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Table of Contents                            

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
 ___________________________________________________________ 
FORM 10-Q
 ___________________________________________________________ 
(Mark One)
x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
For the quarterly period ended September 30, 2018
or
o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from          to         
Commission File Number: 001-35669
 ___________________________________________________________
SHUTTERSTOCK, INC.
(Exact name of registrant as specified in its charter)
 ___________________________________________________________
Delaware
 
80-0812659
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
Shutterstock, Inc.
350 Fifth Avenue, 21st Floor
New York, NY 10118
(Address of principal executive offices, including zip code)
(646) 710-3417
(Registrant’s telephone number, including area code)
 __________________________________________________________
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   x Yes   o No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   x Yes   o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
 
Accelerated filer o
 
 
 
Non-accelerated filer o (Do not check if a smaller reporting company)
 
 
 
 
 
Smaller reporting company o
 
 
 
 
 
Emerging growth company o
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
 
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  o Yes  x No
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
 
 
Class
 
Outstanding at October 26, 2018
Common Stock, $0.01 par value per share
 
35,036,943
 

Table of Contents                            

Shutterstock, Inc.
FORM 10-Q
Table of Contents 
For the Quarterly Period Ended September 30, 2018
 
Page No.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

2
Table of Contents                            

FORWARD-LOOKING STATEMENTS
 
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, particularly in the discussion under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Examples of forward-looking statements include, but are not limited to, statements regarding future business, future results of operations or financial condition, new or planned features, products or services, or management strategies. You can identify these forward-looking statements by words such as “may,” “will,” “would,” “should,” “could,” “expect,” “anticipate,” “believe,” “estimate,” “intend,” “plan” and other similar expressions. However, not all forward-looking statements contain these words. These forward-looking statements involve risks and uncertainties that could cause our actual results to differ materially from those expressed or implied in our forward-looking statements. Such risks and uncertainties include, among others, those discussed under the caption “Risk Factors” in our most recently filed Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on February 22, 2018, in our Quarterly Report on Form 10-Q for the quarter ended June 30, 2018, which was filed with the SEC on August 1, 2018, and in our consolidated financial statements, related notes, and the other information appearing elsewhere in such reports, this report on Form 10-Q and our other filings with the SEC. Given these risks and uncertainties, you should not place undue reliance on these forward-looking statements. We do not intend, and, except as required by law, we undertake no obligation, to update any of our forward-looking statements after the date of this report to reflect actual results or future events or circumstances.
Unless the context otherwise indicates, references in this Quarterly Report on Form 10-Q to the terms “Shutterstock,” “the Company,” “we,” “our” and “us” refer to Shutterstock, Inc. and its subsidiaries. “Shutterstock,” “Offset,” “Bigstock,” “Rex Features” and “PremiumBeat” and their logos are registered trademarks and are the property of Shutterstock, Inc. or one of our subsidiaries. All other trademarks, service marks and trade names appearing in this Quarterly Report on Form 10-Q are the property of their respective owners.

3
Table of Contents                            

PART I.     FINANCIAL INFORMATION
Item 1.        Financial Statements.
Shutterstock, Inc.
Consolidated Balance Sheets
(In thousands, except par value amount)
(unaudited)
 
September 30,
 
December 31,
 
2018
 
2017
 
 
 
 
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
206,409

 
$
253,428

Accounts receivable, net
45,850

 
49,932

Prepaid expenses and other current assets
28,331

 
37,109

Total current assets
280,590

 
340,469

Property and equipment, net
81,183

 
85,698

Intangible assets, net
30,611

 
34,197

Goodwill
88,802

 
98,654

Deferred tax assets, net
13,966

 
9,761

Other assets
18,068

 
8,997

Total assets
$
513,220

 
$
577,776

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
4,022

 
$
7,160

Accrued expenses
55,202

 
58,734

Contributor royalties payable
23,334

 
20,088

Deferred revenue
141,412

 
157,803

Other liabilities
2,679

 
1,957

Total current liabilities
226,649

 
245,742

Deferred tax liability, net
—

 
1,486

Other non-current liabilities
17,973

 
15,963

Total liabilities
244,622

 
263,191

Commitments and contingencies (Note 7)

 

Stockholders’ equity:
 
 
 
Common stock, $0.01 par value; 200,000 shares authorized; 37,573 and 37,270 shares issued and 35,015 and 34,712 shares outstanding as of September 30, 2018 and December 31, 2017, respectively
376

 
373

Treasury stock, at cost; 2,558 shares as of September 30, 2018 and December 31, 2017
(100,027
)
 
(100,027
)
Additional paid-in capital
287,017

 
272,657

Accumulated comprehensive loss
(4,939
)
 
(3,557
)
Retained earnings
86,171

 
145,139

Total stockholders’ equity
268,598

 
314,585

Total liabilities and stockholders’ equity
$
513,220

 
$
577,776

See Notes to Unaudited Consolidated Financial Statements.

4
Table of Contents                            

Shutterstock, Inc.
Consolidated Statements of Operations
(In thousands, except for per share data)
(unaudited)
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
 
 
 
 
 
 
 
 
Revenue
$
151,575

 
$
141,063

 
$
461,178

 
$
405,282

 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
Cost of revenue
66,461

 
58,812

 
198,842

 
168,512

Sales and marketing
41,028

 
36,008

 
123,414

 
105,620

Product development
14,032

 
13,340

 
47,208

 
37,276

General and administrative
23,355

 
27,333

 
74,901

 
74,716

Total operating expenses
144,876

 
135,493

 
444,365

 
386,124

Income from operations
6,699

 
5,570

 
16,813

 
19,158

Gain on Sale of Webdam
—

 
—

 
38,613

 
—

Other income/(expense), net
217

 
130

 
(6,000
)
 
2,095

Income before taxes
6,916

 
5,700

 
49,426

 
21,253

(Benefit)/provision for income taxes
(531
)
 
698

 
9,652

 
6,582

Net income
$
7,447

 
$
5,002

 
$
39,774

 
$
14,671

 
 
 
 
 
 
 
 
Earnings per share:
 
 
 
 
 
 
 
Basic
$
0.21

 
$
0.14

 
$
1.14

 
$
0.42

Diluted
$
0.21

 
$
0.14

 
$
1.12

 
$
0.42

 
 
 
 
 
 
 
 
Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
34,991

 
34,643

 
34,897

 
34,607

Diluted
35,570

 
35,177

 
35,420

 
35,339

See Notes to Unaudited Consolidated Financial Statements.

5
Table of Contents                            

Shutterstock, Inc.
Consolidated Statements of Comprehensive Income
(In thousands)
(unaudited)
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
 
 
 
 
 
 
 
 
Net income
$
7,447

 
$
5,002

 
$
39,774

 
$
14,671

Foreign currency translation (loss)/gain
1,724

 
4,325

 
(1,382
)
 
12,460

Other comprehensive (loss)/income
1,724

 
4,325

 
(1,382
)
 
12,460

Comprehensive income
$
9,171

 
$
9,327

 
$
38,392

 
$
27,131

 
See Notes to Unaudited Consolidated Financial Statements.

6
Table of Contents                            

Shutterstock, Inc.
Consolidated Statements of Cash Flows
(In thousands)
(unaudited)
 
Nine Months Ended
September 30,
 
2018
 
2017
 
 
 
 
CASH FLOWS FROM OPERATING ACTIVITIES
 

 
 

Net income
$
39,774

 
$
14,671

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
33,934

 
24,948

Deferred taxes
(6,249
)
 
4,346

Non-cash equity-based compensation
17,994

 
20,128

Settlement of contingent consideration liability in excess of acquisition-date fair value
—

 
(6,255
)
Gain on Sale of Webdam
(38,613
)
 
—

Loss on impairment of long-term investment
5,881

 
—

Bad debt expense
911

 
981

Changes in operating assets and liabilities:
 
 
 
Accounts receivable
(1,811
)
 
(5,361
)
Prepaid expenses and other current and non-current assets
6,941

 
(10,551
)
Accounts payable and other current and non-current liabilities
1,438

 
11,282

Contributor royalties payable
3,351

 
(681
)
Deferred revenue
4,966

 
18,002

Net cash provided by operating activities
$
68,517

 
$
71,510

 
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Capital expenditures
(29,546
)
 
(37,626
)
Investment sales, net
—

 
32,786

Acquisition of business
(845
)
 
(49,512
)
Proceeds from Sale of Webdam, net
41,804

 
—

Other investments/advances
(15,000
)
 
(3,101
)
Acquisition of digital content
(2,822
)
 
(2,568
)
Security deposit (payment)/release
(43
)
 
30

Net cash used in investing activities
$
(6,452
)
 
$
(59,991
)
 
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Purchase of treasury shares
—

 
(24,977
)
Proceeds from exercise of stock options
2,454

 
1,369

Cash paid related to settlement of employee taxes related to RSU vesting
(6,060
)
 
(5,791
)
Cash paid for Special Dividend
(104,925
)
 
—

Settlement of contingent consideration liability
—

 
(3,745
)
Net cash used in financing activities
$
(108,531
)
 
$
(33,144
)
 
 
 
 
Effect of foreign exchange rate changes on cash
(553
)
 
10,217

Net decrease in cash, cash equivalents and restricted cash
(47,019
)
 
(11,408
)
 
 
 
 
Cash, cash equivalents and restricted cash, beginning of period
256,041

 
226,803

Cash, cash equivalents and restricted cash, end of period
$
209,022

 
$
215,395

 
 
 
 
Supplemental Disclosure of Cash Information:
 
 
 
Cash paid for income taxes
$
364

 
$
4,137

See Notes to Unaudited Consolidated Financial Statements.

7
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)





(1) Summary of Operations and Significant Accounting Policies
Summary of Operations
Shutterstock, Inc., together with its subsidiaries (collectively, the “Company” or “Shutterstock”), is a global technology company that offers an e-commerce platform for high-quality digital content, tools and services to creative professionals. The digital content licensed by the Company’s customers includes: (a) imagery, consisting of licensed photographs, vectors, illustrations and video clips that customers use in their visual communications, such as websites, digital and print marketing materials, corporate communications, books, publications and video content; and (b) music, consisting of high-quality music tracks and sound effects, which is often used to complement the digital imagery. The Company licenses creative content to its customers. Contributors upload their creative content to the Company’s websites in exchange for royalty payments based on customer download activity. The Company also offered digital asset management services through its cloud-based digital asset management platform (“Webdam”). As discussed in Note 4, on February 26, 2018, the Company completed a sale transaction, pursuant to which the buyer in the transaction acquired certain assets and assumed certain contracts and liabilities which constituted the Company’s digital asset management business (the “Sale of Webdam”).
Basis of Presentation
The unaudited condensed consolidated financial statements and accompanying notes have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, these financial statements do not include all information and footnotes required by GAAP for complete financial statements.
The interim consolidated balance sheet as of September 30, 2018, consolidated statements of operations and comprehensive income for the three and nine months ended September 30, 2018 and 2017, and consolidated statements of cash flows for the nine months ended September 30, 2018 and 2017 are unaudited. The consolidated balance sheet as of December 31, 2017, included herein, was derived from the audited financial statements as of that date, but does not include all disclosures required by GAAP. These unaudited interim financial statements have been prepared on a basis consistent with the Company’s annual financial statements and, in the opinion of management, reflect all adjustments, which include all normal recurring adjustments necessary to state fairly the Company’s financial position as of September 30, 2018, its consolidated results of operations and comprehensive income for the three and nine months ended September 30, 2018 and 2017, and cash flows for the nine months ended September 30, 2018 and 2017. The financial data and the other financial information disclosed in the notes to the financial statements related to these periods are also unaudited. The results of operations for the three and nine months ended September 30, 2018 are not necessarily indicative of the results to be expected for the fiscal year ending December 31, 2018 or for any other future annual or interim period.
These financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto as of and for the year ended December 31, 2017 included in the Company’s Annual Report on Form 10-K, which was filed with the SEC on February 22, 2018. The unaudited consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
The Company has recorded certain immaterial adjustments to its condensed consolidated financial statements for the correction of errors related to prior periods:
•
During the third quarter of 2018, to decrease enterprise revenue by approximately $0.8 million;
•
During the second quarter of 2018, to: (i) increase enterprise revenue by approximately $0.4 million and (ii) increase general and administrative expense by approximately $0.8 million;
•
During the third quarter of 2017, to increase enterprise revenue by approximately $0.9 million; and
•
During the second quarter of 2017, to: (i) reduce enterprise revenue by approximately $0.6 million and (ii) increase general and administrative expense by approximately $0.1 million.
The Company has concluded that the impact of the adjustments recorded in the second and third quarters of 2018 and 2017 is not material to the results of operations or financial position for the periods in which these adjustments were recorded nor any prior quarterly or annual period financial statements.
Certain changes in presentation have been made to conform the prior period presentation to current period reporting.

8
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Use of Estimates
The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from those estimates. Such estimates include, but are not limited to, the determination of the allowance for doubtful accounts, the assessment of recoverability of property and equipment, the fair value of acquired goodwill and intangible assets, the grant-date fair value of non-cash equity-based compensation, the assessment of recoverability of deferred tax assets and the measurement of certain contingent non-income tax liabilities.
Revenue Recognition
The majority of the Company’s revenue is earned from the license of digital content. Digital content licenses are generally purchased on a monthly or annual subscription basis, whereby a customer pays for a predetermined quantity of content that may be downloaded over a specific period of time, or, on a transactional basis, whereby a customer pays for individual content licenses at the time of download. Prior to the Sale of Webdam, the Company also earned revenue from licensing hosted software services through Webdam’s cloud-based tools for businesses, which were purchased as part of a subscription.
Prior to the adoption of Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”) on January 1, 2018, and reflected in the reported revenue amounts for the three and nine months ended September 30, 2017, the Company recognized revenue when all of the following basic criteria were met: there was persuasive evidence of an arrangement, performance or delivery of services had occurred, the sales price was fixed or determinable, and collectability was reasonably assured. The Company considered persuasive evidence of an arrangement to be an electronic order form, or a signed contract, which contained the fixed pricing terms. Performance or delivery for digital content licenses was considered to have occurred upon the download of the licensed content. Subscription revenue was recognized upon each download using an effective per-license rate and revenue associated with any unused licenses was recognized at the subscription expiration.
Effective January 1, 2018, subsequent to the adoption of ASU 2014-09, the Company recognizes revenue upon the satisfaction of performance obligations, which occurs when (i) digital content is downloaded by a customer or (ii) hosted software services are provisioned and available to a customer. For digital content licenses, the Company recognizes revenue on both its subscription-based and transaction-based sales when content is downloaded, at which time the license is provided. In addition, management estimates expected unused licenses for its subscription-based products and recognizes the revenue associated with the unused licenses throughout the subscription period. The estimate of unused licenses is based on historical download activity and future changes in the estimate could impact the timing of revenue recognition of the Company’s subscription products. Revenue associated with hosted software services is recognized ratably over the term of the license. ASU 2014-09 has resulted in a change in the timing of recognizing revenue on the Company’s digital content license subscription products. ASU 2014-09 did not impact revenue recognition on digital content licenses sold on a transactional basis or license revenue associated with hosted software services.
Prior to the adoption of ASU 2014-09, the Company deferred certain acquisition costs that were then amortized over a period of less than one year. Effective January 1, 2018 the Company expenses contract acquisition costs as incurred, to the extent that the amortization period would otherwise be one year or less.
The majority of the Company’s customers purchase products by making electronic payments at the time of the transaction with a credit card. The Company establishes an allowance for credit card chargebacks and a sales refund reserve based on factors surrounding historical chargeback and sales refund trends and other information. Customer payments received in advance of revenue recognition are contract liabilities and are recorded as deferred revenue. Customers that do not pay in advance are invoiced and are required to make payments under standard credit terms.
Cash, Cash Equivalents and Restricted Cash
The following represents the Company’s cash, cash equivalents and restricted cash as of September 30, 2018 and December 31, 2017 (in thousands):
 
As of September 30, 2018
 
As of December 31, 2017
Cash and cash equivalents
$
206,409

 
$
253,428

Restricted Cash
2,613

 
2,613

Total cash, cash equivalents and restricted cash
$
209,022

 
$
256,041


9
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




The Company’s cash and cash equivalents consist primarily of (i) cash on hand and bank deposits and (ii) money market accounts, which are stated at cost, which approximates fair value.
The Company’s restricted cash relates to security deposits related to the lease for its headquarters in New York City, which expires in 2029. The carrying value of restricted cash approximates fair value. Restricted cash is included as a component of other assets on the consolidated balance sheets.
Allowance for Doubtful Accounts
The Company’s accounts receivable consists of customer obligations due under normal trade terms, carried at their face value less an allowance for doubtful accounts, if required. The Company determines its allowance for doubtful accounts based on an evaluation of the aging of its accounts receivable and on a customer-by-customer basis where appropriate. The Company’s reserve analysis contemplates the Company’s historical loss rate on receivables, specific customer situations and the economic environments in which the Company operates. During the nine months ended September 30, 2018, bad debt expense, which increased the allowance for doubtful accounts, was $0.9 million, and write-offs and other adjustments, which decreased the allowance for doubtful accounts, were $0.5 million. As of September 30, 2018 and December 31, 2017, the Company’s allowance for doubtful accounts was approximately $4.5 million and $4.1 million, respectively, which was included as a reduction of accounts receivable.
Deferred Rent
The Company records rent expense on a straight-line basis over the term of the related lease. The difference between the rent expense recognized and the actual payments made in accordance with the lease agreement is recognized as a deferred rent liability on the Company’s balance sheet. As of September 30, 2018 and December 31, 2017, the Company had deferred rent of $11.3 million and $11.1 million, respectively, of which $11.0 million and $11.0 million, respectively, was included in other non-current liabilities, and $0.3 million and $0.1 million, respectively, was included in accrued expenses.
Chargeback and Sales Refund Allowance
The majority of the Company’s customers purchase products by making an electronic payment with a credit card at the time of a transaction. The Company establishes a chargeback allowance and sales refund reserve allowance based on factors surrounding historical credit card chargeback trends, historical sales refund trends and other information. As of September 30, 2018 and December 31, 2017, the Company’s combined allowance for chargebacks and sales refunds was $0.3 million and $0.4 million, respectively, which was included in other liabilities.
Recently Adopted Accounting Standard Updates
In March 2018, the Financial Accounting Standards Board (“FASB”) issued ASU 2018-05, Income Taxes (Topic 740) - Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 (“ASU 2018-05”). ASU 2018-05 codifies existing SEC guidance contained in SEC Staff Accounting Bulletin No. 118 (“SAB 118”), which expresses the view of the staff regarding application of existing guidance for the accounting for income taxes as it relates to the enactment of the Tax Cuts and Jobs Act (the “TCJA”), which was signed into law in the fourth quarter of 2017. In accordance with ASU 2018-05, the Company has recorded provisional estimates for the accounting impacts of the TCJA, including the transition tax, remeasurement of deferred tax, and other items, due to the uncertainty regarding how these provisions are to be implemented and additional anticipated forthcoming guidance. As management completes the analysis of the impacts of the TCJA, the Company may refine its current estimate and make adjustments, which will be recognized through income in the period such adjustments are identified, as required by ASU 2018-05.
In January 2017, the FASB issued ASU 2017-01, Business Combinations - Clarifying the Definition of a Business.  ASU 2017-01 provides additional guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. Effective January 1, 2018, the Company adopted ASU 2017-01 on a prospective basis. Adoption of ASU 2017-01 had no effect on the Company’s consolidated financial statements.
In November 2016, the FASB issued ASU 2016-18, Statements of Cash Flows (Topic 230): Restricted Cash (“ASU 2016-18”), which requires entities to present restricted cash with cash and cash equivalents on the statement of cash flows when reconciling the total beginning and ending amounts for the periods shown on the statement of cash flows. The Company adopted ASU 2016-18 retrospectively on January 1, 2018. As a result of this adoption, the Company has revised the presentation of its statement of cash flows for the nine months ended September 30, 2017 to reflect restricted cash of $2.6 million in both the beginning and ending balances of cash, cash equivalents and restricted cash. There were no changes to previously reported amounts of cash used or provided by operating activities, investing activities or financing activities during the period.

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Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




In January 2016, the FASB issued ASU 2016-01, Financial Instruments - Overall (Subtopic 825-10), Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”), which requires entities to measure all investments in equity securities at fair value and recognize any changes in fair value within the statement of operations. Under the standard, equity investments that do not have readily determinable fair values are eligible for a measurement alternative that allows for these investments to be recorded at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. The Company adopted ASU 2016-01 on January 1, 2018. Adoption of ASU 2016-01 had no effect on the Company’s consolidated financial statements. ASU 2016-01 may increase the volatility in the statement of operations upon the occurrence of observable price changes or impairments in the equity securities.
In May 2014, the FASB issued ASU 2014-09. ASU 2014-09, together with its related amendments, provides a unified model to determine when and how revenue is recognized and requires certain additional disclosures around the nature, amount, timing, and uncertainty of revenue and cash flows arising from customers. The core principle is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 also requires deferral of incremental costs associated with the cost of acquiring a customer contract, such as sales commissions, and amortization of such amounts over the contract term. However, as a practical expedient, if the amortization period of the deferred cost would be one year or less, the entity is permitted to expense these costs as incurred.
The Company adopted ASU 2014-09 on January 1, 2018 using the modified retrospective approach, and prior period amounts were not restated. This standard resulted in a change in the timing of recognizing revenue on the Company’s digital content license subscription products. The Company has elected to utilize the practical expedient with regard to recognition of expense related to deferred contract acquisition costs, which resulted in a change in the timing of the recognition of such expenses.
The effect of adoption of this new guidance on the consolidated balance sheet as of January 1, 2018 was to reduce prepaid expenses and other current assets and to reduce deferred revenues, with an offsetting increase in 2018 opening retained earnings, as follows (in thousands):
 
As Reported
December 31, 2017
 
Adjustment
 
Revised
January 1, 2018
Prepaid expenses and other current assets(1)
37,109

 
(3,733
)
 
33,376

Deferred revenue
157,803

 
(9,911
)
 
147,892

Retained earnings
145,139

 
6,178

 
151,317

(1)
Prepaid expenses and other current assets adjustment is attributable to the reduction in deferred commissions and income tax receivables.
The effect of adoption of this new guidance on the Company’s reported balance sheet and statements of operations is as follows (in thousands):
 
As Reported
Under ASU 2014-09
 
Impact of Adoption
 
Under
Legacy Guidance
For the three months ended September 30, 2018:
 
 
 
 
 
Revenue
151,575

 
(404
)
 
151,171

Cost of revenue
66,461

 
(51
)
 
66,410

Benefit for income taxes
(531
)
 
(56
)
 
(587
)
Net loss
7,447

 
(297
)
 
7,150

For the nine months ended September 30, 2018:
 
 
 
 
 
Revenue
461,178

 
(1,804
)
 
459,374

Cost of revenue
198,842

 
(153
)
 
198,689

Provision for income taxes
9,652

 
(264
)
 
9,388

Net income
39,774

 
(1,387
)
 
38,387

As of September 30, 2018:
 
 
 
 
 
Prepaid expenses and other current assets
28,331

 
4,150

 
32,481

Deferred revenue
141,412

 
11,715

 
153,127

Retained Earnings
86,171

 
(7,565
)
 
78,606


11
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Recently Issued Accounting Standard Updates
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses of Financial Instruments (“ASU 2016-13”). ASU 2016-13 replaces the current incurred loss impairment methodology with a methodology that reflects expected credit losses. The ASU is intended to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. Adoption of this guidance is required, prospectively, for annual periods beginning after December 15, 2019, with early adoption permitted for annual periods beginning after December 15, 2018. The Company is evaluating the impact of adopting this new accounting standard on its financial statements.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) (“ASU 2016-02”), as amended. ASU 2016-02 requires that the rights and obligations created by leases with a duration greater than 12 months be recorded as assets and liabilities on the balance sheet of the lessee. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018 and can be applied using a modified retrospective approach for all leases entered into before the effective date. Early adoption is permitted. The Company’s significant long-term leases relate primarily to its office facilities, which are described in Note 7. Upon adoption of this standard, the Company will record a right of use asset related to its lease agreements. The Company is evaluating the impact of adopting this new accounting standard on its financial statements.
In August 2018, the FASB issued ASU 2018-13, Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurements (“ASU 2018-13”), which eliminates, adds and modifies certain disclosure requirements for fair value measurements as part of the FASB’s disclosure framework project. Adoption of this guidance is required for fiscal years and interim periods within those fiscal years, beginning after December 15, 2019.
In August 2018, the FASB issued ASU 2018-15, Customer’s Accounting For Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract (“ASU 2018-15”), which aligns the requirements for capitalizing implementation costs in a cloud computing arrangement with the requirements for capitalizing implementation costs incurred for an internal-use software license. Adoption of this guidance is required for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years and early adoption is permitted. Entities are permitted to choose to adopt the new guidance (1) prospectively for eligible costs incurred on or after the date this guidance is first applied or (2) retrospectively. The Company is evaluating the impact of this new accounting standard on its financial statements.

(2) Fair Value Measurements and Other Long-term Investments
Fair Value Measurements
Money Market Accounts
Cash equivalents include money market accounts which are classified as a level 1 measurement based on quoted prices in active markets for identical assets that the Company can access at the measurement date. During the second quarter of 2018, the Company liquidated its position in money market accounts, and converted the balance to cash. As a result, there are no money market accounts included in cash and cash equivalents as of September 30, 2018. The total amount of money market accounts included in cash and cash equivalents was $55.8 million as of December 31, 2017.
Other Fair Value Measurements
Cash, accounts receivable, restricted cash, accounts payable, accrued expenses and deferred revenue carrying amounts approximate fair value because of the short-term nature of these instruments. The Company’s non-financial assets, which include property and equipment, intangible assets and goodwill, are not required to be measured at fair value on a recurring basis. However, if certain triggering events occur, or if an annual impairment test is required and the Company is required to evaluate the non-financial asset for impairment, a resulting asset impairment would require that non-financial assets be recorded at fair value.
Other Long-term Investments
Long-term Lending Facility and Note Receivable
On October 20, 2016, the Company entered into a multi-part transaction with SilverHub Media Limited (“SHM”), an unrelated third-party contributor. The transaction included three primary components: (a) a revolving credit facility pursuant to which the Company would be obligated to lend up to $4.6 million under certain conditions, (the “Facility”) to SHM. The

12
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Facility had a term of five years and required SHM to make quarterly payments of principal to the Company beginning on the fourth anniversary of the Facility. The Facility bore interest at 10.0%, with all interest payments deferred until maturity, and the entire unpaid balance of principal and accrued interest due upon maturity. In March 2017, the Facility was amended to reduce the maximum lending amount to approximately $3.3 million. As of November 2017, SHM had fully drawn down under the facility and the Company had no additional lending obligation; (b) a distribution agreement, under which the Company is the exclusive distributor of SHM’s content in certain markets subject to certain limitations; and (c) an option to acquire SHM at any time after the third anniversary of the Facility or to match any third-party acquisition offer with respect to SHM at any time until the fifth anniversary of the Facility. 
Simultaneously with the reduction of the maximum lending amount of the Facility, the Company invested $1.6 million in a convertible note issued by SHM, which had a maturity date of October 20, 2021.  The convertible note bore interest at 10.0%, with all interest payments deferred until maturity, and the entire unpaid balance of principal and accrued interest due upon maturity. The principal amount of the convertible note and any accrued and unpaid interest was convertible into equity of SHM at the Company’s option on the maturity date, or earlier upon certain events.
In June 2018, SHM breached certain provisions of the distribution agreement, which constituted an event of default under the Facility. As a result of the occurrence of one or more events of default, the Company provided notice to SHM to demand immediate payment of all outstanding borrowings under the Facility and the convertible note, including accrued interest. SHM was unable to pay the outstanding borrowings and accrued interest and therefore, an administrator was appointed and SHM entered into United Kingdom administration (bankruptcy) proceedings. The Company has determined that its investments in SHM, including the Facility, the convertible note, accrued interest and a minor equity investment, experienced an other-than-temporary impairment and therefore, the Company recorded a $5.9 million impairment charge during the three months ended June 30, 2018 in order to reduce the fair value of the Company’s investment in SHM to zero. This charge was recorded in Other (expense)/income, net in the consolidated statements of operations. The investment was previously reported within Other assets on the consolidated balance sheet.
Investment in ZCool Technologies Limited (“ZCool”)
On January 4, 2018, the Company invested $15.0 million in convertible preferred shares issued by ZCool (the “Preferred Shares”), which is equivalent to a 25% fully diluted equity ownership interest. ZCool’s primary business is the operation of an e-commerce platform in China whereby customers can pay to license content contributed by creative professionals. ZCool has been the exclusive distributor of Shutterstock creative content in China since 2014.
ZCool is a variable interest entity that is not consolidated because the Company is not the primary beneficiary. The Preferred Shares are not deemed to be in-substance common stock and will be accounted for using the measurement alternative for equity investments with no readily determinable fair value. The Preferred Shares will be reported at cost, adjusted for impairments or any observable price changes in ordinary transactions with identical or similar investments issued by ZCool. As of September 30, 2018, the Company’s total investment in ZCool is approximately $15.0 million, which is reported within Other assets on the consolidated balance sheet.

(3) Property and Equipment
Property and equipment is summarized as follows (in thousands):
 
As of September 30, 2018
 
As of December 31, 2017
Computer equipment and software
$
142,347

 
$
118,493

Furniture and fixtures
10,032

 
9,970

Leasehold improvements
19,305

 
18,487

Property and equipment
171,684

 
146,950

Less accumulated depreciation
(90,501
)
 
(61,252
)
Property and equipment, net
$
81,183

 
$
85,698

Depreciation expense related to property and equipment was $10.3 million and $7.9 million for the three months ended September 30, 2018 and 2017, respectively, and $29.7 million and $19.9 million for the nine months ended September 30, 2018 and 2017, respectively. Depreciation expense is included in Cost of revenue and General and administrative expense in the consolidated statement of operations based on the nature of the asset being depreciated.

13
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Capitalized Internal-Use Software
The Company capitalized costs related to the development of internal-use software of $6.4 million and $11.2 million for the three months ended September 30, 2018 and 2017, respectively, and $22.3 million and $25.8 million for the nine months ended September 30, 2018 and 2017, respectively. Capitalized amounts are included as a component of property and equipment under computer equipment and software.
The portion of total depreciation expense related to capitalized internal-use software was $6.6 million and $4.1 million for the three months ended September 30, 2018 and 2017, respectively, and $18.0 million and $9.2 million for the nine months ended September 30, 2018 and 2017, respectively. Depreciation expense related to capitalized internal-use software is included in Cost of revenue and General and administrative expense in the consolidated statement of operations.
As of September 30, 2018 and December 31, 2017, the Company had capitalized internal-use software of $49.6 million and $45.4 million, respectively, net of accumulated depreciation, which was included in property and equipment, net.
(4) Sale of Digital Asset Management Business
On February 26, 2018, the Company completed the Sale of Webdam for an aggregate purchase price of $49.1 million, subject to working capital adjustments. Total cash received, after an initial working capital adjustment, net of transaction costs paid, was $42.3 million with an additional $5.0 million receivable placed in escrow. In the second quarter of 2018, $2.5 million of the funds placed in escrow were released to the Company, and the remaining $2.5 million of funds in escrow are expected to be released to the Company, net of final working capital adjustments, during the first quarter of 2019. The funds in escrow are included as a component of other current assets on the consolidated balance sheet as of September 30, 2018. In addition, approximately $3.0 million of transaction costs related to the sale were paid in the second and third quarters of 2018.
The Company recognized a pre-tax gain on sale of approximately $38.6 million.
(5) Goodwill and Intangible Assets
Goodwill
The Company’s goodwill balance is attributable to its Bigstock, Editorial, Images and Music reporting units and is tested for impairment annually on October 1 or upon a triggering event. Bigstock, Editorial, Images and Music are included in the Company's “Content Business” reportable segment. During the first quarter of 2018, the Company disposed of its Webdam business. The Webdam reporting unit is included in the non-reportable “Other Category” as of December 31, 2017.
The following table summarizes the changes in the Company’s goodwill balance by reportable and non-reportable segments through September 30, 2018 (in thousands):
 
Consolidated
 
Content Business
 
Other Category
Balance as of December 31, 2017
$
98,654

 
$
89,891

 
$
8,763

Foreign currency translation adjustment
(1,089
)
 
(1,089
)
 
—

Sale of Webdam
(8,763
)
 
—

 
(8,763
)
Balance as of September 30, 2018
$
88,802

 
$
88,802

 
$
—

No triggering events were identified during the nine months ended September 30, 2018.

14
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Intangible Assets
Intangible assets consisted of the following as of September 30, 2018 and December 31, 2017 (in thousands):
 
As of September 30, 2018
 
 
 
As of December 31, 2017
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Weighted
Average Life
(Years)
 
Gross
Carrying
Amount
 
Accumulated
Amortization
Amortizing intangible assets:
 

 
 

 
 
 
 
 
 
Customer relationships
$
17,702

 
$
(6,781
)
 
9
 
$
21,008

 
$
(6,996
)
Trade name
6,499

 
(3,580
)
 
7
 
7,159

 
(3,299
)
Developed technology
4,824

 
(3,520
)
 
4
 
5,528

 
(3,450
)
Contributor content
19,508

 
(4,301
)
 
10
 
17,041

 
(3,066
)
Patents
259

 
(80
)
 
18
 
259

 
(68
)
Domain name
160

 
(79
)
 
13
 
160

 
(79
)
Total
$
48,952

 
$
(18,341
)
 
 
 
$
51,155

 
$
(16,958
)
During the nine months ended September 30, 2018, the Company completed the Sale of Webdam, which resulted in a reduction of the gross carrying amount and accumulated amortization of intangible assets.
Amortization expense was $1.4 million and $2.3 million for the three months ended September 30, 2018 and 2017, respectively, and $4.2 million and $5.1 million for the nine months ended September 30, 2018 and 2017, respectively. The Company determined that there was no indication of impairment of the intangible assets for any period presented. Estimated amortization expense is: $1.6 million for the remaining three months of 2018, $6.1 million in 2019, $5.5 million in 2020, $4.6 million in 2021, $3.1 million in 2022, $2.8 million in 2023 and $6.9 million thereafter.

(6) Accrued Expenses 
Accrued expenses consisted of the following (in thousands):
 
As of September 30, 2018
 
As of December 31, 2017
Compensation
$
18,208

 
$
19,897

Non-income taxes
7,535

 
6,895

Royalty tax withholdings
8,201

 
7,566

Other expenses
21,258

 
24,376

Total accrued expenses
$
55,202

 
$
58,734

(7) Commitments and Contingencies
The Company leases facilities under agreements accounted for as operating leases. Rental expense for operating leases was $2.2 million and $2.3 million for the three months ended September 30, 2018 and 2017, respectively, and $7.0 million and $6.5 million for the nine months ended September 30, 2018 and 2017, respectively. Some leases have defined escalating rent provisions, which are expensed over the term of the related lease on a straight-line basis commencing with the date of possession. Any rent allowance or abatement is netted in this calculation. In addition to contractual rent amounts, the Company’s lease payments are also subject to adjustments in real estate taxes and operating expenses.
In 2016, the Company’s lease for its office facility in New York City was amended to, among other things, provide for the lease of approximately 25,000 square feet of additional office space and extend the term of the lease. In connection with the underlying lease agreement, the Company entered into a letter of credit as a security deposit for the leased facilities, which was increased to $2.6 million in connection with the 2016 amendment. The letter of credit is collateralized by $2.6 million of cash as of September 30, 2018, which is recorded as restricted cash and is included in Other assets in the consolidated balance sheet. As amended, the lease is scheduled to expire in 2029 and aggregate future minimum payments under the amended lease are approximately $73.9 million.

15
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Other Obligations
As of September 30, 2018, the Company had other obligations in the amount of approximately $70.3 million, which consisted primarily of minimum royalty guarantees and unconditional purchase obligations related to contracts for infrastructure and other business services. As of September 30, 2018, the Company’s other obligations for the remainder of 2018 and for the years ending December 31, 2019, 2020, 2021 and 2022 were approximately $8.2 million, $22.3 million, $27.2 million, $9.3 million and $3.3 million, respectively.
Legal Matters
From time to time, the Company may become party to litigation in the ordinary course of business, including direct claims brought by or against the Company with respect to intellectual property, contracts, employment and other matters, as well as claims brought against the Company’s customers for whom the Company has a contractual indemnification obligation. The Company assesses the likelihood of any adverse judgments or outcomes with respect to these matters and determines loss contingency assessments on a gross basis after assessing the probability of incurrence of a loss and whether a loss is reasonably estimable. In addition, the Company considers other relevant factors that could impact its ability to reasonably estimate a loss. A determination of the amount of reserves required, if any, for these contingencies is made after analyzing each matter. The Company reviews reserves, if any, at least quarterly and may change the amount of any such reserve in the future due to new developments or changes in strategy in handling these matters. Although the results of litigation and threats of litigation, investigations and claims cannot be predicted with certainty, the Company currently believes that the final outcome of these matters will not have a material adverse effect on its business, consolidated financial position, results of operations, or cash flows. Regardless of the outcome, litigation can have an adverse impact on the Company because of defense and settlement costs, diversion of management resources and other factors. The Company currently has no material active litigation matters and, accordingly, no material reserves related to litigation.
Indemnification and Employment Agreements
In the ordinary course of business, the Company enters into contractual arrangements under which it agrees to provide indemnification of varying scope and terms to customers with respect to certain matters, including, but not limited to, losses arising out of the breach of the Company’s intellectual property warranties for damages to the customer directly attributable to the Company’s breach. The Company is not responsible for any damages, costs, or losses to the extent such damages, costs or losses arise as a result of any modifications made by the customer, or the context in which an image is used. The standard maximum aggregate obligation and liability to any one customer for all claims is generally limited to ten thousand dollars. The Company offers certain of its customers greater levels of indemnification, including unlimited indemnification. As of September 30, 2018, the Company had recorded no material liabilities related to indemnification obligations in accordance with the authoritative guidance for loss contingencies. Additionally, the Company believes that it has the appropriate insurance coverage in place to adequately cover such indemnification obligations, if necessary.
Pursuant to the Company’s charter documents and separate written indemnification agreements, the Company has certain indemnification obligations to its executive officers, certain employees and directors, as well as certain former officers and directors.
The Company has also entered into employment agreements with its executive officers and certain employees. These agreements specify various employment-related matters, including annual compensation, performance incentive bonuses, and severance benefits in the event of termination with or without cause and in the event of a change in control.
(8) Stockholders’ Equity and Equity-Based Compensation
Special Dividend
On August 1, 2018, the Company’s Board of Directors declared a special cash dividend of $3.00 per share (the “Special Dividend”), which was paid on August 29, 2018 to stockholders of record at the close of business on August 15, 2018. The aggregate payment made in connection with the Special Dividend was $104.9 million.
In connection with the Special Dividend, and in accordance with the terms of the Company’s Amended and Restated 2012 Omnibus Equity Incentive Plan (the “2012 Plan”), the Company adjusted outstanding equity awards in order to prevent dilution of such awards. Accordingly, the Company increased the number of outstanding unvested restricted stock units (“RSUs”) and outstanding stock options, and reduced the exercise price of such outstanding stock options, using a conversion ratio of 1.055, which was determined using a ratio of the opening and closing stock price of the Company’s common stock on and immediately prior to the ex-dividend date (the “Special Dividend Adjustment”).

16
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Stockholders’ Equity
Common Stock
During the nine months ended September 30, 2018, the Company issued approximately 303,000 shares of common stock, primarily related to the exercise of stock options and the vesting of RSUs.
Treasury Stock
In October 2015, the Company’s Board of Directors approved a stock repurchase program, pursuant to which the Company is authorized to purchase up to $100 million of its common stock. In February 2017, the Company’s Board of Directors approved an increase to the stock repurchase program, pursuant to which the Company is authorized to repurchase up to an additional $100 million of its outstanding common stock. The Company expects to fund future repurchases, if any, through a combination of cash on hand, cash generated by operations and future financing transactions, if appropriate. Accordingly, the Company’s stock repurchase program is subject to the Company having available cash to fund repurchases. Under the program, the Company is authorized to purchase shares from time to time through open market purchases or privately negotiated transactions at prevailing prices as permitted by securities laws and other legal requirements, and subject to market conditions and other factors.
During the nine months ended September 30, 2018, the Company did not repurchase any shares of its common stock under the stock repurchase program. As of September 30, 2018, the Company had $100 million of remaining authorization for purchases under the stock repurchase program.
Equity-Based Compensation
The Company recognizes stock-based compensation expense for all share-based payment awards, including employee stock options and RSUs granted under the 2012 Plan, based on the fair value of each award on the grant date.
The following table summarizes non-cash equity-based compensation expense, net of forfeitures, by financial statement line item included in the accompanying consolidated statements of operations for the three and nine months ended September 30, 2018 and 2017 (in thousands): 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Cost of revenue
$
116

 
$
176

 
$
430

 
$
609

Sales and marketing
404

 
1,092

 
1,546

 
3,536

Product development
1,295

 
1,819

 
4,510

 
5,079

General and administrative
4,144

 
3,798

 
11,508

 
10,904

Total
$
5,959

 
$
6,885

 
$
17,994

 
$
20,128

The following table summarizes non-cash equity-based compensation expense, net of forfeitures, by award type included in the accompanying consolidated statements of operations for the three and nine months ended September 30, 2018 and 2017 (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Stock options
$
1,521

 
$
1,663

 
$
4,487

 
$
5,087

RSUs
4,438

 
5,222

 
13,507

 
15,041

Total
$
5,959

 
$
6,885

 
$
17,994

 
$
20,128


17
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




Stock Option Awards
During the nine months ended September 30, 2018, the Company granted approximately 21,000 options to purchase shares of its common stock with a weighted average exercise price of $47.80. In addition, as a result of the Special Dividend Adjustment, the Company increased the number of outstanding awards by approximately 59,000 and reduced the exercise price of all options outstanding as of August 29, 2018. As of September 30, 2018, there were approximately 314,000 options vested and exercisable with a weighted average exercise price of $34.43. As of September 30, 2018, the total unrecognized compensation charge related to non-vested options was approximately $9.4 million, which is expected to be recognized through 2021.
Restricted Stock Units
During the nine months ended September 30, 2018, the Company granted approximately 212,000 RSUs, net of forfeitures. In addition, as a result of the Special Dividend Adjustment, the Company increased the number of outstanding awards by approximately 61,000. As of September 30, 2018 there are approximately 1,133,000 non-vested RSUs outstanding with a weighted average grant-date fair value of $44.04. As of September 30, 2018, the total unrecognized non-cash equity-based compensation charge related to the non-vested RSUs was approximately $33.5 million, which is expected to be recognized through 2022.
During the nine months ended September 30, 2018, shares with an aggregate value of $6.1 million were withheld upon vesting of RSUs and in connection with related remittance of employee withholding taxes to taxing authorities.
(9) Revenue
The Company distributes its digital content offerings through two primary channels:
E-commerce: The majority of customers purchase content licenses directly through the Company’s e-commerce platforms. E-commerce customers have the flexibility to purchase a subscription plan that is paid on a monthly or annual basis or to purchase content on a transactional basis. These customers generally license content under the Company’s standard license, with additional licensing options available to meet customers’ individual needs. E-commerce customers typically pay the full amount of the purchase price in advance or at the time of license, generally with a credit card.
Enterprise: Enterprise customers are mainly composed of creative professionals and large organizations with unique content, licensing and workflow needs. Customers of this size benefit from dedicated sales, service and research teams which provide a number of enhancements to their creative workflows including non-standard licensing rights, multi-seat access, invoicing and the ability to pay on credit terms, increased indemnification protection, multi-brand licensing packages and content licensed for use-cases outside of those available on the e-commerce platform.
In addition to the Company’s digital content offerings, the Company has historically generated revenue through other channels:
Digital asset management: The Company provided tools to help organizations manage, search, distribute and collaborate on creative and other brand-buildings activities through Webdam. Effective February 26, 2018, the Company completed the Sale of Webdam. See Note 4 for further information on the Sale of Webdam.
The Company’s revenue by distribution channel for the three and nine months ended September 30, 2018 and 2017 are as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017(1)
 
2018
 
2017(1)
E-Commerce
$
88,713

 
$
81,781

 
$
270,166

 
$
244,555

Enterprise
62,862

 
55,117

 
188,301

 
149,366

Digital asset management (2)
—

 
4,165

 
2,711

 
11,361

Total Revenues
$
151,575

 
$
141,063

 
$
461,178

 
$
405,282

(1)
As previously discussed in Note 1, the Company adopted ASU 2014-09 effective January 1, 2018 using the modified retrospective approach. Historical revenue amounts reflect those previously reported and have not been restated.
(2)
As previously discussed in Note 4, on February 26, 2018, the Company completed the Sale of Webdam. 2018 amounts include revenue earned during the period from January 1, 2018 through February 26, 2018.
The Company’s deferred revenue balance decreased from $157.8 million at December 31, 2017 to $141.4 million at September 30, 2018. This decrease was primarily the result of (i) the adoption of ASC 2014-09 which reduced deferred revenue

18
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




by $9.9 million on January 1, 2018, and (ii) $10.2 million resulting from the Sale of Webdam, partially offset by an increase in deferred revenue due to the ongoing operations of the Company. The September 30, 2018 deferred revenue balance will be earned as digital content is downloaded or upon the expiration of subscription-based products, and nearly all is expected to be earned within the next twelve months. $114.8 million of total revenue recognized for the nine months ended September 30, 2018 was reflected in deferred revenue as of January 1, 2018.

(10) Employee Benefit Plans
The Company has a 401(k) defined contribution plan and, prior to January 1, 2018, provided for annual discretionary employer matching contributions not to exceed 3% of employees’ annual base salary per year. Effective January 1, 2018 the Company provides discretionary employer matching of 50% of employees’ eligible contributions. Matching contributions are fully vested and non-forfeitable at all times.
The Company recorded expenses related to employer matching contributions of $0.7 million and $0.7 million for the three months ended September 30, 2018 and 2017, respectively, and $2.5 million and $1.5 million for the nine months ended September 30, 2018 and 2017, respectively.

(11) Other Expense/Income, Net
The following table presents a summary of the Company’s other income and expense activity included in the accompanying consolidated statements of operations for the three and nine months ended September 30, 2018 and 2017 (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Foreign currency (loss)/gain
$
(659
)
 
$
(192
)
 
$
(2,122
)
 
$
1,468

Impairment of long-term investments
—

 
—

 
(5,881
)
 
—

Interest income
876

 
322

 
2,003

 
627

Total income/(expense)
$
217

 
$
130

 
$
(6,000
)
 
$
2,095


19
Table of Contents
Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




(12) Income Taxes
On December 22, 2017, the U.S. enacted the TCJA, which lowered the Company’s U.S. statutory federal income tax rate from 35% to 21% effective January 1, 2018, while also imposing a one-time transition tax on undistributed earnings of foreign subsidiaries.

The Company’s provision for income taxes for the three months ended September 30, 2018 includes provisional amounts for certain specific tax effects of the TCJA. These provisional amounts represent the Company’s reasonable estimates. The Company will reevaluate these estimates throughout 2018 as additional information and/or implementation guidance becomes available, and any changes will be reflected in the financial statements in the period in which they are identified.

The Company’s effective tax rates yielded a net benefit of 7.7% and a net expense of 12.2% for the three months ended September 30, 2018 and 2017, respectively, and a net expense of 19.5% and 31.0% for the nine months ended September 30, 2018 and 2017, respectively.  In the three months ended September 30, 2018, the Company incurred a discrete tax benefit related primarily to the release of reserves for uncertain tax positions due to a lapse in the statute of limitations and the effect of the U.S. Research and Development tax credit claimed on the Company’s 2017 tax return, which was substantially completed in the third quarter of 2018. In the nine months ended September 30, 2018, the Company incurred a net discrete tax expense relating primarily to the gain on the Sale of Webdam. The net effect of these discrete items decreased the effective tax rate for the three months ended September 30, 2018 by 22.0% and increased the effective tax rate for the nine months ended September 30, 2018 by 5.2%. In the three and nine months ended September 30, 2017, the Company incurred a discrete tax benefit related primarily to withholding tax incurred on income earned in foreign jurisdictions, the net effect of which increased the effective tax rate by 17.5% and 2.0%, respectively.

The Company has computed the provision for income taxes based on the estimated annual effective tax rate and the application of discrete items, if any, in the applicable period. The estimated annual effective tax rate differs from the statutory tax rate due primarily to the international provisions enacted as part of the TCJA.
During the three and nine months ended September 30, 2018, the Company recorded a tax benefit of $0.9 million related to uncertain tax positions, partially offset by recorded uncertain tax positions that were not material. During the three and nine months ended September 30, 2017, uncertain tax positions recorded by the Company were not material. To the extent the remaining uncertain tax positions are ultimately recognized, the Company’s effective tax rate may be impacted in future periods.
The Company recognizes interest expense and tax penalties related to unrecognized tax benefits in income tax expense in the consolidated statements of operations. The Company’s accrual for interest and penalties related to unrecognized tax benefits was not material for the three and nine months ended September 30, 2018 and 2017.
During the nine months ended September 30, 2018 and September 30, 2017, the Company paid net cash taxes of $0.4 million and $4.1 million, respectively

(13) Earnings Per Share
Basic earnings per share is computed by dividing net income or loss by the weighted average number of common shares outstanding during the period. Any potential issuance of common shares, including those that are contingent and do not participate in dividends, is excluded from weighted average number of common shares outstanding.
Diluted earnings per share is computed by dividing the net income or loss attributable to common stockholders by the weighted average common shares outstanding and all potential common shares, if they are dilutive.

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Shutterstock, Inc.
Notes to Consolidated Financial Statements 
(unaudited)




A reconciliation of assumed exercised shares used in calculating basic and diluted earnings per share follows (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
34,991

 
34,643

 
34,897

 
34,607

Stock options
148

 
408

 
125

 
458

Unvested RSUs
431

 
126

 
398

 
274

Diluted
35,570

 
35,177

 
35,420

 
35,339

 
 
 
 
 
 
 
 
Dilutive securities included in the calculation
1,477

 
1,066

 
1,403

 
1,543

Anti-dilutive securities excluded from the calculation
774

 
1,554

 
924

 
1,244


(14) Geographic Information
The following table presents the Company’s revenue based on customer location (in thousands): 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017(1)
 
2018
 
2017(1)
North America
$
57,078

 
$
55,827

 
$
170,092

 
$
161,396

Europe
49,033

 
45,075

 
154,258

 
131,712

Rest of the world
45,464

 
40,161

 
136,828

 
112,174

Total revenue
$
151,575


$
141,063


$
461,178


$
405,282

 
(1)
As previously discussed in Note 1, the Company adopted ASU 2014-09 effective January 1, 2018 using the modified retrospective approach. Historical revenue amounts reflect those previously reported and have not been restated.
The United States, included in North America in the above table, accounted for 34% and 36% of consolidated revenue for the three months ended September 30, 2018 and 2017, respectively and 34% and 36% of consolidated revenue for the nine months ended September 30, 2018 and 2017, respectively. No other country accounts for more than 10% of the Company’s revenue in any period presented.
The Company’s long-lived tangible assets were located as follows (in thousands):
 
September 30,
 
December 31,
 
2018
 
2017
North America
$
77,076

 
$
83,027

Europe
4,046

 
2,599

Rest of the world
61

 
72

Total long-lived tangible assets
$
81,183

 
$
85,698

The United States, included in North America in the above table, accounted for 88% and 92% of total long-lived tangible assets as of September 30, 2018 and December 31, 2017, respectively. No other country accounts for more than 10% of the Company’s long-lived tangible assets in any period presented.

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Item 2.         Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion of our financial condition and results of operations should be read together with our interim consolidated unaudited financial statements and related notes contained elsewhere in this Quarterly Report on Form 10-Q and with information contained in our other filings, including the audited consolidated financial statements included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2017 filed with the SEC on February 22, 2018.
In addition to historical consolidated financial information, this discussion contains forward-looking statements including statements about our plans, estimates and beliefs. These statements involve risks and uncertainties and our actual results could differ materially from those expressed or implied in forward-looking statements. See “Forward Looking Statements” above. See also the “Risk Factors” disclosure of our Annual Report on Form 10-K for the fiscal year ended December 31, 2017 for additional discussion of the risks and uncertainties that could cause our actual results to differ materially from those expressed or implied in our forward-looking statements.
Overview and Recent Developments
Shutterstock is a global technology company that offers an e-commerce platform for high-quality digital content, tools and services to creative professionals. The digital content licensed by our customers includes: (a) imagery, consisting of licensed photographs, vectors, illustrations and video clips that customers use in their visual communications, such as websites, digital and print marketing materials, corporate communications, books, publications and video content; and (b) music, consisting of high-quality music tracks and sound effects, which is often used to complement digital imagery. We also offered digital asset management services through Webdam, our cloud-based digital asset management service; on February 26, 2018, we completed a sale transaction, pursuant to which the buyer in the transaction acquired certain assets and assumed certain contracts and liabilities which constituted Webdam (the “Sale of Webdam”).
Our platform brings together users and contributors of creative content by providing a readily-searchable collection of content that our customers may pay to license and incorporate into their work and compensating contributors as their content is licensed to our customers. For customers seeking specialized content that goes beyond our library of stock content, our platform also connects customers with contributors who can produce custom branded content. More than 1.8 million active, paying customers contributed to our revenue for the twelve-month period ended September 30, 2018. As of September 30, 2018, more than 550,000 approved contributors made their creative content available in our collection, which has grown to approximately 221 million images and approximately 12 million video clips. This makes our collection of creative content one of the largest of its kind, and we delivered more than 130 million paid downloads across all of our brands during the nine months ended September 30, 2018. We believe that we delivered the highest volume of commercial image downloads in this period of any single brand in our industry during that period.
Through our platform, we generate revenue by licensing creative content to our customers. During the nine months ended September 30, 2018, 59% of our revenue and the majority of our content licenses came from users of our e-commerce platform. E-commerce customers have the flexibility of choosing content subscription plans that provide a large volume of content for their creative process without concern for the incremental cost of each license. For customers with other content needs, we also offer simple, affordable, smaller subscriptions and those where customers have an option to pay for individual content licenses at the time of delivery. Enterprise customers are generally larger organizations or those with unique content, licensing and workflow needs, and our dedicated enterprise sales, service and research teams are able to provide a number of enhancements to their creative workflows beyond the use-cases available on our e-commerce platform including the creation of custom branded content, an offering that launched in 2017. Our enterprise customers provided approximately 41% of our revenue in 2018.
Each time an image, video clip or music track is delivered to a customer for use, we record a royalty expense for the amount due to the associated contributor. Royalties are calculated using either a fixed dollar amount or a fixed percentage of revenue, and are typically paid to contributors on a monthly basis, subject to withholding taxes and certain payout minimums. Royalties represent the largest component of our operating expenses (and are reported within cost of revenue) and tend to increase proportionally with revenue. In addition to content sourced through direct submission through our web properties, content may also be obtained through exclusive distribution agreements with strategic partners or through the direct acquisition of a content library or archive. In certain cases, we will enter into arrangements with contributors whereby we guarantee a minimum royalty to a contributor or strategic partner, usually paid up-front, in exchange for exclusive rights to distribute content when we believe such exclusivity provides us with a distinct competitive advantage. In recent years, we have made a number of enhancements to our content libraries through the direct acquisition of content and through entering into several such agreements and partnerships. We have also enhanced our collections and content acquisition capabilities through our acquisitions of PremiumBeat, Rex Features, The Picture Desk Limited, and Flashstock Technology.

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Our cost of revenue is substantially similar as a percentage of revenue for our e-commerce and enterprise customers. While contributors earn a fixed amount per download for some of our products, we have set the per-download amount paid to our contributors for our products so that contributors earn more per download from products where we collect higher revenue per download. In other words, we strive to deliver a similar percentage of revenue to contributors regardless of the sales channel.
As a provider of digital asset management technology, we also previously generated revenue by licensing the use of our Webdam platform to customers on a contract basis, typically for terms of twelve months.
We manage customer acquisition costs based on the expected blended customer lifetime value across our purchase options so that we are able to manage our marketing expenses to achieve certain desired growth targets. As a result, we do not believe that shifts in the mix between e-commerce and enterprise sales channels will materially impact our operating margins.
An important driver of our growth is customer acquisition, which we achieve primarily through online marketing efforts, including paid search, organic search, online display advertising, email marketing, affiliate marketing, social media and strategic partnerships. Over the past several years, our investments in marketing have represented a significant percentage of revenue. Since we believe the market for creative content is multi-faceted and continually expanding, we plan to continue to invest aggressively in customer acquisition to achieve revenue and market share growth. We believe that another important driver of growth is the quality of the user experience we provide on our websites, especially the efficiency with which our search interfaces and algorithms help customers find the creative content that they need, the degree to which we make use of the large quantity of data we collect about image, video, music and search patterns, and the degree to which our websites have been localized for our global user base. To this end, we have invested aggressively in product development and hosting infrastructure, and we intend to continue to invest in these areas, to the extent that we can improve the customer experience and increase the efficiency with which we deploy new products and features. Finally, the quality and quantity of content that we make available in our collection is another key driver of our growth.
Key Operating Metrics
In addition to key financial metrics, we regularly review a number of key operating metrics to evaluate our business, determine the allocation of resources and make decisions regarding business strategies. We believe that these metrics can be useful for understanding the underlying trends in our business. The following table summarizes our key operating metrics, which are unaudited, for the three and nine months ended September 30, 2018 and 2017:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017(1)
 
2018
 
2017
 
(in millions, except revenue per download)
Paid downloads (during the period)
43.9

 
41.9

 
132.8

 
128.1

Revenue per download (during the period)
$
3.40

 
$
3.23

 
$
3.40

 
$
3.06

Content in Our Collection (end of period):
 
 
 
 
 
 
 
Images
221.3

 
155.8

 
221.3

 
155.8

Video Clips
12.0

 
8.3

 
12.0

 
8.3

(1)
Effective January 1, 2018 we adopted ASU 2014-09 using the modified retrospective approach. Historical revenue per download reflects amounts previously reported and has not been restated.
Paid Downloads 
Measuring the number of paid downloads that our customers make in any given period is important because downloads are the primary method of delivering licensed content, which drives a significant portion of our revenue and contributor royalties. For customers that choose to purchase content on a transactional basis, each incremental content license results in incremental recognition of revenue. For customers that choose our subscription purchase options, we do not recognize revenue from each incremental content license, but we believe that download activity is an important measure of the value that a customer is getting from a subscription. We define paid downloads as the number of downloads that our customers make in a given period of our photographs, vectors, illustrations, video clips or music tracks, excluding custom content, re-downloads of content that a customer has downloaded in the past (which do not generate incremental revenue or contributor royalty expense), and downloads of content that is offered to customers for no charge, including our free image of the week (which we make available as a means of acquiring new customers and attracting existing customers to return to our websites more frequently).
Revenue per Download 
We define revenue per download as the amount of revenue recognized in a given period divided by the number of paid downloads in that period excluding the impact of revenue that is not derived from or associated with paid downloads. This

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metric captures any changes in our pricing, as well as the mix of purchase options that our customers choose, some of which generate more revenue per download than others, and the impact that changes in foreign currency rates have on our pricing. For example, when a customer pays $49 for five images, we earn more revenue per download ($9.80 per download) than when a customer purchases a one-month subscription for $249 and downloads 100 images during the month ($2.49 per download). Revenue per download has increased over the last three years, almost entirely due to the change in product mix. During this period, pricing has remained relatively constant.
Content in our Collection
We define content in our collection as the total number of (a) images (photographs, vectors and illustrations) and (b) video clips available to customers for commercial license on shutterstock.com at any point in time. We exclude content from this collection metric that is not uploaded directly to our site but is available to our customers through an application program interface, custom content and certain content that may be licensed for editorial use only. We record this metric as of the end of a period. Offering a large selection of content allows us to acquire and retain customers and, therefore, we believe that broadening our selection of high-quality content is an important driver of our revenue growth.
Non-GAAP Financial Measures
This Quarterly Report on Form 10-Q, including this “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains a calculation of period-over-period revenue growth on a constant-currency basis, which is a financial measure that has not been calculated in accordance with GAAP, and should be considered in addition to our results prepared in accordance with GAAP and should not be considered as a substitute for, or superior to, our results prepared in accordance with GAAP.
Revenue growth on a constant-currency basis (expressed as a percentage) is calculated by determining the increase in current period revenues over prior period revenues, utilizing fixed exchange rates for translating foreign currency revenues for both periods.
Our management uses this non-GAAP financial measure, in conjunction with GAAP financial measures, as an operating measure to help evaluate our business and in making financial and operational decisions. Management believes that providing a measure of period-over-period revenue growth on a constant-currency basis is useful to investors because it enables them to analyze and compare our revenue trends and overall business on the same basis as that which is used by management and because this metric eliminates the effect of foreign currency fluctuations that are not directly attributable to our underlying operating performance and are outside management’s control. Additionally, management believes that providing this non-GAAP financial measure enhances the comparability for investors in assessing our financial reporting. However, we caution investors that non-GAAP financial information, by its nature, departs from traditional accounting conventions, and similarly-titled non-GAAP financial measures vary among companies. Accordingly, its use can make it difficult to compare our current results with our results from other reporting periods and with the results of other companies.
Critical Accounting Policies and Estimates
Our financial statements are prepared in accordance with GAAP. The preparation of the consolidated financial statements in conformity with GAAP requires our management to make a number of estimates and assumptions relating to the reported amounts of assets and liabilities, the disclosure or inclusion of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenue and expenses during the period. We evaluate our significant estimates on an ongoing basis, including, but not limited to, estimates related to allowance for doubtful accounts, the volume of expected unused licenses for our subscription-based products, chargeback and sales refund reserve, goodwill, intangibles, equity-based compensation, income tax provisions and certain non-income tax accruals. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about carrying value of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.
We believe that the policies, assumptions and estimates associated with our revenue recognition, allowance for doubtful accounts, equity-based compensation, accounting for non-income and income taxes and goodwill and intangible assets have the greatest potential impact on our financial statements. Therefore, we consider these to be our critical accounting policies and estimates.
A description of our critical accounting policies that involve significant management judgments appears in our Annual Report on Form 10-K for the fiscal year ended December 31, 2017 that we filed with the SEC on February 22, 2018, or the 2017 Form 10-K, under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates.”

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Effective January 1, 2018, we adopted the Financial Accounting Standards Board’s Accounting Standards Update 2014-09: Revenue from Contracts with Customers (Topic 606), and its related amendments (“ASU 2014-09”). ASU 2014-09 provides a unified model to determine when and how revenue is recognized and enhances certain disclosure around the nature, timing, amount and uncertainty of revenue and cash flows arising from customers.
ASU 2014-09 represents a change in the accounting model utilized for the recognition of revenue and certain expenses arising from contracts with customers. We adopted ASU 2014-09 using a “modified retrospective” approach and, accordingly, revenue and expense totals for all periods before January 1, 2018 reflect those previously reported under the prior accounting model and have not been restated.
See Note 1 to our Unaudited Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q for a full description of the impact of the adoption of new accounting standards on our financial statements. Apart from the items described above, there have been no material changes to our critical accounting policies and estimates as compared to our critical accounting policies and estimates included in the 2017 Form 10-K.
Key Components of Our Results of Operations
Revenue
We distribute our digital content offerings through two primary channels:
E-commerce: The majority of customers purchase content licenses directly through our e-commerce platforms. E-commerce customers have the flexibility to purchase a subscription plan that is paid on a monthly or annual basis or to purchase content on a transactional basis. These customers generally license content under our standard license, with additional licensing options available to meet customers’ individual needs. E-commerce customers typically pay the full amount of the purchase price in advance or at the time of license, generally with a credit card.
Enterprise: Enterprise customers are mainly composed of creative professionals and large organizations with unique content, licensing and workflow needs. Customers of this size benefit from dedicated sales, service and research teams which provide a number of enhancements to their creative workflows including non-standard licensing rights, multi-seat access, invoicing and the ability to pay on credit terms, increased indemnification protection, multi-brand licensing packages and content licensed for use-cases outside of those available on the e-commerce platform.
In addition to our digital content offerings, we historically generated revenue through other channels:
Digital asset management: We previously provided tools to help organizations manage, search, distribute and collaborate on creative and other brand-building activities through Webdam. Effective February 26, 2018, the Company completed the Sale of Webdam. See Note 4 to our Unaudited Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q for further information on the Sale of Webdam.
The Company’s revenues by distribution channel for the three and nine months ended September 30, 2018 and 2017 are as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017(1)
 
2018
 
2017(1)
E-Commerce
$
88,713

 
$
81,781

 
$
270,166

 
$
244,555

Enterprise
62,862

 
55,117

 
188,301

 
149,366

Digital asset management(2)
—

 
4,165

 
2,711

 
11,361

Total Revenues
$
151,575

 
$
141,063

 
$
461,178

 
$
405,282

(1)
Effective January 1, 2018 we adopted ASU 2014-09 using the modified retrospective approach. Historical revenue totals reflect those previously reported and have not been restated. Historical presentation of the allocation of revenue by sales channel for periods prior to January 1, 2018 has been adjusted to conform to current presentation.
(2)
On February 26, 2018, we completed the Sale of Webdam. Consequently, 2018 includes revenues earned during the period January 1, 2018 through February 26, 2018.
Costs and Expenses
Cost of Revenue. Cost of revenue consists of royalties paid to contributors, credit card processing fees, content review costs, customer service expenses, the infrastructure and hosting costs related to maintaining our e-commerce platform and cloud-based software platform and associated employee compensation, including non-cash equity-based compensation, bonuses and benefits, amortization of content and technology intangible assets, allocated facility costs and other supporting overhead costs. We expect that our cost of revenue will increase in absolute dollars in the foreseeable future to the extent that our revenue grows.

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Sales and Marketing.     Sales and marketing expenses include third-party marketing, advertising, branding, public relations and sales expenses. Sales and marketing expenses also include associated employee compensation, including non-cash equity-based compensation, bonuses and benefits, and commissions as well as allocated facility and other supporting overhead costs. We expect sales and marketing expenses to increase in absolute dollars in the foreseeable future as we continue to invest in new customer acquisition.
Product Development. Product development expenses consist of employee compensation, including non-cash equity-based compensation, bonuses and benefits, and expenses related to contractors engaged in product management, design, development and testing of our websites and products. Product development costs also include allocated facility and other supporting overhead costs. We expense product development costs as incurred, except for costs that are capitalized related to internal-use software development projects and subsequently depreciated over the expected useful life of the developed software. We expect product development expenses, of which a portion will be capitalized, to continue in the foreseeable future as we identify opportunities to invest in the development of new products and internal tools and enhancement of our existing products and technologies that we believe will drive the long-term profitability of the business.
General and Administrative. General and administrative expenses include employee compensation, including non-cash equity-based compensation, bonuses and benefits for executive, finance, business development, accounting, legal, human resources, internal information technology, business intelligence and other administrative personnel. In addition, general and administrative expenses include outside legal, tax and accounting services, bad debt expense, insurance, facilities costs and other supporting overhead costs. We expect to incur incremental general and administrative expenses to support our global operational growth and enhancements to support our reporting and planning functions.
Other Expense/Income, Net. Other expense consists of non-operating costs such as foreign currency transaction gains and losses, interest income and expense, impairments related to long-term non-operating investments, and prior to 2017, changes in the fair value of contingent consideration related to acquisitions. As we increase the volume of business transacted in foreign currencies resulting from international expansion and as currency rates fluctuate, we expect foreign currency gains and losses to continue to fluctuate.
Income Taxes. We compute income taxes using the asset and liability method, under which deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted statutory income tax rates in effect for the year in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce net deferred tax assets to the amount expected to be realized. As of September 30, 2018, we have not recorded any such valuation allowances.
As we continue to expand our operations outside of the United States, we have been and may continue to become subject to taxation in additional non-U.S. jurisdictions and our effective tax rate could fluctuate accordingly.


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Results of Operations
The following table presents our results of operations for the periods indicated. The period-to-period comparisons of results are not necessarily indicative of results for future periods.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
 
(in thousands)
Consolidated Statements of Operations:
 

 
 

 
 

 
 

Revenue
$
151,575

 
$
141,063

 
$
461,178

 
$
405,282

Operating expenses:
 
 
 
 
 
 
 
Cost of revenue
66,461

 
58,812

 
198,842

 
168,512

Sales and marketing
41,028

 
36,008

 
123,414

 
105,620

Product development
14,032

 
13,340

 
47,208

 
37,276

General and administrative
23,355

 
27,333

 
74,901

 
74,716

Total operating expenses
144,876

 
135,493

 
444,365

 
386,124

Income from operations
6,699

 
5,570

 
16,813

 
19,158

Gain on sale of digital asset management business
—

 
—

 
38,613

 
—

Other income/(expense), net
217

 
130

 
(6,000
)
 
2,095

Income before taxes
6,916

 
5,700

 
49,426

 
21,253

(Benefit)/provision for income taxes
(531
)
 
698

 
9,652

 
6,582

Net income
$
7,447

 
$
5,002

 
$
39,774

 
$
14,671

The following table presents the components of our results of operations for the periods indicated as a percentage of revenue:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Consolidated Statements of Operations:
 

 
 

 
 

 
 

Revenue
100
 %
 
100
%
 
100
 %
 
100
%
Operating expenses:
 
 
 
 
 
 
 
Cost of revenue
44
 %
 
42
%
 
43
 %
 
42
%
Sales and marketing
27
 %
 
26
%
 
27
 %
 
26
%
Product development
9
 %
 
9
%
 
10
 %
 
9
%
General and administrative
15
 %
 
19
%
 
16
 %
 
18
%
Total operating expenses
96
 %
 
96
%
 
96
 %
 
95
%
Income from operations
4
 %
 
4
%
 
4
 %
 
5
%
Gain on sale of digital asset management business
—
 %
 
—
%
 
8
 %
 
—
%
Other income/(expense), net
—
 %
 
—
%
 
(1
)%
 
1
%
Income before taxes
5
 %
 
4
%
 
11
 %
 
5
%
(Benefit)/provision for income taxes
—
 %
 
—
%
 
2
 %
 
2
%
Net income
5
 %
 
4
%
 
9
 %
 
4
%
__________________________________
Note: Percent totals may not sum exactly, due to rounding

27
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Comparison of the Three Months Ended September 30, 2018 and 2017
The following table presents our results of operations for the periods indicated:
 
Three Months Ended September 30,
 
2018
 
2017
 
$ Change
 
% Change
 
(in thousands)
 
 
Consolidated Statements of Operations:
 

 
 

 
 

 
 

Revenue
$
151,575

 
$
141,063

 
$
10,512

 
7
 %
Operating expenses:
 
 
 
 
 

 
 

Cost of revenue
66,461

 
58,812

 
7,649

 
13

Sales and marketing
41,028

 
36,008

 
5,020

 
14

Product development
14,032

 
13,340

 
692

 
5

General and administrative
23,355

 
27,333

 
(3,978
)
 
(15
)
Total operating expenses
144,876

 
135,493

 
9,383

 
7

Income from operations
6,699

 
5,570

 
1,129

 
20

Other income, net
217

 
130

 
87

 
*

Income before income taxes
6,916

 
5,700

 
1,216

 
21

(Benefit)/provision for income taxes
(531
)
 
698

 
(1,229
)
 
*

Net income
$
7,447

 
$
5,002

 
$
2,445

 
49
 %
__________________________________
*    Not meaningful
Revenue
Revenue increased by $10.5 million, or 7%, to $151.6 million in the three months ended September 30, 2018 compared to the same period in 2017. Excluding the impact of foreign currency fluctuations, revenue increased 8% in the three months ended September 30, 2018, compared to the same period in 2017. During the three months ended September 30, 2018, we continued to grow our customer base and continued with initiatives focused on broadening our product offerings and adding functionality to our e-commerce platform, enhanced our workflow tools and increased sales and marketing efforts to attract more users and promote increased customer engagement across our platform. We believe these actions and initiatives will lead to increased and sustained customer engagement in the future.
The increased content revenue was partially offset by the absence of revenue from Webdam during the quarter, as a result of the Sale of Webdam in February 2018. We did not recognize revenue from Webdam in the three months ended September 30, 2018, compared to $4.2 million for the three months ended September 30, 2017.
In the three months ended September 30, 2018 and 2017, we delivered 43.9 million and 41.9 million paid downloads, respectively, and our revenue per download increased to $3.40 for the three months ended September 30, 2018 from $3.23 for the three months ended September 30, 2017.
A key component of our revenue growth has been our continued international market penetration, as revenue from outside Europe and North America increased by $5.3 million, or 13%, to $45.5 million, revenue from Europe increased by $4.0 million, or 9%, to $49.0 million and revenue from North America increased by $1.3 million, or 2%, to $57.1 million in the three months ended September 30, 2018 compared to the same period in 2017.
Costs and Expenses
Cost of Revenue. Cost of revenue increased by $7.6 million, or 13%, to $66.5 million in the three months ended September 30, 2018 compared to the same period in 2017. Royalties expense, which is driven in large part by the number of downloads and the revenue earned on each download, increased $3.8 million, or 10%, which is in line with the increase in revenues for the three months ended September 30, 2018. We anticipate royalties will continue growing in absolute dollars as long as revenue grows, although royalties as a percentage of revenue may vary somewhat from period to period as a result of further shifts in customer usage and product mix. Costs associated with website hosting, hardware and software licenses, and depreciation and amortization increased by $3.1 million to $14.1 million for the three months ended September 30, 2018 compared to the same period in 2017, driven primarily by the depreciation and amortization of infrastructure hardware and software assets acquired, developed and purchased in recent periods.

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Sales and Marketing. Sales and marketing expenses increased by $5.0 million, or 14%, to $41.0 million in the three months ended September 30, 2018 compared to the same period in 2017. Expenses related to brand and performance advertising, the largest component of our sales and marketing expenses, increased by $6.0 million, as compared to the prior year, as a result of increased spending on affiliate, search advertising and other new channels. This increase was partially offset by the change in employee-related expenses, which decreased by $1.3 million, as compared to the prior year. We anticipate that our total sales and marketing spend will continue to increase in absolute dollars for the foreseeable future as we continue to pursue growth through new customers, products, markets and geographies.
Product Development. Product development expenses increased by $0.7 million, or 5%, from $13.3 million for the three months ended September 30, 2017 to $14.0 million for the three months ended September 30, 2018. Expenses related to software and other technology used to support our product development initiatives increased by $2.2 million for the three months ended September 30, 2018, as compared to the prior year. This increase was offset by the change in employee-related and consulting-related expenses, net of capitalized costs for the development of internal-use software, which decreased by $1.4 million, or 13%, as compared to 2017, driven by changes in human capital allocations across product, engineering and quality assurance to support product development initiatives for our websites, including ongoing efforts to improve our search capabilities and enhance the features and functionality of the e-commerce platform. We anticipate this level of product development expenses, of which a portion will continue to be capitalized, to continue for the foreseeable future as we continue to invest in developing new products and internal tools and enhancing the functionality of our existing products and technology.
General and Administrative. General and administrative expenses decreased by $4.0 million, or 15%, to $23.4 million in the three months ended September 30, 2018 compared to the same period in 2017. The decrease was driven by the realization of certain cost efficiencies, primarily in professional services and information technology, resulting from our previous investments implementing several large-scale business solutions aimed at increasing internal efficiency and functionality. In addition to these realized cost efficiencies, employee-related expenses, including non-cash compensation, which have historically been the largest component of our general and administrative expenses remained relatively flat, increasing $0.1 million for the three months ended September 30, 2018 as compared to the same period in 2017.
Other Expense/Income, Net. In the three months ended September 30, 2018, approximately $0.9 million of other income consisted of interest income which was partially offset by $0.7 million of unfavorable foreign exchange fluctuations. During the three months ended September 30, 2017, approximately $0.3 million of other income consisted of interest income which was partially offset by $0.2 million of unfavorable foreign exchange fluctuations.
Income Taxes. Income tax expense decreased by $1.2 million for the three months ended September 30, 2018 as compared to the same period in 2017. Our effective tax rates yielded a benefit of 7.7% and an expense of 12.2% for the three months ended September 30, 2018 and 2017, respectively.
The Company’s provision for income taxes for the three months ended September 30, 2018 includes provisional amounts for certain specific tax effects of the TCJA. These provisional amounts represent the Company’s reasonable estimates. The Company will evaluate these estimates throughout 2018 as additional information and/or implementation guidance becomes available, and any changes will be reflected in the financial statements in the period in which they are identified.
For the three months ended September 30, 2018, we incurred a net discrete tax benefit relating primarily to the release of reserves for uncertain tax provisions due to a lapse in the statute of limitations and the effect of the U.S. Research and Development tax credit claimed on our 2017 tax return, which was substantially completed in the third quarter of 2018. The net effect of the discrete items decreased the effective tax rate for the three months ended September 30, 2018 by 22.0%. Excluding the discrete items, our effective tax rate would have been 14.3% for the three months ended September 30, 2018.
For the three months ended September 30, 2017, we incurred a net discrete tax benefit related primarily to the tax effect of the domestic production activities deduction claimed on the Company’s 2016 tax return that was substantially completed in the third quarter of 2017, which decreased our effective tax rate by 17.5%. Excluding the discrete items, our effective tax rate would have been 29.7% for the three months ended September 30, 2017.
The decline in the effective tax rate, excluding the discrete items, is primarily attributable to the TCJA, which lowered the Company’s U.S. statutory federal tax rate from 35% to 21% effective January 1, 2018.


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Comparison of the Nine Months Ended September 30, 2018 and 2017
The following table presents our results of operations for the periods indicated:
 
Nine Months Ended September 30,
 
2018
 
2017
 
$ Change
 
% Change
 
(in thousands)
 
 
Consolidated Statements of Operations Data:
 

 
 

 
 

 
 

Revenue
$
461,178

 
$
405,282

 
$
55,896

 
14
 %
Operating expenses:
 
 
 
 
 

 
 

Cost of revenue
198,842

 
168,512

 
30,330

 
18
 %
Sales and marketing
123,414

 
105,620

 
17,794

 
17
 %
Product development
47,208

 
37,276

 
9,932

 
27
 %
General and administrative
74,901

 
74,716

 
185

 
—
 %
Total operating expenses
444,365

 
386,124

 
58,241

 
15
 %
Income from operations
16,813

 
19,158

 
(2,345
)
 
(12
)%
Gain on sale of digital asset management business
38,613

 
—

 
38,613

 
*

Other (expense)/income, net
(6,000
)
 
2,095

 
(8,095
)
 
*

Income before income taxes
49,426

 
21,253

 
28,173

 
133
 %
Provision for income taxes
9,652

 
6,582

 
3,070

 
*

Net income
$
39,774

 
$
14,671

 
$
25,103

 
171
 %
______________________________________
*    Not meaningful
Revenue
Revenue increased by $55.9 million, or 14%, to $461.2 million in the nine months ended September 30, 2018 compared to the same period in 2017. Excluding the impact of foreign currency fluctuations, revenue increased 12% in the nine months ended September 30, 2018, compared to the same period in 2017. During the nine months ended September 30, 2018, we continued to grow our customer base and continued with initiatives focused on broadening our product offerings and adding functionality to our e-commerce platform, enhanced our workflow tools and increased sales and marketing efforts to attract more users and promote increased customer engagement across our platform. We believe these actions and initiatives will lead to increased and sustained customer engagement in the future.
The increased revenue from our content business was partially offset by the absence of revenue from Webdam, as a result of the Sale of Webdam in February 2018. Webdam revenues were $2.7 million for the period from January 1, 2018 through February 26, 2018 compared to $11.4 million for the full nine months ended September 30, 2017.
In the nine months ended September 30, 2018 and 2017, we delivered 132.8 million and 128.1 million paid downloads, respectively, and our average revenue per download increased to $3.40 for the nine months ended September 30, 2018, from $3.06 for the nine months ended September 30, 2017.
A key component of our revenue growth has been our continued international market penetration, as revenue from outside Europe and North America increased by $24.7 million, or 22%, to $136.8 million, revenue from Europe increased by $22.5 million, or 17%, to $154.3 million and revenue from North America increased by $8.7 million, or 5%, to $170.1 million in the nine months ended September 30, 2018 compared to the same period in 2017.
Cost and Expenses
Cost of Revenue.   Cost of revenue increased by $30.3 million, or 18%, to $198.8 million in the nine months ended September 30, 2018 compared to the same period in 2017. Royalties expense, which is driven in large part by the number of downloads and the revenue earned on each download, increased $13.6 million, or 12%, which is in line with the increase in revenues for the nine months ended September 30, 2018, offset by changes in product mix amongst license types that incur differing royalty costs relative to the revenue earned for those license products. We anticipate royalties will continue growing in absolute dollars as long as revenue grows, although royalties as a percentage of revenue may vary somewhat from period to period as a result of further shifts in customer usage and product mix. Costs associated with website hosting, hardware and software licenses, and depreciation and amortization increased by $11.9 million to $40.2 million for the nine months ended September 30, 2018 compared to the same period in 2017, driven primarily by the depreciation and amortization of infrastructure hardware and software assets acquired, developed and purchased in recent periods and other hosting costs.

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Sales and Marketing.   Sales and marketing expenses increased by $17.8 million, or 17%, to $123.4 million in the nine months ended September 30, 2018 compared to the same period in 2017. Expenses related to brand and performance advertising, the largest component of our sales and marketing expenses, increased by $11.5 million, or 21%, for the nine months ended September 30, 2018 compared to the same period in 2017 as a result of increased spending on affiliate, search advertising and other new channels. Employee-related costs increased by $5.2 million, or 13%, as compared to the prior year, driven by an increase in sales and marketing headcount to support our expansion into new products and markets, as well as increased sales commissions as a result of growth in the amount of revenue generated by our global direct sales team. We anticipate that our total sales and marketing spend will continue to increase in absolute dollars for the foreseeable future, as we continue to pursue growth through new customers, products, markets and geographies.
Product Development.   Product development expenses increased by $9.9 million, or 27%, to $47.2 million for the nine months ended September 30, 2018 as compared to $37.3 million for the same period in 2017. Employee-related expenses, net of capitalized costs for the development of internal-use software, increased by $4.5 million, or 16%, as compared to 2017, driven by an increase in human capital requirements in product, engineering and quality assurance to support our increasing number of product development initiatives for our websites, including ongoing efforts to improve our search capabilities and enhancing the features and functionality of the e-commerce platform. The remaining increase in product development costs was attributable to increases in costs related to software, hardware, facilities, consulting and other resources that are not capitalized. We anticipate this level of product development expenses to continue for the foreseeable future, of which a portion will continue to be capitalized, as we continue to invest in developing new products and internal tools and enhancing the functionality of our existing products and technology.
General and Administrative.   General and administrative expenses remained relatively flat, increasing by $0.2 million, to $74.9 million in the nine months ended September 30, 2018 compared to the same period in 2017. This represents a reduction in general and administrative expenses as a percentage of total revenue, which comes as a result of cost efficiencies realized as a result of our previous investments implementing several large-scale business solutions aimed at increasing internal efficiency and functionality.
Gain on Sale of Digital Asset Management Business. On February 26, 2018, we completed the Sale of Webdam, for an aggregate purchase price of $49.1 million, subject to certain working capital adjustments. Total cash received on the closing date was $42.3 million, net of an initial working capital adjustment and transaction costs paid, with an additional $5.0 million receivable placed in escrow. In the second quarter of 2018, $2.5 million of escrowed funds were released to us, and we expect the remaining $2.5 million of funds in escrow to be released to us, net of final working capital adjustments, during the first quarter of 2019.
Management recognized a pre-tax gain on the sale of approximately $38.6 million, which represents the excess of the net purchase price over the net assets transferred, less transaction costs.
Other Expense/Income, Net. During the nine months ended September 30, 2018, we recorded a charge of $5.9 million as a result of the impairment of a long-term investment asset. Additionally, during the nine months ended September 30, 2018, we recorded an expense of approximately $2.1 million related to unfavorable foreign currency fluctuations, offset by approximately $2.0 million of interest income. During the nine months ended September 30, 2017, we recorded income of approximately $1.5 million related to favorable foreign currency fluctuations and approximately $0.6 million of interest income.
Income Taxes.   Income tax expense increased by $3.1 million for the nine months ended September 30, 2018 as compared to the same period in 2017. Our effective tax rates for the nine months ended September 30, 2018 and 2017 were 19.5% and 31.0%, respectively. 
Our provision for income taxes for the nine months ended September 30, 2018 includes provisional amounts for certain specific tax effects of the TCJA. These provisional amounts represent the Company’s reasonable estimates. The Company will evaluate these estimates throughout 2018 as additional information and/or implementation guidance becomes available, and any changes will be reflected in the financial statements in the period in which they are identified.
For the nine months ended September 30, 2018, we incurred a net discrete tax expense relating primarily to the gain on the Sale of Webdam partially offset by discrete tax benefits relating to the impairment of our long-term investment in SHM, the release of reserves for uncertain tax positions due to a lapse in the statute of limitations and the effect of the U.S. Research and Development tax credit claimed on the Company’s 2017 tax return, which was substantially completed in the third quarter of 2018. The net effect of these discrete items increased the effective tax rate for the nine months ended September 30, 2018 by 5.2%. Excluding these discrete items, the effective tax rate would have been 14.3% for the nine months ended September 30, 2018.
For the nine months ended September 30, 2017, we incurred a net discrete tax benefit relating primarily to the tax effect of the domestic production activities deduction claimed on the Company’s 2016 tax return that was substantially completed in

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the third quarter of 2017, which decreased our effective tax rate by 2.0%. Excluding discrete items, our effective tax rate would have been 33.0% for the nine months ended September 30, 2017.
The decline in the effective tax rate, excluding the discrete items, is primarily attributable to the TCJA, which lowered the Company’s U.S. statutory federal tax rate from 35% to 21% effective January 1, 2018.

Quarterly Trends
Our operating results may fluctuate from quarter to quarter as a result of a variety of factors, including the effects of some seasonal trends in customer behavior. For example, we expect certain customers’ usage may decrease during the fourth quarter of each calendar year due to the year-end holiday vacation season and may increase in the first quarter of each calendar year as many customers return to work. While we believe seasonal trends have affected and will continue to affect our quarterly results, our growth trajectory may have overshadowed these effects to date. Additionally, because a significant portion of our revenue is derived from repeat customers who have purchased subscription plans, our revenues tend to be smoother and less volatile than if we had no subscription-based customers.
In addition, expenditures on digital content by customers tend to be discretionary in nature, reflecting overall economic conditions, the economic prospects of specific industries, budgeting constraints, buying patterns and a variety of other factors, many of which are outside our control. As a result of these and other factors, the results of any prior quarterly or annual periods should not be relied upon as indicators of our future operating performance.
Liquidity and Capital Resources
As of September 30, 2018, we had cash and cash equivalents totaling $206.4 million which primarily consisted of bank balances and money market mutual funds. Since inception, we have financed our operations primarily through cash flows generated from operations.
Historically, our principal uses of cash have been funding our operations, capital expenditures, content acquisition, business combinations that enhance our strategic position and share purchases under our stock repurchase program. We plan to finance our operations and capital expenses largely through cash generated by our operations.
Investment in ZCool Technologies Limited (“ZCool”)
On January 4, 2018, we invested $15.0 million in convertible preferred shares issued by ZCool, which is equivalent to a 25% fully diluted equity ownership interest, to further expand our presence in fast-growing markets. ZCool’s primary business is the operation of an e-commerce platform in China whereby customers can pay to license content contributed by creative professionals. ZCool has been the exclusive distributor of Shutterstock creative content in China since 2014.
Sale of Digital Asset Management Business
On February 15, 2018, we entered into an agreement to sell certain assets and liabilities constituting Webdam, for an aggregate purchase price of $49.1 million, subject to working capital adjustments.
On February 26, 2018, we completed the Sale of Webdam. Cash received, after a closing-date working capital adjustment, net of transaction costs paid, was $42.3 million with an additional $5.0 million receivable placed in escrow. In the second quarter of 2018, $2.5 million of funds from escrow were released to us, and we expect the remaining $2.5 million of funds in escrow to be released to us, net of final working capital adjustments, during the first quarter of 2019. We have included the balance of funds in escrow as a component of other current assets on the consolidated balance sheet as of September 30, 2018. Approximately $3.0 million of transaction costs related to the sale were paid in the second and third quarters of 2018.
We recognized a pre-tax gain on sale of approximately $38.6 million, which represents the excess of the net purchase price over the net assets transferred, net of transaction costs.
Special Dividend
On August 1, 2018, the Board of Directors declared a special cash dividend of $3.00 per share (the “Special Dividend”). The dividend was paid on August 29, 2018 to stockholders of record at the close of business on August 15, 2018. The aggregate payment made in connection with this dividend was approximately $104.9 million.


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Stock Repurchase Program
In October 2015, our Board of Directors approved a stock repurchase program, authorizing us to repurchase up to $100 million of our common stock, and in February 2017, our Board of Directors approved an increase to the stock repurchase program, authorizing us to repurchase up to an additional $100 million of our outstanding common stock. We expect to fund future repurchases, if any, through a combination of cash on hand, cash generated by operations and future financing transactions, if appropriate. Accordingly, our stock repurchase program is subject to us having available cash to fund repurchases. Under this program, management is authorized to purchase shares of our common stock from time to time through open market purchases or privately negotiated transactions at prevailing prices as permitted by securities laws and other legal requirements, and subject to market conditions and other factors.
As of September 30, 2018, we have repurchased approximately 2,558,000 shares of our common stock under the stock repurchase program at an average per-share cost of $39.09. During the nine months ended September 30, 2018, we did not repurchase any shares of our common stock under the stock repurchase program. As of September 30, 2018, we had $100 million of remaining authorization for share repurchases under this program.
Sources and Uses of Funds
We believe, based on our current operating plan, that our cash and cash equivalents, and cash from operations, will be sufficient to meet our anticipated cash needs for at least the next 12 months. Consistent with previous periods, we expect that future capital expenditures will primarily relate to building enhancements to the functionality of our current platform, the acquisition of additional storage, servers, network connectivity hardware, security apparatus and software, leasehold improvements and furniture and fixtures related to office expansion and relocation, digital content and general corporate infrastructure. See Note 7 to our Unaudited Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q for information regarding existing capital commitments as of September 30, 2018.
Cash Flows 
The following table summarizes our cash flow data for the nine months ended September 30, 2018 and 2017 (in thousands).
 
Nine Months Ended September 30,
 
2018
 
2017
Net cash provided by operating activities
$
68,517

 
$
71,510

Net cash used in investing activities
$
(6,452
)
 
$
(59,991
)
Net cash used in financing activities
$
(108,531
)
 
$
(33,144
)
Operating Activities
Our primary source of cash from operating activities is cash collections from our customers. The majority of our revenue is generated from credit card transactions and is typically settled within one to five business days. Our primary uses of cash for operating activities are for the payment of royalties to content contributors, employee-related expenditures and the payment of other operating expenses incurred in the ordinary course of business.
Net cash provided by operating activities was $68.5 million for the nine months ended September 30, 2018, compared to $71.5 million for the nine months ended September 30, 2017. In the nine months ended September 30, 2018, operating cash flows were impacted favorably by changes in the timing of payments pertaining to operating expenses, which can cause operating cash flow to fluctuate from period to period. The effect of these changes was partly offset by the March 2017 payment of the contingent consideration related to the PremiumBeat acquisition. In addition, as it relates to cash taxes, the Company paid net cash taxes of $0.4 million for the nine months ended September 30, 2018, compared to $4.1 million during the same period in 2017.
Investing Activities
Cash used in investing activities in the nine months ended September 30, 2018 was $6.5 million, consisting primarily of net cash received related to the Sale of Webdam, of approximately $41.8 million, which was partially offset by cash paid in settlement of final working capital obligations related to the 2017 acquisition of Flashstock of $0.8 million, capital expenditures of $29.5 million to purchase software and equipment related to our data centers, capitalization of leasehold improvements and website development costs, our $15.0 million investment in Zcool and $2.8 million paid to acquire the rights to distribute certain digital content in perpetuity.
Cash used in investing activities in the nine months ended September 30, 2017 was $60.0 million, consisting primarily of capital expenditures of $37.6 million to purchase software and equipment related to our data centers, capitalization of leasehold

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improvements and website development costs and $2.6 million paid to acquire the rights to distribute certain digital content in perpetuity.
Financing Activities
Cash used in financing activities in the nine months ended September 30, 2018 was $108.5 million, consisting primarily of $104.9 million related to the payment of the Special Dividend and $6.1 million, which was paid in settlement of tax withholding obligations related to employee stock-based compensation awards. These amounts were partially offset by proceeds of approximately $2.5 million from the issuance of common stock in connection with the exercise of stock options.
Cash used in financing activities in the nine months ended September 30, 2017 was $33.1 million, consisting primarily of $25.0 million paid for share repurchases during the period and $3.7 million which was paid in settlement of contingent consideration liabilities related to the 2015 acquisition of PremiumBeat and $5.8 million which was paid in settlement of tax withholding obligations related to employee stock-based compensation awards. These amounts were partially offset by proceeds of approximately $1.4 million from the issuance of common stock in connection with the exercise of stock options.
Contractual Obligations and Commitments
We lease office facilities under operating lease agreements that expire on various dates through 2029. We do not have any material capital lease obligations and our property, equipment and software have been purchased primarily with cash. We anticipate expanding our office and co-location facilities as our revenue and customer base continue to grow and diversify. We do not anticipate any difficulties in renewing those leases and co-location agreements that expire within the next several years and that we currently plan to renew, or in leasing other space or hosting facilities, if required. 
On March 21, 2013, we entered into an operating lease agreement to lease our headquarters in New York City, which was amended in 2016. The aggregate future minimum lease payments under the lease, as amended, are approximately $73.9 million. We are also party to a letter of credit as a security deposit for this leased facility, which was increased to $2.6 million in January 2016 in connection with an amendment of the lease. As of September 30, 2018, the letter of credit is collateralized by $2.6 million of cash, which is reported as restricted cash on our consolidated balance sheet as of September 30, 2018.
Additionally, as of September 30, 2018, aggregate future minimum lease payments under other operating leases are approximately $6.8 million.
As of September 30, 2018, our guaranteed royalty payments and unconditional purchase obligations for the remainder of 2018 and for the fiscal years ending December 31, 2019, 2020, 2021 and 2022 were approximately $8.2 million, $22.3 million, $27.2 million, $9.3 million and $3.3 million, respectively.

Off-Balance Sheet Arrangements
As of September 30, 2018, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of Regulation S-K, that have or are reasonably likely to have a current or future effect on our financial condition, changes in our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.
Item 3.         Quantitative and Qualitative Disclosures About Market Risk.
We are exposed to market risks in the ordinary course of our business, including risks related to interest rate fluctuation, foreign currency exchange rate fluctuation and inflation.
Interest Rate Fluctuation Risk
Our investments primarily consist of cash and cash equivalents. The primary objective of our investment activities is to preserve principal while maximizing income without significantly increasing risk. Because our cash and cash equivalents have a maximum term of 90 days, our portfolio’s fair value is not particularly sensitive to interest rate changes.
We did not have any long-term borrowings as of September 30, 2018. 

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Foreign Currency Exchange Risk 
Our sales to international customers are denominated in multiple currencies, including but not limited to the U.S. dollar, the euro, the British pound, the Australian dollar and the Japanese yen. Revenue denominated in foreign currencies as a percentage of total revenue was approximately 35% and 34% for the nine months ended September 30, 2018 and 2017, respectively. We have foreign currency exchange risks related to non-U.S. dollar denominated revenues. All amounts earned by and paid to our foreign contributors are denominated in the U.S. dollar. However, changes in exchange rates will affect our revenue and certain operating expenses to the extent that our revenue is generated and expenses are incurred in currencies other than the U.S. dollar. Based on our foreign currency denominated revenue for the nine months ended September 30, 2018, we estimate that a 10% change in the exchange rate of the U.S. dollar against all foreign currency denominated revenues would result in an approximately 4% impact on our revenue.
We have established foreign subsidiaries in various countries and have concluded the functional currency of these entities is generally the local currency. Business transacted in currencies other than each entity’s functional currency results in transactional gains and losses. Translation adjustments resulting from converting the foreign subsidiaries’ financial statements into U.S. dollars are recorded as a component of accumulated other comprehensive income (loss) in stockholders’ equity. We do not currently enter into derivatives or other financial instruments in order to hedge our foreign currency exchange risk, but we may do so in the future.
Our historical revenue by currency is as follows (in thousands):
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2018
 
2017(2)
 
2018
 
2017(2)
 
 
U.S. Dollars
 
Originating Currency
 
U.S. Dollars
 
Originating Currency
 
U.S. Dollars
 
Originating Currency
 
U.S. Dollars
 
Originating Currency
Euro
 
$
29,891

 
€
25,546

 
$
25,663

 
€
21,852

 
$
91,005

 
€
76,042

 
$
72,847

 
€
65,454

British pounds
 
12,026

 
£
9,171

 
12,676

 
£
9,689

 
37,801

 
£
27,900

 
35,451

 
£
27,802

All other non-U.S. currencies(1)
 
11,131

 
 
 
10,199

 
 
 
32,875

 
 
 
28,363

 
 
Total foreign currency
 
53,048

 
 
 
48,538

 
 
 
161,681

 
 
 
136,661

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U.S. dollar
 
98,527

 
 
 
92,525

 
 
 
299,497

 
 
 
268,621

 
 
Total revenue
 
$
151,575

 
 
 
$
141,063

 
 
 
$
461,178

 
 
 
$
405,282

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(1)
Includes no single currency which exceeded 5% of total revenue for any of the periods presented.
(2)
Effective January 1, 2018 we adopted ASU 2014-09 using the modified retrospective approach. Historical revenue totals reflect those previously reported and have not been restated.
Inflation Risk
We do not believe that inflation has had a material effect on our business, financial condition or results of operations. If our costs were to become subject to significant inflationary pressures, we may not be able to fully offset such higher costs through price increases. Our inability or failure to do so could harm our business, financial condition and results of operations.
Item 4.         Controls and Procedures.
Evaluation of Disclosure Controls and Procedures 
Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2018. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), means controls and other procedures of a company that are designed to provide reasonable assurance that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. However, any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives.
Based on the evaluation of our disclosure controls and procedures as of September 30, 2018, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were not effective at the reasonable assurance level because of a material weakness in our internal controls over financial reporting. We concluded that

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we did not design and maintain effective controls related to the accuracy, cut-off and completeness of sales transactions related to certain enterprise license arrangements. Specifically, as our business strategy related to enterprise license arrangements changed during 2018, we did not design and maintain effective controls to assess the risks of misstatement, and therefore the appropriateness of revenue recognition, associated with product offerings outside of our standard product catalog. The deficiencies resulted in immaterial errors in recorded revenue, accounts receivable, deferred revenue and related disclosures for the year ended December 31, 2017 and the interim periods ended June 30, 2018 and September 30, 2018, and did not result in a material misstatement of our interim or annual consolidated financial statements or disclosures for all historical periods. However, these control deficiencies could result in a misstatement of the aforementioned accounts balances or disclosures that would result in a material misstatement to the annual or interim consolidated financial statements that would not be prevented or detected. Accordingly, our management has determined that these control deficiencies constitute a material weakness.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company's annual or interim financial statements will not be prevented or detected on a timely basis.
We are in the process of identifying and implementing a remediation plan to address the control deficiencies that led to the material weakness. The material weakness will not be considered remediated until the applicable remedial measures have been implemented for a sufficient period of time and management has concluded, through testing, that the enhanced controls are operating effectively.
Changes in Internal Control over Financial Reporting
On July 7, 2017, we completed our acquisition of Flashstock Technology, Inc. (“Shutterstock Custom” formerly “Flashstock”). Our management is in the process of reviewing the operations of Shutterstock Custom, and implementing our internal control structure over the operations of the recently acquired entity.
Except for the preceding changes, there were no changes in our internal control over financial reporting identified in management’s evaluation pursuant to Rules 13a-15(d) or 15d-15(d) of the Exchange Act during the period covered by this Quarterly Report on Form 10-Q that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


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PART II.     OTHER INFORMATION
Item 1.        Legal Proceedings.
Although we are not currently a party to any material active litigation, from time to time, third parties assert claims against us regarding intellectual property rights, privacy issues and other matters arising during the ordinary course of business. Although we cannot be certain of the outcome of any litigation or the disposition of any claims, nor the amount of damages and exposure, if any, that we could incur, we currently believe that the final disposition of all existing matters will not have a material adverse effect on our business, results of operations, financial condition or cash flows. In addition, in the ordinary course of our business, we are also subject to periodic threats of lawsuits, investigations and claims. Regardless of the outcome, litigation can have an adverse impact on us because of defense and settlement costs, diversion of management resources and other factors.
Item 1A.    Risk Factors.
We operate in a rapidly changing environment that involves a number of risks that could materially affect our business, financial condition or future results, some of which are beyond our control. In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our 2017 Form 10-K and Part II, “Item 1. Risk Factors” in our second quarter 2018 Form 10-Q, which could materially affect our business, financial condition or future results. During the three months ended September 30, 2018, there were no material changes to these risk factors as described in our 2017 Form 10-K and second quarter 2018 Form 10-Q, other than as disclosed below:
We have identified a material weakness in our internal controls over financial reporting which could result in material misstatements as well as negatively impact the reliability of our financial statements, our reputation, our business and the trading price of our common stock.
During its evaluation of the effectiveness of disclosure controls and procedures as of September 30, 2018, management identified a material weakness in internal control over financial reporting related to the accuracy, cut-off and completeness of sales transactions related to certain enterprise license arrangements. Specifically, as our business strategy related to enterprise license arrangements changed during 2018, we did not design and maintain effective controls to assess the risks of misstatement, and therefore the appropriateness of revenue recognition, associated with product offerings outside of our standard product catalog. The deficiencies resulted in immaterial errors in recorded revenue, accounts receivable, deferred revenue and related disclosures for the year ended December 31, 2017 and the interim periods ended June 30, 2018 and September 30, 2018, and did not result in a material misstatement of our interim or annual consolidated financial statements or disclosures for all historical periods. However, these control deficiencies could result in a misstatement of the aforementioned accounts balances or disclosures that would result in a material misstatement to the annual or interim consolidated financial statements that would not be prevented or detected. Accordingly, our management has determined that these control deficiencies constitute a material weakness.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company's annual or interim financial statements will not be prevented or detected on a timely basis.
While we are in the process of identifying and implementing remedial measures to address the control deficiencies that led to the material weakness, there can be no assurance that remediation will be completed in 2018 or that the remedial measures will prevent other control deficiencies or material weaknesses. We may identify additional material weaknesses in our internal control over financial reporting in the future. If we are unable to remediate this material weakness or we identify additional material weaknesses in our internal control over financial reporting in the future, our ability to analyze, record and report financial information free of material misstatements, to prepare our financial statements within the time periods specified by the rules and forms of the SEC and otherwise to comply with our reporting obligations under the federal securities laws will likely be adversely affected. The occurrence of, or failure to remediate, this material weakness and any future material weaknesses in our internal control over financial reporting may result in material misstatements as well as negatively impact the reliability of our financial statements, our reputation, our business and the trading price of our common stock.

Item 6.        Exhibits.
See the Exhibit Index, which immediately precedes the signature page of this Quarterly Report on Form 10-Q, which is incorporated herein by reference.

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EXHIBIT INDEX

Exhibit
 
 
Number
 
Exhibit Description
31.1#
 
31.2#
 
32#
 
101.INS
 
XBRL Instance Document
101.SCH
 
XBRL Taxonomy Extension Schema Document
101.CAL
 
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
 
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
 
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
 
XBRL Taxonomy Extension Presentation Linkbase Document
______________________________________ 
#    Filed herewith.


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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
SHUTTERSTOCK, INC.
 
 
 
Dated: October 30, 2018
By:
/s/ Steven Berns
 
 
Steven Berns
 
 
Chief Operating Officer and Chief Financial Officer
 
 
(Principal Financial Officer)
 
 
 
Dated: October 30, 2018
By:
/s/ Steven Ciardiello
 
 
Steven Ciardiello
 
 
Chief Accounting Officer
 
 
(Principal Accounting Officer)
 
 
 


39
Exhibit


EXHIBIT 31.1
 
CERTIFICATION PURSUANT TO RULE 13a-14(a) OR 15d-14(a) OF
THE SECURITIES EXCHANGE ACT OF 1934, AS ADOPTED PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
 
I, Jonathan Oringer, certify that:
 
1.          I have reviewed this quarterly report on Form 10-Q of Shutterstock, Inc.;
 
2.          Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
 
3.          Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
 
4.          The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
 
a.          Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
 
b.          Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
 
c.          Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
 
d.          Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
 
5.          The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):
 
a.          All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
 
b.          Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
 
Date: October 30, 2018
By:
/s/ Jonathan Oringer
 
 
Jonathan Oringer
 
 
Chief Executive Officer
 
 
(Principal Executive Officer)


Exhibit


EXHIBIT 31.2
 
CERTIFICATION PURSUANT TO RULE 13a-14(a) OR 15d-14(a) OF
THE SECURITIES EXCHANGE ACT OF 1934, AS ADOPTED PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
 
I, Steven Berns, certify that:
 
1.          I have reviewed this quarterly report on Form 10-Q of Shutterstock, Inc.;
 
2.          Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
 
3.          Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
 
4.          The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
 
a.          Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
 
b.          Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
 
c.          Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
 
d.          Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
 
5.          The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):
 
a.          All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
 
b.          Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
 
Date: October 30, 2018
By:
/s/ Steven Berns
 
 
Steven Berns
 
 
Chief Operating Officer and Chief Financial Officer
 
 
(Principal Financial Officer)
 




Exhibit


EXHIBIT 32
 
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
 
In connection with the Quarterly Report on Form 10-Q of Shutterstock, Inc., for the quarterly period ended September 30, 2018 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Jonathan Oringer, as Chief Executive Officer of Shutterstock, Inc., hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of Shutterstock, Inc.
 
Date: October 30, 2018
By:
/s/ Jonathan Oringer
 
 
Jonathan Oringer
 
 
Chief Executive Officer
 
 
(Principal Executive Officer)
 
In connection with the Quarterly Report on Form 10-Q of Shutterstock, Inc., for the quarterly period ended September 30, 2018 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Steven Berns, as Chief Operating Officer and Chief Financial Officer of Shutterstock, Inc., hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of Shutterstock, Inc.
 
Date: October 30, 2018
By:
/s/ Steven Berns
 
 
Steven Berns
 
 
Chief Operating Officer and Chief Financial Officer
 
 
(Principal Financial Officer)