaid interest and other amounts owed thereunder, may be declared immediately due and payable by the lenders. 45
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Cash Flows
The following table presents a summary of our condensed consolidated cash flows from operating, investing and financing activities for the three months endedMarch 31, 2021 and 2022: Three Months Ended March 31, 2021 2022 (in thousands) Net cash provided by operating activities$ 21,983 $
3,445
Net cash used in investing activities (4,185)
(5,233)
Net cash used in financing activities (127)
(1,771)
Increase (decrease) in cash and cash equivalents 17,671
(3,559)
Effect of exchange rate changes on cash 151
(92)
Cash and cash equivalents at beginning of the period 66,633 47,998
Cash and cash equivalents at end of the period
Operating Activities Net cash provided by operating activities of$22.0 million for the three months endedMarch 31, 2021 reflects the adjustment to net income for non-cash charges totaling$19.9 million , primarily driven by$20.5 million in depreciation and amortization,$2.9 million of impairments of long-lived assets,$0.9 million of stock-based compensation and$0.6 million of debt discount amortization partially offset by$2.4 million in deferred income taxes,$1.1 million of deferred rent and$1.5 million of changes in the fair value of derivatives. Changes in operating assets and liabilities provided an additional$1.5 million of operating cash flow. Net cash provided by operating activities of$3.4 million for the three months endedMarch 31, 2022 reflects the adjustment to net income for non-cash charges totaling$26.7 million primarily driven by$20.2 million of depreciation and amortization,$5.1 million of stock-based compensation and$3.4 million of deferred income taxes offset by$2.5 million of changes in the fair value of derivatives. Changes in operating assets and liabilities for the three months endedMarch 31, 2022 decreased cash flow from operating activities by$29.4 million .
Investing Activities
Net cash used in investing activities for the three months endedMarch 31, 2021 and 2022 was$4.2 million and$5.2 million , respectively. Net cash used in investing activities for the three months endedMarch 31, 2021 consisted of a$3.8 million investment in capitalized software and$0.3 million in purchases of computer hardware and other property, plant and equipment. Net cash used in investing activities for the three months endedMarch 31, 2022 consisted of a$3.7 million investment in capitalized software and$1.5 million in purchases of computer hardware and other property, plant and equipment.
Financing Activities
Net cash used in financing activities for the three months endedMarch 31, 2021 was$0.1 million . Net cash used in financing activities for the three months endedMarch 31, 2022 was$1.8 million . The increase in net cash used in financing year-over-year is primarily due to a decrease in proceeds from issuance of common stock during the period endedMarch 31, 2022 compared to the period endedMarch 31, 2021 . Adjusted Free Cash Flow For the three months endedMarch 31, 2021 , we generated$17.9 million of Adjusted Free Cash Flow compared to$(1.8) million for the three months endedMarch 31, 2022 . The decrease in Adjusted Free Cash Flow compared to the prior year period was driven by a return to our normal bonus payment structure and the timing of interest and tax payments. 46
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The following table reconciles net cash flow provided by operating activities, the most directly comparable US GAAP measure, to Adjusted Free Cash Flow for the three months endedMarch 31, 2021 and 2022. For the three months endedMarch 31, 2021 , we adjusted Free Cash Flow for one-time, cash, non-operating charges related to the completed IPO. Three Months Ended March 31, (in thousands) 2021 2022 Net Cash provided by Operating Activities$ 21,983 $
3,445
Total IPO adjustments (1) 122
-
Purchases of intangible assets and capitalized software (3,839) (3,742) Purchases of property and equipment
(346) (1,495) Adjusted Free Cash Flow$ 17,920 $ (1,792) _______________
(1) Includes one-time, cash, non-operating charges related to our IPO. Costs
include
Critical Accounting Policies and Estimates
The preparation of our consolidated financial statements in accordance with US GAAP requires us to use estimates and make judgments and assumptions about future events that affect the reported amounts of assets, liabilities, revenue and expenses and the related disclosures. See "Management's Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies and Estimates" in our 2021 Annual Report for a description of our critical accounting estimates and Note 2, "Summary of Significant Accounting Policies" to our 2021 consolidated financial statements in our 2021 Annual Report for our significant accounting policies. During the three months endedMarch 31, 2022 , we adopted FASB ASC Topic 326, "Financial Instruments - Credit Losses" ("CECL") with an adoption date ofJanuary 1, 2022 . As a result, we changed our accounting policy for allowance for credit losses and the adoption of CECL resulted in an immaterial cumulative effect adjustment recorded in retained earnings as ofJanuary 1, 2022 . For additional information, see Note 2, "Summary of Significant Accounting Policies" to our unaudited condensed consolidated financial statements in this quarterly report on Form 10-Q. There were no additional changes to our critical accounting estimates in the three months endedMarch 31, 2022 . See Note 3, "Recent Accounting Standards Update" to our unaudited condensed consolidated financial statements in this Quarterly Report on Form 10-Q for a discussion of new accounting guidance adopted during the first three months of 2022. 47
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