# Priority Technology Holdings, Inc. (PRTH) FY 2024 MD&A

Verbatim Item 7 Management's Discussion and Analysis from Priority Technology Holdings, Inc.'s 10-K for fiscal year 2024.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1653558/000165355825000039/prth-20241231.htm
Accession: 0001653558-25-000039
Filing date: 2025-03-06
Report date: 2024-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary. Published MD&A gate trimmed front/tail over-capture.
Confidence: high

Company profile: /company/PRTH/
All MD&A years: /company/PRTH/mda/
Previous year: /company/PRTH/mda/fy2023/ (FY 2023)
Next year: /company/PRTH/mda/fy2025/ (FY 2025)

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following management's discussion and analysis of financial condition and results of operations should be read together with our audited financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. This section of this Form 10-K generally discusses 2024 and 2023 items and year-over-year comparisons between 2024 and 2023. Discussions of 2023 items and year-over-year comparisons between 2023 and 2022 are not included in this Form 10-K, and can be found in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Part II, Item 7 of the Company's Annual Report on Form 10-K for the year ended December 31, 2023.

Certain amounts in this section may not add mathematically due to rounding.

For a description and additional information about our three reportable segments, see Note 19. Segment Information, contained in "Item 8 - Financial Statements and Supplementary Data" of this Annual Report on Form 10-K.

Results of Operations 

This section includes certain components of our results of operations for the years ended December 31, 2024 (or "2024"), and December 31, 2023 (or "2023"). We have derived this data, except key indicators including merchant bankcard processing dollar values and transaction count (SMB Payments), issuing dollar volume and transaction count (B2B Payments), and average billed clients and new enrollments (Enterprise Payments), from our audited Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K.

Revenue

For the year ended December 31, 2024, our consolidated revenue of $879.7 million increased by $124.1 million, or 16.4%, from $755.6 million for the year ended December 31, 2023. This overall increase was driven by increases in merchant bankcard processing dollar value and transaction count in our SMB Payments segment, an increase in new enrollments and higher interest income on permissible investments in our Enterprise Payments segment and an increase in revenue from CPX due to increase in volumes and Plastiq business acquired during the third quarter of 2023 in B2B Payments segment.

Revenues by type for 2024 and 2023 were as follows:

[[GREPCENT_TABLE]]
[["(in thousands)","Years Ended December 31,","","2024 vs 2023"],["","2024","","2023","","","","$ Change"],["Revenue Type:"],["Merchant card fees","$","670,411","","$","595,205","","","","$","75,206"],["Money transmission services","130,123","","98,137","","","","31,986"],["Outsourced services and other services","67,018","","49,600","","","","17,418"],["Equipment","12,150","","12,670","","","","(520)"],["Total revenues","$","879,702","","$","755,612","","","","$","124,090"]]
[[/GREPCENT_TABLE]]

Merchant Card Fees

For the year ended December 31, 2024, our merchant card fees revenue of $670.4 million increased by $75.2 million, or 12.6%, from $595.2 million for the year ended December 31, 2023. This increase was primarily driven by revenue from the Plastiq business that was acquired during the third quarter of 2023 and increased bankcard processing dollar values and transaction counts in SMB payments.

Money Transmission Services

Money transmission services revenue of $130.1 million for the year ended December 31, 2024 increased by $32.0 million or 32.6%, from $98.1 million for the year ended December 31, 2023 and is primarily driven by an increase in customer enrollments.

33

Table of Contents

Outsourced Services and Other Services

Outsourced services and other services revenue of $67.0 million for the year ended December 31, 2024 increased by $17.4 million, or 35.1%, from $49.6 million for the year ended December 31, 2023. This increase was primarily due to growth in interest income on permissible investments due to higher interest rates and deposit balances and additional revenues generated by our B2B Payments segment.

Equipment

Equipment revenue of $12.2 million for the year ended December 31, 2024, decreased by $0.5 million, or 4.1%, from $12.7 million for the year ended December 31, 2023. The decrease was primarily due to a decrease in point-of-sale equipment sales volume.

Operating Expenses

Operating expenses for 2024 and 2023 were as follows:

[[GREPCENT_TABLE]]
[["(in thousands)","Years Ended December 31,","","2024 vs 2023"],["","2024","","2023","","","","$ Change"],["Operating expenses"],["Cost of services (excludes depreciation and amortization)","$","551,621","","$","480,307","","","","$","71,314"],["Salary and employee benefits","89,216","","79,974","","","","9,242"],["Depreciation and amortization","58,041","","68,395","","","","(10,354)"],["Selling, general and administrative","47,403","","45,412","","","","1,991"],["Total operating expenses","$","746,281","","$","674,088","","","","$","72,193"]]
[[/GREPCENT_TABLE]]

Costs of Services (excludes depreciation and amortization)

Costs of services (excludes depreciation and amortization) of $551.6 million for the year ended December 31, 2024 increased by $71.3 million, or 14.8%, from $480.3 million for the year ended December 31, 2023, primarily due to the corresponding increase in revenues. For the year ended December 31, 2024, costs of services (excluding depreciation and amortization) as a percentage of total revenues decreased to 62.7% as compared to 63.6% for the year ended December 31, 2023. This decrease was primarily due to the increase in interest income on permissible investments and money transmission revenues which do not have significant cost of services offset by certain credit losses, obsolete inventory write offs and, mix related margin compression.

Salary and employee benefits

Salary and employee benefits expense of $89.2 million for the year ended December 31, 2024 increased by $9.2 million, or 11.6%, from $80.0 million for the year ended December 31, 2023, primarily due to higher wages, and increased headcount from acquisitions to support overall growth of the Company. The Company's employee headcount increased to 1,019 in 2024 from 977 in 2023.

Depreciation and amortization expense

Depreciation and amortization expense of $58.0 million for the year ended December 31, 2024 decreased by $10.4 million, or 15.1%, from $68.4 million for the year ended December 31, 2023, primarily due to full amortization of certain intangible assets partially offset by the depreciation of new assets placed in service.

34

Table of Contents

Selling, general and administrative

Selling, general and administrative expenses of $47.4 million for the year ended December 31, 2024 increased by $2.0 million, or 4.4%, from $45.4 million for the year ended December 31, 2023, primarily due to increase of $8.5 million in marketing, software, management fee, bad debt write offs and other operating expenses offset by decrease in restructuring expenses ($3.5 million), legal and professional expenses ($1.5 million) primarily related to acquisitions, and gain from changes in fair value of contingent consideration ($1.5 million).

Other Expenses, net

[[GREPCENT_TABLE]]
[["(in thousands)","Years Ended December 31,","","2024 vs 2023"],["","2024","","2023","","","","$ Change"],["Other expense"],["Interest expense","$","(88,948)","","$","(76,108)","","","","$","(12,840)"],["Debt extinguishment and modification costs","(10,369)","","\u2014","","","","(10,369)"],["Other income, net","3,177","","1,736","","","","1,441"],["Total other expenses, net","$","(96,140)","","$","(74,372)","","","","$","(21,768)"]]
[[/GREPCENT_TABLE]]

Interest expense

Interest expense of $88.9 million for the year ended December 31, 2024 increased by $12.8 million, or 16.9%, from $76.1 million for the year ended December 31, 2023, due to higher debt balances to fund the redemption of the redeemable senior preferred stock partially offset by a decrease in interest rates during the fourth quarter of 2024.

Debt extinguishment and modification costs

Debt extinguishment and modification costs for the year ended December 31, 2024 increased by $10.4 million or 100%, from the year ended December 31, 2023, due to debt refinancings (see Note 10. Debt Obligations). Other income, net of $3.2 million for the year ended December 31, 2024 increased by $1.4 million, or 83.0%, from $1.7 million for the year ended December 31, 2023, due to increased interest income from the Company's operating accounts.

Income tax expense

[[GREPCENT_TABLE]]
[["(in thousands)","Years Ended December 31,","","2024 vs 2023"],["","2024","","2023","","","","$ Change"],["Income before income taxes","$","37,281","","","$","7,152","","","","","$","30,129"],["Income tax expense","$","13,266","","","$","8,463","","","","","$","4,803"],["Effective tax rate","35.6","%","","118.3","%"]]
[[/GREPCENT_TABLE]]

The decrease in the effective tax rate from 2023 to 2024 is primarily due to a reduction in the amount of additional valuation allowance recorded against certain business interest carryover deferred tax assets.

Our consolidated effective income tax rates differ from the statutory rate due to timing and permanent differences between amounts calculated under GAAP and the U.S. tax code. The consolidated effective income tax rate for 2024 may not be indicative of our effective tax rate for future periods.

35

Table of Contents

Earnings Attributable to Common Shareholders

[[GREPCENT_TABLE]]
[["(in thousands)","Years Ended December 31,","","2024 vs 2023"],["","2024","","2023","","","","$ Change"],["Net income (loss)","$","24,015","","$","(1,311)","","","","$","25,326"],["Less: Dividends, accretion and related excise tax attributable to redeemable senior preferred stockholders","(47,336)","","(47,744)","","","","408"],["Less: NCI preferred unit redemptions, net of deferred tax benefit","(639)","","\u2014","","","","(639)"],["Net loss attributable to common shareholders","$","(23,960)","","$","(49,055)","","","","$","25,095"]]
[[/GREPCENT_TABLE]]

Dividends, accretion and related excise tax attributable to redeemable senior preferred stockholders consists of $27.7 million of dividends, $16.9 million of accretion and $2.7 million of excise tax related to redemption of redeemable senior preferred stock and redeemable NCI for the year ended December 31, 2024. The balance remained consistent as compared to 2023 due to redemption of redeemable senior preferred stock during 2024.

Segment Results

The Company's chief operating decision makers ("CODM") are our CEO and CFO. The CODM uses adjusted earnings before interest expense, income tax and depreciation and amortization expenses ("Adjusted EBITDA") as measures of segment profit and loss to allocate resources.

Adjusted EBITDA represents, EBITDA, adjusted for certain non-cash costs, such as stock-based compensation and the write-off of the carrying value of investments or other assets, as well as debt extinguishment and modification expenses and other expenses and income items considered non-recurring, such as acquisition integration expenses, certain professional fees, and litigation settlements. Adjusted EBITDA is a non-GAAP measure and therefore, a reconciliation to net income (loss) (a GAAP measure) is included herein.

Operating overhead and shared costs are managed centrally and included in corporate.

This non-GAAP financial measure helps to understand the underlying financial and business trends relating to results of operations of the Company and therefore used as a measure of segment profit or loss for the purposes of evaluation of segment performance and allocation of resources.

SMB Payments

[[GREPCENT_TABLE]]
[["(in thousands)","Year Ended December 31,"],["","2024","","2023","","Change"],["Revenues","$","613,547","","","$","583,251","","","$","30,296"],["Adjusted EBITDA","108,913","","","109,485","","","$","(572)"],["Key Indicators:"],["Merchant bankcard processing dollar value","$","61,703,021","","","$","59,054,039","","","$","2,648,982"],["Merchant bankcard transaction count","755,989","","","696,203","","","59,786"],["Total card processing dollar value","$","71,566,091","","","$","68,489,886","","","$","3,076,205"]]
[[/GREPCENT_TABLE]]

Revenue

Revenue from our SMB Payments segment was $613.5 million for the year ended December 31, 2024, compared to $583.3 million for the year ended December 31, 2023. The increase of $30.3 million, or 5.2%, was primarily driven by merchant card fee rate and bankcard processing dollar value and transaction count increases. The Company's merchant card fee revenue from the SMB Payments segment ($595.0 million for 2024 and $564.3 million for 2023) as a percentage of merchant bankcard

36

Table of Contents

processing dollar value during 2024 increased to 0.96% from 0.95% during 2023. The increase was primarily driven by changes in the merchant mix.

Adjusted EBITDA

Adjusted EBITDA from our SMB Payments segment was $108.9 million for the year ended December 31, 2024, compared to $109.5 million for the year ended December 31, 2024. The decrease of $0.6 million or 0.6% was primarily due to certain credit losses, mix-related margin compression and increase in salary expenses partially offset by increased revenue and gain from changes in the fair value of contingent consideration from a past acquisition.

B2B Payments

[[GREPCENT_TABLE]]
[["(in thousands)","Year Ended December 31,"],["","2024","","2023","","Change"],["Revenues","$","89,103","","","$","41,156","","","$","47,947"],["Adjusted EBITDA","7,605","","","2,250","","","5,355"],["Key Indicators:"],["B2B issuing dollar volume","$","977,278","","","$","851,948","","","$","125,330"],["B2B issuing transaction","974","","","1,087","","","(113)"]]
[[/GREPCENT_TABLE]]

Revenue

Revenue from our B2B Payments segment was $89.1 million for the year ended December 31, 2024, compared to $41.2 million for the year ended December 31, 2023. The increase of $47.9 million, or 116.5%, was primarily driven by an increase of $44.4 million in the Plastiq business which was acquired during the third quarter of 2023 and an increase of $4.1 million in the CPX business due to increased interest revenue and volumes. This increase was offset by a decrease of $0.6 million driven by the wind down of certain customer programs in the managed services business during the fourth quarter of 2023.

Adjusted EBITDA

Adjusted EBITDA from our B2B Payments segment was $7.6 million for the year December 31, 2024, compared to $2.2 million for the year ended December 31, 2023. The increase of $5.4 million was primarily driven by increase in revenues offset by increase in operating expenses.

Enterprise Payments

[[GREPCENT_TABLE]]
[["(in thousands)","Year Ended December 31,"],["","2024","","2023","","Change"],["Revenues","$","180,448","","","$","132,186","","","$","48,262"],["Adjusted EBITDA","154,936","","","110,893","","","$","44,043"],["Key Indicators:"],["Average billed clients","$","797,567","","","$","556,526","","","$","241,041"],["Average new enrollments","56,072","","","51,059","","","5,013"]]
[[/GREPCENT_TABLE]]

Revenue

Revenue from our Enterprise Payments segment was $180.4 million for the year ended December 31, 2024, compared to $132.2 million for the year ended December 31, 2023. The increase of $48.3 million, or 36.6%, was primarily driven by an increase in customer enrollments, additional revenues generated by our Passport platform, and growth in interest income due to higher deposit balances and higher returns on the permissible investments related to our money transmission licenses.

37

Table of Contents

Adjusted EBITDA

Adjusted EBITDA from our Enterprise Payments segment was $154.9 million for the year ended December 31, 2024, compared to $110.9 million for the year ended December 31, 2023. The increase of $44.0 million or 39.8% was primarily due to increase in revenue offset by increased salaries.

[[GREPCENT_TABLE]]
[["","","Year Ended December 31, 2024"],["","","SMB Payments","","B2B Payments","","Enterprise Payments","","Corporate","","Total Consolidated"],["Reconciliation of Adjusted EBITDA to GAAP Measure:"],["Adjusted EBITDA","","$","108,913","","","$","7,605","","","$","154,936","","","$","(67,187)","","","$","204,267"],["Interest expense","","(1)","","","(4,340)","","","\u2014","","","(84,607)","","","(88,948)"],["Depreciation and amortization","","(30,865)","","","(5,258)","","","(16,928)","","","(4,990)","","","(58,041)"],["Debt modification and extinguishment expenses","","\u2014","","","\u2014","","","\u2014","","","(10,369)","","","(10,369)"],["Selling, general and administrative (non-recurring)","","\u2014","","","\u2014","","","\u2014","","","(3,510)","","","(3,510)"],["Non-cash stock based compensation","","(16)","","","(220)","","","(131)","","","(5,751)","","","(6,118)"],["Income (loss) before taxes","","$","78,031","","","$","(2,213)","","","$","137,877","","","$","(176,414)","","","$","37,281"],["Income tax expense","","","","","","","","","","(13,266)"],["Net income","","","","","","","","","","$","24,015"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","","Year Ended December 31, 2023"],["","","SMB Payments","","B2B Payments","","Enterprise Payments","","Corporate","","Total Consolidated"],["Reconciliation of Adjusted EBITDA to GAAP Measure:"],["Adjusted EBITDA","","$","109,485","","","$","2,250","","","$","110,893","","","$","(54,296)","","","$","168,332"],["Interest expense","","\u2014","","","(1,302)","","","(357)","","","(74,449)","","","(76,108)"],["Depreciation and amortization","","(36,715)","","","(1,831)","","","(22,426)","","","(7,423)","","","(68,395)"],["Selling, general and administrative (non-recurring)","","\u2014","","","\u2014","","","\u2014","","","(9,825)","","","(9,825)"],["Non-cash stock based compensation","","(539)","","","(549)","","","(261)","","","(5,419)","","","(6,768)"],["Non-cash other losses","","\u2014","","","\u2014","","","\u2014","","","(84)","","","(84)"],["Income (loss) before taxes","","$","72,231","","","$","(1,432)","","","$","87,849","","","$","(151,496)","","","$","7,152"],["Income tax expense","","","","","","","","","","(8,463)"],["Net loss","","","","","","","","","","$","(1,311)"]]
[[/GREPCENT_TABLE]]

Liquidity and Capital Resources

Liquidity and capital resource management is a process focused on providing the funding we need to meet our short-term and long-term cash and working capital needs. We have used our funding sources to build our customer base, for technology solutions and to make acquisitions with the expectation that such investments will generate cash flows sufficient to cover our working capital needs and other anticipated needs, including for our acquisition strategy. We anticipate that cash on hand, funds generated from operations and available borrowings under our revolving credit agreement are sufficient to meet our working

38

Table of Contents

capital requirements for at least the next twelve months. This is based upon management's estimates and assumptions regarding effects of micro and macro factors impacting the economic environment in which the Company operates on our financial results. Actual future results could differ materially, as the magnitude, duration and effects of changes in economic, political and market conditions are difficult to predict, and ultimately could negatively impact our liquidity and capital resources. Our principal uses of cash are to fund business operations (including capital expenditures and strategic investments) and administrative costs, and to service our debt. 

Our working capital, defined as current assets less current liabilities, was $53.4 million at December 31, 2024 and $29.2 million at December 31, 2023. As of December 31, 2024, we had cash and cash equivalents with a balance of $58.6 million compared to $39.6 million at December 31, 2023. These cash and cash equivalent balances do not include restricted cash of $11.1 million and $11.9 million at December 31, 2024 and 2023, respectively, which reflects cash accounts holding customer settlement funds and cash reserves for potential losses. The current portion of long-term debt included in current liabilities was $9.5 million and $6.7 million at December 31, 2024 and 2023, respectively.

At December 31, 2024, we had availability of approximately $70.0 million under our revolving credit arrangement. 

The following tables and narrative reflect our changes in cash flows for the comparative annual periods.

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["(in thousands)","2024","","2023"],["Net cash provided by (used in):"],["Operating activities","$","85,609","","","$","81,256"],["Investing activities","(35,546)","","","(55,748)"],["Financing activities","147,578","","","210,105"],["Net increase in cash and restricted cash","$","197,641","","","$","235,613"]]
[[/GREPCENT_TABLE]]

Cash Provided by Operating Activities

Net cash provided by operating activities was $85.6 million and $81.3 million for the years ended December 31, 2024 and 2023, respectively. The $4.3 million or 5.3% increase in 2024 was driven by net income increase, offset by changes in non-cash items and, operating assets and liabilities.

Cash Used in Investing Activities 

Net cash used in investing activities was $35.5 million compared to cash used investing activities of $55.7 million for the years ended December 31, 2024 and 2023, respectively. The Company had no business acquisitions for the year ended December 31, 2024, compared to net cash used of $28.2 million in 2023 to acquire Plastiq business. Additions to property, equipment and software was $21.7 million for the year ended December 31, 2024 compared to $21.3 million in 2023 and acquisitions of intangible assets was $10.5 million for the year ended December 31, 2024, compared to $6.6 million in 2023. Net amount of $3.4 million was advanced for loans to ISOs for the year ended December 31, 2024, compared to $0.4 million related to payments received against loans to ISOs in 2023.

Cash Provided by Financing Activities 

Net cash provided by financing activities was $147.6 million for the year ended December 31, 2024, compared to $210.1 million for the year ended December 31, 2023. The net cash provided by for the year ended December 31, 2024 included changes in the net obligations for funds held on the behalf of customers of $179.6 million, borrowings under the 2024 Credit Agreement (including the First Amendment) net of issue discounts of $945.1 million, and proceeds for the exercise of stock options of $1.8 million. This was offset by repayment of the principal of the 2021 Credit Agreement and debt issuance and modification costs related to the refinancing of $666.5 million, redemption of the redeemable senior preferred stock including dividends of $303.2 million, redemption of non-controlling interest in subsidiary of $2.1 million, $1.5 million of cash used for shares withheld for taxes, and $5.6 million of payment of contingent consideration for business combinations. For the year ended December 31, 2023, included changes in the net obligations for funds held on the behalf of customers of $211.1 million,

39

Table of Contents

$49.8 million related to proceeds from the increase of the term Facility under the 2021 Credit Agreement and $44.0 million related to additional borrowings under the revolving credit facility. This was offset by $56.5 million of cash used for the repayment of borrowings under the revolving credit facility, $6.3 million of cash used for the repayment of the 2021 Credit Agreement's term facility, $24.7 million of cash dividends paid to redeemable senior preferred stockholders, $1.3 million of cash used for shares withheld for taxes, $4.7 million of payments of contingent consideration for business combinations and $1.2 million for debt issuance and modification costs paid related to the modification of the 2021 Credit Agreement.

Long-Term Debt 

For the year ended December 31, 2024, the Company had outstanding debt obligations, including the current portion and net of unamortized debt discount of $945.5 million, compared to $654.4 million for the year ended December 31, 2023, resulting in an increase of $291.1 million. The debt balance for the year ended December 31, 2024 consisted of funds outstanding under the term facility, offset by $15.1 million of unamortized debt discounts and issuance costs. There were no funds outstanding under the revolving credit facility as of December 31, 2024 and 2023. Minimum amortization of the term facility are equal quarterly installments in aggregate annual amounts equal to 1.0% of the original principal, with the balance paid upon maturity.

On May 16, 2024, the Company entered in to the 2024 Credit Agreement, which provided a $835.0 million term facility and a revolving credit facility of $70.0 million. The term facility was was further increased by $115.0 million (First Amendment to the 2024 Credit Agreement) effective November 21, 2024. The outstanding borrowings will accrue using the SOFR rate plus an applicable margin per year subject to a SOFR floor of 0.50%. The term facility matures in May 2031 and the revolving credit facility expires in May 2029.

The Credit Agreement contains representations and warranties, financial and collateral requirements, mandatory payment events, events of default and affirmative and negative covenants, including without limitation, covenants that restrict among other things, the ability to create liens, pay dividends or distribute assets from the loan parties to the Company, merge or consolidate, dispose of assets, incur additional indebtedness, make certain investments or acquisitions, enter into certain transactions (including with affiliates) and to enter into certain leases.

If the aggregate principal amount of outstanding revolving loans and letters of credit under the Credit Agreement exceeds 35% of the total revolving facility thereunder, the loan parties are required to comply with certain restrictions on its Total Net Leverage Ratio, which is defined in the Credit Agreement as the ratio of consolidated total debt less unrestricted cash to consolidated adjusted EBITDA (as defined in the Credit Agreement). If the aggregate principal amount of outstanding revolving loans and letters of credit under the 2024 Credit Agreement exceeds 35% of the total revolving credit facility thereunder, the Company is required to comply with certain restrictions on its Total Net Leverage Ratio. If applicable, the maximum permitted Total Net Leverage Ratio is: 1) 6.90:1.00 at each fiscal quarter ended September 30, 2024 through December 31, 2025; 2) 6.40:1.00 at each fiscal quarter ended March 31, 2026 and each fiscal quarter thereafter. As of December 31, 2024, the Company was in compliance with the covenants in the 2024 Credit Agreement.

Critical Accounting Estimates 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ significantly from those estimates. We believe that the following discussion addresses our most critical accounting estimates, which are those that are most important to the portrayal of our financial condition and results of operations and require management's most difficult, subjective, and complex judgments.

Income Taxes

We account for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using enacted tax rates and laws that are expected to be in effect when the differences are expected to be recovered or settled. Realization of deferred tax assets is dependent upon future taxable income. A valuation allowance is recognized if it is more

40

Table of Contents

likely than not that some portion or all of a deferred tax asset will not be realized based on the weight of available evidence, including expected future earnings. 

We recognize an uncertain tax position in our financial statements when we conclude that a tax position is more likely than not to be sustained upon examination based solely on its technical merits. Only after a tax position passes the first step of recognition will measurement be required. Under the measurement step, the tax benefit is measured as the largest amount of benefit that is more likely than not to be realized upon effective settlement. This is determined on a cumulative probability basis. The full impact of any change in recognition or measurement is reflected in the period in which such change occurs. Interest and penalties related to income taxes are recognized in the provision for income taxes. 

Goodwill and Long-lived Assets 

We test goodwill for impairment for each of our reporting units on an annual basis on October 1 or when events occur, or circumstances indicate the fair value of a reporting unit may be below its carrying value. We perform the annual assessment using the qualitative method. Where deemed appropriate, we may perform a quantitative assessment that uses market data and discounted cash flow analysis, which involve estimates of future revenues and operating cash flows. Changes in these estimates and assumptions or a significant decrease in earnings could materially affect the fair value of goodwill and could result in a goodwill impairment charge.

The annual impairment assessment for goodwill does not change our requirements to assess goodwill on an interim date between scheduled annual testing dates if triggering events are present.

We review our long-lived assets for impairment whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable. For long-lived assets, except goodwill, an impairment loss is indicated when the undiscounted future cash flows estimated to be generated by the asset group are not sufficient to recover the unamortized balance of the asset group.

We amortize the cost of our acquired intangible assets over their estimated useful lives using either a straight-line or an accelerated method that most accurately reflects the estimated pattern in which the economic benefit of the respective asset is consumed.

Business Combinations

We allocate the purchase price of an acquired business to the assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over the fair value of the net assets acquired is recorded as goodwill. For acquisitions that include contingent consideration, we estimate the fair value of contingent consideration at the acquisition date. The estimated fair value of contingent consideration is updated in future periods based on information available at that time. Management uses all available information when estimating the fair values of the assets acquired, liabilities assumed and contingent consideration, and must apply judgement and make certain assumptions when making these estimates. The assumptions management uses when determining fair values include estimated future cash flows or income, market rate assumptions, actuarial assumptions and discount rate assumptions. We typically engage third-party valuation advisors to assist in estimating the fair values of acquired assets and assumed liabilities. Our estimates of fair value are based upon assumptions the Company believes to be reasonable, but that are inherently uncertain, and therefore, may not be realized. Accordingly, there can be no assurance that the estimates, assumptions and values reflected in the valuations will be realized, and actual results could differ materially.