Edgar Filing: AEROHIVE NETWORKS, INC

10-Q



UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
	Form 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2015

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: 001-36355

Aerohive Networks, Inc.

(Exact name of registrant as specified in its charter)



Delaware				20-4524700
(State or other jurisdiction of incorporation or organization)				(I.R.S. Employer Identification Number)

330 Gibraltar Drive

Sunnyvale, California 94089

(408) 510-6100

(Address, including zip code, and telephone number,

including area code, of registrant's principal executive offices)

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. Yes x 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). Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.



Large accelerated filer ¨		Accelerated filer ¨
Non-accelerated filer x (Do not check if a smaller reporting company)		Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

The number of shares of the registrant's common stock, par value $0.001, outstanding as of November 2, 2015 was 48,088,748.

TABLE OF CONTENTS



		Page
	PART I. FINANCIAL INFORMATION
Item 1.	Condensed Consolidated Financial Statements	2
	Condensed Consolidated Balance Sheets	2
	Condensed Consolidated Statements of Operations and Comprehensive Loss	3
	Condensed Consolidated Statements of Cash Flows	4
	Notes to Condensed Consolidated Financial Statements	5
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	16
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	31
Item 4.	Controls and Procedures	31

	PART II. OTHER INFORMATION
Item 1.	Legal Proceedings	33
Item 1A.	Risk Factors	33
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	62
Item 3.	Defaults Upon Senior Securities	62
Item 4.	Mine Safety Disclosure	62
Item 5.	Other Information	62
Item 6.	Exhibits	63
	Signatures	63

The Aerohive Networks design logo and the marks “Aerohive^®,” “HiveManager^®,” “HiveOS^®” and “HiveCare™” are the property of Aerohive Networks, Inc. All Rights Reserved. This Quarterly Report on Form 10-Q contains additional trade names, trademarks and service marks of other companies.

PART I. FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AEROHIVE NETWORKS, INC.

Condensed Consolidated Balance Sheets

(in thousands, except share and per share amounts)



	September 30,			December 31,
	2015			2014
ASSETS	(Unaudited)
CURRENT ASSETS:
Cash and cash equivalents	$	88,189		$	98,044
Accounts receivable, net of allowance for doubtful accounts of $27 and $106 as of September 30, 2015 and December 31, 2014, respectively	16,348			24,695
Inventory	11,757			8,360
Prepaid expenses and other current assets	4,324			2,610
Deferred cost of goods sold	813			1,001
Total current assets	121,431			134,710
Property and equipment, net	9,916			8,862
Goodwill	513			513
Other assets	255			169
Total assets	$	132,115		$	144,254
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable	$	9,962		$	10,154
Accrued liabilities	12,620			9,181
Debt, current	—			12,451
Deferred revenue, current	26,178			22,014
Total current liabilities	48,760			53,800
Debt, non-current	20,000			7,301
Deferred revenue, non-current	28,672			24,141
Other liabilities	447			857
Total liabilities	97,879			86,099
Commitments and contingencies (Note 5)
Stockholders’ equity:
Preferred stock, par value of $0.001 per share - 25,000,000 shares authorized as of September 30, 2015 and December 31, 2014, respectively; no shares issued and outstanding as of September 30, 2015 and December 31, 2014	—			—
Common stock, par value of $0.001 per share - 500,000,000 shares authorized as of September 30, 2015 and December 31, 2014, respectively; 47,981,332 and 46,028,908 shares issued and outstanding as of September 30, 2015 and December 31, 2014, respectively	48			46
Additional paid–in capital	223,853			208,998
Accumulated deficit	(189,665		)	(150,889		)
Total stockholders’ equity	34,236			58,155
Total liabilities and stockholders’ equity	$	132,115		$	144,254

See notes to condensed consolidated financial statements.

AEROHIVE NETWORKS, INC.

Condensed Consolidated Statements of Operations and Comprehensive Loss

(unaudited, in thousands, except share and per share amounts)



	Three Months Ended September 30,						Nine Months Ended September 30,
	2015			2014			2015			2014
Revenue:
Product	$	36,130		$	30,776		$	87,361		$	89,358
Software subscription and services	6,650			4,550			18,072			11,754
Total revenue	42,780			35,326			105,433			101,112
Cost of revenue ⁽¹⁾:
Product	11,707			9,764			28,134			28,206
Software subscription and services	2,686			1,678			7,040			4,683
Total cost of revenue	14,393			11,442			35,174			32,889
Gross profit	28,387			23,884			70,259			68,223
Operating expenses:
Research and development ⁽¹⁾	10,098			7,544			26,491			20,515
Sales and marketing ⁽¹⁾	22,083			18,056			61,657			53,636
General and administrative ⁽¹⁾	7,212			5,224			19,665			15,196
Total operating expenses	39,393			30,824			107,813			89,347
Operating loss	(11,006		)	(6,940		)	(37,554		)	(21,124		)
Interest income	21			10			54			19
Interest expense	(140		)	(458		)	(1,067		)	(1,382		)
Other income	59			95			213			154
Loss before income taxes	(11,066		)	(7,293		)	(38,354		)	(22,333		)
Income tax provision	(215		)	(81		)	(422		)	(236		)
Net loss and comprehensive loss attributable to common stockholders	$	(11,281	)	$	(7,374	)	$	(38,776	)	$	(22,569	)
Net loss per share allocable to common stockholders, basic and diluted	$	(0.24	)	$	(0.16	)	$	(0.83	)	$	(0.69	)
Weighted-average shares used in computing net loss per share allocable to common stockholders, basic and diluted	47,724,142			45,606,694			46,975,649			32,803,436

(1) Includes stock-based compensation as follows:
Cost of revenue	$	249		$	107		$	631		$	225
Research and development	1,338			724			3,325			1,577
Sales and marketing	1,965			1,065			5,189			2,484
General and administrative	1,633			906			4,226			2,021
Total stock-based compensation	$	5,185		$	2,802		$	13,371		$	6,307

See notes to condensed consolidated financial statements.

AEROHIVE NETWORKS, INC.

Condensed Consolidated Statements of Cash Flows

(unaudited, in thousands)



	Nine Months Ended September 30,
	2015			2014
Cash flows from operating activities
Net loss	$	(38,776	)	$	(22,569	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization	2,601			1,766
Stock-based compensation	13,371			6,307
Others	296			43
Changes in operating assets and liabilities:
Accounts receivable, net	8,347			(393		)
Inventories	(3,397		)	(2,671		)
Prepaid expenses and other current assets	(1,526		)	(704		)
Other assets	(86		)	(116		)
Accounts payable	(17		)	1,392
Accrued and other liabilities	3,421			2,329
Deferred revenue	8,695			12,276
Net cash used in operating activities	(7,071		)	(2,340		)
Cash flows from investing activities
Purchases of property and equipment	(2,006		)	(1,639		)
Capitalized software development costs	(1,913		)	(3,126		)
Net cash used in investing activities	(3,919		)	(4,765		)
Cash flows from financing activities
Proceeds from initial public offering, net of underwriting discounts	—			80,213
Payment of offering costs	—			(4,007		)
Proceeds from exercise of convertible preferred stock warrants	—			907
Proceeds from exercise of stock options	1,170			1,206
Proceeds from employee stock purchase plan	2,271			—
Payments for shares repurchased for tax withholdings on vesting of restricted stock units	(2,306		)	—
Proceeds from issuance of debt	10,000			—
Repayments of debt	(10,000		)	—
Net cash provided by financing activities	1,135			78,319
Net increase (decrease) in cash and cash equivalents	(9,855		)	71,214
Cash and cash equivalents at beginning of period	98,044			35,023
Cash and cash equivalents at end of period	$	88,189		$	106,237
Supplemental disclosure of cash flow information
Income taxes paid	$	394		$	355
Interest paid	$	845		$	985
Supplemental disclosure of noncash investing and financing activities
Conversion of convertible preferred stock warrants to common stock warrants upon IPO	$	—		$	611
Unpaid property and equipment purchased	$	136		$	481
Unpaid capitalized software development costs	$	94		$	271
Reclassification of the convertible preferred stock warrant liability to additional paid-in capital on the exercise of the convertible preferred stock warrants	$	—		$	3,172
Vesting of early exercised stock options	$	45		$	417
Stock-based compensation in capitalized software development costs	$	257		$	241

See notes to condensed consolidated financial statements.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

1. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Operations

Aerohive Networks, Inc. was incorporated in Delaware on March 15, 2006, and, together with its subsidiaries (the "Company"), has designed and developed a leading cloud-managed mobile networking platform that enables enterprises to deploy a mobile-centric network edge. The point at which devices access the enterprise network is commonly referred to as the network edge. The Company’s hardware products include intelligent access points, routers and switches. These products are managed by the Company’s cloud services platform, which delivers cloud-managed network management and mobility and data applications giving end-customers a single, unified and contextual view of the entire network edge. The Company has offices in North America, Europe, the Middle East and Asia Pacific and employs staff around the world.

Initial Public Offering

In April 2014, the Company completed its initial public offering (the “IPO”), in which the Company issued 8,625,000 shares of the Company's common stock, inclusive of 1,125,000 shares of common stock sold upon the exercise in full of the overallotment option by the underwriters, at an offering price of $10.00 per share. The Company received proceeds of $80.2 million after deducting the underwriters’ discounts and commissions of $6.0 million. Upon completion of the IPO, the Company reclassified $5.4 million deferred offering costs to additional paid-in capital.

In connection with the IPO, 28,227,528 outstanding shares of the Company’s convertible preferred stock automatically converted into 28,832,898 shares of common stock, and the warrants to purchase 103,034 shares of convertible preferred stock became warrants to purchase 107,876 shares of common stock.

Basis of Presentation and Consolidation

The Company prepared the accompanying consolidated financial statements in accordance with generally accepted accounting principles in the United States ("GAAP"), which includes the accounts of Aerohive Networks, Inc. and its wholly owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation.

Summary of Significant Accounting Policies

There have been no material changes to the significant accounting policies during the nine months ended September 30, 2015 as compared to those described in the Company's audited consolidated financial statements included in its Annual Report on Form 10-K for the year ended December 31, 2014, filed with the SEC on March 17, 2015.

Use of Estimates

The preparation of the accompanying consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Those estimates and assumptions include, among others, the selling price of products, software and support services; determination of fair value of common stock and stock-based awards; inventory valuations; accounting for income taxes, including the valuation allowance on deferred tax assets and uncertain tax positions; allowance for doubtful accounts; and warranty costs. Management evaluates estimates and assumptions on an ongoing basis using historical experience and other factors and adjusts those estimates and assumptions when facts and circumstances dictate. As future events and their effects cannot be determined with precision, actual results could differ from these estimates and assumptions, and those differences could be material to the consolidated financial statements.

Foreign Currency

The functional currency of the Company’s foreign subsidiaries is the U.S. dollar. Transactions denominated in currencies other than the functional currency are remeasured at the average exchange rate in effect during the period. At the end of each reporting period, the Company’s subsidiaries’ monetary assets and liabilities are remeasured to the U.S. dollar using exchange rates in effect at the end of the reporting period. Non-monetary assets and liabilities are remeasured at historical exchange rates. Gains and losses related to remeasurement are recorded in other income (expense), net in the consolidated statements of operations. Foreign currency exchange losses have not been significant in any period presented and the Company has not undertaken any hedging transactions related to foreign currency exposure.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606), which provides guidance for revenue recognition. This ASU affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of non-financial assets. The guidance in this ASU supersedes the revenue recognition requirements in Topic 605, Revenue Recognition, and most industry-specific guidance. In August 2015, the FASB issued ASU 2015-14 to delay the effective date of this standard by one year to December 15, 2017. The standard will be effective for the Company on January 1, 2018. The Company is evaluating the financial impact of such adoption, if any, on the Company's consolidated financial statements.

In July 2015, FASB issued ASU 2015-11, Simplifying the Measurement of Inventory. The new standard replaces the current lower of cost or market test with the lower of cost or net realizable value test. Net realizable value is defined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The new standard should be applied prospectively and is effective for annual reporting periods beginning after December 15, 2016 and interim periods within those annual periods, with early adoption permitted. The Company does not expect the adoption of this standard to have a material impact on the Company's Consolidated Financial Statements.

Concentrations of Credit Risk and Significant Customers

Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. Cash equivalents are maintained in money market funds. The amount on deposit at any time with money market funds may exceed the insured limits provided on such funds.

The Company sells its products primarily to channel partners, which include value-added resellers (VARs) and value-added distributors (VADs). The Company’s accounts receivable are typically unsecured and are derived from revenue earned from customers located in the Americas, Europe, the Middle East and Africa, and Asia Pacific. The Company performs ongoing credit evaluations to determine customer credit, but generally does not require collateral from its customers. The Company maintains reserves for estimated credit losses and these losses have historically been within management’s expectations.

Significant customers are those that represent more than 10% of the Company’s total revenue or gross accounts receivable balance at each respective balance sheet date. The Company has entered into separate agreements with certain individual VADs that are part of a consolidated group of entities which collectively constitute greater than 10% of the Company’s total revenue or gross accounts receivable balance for certain periods, as presented in the tables below.

The percentages of revenue from a consolidated group of entities (VAD A) and an individual entity (VAD B) greater than 10% of total consolidated revenue were as follows:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
VAD A	11.1	%	13.7	%	14.2	%	13.1	%
VAD B	13.8	%	10.9	%	11.1	%	*

* Less than 10%

The percentages of receivables from VAD A and VAD B greater than 10% of total consolidated accounts receivable were as follows:



	September 30, 2015		December 31, 2014
VAD A	13.0	%	18.8	%
VAD B	17.5	%	*

* Less than 10%

2. FAIR VALUE DISCLOSURE

The Company records its financial assets and liabilities at fair value. The inputs used in the valuation methodologies in measuring fair value are defined in the fair value hierarchy as follows:



Level 1		Quoted prices (unadjusted) in active markets that are accessible at the measurement date for identical assets or liabilities.
Level 2		Observable prices that are based on inputs not quoted on active markets, but corroborated by market data.
Level 3		Unobservable inputs are used when little or no market data is available.

As of September 30, 2015 and December 31, 2014, the Company's financial instruments only consisted of highly liquid money market funds that were classified as Level 1 assets, and which were included in cash and cash equivalents.

Financial assets that the Company measured at fair value on a recurring basis by level within the fair value hierarchy, are as follows:



	September 30, 2015
	Level 1		Level 2		Level 3		Total
Financial Assets			(in thousands)
Money market funds	$	80,292	$	—	$	—	$	80,292



	December 31, 2014
	Level 1		Level 2		Level 3		Total
Financial Assets	(in thousands)
Money market funds	$	80,240	$	—	$	—	$	80,240

3. CONSOLIDATED BALANCE SHEET COMPONENTS

Inventory

Inventory consists of the following:



	September 30,		December 31,
	2015		2014
	(in thousands)
Components, including raw materials	$	85	$	63
Finished goods	11,672		8,297
Total inventory	$	11,757	$	8,360

Property and Equipment, net

Property and equipment, net consists of the following:



		September 30,			December 31,
	Estimated Useful Lives	2015			2014
		(in thousands)
Computer and other equipment	3 years	$	1,964		$	1,822
Manufacturing, research and development laboratory equipment	3 years	4,521			3,741
Software	2 to 5 years	8,783			1,882
Office furniture and equipment	3 years	1,061			761
Leasehold improvements	2 to 5 years	614			532
Construction in progress		112			5,459
Property and equipment, gross		17,055			14,197
Less: Accumulated depreciation and amortization		(7,139		)	(5,335		)
Property and equipment, net		$	9,916		$	8,862

Construction in progress primarily represents the capitalization of development costs incurred by the Company during the application development stage of the Company’s cloud services platform. In April 2015, the Company completed and

launched the next generation of its cloud services platform, and began to amortize these capitalized costs to cost of software subscription and services revenue on a straight-line basis over an estimated useful life of the software of 5 years. As of September 30, 2015, such internal-use software is included in the software category.

Depreciation and amortization expense was $1.0 million and $0.7 million for the three months ended September 30, 2015 and 2014, respectively, and $2.6 million and $1.6 million for the nine months ended September 30, 2015 and 2014, respectively.

Accrued Liabilities

Accrued liabilities consist of the following:



	September 30,		December 31,
	2015		2014
	(in thousands)
Accrued compensation	$	9,921	$	7,090
Accrued expenses and other liabilities	2,061		1,806
Warranty liability, current portion	638		285
Total accrued liabilities	$	12,620	$	9,181

Deferred Revenue

Deferred revenue consists of the following:



	September 30,		December 31,
	2015		2014
	(in thousands)
Products	$	2,995	$	3,886
Software subscription and services	51,855		42,269
Total deferred revenue	54,850		46,155
Less: current portion of deferred revenue	26,178		22,014
Non-current portion of deferred revenue	$	28,672	$	24,141

Warranty Liability

The following table summarizes the activity related to the Company’s accrued liability for estimated future warranty:



	Three Months Ended September 30,						Nine Months Ended September 30,
	2015			2014			2015			2014
	(in thousands)
Beginning balance	$	1,046		$	694		$	891		$	923
Charges to operations	339			162			867			357
Obligations fulfilled	(132		)	(215		)	(452		)	(436		)
Changes in existing warranty	(277		)	115			(330		)	(88		)
Total product warranties	$	976		$	756		$	976		$	756
Current portion	$	638		$	204		$	638		$	204
Non-current portion	$	338		$	552		$	338		$	552

Changes in existing warranty reflect a combination of changes in expected warranty claims and changes in the related costs to service such claims.

4. DEBT

Financing Agreements

In June 2012, the Company entered into a revolving credit facility with Silicon Valley Bank (the revolving credit facility) for a principal amount of up to $10.0 million, with a sublimit of $3.0 million for borrowings guaranteed by the Export-

Import Bank of the United States. The revolving credit facility is collateralized by substantially all of the Company’s property, other than intellectual property. Prior to March 31, 2015, the revolving credit facility bore monthly interest at a floating rate equal to the greater of (i) 4.00% or (ii) prime rate plus 0.75%. In June 2012, the Company drew $10.0 million under this credit facility.

On March 31, 2015, the Company amended its revolving credit facility with Silicon Valley Bank. The amendment, among other things, (i) extended the line maturity date to March 31, 2017 from June 29, 2015; (ii) removed the $3.0 million sublimit for borrowings guaranteed by the Export-Import Bank; and (iii) increased the revolving line up to $20.0 million, subject to certain conditions. As of September 30, 2015, $20.0 million remains outstanding under the revolving credit facility. Until December 31, 2015, the amended credit facility bears interest at a floating rate equal to the lesser of (i) LIBOR rate plus 2.25% or (ii) prime rate minus 0.5%. In November 2015, the Company further amended the revolving credit facility to revise the floating interest rate to the lesser of (i) LIBOR rate plus 1.75% or (ii) prime rate minus 1.0%, effective January 1, 2016.

The revolving credit facility contains customary negative covenants which limit the Company’s ability to, among other things, incur additional indebtedness, grant liens, make investments, repurchase stock, pay dividends, transfer assets and merge or consolidate, as well as requiring the Company to maintain a minimum adjusted quick ratio of 1.25 to 1.00 as of the last day of each month. The revolving credit facility also contains customary events of default, subject to customary cure periods for certain defaults, that include, among other things, non-payment defaults, covenant defaults, material judgment defaults, bankruptcy and insolvency defaults, cross-defaults to certain other material indebtedness, and inaccuracy of representation and warranties. Upon an event of default, the lender may declare all or a portion of the outstanding obligations payable by the Company to be immediately due and payable and exercise other rights and remedies provided for under the credit facility. During the existence of an event of default, interest on the obligations under the credit facility could be increased by 5.0%. As of September 30, 2015 and December 31, 2014, the Company was in compliance with these covenants.

The Company will use loans drawn under the revolving credit facility for working capital and general corporate purposes.

In August 2013, the Company entered into a term loan credit facility with TriplePoint Capital LLC (the term loan credit facility) that allowed the Company, subject to certain funding conditions including compliance with certain covenants and the absence of certain events or conditions that could have been deemed to have a material adverse effect on the Company's business, to borrow money under term loans in an aggregate principal amount of up to $20.0 million. In December 2013, the Company borrowed $10.0 million under the term loan credit facility under two separate loans. The stated interest rate for each loan was 10.75% and 9.75%, respectively, and was reduced to 10.25% and 9.25%, respectively, due to the completion of the IPO in 2014. In the first quarter 2015, the Company elected to voluntarily repay in full all of its outstanding obligations under the term loan credit facility, along with an end-of-term payment of $0.3 million, and terminated the facility.

5. COMMITMENTS AND CONTINGENCIES

Lease Commitments

The Company leases its main office facility in Sunnyvale, California, which are set to expire in September 2016. In addition, the Company leases office space for its subsidiaries in the United Kingdom, the Netherlands and China under non-cancelable operating leases that expire at various times through May 2017. The Company has also entered into various lease agreements in other locations in the United States and globally to support its sales and research and development functions. The Company recognizes rent expense on a straight-line basis over the lease period. Future minimum lease payments by year under operating leases as of September 30, 2015 are as follows:



	Amount
Year ending December 31,	(in thousands)
2015 (remaining three months)	$	464
2016	1,967
2017	102
Total	$	2,533

Rent expense was $0.6 million and $0.5 million for the three months ended September 30, 2015 and 2014, respectively, and was $1.9 million and $1.6 million for the nine months ended September 30, 2015 and 2014, respectively.

Manufacturing Commitments

The Company subcontracts with manufacturing companies to manufacture its hardware products. The contract manufacturers procure components based on non-cancellable orders placed by the Company. If the Company cancels all or part of an order, the Company is liable to the contract manufacturers for the cost of the related components purchased under such orders.

As of September 30, 2015 and December 31, 2014, the Company had manufacturing commitments with contract manufacturers for inventory totaling approximately $10.3 million and $8.0 million, respectively.

Contingencies

The Company may be subject to legal proceedings and litigation arising in the ordinary course of business. The Company will record a liability when it believes that it is both probable that a loss has been incurred and the amount can be reasonably estimated. The Company expects to periodically evaluate developments in its legal matters that could affect the amount of liability that it has previously accrued, if any, and make adjustments as appropriate. Significant judgment is required to determine both likelihood of there being, and the estimated amount of, a loss related to such matters, and the Company’s judgment may be incorrect. The outcome of any proceeding is not determinable in advance. Until the final resolution of any such matter for which the Company may be required to accrue, there may be an exposure to loss in excess of the amount accrued and such excess amount could be significant.

The Company is currently engaged in the following separate litigations which allege that the Company’s products infringe certain patents.

•

AirTight Networks, or AirTight, alleges that the Company’s products infringe U.S. Patent #7,339,914, or the ‘914 Patent. On January 23, 2013, in light of AirTight’s allegations, the Company filed in the U.S. District Court, Northern District of California, a Complaint for Declaratory Judgment against AirTight asserting that the Company’s products do not infringe the ‘914 Patent and that the ‘914 Patent is, in any case, invalid and not enforceable. AirTight filed a separate action asserting infringement of the ‘914 Patent by some or all of the Company’s products, which was then related to the Company’s initial action for declaratory judgment. The related cases are currently stayed pending resolution of petitions which the Company filed with the U.S. Patent and Trademark Office, or PTO, to initiate a reexamination of the ‘914 Patent. All claims are currently rejected and Airtight has appealed the final rejection of all claims of the ‘914 Patent.

•

Linex Technologies, or Linex, filed on March 19, 2013 a Complaint in the U.S. District Court, Southern District of Florida, asserting that some or all of the Company’s products infringe U.S. Patents #6,493,377, or the ‘377 Patent, and #7,167,503, or the ’503 Patent. The Company filed an answer and counterclaims for declaratory judgment against Linex asserting that the Company’s products do not infringe the ‘377 and ‘503 Patents, and that the ‘377 and ‘503 Patents are, in any case, invalid and not enforceable. The Company separately filed with the PTO petitions to initiate reexamination of the ‘377 and ‘503 Patents, which the PTO has granted. An office action has issued rejecting all claims of both patents. All claims are currently rejected and Linex has appealed the rejection of all claims of the ‘377 Patent; however, the PTO issued a Reexamination Certificate confirming the patentability of the ‘503 Patent. This case is currently stayed pending the reexaminations.

•

Chrimar Systems, or Chrimar, filed in July 2015 a complaint in the U.S. District Court, Eastern District of Texas, asserting that certain of the Company’s products which utilize Power over Ethernet (PoE) functionality infringe United States Patent Nos. 8,155,012, 8,942,107, 8,902,760 and 9,019,838. The complainant has since also named one of the Company’s customers as a co-defendant and, in at least one instance, filed a separate action against a channel partner based on that partner’s sale of Company products. The Company continues to evaluate the allegations and its possible obligations to the Company’s customer and partners under written indemnification commitments.

In June 2015, a class action complaint was filed in the Superior Court of the State of California, County of San Mateo, against the Company and certain of its current and former officers and directors. This action was subsequently related and consolidated with two identical, follow-on complaints and is captioned Hunter v. Aerohive Networks, Inc., et al., Shareholder Litigation, Master File No. 534070. The consolidated complaint alleges claims under federal securities laws that the Registration Statement which the Company filed with the Securities and Exchange Commission on Form S-1 in connection with its initial public offering in March 2014 contained false and/or misleading statements or omissions. The consolidated action also names as defendants the investment firms who underwrote the Company’s initial public offering.

The consolidated complaint alleges that the Registration Statement failed to disclose, among other things, product deficiencies, poor sales, and a decline in sales-related personnel. The complaint additionally alleges that the Company improperly recognized revenue, including by booking certain sales with rights of return. The consolidated complaint seeks unspecified compensatory damages and other relief. The Company is advancing certain defense costs with respect to individual defendants, including the underwriting investment firms, under written indemnification agreements.

The Company intends to defend these lawsuits vigorously.

The Company is not able to predict or estimate any range of reasonably possible loss related to these lawsuits. If these matters have an adverse outcome, they may have a material impact on the Company’s financial position, results of operations or cash flows.

In September 2015, the Company resolved the pending action brought by Wetro LAN LLC in February 2015 in the U.S. District Court, Eastern District of Texas asserting that certain of the Company’s branch router products infringe U.S. Patent #6,795,918. In October 2015, the Company resolved the pending action brought by JSDQ Mesh Technologies LLC filed in June 2015 in the U.S. District Court, District of Delaware. The action asserted that certain of the Company’s products which utilize a so-called wireless mesh transmission feature infringe United States Patent Nos. 7,286,828, 7,916,648, RE43,675 and RE44,607. The amount of the Company’s settlement payments regarding these matters was not material.

Guarantees

The Company has entered into agreements with some of its customers that contain indemnification provisions in the event of claims alleging that the Company’s products infringe the intellectual property rights of a third party. The Company has at its option and expense the ability to repair any infringement, replace product with a non-infringing equivalent-in-function product, or refund the customers the total product price. Other guarantees or indemnification arrangements include guarantees of product and service performance. The Company has not recorded a liability related to these indemnification and guarantee provisions and the Company’s guarantees and indemnification arrangements have not had to date any impact on the consolidated financial statements to date.

6. STOCKHOLDERS' EQUITY

Common Stock reserved for Future Issuance

As of September 30, 2015 and December 31, 2014, the Company had reserved shares of common stock, for future issuance as follows:



	September 30,	December 31,
	2015	2014
Common stock reserved for future grants under the Equity Incentive Plan	4,623,455	2,259,230
Reserved under 2014 Employee Stock Purchase Plan	2,478,572	800,000
Options and Restricted Stock Units issued and outstanding	11,345,256	9,776,124
Common stock subject to repurchase	—	27,000
Warrants to purchase common stock	73,883	107,876
Total reserved shares of common stock for future issuance	18,521,166	12,970,230

Common Stock Warrants

As of September 30, 2015, 73,883 shares of common stock subject to warrants remained outstanding and exercisable at exercise prices of $4.057 and $2.768 per share. The common stock warrants expire in March 2016.

7. STOCK-BASED COMPENSATION

2014 Equity Incentive Plan

On March 26, 2014, the Company's 2014 Equity Incentive Plan (2014 Plan) became effective. On March 27, 2014, the Company's 2006 Global Share Plan (2006 Plan) was terminated and all reserved but unissued shares under the 2006 Plan were added to the 2014 Plan and all shares underlying stock awards granted under the 2006 Plan that otherwise would return to the 2006 Plan instead were rolled into the 2014 Plan. The Company may not grant additional awards under the 2006 Plan, but the 2006 Plan will continue to govern outstanding awards previously granted under it.

The 2014 Plan provides for the grant of incentive stock options within the meaning of Section 422 of the Internal Revenue Code (ISO), only to employees of the Company or any parent or subsidiary of the Company, and for the grant of nonstatutory stock options (NSO), restricted stock, restricted stock units, stock appreciation rights, performance units and performance shares to employees, directors and consultants of the Company, and the employees and consultants of any parent or subsidiary of the Company. In May 2015, the Company’s stockholders approved increasing by 3,000,000 the number of shares reserved under the 2014 Plan. As of September 30, 2015, the Company had 4,623,455 total shares of common stock reserved and available for grant under the 2014 Plan. On the first day of each fiscal year beginning January 1, 2016 through January 1, 2024, the number of shares of common stock reserved for issuance under the 2014 Plan may increase by an amount equal to the lesser of (i) 4,000,000 shares, (ii) 5% of the Company’s outstanding shares on the last day of the immediately preceding fiscal year, or (iii) such number of shares determined by the Board.

The following table summarizes the total number of shares available for grant under the 2014 Plan as of September 30, 2015:




	Shares Available for Grant

Balance, December 31, 2014	2,259,230
Authorized	5,306,812
Options granted	(1,559,063	)
Options canceled	834,330
Awards granted	(3,046,515	)
Awards canceled	828,661
Balance, September 30, 2015	4,623,455

Stock Options

The following table summarizes the information about outstanding stock option activity:



	Options Outstanding
	Number of Shares Underlying Outstanding Options		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (Years)	Aggregate Intrinsic Value
						(in thousands)
Balance, December 31, 2014	6,837,893		$	5.71	7.39	$	8,004
Options granted	1,559,063		7.03
Options exercised	(581,699	)	2.04
Options canceled	(834,330	)	7.73
Balance, September 30, 2015	6,980,927		$	6.06	6.83	$	8,392
Options exercisable, September 30, 2015	3,370,822		$	4.30	5.48	$	7,648
Options vested and expected to vest, September 30, 2015	6,516,908		$	5.95	6.70	$	8,348

For the three and nine months ended September 30, 2015, the weighted average grant date fair value of options granted was $2.76 and $3.47 per share, respectively, and the aggregate grant date fair value of the Company's stock options granted was $0.5 million and $5.4 million, respectively. For the three and nine months ended September 30, 2014, the weighted average grant date fair value of options granted was $3.36 and $5.03 per share, respectively, and the aggregate grant date fair value of the Company's stock options granted was immaterial and $3.0 million, respectively.

The aggregate intrinsic value of stock options exercised was $0.4 million and $2.1 million for the three and nine months ended September 30, 2015, respectively, and was $0.8 million and $6.0 million, for the three and nine months ended September 30, 2014, respectively. The intrinsic value represents the difference between option exercise prices and (i) the estimated fair value of the Company’s common stock, prior to the IPO, (ii) or the closing stock price of the Company’s common stock, following the IPO.

Restricted Stock Units

The Company currently grants Restricted Stock Units (RSUs) to certain employees and directors. The RSUs typically vest over a period of time, generally one year, two years or four years, and are subject to the participant’s continuing service to the Company over that period. Until vested, RSUs do not have the voting and dividend participation rights of common stock and the shares underlying the awards are not considered issued and outstanding.

The following is a summary of the Company’s RSU activity and related information for the nine months ended September 30, 2015:



	Restricted Stock Units Outstanding
	Shares		Weighted Average Grant Date Fair Value Per Share

Balance, December 31, 2014	2,938,231		$	7.03
Awards granted	3,046,515		6.53
Awards vested	(1,175,581	)	$	7.27
Awards canceled	(444,836	)	$	7.22
Balance, September 30, 2015	4,364,329		$	6.85

The weighted average grant date fair value of RSUs granted was $5.99 per share for the three months ended September 30, 2015. The aggregate grant date fair value of RSUs granted was $2.8 million and $19.9 million for the three and nine months ended September 30, 2015, respectively, and was $15.3 million and $17.8 million for the three and nine months ended September 30, 2014, respectively. The total fair value of shares vested for the three and nine months ended September 30, 2015 was $2.6 million and $7.2 million, respectively. No RSUs vested during the three and nine months ended September 30, 2014.

The number of RSUs vested includes shares that the Company withheld on behalf of employees to satisfy the minimum statutory tax withholding requirements. During the three and nine months ended September 30, 2015, the Company withheld 152,831 and 383,825 shares of stock, respectively, for an aggregate value of $0.9 million and $2.3 million, respectively, from employees upon the vesting of their RSUs to satisfy the minimum statutory tax withholding requirements. Such shares were returned to the Company’s 2014 Equity Incentive Plan and are available under the plan terms for future issuance.

2014 Employee Stock Purchase Plan

The 2014 Employee Stock Purchase Plan (ESPP) is a ten-year plan, effective in March 2014. The ESPP authorizes the issuance of shares of common stock pursuant to purchase rights granted to employees of the Company and its designated subsidiaries. In May 2015, the Company’s stockholders approved increasing by 2,000,000 the number of shares reserved under the ESPP. As of September 30, 2015, the Company had 2,478,572 total shares of common stock reserved for issuance under the ESPP. Under the ESPP, on the first day of each of fiscal years 2016 and 2017, the number of shares of common stock reserved and available for issuance may increase in an amount equal to the lesser of (i) 1,000,000 Shares, (ii) 2.0% of the Company’s outstanding shares on the first day of the applicable fiscal year, or (iii) such number of shares determined by the Board. Beginning fiscal year 2018 through fiscal year 2023, the number of shares of common stock reserved for issuance may increase in an amount equal to the lesser of (i) 1,000,000 shares, (ii) 1.0% of the Company’s outstanding shares on the first day of the applicable fiscal year, or (iii) such number of shares determined by the Board.

Under the ESPP, the Company grants stock purchase rights to all eligible employees, currently covering a two-year offering period, with purchase dates at the end of each interim six-month purchase period. Shares are purchased using employee payroll deductions at purchase prices equal to 85% of the lesser of the fair market value of the Company’s common stock at either the first day of each offering period or the date of purchase. The ESPP has a reset provision. If the closing price of the Company’s common stock on the last day of any purchase period during an offering period is lower than the closing sales price on the first day of the related offering period, the reference price for purposes of determining the purchase price of shares for subsequent purchase periods in the applicable offering period will be reset to such lower price. No participant may purchase more than $25,000 worth of common stock in any calendar year, or 5,000 shares of common stock in any six-month purchase period. On June 1, 2015, 552,109 shares of common stock were purchased under the ESPP at a purchase price of $4.11 per share. No shares were issued under the ESPP during the three months ended September 30, 2015, and three and nine months ended September 30, 2014, respectively.

Determination of Fair Values

Weighted average assumptions for the Company's stock options granted in the three and nine months ended September 30, 2015 and 2014 were as follows:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
Stock options:
Expected term (in years)	6.08		4.78		6.03		5.56
Expected volatility	45	%	45	%	51	%	49	%
Risk free interest rate	1.71	%	1.59	%	1.74	%	1.85	%
Dividend rate	—		—		—	%	—

The fair value of the purchase right for the ESPP is estimated on the date of grant using the Black-Scholes model with the following weighted average assumptions:



	Three Months Ended September 30,			Nine Months Ended September 30,
	2015	2014		2015	2014
ESPP purchase rights:
Expected term (in years)	0.50 - 1.50	0.68		0.50 - 1.50	0.68
Expected volatility	41.0% - 55.3%	37.00	%	41.0% - 55.3%	37.00	%
Risk free interest rate	0.07% - 0.45%	0.08	%	0.07% - 0.45%	0.08	%
Dividend rate	—	—		—	—

Stock-based Compensation Expense

The total stock-based compensation the Company recognized for stock-based awards in the consolidated statements of operations is as follows:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
	(in thousands)
Cost of revenue	$	249	$	107	$	631	$	225
Research and development	1,338		724		3,325		1,577
Sales and marketing	1,965		1,065		5,189		2,484
General and administrative	1,633		906		4,226		2,021
Total stock-based compensation	$	5,185	$	2,802	$	13,371	$	6,307

The following table presents stock-based compensation expense by award-type:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
	(in thousands)
Stock Options	$	1,332	$	1,390	$	3,468	$	4,442
Restricted Stock Units	3,299		995		8,438		1,089
Employee Stock Purchase Plan	554		417		1,465		776
Total stock-based compensation	$	5,185	$	2,802	$	13,371	$	6,307

As of September 30, 2015, unrecognized stock-based compensation related to outstanding stock options, RSUs and ESPP purchase rights, net of estimated forfeitures, was $12.6 million, $26.9 million and $2.6 million, respectively, which the Company expects to recognize over weighted-average periods of 2.68 years, 2.82 years and 1.17 years, respectively. The Company capitalized $0.3 million in stock-based compensation expense, for the nine months ended September 30, 2015, and $0.1 million and $0.2 million stock-based compensation expense for the three and nine months ended September 30, 2014, respectively, to internal-use cloud services platform.

8. NET LOSS PER SHARE

The Company calculates basic and diluted net loss per share of common stock allocable to common stockholders by dividing the net loss allocable to common stockholders by the weighted average number of common shares outstanding during the period. Diluted net loss per share of common stock is the same as basic net loss per share of common stock, since the effects of potentially dilutive securities are antidilutive. Upon completion of the IPO on April 2, 2014, all outstanding convertible preferred stocks were converted to common stock and were included in the weighted average number of common shares used to compute net loss per share from the conversion date.

For the period prior to the conversion of convertible preferred stock, the Company calculated the net loss per share in conformity with the two-class method as all series of convertible preferred stock were considered participating securities because they were entitled to receive noncumulative dividends prior and in preference to any dividends on shares of common stock. Due to the Company’s net losses during that period, there was no impact on the earnings per share calculation in applying the two-class method since the participating securities have no legal requirement to share in any losses.

The following table presents the computation of basic and diluted net loss per share allocable to common stockholders:



	Three Months Ended September 30,						Nine Months Ended September 30,
	2015			2014			2015			2014
	(in thousands, except for share and per share data)
Numerator:
Net loss	$	(11,281	)	$	(7,374	)	$	(38,776	)	$	(22,569	)
Denominator:
Weighted-average shares used to compute net loss per share, basic and diluted	47,724,142			45,606,694			46,975,649			32,803,436
Net loss per share:
Basic and diluted	$	(0.24	)	$	(0.16	)	$	(0.83	)	$	(0.69	)

The following period-end outstanding common stock equivalents were excluded from the computation of diluted net loss per share for the periods presented because including them would have been antidilutive:



	As of September 30,
	2015	2014
Shares of common stock issuable under the 2014 Equity Incentive Plan	11,345,256	9,500,993
Common stock subject to repurchase	—	36,000
Common stock issuable upon exercise of warrants	73,883	107,876
Employee Stock Purchase Plan	430,141	298,064
Total	11,849,280	9,942,933

9. INCOME TAXES

The provision for income taxes was approximately $0.2 million and $0.1 million, respectively, for the three months ended September 30, 2015 and 2014, and was $0.4 million and $0.2 million, respectively, for the nine months ended September 30, 2015 and 2014. The provision for income taxes consisted primarily of state taxes and foreign income taxes.

For the three and nine months ended September 30, 2015 and 2014, the provisions for income taxes differed from the statutory amount primarily due to maintaining a full valuation allowance against the U.S. net deferred tax assets, partially offset by foreign and state taxes.

The Company has intercompany services agreements with its subsidiaries located in the United Kingdom, New Zealand and China, which require payment for services rendered by these subsidiaries at an arm’s-length transaction price. The foreign tax expense represents foreign income tax payable by these subsidiaries on profit generated on intercompany services agreements.

Realization of deferred tax assets is dependent on future taxable income, the existence and timing of which is uncertain. Based on the Company’s history of losses, management has determined it cannot conclude that it is more likely than not that the deferred tax assets will be realized and accordingly, has placed a full valuation allowance against the net deferred tax assets. The Company maintained a full valuation allowance against its deferred tax assets as of September 30, 2015 and December 31, 2014, respectively.

10. SEGMENT INFORMATION

The Company’s chief operating decision maker (CODM) is its Chief Executive Officer. The Company derives its revenue primarily from sales of hardware products and software subscription and services. The Company’s CODM reviews financial information presented on a consolidated basis for purposes of allocating resources and evaluating financial performance. Accordingly, the Company determined that it operates as one reportable and operating segment.

The following table represents the Company's revenue based on the billing address of the respective VAR or the VAD:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
	(in thousands)
Americas	$	29,541	$	23,408	$	68,452	$	65,273
Europe, Middle East and Africa	10,374		9,076		28,670		26,080
Asia Pacific	2,865		2,842		8,311		9,759
Total revenues	$	42,780	$	35,326	$	105,433	$	101,112

Included within Americas in the above table is revenue from sales in the United States of $28.4 million and $22.2 million, respectively, during the three months ended September 30, 2015 and 2014, and $65.4 million and $61.7 million, respectively, during the nine months ended September 30, 2015 and 2014. Aside from the United States, no other country comprised 10% or more of the Company's total revenue for the three and nine months ended September 30, 2015 and 2014, respectively.

Property and equipment, net by location is summarized as follows:



	September 30,		December 31,
	2015		2014
	(in thousands)
United States	$	8,201	$	7,519
People's Republic of China	1,473		1,246
United Kingdom	242		97
Total property and equipment, net	$	9,916	$	8,862

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read together with our condensed consolidated financial statements and the other financial information appearing elsewhere in this Quarterly Report on Form 10-Q. This discussion and analysis contains forward-looking statements reflecting our current expectations and involves risks and uncertainties. The words “believe,” “will,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “should,” “plan,” “expect,” “predict,” “could,” “potentially” and similar expressions that convey uncertainty of future events or outcomes are intended to identify forward-looking statements. The following discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Our actual results and the timing of events may differ materially from those discussed in our forward-looking statements as a result of various factors, including those discussed below and those discussed in the section entitled “Risk Factors” included in this Quarterly Report on Form 10-Q. The following discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements include, but are not limited to, statements concerning the following:


•	our ability to predict our revenue, operating results and gross margin accurately;


•	the transition of newly hired management-level employees and their ability to improve our sales execution processes;


•	our ability to maintain revenue growth and achieve and maintain profitability;


•	our ability to timely develop, deliver and transition to new product offerings while maintaining our service level commitments to end-customers;


•	any potential loss of or reductions in orders from our larger customers;


•	our ability to achieve growth in key verticals, including the educational sector ;


•	our ability to maximize the economic opportunity of the U.S. Federal Communications Commission’s (“FCC”) E-Rate program and the timing of the availability of funding and decisions by end-customers to purchase our products using such funding;


•	the length and unpredictability of our sales cycles with service provider end-customers;


•	the effects of increased competition in and consolidation of our market and our ability to compete with larger competitors with greater financial, technical and other resources;


•	our ability to continue to enhance and broaden our product offering and bring new products to market;


•	our ability to maintain, protect and enhance our brand;


•	our ability to attract new end-customers within the verticals and geographies we currently operate in and those that we target;


•	our ability to predict economic, political and business conditions in the markets in which we operate;


•	our ability to maintain effective internal controls;


•	the quality of our products and services;


•	our ability to continue to build and enhance relationships with channel partners and particularly with our strategic partners, including Dell;


•	our ability to attract, hire, train and retain qualified employees and key personnel, particularly in sales and engineering;


•	our ability to maximize our sales execution process and effectively ramp sales in underdeveloped territories;


•	our ability to sell our products and effectively expand internationally;


•	claims from shareholders that we have violated the securities laws and claims that we infringe intellectual property rights of others, the expense to defend such claims and the uncertainty such claims create for us, including with respect to intellectual property claims, our ability to continue to sell and support our products;


•	our ability to effectively manage our growth;


•	the effects of fluctuations in currency exchange rates , in particular the recent strengthening of the U.S. dollar relative to certain currencies;


•	our ability to protect our intellectual property and exposure to third party claims that we or our customers or channel partners infringe their intellectual property; and


•	other risk factors included under the section titled “Risk Factors.”

These forward-looking statements are subject to a number of risks, uncertainties, and assumptions, including those described in “Risk Factors” included in Part II, Item 1A and elsewhere in this report. Moreover, we operate in a very competitive and rapidly changing environment, and new risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties, and assumptions, the forward-looking events and circumstances discussed in this report may not occur, and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements, except as required by law. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.

Overview

As a company, our goal is to be the leading independent cloud networking company, by delivering an open mobility platform that simplifies and transforms the connected experience through information, applications and insights. We have designed and developed a leading cloud-managed mobile networking platform that enables enterprises to deploy a mobile-centric network edge. Managing the network edge is becoming more complex because of the proliferation of mobile devices and the ways in which businesses use such devices. Increasingly, employees and clients are using Wi-Fi-enabled smartphones, tablets, laptops and other mobile devices instead of desktop computers for mission-critical business applications. The number and types of users continue to increase, as do the breadth of applications that users need to access on their mobile devices. As

the difficulty and complexity of managing the network edge expands, our platform offers simplicity, scalability, and security. Additionally, our platform gives end-customers context-based visibility and policy enforcement, providing a high level of intelligence to the network. Our hardware products include intelligent access points, routers and switches. We continue to develop and bring to market new hardware products in response to evolving customer needs and new technology standards, such as 802.11ac. These products are managed by our cloud services platform, which delivers cloud-based network management and mobility applications giving end-customers a single, unified and contextual view of the entire network edge. We continue to invest in our cloud platform, including our next generation version of the platform, HiveManager NG, which we released during our second quarter of our fiscal year 2015 that includes an updated user interface, more scalable cloud operations infrastructure, and greater access to the data collected by our devices.

We derive revenue by selling our hardware products and related software licenses or software subscription and services, which together comprise our cloud-managed networking platform. Our product revenue consists of revenue from sales of our hardware products, which includes wireless access points, branch routers and switches, all of which are embedded with our proprietary operating system, HiveOS, and perpetual licenses of our unified network management system, HiveManager, and other software applications, as well as related accessories. Our software subscription and services revenue consists of revenue from sales of our service offerings that we deliver over a specified term. These offerings primarily include post-contract customer support, or PCS, related to our perpetual software licenses and subscriptions to HiveManager and other software applications delivered as a service, or SaaS, including related customer support.

We sell our products and software subscription and services through our channel partners to our end-customers, who hold the licenses to use our products and our software subscription and services. We define end-customers as holding or having held licenses to our products and software subscription and services. When our end-customers purchase hardware products they are generally required to purchase for every hardware unit a software license for our unified management system, either as a perpetual license with PCS or as a SaaS license with a one-, three- or five-year term. Both our PCS and SaaS offerings include updates and upgrades of our software applications and our HiveOS operating system that are embedded in our hardware.

We maintain a field sales force that works to develop sales with our channel partners, who include VADs and VARs. Our channel partners purchase our products and services from us at a discount to our list prices and then resell them to our end-customers, directly or through re-sellers. A substantial portion of our sales within North America is made through VARs to sell our products and services to our end-customers. We sell to VARs upon identification of a specified end-customer. All of our sales outside of North America, as well as a portion of our sales within North America, are made through VADs, who may in turn then utilize resellers to sell our products and services to our end-customers. We typically sell to VADs upon identification of a specified end-customer. In some cases, however, our VADs purchase inventory from us for stocking and subsequently receive an order from an end-customer. For certain VADs, our agreements allow for stocking of our products in their inventory and provide related price protection or rebates as well as limited rights of return for stock rotation. We also sell to managed service providers, who incorporate our products, customer support and SaaS offerings into their services and support as an integrated offering. In these instances, we view the managed service provider as our end-customer.

Revenue of $42.8 million for our quarter ended September 30, 2015, was our highest quarterly performance to date. K-12 education continues to be a key driver of our business, accounting for approximately 45% of total business for the fiscal third quarter ended September 30, 2015, compared to approximately 40% of total business in the prior quarter and approximately 40% of total business in our fiscal third quarter a year ago. By comparison, healthcare and retail verticals combined comprised approximately 25% of our total business in the quarter (compared to approximately 20% of our total business in the prior quarter and approximately 20% of our total business in our fiscal third quarter a year ago). We also experienced continued growth from our existing customer base, with existing customers contributing approximately 73% of our business over the four-quarters ended September 30, 2015.

We primarily conduct business in three geographic regions: (1) Americas, (2) Europe, the Middle East and Africa ("EMEA"), and (3) Asia Pacific ("APAC"). From a geographic perspective, year-over-year revenue for the fiscal quarter ended September 30, 2015 increased by 26% in the Americas,14% in EMEA and 1% in APAC. For the three months ended September 30, 2015, 69% of our total revenue was generated from Americas, 24% from EMEA and 7% from APAC.

We added over 1,400 new end-customers during the quarter, bringing our total end-customer count to approximately 23,000 in over 40 countries as of September 30, 2015. Our end-customers totaled more than 22,000, 20,000, 19,000 and 17,000, for our fiscal quarters ended June 30 and March 31, 2015, and December 31 and September 30, 2014, respectively. Our end-customers represent a broad range of industry verticals, including K-12 and higher education, healthcare, retail and distributed enterprises.

Prior to 2015, we experienced a seasonal sequential decrease in our product revenue in our first fiscal quarter, but a sequential increase in product revenue from our fiscal first to our second quarter. This is generally due to annual budget cycles

in the enterprise and spending seasonality in the education vertical. Given the buying cycle for K-12 schools in our education vertical, the second quarter has usually been the strongest for our education vertical, which historically has driven this strong sequential growth in the second quarter. In addition, we typically see continued growth in our revenue to carry over from our second quarter to our third quarter. Prior to 2015, we also historically have seen a sequential increase in our fourth quarter from our third quarter total revenue due to end-of-year spending by enterprise customers, followed by a decline in revenue for the first quarter of the following fiscal year. In fiscal 2015 our seasonal trend changed as compared to prior years due to the timing and availability of funding under the federal E-Rate program. In 2015, E-Rate amplified the historical sequential decline in product revenue we previously experienced from the fourth quarter into the first quarter and shifted spending from the first half of the year into the second half of the year of 2015. As we look to 2016, we expect our seasonality to be similar to 2015, including a fourth quarter 2015 to first quarter 2016 decline in product revenue but we expect the decline to be significantly greater than we saw in the first quarter of 2014, but moderated as compared with the sequential decline in the first quarter of 2015.

E-Rate is the commonly used name for the Schools and Libraries Program of the Universal Service Fund, which is administered by the Universal Service Administrative Company (USAC) under the direction of the Federal Communications Commission (FCC). The program provides discounts to assist schools and libraries in the United States to obtain affordable telecommunications and Internet access.

Since any purchases made by schools before April 1, 2015 were not be eligible for E-Rate funding, and direct E-Rate funding was not available before July 1, 2015 and the school’s receipt of a Funding Commitment Decision Letter. Once funding is secured, end customers have until September 2016 to make their purchases. We believe that based on the availability of this federal funding end-customers in the education vertical deferred purchases until they secured E-Rate funding; specifically, end-customers who would have placed purchases in early 2015 instead are continuing to defer purchases until the second half of 2015 and into 2016.

We outsource the manufacturing of all of our products to contract manufacturers. We currently outsource the warehousing and delivery of our products to a third-party logistics provider for worldwide fulfillment, located in California and in The Netherlands.

We intend to continue to invest significant resources in the development of our innovative technologies and new product offerings, acquire new end-customers in new and existing geographies, and increase penetration within our existing end-customer base. We expect to continue to invest in our organization to meet the needs of our customers and to pursue opportunities in new and existing markets. In particular, we are investing to increase our sales capacity as well as our channel program. We believe our results for our third quarter fiscal 2015 showed improved execution in several areas of our operations.

Due to our continuing investments to grow our business, including internationally, in advance of and in preparation for, our expected increase in sales and expansion of our customer base, we are continuing to incur expenses in the near term. As a result, we may not be profitable for the foreseeable future and our use of cash over this period could also be greater and extend over a longer period as we make investments in areas of our operations, such as sales, marketing and research and product and channel partner development, which we feel may promote growth and profitability over the long term. We believe that over the long term, we will be able to leverage these investments in the form of a higher revenue growth rate compared to the growth rate of our operating expenses.

However, we may not in fact realize any long-term benefit from these investments.

Opportunities and Challenges

We believe that the growth of our business and our future success depends upon many factors, including our ability to continue to develop innovative technologies and timely provide new product offerings to the marketplace; stabilize and improve performance of our sales function, in particular in our less developed territories; increase our sales capacity and develop our channel partner program; acquire new end-customers, both in the geographies in which we currently operate as well as in new geographies; expand our end-customer base and increase penetration within our existing end-customer base (including through new product offerings); and at the same time demonstrate to our investors and financial analysts that we can achieve profitability on an acceptable timeline.

We operate in the highly competitive wired and wireless network access products market. This market continues to evolve and is characterized by rapid technological innovation. We will need to continue to innovate in order to continue to achieve market adoption of our products and services. We also continue to invest to extend our product offering to include a family of Ethernet switches and branch routers to complement our wireless offering and allow us to deliver a unified wired and wireless network edge. We have continued the expansion of our product portfolio, announcing HiveManager NG in April 2015,

as a new version of our cloud services platform that includes an updated user interface, greater operational capacity to support large deployments, and longer data retention. During the quarter ended September 30, 2015, HiveManager NG was available to our end customers in either a subscription public cloud or on-premises private cloud deployment. Over the last four quarters, approximately 75% of our end-customers and approximately 40% of our access point products in operation were deployed using our public cloud platform. In September 2015, we announced that we received the third-highest product score in Gartner’s Critical Capabilities for Wired and Wireless LAN Access Infrastructure, based on the Enterprise Wireless-Only Connectivity, Voice Over WLAN, and IaaS or Managed Service Use Cases.

In addition, our market is currently in the midst of an evolution in related wireless technology standards and protocols. For example, wireless standards for our market currently are transitioning from 802.11n to the new 802.11ac standard, which uses new radio hardware to deliver substantially higher wireless performance. As these standards were being developed and finalized, we performed hardware and software development, both internally and with our original design manufacturers, or ODMs, to incorporate these standards into our product offerings. We also continue to develop new functionality in our product offerings to take advantage of the changes that these industry standards incorporated. Overall, our 802.11 ac products accounted for 80% of our access point unit volume shipments in the quarter ended September 30, 2015, compared to 74% for the quarter ended June 30, 2015 and 64% for March 31, 2015.

In order to maintain a competitive position in this market, we continue to develop our next-generation “Wave 2” 802.11ac access points to extend our portfolio and address higher-performance use cases. We currently expect our initial Wave 2 products to be available in early 2016, and that schedule will meet potential customer demand for these products (including demand in our important education vertical); however, this schedule will lag availability of the Wave 2 products some of our competitors have announced. For example, some competitors announced earlier in 2015 availability of their first Wave 2 products. Existing or potential customers may elect to not to purchase our products or defer purchases they otherwise would make of our products in anticipation of competing Wave 2 products or of our Wave 2 802.11ac access points.

We have developed a cloud services platform to provide network management and support additional value-added applications. HiveManager, our network management application, provides a single management interface that customers use to configure network policies, monitor and troubleshoot performance, manage access and security, and run reports on network operations. Our cloud services platform allows us to deliver vertical applications, such as our TeacherView classroom management application for K-12 education; guest access, such as our ID Manager application for providing temporary secure network access; and integration to partners' solutions. HiveManager NG, a new version of our cloud services platform includes an updated user interface, greater operational capacity to support large deployments, and longer data retention. Our focus is to transition new and existing end customers to HiveManager NG and make our cloud services platform and applications available to customers in either a subscription public cloud or on-premises private cloud deployment.

When we introduce new product offerings, such as the release of the new version of our cloud services or new hardware platforms, we must effectively manage the timing of such releases to minimize the disruption to our existing product offerings and revenue streams. We must manage the orderly transition of our end-customers to these new products and services to reduce the amount of inventory for products that may become obsolete or slow moving due to our new product introductions and to limit the disruption to our end-customers’ ordering practices and the pricing environment for our legacy products and services. In addition, we also must monitor the performance of these products and provide additional support as they are adopted and first used in the field and performance issues are identified at scales of use greater than we may be able to create or anticipate during product development. We will need to continue to react and respond to these changes through innovation and improved execution in order for our business to succeed, and will incur related research and development and support expenses as we do it.

We intend to target new end-customers within the industry verticals and geographies in which we currently operate, as well as through expansion into new verticals and geographies. We announced that we won in our third quarter one of the 10 largest retailers in the world, deploying a unified solution with our Wi-Fi and switches based on our cloud-managed solution. We were also selected in the quarter as the new Wi-Fi solution by Sodexo - the worldwide leader in quality of life services with over 400,000 employees around the world.

Our ability to develop and make more productive relationships with our solution and channel partners and our channel partners’ ability to effectively develop sales opportunities and distribute our products continues to be a key opportunity for us. For example, we announced in April 2015 a new relationship with Dell Inc., whereby Dell will become a reseller of Aerohive’s Wi-Fi and cloud services, and that the two companies expect to work together to execute their shared vision of cloud-managed IT to provide simplified and streamlined operations, configuration, monitoring and troubleshooting for customer networks, and in September 2015, we announced with Brocade and Juniper Networks collaborations that allow us to meet in the channel and co-sell a combined wired and wireless solutions to our end-customers. We also have an existing relationship with Apple, where certain of our access point products can be purchased through Apple’s online retail website. To support these new relationships,

we are continuing to identify and invest in additional and dedicated resources and, potentially, new product, service and support offerings.

Key Components of Our Results of Operations and Financial Condition

Revenue

We generate revenue from the sales of our products and services, and recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is reasonably assured.

Our total revenue comprises the following:

Product Revenue. Our product revenue consists of revenue from sales of our hardware products, which include wireless access points, branch routers, and switches, all of which are embedded with our proprietary operating system, HiveOS, and perpetual licenses of our unified network management system, HiveManager, and other software applications, as well as related accessories. We recognize product revenue at the time of shipment, provided that all other revenue recognition criteria have been met. For our VAD arrangements in which our VADs stock inventory, we recognize revenue when our VADs have shipped the products to our end-customers (or to VARs that have identified end-customers), provided that all other revenue recognition criteria have been met.

Software Subscription and Services Revenue. Our software subscription and services revenue consists of revenue from sales of our software subscription and services offerings that we deliver over a specified term. These offerings primarily include PCS related to our perpetual software licenses and subscriptions to HiveManager and other software applications delivered as SaaS, including related customer support, and from subsequent renewals of those contracts. To benefit fully from potential contract renewals we plan to continue to invest in systems which track existing customer support commitments and renewal opportunities and provide offerings which continue to be attractive to our customers. Our PCS includes tiered maintenance and support services under renewable, fee-based maintenance and support contracts, which include technical support, bug fixes, access to priority hardware replacement services and unspecified upgrades on a when-and-if-available basis. Our SaaS subscriptions include comparable maintenance and support services. The higher the percentage of our end-customers that purchase SaaS subscriptions, as opposed to HiveManager and PCS, the higher our software subscription and services revenue will be as a percentage of our total revenue. We recognize software subscription and services revenue ratably over the term of the contract, which is typically one, three or five years. As a result, our recognition of software subscription and services revenue lags our recognition of related product revenue.

Cost of Revenue

Our cost of revenue includes the following:

Cost of Product Revenue. Our cost of product revenue primarily includes manufacturing costs of our products payable to third-party manufacturers. Our cost of product revenue also includes personnel costs, including stock-based compensation, shipping costs, third-party logistics costs, provisions for excess and obsolete inventory, warranty and replacement costs, the depreciation and amortization of testing and imaging equipment, inbound license fees, certain allocated facilities and information technology infrastructure costs, and other expenses associated with logistics and quality control.

Cost of Software Subscription and Services Revenue. Our cost of software subscription and services revenue primarily includes personnel costs, including stock-based compensation, certain allocated facilities information technology infrastructure costs, costs associated with our provision of PCS and SaaS, and datacenter costs. Our cost of software subscription and services revenue also includes amortization of our internally developed, next-generation cloud services platform, which we completed and launched in April 2015.

Gross Profit

Our gross profit has been and will continue to be affected by a variety of factors, including product shipment volumes, average sales prices of our products, discounts we offer to our VAR and VAD partners, the mix of revenue between products and software subscription and services, and the mix of hardware products sold, because our hardware products have varying gross margins depending on the product offering and the lifecycle of the product. Historically, our software subscription and services gross margin has been lower than our product gross margin; however, we expect our software subscription and services gross margin to increase over the long term because we expect our software subscription and services revenue to increase more quickly than our cost of software subscription and services revenue. We expect our gross margin to be volatile and may decrease in any given time in the event we experience additional competitive pricing pressure. For example, competitors such as Cisco Systems and Hewlett Packard (who recently acquired Aruba Networks) have significantly greater financial resources

and could attempt to gain a competitive advantage over us by aggressively lowering prices. We also expect that our gross margin will fluctuate from period to period depending on the factors described above.

Operating Expenses

Our operating expenses include the following:

Research and Development. Our research and development expenses consist primarily of personnel costs, including bonuses, stock-based compensation, recruiting fees and travel expenses for employees engaged in research, design and development activities. Research and development expenses also include costs for prototype-related expenses, product certification, consulting services, depreciation and certain allocated facilities and information technology infrastructure costs. We believe that continued investment in research and development is important to attaining our strategic objectives. We expect our research and development expenses to continue to increase in absolute dollars for the foreseeable future as we continue to invest in the development of our products and services. Our research and development expenses may fluctuate as a percentage of our total revenue from period to period due to the seasonality of our total revenue and the timing and extent of our research and development expenses.

Sales and Marketing. Our sales and marketing expenses consist primarily of personnel costs, including commission costs, stock-based compensation, recruiting fees and travel expenses for employees engaged in sales and marketing activities. Commission expenses in any given period are based on completed contracts, which may not result in revenue in the same period in which we incur the expense. Sales and marketing expenses also include the cost of trade shows, marketing programs, promotional materials, demonstration equipment, consulting services, depreciation and certain allocated facilities and information technology infrastructure costs. We expect our sales and marketing expenses to continue to increase in absolute dollars as we increase the size of our sales and marketing organization, expand into new markets and further develop our channel program. Our sales and marketing expenses may fluctuate as a percentage of our total revenue from period to period due to the seasonality of our total revenue and the timing and extent of our sales and marketing expenses.

General and Administrative. Our general and administrative expenses consist primarily of personnel costs, including bonuses, stock-based compensation and travel expenses for our executive, finance, human resources, legal and operations employees, as well as compensation for our Board. General and administrative expenses also include fees for outside consulting, legal, audit, investor relations, and accounting service and insurance, as well as depreciation and certain allocated facilities and information technology infrastructure costs. As a public company we also have experienced increased litigation, relating both to intellectual property claims of others as well as securities claims brought by certain of our stockholders. Defending and resolving these claims, including under indemnity commitments we have made to third parties, has imposed new costs on us. We expect our general and administrative expenses to continue to increase in absolute dollars due to the additional legal, accounting, insurance, investor relations, information technology and other costs that we will continue to incur as a public company, as well as other costs associated with growing our business. Our general and administrative expenses may fluctuate as a percentage of our total revenue from period to period due to the seasonality of our total revenue and the timing and extent of our general and administrative expenses.

Interest Expense

Our interest expense consists primarily of interest on our indebtedness. See Note 4 of our condensed consolidated financial statements included elsewhere in this Form 10-Q for more information about our debt.

Other Income

Other income primarily consists of gains from foreign currency exchange transactions.

Provision for Income Taxes

Our provision for income taxes consists primarily of foreign tax expense due to our cost-plus agreements with our foreign entities, which guarantee foreign entities a profit, and to a lesser extent federal and state income tax expense. As of September 30, 2015 and December 31, 2014, respectively, we maintained a full valuation allowance against our domestic deferred tax assets, including net operating loss carryforwards and research and development and other tax credits. We expect our provision for income taxes to increase in absolute dollars in future periods.

Results of Operations

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



	Three Months Ended September 30,						Nine Months Ended September 30,
	2015			2014			2015			2014
Revenue:
Product	$	36,130		$	30,776		$	87,361		$	89,358
Software subscription and services	6,650			4,550			18,072			11,754
Total revenue	42,780			35,326			105,433			101,112
Cost of revenue⁽¹⁾:
Product	11,707			9,764			28,134			28,206
Software subscription and services	2,686			1,678			7,040			4,683
Total cost of revenue	14,393			11,442			35,174			32,889
Gross profit	28,387			23,884			70,259			68,223
Operating expenses:
Research and development⁽¹⁾	10,098			7,544			26,491			20,515
Sales and marketing⁽¹⁾	22,083			18,056			61,657			53,636
General and administrative⁽¹⁾	7,212			5,224			19,665			15,196
Operating loss	(11,006		)	(6,940		)	(37,554		)	(21,124		)
Interest income	21			10			54			19
Interest expense	(140		)	(458		)	(1,067		)	(1,382		)
Other income	59			95			213			154
Loss before income taxes	(11,066		)	(7,293		)	(38,354		)	(22,333		)
Income tax provision	(215		)	(81		)	(422		)	(236		)
Net loss and comprehensive loss	$	(11,281	)	$	(7,374	)	$	(38,776	)	$	(22,569	)

⁽¹⁾Includes stock-based compensation as follows:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
Cost of revenue	$	249	$	107	$	631	$	225
Research and development	1,338		724		3,325		1,577
Sales and marketing	1,965		1,065		5,189		2,484
General and administrative	1,633		906		4,226		2,021
Total stock-based compensation expense	$	5,185	$	2,802	$	13,371	$	6,307

The following table sets forth our results of operations for the periods presented as a percentage of our total revenue:



	Three Months Ended September 30,				Nine Months Ended September 30,
	2015		2014		2015		2014
Revenue:
Product	84	%	87	%	83	%	88	%
Software subscription and services	16		13		17		12
Total revenue	100		100		100		100
Cost of revenue:
Product	28		28		26		28
Software subscription and services	6		5		7		5
Total cost of revenue	34		32		33		33
Gross profit	66		68		67		67
Operating expenses:
Research and development	24		22		25		20
Sales and marketing	50		51		59		53
General and administrative	17		15		19		15
Operating loss	(25	)	(20	)	(36	)	(21	)
Interest income	—		—		—		—
Interest expense	—		(1	)	(1	)	(1	)
Other income	—		—		—		—
Loss before income taxes	(25	)	(21	)	(37	)	(22	)
Income tax provision	(1	)	—		—		—
Net loss and comprehensive loss	(26	)%	(21	)%	(37	)%	(22	)%

Revenues



	Three Months Ended September 30,										Nine Months Ended September 30,
	2015			2014			$ Change		% Change		2015			2014			$ Change			% Change
	(dollars in thousands)										(dollars in thousands)
Revenues:
Product	$	36,130		$	30,776		$	5,354	17	%	$	87,361		$	89,358		$	(1,997	)	(2	)%
Software subscription and services	6,650			4,550			2,100		46	%	18,072			11,754			6,318			54	%
Total revenue	$	42,780		$	35,326		$	7,454	21	%	$	105,433		$	101,112		$	4,321		4	%

Percentage of revenues:
Product	84		%	87		%					83		%	88		%
Software subscription and services	16		%	13		%					17		%	12		%
Total	100		%	100		%					100		%	100		%



	Three Months Ended September 30,										Nine Months Ended September 30,
	2015			2014			$ Change		% Change		2015			2014			$ Change			% Change
	(dollars in thousands)										(dollars in thousands)
Revenue by geographic region:
Americas	$	29,541		$	23,408		$	6,133	26	%	$	68,452		$	65,273		$	3,179		5	%
EMEA	10,374			9,076			1,298		14	%	28,670			26,080			2,590			10	%
APAC	2,865			2,842			23		1	%	8,311			9,759			(1,448		)	(15	)%
Total revenue	$	42,780		$	35,326		$	7,454	21	%	$	105,433		$	101,112		$	4,321		4	%

Percentage of revenue by geographic region:
Americas	69		%	66		%					65		%	64		%
EMEA	24		%	26		%					27		%	26		%
APAC	7		%	8		%					8		%	10		%
Total	100		%	100		%					100		%	100		%

Revenue increased $7.5 million, or 21% for the three months ended September 30, 2015 as compared to the three months ended September 30, 2014, and increased $4.3 million, or 4% for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014.

Product revenue increased $5.4 million for the three months ended September 30, 2015, compared to the comparable period in 2014, primarily due to higher product unit shipments. Product revenue decreased $2.0 million for the nine months ended September 30, 2015, compared to the comparable period in 2014, due to the decrease in shipments of product units in the first half of fiscal 2015, primarily because of lower demand in the U.S education business due to the various aspects and timing of the Federal E-Rate program.

Software subscription and services revenue increased $2.1 million for the three months ended September 30, 2015, compared to the comparable period in 2014, and increased $6.3 million for the nine months ended September 30, 2015, compared to the comparable period in 2014, primarily driven by the increase in sales of SaaS in connection with an increased number of our end-customers, and recognition of deferred revenue.

For the three and nine months ended September 30, 2015, as compared to the comparable periods in 2014, the Americas' revenue increased $6.1 million and $3.2 million, respectively, and EMEA revenues increased $1.3 million and $2.6 million, respectively, both due to increased demand for our products in these regions.

Cost of Revenues and Gross Margin



	Three Months Ended September 30,										Nine Months Ended September 30,
	2015			2014			$ Change		% Change		2015			2014			$ Change			% Change
	(dollars in thousands)										(dollars in thousands)
Cost of revenues:
Product	$	11,707		$	9,764		$	1,943	20	%	$	28,134		$	28,206		$	(72	)	—	%
Software subscription and services	2,686			1,678			1,008		60	%	7,040			4,683			2,357			50	%
Total cost of revenues	$	14,393		$	11,442		$	2,951	26	%	$	35,174		$	32,889		$	2,285		7	%

Gross margin:
Product	67.6		%	68.3		%					67.8		%	68.4		%
Software subscription and services	59.6		%	63.1		%					61.0		%	60.2		%
Total gross margin	66.4		%	67.6		%					66.6		%	67.5		%

Cost of revenue increased $3.0 million, or 26%, for the three months ended September 30, 2015, as compared to September 30, 2014, and increased $2.3 million, or 7%, for the nine months ended September 30, 2015 as compared to September 30, 2014.

Cost of product revenue increased $1.9 million, for the three months ended September 30, 2015 as compared to the comparable period in 2014, primarily due to the increase in sales of our products. For the nine months ended September 30, 2015, cost of product revenue remained flat as compared to the comparable period in 2014.

Cost of software subscription and services increased $1.0 million or 60%, for the three months ended September 30, 2015, compared to the comparable period in 2014, and increased $2.4 million or 50%, for the nine months ended September 30, 2015, compared to the comparable period in 2014, primarily due to the commencement of our amortization of the costs for our internally developed next-generation cloud services platform in the second quarter of fiscal 2015, and an increase in cloud operation resources as well as headcount.

Our gross margin was 66.4% and 67.6% for the three months ended September 30, 2015 and 2014, respectively, and was 66.6% and 67.5% for the nine months ended September 30, 2015 and 2014, respectively. The decrease of gross margin was primarily driven by decrease of product gross margin.

Our product gross margin was 67.6% and 68.3% for the three months ended September 30, 2015 compared to the comparable period in 2014, and was 67.8% and 68.4% for the nine months ended September 30, 2015 compared to the comparable period in 2014. The product gross margin decrease was driven primarily by an excess and obsolete inventory charge taken in the quarter. In addition, our product gross margin was impacted by higher discounts provided in our international markets to offset the strength of the U.S. dollar.

Our software subscription and services gross margin was 59.6% and 63.1% for the three months ended September 30, 2015 compared to the comparable period in 2014, and was 61.0% and 60.2% for the nine months ended September 30, 2015 compared to the comparable period in 2014. The decrease in our software subscription and services gross margin was primarily due to higher cost of software subscription and services, primarily our cloud services platform amortization that commenced in the second quarter of fiscal 2015.

Research and Development



	Three Months Ended September 30,										Nine Months Ended September 30,
	2015			2014			$ Change		% Change		2015			2014			$ Change		% Change
	(dollars in thousands)										(dollars in thousands)
Research and development	$	10,098		$	7,544		$	2,554	34	%	$	26,491		$	20,515		$	5,976	29	%
% of revenue	24		%	22		%					25		%	20		%

Research and development expenses increased $2.6 million, for the three months ended September 30, 2015 as compared to the comparable period in 2014, primarily due to a $1.2 million higher capitalized personnel and related costs,

including wages, bonuses and stock-based compensation, for development of our cloud services platform in the third fiscal quarter 2014, and higher stock-based compensation expense of $0.5 million in the third fiscal quarter 2015, driven by our increased research and development headcount to support continued investment in our future product and service offerings.

Research and development expenses increased $6.0 million, for the nine months ended September 30, 2015 as compared to the comparable period in 2014, primarily due to an increase of $3.1 million personnel and related costs, including stock-based compensation expense of $1.8 million, driven by our increased research and development headcount to support continued investment in our future product and service offerings, and a $1.8 million higher capitalized personnel and related costs, including wages, bonuses and stock-based compensation, for development of our cloud services platform for the nine months ended September 30, 2014. In April 2015, we completed and launched such cloud services platform and began to amortize the capitalized development costs as part of the cost of software subscription and services, over an estimated useful life of 5 years.

The remaining increase in our research and development expenses for the three and nine months ended September 30, 2015 as compared to the comparable period in 2014 was mainly due to higher costs related to our research and development activities and certain allocated facilities. We expect our research and development costs to continue to increase in absolute dollars, as we continue to invest in developing new products and new versions of our existing products.

Sales and Marketing



	Three Months Ended September 30,										Nine Months Ended September 30,
	2015			2014			$ Change		% Change		2015			2014			$ Change		% Change
	(dollars in thousands)										(dollars in thousands)
Sales and marketing	$	22,083		$	18,056		$	4,027	22	%	$	61,657		$	53,636		$	8,021	15	%
% of revenue	50		%	51		%					59		%	53		%

For the three months ended September 30, 2015 as compared to the comparable period in 2014, the increase in our sales and marketing expenses was primarily due to increases in personnel and related costs of $3.5 million, including higher stock-based compensation expense of $0.9 million, and other employee related costs, due to headcount increase, as well as $0.3 million higher marketing program expenses.

For the nine months ended September 30, 2015 as compared to the comparable period in 2014, the increase in our sales and marketing expenses was primarily due to increases in personnel and related costs of $7.1 million, including higher stock-based compensation expense of $2.7 million, higher headcount and other employee related costs. We expect that sales and marketing expenses will continue to increase in absolute dollars as we continue to add sales personnel and continue marketing programs.

General and Administrative



	Three Months Ended September 30,										Nine Months Ended September 30,
	2015			2014			$ Change		% Change		2015			2014			$ Change		% Change
	(dollars in thousands)										(dollars in thousands)
General and administrative	$	7,212		$	5,224		$	1,988	38	%	$	19,665		$	15,196		$	4,469	29	%
% of revenue	17		%	15		%					19		%	15		%

For the three months ended September 30, 2015 as compared to the comparable period in 2014, the increase in our general and administrative expenses was primarily due to increases in personnel and related costs of $1.2 million, including stock-based compensation of $0.7 million.

For the nine months ended September 30, 2015 as compared to the comparable period in 2014, the increase in our general and administrative expenses was primarily due to increases in personnel and related costs of $3.3 million, including stock-based compensation expense of $2.0 million. The increase of general and administrative expenses was also due to higher costs of litigation and professional services. We expect that general and administrative expenses will continue to increase in absolute dollars due primarily to costs associated with being a public company and to support the growth in our business.

Interest Expense



Three Months Ended September 30,			Nine Months Ended September 30,
2015	2014	$ Change