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As filed with the Securities and Exchange Commission on October 8, 2013.

Registration No. 333-             

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form S-1

REGISTRATION STATEMENT

UNDER THE SECURITIES ACT OF 1933

 

 

zulily, inc.

 

(Exact name of registrant as specified in its charter)

 

Delaware

 

5961

 

27-1202150

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

2200 First Avenue South

Seattle, WA 98134

(877) 779-5614

 

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

Darrell Cavens

President and Chief Executive Officer

zulily, inc.

2200 First Avenue South

Seattle, WA 98134

(877) 779-5614

 

(Name, address, including zip code, and telephone number, including area code, of agent for service)

Copies to:

 

Eric C. Jensen

John W. Robertson

Michael E. Tenta

Cooley LLP

1700 Seventh Avenue, Suite 1900

Seattle, WA 98101

(206) 452-8700

 

Deirdre Runnette

General Counsel

zulily, inc.

2200 First Avenue South

Seattle, WA 98134

(877) 779-5614

 

Steven E. Bochner

Craig Sherman

Michael Nordtvedt

Wilson Sonsini Goodrich & Rosati, Professional Corporation

701 Fifth Avenue, Suite 5100

Seattle, WA 98104

(206) 883-2500

 

 

Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

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. (Check one):

 

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

CALCULATION OF REGISTRATION FEE

 

 

Title of Each Class of Securities to be Registered

 

Proposed Maximum Aggregate

Offering Price(1)(2)

  Amount of
Registration Fee(3)

Class A Common Stock, $0.0001 par value per share

  $100,000,000   $12,880

 

 

 

  (1) Estimated solely for the purpose of computing the amount of registration fee pursuant to Rule 457(o) under the Securities Act of 1933, as amended.
  (2) Includes shares the underwriters have the option to purchase.

 

  (3) Calculated pursuant to Rule 457(o) under the Securities Act of 1933, as amended, based on an estimate of the proposed maximum aggregate offering price.

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


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The information in this prospectus is not complete and may be changed. We and the selling stockholders may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and it is not soliciting offers to buy these securities in any state where the offer or sale is not permitted.

 

Subject to Completion. Dated October 8, 2013.

            Shares

 

LOGO

Class A Common Stock

 

 

This is an initial public offering of shares of Class A common stock of zulily, inc.

zulily is offering             shares of the Class A common stock to be sold in the offering. The selling stockholders identified in this prospectus are offering             additional shares of Class A common stock. zulily will not receive any of the proceeds from the sale of the shares being sold by the selling stockholders.

zulily has two classes of authorized common stock, Class A common stock and Class B common stock. The rights of the holders of Class A common stock and Class B common stock are identical, except with respect to voting and conversion rights. Each share of Class A common stock is entitled to one vote per share. Each share of Class B common stock is entitled to ten votes per share and is convertible into one share of Class A common stock. Outstanding shares of Class B common stock will represent approximately     % of the voting power of our outstanding capital stock immediately following the completion of this offering.

Prior to this offering, there has been no public market for the Class A common stock. It is currently estimated that the initial public offering price per share will be between $         and $        . We intend to apply to have our Class A common stock listed on the NASDAQ Global Select Market under the symbol “ZU.”

We are an “emerging growth company” as the term is used in the Jumpstart Our Business Startups Act of 2012 and, as such, have elected to comply with certain reduced public company reporting requirements. Investing in our Class A common stock involves risks.

 

 

See “Risk Factors” on page 12 to read about factors you should consider before buying shares of the Class A common stock.

 

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

 

 

 

     Per Share      Total  

Initial public offering price

   $                    $                

Underwriting discount(1)

   $         $     

Proceeds, before expenses, to zulily

   $         $     

Proceeds, before expenses, to the selling stockholders

   $         $     

 

(1) We have agreed to reimburse the underwriters for certain expenses, see “Underwriting.”

To the extent that the underwriters sell more than              shares of Class A common stock, the underwriters have the option to purchase up to an additional              shares from             at the initial public offering price less the underwriting discount.

 

 

The underwriters expect to deliver the shares against payment in New York, New York on                     , 2013.

 

Goldman, Sachs & Co.   BofA Merrill Lynch    Citigroup

RBC Capital Markets

Allen & Company LLC

William Blair

 

 

Prospectus dated                     , 2013.


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TABLE OF CONTENTS

Prospectus

 

     Page  

Prospectus Summary

     1   

Risk Factors

     12   

Special Note Regarding Forward-Looking Statements

     42   

Use of Proceeds

     44   

Dividend Policy

     44   

Capitalization

     45   

Dilution

     47   

Selected Consolidated Financial and Other Data

     49   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     53   

Business

     79   

Management

     92   

Executive Compensation

     100   

Certain Relationships and Related Party Transactions

     107   

Principal and Selling Stockholders

     110   

Description of Capital Stock

     113   

Shares Eligible for Future Sale

     120   

Material U.S. Federal Income Tax Consequences to Non-U.S. Holders

     123   

Underwriting

     127   

Legal Matters

     133   

Experts

     133   

Where You Can Find More Information

     133   

Index to Consolidated Financial Statements

     F-1   

 

 

Through and including                     , 2013 (the 25th day after the date of this prospectus), all dealers effecting transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to a dealer’s obligation to deliver a prospectus when acting as an underwriter and with respect to an unsold allotment or subscription.

 

 

We, the selling stockholders and the underwriters have not authorized anyone to provide any information or to make any representations other than those contained in this prospectus or in any free writing prospectuses prepared by or on behalf of us or to which we have referred you. We are not making an offer to sell these securities in any jurisdiction where the offer or sale is not permitted. We take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. The information contained in this prospectus is current only as of the date on the front cover of this prospectus. Our business, financial condition, results of operations and prospects may have changed since that date.

For investors outside the United States: We, the selling stockholders and the underwriters have not done anything that would permit this offering, or possession or distribution of this prospectus, in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the shares of Class A common stock and the distribution of this prospectus outside of the United States.

 

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PROSPECTUS SUMMARY

This summary highlights information contained elsewhere in this prospectus and does not contain all of the information that you should consider in making your investment decision. Before investing in our Class A common stock, you should carefully read this entire prospectus, including our consolidated financial statements and the related notes thereto and the information set forth under the sections “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in each case included in this prospectus.

Unless the context otherwise requires, we use the terms “zulily,” “company,” “we,” “us” and “our” in this prospectus to refer to zulily, inc. and, where appropriate, our consolidated subsidiaries.

Company Overview

We launched the zulily website in January 2010 with the goal of revolutionizing the way moms shop. Today, we are one of the largest standalone e-commerce companies in the United States. Through our desktop and mobile websites and mobile applications, which we refer to as our “sites”, we help our customers discover new and unique products at great values that they would likely not find elsewhere. We provide moms a fun and entertaining shopping experience with a fresh selection of over 4,000 product styles offered on a typical day through various flash sales events, which are limited-time curated online sales of selected products launched each day on our sites. We source our merchandise from thousands of vendors, including emerging brands and smaller boutique vendors, as well as larger national brands. By bringing together millions of moms and a daily selection of products chosen from our vendor base, we have built a large scale and uniquely curated marketplace. Since inception through June 30, 2013, we have worked with over 10,000 brands, featured over 1.6 million product styles and sold over 42 million items to over 2.9 million customers across our platform.

zulily is a disruptive e-commerce company built to address a retail experience for moms that we believe has become uninspiring due to the concentration of sales among mass retailers and the commoditization of merchandise. We distinguish ourselves by offering a fresh and affordable selection of products that inspires moms to shop. Our merchandising team constantly scours the market for new and unique brands in children’s apparel, women’s apparel and other product categories, such as toys, infant gear, kitchen accessories and home décor. Once we find these brands, we invest in photography and editorial content to tell each brand’s story in our fun and engaging voice. We then sell these products through our flash sales model, creating an impulse-driven shopping experience that delivers entertainment, value and convenience for moms anytime and anywhere. Increasingly, moms are shopping at zulily throughout their day from their mobile devices, and as a result we have optimized our platform for mobile shopping. Our focus on delivering a better and more entertaining shopping experience for moms has driven strong new customer growth as well as repeat purchasing by existing customers, which have been the keys to the differentiated economics of our business.

We have become a trusted partner for our vendors because we provide them with access to a large and highly engaged consumer audience, creating significant brand exposure and revenue opportunities. Many of our vendors are small-to-medium sized businesses and may have difficulty reaching a targeted audience of moms on a broad scale. Our vendors can reach this audience while also eliminating wholesale, direct sales and fulfillment costs for the products they sell through our platform, making zulily an attractive channel for them.

To best serve our customers and vendors, we have in place a custom, fully integrated fulfillment infrastructure. Our supply chain solution efficiently handles the small-to-medium lot sizes and high inventory turnover required by our constantly changing, limited-time product offerings. We operate a

 

 

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minimal inventory, intermediary model where we typically take customer orders before we purchase inventory from our vendors. As a result, we are able to offer a much larger selection of products to our customers and to generate greater sales for our vendors, who are able to match a broader range of their product supply to actual customer demand.

Continual innovation through investment in technology is core to our business. We have custom built a proprietary and scalable technology platform to enable our unique business model. Our technology is built to handle the significant spikes in site traffic and transactions which frequently occur when we launch our events each day. In order to enhance relevance for our customers, we have developed extensive data collection and analytics capabilities which allow us to anticipate the shopping preferences of our customers and then personalize their site experience. Our technology platform is also designed to meet the rapid order fulfillment needs that are unique to our flash sales model.

At the scale at which we now operate, the combination of our customers, vendors and fulfillment infrastructure has resulted in powerful network effects, which we believe is a significant competitive advantage. Our large and growing customer base in a highly desirable demographic has allowed us to attract and retain vendors offering high quality and unique products. The breadth and quality of our vendors’ merchandise, which we curate daily to provide a fresh selection, enables us to attract new and repeat customers.

We have achieved the following significant milestones:

 

  Ÿ  

As of June 30, 2013, we had 2.2 million active customers, or customers who had purchased at least once in the last year, an increase of 93.1% from the 1.2 million active customers we had as of July 1, 2012.

 

  Ÿ  

For the 12 months ended June 30, 2013, we generated $214 of revenue per active customer, a 10.9% increase from the $193 of revenue per active customer we generated during the 12 months ended July 1, 2012.

 

  Ÿ  

For the 12 months ended June 30, 2013, 82.9% of our U.S. orders were placed by customers who had previously purchased from us, up from 79.1% during the 12 months ended July 1, 2012.

 

  Ÿ  

In the second quarter of 2013, approximately 42% of our U.S. orders were placed from a mobile device, up from approximately 39% in the first quarter of 2013 and approximately 31% in the fourth quarter of 2012.

For 2012 and the six months ended June 30, 2013, we reported $331.2 million and $272.0 million in net sales, representing growth of 132.4% and 114.2% from 2011 and the six months ended July 1, 2012, respectively. For 2012 and the six months ended June 30, 2013, we reported a net loss of $10.3 million and $2.4 million in net income, an improvement from net losses of $11.3 million and $6.2 million in 2011 and the six months ended July 1, 2012, respectively. For 2012 and the six months ended June 30, 2013, we reported $(5.9) million and $7.5 million in Adjusted EBITDA, an improvement from $(8.9) million and $(4.4) million in 2011 and the six months ended July 1, 2012, respectively. We have been free cash flow positive on an annual basis since 2011. For information on how we define and calculate active customers, revenue per active customer, the non-GAAP financial measures Adjusted EBITDA and free cash flow, and for reconciliations of Adjusted EBITDA to net loss and free cash flow to net cash (used in) provided by operating activities, see the sections of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Overview—Key Financial Metrics.”

 

 

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Our Industry

e-Commerce is a Large and Growing Market.    Euromonitor, a consumer market research company, estimated that the North American retail market was $3.1 trillion in 2012 with online retail representing $183 billion, or 5.9% of the total retail market. As consumers continue to migrate online, the online retail market is expected to become a significantly larger portion of the total retail market. Euromonitor expects the North American online retail market to grow to $360 billion by 2017, a 14.5% compound annual growth rate, or CAGR, from 2012, as compared to a 2.9% CAGR for the offline retail market over the same time period.

Moms are an Influential Consumer Demographic.    According to a 2012 report from the U.S. Census Bureau, 39 million U.S. households have children under the age of 18, representing 121 million people. In these households, we believe moms generally control an outsized share of spending, particularly spending on children’s apparel, women’s apparel and home décor. According to a 2009 report from Advertising Age, an advertising industry publication, women controlled 73% of household spending. Additionally, women and moms are over-represented as Internet shoppers. According to comScore, a market research firm, in February 2010, women accounted for 49.8% of the U.S. online population but made 61.1% of online purchases.

Women’s and Children’s Boutique Brands are Highly Fragmented.    We believe that emerging brands and smaller boutique vendors are more prevalent in the children’s apparel, women’s apparel and home décor categories compared to other retail categories. We have sold products from over 10,000 brands to date and we discover new, emerging brands on a daily basis. This fragmentation is evident in our business, as over 65% of our U.S. product sales in 2012 came from vendors, generally emerging brands and smaller boutique vendors, selling less than $50,000 of product per event.

Mobile Commerce is Growing Rapidly.    The proliferation of smartphones and tablets has made mobile commerce one of the fastest growing retail channels. According to International Data Corporation, or IDC, a market research firm, the number of U.S. mobile online shoppers is expected to grow from 52 million in 2012 to 189 million in 2017, a 29.3% CAGR. Moms also spend more time mobile shopping than the general consumer. According to eMarketer, a market research company, 23% of moms who use the Internet shop on their mobile devices as compared to 15% of the rest of the general Internet user population. Since consumers have access to their mobile devices virtually anytime and anywhere, this allows them the opportunity to browse and shop during their spare minutes throughout the day. Mobile devices also enable “push commerce” features that prompt consumers to visit mobile websites and use mobile applications.

Our Opportunity

Transforming How Moms Shop Online.    A new wave of e-commerce is emerging. First generation e-commerce companies were generally vertically focused product websites that answered a consumer need for directed product search (for example, “I need a camera”). We believe moms are increasingly looking to the Internet to browse and be inspired through entertaining and engaging discovery-based online shopping (for example, “I want to go window shopping”), especially while they are out and about and on their mobile devices. We believe moms are increasingly using e-commerce as a form of entertainment in addition to satisfying specific product needs.

Transforming How Emerging Brands and Smaller Boutique Vendors Reach Moms.    It is challenging for emerging brands and smaller boutique vendors to reach consumers cost effectively at scale. Smaller vendors can have great products but typically have limited marketing and distribution

 

 

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capabilities. Without recognizable consumer brands, these vendors may struggle to attract consumers to their own websites, if they have them at all, and may also have trouble securing distribution among mass retailers. Additionally, many emerging brands and smaller boutique vendors can be limited by their branding, photographic and editorial capabilities and therefore can struggle to present their products to consumers in a compelling way, which we believe reduces consumer demand for these products.

Our Offering

Our Offering for Moms

Making shopping entertaining for moms is core to who we are and what we do. We think beyond just offering what our consumers are directly looking for and instead look to inspire purchasing by finding and offering a curated set of products from new and emerging brands that our customers could not otherwise easily find. Moms are passionate about buying products for their kids that stand out and make their kids look special, particularly at affordable prices. Our goal is to be part of mom’s daily routine, allowing her to visit our sites and discover a selection of fresh, new and affordable merchandise curated for her every morning.

Every morning, we launch a variety of flash sales events. Typically, these events feature over 4,000 product styles from different vendors and last for 72 hours. The day’s events are kicked off by an early morning email to our email subscribers and push communication to users of our mobile applications. Offerings are only available for a limited time and in a limited quantity, creating urgency to browse and purchase. The majority of our products are sourced from emerging brands and smaller boutique vendors that our customers may not have heard of and whose products are not widely available online. We also offer larger nationally known brands that appeal to our customers and draw new customers to our sites.

Before we launch an event, our photography team typically photographs our merchandise in our in-house studios and our editorial team writes about our merchandise so that we can present each day’s selection of product in our fun and engaging voice. The experience, creativity, resourcefulness and efficiency of our merchandising, creative and operations teams enable us to feature over 250,000 product styles per quarter. We work to create the most compelling price points for our customers, with the average item on our sites offered for over 50% off the manufacturer’s suggested retail price. We then use our proprietary technology, data analytics and personalization tools to segment our audience, offering each mom a curated and optimized shopping experience that features brands, products and events that we believe are most relevant for her.

Our Offering for Vendors

Our primary vendors are emerging brands and smaller boutique vendors. These are typically small-to-medium sized businesses, many of which were started by mom entrepreneurs. Since these vendors’ products are typically not available broadly online, the vendors generally work with us to gain brand awareness and generate incremental sales. We introduce these vendors to our large audience and help them tell their stories in a way that differentiates their products and properly reflects their brand attributes. Our entire operational infrastructure—photography studios, editorial writers, fulfillment operations and technology capabilities—is designed to showcase these emerging brands’ and smaller boutique vendors’ products in the most compelling, engaging and personalized way.

We serve as an important channel for our vendors because by working with us they eliminate wholesale, direct sales and fulfillment costs for the products they sell through our platform. Because of

 

 

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our minimal inventory, intermediary model and short event cycle, we are able to experiment with a broad range of new products and a wide variety of vendors on a regular basis. Our vendors typically provide us with first-run, in-season merchandise as they are incentivized to get their best products in front of the broadest potential customer base. We supplement our boutique brand offerings with events from larger national brands and often become a meaningful partner for these larger national brands as well, driving significant sales and vendor loyalty. Of the vendors we featured for the first time in 2011, 75% have returned to sell again at least once on our sites through June 30, 2013.

Our Strengths

We are one of the largest standalone e-commerce companies in the United States. We have achieved this due to our following key strengths:

 

  Ÿ  

our scale drives network effects;

 

  Ÿ  

highly regarded and trusted brand;

 

  Ÿ  

strong customer loyalty drives high purchase frequency and powerful economics;

 

  Ÿ  

large merchandising team sources unique selection of curated merchandise from diverse vendor group;

 

  Ÿ  

strong mobile offering drives customer convenience;

 

  Ÿ  

differentiated use of consumer data and technology drives personalization;

 

  Ÿ  

efficient, custom-built fulfillment operations; and

 

  Ÿ  

attractive economic profile with strong leverage.

Our Strategy

Our objective is to be the leading online retail destination for moms. We plan to attain this goal through the following key strategies:

 

  Ÿ  

continue to acquire new customers;

 

  Ÿ  

continue to increase customer loyalty and repeat purchasing;

 

  Ÿ  

continue to add new vendors and strengthen existing vendor relationships;

 

  Ÿ  

continue to invest in our mobile platform;

 

  Ÿ  

expand international presence; and

 

  Ÿ  

opportunistically pursue strategic acquisitions.

Risks Associated With Our Business

Our business is subject to numerous risks and uncertainties, including those highlighted in the section captioned “Risk Factors” immediately following this prospectus summary. These risks include, among others, the following:

 

  Ÿ  

because we have a short operating history in an evolving industry, our past results may not be indicative of future performance, and our future performance may fluctuate materially and increase your investment risk;

 

  Ÿ  

if we fail to effectively manage the growth of our business, our financial condition and operating results could be harmed;

 

 

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  Ÿ  

we have incurred significant operating losses in the past, including during the two most recent fiscal years;

 

  Ÿ  

our recent net sales growth may not be sustainable, and a failure to maintain an adequate growth rate will adversely affect our business, financial condition and operating results;

 

  Ÿ  

we may be unable to accurately forecast net sales and appropriately plan our expenses in the future;

 

  Ÿ  

competition presents an ongoing threat to the success of our business;

 

  Ÿ  

if we cannot acquire or retain customers or maintain or acquire high quality and differentiated merchandise on acceptable terms from vendors, our business, financial condition and operating results could be harmed;

 

  Ÿ  

if we do not successfully optimize, operate and manage the expansion of capacity of our fulfillment centers, our business, financial condition and operating results could be harmed; and

 

  Ÿ  

the dual class structure of our common stock and the existing ownership of capital stock by our executive officers, directors and their affiliates have the effect of concentrating voting control with our executive officers, directors and their affiliates for the foreseeable future, which will limit your ability to influence corporate matters.

Our Corporate Information

We were incorporated in 2009 in Delaware as BSI Holdings, Inc. and subsequently changed our name to zulily, inc. Our headquarters are located at 2200 First Avenue South, Seattle, WA 98134, and our telephone number is (877) 779-5614. Our website address is www.zulily.com. The information contained on, or that can be accessed through, our website is not part of, and is not incorporated into, this prospectus.

“zulily,” the zulily logo and other trademarks or service marks of zulily, inc. appearing in this prospectus are the property of zulily, inc. This prospectus contains additional trade names, trademarks and service marks of others, which are the property of their respective owners. We do not intend our use or display of other companies’ trade names, trademarks or service marks to imply a relationship with, or endorsement or sponsorship of us by, these other companies.

 

 

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The Offering

 

Class A common stock offered by us

  

            shares

Class A common stock offered by the selling stockholders

  

            shares

Class A common stock to be outstanding after this offering

  

            shares

Class B common stock to be outstanding after this offering

  

            shares

Total Class A common stock and Class B common stock to be outstanding after this offering

  

            shares

Overallotment option of Class A common stock offered by us and the selling stockholders

  

            shares

Voting rights

   We have two classes of authorized common stock: Class A common stock and Class B common stock. The rights of the holders of Class A common stock and Class B common stock are identical, except with respect to voting and conversion rights. The holders of Class A common stock are entitled to one vote per share, and the holders of Class B common stock are entitled to ten votes per share, on all matters that are subject to stockholder vote. The Class B common stock also has approval rights for certain corporate actions. Following the completion of this offering, each share of Class B common stock may be converted into one share of Class A common stock at the option of its holder and will be automatically converted into one share of Class A common stock upon transfer thereof, subject to certain exceptions. In addition, upon the date on which there are fewer than              shares of Class B common stock outstanding (as adjusted for stock splits), all outstanding shares of Class B common stock shall convert automatically into Class A common stock. See the section of the prospectus captioned “Description of Capital Stock” for additional information.

Use of proceeds

   We estimate the net proceeds to us from this offering to be approximately $         million, assuming an initial public offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. We will not receive any of the

 

 

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   proceeds from the sale of shares by the selling stockholders. See the section of the prospectus captioned “Use of Proceeds.” The principal purposes of this offering are to create a public market for our Class A common stock, facilitate access to the public equity markets, increase our visibility in the marketplace, as well as to obtain additional capital. We intend to use the net proceeds from this offering for working capital and other general corporate purposes. We may also use a portion of the net proceeds to acquire complementary businesses, products or technologies, although we have no present commitments or agreements for any specific acquisitions.

Risk factors

   See the section of the prospectus captioned “Risk Factors” beginning on page 12 and the other information included in this prospectus for a discussion of factors you should carefully consider before deciding to invest in our Class A common stock.

Proposed NASDAQ symbol

  

“ZU”

The number of shares of our Class A common stock and Class B common stock to be outstanding after this offering is based on no shares of Class A common stock and 461,624,111 shares of Class B common stock outstanding as of June 30, 2013, including 14,408,855 shares issued pursuant to early exercise of stock options and restricted stock issuances that are subject to repurchase and excludes, as of June 30, 2013, the following shares:

 

  Ÿ  

54,822,283 shares of Class B common stock issuable upon the exercise of outstanding stock options issued as of June 30, 2013 pursuant to our 2009 Equity Incentive Plan, or our 2009 Plan, at a weighted-average exercise price of $1.59 per share;

 

  Ÿ  

             shares of Class B common stock issuable upon the exercise of outstanding stock options issued after June 30, 2013 pursuant to our 2009 Plan, at a weighted-average exercise price of $         per share;

 

  Ÿ  

9,709,892 shares of Class B common stock reserved for future issuance under our 2009 Plan as of June 30, 2013, which shares will cease to become available for future issuance immediately prior to the time our 2013 Equity Plan, or our 2013 Plan, becomes effective; and

 

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             shares of Class A common stock to be reserved for future issuance under our 2013 Plan as of the date the registration statement of which this prospectus forms a part is declared effective by the Securities and Exchange Commission, or SEC, (assuming that                  shares of Class B common stock are available for issuance under our 2009 Plan immediately prior to the time our 2013 Plan becomes effective) as well as any automatic increases in the number of shares of Class A common stock available for future issuance under this benefit plan.

Unless otherwise indicated, all information in this prospectus reflects and assumes the following:

 

  Ÿ  

the reclassification of our common stock into an equal number of our Class B common stock and the authorization of our Class A common stock;

 

 

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  Ÿ  

the conversion of all outstanding shares of our convertible preferred stock into an aggregate of 242,485,034 shares of our Class B common stock, which will occur immediately prior to the completion of this offering;

 

  Ÿ  

no exercise by the underwriters of their option to purchase up to              additional shares of our Class A common stock in this offering; and

 

  Ÿ  

the filing and effectiveness of our amended and restated certificate of incorporation immediately prior to the completion of this offering.

The share and per share numbers included in the sections of this prospectus captioned “—Summary Consolidated Financial and Other Data,” “Capitalization,” “Selected Consolidated Financial and Other Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes do not reflect the reclassification of our common stock into an equal number of our Class B common stock and the authorization of our Class A common stock, which will we expect will occur prior to the completion of this offering.

 

 

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SUMMARY CONSOLIDATED FINANCIAL AND OTHER DATA

You should read the summary consolidated financial and other data in conjunction with the sections of this prospectus captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Selected Consolidated Financial and Other Data” and the consolidated financial statements and related notes.

We have derived the consolidated statements of operations data for the fiscal years ended December 31, 2010, January 1, 2012 and December 30, 2012 from our audited consolidated financial statements appearing elsewhere in this prospectus. The consolidated statements of operations data for the year to date periods ended July 1, 2012 and June 30, 2013 and consolidated balance sheet data as of June 30, 2013 have been derived from our unaudited consolidated financial statements appearing elsewhere in this prospectus. We have prepared the unaudited consolidated financial data on the same basis as the audited consolidated financial statements. We have included, in our opinion, all adjustments, consisting only of normal recurring adjustments that we consider necessary for a fair presentation of the financial information set forth in those statements. Our historical results are not necessarily indicative of the results that should be expected in the future, and our interim results are not necessarily indicative of the results that should be expected for the full year or any other period.

Beginning with our fiscal year 2011, our fiscal year ends on the Sunday closest to December 31 of the respective calendar year. Each fiscal year consists of four 13-week quarters, with one extra week added in the fourth quarter every five to six years.

 

     Fiscal Years     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  
     (in thousands, except share and per share amounts)  

Consolidated Statements of Operations Data

          

Net sales

   $ 18,376      $ 142,545      $ 331,240      $ 126,993      $ 272,021   

Cost of sales(1)

     12,574        104,949        240,943        91,252        191,506   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     5,802        37,596        90,297        35,741        80,515   

Operating expenses:

          

Marketing expenses(1)

     4,897        20,228        37,780        15,600        28,056   

Selling, general and administrative expenses(1)

     7,112        28,905        63,071        26,499        50,069   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     12,009        49,133        100,851        42,099        78,125   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

     (6,207     (11,537     (10,554     (6,358     2,390   

Interest (expense) income, net

     (169     20        43        16        64   

Other (expense) income, net

     (627     203        176        180        (48
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

   $ (7,003   $ (11,314   $ (10,335   $ (6,162   $ 2,406   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders

   $ (7,448   $ (13,233   $ (46,822   $ (7,883   $ (2,656
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per common share(2):

          

Basic

   $ (0.11   $ (0.14   $ (0.31   $ (0.06   $ (0.01
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

   $ (0.11   $ (0.14   $ (0.31   $ (0.06   $ (0.01
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in computing net loss per common share:

          

Basic

     65,390,625        96,411,124        151,906,924        138,402,501        193,075,922   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     65,390,625        96,411,124        151,906,924        138,402,501        193,075,922   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income attributable to common stockholders—pro forma:

       $ (42,447     $ 2,121   
      

 

 

     

 

 

 

Pro forma net (loss) income per common share(3):

          

Basic

       $ (0.11     $   
      

 

 

     

 

 

 

Diluted

       $ (0.11     $   
      

 

 

     

 

 

 

Shares used in computing pro forma net (loss) income per common share(3):

          

Basic

         375,217,245          443,434,097   
      

 

 

     

 

 

 

Diluted

         375,217,245          450,155,335   
      

 

 

     

 

 

 

 

 

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     Fiscal Years      Six Months Ended  
     2010     2011     2012      Jul. 1, 2012     Jun. 30, 2013  
     (in thousands, except revenue per active customer and
average order value)
 

Other Financial and Operations Data

           

Adjusted EBITDA(4)

   $ (3,734   $ (8,871   $ (5,920    $ (4,449   $ 7,469   

Free cash flow(5)

   $ (1,164   $ 3,749      $ 8,425       $ (10,076   $ (4,240

Active customers

     157        791        1,580         1,154        2,229   

Revenue per active customer

   $ 117      $ 180      $ 210       $ 110      $ 122   

Total orders placed

     384        2,998        6,950         2,779        5,696   

Average order value

   $ 52.52      $ 53.48      $ 53.37       $ 52.20      $ 53.23   

 

     As of Jun. 30, 2013
     Actual     Pro Forma,
As
Adjusted(6)
     (in thousands)

Consolidated Balance Sheet Data

    

Cash and cash equivalents

   $ 83,015     

Working capital

     61,240     

Total assets

     137,945     

Deferred revenue

     13,156     

Convertible redeemable preferred stock

     133,776     

Total stockholders’ deficit

     (55,613  

 

(1) Includes stock-based compensation expense as follows:

 

     Fiscal Year      Six Months Ended  
     2010      2011      2012      Jul. 1, 2012      Jun. 30, 2013  
     (in thousands)  

Cost of sales

   $       $ 2       $ 26       $ 15       $ 27   

Marketing expenses

     2         62         142         57         132   

Selling, general and administrative expenses

     2,396         2,015         1,097         395         2,441   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total stock-based compensation expense

   $ 2,398       $ 2,079       $ 1,265       $ 467       $ 2,600   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(2) Basic and diluted net loss per common share attributable to common stockholders for our fiscal year 2012 includes a deemed dividend distribution of $32.1 million. Such dividend is included as it represents distributed earnings attributable to participating securities. Please see Note 6 of the accompanying notes to our consolidated financial statements.
(3) Pro forma basic and diluted net loss per share represents net loss divided by the pro forma weighted-average shares of common stock outstanding. Pro forma weighted-average shares outstanding reflects the conversion of preferred stock into Class B common stock as though the conversion had occurred on the first day of the relevant period.
(4) Adjusted EBITDA is a non-GAAP financial measure that we calculate as earnings (loss) before interest and other income and expense, taxes, depreciation, amortization and stock-based compensation expense. Please see the section of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures—Adjusted EBITDA” for more information.
(5) Free cash flow is a non-GAAP financial measure that we calculate as net cash (used in) provided by operating activities less net cash used in capital expenditures. Please see the section of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures—Free Cash Flow” for more information.
(6) Reflects the items described in footnote (3) above and, on an as adjusted basis, our sale of              shares of Class A common stock that we are offering at the assumed initial public offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting the underwriting fees and commissions and estimated offering expenses payable by us. The pro forma as adjusted balance sheet data is illustrative only and will change based on the actual initial public offering price and other terms of this offering determined at pricing. Each $1.00 increase or decrease in the assumed initial public offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, would increase or decrease each of cash and cash equivalents, working capital, total assets and total stockholders’ deficit on a pro forma as adjusted basis by approximately $        , assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same. We may also increase or decrease the number of shares we are offering. Each increase or decrease by              shares in the number of shares offered by us would increase or decrease each of cash and cash equivalents, working capital, total assets and total stockholders’ deficit by approximately $         million, assuming that the assumed initial price to public remains the same, and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

 

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RISK FACTORS

Investing in our Class A common stock involves a high degree of risk. Before you invest in our Class A common stock, you should carefully consider the following risks, as well as general economic and business risks and all of the other information contained in this prospectus. Any of the following risks could have a material adverse effect on our business, operating results and financial condition and cause the trading price of our Class A common stock to decline, which would cause you to lose all or part of your investment. When determining whether to invest, you should also refer to the other information contained in this prospectus, including our financial statements and the related notes thereto.

Risks Related to Our Business and Industry

Because we have a short operating history in an evolving industry, our past results may not be indicative of future performance, and our future performance may fluctuate materially and increase your investment risk.

We launched our website in January 2010 and therefore have a short operating history in a rapidly evolving industry that may not develop as expected, if at all. Although we have experienced significant growth in net sales and the number of our active customers, our relatively short operating history makes it difficult to assess our future prospects. You should consider our business and prospects in light of the risks and difficulties we may encounter. These risks and difficulties include our ability to, among other things:

 

  Ÿ  

acquire new customers who purchase products from us at the same rate and of the same type as existing customers;

 

  Ÿ  

retain our existing customers and have them continue to purchase products from us at rates and methods consistent with their prior purchasing behavior;

 

  Ÿ  

encourage customers to expand the categories of products they purchase from us;

 

  Ÿ  

attract new vendors to supply quality products that we can offer to our customers at attractive prices;

 

  Ÿ  

retain our existing vendors and have them supply additional quality products that we can offer to our customers at attractive prices;

 

  Ÿ  

increase the awareness of our brand;

 

  Ÿ  

provide our customers and vendors with a superior experience;

 

  Ÿ  

fulfill and deliver orders in a timely way and in accordance with customer expectations, which may change over time;

 

  Ÿ  

respond to changes in consumer access to and use of the Internet and mobile devices;

 

  Ÿ  

react to challenges from existing and new competitors;

 

  Ÿ  

expand our business in new and existing markets, both domestic and international;

 

  Ÿ  

avoid interruptions or disruptions in our business;

 

  Ÿ  

develop a scalable, high-performance technology and fulfillment infrastructure that can efficiently and reliably handle increased usage globally, as well as the deployment of new features and the sale of new products and services;

 

  Ÿ  

respond to macroeconomic trends; and

 

  Ÿ  

hire, integrate and retain talented merchandise buyers and other personnel.

 

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We experience seasonal trends in our business, and our mix of product offerings is highly variable from day-to-day and quarter-to-quarter. This variability makes it difficult to predict sales and can result in significant fluctuations in our net sales from period-to-period. We base our expense levels and investment plans on our estimates of net sales and gross margins. A significant portion of our expenses and investments is fixed, and we may be unable to adjust our spending quickly if our net sales or our gross margins are worse than expected.

The cumulative effects of these factors or our inability to manage any of the risks and difficulties identified above and elsewhere in this section could result in large fluctuations and unpredictability in our quarterly and annual operating results. As a result, comparing our operating results on a period-to-period basis may not be meaningful. You should not rely on our past results as an indication of our future performance. This variability and unpredictability could also result in our failing to meet the expectations of industry or financial analysts or investors for any period. If our net sales or operating results fall below the expectations of analysts or investors or below any forecasts we may provide to the market, or if the forecasts we provide to the market are below the expectations of analysts or investors, the price of our Class A common stock could decline substantially. Such a stock price decline could occur even when we have met any previously publicly stated net sales or earnings forecasts that we may provide.

If we fail to effectively manage our growth, our business, financial condition and operating results could be harmed.

To effectively manage our growth, we must continue to implement our operational plans and strategies, improve and expand our infrastructure of people and information systems and expand, train and manage our employee and contractor base. We have rapidly increased employee and contractor headcount since our inception to support the growth in our business, and we intend for this growth to continue for the foreseeable future. The number of our employees increased from 329 as of December 31, 2011 to 886 as of June 30, 2013, and we expect to add a significant number of employees during the remainder of 2013. To support continued growth, we must effectively integrate, develop and motivate a large number of new employees, while maintaining our corporate culture. In particular, we intend to continue to make substantial investments to expand our merchandising and technology personnel. We face significant competition for personnel, particularly in the Seattle area where our headquarters is located. To attract top talent, we have had to offer, and believe we will need to continue to offer, competitive compensation packages before we can validate the productivity of those employees. The risks associated with a rapidly growing workforce will be particularly acute internationally. Additionally, we may not be able to hire new employees quickly enough to meet our needs. If we fail to effectively manage our hiring needs or successfully integrate our new hires, our efficiency and ability to meet our forecasts and our employee morale, productivity and retention could suffer, which may have a material adverse effect on our business, financial condition and operating results.

Additionally, the growth and expansion of our business and our product offerings place significant demands on our management. In particular, our mid-level management has not kept pace with the growth in our overall headcount, which we will need to devote significant resources to address. We produce new versions of our sites and emails to our customers on a daily basis, which generally requires new products, photos and text every day. The growth of our business may require significant additional resources to meet these daily requirements, which may not scale in a cost-effective manner or may negatively affect the quality of our sites and customer experience. We are also required to manage multiple relationships with various vendors, customers and other third parties. Further growth of our operations, our vendor base, our fulfillment centers, information technology systems or our internal controls and procedures may not be adequate to support our operations. If we are unable to manage the growth of our organization effectively, our business, financial condition and operating results may be materially and adversely affected.

 

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We have incurred significant operating losses in the past, and we may not be able to generate sufficient net sales to achieve or maintain profitability. Our recent net sales growth may not be sustainable, and a failure to maintain an adequate growth rate will materially and adversely affect our business, financial condition and operating results.

We incurred net losses of $11.3 million and $10.3 million in 2011 and 2012, respectively, and had an accumulated deficit of $55.6 million as of June 30, 2013. We anticipate that our operating expenses will increase substantially in the foreseeable future as we continue to invest to increase our customer base, increase the number and variety of products we offer, expand our marketing channels, expand our operations, hire additional employees and managers, incur the costs of being a public company and develop our technology platform and fulfillment infrastructure. These efforts may prove more expensive than we currently anticipate. Although our net sales have grown rapidly, increasing from $18.4 million in 2010 to $331.2 million in 2012, we may not be able to sustain this rate of net sales growth or to increase our net sales sufficiently to offset higher expenses. Some of our efforts to generate net sales from our business are new and unproven, and any failure to increase our net sales or improve our gross margins could prevent us from attaining or increasing profitability. In addition, we expect to invest to fund longer term initiatives, which will likely impact profitability or other operating results. We cannot be certain that we will be able to attain or increase profitability on a quarterly or annual basis. If we are unable to effectively manage these risks and difficulties as we encounter them, our business, financial condition and operating results may be materially and adversely affected.

We may be unable to accurately forecast net sales and appropriately plan our expenses in the future.

We may base our current and future expense levels on our operating forecasts and estimates of future net sales and gross margins. Net sales and operating results are difficult to forecast because they generally depend on the volume, timing and type of the orders we receive, all of which are uncertain. Additionally, our business is affected by general economic and business conditions in the United States, and we anticipate that it will be increasingly affected by conditions in international markets. A significant portion of our expenses is fixed, and as a result, we may be unable to adjust our spending in a timely manner to compensate for any unexpected shortfall in net sales. Any failure to accurately predict net sales or gross margins could cause our operating results in any given quarter, or a series of quarters, to be lower than expected, which could cause the price of our Class A common stock to decline substantially.

Our business is highly competitive. Competition presents an ongoing threat to the success of our business.

We expect competition in e-commerce generally, and with companies employing a flash sales model in particular, to continue to increase because there are no significant barriers to entry. We currently compete with and expect to increasingly compete with e-commerce businesses, such as Amazon.com, Inc., the e-commerce platforms of traditional retailers, such as Target Corporation, Toys“R”Us, Inc. and Wal-Mart Stores, Inc., and online marketplaces such as eBay Inc., particularly as some of these companies adopt flash sales business practices. A substantial number of flash sales sites have similar business models in related and unrelated market segments, including Fab, Inc., Gilt Groupe Holdings, Inc., HauteLook (which is owned by Nordstrom, Inc.), MyHabit (which is operated by Amazon.com), One Kings Lane Inc. and RueLaLa.com (which is operated by Retail Convergence.com LP). We also compete with the traditional offline retail industry, including discount and mass merchandisers, such as Target, Toys“R”Us and Walmart, as well as boutique sellers of children’s apparel, women’s apparel, and other product categories, such as toys, infant gear, kitchen accessories and home décor.

 

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We believe that our ability to compete depends upon many factors both within and beyond our control, including:

 

  Ÿ  

the size and composition of our customer base and vendor base;

 

  Ÿ  

the number of vendors and products we feature on our sites;

 

  Ÿ  

selling and marketing efforts;

 

  Ÿ  

the quality, price and reliability of products offered either by us or our competitors;

 

  Ÿ  

the convenience and entertainment of the shopping experience that we provide;

 

  Ÿ  

our ability to cost-effectively source, market and distribute our products and manage our operations; and

 

  Ÿ  

our reputation and brand strength relative to our competitors.

Many of our current competitors have, and potential competitors may have, longer operating histories, larger fulfillment infrastructures, greater technical capabilities, significantly faster shipping times as well as free or low-cost shipping, significantly greater financial, marketing and other resources and larger customer bases than we do. These factors may allow our competitors to derive greater net sales and profits from their existing customer base, acquire customers at lower costs or respond more quickly than we can to new or emerging technologies and changes in consumer habits. These competitors may engage in more extensive research and development efforts, undertake more far-reaching marketing campaigns and adopt more aggressive pricing policies, which may allow them to build larger customer bases or generate net sales from their customer bases more effectively than we do.

We depend on the continued growth of e-commerce in general and the flash sales model in particular.

The business of selling products over the Internet, particularly on the flash sales model, is dynamic and relatively new. The market segment for the flash sales model has grown significantly, and this growth may not be sustainable. If customers cease to find the flash sales model shopping experience fun, entertaining and a good value, or otherwise lose interest in shopping in this manner, we may not acquire new customers at rates consistent with historical or projected periods, and existing customers’ buying patterns and levels may be less than historical or projected rates. If the market segment for the flash sales model were to become saturated or decline overall, we may not be able to acquire new customers or engage existing customers, and our business, financial condition and operating results may suffer.

If we fail to acquire new customers, we may not be able to increase net sales or achieve profitability.

We have made significant investments related to customer acquisition and expect to continue to spend significant amounts to acquire additional customers. We must continue to acquire customers in order to increase net sales and achieve profitability. In order to expand our customer base, we must appeal to and acquire customers who have historically used other means of commerce to purchase products and may prefer alternatives to our offerings, such as in-store, the retailer’s own website or the websites of our competitors. In the United States, where our sites have been available since 2010 and we have achieved some level of market penetration, acquiring new customers may become more difficult and costly than it has been in the past. We cannot assure you that the net sales from new customers we acquire will ultimately exceed the cost of acquiring those customers. If we fail to deliver an entertaining shopping experience, or if consumers do not perceive the products we offer to be of high value and quality, we may not be able to acquire new customers. If we are unable to acquire new

 

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customers who purchase products in numbers sufficient to grow our business, the net sales we generate may decrease, and our business, financial condition and operating results may be materially and adversely affected.

We believe that many of our new customers originate from word-of-mouth and other non-paid referrals from existing customers, and therefore we must ensure that our existing customers remain loyal to us in order to continue receiving those referrals. If our efforts to satisfy our existing customers are not successful, we may not be able to acquire new customers in sufficient numbers to continue to grow our business, or we may be required to incur significantly higher marketing expenses in order to acquire new customers. If the level of usage by our customer base declines or does not grow as expected, we may suffer a decline in customer growth or net sales. A significant decrease in the level of usage or customer growth would have a material adverse effect on our business, financial condition and operating results.

We have relationships with social networking sites, such as Facebook, Pinterest, Twitter and Tumblr, online services, search engines, affiliate marketing websites, directories and other websites and e-commerce businesses to provide advertising and other links that direct customers to our sites. As e-commerce and social networking continue to rapidly evolve, we must continue to establish relationships with the channels that are used by our current and prospective customers and cost-effectively drive traffic to our sites. We rely on these relationships as significant sources of traffic to our sites and to generate new customers. If we are unable to develop or maintain these relationships on acceptable terms, our ability to attract new customers and our financial condition would suffer.

We have recently begun to periodically conduct national U.S. television branding and advertising campaigns. Such campaigns are expensive and may not result in the cost-effective acquisition of customers.

We base our decisions regarding expenditures in customer acquisition primarily on our analysis of the net sales generated from customers that we acquired in prior periods. Our estimates and assumptions may not accurately reflect our future results, and we may not be able to recover our customer acquisition costs.

Our success depends on our ability to attract customers in a cost-effective manner. Our decisions regarding investments in customer acquisition substantially depend upon our analysis of the net sales generated from customers we acquired in earlier periods. Our analysis regarding customer acquisition investment and net sales includes several assumptions, such as:

 

  Ÿ  

Many customers sign-up as subscribers to our sites for varying periods of time before they make their first purchase and become active customers. We make various assumptions with respect to the level of additional marketing or other expenses necessary to activate these subscribers and how these expenses vary from those required to generate subscriptions. If our assumptions regarding such expenses are incorrect, our net sales relative to customer acquisition cost could be less favorable than we believe.

 

  Ÿ  

We make various assumptions based on our historical data with respect to the repurchase rates of active customers. If our assumptions regarding such repurchase rates are incorrect, our net sales relative to customer acquisition cost could be less favorable than we believe.

 

  Ÿ  

The analysis which we present in the sections of this prospectus captioned “Business—Our Strengths” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors Affecting Our Performance” include a discussion of our Q1 2011 cohort. While we believe the trends reflected by this cohort are illustrative of our broader customer base, the Q1 2011 cohort results inherently reflect a distinct group of vendors and customers and may not be representative of our current or future composite group of vendors and

 

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customers, particularly as we grow and our customer base broadens. For example, our Q1 2011 cohort may reflect unique market dynamics or the novelty of our sites during the periods covered.

 

  Ÿ  

Our analysis focuses on the online marketing expenses incurred during the quarter in which the customers were originally acquired and makes various assumptions with respect to the level of additional marketing or other expenses necessary to maintain customer loyalty and generate purchase activity in subsequent periods. If our assumptions regarding such expenses in subsequent periods are incorrect, our net sales relative to customer acquisition cost could be less favorable than we believe.

If our assumptions regarding our customer acquisition investment and resulting net sales from these customers, including those relating to the effectiveness of our marketing expenditures, prove incorrect, our ability to generate net sales from our investments in new customer acquisitions may be less than we have assumed and than we have experienced in the past. In such case, we may need to increase expenses or otherwise alter our strategy, and our business, financial condition and operating results may be materially and adversely affected.

Our sales may be adversely affected if we fail to respond to changes in consumer preferences in a timely manner or are not successful in expanding our product offerings.

Our financial performance depends on our ability to identify, originate and define retail product trends, as well as to anticipate, gauge and react to changing consumer preferences in a timely manner. Our products must appeal to a broad range of moms and other consumers whose preferences cannot be predicted with certainty and are subject to change. Our business fluctuates according to changes in consumer preferences dictated in part by fashion trends, perceived product value and seasonal variations.

We have historically earned the largest portion of our net sales from the sale of children’s apparel. We have broadened our product offering to include women’s apparel, toys, infant gear, kitchen accessories, home décor and other categories. We continue to explore additional categories which may be accepted by our target customers. If we offer new products or categories that are not accepted by our customers, our sales may fall short of expectations, our brand and reputation could be adversely affected and we may incur expenses that are not offset by sales. If we expand into new categories, consumer demands may be different, and there is no assurance that the flash sales model will be successful in these new categories. We may make substantial investments in such new categories in anticipation of future net sales. If the launch of a new category requires investments greater than we expect, if we are unable to attract vendors that produce sufficient high quality, value-oriented products or if the sales generated from a new category grow more slowly or produce lower gross margins than we expect, our results of operations could be adversely impacted. Expansion of our product lines may also strain our management and operational resources, specifically the need to hire and manage additional merchandise buyers to source and curate these new products. We may also face greater competition in specific categories from Internet sites that are more focused on such categories. It may be difficult to differentiate our offering from other competitors as we offer additional product categories, and our customers may have additional considerations in deciding whether or not to purchase these additional product categories. In addition, the relative profitability, if any, of new product lines may be lower than what we have experienced historically, and we may not generate sufficient net sales from new product initiatives to recoup our investments in them. If any of these were to occur, it could damage our reputation, limit our growth and have a material adverse effect on our business, financial condition and operating results.

 

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Customer growth and activity on mobile devices depends upon effective use of mobile operating systems, networks and standards that we do not control.

Purchases using mobile devices by consumers generally, and by our customers specifically, have increased significantly, and we expect this trend to continue. To optimize the mobile shopping experience, we are somewhat dependent on our customers downloading our specific mobile applications for their particular device as opposed to accessing our sites from an Internet browser on their mobile device. As new mobile devices and platforms are released, it is difficult to predict the problems we may encounter in developing applications for these alternative devices and platforms, and we may need to devote significant resources to the creation, support and maintenance of such applications. In addition, our future growth and our results of operations could suffer if we experience difficulties in the future in integrating our mobile applications into mobile devices or if problems arise with our relationships with providers of mobile operating systems or mobile application download stores, such as those of Apple Inc. or Google Inc., if our applications receive unfavorable treatment compared to competing applications, such as the order of our products in the Apple AppStore, or if we face increased costs to distribute or have customers use our mobile app. We are further dependent on the interoperability of our sites with popular mobile operating systems that we do not control, such as iOS and Android, and any changes in such systems that degrade the functionality of our sites or give preferential treatment to competitive products could adversely affect the usage of our sites on mobile devices. In the event that it is more difficult for our customers to access and use our sites on their mobile devices, or if our customers choose not to access or to use our sites on their mobile devices or to use mobile products that do not offer access to our sites, our customer growth could be harmed and our business, financial condition and operating results may be materially and adversely affected.

Our business depends on a strong brand. We may not be able to maintain and enhance our brand, or we may receive unfavorable customer complaints or negative publicity, which could adversely affect our brand.

We believe that the brand we have built with our customers has significantly contributed to the success of our business. We also believe that maintaining and enhancing the “zulily” brand is critical to expanding our base of customers and vendors. Maintaining and enhancing our brand may require us to make substantial investments, and these investments may not be successful. If we fail to promote and maintain the “zulily” brand or if we incur excessive expenses in this effort, our business, operating results and financial condition may be materially and adversely affected. We anticipate that, as our market becomes increasingly competitive, maintaining and enhancing our brand may become increasingly difficult and expensive. Maintaining and enhancing our brand will depend largely on our ability to continue to provide reliable, trustworthy and high quality products to our customers and a reliable, trustworthy and profitable market to our vendors, which we may not do successfully.

Our brand depends on effective customer support, which requires significant personnel expense. If not managed properly, this expense could impact our profitability. Failure to manage or train our own or outsourced customer support representatives properly could compromise our ability to handle customer complaints effectively.

Customer complaints or negative publicity about our sites, products, product delivery times, customer data handling and security practices or customer support, especially on social media platforms such as blogs and social media websites, could rapidly and severely diminish consumer use of our sites and consumer and vendor confidence in us and cause our reputation to suffer.

 

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Uncertainties in global economic conditions and their impact on consumer spending patterns, particularly in the apparel, toys, infant gear, kitchen accessories and home décor segments, could adversely impact our operating results.

Our performance is subject to global economic conditions and their impact on levels of consumer spending worldwide, particularly spending on children and women’s apparel, toys, infant gear, kitchen accessories and home décor. Some of the factors adversely affecting consumer spending include levels of unemployment, consumer debt levels, changes in net worth based on market changes and uncertainty, home foreclosures and changes in home values, fluctuating interest rates, credit availability, government actions, fluctuating fuel and other energy costs, fluctuating commodity prices and general uncertainty regarding the overall future economic environment. Consumer purchases of discretionary items, including our merchandise, generally decline during periods when disposable income is adversely affected or there is economic uncertainty. Adverse economic changes in any of the regions in which we sell our products could reduce consumer confidence and could negatively affect net sales and have a material adverse effect on our operating results.

Our business is subject to seasonal sales fluctuations which could result in volatility or have an adverse effect on the market price of our Class A common stock.

We believe our results are impacted by a pattern of increased sales during the back-to-school shopping season in the third quarter and holiday shopping season in the fourth quarter which has resulted in increased sales during a portion of the third quarter and the fourth quarter each fiscal year, which then results in lower sequential growth in the first quarter. For example, net sales in the first quarter of 2013 decreased when compared with net sales in the fourth quarter of 2012. We also believe that we have experienced slower growth in orders placed during the late spring and early summer months, although we do not believe this pattern has affected net sales. Our historical growth rates and limited operating history make it difficult to discern the impact of any seasonality in our business. To the extent the growth of our business slows, these seasonal fluctuations may become more evident. Seasonality may cause our working capital cash flow requirements to vary from quarter-to-quarter depending on the variability in the volume and timing of sales. These factors, among other things, make forecasting more difficult and may adversely affect our ability to manage working capital and to predict financial results accurately, which could result in volatility or adversely affect the market price of our Class A common stock.

Failure to continue to provide our customers with differentiated merchandise from vendors will harm our business.

Our net sales growth depends, in part, on our ability to continue to source unique merchandise in sufficient quantities at competitive prices from vendors. Offering a variety of brands, styles, categories and products at affordable price points is important to our ability to acquire new customers and to keep our existing customers engaged and purchasing products. Typically, our events feature over 4,000 product styles from different vendors and last for 72 hours, and we believe our business requires us to continue this rapid pace of product introduction. Growth in the number of our customers, as well as increased competition, may make it difficult to source additional brands and styles in sufficient quantities and on acceptable terms to meet the demand of our customers. Since launching our sites, we have purchased our merchandise from over 10,000 brands, with a particular focus on emerging brands and smaller boutique vendors. We believe our ability to offer our customers a high volume of merchandise from emerging brands and smaller boutique vendors is particularly important to our long-term success.

We have no contractual assurances of continued supply, pricing or access to new products, and vendors could change the terms upon which they sell to us or discontinue selling to us for future sales at any time. As we grow, continuing to identify a sufficient number of new emerging brands and smaller

 

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boutique vendors may become more and more of a challenge. If we are not able to identify and effectively promote these new brands, we may lose customers to our competitors. Even if we identify new vendors, we may not be able to purchase desired merchandise in sufficient quantities on terms acceptable to us in the future, and products from alternative sources, if any, may be of a lesser quality or more expensive than those from existing vendors. In addition, larger national brands may offer products that are less unique, and it may be easier for our competitors to offer such products at prices or upon terms that may be compelling to consumers. An inability to purchase suitable merchandise on acceptable terms or to source new vendors could have a material adverse effect on our business, financial condition and operating results.

Our merchandise approach and the flash sales model is challenging and if not managed effectively, could adversely affect our operating results.

To support our large and diverse base of vendors and our flash sales model which requires constantly changing products, we must incur significant costs, including costs related to our merchandising team, photography studios and creative personnel. As our business grows, we may not be able to continue to expand our product offerings in a cost-effective manner. Expanding personnel in our merchandising and studio departments is challenging due to competition for such personnel, and expansion of our studio spaces may require fixed expenses and investments that will impact profitability and may not be recouped if sufficient additional net sales are not generated.

In addition, the variety in size and sophistication of our vendors presents different challenges to our infrastructure and operations. Our emerging brands and smaller boutique vendors may be less experienced in manufacturing and shipping, which in the past has lead to inconsistencies in quality, delays in the delivery of merchandise or additional fulfillment cost. Our larger national brands may impose additional requirements on us or offer less favorable terms than our smaller vendors related to margins and inventory ownership and risk. If we are unable to maintain and effectively manage our relationships with our emerging brands and smaller boutique vendors or our larger national brands, our business, financial condition and operating results could be materially and adversely affected.

Failure of our vendors to supply high quality and compliant merchandise in a timely manner may damage our reputation and brand and harm our business.

We depend on our vendors to supply high quality merchandise in a timely manner. The failure of these vendors to supply merchandise which meets our quality standards or the quality standards of our customers could damage our reputation and harm our business, financial condition and operating results.

Our vendors are subject to various risks, including raw material costs, inflation, labor disputes, union organizing activities, boycotts, financial liquidity, product merchantability, safety issues, inclement weather, natural disasters, disruptions in exports, trade restrictions, trade disruptions, currency fluctuations and general economic and political conditions that could limit the ability of our vendors to provide us with high quality merchandise on a timely basis and at prices and payment terms that are commercially acceptable. For these or other reasons, one or more of our vendors might not adhere to our vendor terms and conditions or their applicable contract or might stop providing us with high quality merchandise. If there are any deficiencies in the products our vendors have provided to us, we might not identify such deficiencies before products ship to our customers.

In addition, our vendors may have difficulty adjusting to our changing demands and growing business. Failure of our vendors to provide us with quality merchandise that complies with all applicable laws, including but not limited to product safety regulations and legislation, in a timely and effective manner could damage our reputation and brand and could lead to an increase in customer litigation against us and an increase in our routine and non-routine litigation costs. Further, any

 

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merchandise could become subject to a recall, regulatory action or legal claim, which could result in increased legal expenses as well as damage to our reputation and brand and harm to our business. We cannot predict whether any of the countries in which our merchandise currently is manufactured or may be manufactured in the future will be subject to additional trade restrictions imposed by the United States and other foreign governments, including the likelihood, type or effect of any such restrictions. Such developments could have a material adverse effect on our business, financial condition and operating results.

Any failure by our vendors to comply with product safety, labor or other laws, or our standard vendor terms and conditions or to provide safe factory conditions for their workers, may damage our reputation and brand and harm our business.

Many of the products we sell on our sites are subject to regulation by the Federal Consumer Product Safety Commission, the Federal Food and Drug Administration and similar state and international regulatory authorities. As a result, such products have been and could be in the future subject to recalls and other remedial actions. Many of the products we sell are for children, and these products are often subject to enhanced safety concerns and additional scrutiny and regulation. Product safety concerns may require us to voluntarily remove selected products from our sites. Such recalls and voluntary removal of products can result in, among other things, lost sales, diverted resources, potential harm to our reputation and increased customer service costs and legal expenses, which could have a material adverse effect on our business, financial condition and operating results.

Some of the products we sell may expose us to product liability claims and litigation or regulatory action relating to personal injury, death or environmental or property damage. Although we maintain liability insurance, we cannot be certain that our coverage will be adequate for liabilities actually incurred or that insurance will continue to be available to us on economically reasonable terms, or at all. In addition, some of our agreements with our vendors may not indemnify us from product liability for a particular vendor’s products, or our vendors may not have sufficient resources or insurance to satisfy their indemnity and defense obligations.

We purchase our merchandise from numerous domestic and international manufacturers. Our standard vendor terms and conditions require vendors to comply with applicable laws. Failure of our vendors to comply with applicable laws and regulations and contractual requirements could lead to litigation against us, resulting in increased legal expenses and costs. In addition, the failure of any such vendors to provide safe and humane factory conditions and oversight at their facilities could damage our reputation with consumers or result in legal claims against us.

If we do not successfully optimize, operate and manage the expansion of capacity of our fulfillment centers, our business, financial condition and operating results could be harmed.

If we do not optimize and operate our fulfillment centers successfully and efficiently, it could result in excess or insufficient fulfillment capacity, an increase in costs or impairment charges or harm our business in other ways. We have very limited experience designing and operating fulfillment centers. In addition, if we do not have sufficient fulfillment capacity or experience a problem fulfilling orders in a timely manner, our customers may experience delays in receiving their purchases, which could harm our reputation and our relationship with our customers.

We depend on a third party to provide staffing for our U.S. fulfillment centers. By using a third-party staffing organization, we face additional risks that are outside of our control, such as employment claims, issues arising from failure to comply with labor or other laws, union organizing activities and any deterioration in the finance and operations of such organization. If our third-party staffing organization is unable to adequately staff our fulfillment centers or if the cost of such staffing is higher

 

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than historical or projected costs, our operations could be harmed. Outside of the United States, we depend on a third party to provide fulfillment services, and we face similar risks with that third party.

We have designed and built our own fulfillment center infrastructure, including customizing third-party inventory and package handling software systems, which is tailored to meet the specific needs of our business. If we continue to add fulfillment and warehouse capabilities, add new businesses or categories with different fulfillment requirements or change the mix in products that we sell, our fulfillment network will become increasingly complex and operating it will become more challenging. For example, in our prior outsourced third-party fulfillment center, operational difficulties were encountered as our shipping volumes increased dramatically, which resulted in shipping delays and customer dissatisfaction. Failure to successfully address such challenges in a cost-effective and timely manner could impair our ability to timely deliver our customers’ purchases and could harm our reputation and ultimately, our business, financial condition and operating results.

Our current fulfillment center network has the capability to handle limited growth with the current mix of product offerings before additional capacity will be required. We anticipate the need to add additional fulfillment center capacity by late 2014. The expansion of our fulfillment center capacity will put pressure on our managerial, financial, operational and other resources. We cannot assure you that we will be able to locate suitable facilities on commercially acceptable terms in accordance with our expansion plans, nor can we assure you that we will be able to recruit qualified managerial and operational personnel to support our expansion plans. If we are unable to secure new facilities for the expansion of our fulfillment operations or to effectively control expansion-related expenses, our business, prospects, financial condition and operating results could be materially and adversely affected. If we grow faster than we anticipate, we may exceed our fulfillment center capacity sooner than we anticipate, we may experience problems fulfilling orders in a timely manner or our customers may experience delays in receiving their purchases, which could harm our reputation and our relationship with our customers, and we would need to increase our capital expenditures more than anticipated. Many of the expenses and investments with respect to our fulfillment centers are fixed, and any expansion of such fulfillment centers will require additional investment of capital. We expect to incur higher capital expenditures in the future for our fulfillment center operations. We may incur such expenses or make such investments in advance of expected sales, and such expected sales may not occur.

We generally do not hold inventory until products have been ordered by customers, which results in slower delivery time than other e-commerce retailers.

We generally do not order inventory from our vendors to be held in our fulfillment centers until after the products have been ordered by our customers. As a result, the time from when an order is placed on our sites to when the product is delivered to our customers is longer than for many other e-commerce retailers who generally carry significant inventory that enables them to expedite delivery. Our average order-to-ship time in the second quarter of 2013 was 10.6 days. Our relatively slower delivery times may place us at a competitive disadvantage to other e-commerce retailers. If we are required to decrease our delivery times to address this competition or to meet customer demands, we may be required to incur additional shipping costs, which we may or may not be able to pass on to our customers, or to change our operations to carry additional inventory and face additional inventory risk, either of which could adversely affect our business, financial condition and operating results.

Our business relies heavily on email and other messaging services, and any restrictions on the sending of emails or messages or an inability to timely deliver such communications could adversely affect our net sales and business.

Our business is highly dependent upon email and other messaging services for promoting our sites and products. We provide daily emails and mobile alerts to subscribers informing them of what is

 

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available for purchase on our sites that day, and we believe these emails are an important part of our customer experience and help generate a substantial portion of our net sales. If we are unable to successfully deliver emails or other messages to our subscribers, or if subscribers decline to open our emails or messages, our net sales and profitability would be adversely affected. Changes in how webmail applications organize and prioritize email may reduce the number of subscribers opening our emails. For example, Google Inc.’s Gmail service recently introduced a new feature that organizes incoming emails into categories (for example, primary, social and promotions). Such categorization or similar inbox organizational features may result in our emails being delivered in a less prominent location in a subscriber’s inbox or viewed as “spam” by our subscribers and may reduce the likelihood of that subscriber opening our emails. Actions by third parties to block, impose restrictions on or charge for the delivery of emails or other messages could also materially and adversely impact our business. From time to time, Internet service providers or other third parties may block bulk email transmissions or otherwise experience technical difficulties that result in our inability to successfully deliver emails or other messages to third parties. Changes in the laws or regulations that limit our ability to send such communications or impose additional requirements upon us in connection with sending such communications would also materially and adversely impact our business. Our use of email and other messaging services to send communications about our sites or other matters may also result in legal claims against us, which may cause us increased expenses, and if successful might result in fines and orders with costly reporting and compliance obligations or might limit or prohibit our ability to send emails or other messages. We also rely on social networking messaging services to send communications and to encourage customers to send communications. Changes to the terms of these social networking services to limit promotional communications, any restrictions that would limit our ability or our customers’ ability to send communications through their services, disruptions or downtime experienced by these social networking services or decline in the use of or engagement with social networking services by customers and potential customers could materially and adversely affect our business, financial condition and operating results.

We rely on a third-party service for the delivery of all our daily emails, and delay or errors in the delivery of such emails or other messaging we send may occur and are beyond our control. For example, the delivery of our daily emails to subscribers was recently delayed by two hours as a result of a third-party service error. Such delays could occur again in the future or be more severe, which could result in damage to our reputation or harm our business, financial condition and operating results. If we were unable to use our current email service or other messaging services, alternate services are available; however, we believe our sales could be impacted for some period as we transition to a new provider. Any disruption or restriction on the distribution of our emails or other messages, termination or disruption of our relationship with our messaging service providers, including our third-party service that delivers our daily emails, or any increase in our costs associated with our email and other messaging activities could materially and adversely affect our business, financial condition and operating results.

We may choose to expand or alter our operations by developing new sites or applications or by promoting new or complementary products, sales formats or services, which may increase our costs and may not be successful.

There can be no assurance that we will be able to expand or alter our operations in a cost-effective or timely manner or that any such efforts would be accepted by the market. Furthermore, any new business, website, application, product, promotion, sales format or service launched by us that is not favorably received by consumers could damage our reputation and brand. Any such expansion or alteration of our operations could also require significant additional expenses, management time and operations personnel that could impact our operating results. Any failure to generate satisfactory net sales from such expansion or alteration of our operations to offset their cost could have a material adverse effect on our business, financial condition and operating results.

 

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We are subject to payment-related risks.

We accept payments using a variety of methods, including credit card, debit card, PayPal and gift cards. As we offer new payment options to consumers, we may be subject to additional regulations, compliance requirements and fraud. For certain payment methods, including credit and debit cards, we pay interchange and other fees, which may increase over time and raise our operating costs and lower profitability. We are also subject to payment card association operating rules and certification requirements, including the Payment Card Industry Data Security Standard and rules governing electronic funds transfers, which could change or be reinterpreted to make it difficult or impossible for us to comply. If we fail to comply with the rules or requirements of any provider of a payment method we accept, among other things, we may be subject to fines or higher transaction fees and may lose, or face restrictions placed upon, our ability to accept credit and debit card payments from consumers or facilitate other types of online payments. If any of these events were to occur, our business, financial condition and operating results could be materially and adversely affected.

We also may incur significant losses from fraud. We may incur losses from claims that the consumer did not authorize the purchase, from merchant fraud, from erroneous transmissions and from consumers who have closed bank accounts or have insufficient funds in them to satisfy payments. In addition to the direct costs of such losses, if they are related to credit card transactions and become excessive, they could potentially result in our losing the right to accept credit cards for payment. In addition, under current credit card practices, we are liable for fraudulent credit card transactions because we do not obtain a cardholder’s signature. We do not currently carry insurance against this risk. To date, we have experienced minimal losses from credit card fraud, but we continue to face the risk of significant losses from this and other types of fraud. Our failure to adequately control fraudulent transactions could damage our reputation and brand and result in litigation or regulatory action, causing an increase in legal expenses and fees and substantially harm our business, financial condition and operating results.

Government regulation of the Internet and e-commerce is evolving, and unfavorable changes or failure by us to comply with these regulations could substantially harm our business and results of operations.

We are subject to general business regulations and laws as well as regulations and laws specifically governing the Internet and e-commerce. Existing and future regulations and laws could impede the growth of the Internet, e-commerce or mobile commerce. These regulations and laws may involve taxes, tariffs, privacy and data security, anti-spam, content protection, electronic contracts and communications, consumer protection and gift cards. It is not clear how existing laws governing issues such as property ownership, sales and other taxes and consumer privacy apply to the Internet as the vast majority of these laws were adopted prior to the advent of the Internet and do not contemplate or address the unique issues raised by the Internet or e-commerce. It is possible that general business regulations and laws, or those specifically governing the Internet or e-commerce, may be interpreted and applied in a manner that is inconsistent from one jurisdiction to another and may conflict with other rules or our practices. We cannot guarantee that our practices have complied, comply or will comply fully with all such laws and regulations. Any failure, or perceived failure, by us to comply with any of these laws or regulations could result in damage to our reputation, a loss in business and proceedings or actions against us by governmental entities or others. Any such proceeding or action could hurt our reputation, force us to spend significant amounts in defense of these proceedings, distract our management, increase our costs of doing business, decrease the use of our sites by consumers and vendors and may result in the imposition of monetary liability. We may also be contractually liable to indemnify and hold harmless third parties from the costs or consequences of non-compliance with any such laws or regulations. In addition, it is possible that governments of one or more countries may seek to censor content available on our sites or may even attempt to completely block access to our sites. Adverse legal or regulatory developments could substantially harm our business. In particular, in the

 

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event that we are restricted, in whole or in part, from operating in one or more countries, our ability to retain or increase our customer base may be adversely affected, and we may not be able to maintain or grow our net sales and expand our business as anticipated.

Failure to comply with federal, state and international laws and regulations relating to privacy, data protection and consumer protection, or the expansion of current or the enactment of new laws or regulations relating to privacy, data protection and consumer protection, could adversely affect our business and our financial condition.

A variety of federal, state and international laws and regulations govern the collection, use, retention, sharing and security of consumer data. Laws and regulations relating to privacy, data protection and consumer protection are evolving and subject to potentially differing interpretations. We strive to comply with all applicable laws, regulations and other legal obligations relating to privacy, data protection and consumer protection, including those relating to the use of data for marketing purposes. It is possible, however, that these requirements may be interpreted and applied in a manner that is inconsistent from one jurisdiction to another or may conflict with other rules or our practices. We cannot guarantee that our practices have complied, comply or will comply fully with all such laws, regulations, requirements and obligations. Any failure, or perceived failure, by us to comply with our posted privacy policies or with any federal, state or international privacy or consumer protection-related laws, regulations, industry self-regulatory principles, industry standards or codes of conduct, regulatory guidance, orders to which we may be subject or other legal obligations relating to privacy or consumer protection could adversely affect our reputations, brand and business, and may result in claims, proceedings or actions against us by governmental entities or others or other liabilities. Any such claim, proceeding or action could hurt our reputation, brand and business, force us to incur significant expenses in defense of such proceedings, distract our management, increase our costs of doing business, result in a loss of customers and vendors and may result in the imposition of monetary liability. We may also be contractually liable to indemnify and hold harmless third parties from the costs or consequences of non-compliance with any laws, regulations or other legal obligations relating to privacy or consumer protection or any inadvertent or unauthorized use or disclosure of data that we store or handle as part of operating our business.

Federal, state and international governmental authorities continue to evaluate the privacy implications inherent in the use of third-party “cookies” and other methods of online tracking for behavioral advertising and other purposes. U.S. and foreign governments have enacted, considered or are considering legislation or regulations that could significantly restrict the ability of companies and individuals to engage in these activities, such as by regulating the level of consumer notice and consent required before a company can employ cookies or other electronic tracking tools. Additionally, some providers of consumer devices and web browsers have implemented, or announced plans to implement, means to make it easier for Internet users to prevent the placement of cookies or to block other tracking technologies, which could if widely adopted result in the use of third-party cookies and other methods of online tracking becoming significantly less effective. The regulation of the use of these cookies and other current online tracking and advertising practices or a loss in our ability to make effective use of services that employ such practices could increase our costs of operations and limit our ability to acquire new customers on cost-effective terms and consequently, materially and adversely affect our business, financial condition and operating results.

Foreign data protection, privacy and other laws and regulations are often more restrictive than those in the United States. The European Union, for example, traditionally has imposed stricter obligations under its laws and regulations relating to privacy, data protection and consumer protection than the United States. Individual EU member countries have had discretion with respect to their interpretation and implementation of these laws, resulting in variation of privacy standards from country to country. Legislation and regulation in the European Union and some EU member states require

 

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companies to obtain specific types of notice and consent from consumers before using cookies or other tracking technologies. International expansion of our operations may require changes in the way we use consumer information in operating our business. Compliance with such laws and regulations will result in additional costs and may necessitate changes to our business practices, which may adversely affect our business and financial condition. Further, there is no harmonized approach to legal compliance in many of these regions, and there is little regulatory guidance. Consequently, we could be at risk of non-compliance with applicable foreign data protection laws as we continue our international expansion.

In addition, various federal, state and foreign legislative and regulatory bodies, or self-regulatory organizations, may expand current laws or regulations, enact new laws or regulations or issue revised rules or guidance regarding privacy, data protection and consumer protection. Any such changes may force us to incur substantial costs or require us to change our business practices. This could compromise our ability to pursue our growth strategy effectively and may adversely affect our ability to acquire customers or otherwise harm our business, financial condition and operating results.

Our failure or the failure of third-party service providers to protect our sites, networks and systems against security breaches, or otherwise to protect our confidential information, could damage our reputation and brand and substantially harm our business and operating results.

Our business employs sites, networks and systems through which we collect, maintain, transmit and store data about our customers, vendors and others, including credit card information and personally identifiable information, as well as other confidential and proprietary information. We also employ third-party service providers that store, process and transmit proprietary, personal and confidential information on our behalf. We rely on encryption and authentication technology licensed from third parties in an effort to securely transmit confidential and sensitive information, including credit card numbers. Advances in computer capabilities, new technological discoveries or other developments may result in the whole or partial failure of this technology to protect transaction data or other confidential and sensitive information from being breached or compromised. More generally, we take steps to protect the security, integrity and confidentiality of the information we collect, store or transmit, but there is no guarantee that inadvertent or unauthorized use or disclosure will not occur or that third parties will not gain unauthorized access to this information despite our efforts. Our security measures, and those of our third-party service providers, may not detect or prevent all attempts to hack our systems, denial-of-service attacks, viruses, malicious software, break-ins, phishing attacks, social engineering, security breaches or other attacks and similar disruptions that may jeopardize the security of information stored in or transmitted by our sites, networks and systems or that we or our third-party service providers otherwise maintain. We and our service providers may not have the resources or technical sophistication to anticipate or prevent all types of attacks, and techniques used to obtain unauthorized access to or sabotage systems change frequently and may not be known until launched against us or our third-party service providers. In addition, security breaches can also occur as a result of non-technical issues, including intentional or inadvertent breaches by our employees or by persons with whom we have commercial relationships.

Breaches of our security measures or those of our third-party service providers or cyber security incidents could result in unauthorized access to our sites, networks and systems; unauthorized access to and misappropriation of consumer information, including consumers’ personally identifiable information, or other confidential or proprietary information of ourselves or third parties; viruses, worms, spyware or other malware being served from our sites, networks or systems; deletion or modification of content or the display of unauthorized content on our sites; interruption, disruption or malfunction of operations; costs relating to breach remediation, deployment of additional personnel and protection technologies, response to governmental investigations and media inquiries and coverage; engagement of third party experts and consultants; litigation, regulatory action and other potential liabilities. If any of

 

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these breaches of security occur, our reputation and brand could be damaged, our business may suffer, we could be required to expend significant capital and other resources to alleviate problems caused by such breaches and we could be exposed to a risk of loss, litigation or regulatory action and possible liability. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional personnel and protection technologies, train employees and engage third-party experts and consultants. In addition, any party who is able to illicitly obtain a subscriber’s password could access the subscriber’s transaction data or personal information. Any compromise or breach of our security measures, or those of our third-party service providers, could violate applicable privacy, data security and other laws, and cause significant legal and financial exposure, adverse publicity and a loss of confidence in our security measures, which could have an adverse and material effect on our business, financial condition and operating results. Although we maintain privacy, data breach and network security liability insurance, we cannot be certain that our coverage will be adequate for liabilities actually incurred or that insurance will continue to be available to us on economically reasonable terms, or at all. We may need to devote significant resources to protect against security breaches or to address problems caused by breaches, diverting resources from the growth and expansion of our business.

Changes in tax treatment of companies engaged in e-commerce may adversely affect the commercial use of our sites and our financial results.

Due to the global nature of the Internet, it is possible that various states or foreign countries might attempt to impose additional or new regulation on our business or levy additional or new sales, income or other taxes relating to our activities. Tax authorities at the international, federal, state and local levels are currently reviewing the appropriate treatment of companies engaged in e-commerce. New or revised international, federal, state or local tax regulations may subject us or our customers to additional sales, income and other taxes. For example, the U.S. Senate has recently passed legislation, the “Marketplace Fairness Act,” that would require companies engaged in e-commerce to collect sales tax taxes on Internet sales. The U.S. House of Representatives is currently considering such legislation. We cannot predict the effect of current attempts to impose sales, income or other taxes on e-commerce. New or revised taxes and, in particular, sales taxes, VAT and similar taxes would likely increase the cost of doing business online and decrease the attractiveness of advertising and selling products over the Internet. New taxes could also create significant increases in internal costs necessary to capture data and collect and remit taxes. Any of these events could have a material and adverse effect on our business, financial condition and operating results.

Taxing authorities may successfully assert that we should have collected or in the future should collect sales and use, VAT or similar taxes, and we could be subject to liability with respect to past or future sales, which could adversely affect our operating results.

We do not collect sales and use, VAT and similar taxes in all jurisdictions in which we have sales, based on our belief that such taxes are not applicable. Sales and use, VAT and similar tax laws and rates vary greatly by jurisdiction. Certain jurisdictions in which we do not collect such taxes on our sales may assert that such taxes are applicable, which could result in tax assessments, penalties and interest, and we may be required to collect such taxes in the future. Such tax assessments, penalties and interest or future requirements may materially and adversely affect our business, financial condition and operating results.

We may experience fluctuations in our tax obligations and effective tax rate, which could materially and adversely affect our operating results.

We are subject to taxes in the United States and numerous international jurisdictions. We record tax expense based on current tax payments and our estimates of future tax payments, which may

 

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include reserves for estimates of probable settlements of international and domestic tax audits. At any one time, multiple tax years are subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may affect the ultimate settlement of these issues. As a result, we expect that throughout the year there could be ongoing variability in our quarterly tax rates as taxable events occur and exposures are re-evaluated. Further, our effective tax rate in a given financial statement period may be materially impacted by changes in tax laws, changes in the mix and level of earnings by taxing jurisdiction, changes to existing accounting rules or regulations or by changes to our ownership or capital structures. Fluctuations in our tax obligations and effective tax rate could materially and adversely affect our results of business, financial condition and operating results.

In addition, we are evaluating and may adopt a corporate structure to more closely align with our international operations and any future international expansion, which will require us to incur expenses but could fail to achieve the intended benefits. This proposed corporate structure may result in a reduction in our overall effective tax rate through changes in how we use our intellectual property, international procurement and sales operations. This proposed corporate structure may also allow us to obtain financial and operational efficiencies. If we adopt this revised structure, it will require us to incur expenses in the near term for which we may not realize related benefits. If the intended structure is not accepted by the applicable taxing authorities, changes in domestic and international tax laws negatively impact the proposed structure, including proposed legislation to reform U.S. taxation of international business activities or we do not operate our business consistent with the proposed structure and applicable tax provisions, we may fail to achieve the financial and operational efficiencies that we anticipate as a result of the proposed structure, and our business, financial condition and operating results may be materially and adversely affected.

Our business depends on network and mobile infrastructure, our single third-party data center hosting facility, other third-party providers and our ability to maintain and scale our technology. Any significant interruptions or delays in service on our sites or any undetected errors or design faults could result in limited capacity, reduced demand, processing delays and loss of customers or vendors.

A key element of our strategy is to generate a high volume of traffic on, and use of, our sites. Our reputation and ability to acquire, retain and serve our customers are dependent upon the reliable performance of our sites and the underlying network infrastructure. As our customer base and the amount of information shared on our sites continue to grow, we will need an increasing amount of network capacity and computing power. We have spent and expect to continue to spend substantial amounts on data centers and equipment and related network infrastructure to handle the traffic on our sites. The operation of these systems is expensive and complex and could result in operational failures. In the event that our customer base or the amount of traffic on our sites grows more quickly than anticipated, we may be required to incur significant additional costs to enhance the underlying network infrastructure. Interruptions or delays in these systems, whether due to system failures, computer viruses, physical or electronic break-ins, undetected errors, design faults or other unexpected events or causes, could affect the security or availability of our sites and prevent our customers from accessing our sites. For example, we recently experienced a significant spike in traffic and transactions on our sites, which caused an interruption in the operation of our sites for a period of time.

We depend on the development and maintenance of the Internet and mobile infrastructure. This includes maintenance of reliable Internet and mobile networks with the necessary speed, data capacity and security, as well as timely development of complementary products, for providing reliable Internet and mobile access and services.

We currently utilize a single third-party data center hosting facility located in Atlanta, Georgia. Nearly all of our data storage and analytics are conducted on, and the data and content we create

 

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associated with sales on our sites are processed through, servers in this facility. We also rely on email service providers, bandwidth providers, Internet service providers and mobile networks to deliver our email and “push” communications to subscribers and to allow subscribers to access our sites. Any damage to, or failure of, the systems of our third-party data center or our other third-party providers could result in interruptions to the availability or functionality of our sites. If for any reason our arrangements with our data center or third-party providers are terminated or interrupted, such termination or interruption could adversely affect our business. We exercise little control over these providers, which increases our vulnerability to problems with the services they provide. We could experience additional expense in arranging for new facilities, technology, services and support. In addition, the failure of our data center or any other third-party providers to meet our capacity requirements could result in interruptions in the availability or functionality of our sites.

The occurrence of a natural disaster, an act of terrorism, vandalism or sabotage, a decision to close the third-party data center on which we normally operate or the facilities of any third-party provider without adequate notice or other unanticipated problems at these facilities could result in lengthy interruptions in the availability of our solutions. While we have some limited disaster recovery arrangements in place, they have not been tested under actual disasters or similar events and may not effectively permit us to continue to provide our products in the event of any problems with respect to our data center or any other third-party facilities. To date, we have not experienced these types of events, but we cannot provide any assurances that they will not occur in the future. If any such event were to occur to our business, the delivery of our products could be impaired and our business, financial condition and operating results may be materially and adversely affected.

We may from time to time pursue acquisitions, which could have an adverse impact on our business, as could the integration of the businesses following acquisition.

As part of our business strategy, we may acquire other companies or businesses. Acquisitions involve numerous risks, any of which could harm our business, including: difficulties in integrating the technologies, operations, existing contracts and personnel of an acquired company; difficulties in supporting and transitioning vendors, if any, of an acquired company; diversion of financial and management resources from existing operations or alternative acquisition opportunities; failure to realize the anticipated benefits or synergies of a transaction; failure to identify all of the problems, liabilities or other shortcomings or challenges of an acquired company or technology, including issues related to intellectual property, regulatory compliance practices, revenue recognition or other accounting practices or employee or customer issues; risks of entering new markets in which we have limited or no experience; potential loss of key employees, customers and vendors from either our current business or an acquired company’s business; inability to generate sufficient net sales to offset acquisition costs; additional costs or equity dilution associated with funding the acquisition; and possible write-offs or impairment charges relating to acquired businesses.

Expansion of our international operations will require management attention and resources, involves additional risks, and may be unsuccessful, which could harm our future business development and existing domestic operations.

To date, we have conducted limited international operations in the United Kingdom but plan to further expand into international markets in order to grow our business. These expansion plans will require management attention and resources and may be unsuccessful. We have limited experience in selling our products to conform to different local cultures, standards and policies, and the flash sales model we employ and the products we offer may not appeal to moms in the same manner, if at all, in other geographies. In addition, we may need to vary our practices in ways with which we have limited or no experience or which are less profitable or carry more risk to us. For example, we permit customer returns in the United Kingdom and expect that we may be required to adopt similar policies in other

 

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jurisdictions. We may have to compete with local companies which understand the local market better than we do. In addition, to deliver satisfactory performance for customers in international locations, it may be necessary to locate physical facilities, such as fulfillment centers in foreign markets, and we may have to invest in these facilities before the success or lack thereof of our foreign operations. We have limited experience establishing such facilities overseas. We may not be successful in expanding into any international markets or in generating net sales from foreign operations. Furthermore, different privacy, censorship, liability, intellectual property and other laws and regulations in foreign countries may cause our business, financial condition and operating results to be materially and adversely affected.

Our future results could be adversely affected by a number of factors inherent in international operations, including:

 

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localization of our product offerings, including translation into foreign languages and adaptation for local practices;

 

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different consumer demand dynamics, which may make the flash sales model less successful compared to the United States;

 

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unexpected changes in regulatory requirements, taxes, trade laws, tariffs, export quotas, custom duties or other trade restrictions;

 

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differing labor regulations where labor laws may be more advantageous to employees as compared to the United States;

 

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more stringent regulations relating to data security and the unauthorized use of, or access to, commercial and personal information, particularly in the European Union;

 

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reluctance to allow personally identifiable data related to non-U.S. citizens to be stored in databases within the United States, due to concerns over the U.S. government’s right to access information in these databases or other concerns;

 

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changes in a specific country’s or region’s political or economic conditions;

 

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challenges inherent in efficiently managing an increased number of employees over large geographic distances, including the need to implement appropriate systems, policies, benefits and compliance programs;

 

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risks resulting from changes in currency exchange rates;

 

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limitations on our ability to reinvest earnings from operations in one country to fund the capital needs of our operations in other countries;

 

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different or lesser intellectual property protection; and

 

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exposure to liabilities under anti-corruption and anti-money laundering laws, including the U.S. Foreign Corrupt Practices Act and similar laws and regulations in other jurisdictions.

Operating internationally requires significant management attention and financial resources. We cannot be certain that the investment and additional resources required to establish and expand our international operations will produce desired levels of net sales or profitability. If we invest substantial time and resources to establish and expand our international operations and are unable to do so successfully and in a timely manner, our business, financial condition and operating results may be materially and adversely affected.

We rely on the performance of members of management and highly skilled personnel, and if we are unable to attract, retain and motivate well-qualified employees, our business could be harmed.

We believe our success has depended, and continues to depend, on the efforts and talents of Darrell Cavens, one of our founders and our chief executive officer, Mark Vadon, one our founders and

 

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chairman of the board of directors, and other members of our management team. Our success also depends on our highly skilled team of employees, including our merchandising and technology personnel. Our future success depends on our continuing ability to attract, develop, motivate and retain highly qualified and skilled employees, particularly mid-level managers and merchandising and technology personnel. The market for such positions in the Seattle area is particularly competitive. Qualified individuals are in high demand, and we may incur significant costs to attract them. In addition, the loss of any of our senior management or key employees or our inability to recruit and develop mid-level managers could materially and adversely affect our ability to execute our business plan, and we may not be able to find adequate replacements. All of our officers and other U.S. employees are at-will employees, meaning that they may terminate their employment relationship with us at any time, and their knowledge of our business and industry would be extremely difficult to replace. If we do not succeed in attracting well-qualified employees or retaining and motivating existing employees, our business, financial condition and operating results may be materially and adversely affected.

Our management team has limited experience managing a public company, and regulatory compliance may divert its attention from the day-to-day management of our business.

The individuals who now constitute our management team have limited experience managing a publicly-traded company and complying with the increasingly complex laws pertaining to public companies. Our management team may not successfully or efficiently manage our transition to being a public company subject to significant regulatory oversight and incremental reporting obligations under the federal securities laws. In particular, these new obligations will require substantial attention from our senior management and could divert their attention away from the day-to-day management of our business, which could materially and adversely affect our business, financial condition and operating results.

Adverse litigation judgments or settlements resulting from legal proceedings in which we may be involved could expose us to monetary damages or limit our ability to operate our business.

We may become involved from time to time in private actions, collective actions, investigations and various other legal proceedings by employees, suppliers, competitors, government agencies or others. For example, we were previously named in a class action lawsuit alleging violations of state gift card laws with respect to the credits we offer to our subscribers for referring new customers. The results of any such litigation, investigations and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time-consuming, result in costly litigation, damage our reputation, require significant amounts of management time and divert significant resources. If any of these legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to monetary damages or limits on our ability to operate our business, which could have a material adverse effect on our business, financial condition and operating results.

We may not be able to adequately protect our intellectual property rights.

We regard our subscriber list, marks, domain names, copyrights, patents, trade dress, trade secrets, proprietary technology and similar intellectual property as critical to our success, and we rely on trademark, copyright and patent law, trade secret protection, agreements and other methods with our employees and others to protect our proprietary rights. We might not be able to obtain effective intellectual property protection in every country in which we sell products. The protection of our intellectual property rights may require the expenditure of significant financial, managerial and operational resources. Moreover, the steps we take to protect our intellectual property may not adequately protect our rights or prevent third parties from infringing or misappropriating our proprietary

 

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rights. Any of our patents, marks or other intellectual property rights may be challenged by others or invalidated through administrative process or litigation. Our patent applications may never be granted. Additionally, the process of obtaining patent protection is expensive and time-consuming, and we may not be able to prosecute all necessary or desirable patent applications at a reasonable cost or in a timely manner. Even if issued, there can be no assurance that these patents will adequately protect our intellectual property, as the legal standards relating to the validity, enforceability and scope of protection of patent and other intellectual property rights are uncertain. We also cannot be certain that others will not independently develop or otherwise acquire equivalent or superior technology or intellectual property rights.

We might be required to spend significant resources to monitor and protect our intellectual property rights. We may not be able to discover or determine the extent of any infringement, misappropriation or other violation of our intellectual property rights and other proprietary rights. We may initiate claims or litigation against others for infringement, misappropriation or violation of our intellectual property rights or proprietary rights or to establish the validity of such rights. Despite our efforts, we may be unable to prevent third parties from infringing upon, misappropriating or otherwise violating our intellectual property rights and other proprietary rights. Any litigation, whether or not it is resolved in our favor, could result in significant expense to us and divert the efforts of our technical and management personnel, which may materially and adversely affect our business, financial condition and operating results.

We may be accused of infringing intellectual property rights of third parties.

We may in the future be subject to litigation and disputes related to our intellectual property rights and technology, as well as disputes related to intellectual property and product offerings of third-party vendors featured by us. The costs of supporting such litigation and disputes are considerable, and there can be no assurances that favorable outcomes will be obtained.

The e-commerce industry is characterized by vigorous protection and pursuit of intellectual property rights, which has resulted in protracted and expensive litigation for many companies. We are subject to claims and litigation by third parties that we infringe their intellectual property rights, and we expect additional claims and litigation with respect to infringement to occur in the future. As our business expands and the number of competitors in our market increases and overlaps occur, we expect that infringement claims may increase in number and significance. Any claims or proceedings against us, whether meritorious or not, could be time-consuming, result in costly litigation, require significant amounts of management time or result in the diversion of significant operational resources, any of which could materially and adversely affect our business, financial condition and operating results.

Legal claims regarding intellectual property rights are subject to inherent uncertainties due to the oftentimes complex issues involved, and we cannot be certain that we will be successful in defending ourselves against such claims. In addition, some of our larger competitors have extensive portfolios of issued patents. Many potential litigants, including patent holding companies, have the ability to dedicate substantially greater resources to enforce their intellectual property rights and to defend claims that may be brought against them. Furthermore, a successful claimant could secure a judgment that requires us to pay substantial damages or prevents us from conducting our business as we have historically done or may desire to do in the future. We might also be required to seek a license and pay royalties for the use of such intellectual property, which may not be available on commercially acceptable terms, or at all. Alternatively, we may be required to develop non-infringing technology or intellectual property, which could require significant effort and expense and may ultimately not be successful.

 

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We have received in the past, and we anticipate receiving in the future, communications alleging that certain items posted on or sold through our sites violate third-party copyrights, marks and trade names or other intellectual property rights or other proprietary rights. Brand and content owners and other proprietary rights owners have actively asserted their purported rights against online companies, including zulily. In addition to litigation from rights owners, we may be subject to regulatory, civil or criminal proceedings and penalties if governmental authorities believe we have aided and abetted in the sale of counterfeit or infringing products.

Such claims, whether or not meritorious, may result in the expenditure of significant financial, managerial and operational resources, injunctions against us or the payment of damages by us. We may need to obtain licenses from third parties who allege that we have violated their rights, but such licenses may not be available on terms acceptable to us, or at all. These risks have been amplified by the increase in third parties whose sole or primary business is to assert such claims.

The inability to acquire, use or maintain our “zulily” mark and domain names for our sites could substantially harm our business and operating results.

We currently are the registrant of the “zulily” mark in numerous jurisdictions and are the registrant of the Internet domain name for our website, zulily.com, as well as various related domain names. However, we have not registered the mark or domain name in all major international jurisdictions. Domain names generally are regulated by Internet regulatory bodies and are also controlled by trademark and other related laws of each country. If we do not have or cannot obtain on reasonable terms the ability to use our “zulily” mark in a particular country, or to use or register our domain name, we could be forced either to incur significant additional expenses to market our products within that country, including the development of a new brand and the creation of new promotional materials and packaging, or to elect not to sell products in that country. Either result could materially and adversely affect our business, financial condition and operating results.

Furthermore, the regulations governing domain names and laws protecting marks and similar proprietary rights could change in ways that block or interfere with our ability to use relevant domains or our current brand. Also, we might not be able to prevent third parties from registering, using or retaining domain names that interfere with our consumer communications or infringe or otherwise decrease the value of our marks, domain names and other proprietary rights. Regulatory bodies also may establish additional generic or country-code top-level domains or may allow modifications of the requirements for registering, holding or using domain names. As a result, we might not be able to register, use or maintain the domain names that utilize the name zulily in all of the countries in which we currently or intend to conduct business.

Some of our software and systems contain open source software, which may pose particular risks to our proprietary software and solutions.

We use open source software in our software and systems and will use open source software in the future. The licenses applicable to open source software typically require that the source code subject to the license be made available to the public and that any modifications or derivative works to open source software continue to be licensed under open source licenses. From time to time, we may face claims from third parties claiming infringement of their intellectual property rights, or demanding the release or license of the open source software or derivative works that we developed using such software (which could include our proprietary source code) or otherwise seeking to enforce the terms of the applicable open source license. These claims could result in litigation and could require us to purchase a costly license, publicly release the affected portions of our source code, be limited in the licensing of our technologies or cease offering the implicated solutions unless and until we can re-engineer them to avoid infringement or change the use of the implicated open source software. In addition to risks related to

 

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license requirements, use of certain open source software can lead to greater risks than use of third-party commercial software, as open source licensors generally do not provide warranties, indemnities or other contractual protections with respect to the software (for example, non-infringement or functionality). Our use of open source software may also present additional security risks because the source code for open source software is publicly available, which may make it easier for hackers and other third parties to determine how to breach our sites and systems that rely on open source software. Any of these risks could be difficult to eliminate or manage, and, if not addressed, could have a material and adverse effect on our business, financial condition and operating results.

Our results could be adversely affected by natural disasters, public health crises, political crises or other catastrophic events.

Our principal offices are located in Seattle, Washington, an area that has experienced earthquakes in the past, and are thus vulnerable to damage. Natural disasters, such as hurricanes, tornadoes, floods, earthquakes and other adverse weather and climate conditions; unforeseen public health crises, such as pandemics and epidemics; political crises, such as terrorist attacks, war and other political instability; or other catastrophic events, whether occurring in the United States or internationally, could disrupt our operations or the operations of one or more of our vendors. In particular, these types of events could impact our product supply chain from or to the impacted region and could impact our ability or the ability of third parties to operate our sites. In addition, these types of events could negatively impact consumer spending in the impacted regions or depending upon the severity, globally. To the extent any of these events occur, our business, financial condition and operating results could be materially and adversely affected.

Our ability to raise capital in the future may be limited, and our failure to raise capital when needed could prevent us from growing.

In the future, we could be required to raise capital through public or private financing or other arrangements. Such financing may not be available on acceptable terms, or at all, and our failure to raise capital when needed could harm our business. We may sell Class A common stock, convertible securities and other equity securities in one or more transactions at prices and in a manner as we may determine from time to time. If we sell any such securities in subsequent transactions, investors may be materially diluted. New investors in such subsequent transactions could gain rights, preferences and privileges senior to those of holders of our Class A common stock. Debt financing, if available, may involve restrictive covenants and could reduce our operational flexibility or profitability. If we cannot raise funds on acceptable terms, we may not be able to grow our business or respond to competitive pressures.

Risks Related to this Offering and Ownership of our Class A Common Stock

There has been no prior market for our Class A common stock. An active market may not develop or be sustainable, and investors may not be able to resell their shares at or above the initial public offering price.

There has been no public market for our Class A common stock prior to this offering. The initial public offering price for our Class A common stock will be determined through negotiations between a representative of the underwriters and us and may vary from the market price of our Class A common stock following the completion of this offering. An active or liquid market in our Class A common stock may not develop upon completion of this offering or, if it does develop, it may not be sustainable. In the absence of an active trading market for our Class A common stock, you may not be able to resell those shares at or above the initial public offering price or at the time you would like to sell. We cannot predict the prices at which our Class A common stock will trade.

 

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Our stock price may be volatile or may decline regardless of our operating performance, resulting in substantial losses for investors purchasing shares in this offering.

The market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, including:

 

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actual or anticipated fluctuations in our results of operations;

 

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the financial projections we may provide to the public, any changes in these projections or our failure to meet these projections;

 

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failure of securities analysts to initiate or maintain coverage of our company, changes in financial estimates or ratings by any securities analysts who follow our company or our failure to meet these estimates or the expectations of investors;

 

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announcements by us or our competitors of significant technical innovations, acquisitions, strategic partnerships, joint ventures, operating results or capital commitments;

 

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changes in operating performance and stock market valuations of other technology or retail companies generally, or those in our industry in particular;

 

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price and volume fluctuations in the overall stock market, including as a result of trends in the economy as a whole;

 

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changes in our board of directors or management;

 

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sales of large blocks of our Class A common stock, including sales by our executive officers, directors and significant stockholders;

 

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lawsuits threatened or filed against us;

 

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changes in laws or regulations applicable to our business;

 

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the expiration of contractual lock-up agreements;

 

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changes in our capital structure, such as future issuances of debt or equity securities;

 

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short sales, hedging and other derivative transactions involving our capital stock;

 

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general economic conditions in the United States and abroad;

 

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other events or factors, including those resulting from war, incidents of terrorism or responses to these events; and

 

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the other factors described in this section of the prospectus captioned, “Risk Factors.”

In addition, stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many technology companies, including e-commerce companies. Stock prices of many technology companies, including e-commerce companies, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were to become involved in securities litigation, it could subject us to substantial costs, divert resources and the attention of management from our business and materially and adversely affect our business, financial condition and operating results.

Substantial future sales of shares of our Class A common stock could cause the market price of our Class A common stock to decline.

Sales of a substantial number of shares of our Class A common stock in the public market following the completion of this offering, or the perception that these sales might occur, could depress the market price of our Class A common stock and could impair our ability to raise capital through the sale of additional equity securities. We are unable to predict the effect that such sales may have on the prevailing market price of our Class A common stock.

 

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All of our executive officers, senior management, directors and substantially all of the holders of our capital stock are subject to lock-up agreements that restrict their ability to transfer shares of our capital stock for 180 days from the date of this prospectus. Subject to certain exceptions, the lock-up agreements limit the number of shares of capital stock that may be sold immediately following this initial public offering. Subject to certain limitations, as of June 30, 2013, approximately              shares (assuming the sale of             shares of Class A common stock by the selling stockholders) and              shares of Class A common stock issuable upon conversion of outstanding Class B common stock will become eligible for sale upon expiration of the 180-day lock-up period. Goldman, Sachs & Co. may, in its sole discretion, permit our stockholders who are subject to these lock-up agreements to sell shares prior to the expiration of the lock-up agreements.

In addition, as of June 30, 2013, there were 54,822,283 shares of Class B common stock subject to outstanding options. We intend to register all of the shares of Class A common stock issuable upon conversion of the shares of Class B common stock issuable upon exercise of outstanding options, and upon exercise of settlement of any options or other equity incentives we may grant in the future, for public resale under the Securities Act of 1933, as amended, or the Securities Act. Accordingly, these shares will be able to be freely sold in the public market upon issuance as permitted by any applicable vesting requirements, subject to the lock-up agreements described above. The shares of Class A common stock issuable upon conversion of these shares will become eligible for sale in the public market to the extent such options are exercised, subject to the lock-up agreements described above and compliance with applicable securities laws.

Holders of 362,194,084 shares of Class B common stock, including 242,485,034 shares issuable upon conversion of outstanding preferred stock as of June 30, 2013 and without giving effect to the sale of shares in this offering by the selling stockholders, have rights, subject to some conditions, to require us to file registration statements for the public resale of the Class A common stock issuable upon conversion of such shares or to include such shares in registration statements that we may file for zulily or other stockholders.

The dual class structure of our common stock and the existing ownership of capital stock by our executive officers, directors and their affiliates have the effect of concentrating voting control with our executive officers, directors and their affiliates for the foreseeable future, which will limit your ability to influence corporate matters.

Our Class B common stock has ten votes per share, and our Class A common stock, which is the stock we are offering in this initial public offering, has one vote per share. Given the greater number of votes per share attributed to our Class B common stock, our existing stockholders, all of which hold shares of Class B common stock, will collectively beneficially own shares representing approximately     % of the voting power of our outstanding capital stock following the completion of this offering. Our executive officers and directors and their related parties, which include funds affiliated with Maveron LLC and August Capital, will collectively beneficially own shares representing approximately     % of the voting power of our outstanding capital stock following this offering. Consequently, the holders of Class B common stock collectively will continue to be able to control a majority of the voting power even if their stock holdings represent as few as approximately 9.1% of the outstanding number of shares of our common stock. This concentrated control will limit your ability to influence corporate matters for the foreseeable future. For example, these stockholders will be able to control elections of directors, amendments of our certificate of incorporation or bylaws, increases to the number of shares available for issuance under our equity incentive plans or adoption of new equity incentive plans and approval of any merger or sale of assets for the foreseeable future. This control may adversely affect the market price of our Class A common stock. Additionally, the holders of our Class B common stock may cause us to make strategic decisions or pursue acquisitions that could involve risks to you or may not be aligned with your interests.

 

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Future transfers by holders of Class B common stock will generally result in those shares converting on a 1:1 basis to Class A common stock, which will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long-term, which may include our executive officers and directors and their affiliates.

If securities or industry analysts do not publish research or reports about our business, or publish negative reports about our business, our share price and trading volume could decline.

The trading market for our Class A common stock will depend in part on the research and reports that securities or industry analysts publish about us or our business, our market and our competitors. We do not have any control over these analysts. If one or more of the analysts who cover us downgrade our shares or change their opinion of our shares, our share price would likely decline. If one or more of these analysts cease coverage of our company or fail to regularly publish reports on us, we could lose visibility in the financial markets, which could cause our share price or trading volume to decline.

We may invest or spend the proceeds of this offering in ways with which you may not agree or in ways that may not yield a return.

We currently intend to use the net proceeds to us from this offering primarily for general corporate purposes. We may also use a portion of the net proceeds from this offering for the acquisition of, or investment in, technologies, solutions or businesses that complement our business, although we have no present commitments or agreements to enter into any such acquisition or investment. Our management will have considerable discretion in the application of the net proceeds, and you will not have the opportunity, as part of your investment decision, to assess whether the proceeds are being used appropriately. The net proceeds may be used for purposes that do not increase the value of our business or increase the risks to you, which could cause the price of our stock to decline. Until net proceeds are used, they may be placed in investments that do not produce significant income or that may lose value.

We are an “emerging growth company,” and we cannot be certain if the reduced disclosure requirements applicable to “emerging growth companies” will make our Class A common stock less attractive to investors.

We are an “emerging growth company,” as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act, and we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. We will remain an “emerging growth company” for up to five years, although we will cease to be an “emerging growth company” upon the earliest of (1) the last day of the fiscal year following the fifth anniversary of this offering, (2) the last day of the first fiscal year in which our annual gross revenues are $1 billion or more, (3) the date on which we have, during the previous rolling three-year period, issued more than $1 billion in non-convertible debt securities and (4) the date on which we are deemed to be a “large accelerated filer” as defined in the Securities Exchange Act of 1934, or the Exchange Act. We cannot predict if investors will find our Class A common stock less attractive or our company less comparable to certain other public companies because we will rely on these exemptions.

 

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The requirements of being a public company may strain our resources, divert management’s attention and affect our ability to attract and retain additional executive management and qualified board members.

As a public company, we will be subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act, the Dodd-Frank Act, the listing requirements of the NASDAQ Global Select Market and other applicable securities rules and regulations. Compliance with these rules and regulations will increase our legal and financial compliance costs, make some activities more difficult, time-consuming or costly and increase demand on our systems and resources, particularly after we are no longer an “emerging growth company.” The Exchange Act requires, among other things, that we file annual, quarterly and current reports with respect to our business and results of operations. The Sarbanes-Oxley Act requires, among other things, that we maintain effective disclosure controls and procedures and internal control over financial reporting. In order to maintain and, if required, improve our disclosure controls and procedures and internal control over financial reporting to meet this standard, significant resources and management oversight may be required. As a result, management’s attention may be diverted from other business concerns, which could adversely affect our business and results of operations. We will need to hire additional employees or engage outside consultants to comply with these requirements, which will increase our costs and expenses.

In addition, changing laws, regulations and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time-consuming. These laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. We intend to invest resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expenses and a diversion of management’s time and attention from revenue-generating activities to compliance activities. If our efforts to comply with new laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business may be adversely affected.

We also expect that being a public company will make it more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our board of directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers.

As a result of disclosure of information in this prospectus and in filings required of a public company, our business and financial condition will become more visible, which we believe may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and results of operations could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and materially and adversely affect our business, financial condition and operating results.

 

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As a result of becoming a public company, we will be obligated to develop and maintain proper and effective internal control over financial reporting. If we fail to do so in a timely manner, or our internal control over financial reporting is not determined to be effective, this may adversely affect investor confidence in our company and, as a result, the value of our Class A common stock. In the course of preparing our consolidated financial statements, we have identified a material weakness in our internal control over financial reporting.

We will be required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting for the first fiscal year beginning after the effective date of this offering. This assessment will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting, provided that our independent registered public accounting firm will not be required to attest to the effectiveness of our internal control over financial reporting until our first annual report required to be filed with the SEC following the later of the date we are deemed to be an “accelerated filer” or a “large accelerated filer,” each as defined in the Exchange Act, or the date we are no longer an “emerging growth company,” as defined in the JOBS Act. We will be required to disclose changes made in our internal control and procedures on a quarterly basis. To comply with the requirements of being a public company, we may need to undertake various actions, such as implementing new internal controls and procedures and hiring accounting or internal audit staff. We are beginning the costly and challenging process of compiling the system and processing documentation necessary to perform the evaluation needed to comply with Section 404, and we may not be able to complete our evaluation, testing and any required remediation in a timely fashion.

In the course of preparing our consolidated financial statements, we and our independent registered public accounting firm identified a material weakness in our internal control over financial reporting. A material weakness is a deficiency, or combination of control deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the annual or interim consolidated financial statements will not be prevented or detected on a timely basis. The material weakness identified related to the lack of sufficient technical accounting skills within our accounting and finance organization. Related to the identified weakness, there were a number of post-close adjustments that were determined to be immaterial to the consolidated financial statements but resulted in the correction of our previously issued consolidated financial statements as of and for the years ended December 30, 2012, January 1, 2012, and December 31, 2010. These corrections are described in greater detail within the notes to the consolidated financial statements included with this prospectus.

We have taken steps to remediate the material weakness, including increasing the depth and experience within our accounting and finance organization, as well as designing and implementing improved processes and internal controls. However, our efforts to remediate this material weakness may not be effective or prevent future material weaknesses or significant deficiencies in our internal control over financial reporting.

In future periods, if during the evaluation and testing process, we identify any other material weaknesses in our internal control over financial reporting, we will be unable to assert that our internal control over financial reporting is effective. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC.

 

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Anti-takeover provisions in our charter documents and under Delaware law and Washington law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management and limit the market price of our Class A common stock.

Provisions in our certificate of incorporation and bylaws, as will be amended and restated upon completion of this offering, may have the effect of delaying or preventing a change of control or changes in our management. Our amended and restated certificate of incorporation and bylaws include provisions that:

 

  Ÿ  

establish a classified board of directors so that not all members of our board of directors are elected at one time;

 

  Ÿ  

permit the board of directors to establish the number of directors and fill any vacancies and newly created directorships;

 

  Ÿ  

provide that directors may only be removed for cause;

 

  Ÿ  

require super-majority voting to amend some provisions in our certificate of incorporation and bylaws;

 

  Ÿ  

authorize the issuance of “blank check” preferred stock that our board of directors could use to implement a stockholder rights plan;

 

  Ÿ  

eliminate the ability of our stockholders to call special meetings of stockholders;

 

  Ÿ  

prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders;

 

  Ÿ  

provide that the board of directors is expressly authorized to make, alter or repeal our bylaws;

 

  Ÿ  

restrict the forum for certain litigation against us to Delaware;

 

  Ÿ  

reflect the dual class structure of our common stock, as discussed above; and

 

  Ÿ  

establish advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings.

These provisions may frustrate or prevent any attempts by our stockholders to replace or remove our current management by making it more difficult for stockholders to replace members of our board of directors, which is responsible for appointing the members of our management. In addition, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law, which generally prohibits a Delaware corporation from engaging in any of a broad range of business combinations with any holder of at least 15% of our capital stock for a period of three years following the date on which the stockholder became a 15% stockholder. Likewise, because our principal executive offices are located in Washington, the anti-takeover provisions of the Washington Business Corporation Act may apply to us under certain circumstances now or in the future. These provisions prohibit a “target corporation” from engaging in any of a broad range of business combinations with any stockholder constituting an “acquiring person” for a period of five years following the date on which the stockholder became an “acquiring person.”

 

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Our certificate of incorporation will also provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or employees.

Our certificate of incorporation provides that the Court of Chancery of the State of Delaware is the exclusive forum for any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, our certificate of incorporation or our bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. The choice of forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage such lawsuits against us and our directors, officers and other employees. Alternatively, if a court were to find the choice of forum provision contained in our certificate of incorporation to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions, which could adversely affect our business and financial condition.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus, particularly in the sections captioned “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” contains forward-looking statements that involve substantial risks and uncertainties. All statements other than statements of historical facts contained in this prospectus, including statements regarding our future financial condition, business strategy and plans and objectives of management for future operations, are forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as “believe,” “will,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “should,” “plan,” “expect,” “predict,” “could,” “potentially” or the negative of these terms or other similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements are subject to a number of risks, uncertainties and assumptions described in the section of this prospectus captioned “Risk Factors” and elsewhere in this prospectus, regarding, among other things:

 

  Ÿ  

our ability to predict our future prospects, net sales, expenses and operating results accurately;

 

  Ÿ  

our ability to effectively manage or sustain our growth;

 

  Ÿ  

our ability to generate net sales or achieve or maintain profitability;

 

  Ÿ  

the effects of increased competition and our ability to compete effectively;

 

  Ÿ  

the growth of e-commerce in general and the flash sales model in particular;

 

  Ÿ  

our ability to expand our customer base;

 

  Ÿ  

our ability to respond to consumer preferences and to expand our product offerings;

 

  Ÿ  

our ability to maintain and enhance our brand and intellectual property;

 

  Ÿ  

claims that we infringe intellectual property rights of others;

 

  Ÿ  

global economic conditions and their impact on consumer spending patterns;

 

  Ÿ  

seasonal sales fluctuations;

 

  Ÿ  

our ability to attract new vendors and retain existing vendors and our ability to obtain differentiated, high quality and compliant merchandise in sufficient quantities from vendors;

 

  Ÿ  

our ability to optimize, operate and manage our fulfillment centers;

 

  Ÿ  

our dependence on third-party service providers and technologies;

 

  Ÿ  

our ability to develop a scalable, high-performance technology and fulfillment infrastructure;

 

  Ÿ  

our ability to comply with modified or new laws and regulations applying to our business, including privacy regulation and tax laws;

 

  Ÿ  

our ability to effectively acquire other businesses or to expand internationally; and

 

  Ÿ  

the attraction and retention of key personnel and qualified employees.

These risks are not exhaustive. Other sections of this prospectus may include additional factors that could adversely impact our business and financial performance. Moreover, we operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time, and it is not possible for our management to predict all risk factors 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, or implied by, any forward-looking statements.

 

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You should not rely upon forward-looking statements as predictions of future events. We cannot assure you that the events and circumstances reflected in the forward-looking statements will be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Except as required by law, we undertake no obligation to update publicly any forward-looking statements for any reason after the date of this prospectus or to conform these statements to actual results or to changes in our expectations.

You should read this prospectus and the documents that we reference in this prospectus and have filed as exhibits to the registration statement of which this prospectus is a part with the understanding that our actual future results, levels of activity, performance and achievements may be materially different from what we expect. We qualify all of our forward-looking statements by these cautionary statements.

This prospectus also contains market data and industry forecasts that were obtained from industry publications. These data involve a number of assumptions and limitations, and you are cautioned not to give undue weight to such estimates. Although we have not independently verified any third-party information, we believe the information is reliable and the conclusions contained in the third-party information are reasonable. However, such market position, market opportunity and market size information included in this prospectus is inherently imprecise.

 

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USE OF PROCEEDS

We estimate that the net proceeds to us from this offering will be approximately $         million, assuming an initial public offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. We will not receive any of the proceeds from the sale of shares by the selling stockholders, although we will bear the costs, other than underwriting discounts and commissions, associated with those sales.

A $1.00 increase (decrease) in the assumed initial public offering price of $         per share would increase (decrease) the net proceeds to us from this offering by $        , assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated expenses payable by us. Each increase or decrease of shares by             shares in the number of shares offered by us would increase or decrease the net proceeds to us from this offering by approximately $        , assuming that the assumed initial price to public remains the same, and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us. We do not expect that a change in the initial price to the public or the number of shares by these amounts would have a material effect on uses of the proceeds from this offering, although it may accelerate the time at which we will need to seek additional capital.

The principal purposes of this offering are to create a public market for our Class A common stock and thereby facilitate access to the public equity markets, increase our visibility in the marketplace, as well to obtain additional capital. We intend to use the net proceeds from this offering for working capital and other general corporate purposes. We may also use a portion of the net proceeds to acquire complementary business, products or technologies, although we have no present commitments or agreements for any specific acquisitions. Pending these uses, we plan to invest these net proceeds in short-term, interest bearing obligations, investment grade instruments, certificates of deposit or direct or guaranteed obligations of the United States.

We will have broad discretion in the application of the net proceeds, and investors will be relying on the judgment of our management regarding the application of the net proceeds of this offering.

DIVIDEND POLICY

We have never declared or paid dividends on our capital stock except for the deemed dividend to preferred stockholders in our fiscal year 2012; please see Note 6 of the accompanying notes to our consolidated financial statements. We currently intend to retain all available funds and any future earnings to support operations and to finance the growth and development of our business. We do not intend to declare or pay cash dividends on our capital stock in the foreseeable future. Any future determination to pay dividends will be made at the discretion of our board of directors subject to applicable laws, and will depend upon, among other factors, our results of operations, financial condition, contractual restrictions and capital requirements. Our future ability to pay cash dividends on our stock may be limited by the terms of any future debt or preferred securities.

 

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CAPITALIZATION

The following table sets forth our cash and cash equivalents and our capitalization as of June 30, 2013 on:

 

  Ÿ  

an actual basis; and

 

  Ÿ  

a pro forma as adjusted basis to reflect (1) the conversion of the outstanding shares of our preferred stock into Class B common stock, which will occur automatically upon the closing of this offering, (2) our sale of shares of Class A common stock in this offering at an assumed initial public offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and (3) our receipt of the net proceeds from that sale after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

You should read this table together with the sections of this prospectus captioned “Selected Consolidated Financial and Other Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and “Description of Capital Stock” and our financial statements and related notes included elsewhere in this prospectus.

 

     As of June 30, 2013  
     Actual     Pro Forma,
As Adjusted (1)
 
     (in thousands, except share
amounts)
 

Cash and cash equivalents

   $ 83,015      $     
  

 

 

   

 

 

 

Convertible redeemable preferred stock:

    

Series B preferred stock
44,923,630 shares authorized, issued and outstanding, actual; no shares issued or outstanding, pro forma as adjusted

   $ 7,462      $     

Series C preferred stock
20,378,275 shares authorized, issued and outstanding, actual; no shares issued or outstanding, pro forma as adjusted

     36,972     

Series D preferred stock
40,975,703 shares authorized, issued and outstanding, actual; no shares issued or outstanding, pro forma as adjusted

     89,342     
  

 

 

   

 

 

 

Total convertible redeemable preferred stock

   $ 133,776     

Stockholders’ equity (deficit):

    

Series Seed convertible preferred stock; 38,643,800 shares authorized, of which 22,163,095 issued and outstanding, actual; no shares issued or outstanding, pro forma as adjusted

         

Series A convertible preferred stock; 115,502,600 shares authorized, of which 113,550,910 issued and outstanding, actual; no shares issued or outstanding, pro forma as adjusted

     2     

Common stock; 528,500,000 shares authorized and 219,139,077 shares issued or outstanding, actual;              shares authorized and              shares issued and outstanding, pro forma as adjusted

     5     

Additional paid-in capital

         

Accumulated other comprehensive income

     18     

Accumulated deficit

     (55,638  
  

 

 

   

 

 

 

Total stockholders’ (deficit) equity

     (55,613  
  

 

 

   

 

 

 

Total capitalization

   $ 137,945      $                
  

 

 

   

 

 

 

 

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(1) A $1.00 increase (decrease) in the assumed initial public offering price of $         per share would increase (decrease) the pro forma as adjusted stockholders’ equity by $         and our total capitalization by $        , or $         if the underwriters exercise their option to purchase additional shares in full, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated expenses payable by us. Each increase or decrease of shares by              shares in the number of shares offered by us would increase or decrease cash and cash equivalents, additional paid in capital, total stockholders’ deficit and total capitalization by approximately $        , assuming that the assumed initial price to public remains the same, and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

The outstanding share information in the table above excludes, as of June 30, 2013, the following shares:

 

  Ÿ  

54,822,283 shares of Class B common stock issuable upon the exercise of outstanding stock options issued as of June 30, 2013 pursuant to our 2009 Plan at a weighted-average exercise price of $1.59 per share;

 

  Ÿ  

             shares of Class B common stock issuable upon the exercise of outstanding stock options issued after June 30, 2013 pursuant to our 2009 Plan, at a weighted-average exercise price of $         per share;

 

  Ÿ  

9,709,892 shares of Class B common stock available for future issuance under our 2009 Plan as of June 30, 2013, which shares will cease to become available for future issuance immediately prior to the time our 2013 Plan becomes effective; and

 

  Ÿ  

             shares of Class A common stock to be reserved for future issuance under our 2013 Plan, as of the date the registration statement of which this prospectus forms a part is declared effective by the SEC (assuming that              shares of Class B common stock are available for issuance under our 2009 Plan immediately prior to the time our 2013 Plan becomes effective) as well as any automatic increases in the number of shares of Class A common stock reserved for future issuance under this benefit plan.

 

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DILUTION

Dilution is the amount by which the offering price paid by the purchasers of the shares of Class A common stock sold in the offering exceeds the net tangible book value per share of common stock after the offering. Net tangible book value per share is determined at any date by subtracting our total liabilities from the total book value of our tangible assets and dividing the difference by the number of shares of Class A common stock and Class B common stock deemed to be outstanding at that date.

Our pro forma net tangible book value as of June 30, 2013 was $         million, or $         per share, which gives effect to the conversion of all outstanding shares of our preferred stock into an aggregate of 242,485,034 shares of our Class B common stock immediately prior to the completion of this offering. After giving effect to the receipt and our intended use of approximately $         million of net proceeds from our sale of shares of Class A common stock in this offering at an assumed offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, our pro forma as adjusted net tangible book value as of June 30, 2013 would have been $         million, or $         per share. This represents an immediate increase in net tangible book value of $         per share to existing stockholders and an immediate dilution of $         per share to new investors purchasing shares of Class A common stock in the offering. The following table illustrates this substantial and immediate per share dilution to new investors.

 

Assumed initial public offering price per share

      $                

Historical net tangible book value per share at June 30, 2013

   $                   

Pro forma increase in net tangible book value per share at June 30, 2013 attributable to the conversion of convertible preferred stock

   $                   

Pro forma net tangible book value per share at June 30, 2013

   $                   

Pro forma increase per share attributable to investors in this offering

   $                   
  

 

 

    

Pro forma as adjusted net tangible book value per share after giving effect to this offering

      $                
     

 

 

 

Dilution in net tangible book value per share to investors in this offering

      $                
     

 

 

 

A $1.00 increase (decrease) in the assumed initial public offering price of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, would increase (decrease) our pro forma as adjusted net tangible book value by $        , the pro forma as adjusted net tangible book value per share by $         per share and the dilution per share to new investors in this offering by $        , or $         if the underwriters exercise their option to purchase additional shares in full, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated expenses payable by us.

The following table summarizes, as of June 30, 2013:

 

  Ÿ  

the total number of shares of Class A common stock and Class B common stock purchased from us by our existing stockholders and by new investors purchasing shares in this offering;

 

  Ÿ  

the total consideration paid to us by our existing stockholders and by new investors purchasing Class A common stock in this offering, assuming an initial public offering of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus (before deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us in connection with this offering); and

 

  Ÿ  

the average price per share paid by existing stockholders and by new investors purchasing shares in this offering.

 

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     Shares Purchased     Total Consideration     Average Price
Per Share
 
    

Number

   Percent     Amount      Percent    

Existing stockholders

               $                             $                

Existing convertible preferred stockholders

            

Investors in this offering

            
  

 

  

 

 

   

 

 

    

 

 

   

 

 

 

Total

        100   $                      100   $                
  

 

  

 

 

   

 

 

    

 

 

   

 

 

 

The tables and calculations above are based on the number of shares of our Class A common stock and Class B common stock outstanding as of June 30, 2013, but do not include, as of June 30, 2013, the following shares:

 

  Ÿ  

54,822,283 shares of Class B common stock issuable upon the exercise of outstanding stock options issued as of June 30, 2013 pursuant to our 2009 Plan at a weighted-average exercise price of $1.59 per share;

 

  Ÿ  

             shares of Class B common stock issuable upon the exercise of outstanding stock options issued after June 30, 2013 pursuant to our 2009 Plan, at a weighted-average exercise price of $         per share;

 

  Ÿ  

9,709,892 shares of Class B common stock reserved for future issuance under our 2009 Plan as of June 30, 2013, which shares will cease to become available for future issuance immediately prior to the time our 2013 Plan becomes effective; and

 

  Ÿ  

             shares of Class A common stock to be available for future issuance under our 2013 Plan, as of the date the registration statement of which this prospectus forms a part is declared effective by the SEC (assuming that              shares of Class B common stock are reserved for issuance under our 2009 Plan immediately prior to the time our 2013 Plan becomes effective) as well as any automatic increases in the number of shares of Class A common stock reserved for future issuance under this benefit plan.

A $1.00 increase (decrease) in the assumed initial public offering price of $         per share would increase (decrease) total consideration paid by existing stockholders, total consideration paid by new investors and the average price per share by $        , $          and $        , respectively, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and without deducting the estimated underwriting discounts and commissions and estimated expenses payable by us.

The foregoing table does not reflect any sales by existing stockholders in this offering. Sales by the selling stockholders in this offering will reduce the number of shares held by existing stockholders to              shares, or     % of the total number of shares of our common stock outstanding after this offering and will increase the number of shares held by new investors to                  shares, or     % of the total number of shares of our common stock outstanding after this offering. In addition, if the underwriters exercise their option to purchase additional shares in full, the number of shares held by the existing stockholders after this offering would be reduced to     , or     % of the total number of shares of our common stock outstanding after this offering, and the number of shares held by new investors would increase to     , or     %, of the total number of shares of our common stock outstanding after this offering.

The shares reserved for future issuance under our 2013 Plan will be subject to automatic annual increases in accordance with the terms of the plans. To the extent that options are exercised, new options are issued under our equity incentive plans, or we issue additional shares of common stock in the future, there will be further dilution to investors participating in this offering. In addition, we may choose to raise additional capital because of market conditions or strategic considerations, even if we believe that we have sufficient funds for our current or future operating plans. If we raise additional capital through the sale of equity or convertible debt securities, the issuance of these securities could result in further dilution to our stockholders.

 

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SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA

You should read the selected consolidated financial and other data in conjunction with the section of this prospectus captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations” as well as the consolidated financial statements and related notes.

We have derived the consolidated statements of operations data for the fiscal years ended December 31, 2010, January 1, 2012 and December 30, 2012 and the consolidated balance sheet data as of January 1, 2012, and December 30, 2012 from our audited consolidated financial statements appearing elsewhere in this prospectus. The consolidated statements of operations data for the year to date periods ended July 1, 2012 and June 30, 2013 and consolidated balance sheet data as of June 30, 2013 have been derived from our unaudited consolidated financial statements appearing elsewhere in this prospectus. We have prepared the unaudited consolidated financial data on the same basis as the audited consolidated financial statements. We have included, in our opinion, all adjustments, consisting only of normal recurring adjustments that we consider necessary for a fair presentation of the financial information set forth in those statements. Our historical results are not necessarily indicative of the results that should be expected in the future, and our interim results are not necessarily indicative of the results that should be expected for the full year or any other period.

Beginning with our fiscal year 2011, our fiscal year ends on the Sunday closest to December 31 of the respective calendar year. Each fiscal year consists of four 13-week quarters, with one extra week added in the fourth quarter every five to six years.

 

     Fiscal Years     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  
     (in thousands, except per share data)  

Consolidated Statements of Operations Data

          

Net sales

   $ 18,376      $ 142,545      $ 331,240      $ 126,993      $ 272,021   

Cost of sales(1)

     12,574        104,949        240,943        91,252        191,506   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     5,802        37,596        90,297        35,741        80,515   

Operating expenses:

          

Marketing expenses(1)

     4,897        20,228        37,780        15,600        28,056   

Selling, general and administrative expenses(1)

     7,112        28,905        63,071        26,499        50,069   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     12,009        49,133        100,851        42,099        78,125   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

     (6,207     (11,537     (10,554     (6,358     2,390   

Interest (expense) income, net.

     (169     20        43        16        64   

Other (expense) income, net

     (627     203        176        180        (48
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

   $ (7,003   $ (11,314   $ (10,335   $ (6,162   $ 2,406   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders

   $ (7,448   $ (13,233   $ (46,822   $ (7,883   $ (2,656
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per common share(2):

          

Basic

   $ (0.11   $ (0.14   $ (0.31   $ (0.06   $ (0.01
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

   $ (0.11   $ (0.14   $ (0.31   $ (0.06   $ (0.01
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in computing net loss per common share:

          

Basic

     65,390,625        96,411,124        151,906,924        138,402,501        193,075,922   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     65,390,625        96,411,124        151,906,924        138,402,501        193,075,922   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income attributable to common stockholders—pro forma

       $ (42,447     $ 2,121   
      

 

 

     

 

 

 

Pro forma net (loss) income per common share(3):

          

Basic

       $ (0.11     $   
      

 

 

     

 

 

 

Diluted

       $ (0.11     $   
      

 

 

     

 

 

 

Shares used in computing pro forma net (loss) income per common share(3):

          

Basic

         375,217,245          443,434,097   
      

 

 

     

 

 

 

Diluted

         375,217,245          450,155,335   
      

 

 

     

 

 

 

 

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     Fiscal Years     Six Months Ended  
           2010                 2011                 2012               Jul. 1, 2012             Jun. 30, 2013      
     (in thousands, except revenue per active customer and average order value)  

Other Financial and Operations Data

          

Adjusted EBITDA(4)

   $ (3,734   $ (8,871   $ (5,920   $ (4,449   $ 7,469   

Free cash flow(5)

   $ (1,164   $ 3,749      $ 8,425      $ (10,076   $ (4,240

Active customers

     157        791        1,580        1,154        2,229   

Revenue per active customer

   $ 117      $ 180      $ 210      $ 110      $ 122   

Total orders placed

     384        2,998        6,950        2,779        5,696   

Average order value

   $ 52.52      $ 53.48      $ 53.37      $ 52.20      $ 53.23   

 

     As of  
     Jan. 1, 2012     Dec. 30, 2012     Jun. 30, 2013  
     (in thousands)  

Consolidated Balance Sheet Data

      

Cash and cash equivalents

   $ 28,361      $ 96,998      $ 83,015   

Working capital

     22,821        62,605        61,240   

Total assets

     58,323        130,737        137,945   

Deferred revenue

     3,520        9,653        13,156   

Convertible redeemable preferred stock

     45,519        128,714        133,776   

Total stockholders’ deficit

     (16,168     (55,750     (55,613

 

(1) Includes stock-based compensation expense as follows:

 

     Fiscal Year      Six Months Ended  
     2010      2011      2012      Jul. 1, 2012      Jun. 30, 2013  

Cost of sales

   $       $ 2       $ 26       $ 15       $ 27   

Marketing expenses

     2         62         142         57         132   

Selling, general and administrative expenses

     2,396         2,015         1,097         395         2,441   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total stock-based compensation expense

   $ 2,398       $ 2,079       $ 1,265       $ 467       $ 2,600   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(2) Basic and diluted net loss per common share attributable to common stockholders for our fiscal year 2012 includes a deemed dividend distribution of $32.1 million. Such dividend is included as it represents distributed earnings attributable to participating securities. Please see Note 6 of the accompanying notes to our consolidated financial statements.
(3) Pro forma basic and diluted net loss per share represents net loss divided by the pro forma weighted-average shares of common stock outstanding. Pro forma weighted-average shares outstanding reflects the conversion of preferred stock into Class B common stock as though the conversion had occurred on the first day of the relevant period.
(4) Adjusted EBITDA is a non-GAAP financial measure that we calculate as earnings (loss) before interest and other income and expense, taxes, depreciation, amortization and stock-based compensation expense. Please see “—Non-GAAP Financial Measures—Adjusted EBITDA” below for more information and for a reconciliation of Adjusted EBITDA to net income (loss), the most directly comparable financial measure calculated and presented in accordance with GAAP.
(5) Free cash flow is a non-GAAP financial measure that we calculate as net cash (used in) provided by operating activities less net cash used in capital expenditures. Please see “—Non-GAAP Financial Measures—Free Cash Flow” below for more information and for a reconciliation of free cash flow to net cash (used in) provided by operating activities, the most directly comparable financial measure calculated and presented in accordance with GAAP.

Non-GAAP Financial Measures

Adjusted EBITDA

To provide investors with additional information regarding our financial results, we have disclosed in the table above and elsewhere in this prospectus Adjusted EBITDA, a non-GAAP financial measure that we calculate as earnings (loss) before interest and other income and expense, taxes, depreciation, amortization and stock-based compensation expense. We have provided a reconciliation below of Adjusted EBITDA to net loss, the most directly comparable GAAP financial measure.

We have included Adjusted EBITDA in this prospectus because it is a key measure used by our management and board of directors to evaluate our operating performance, generate future operating plans and make strategic decisions regarding the allocation of capital. In particular, the exclusion of certain expenses in calculating Adjusted EBITDA facilitates operating performance comparisons on a period-to-period basis and, in the case of exclusion of the impact of stock-based compensation,

 

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excludes an item that we do not consider to be indicative of our core operating performance. Accordingly, we believe that Adjusted EBITDA provides useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and board of directors.

Adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:

 

  Ÿ  

although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and Adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements;

 

  Ÿ  

Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;

 

  Ÿ  

Adjusted EBITDA does not consider the potentially dilutive impact of equity-based compensation;

 

  Ÿ  

Adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us; and

 

  Ÿ  

other companies, including companies in our industry, may calculate Adjusted EBITDA differently, which reduces its usefulness as a comparative measure.

Because of these limitations, you should consider Adjusted EBITDA alongside other financial performance measures, including various cash flow metrics, net (loss) income and our other GAAP results.

The following table reflects the reconciliation of net loss to Adjusted EBITDA for each of the periods indicated:

 

     Fiscal Year     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  
     (in thousands)  

Net (loss) income

   $ (7,003   $ (11,314   $ (10,335   $ (6,162   $ 2,406   

Excluding:

          

Interest income (expense), net

     169        (20     (43     (16     (64

Other income (expense), net

     627        (203     (176     (180     48   

Taxes

                                   

Depreciation and amortization

     75        587        3,369        1,442        2,479   

Stock-based compensation expense

     2,398        2,079        1,265        467        2,600   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

   $ (3,734   $ (8,871   $ (5,920   $ (4,449   $ 7,469   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Free Cash Flow

To provide investors with additional information regarding our financial results, we have also disclosed in the table above and elsewhere in this prospectus free cash flow, a non-GAAP financial measure that we calculate as net cash (used in) provided by operating activities less net cash used in capital expenditures. We have provided a reconciliation below of adjusted free cash flow to net cash (used in) provided by operating activities, the most directly comparable GAAP financial measure.

 

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We have included free cash flow in this prospectus because it is a key measure used by our management and board of directors, which we believe is an important indicator of our business performance because it measures the amount of cash we generate. Free cash flow also reflects changes in working capital. Accordingly, we believe that free cash flow provides useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and board of directors.

Free cash flow has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our results as reported under GAAP. There are limitations to using non-GAAP financial measures, including that other companies, including companies in our industry, may calculate free cash flow differently. Because of these limitations, you should consider free cash flow alongside other financial performance measures, including net cash (used in) provided by operating activities, capital expenditures and our other GAAP results.

 

The following table presents a reconciliation of free cash flow to net cash (used in) provided by operating activities for each of the periods indicated:

 

     Fiscal Year     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  
     (in thousands)  

Net cash (used in) provided by operating activities

   $ (656   $ 8,864      $ 16,283      $ (6,047   $ 4,003   

Capital expenditures

     (508     (5,115     (7,858     (4,029     (8,243
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Free cash flow

   $ (1,164   $ 3,749      $ 8,425      $ (10,076   $ (4,240
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations together with the “Selected Consolidated Financial and Other Data” section of this prospectus and our consolidated financial statements and related notes appearing elsewhere in this prospectus. Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States, or GAAP. This discussion contains forward-looking statements that involve risks and uncertainties. As a result of many factors, such as those set forth under the “Risk Factors” and “Special Note Regarding Forward-Looking Statements” sections and elsewhere in this prospectus, our actual results may differ materially from those anticipated in these forward-looking statements.

Overview

We launched the zulily website in January 2010 with the goal of revolutionizing the way moms shop. Today, we are one of the largest standalone e-commerce companies in the United States. Through our desktop and mobile websites and mobile applications, which we refer to as our “sites”, we help our customers discover new and unique products at great values that they would likely not find elsewhere. We provide moms a fun and entertaining shopping experience with a fresh selection of flash sales events with over 4,000 product styles offered on a typical day. We source these products from thousands of vendors, including emerging brands and smaller boutique vendors, as well as larger national brands. By bringing together millions of moms and a daily selection of products chosen from our vendor base, we have built a large scale and uniquely curated marketplace. Since inception through June 30, 2013, we have worked with over 10,000 brands, featured over 1.6 million product styles and sold over 42 million items to over 2.9 million customers across our platform.

We sell our products through a flash sales model, with offerings typically only available for 72 hours and in a limited quantity, creating an urgency to browse and purchase. We sell children’s apparel, women’s apparel and other categories such as toys, infant gear, kitchen accessories and home décor. Children’s apparel is our largest merchandise category today; however, we have expanded our categories over time such that all non-children’s apparel categories combined accounted for 53% of our U.S. units ordered in the six months ended June 30, 2013, up from 45% in all of 2012. We focus on providing significant value to consumers across all of our categories; the average item on our sites is offered for over 50% off the manufacturer’s suggested retail price.

We plan to further grow our customer base by cost-effectively acquiring new email subscribers and users of our mobile applications through targeted marketing campaigns and then converting them into active customers. In addition, we regularly introduce new categories, brands and products to our customers and work to maximize the relevance of the items we display, thereby improving customer satisfaction, increasing customer loyalty and driving repeat purchasing.

Mobile is a large and growing part of our business. We have invested heavily in our mobile platform to optimize our sites for use on iPhones, iPads and Android-based devices. In the second quarter of 2013, approximately 42% of our U.S. orders were placed from a mobile device, up from approximately 39% in the first quarter of 2013 and approximately 31% in the fourth quarter of 2012.

We have built a merchandising organization specifically designed to source, cultivate and manage relationships with thousands of vendors, including emerging brands and smaller boutique vendors as well as larger national brands. To identify and support our vendors and effectively tell their stories to moms, we have built a merchandising team of 302 employees and 39 in-house photography

 

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studios, supported by a substantial and talented photo editing, copyrighting and editorial team. By sourcing a large number of vendors and providing them with strong support, we are able to offer our customers a broad and unique selection of curated products that is refreshed on a daily basis. Of the vendors we featured for the first time in 2011, 75% have returned to sell again at least once on our sites through June 30, 2013. Our vendor base is highly diversified with our largest vendor in 2012 accounting for less than 1.5% of our net sales.

We typically receive customer orders before we purchase inventory from our vendors, greatly reducing our inventory risk. The result of this dynamic is that we are able to offer a much larger range of products to our customers and to generate greater sales for our vendors, who are able to match a broader range of their product supply to actual customer demand. To best serve our customers and vendors, we have in place a custom, fully integrated fulfillment infrastructure. Our proprietary supply chain system enables us to efficiently handle the unique features of our flash sales model, including small to medium lot sizes and high inventory turnover. This allows us to sell lower price point products cost-effectively, without needing to pre-stock substantial inventory. Our business model together with our fulfillment infrastructure has enabled us to conduct successful events of all sizes, including smaller ones. In 2012, 90% of our events generated less than $50,000 of U.S. product sales, and these smaller events accounted for approximately 65% of our U.S. product sales.

We had initially outsourced order fulfillment, but in October 2011 we elected to develop our own fulfillment operations. As of June 30, 2013 we had 1.1 million square feet of leased fulfillment space at facilities in Nevada and Ohio. Our fulfillment operations regularly handle over 100,000 items a day from thousands of product styles that change each day and require different handling processes. Because we have deliberately established an intermediary model in which we do not pre-purchase substantial inventory, our shipping times are generally slower than e-commerce retailers that hold inventory. We are continually investing in our systems and infrastructure to improve order-to-ship times for sales of products in the United States. We reduced our order-to-ship times from an average of 12.0 days in the second quarter of 2012 to 10.6 days in the second quarter of 2013.

To date, we have primarily focused on expanding our U.S. business and are just beginning to focus on our international strategy. In April 2012, we launched our first international site, with a small team based in the United Kingdom. For 2012 and the six months ended June 30, 2013, we generated $4.9 million and $5.9 million in net sales internationally, or 1.5% and 2.2% of total net sales, respectively. In addition, customers in 70 foreign countries have made purchases on our U.S.-based sites and have had their orders fulfilled through a third-party service provider. These purchases are included in our U.S. net sales. Purchases made on our U.K.-based sites are included in international net sales. We are gradually increasing our level of investment in international expansion and plan to continue to invest in and develop international markets, balanced with a continued focus on building the core North American market.

For 2012 and the six months ended June 30, 2013, we reported $331.2 million and $272.0 million in net sales, representing growth of 132.4% and 114.2% from 2011 and the six months ended July 1, 2012, respectively. For 2012 and the six months ended June 30, 2013, we reported a net loss of $10.3 million and $2.4 million in net income, an improvement from net losses of $11.3 million and $6.2 million in 2011 and the six months ended July 1, 2012, respectively. For 2012 and the six months ended June 30, 2013, we reported $(5.9) million and $7.5 million in Adjusted EBITDA, an improvement from $(8.9) million and $(4.4) million in 2011 and the six months ended July 1, 2012, respectively. We have been free cash flow positive on an annual basis since 2011.

 

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Key Financial and Operating Metrics

We measure our business using both financial and operating metrics. We use these metrics to assess the progress of our business, make decisions on where to allocate capital, time and technology investments and assess the near-term and longer-term performance of our business. The key financial and operating metrics we use are:

 

     Fiscal Years     Six Months Ended  
             2010                     2011                     2012             Jul. 1, 2012     Jun. 30, 2013  
     (in thousands, except revenue per active customer and average order
value)
 

Adjusted EBITDA

   $ (3,734   $ (8,871   $ (5,920   $ (4,449   $ 7,469   

Free cash flow

   $ (1,164   $ 3,749      $ 8,425      $ (10,076   $ (4,240

Active customers

     157        791        1,580        1,154        2,229   

Revenue per active customer

   $ 117      $ 180      $ 210      $ 110      $ 122   

Total orders placed

     384        2,998        6,950        2,779        5,696   

Average order value

   $ 52.52      $ 53.48      $ 53.37      $ 52.20      $ 53.23   

Adjusted EBITDA

Adjusted EBITDA is a non-GAAP financial measure that we calculate as earnings (loss) before interest and other income and expense, taxes, depreciation, amortization and stock-based compensation expense. Adjusted EBITDA is a key measure used by management to evaluate our operating performance, generate future operating plans and make strategic decisions regarding the allocation of capital. In particular, the exclusion of certain expenses in calculating Adjusted EBITDA facilitates operating performance comparisons on a period-to-period basis and, in the case of exclusion of the impact of stock-based compensation, excludes an item that we do not consider to be indicative of our core operating performance. Adjusted EBITDA is not a measure calculated in accordance with GAAP. Please see the section of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures—Adjusted EBITDA” for a discussion of the limitations of Adjusted EBITDA and a reconciliation of Adjusted EBITDA to net loss the most comparable GAAP measurement, for the periods presented.

Free Cash Flow

Free cash flow is a non-GAAP financial measure that we calculate as net cash (used in) provided by operating activities less net cash used in capital expenditures. We believe free cash flow is an important indicator of our business performance because it measures the amount of cash we generate. Free cash flow also reflects changes in working capital. Please see the section of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures—Adjusted EBITDA” for a discussion of the limitations of free cash flow and a reconciliation of free cash flow to net cash (used in) provided by operating activities, the most directly comparable GAAP financial measure.

Active Customers

We define an active customer as an individual customer who has purchased from us at least once in the last year. In any particular period, we determine our number of active customers by counting the total number of customers who have made at least one purchase in the preceding 12 month period, measured from the last date of such period. We view the number of active customers as a key indicator of our growth, the reach of our sites, the value proposition and consumer awareness of our brand, the continued use of our sites by our customers and their desire to purchase our products. Our number of active customers drives both net sales and our appeal to vendors.

 

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Revenue Per Active Customer

We define revenue per active customer as our total net sales divided by our total number of active customers in any particular period. We view revenue per active customer as a key indicator of our customers’ pattern of use of our sites to purchase our products and a measure of our customers’ demand. It is important to note that the sum of the quarterly revenue per active customer amounts does not match our annual revenue per active customer amount. Each quarter has a different number of active customers which makes the sum of the quarterly calculations result in a different amount than the annual calculation.

Total Orders Placed

We define total orders placed as the total number of customer orders placed by our customers in any period. We view total orders placed as a key indicator of the velocity of our business and an indication of the desirability of our products and sites to our customers. We recognize revenue when an order is delivered and therefore total orders placed, together with average order value, is an indicator of the net sales we expect to recognize in a given period. Total orders placed and total orders delivered in any given period may differ slightly due to orders that are in transit at the end of any particular period.

Average Order Value

We define average order value as the sum of the total order values (including shipping and handling charges) in a given period divided by the total orders placed in that period. We view average order value as a key indicator of the desirability of our products and sites to our customers.

Factors Affecting Our Performance

Ability to Attract Site Visitors at Reasonable Cost

To increase our sales, expand our market presence and grow our business profitably, we must continue to acquire email subscribers, users of our mobile applications and customers at reasonable costs. We use a wide range of paid and unpaid marketing channels, including affiliate channels and partners, customer referrals, direct navigation, display advertising, key word search campaigns, search engine optimization, social media and television ads, to attract potential new customers to our sites. In the six months ended June 30, 2013, 76% of the U.S. daily visitors to our sites came via our email or mobile “push” communications or other unpaid sources, such as direct navigation and search engine optimization. We must maintain reasonable costs for these marketing efforts relative to the net sales we expect to derive from these visitors, once we convert them to customers. Failure to effectively attract new visitors, email subscribers and users of our mobile applications and convert them into customers on a cost-efficient basis would adversely affect our sales growth and operating results.

Customer Activation and Repeat Behavior

Once we have attracted potential new customers to our sites, and enrolled them as email subscribers or users of our mobile applications, our goal is to convert them into active customers and then encourage repeat purchases. We do this through a combination of strategies, including email and mobile “push” communications, personalized retargeting email messaging and other broad-based advertising campaigns.

To illustrate our costs of acquiring customers and the contribution to our operating results, we compared the estimated net sales and contribution margin generated from email subscribers that we

 

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acquired during the first quarter of 2011, which we refer to as our Q1 2011 cohort, to the total marketing expenses we incurred to acquire those subscribers. We chose this individual cohort to illustrate broader cohort performance because it provides more historical data than more recent cohorts and it is not in the top quartile of historical cohort results.

Contribution margin is a non-GAAP financial measure that we define as gross margin less merchant processing fees and our general and administrative expenses associated with our merchandising, customer service, order fulfillment and studio operations. We measure cohort return on investment, or ROI, based on contribution margin instead of gross margin because we believe it more closely matches marketing ROI. Contribution margin includes the variable expenses we believe are necessary to complete sales to customers. In addition, applying the expenses for our merchandising, studio, customer service, and fulfillment operations functions in addition to cost of goods sold provides a more conservative assessment of marketing ROI. Contribution margin has limitations as an analytical tool and you should not consider it as a substitute for analysis of our results reported under GAAP.

Our Q1 2011 cohort included 1.1 million email subscribers that we acquired in the first quarter of 2011 and which we have converted into 259,000 customers as of June 30, 2013. We initially spent $3.8 million in total marketing expenses to acquire the email subscribers in that quarter. Using estimated net sales and the total company contribution margin applied to such net sales, we estimate this cohort generated $31.3 million of U.S. net sales and $4.9 million of contribution margin in fiscal year 2011, $39.0 million of U.S. net sales and $6.3 million of contribution margin in fiscal year 2012, and $23.0 million of U.S. net sales and $4.3 million of contribution margin in the six months ended June 30, 2013. In the aggregate, we estimate our Q1 2011 cohort has generated $93.3 million of U.S. net sales and $15.4 million of contribution margin through June 30, 2013. These results are reflected in the graph below:

 

LOGO

We believe that the trends reflected by this cohort are illustrative of the value of our customer base; however, as we increase our subscriber and user base we may spend more in marketing costs to acquire new email subscribers and users of our mobile application or may see a change in the rate of activation from subscribers to active customers or a change in our customers’ repeat purchase behaviors. A change in purchasing patterns by email subscribers or users of our mobile application who have not yet made their first purchase or by existing customers could have a significant negative impact on our net sales and operating results.

 

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The following table reflects the reconciliation of gross profit to contribution margin for each of the periods indicated:

 

     Fiscal Year     Six Months
Ended
 
     2011     2012     Jun. 30, 2013  
     (in thousands)  

Gross profit

   $ 37,596      $ 90,297      $ 80,515   

Less:

      

Merchant processing fees

     (4,168     (8,155     (6,481

General and administrative expenses for merchandising, customer service, order fulfillment, and studio

     (11,369     (28,772     (22,873
  

 

 

   

 

 

   

 

 

 

Contribution margin

   $ 22,059      $ 53,370      $ 51,161   
  

 

 

   

 

 

   

 

 

 

Contribution margin % of net sales

     15.5     16.1     18.8

Estimated net sales for Q1 2011 cohort(1)

   $ 31,292      $ 38,955      $ 23,039   

Estimated contribution margin for Q1 2011 cohort

   $ 4,850      $ 6,272      $ 4,333   

 

(1) Estimated net sales for the Q1 2011 cohort have been calculated by taking the gross order value for all orders placed from customers in this cohort for each fiscal period listed and applying an estimate for returns, discounts, cancellations, and the timing of revenue recognition, which is based on orders delivered.

We consider contribution margin to be more indicative of variable profit than gross margin. While gross margin includes cost of goods sold, it does not include all variable expenses required to complete the sales to our customers. Measuring the marketing investment associated with acquiring new customers purely against the gross margin could lead to the exclusion of costs that we feel should be considered when evaluating marketing performance and future marketing investments.

Product Mix

Our products and categories have a range of margin profiles. Historically, variations in product mix and product or category margins have not generally been a significant driver of our business results. Going forward, however, shifts in product mix due to seasonality, purchasing trends, results of individual events or changes in the product margins of certain categories could affect our overall operating results or growth rates in a positive or negative manner. Internationally, we have limited results to evaluate whether product mix and product or category margins will be similar to those in our U.S. business and to the extent they are different, we may see an impact to our operating results.

Growth of Mobile Commerce

We expect that our customers will increasingly access our sites using mobile devices. In the second quarter of 2013, approximately 42% of our U.S. orders were placed from a mobile device, up from approximately 39% in the first quarter of 2013 and approximately 31% for fourth quarter of 2012. From inception through June 30, 2013, customers who access our sites through a mobile device have typically had a higher lifetime value. Due to the relative newness of smartphones, tablets and mobile shopping in general, we do not know if this trend will continue or whether it is a result of our mobile interface or simply indicative of a customer demographic that is an early adopter of mobile commerce. If we are unable to continue to attract customers who are predisposed to engage in mobile shopping or if over the longer term mobile shoppers are not more active than other customers, our sales growth rate and operating results could be negatively affected.

 

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Investment in Growth

We have aggressively invested in the growth of our business, and we intend to continue to do so. We anticipate that our operating expenses will increase substantially as we continue to expand our organization size in general, and our merchandising, technology, studio and fulfillment operations in particular. These increased expenses will result primarily from hiring additional employees, further developing our technology and scaling our fulfillment centers as our business grows. In addition, we may invest in infrastructure or capabilities that we believe will yield returns in the long term but for which there is not a near-term return.

Components of Our Results of Operations

Net Sales

Net sales consist primarily of sales of children’s apparel, women’s apparel and other product categories, such as toys, infant gear, kitchen accessories and home décor. We recognize product sales at the time title transfers to the customer, which is generally at delivery. Net sales represent the sales of these items plus shipping and handling charges to customers, net of estimated returns and promotional discounts. Net sales are primarily driven by growth in our active customers, the frequency with which customers purchase and average order value. Net sales also include sales generated from the sale of services events, which are primarily electronic vouchers or access codes for our customers to redeem directly with the vendor. Net sales of services events have not been material to date.

Cost of Sales

Cost of sales consists of our purchase price for merchandise sold to customers, inbound and outbound shipping and handling costs, shipping supplies and fulfillment costs. Fulfillment costs represent those costs incurred in operating and staffing the fulfillment centers, including costs attributed to receiving, inspecting, picking, packaging and preparing customer orders for shipment. Cost of sales also includes direct and indirect labor costs for fulfillment center oversight, including payroll and related benefit costs and stock-based compensation expense. Cost of sales are primarily driven by growth in orders placed by customers, the mix of the product available for sale on our sites and transportation costs related to delivering orders to our customers.

Marketing Expenses

Marketing expenses consist primarily of targeted online marketing costs, such as display advertising, key word search campaigns, search engine optimization and social media, and offline marketing costs, such as print, radio and television advertising. Marketing expenses also include payroll and related benefit costs and stock-based compensation expense for our employees involved in marketing activities. Marketing expenses are primarily driven by investments to grow and retain our customer base.

Selling, General and Administrative Expenses

Selling, general and administrative expenses consist primarily of payroll and related benefit costs and stock-based compensation expense for our employees involved in general corporate functions including customer service, merchandising, studio and technology, as well as costs associated with the use by these functions of facilities and equipment, including depreciation and rent. Selling, general and administrative expenses are primarily driven by increases in headcount required to support business growth.

 

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Interest (Expense) Income, Net

Interest (expense) income, net consists primarily of interest earned on cash, cash equivalents and short-term investments held by us.

Other (Expense) Income, Net

Other (expense) income, net consists primarily of income earned from our corporate purchasing card and foreign currency gains (losses).

Fiscal Year; Geographic Segments

Beginning with our fiscal year 2011, our fiscal year ends on the Sunday closest to December 31. Each fiscal year consists of four 13-week quarters, with one extra week added in the fourth quarter every five to six years. Our fiscal year 2012 ended on December 30, 2012, our fiscal year 2011 ended on January 1, 2012 and our fiscal year 2010 ended on December 31, 2010.

We organize our operations in two geographic segments. The U.S. segment consists of amounts earned from product and services sales through our U.S.-focused sites, including sales from the sites to customers in the United States and Canada and, through a third-party service provider, over 50 other countries. The U.K. segment consists of amounts earned from product and services sales through our U.K.-focused sites, including sales from the sites to customers in the United Kingdom and throughout Europe.

Results of Operations

The following tables set forth our results of operations for the periods presented and express the relationship of certain line items as a percentage of net sales for those periods. The period-to-period comparison of financial results is not necessarily indicative of future results.

 

     Fiscal Years     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  
     (in thousands)  

Net sales

   $ 18,376      $ 142,545      $ 331,240      $ 126,993      $ 272,021   

Cost of sales

     12,574        104,949        240,943        91,252        191,506   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     5,802        37,596        90,297        35,741        80,515   

Operating expenses:

          

Marketing expenses

     4,897        20,228        37,780        15,600        28,056   

Selling, general and administrative expenses

     7,112        28,905        63,071        26,499        50,069   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     12,009        49,133        100,851        42,099        78,125   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

     (6,207     (11,537     (10,554     (6,358     2,390   

Interest (expense) income, net

     (169     20        43        16        64   

Other (expense) income, net

     (627     203        176        180        (48
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

   $ (7,003   $ (11,314   $ (10,335   $ (6,162   $ 2,406   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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     Fiscal Years     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  

Net sales

     100.0     100.0     100.0     100.0     100.0

Cost of sales

     68.4        73.6        72.7        71.9        70.4   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     31.6        26.4        27.3        28.1        29.6   

Operating expenses:

          

Marketing expenses

     26.7        14.2        11.4        12.3        10.3   

Selling, general and administrative expenses

     38.7        20.3        19.0        20.9        18.4   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     65.4        34.5        30.4        33.2        28.7   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

     (33.8     (8.1     (3.1     (5.0     0.9   

Interest (expense) income, net

     (0.9                            

Other (expense) income, net

     (3.4     0.2               0.1          
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

     (38.1 )%      (7.9 )%      (3.1 )%      (4.9 )%      0.9
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comparison of the Six Months Ended July 1, 2012 and June 30, 2013

Net Sales

 

     Six Months Ended      Change  
     Jul. 1, 2012      Jun. 30, 2013      $      %  
    

(dollars in thousands)

 

Net sales

   $ 126,993       $ 272,021       $ 145,028         114.2

The increase in net sales was primarily due to sales to a much larger group of customers, as the number of active customers increased 93.1% as of June 30, 2013 compared to the number of active customers as of July 1, 2012. Additionally, revenue per active customer increased 10.9% for the six months ended June 30, 2013 compared with the six months ended July 1, 2012. Net sales also increased as a result of the increase in average order value for the six months ended June 30, 2013 compared with the six months ended July 1, 2012.

Cost of Sales

 

     Six Months Ended     Change  
     Jul. 1, 2012     Jun. 30, 2013     $      %  
    

(dollars in thousands)

 

Cost of sales

   $ 91,252      $ 191,506      $ 100,254         109.9

Percentage of net sales

     71.9     70.4     

Of the increase in cost of sales, $75.9 million was due to the increase in products sold to our larger customer base. In addition, shipping and fulfillment costs increased $24.4 million as a result of the increase in products sold during the period.

Marketing Expenses

 

     Six Months Ended     Change  
     Jul. 1, 2012     Jun. 30, 2013     $      %  
    

(dollars in thousands)

 

Marketing expenses

   $ 15,600      $ 28,056      $ 12,456         79.8

Percentage of net sales

     12.3     10.3     

The increase in marketing expenses was primarily due to the increased number of new email subscribers acquired through paid online marketing channels, including display advertising, key word

 

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search campaigns, search engine optimization and social media. To a lesser extent, marketing expense increased due to an increase in personnel costs.

Selling, General and Administrative Expenses

 

     Six Months Ended     Change  
     Jul. 1, 2012     Jun. 30, 2013     $      %  
     (dollars in thousands)  

Selling, general and administrative expenses

   $ 26,499      $ 50,069      $ 23,570         88.9

Percentage of net sales

     20.9     18.4     

Of the increase in sales, general and administrative expenses, $14.3 million was due to the increase in salaries and related benefits and stock-based compensation expense for customer service, merchandising, studio and technology personnel as we continued to increase our headcount across functions to support business growth. To a lesser extent, this increase was attributable to a $3.7 million increase in professional services costs as a result of business growth and a related increase in business complexity and a $3.2 million increase in our merchant processing fees, which increase in total dollars as sales increase.

Comparison of Fiscal Years 2012, 2011 and 2010

Net Sales

 

     Fiscal Years      Change  
     2010      2011      2012      2010 to 2011     2011 to 2012  
     (dollars in thousands)  

Net sales

   $ 18,376       $ 142,545       $ 331,240       $ 124,169         675.7   $ 188,695         132.4

2012 Compared to 2011.    The increase in net sales was primarily a result of sales to a much larger group of customers, as the number of our active customers increased 99.7% in 2012 compared to 2011. Additionally, revenue per active customer increased 16.7% in 2012 compared to 2011.

2011 Compared to 2010.    The increase in net sales was primarily due to sales to a much larger group of customers, as the number of active customers increased 403.8% in 2011 compared to 2010. Additionally, revenue per active customer increased 53.8% in 2011 compared to 2010. To a lesser extent, net sales increased as a result of the increase in average order value during 2011 compared to 2010.

Cost of Sales

 

     Fiscal Years     Change  
     2010     2011     2012     2010 to 2011     2011 to 2012  
    

(dollars in thousands)

        

Cost of sales

   $ 12,574      $ 104,949      $ 240,943      $ 92,375         734.7   $ 135,994         129.6

Percentage of net sales

     68.4     73.6     72.7          

2012 Compared to 2011.    Of the increase in cost of sales, $101.3 million was due to the increase in products sold to our larger customer base. In addition, shipping and fulfillment costs increased $34.7 million as a result of higher overall level of net sales and the opening of our own fulfillment operations. In November 2011 and January 2012, we opened our fulfillment operations in Nevada and Ohio and discontinued our relationship with a third-party fulfillment company in April 2012. This allowed us to gain better control over our fulfillment operations and costs, which increased during the first part of the year as a result of operating three fulfillment centers during this transition to our own fulfillment operations.

 

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2011 Compared to 2010.    Of the increase in cost of sales, $65.5 million was due to the increase in products sold to our larger customer base. In addition, shipping and fulfillment costs increased $26.9 million as a result of higher overall level of net sales and an expansion of our fulfillment center infrastructure. During 2011, we transitioned from a smaller third-party fulfillment company to a larger third-party company due to significant growth in customer orders. As a result of this transition, in 2011 we experienced increases in the costs to fulfill customer orders due to the fixed costs involved in a larger fulfillment operation.

Marketing Expenses

 

     Fiscal Years     Change  
     2010     2011     2012     2010 to 2011     2011 to 2012  
     (dollars in thousands)  

Marketing expenses

   $ 4,897      $ 20,228      $ 37,780      $ 15,331         313.1   $ 17,552         86.8

Percentage of net sales

     26.7     14.2     11.4          

The increase in marketing expenses for each period was primarily due to the increased number of new email subscribers acquired through paid online marketing channels, including display advertising, key word search campaigns, search engine optimization and social media, partially offset by a decrease in the average cost to acquire a new subscriber.

Selling, General and Administrative Expenses

 

     Fiscal Years     Change  
     2010     2011     2012     2010 to 2011     2011 to 2012  
     (dollars in thousands)  

Selling, general and administrative expenses

   $ 7,112      $ 28,905      $ 63,071      $ 21,793         306.4   $ 34,166         118.2

Percentage of net sales

     38.7     20.3     19.0          

2012 Compared to 2011.    Of the increase in selling, general and administrative expenses, $19.6 million was due to the increase in salaries and related benefits and stock-based compensation expense for customer service, merchandising, studio and technology personnel as we continued to increase our headcount as a result of business growth. To a lesser extent, this increase was attributable to a $4.0 million increase in our merchant processing fees, which increase in total dollars as sales increase, a $3.4 million increase in our professional services and contract labor costs as a result of business growth and a $3.2 million increase in our rent and related facilities costs as a result of our added fulfillment operations in Nevada and Ohio.

2011 Compared to 2010.    Of the increase in selling, general and administrative expenses, $11.1 million was due to the increase in salaries and related benefits and stock compensation expense for customer service, merchandising, studio and technology personnel as we continued to increase our headcount as a result of business growth. To a lesser extent, this increase was attributable to a $4.6 million increase in our rent and related facilities costs as we expanded to larger office space in Seattle, Washington and to a larger fulfillment center space in Hebron, Kentucky; a $3.7 million increase in our merchant processing fees, which increase in total dollars as sales increase; and a $1.5 million increase in professional services and contract labor costs as a result of business growth.

Quarterly Results of Operations and Other Financial and Operations Data

The following tables set forth selected unaudited quarterly results of operations and other financial and operations data for the six quarters ended June 30, 2013, as well as the percentage that each line item represents of net sales. The information for each of these quarters has been prepared

 

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on the same basis as the audited annual financial statements included elsewhere in this prospectus and in the opinion of management, includes all adjustments, which include only normal recurring adjustments, necessary for the fair statement of our consolidated results of operations for these periods. This data should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this prospectus. Our quarterly results of operations will vary in the future. These quarterly operating results are not necessarily indicative of our operating results for any future period.

 

    Three Months Ended  
    Apr. 1, 2012     Jul. 1, 2012     Sep. 30, 2012     Dec. 30, 2012     Mar. 31, 2013     Jun. 30, 2013  
    (in thousands)  

Net sales

  $ 58,564      $ 68,430      $ 75,767      $ 128,479      $ 127,012      $ 145,009   

Cost of sales

    42,238        49,014        55,804        93,887        90,400        101,106   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    16,326        19,416        19,963        34,592        36,612        43,903   

Operating expenses:

           

Marketing expenses

    7,988        7,613        11,120        11,059        15,439        12,617   

Selling, general and administrative expenses

    12,238        14,260        16,272        20,301        22,786        27,283   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    20,226        21,873        27,392        31,360        38,225        39,900   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

    (3,900     (2,457     (7,429     3,232        (1,613     4,003   

Interest income, net

    7        9        6        21        32        32   

Other income (expense), net

    46        134        5        (9     (14     (34
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

  $ (3,847   $ (2,314   $ (7,418   $ 3,244      $ (1,595   $ 4,001   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

    Three Months Ended  
    Apr. 1, 2012     Jul. 1, 2012     Sep. 30, 2012     Dec. 30, 2012     Mar. 31, 2013     Jun. 30, 2013  

Net sales

    100.0     100.0     100.0     100.0     100.0     100.0

Cost of sales

    72.1        71.6        73.7        73.1        71.2        69.7   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    27.9        28.4        26.3        26.9        28.8        30.3   

Operating expenses:

           

Marketing expenses

    13.6        11.1        14.7        8.6        12.2        8.7   

Selling, general and administrative expenses

    20.9        20.8        21.5        15.8        17.9        18.8   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    34.5        31.9        36.2        24.4        30.1        27.5   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

    (6.7     (3.5     (9.9     2.5        (1.3     2.8   

Interest income, net

                                         

Other income (expense), net

    0.1        0.2                               
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

    (6.6 )%      (3.3 )%      (9.9 )%      2.5     (1.3 )%      2.8
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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    Three Months Ended  
    Apr. 1, 2012     Jul. 1, 2012     Sep. 30, 2012     Dec. 30, 2012     Mar. 31, 2013     Jun. 30, 2013  
   

(in thousands, except revenue per active customer

and average order value)

 

Other Financial and Operations Data

           

Adjusted EBITDA(1)

  $ (3,112   $ (1,337   $ (6,190   $ 4,719      $ 452      $ 7,017   

Free cash flow(2)

  $ (4,385   $ (5,691   $ 5,463      $ 13,038      $ 604      $ (4,844

Active customers

    1,018        1,154        1,344        1,580        1,906        2,229   

Revenue per active customer

  $ 58      $ 59      $ 56      $ 81      $ 67      $ 65   

Total orders placed

    1,410        1,369        1,843        2,328        2,881        2,815   

Average order value

  $ 52.07      $ 52.32      $ 53.57      $ 54.61      $ 53.05      $ 53.42   

 

(1) Adjusted EBITDA is a non-GAAP financial measure that we calculate as earnings (loss) before interest and other income and expense, taxes, depreciation, amortization and stock-based compensation expense. Please see the section of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures—Adjusted EBITDA” for more information.

The following table reflects the reconciliation of net (loss) income to Adjusted EBITDA:

 

    Three Months Ended  
    Apr. 1, 2012     Jul. 1, 2012     Sep. 30, 2012     Dec. 30, 2012     Mar. 31, 2013     Jun. 30, 2013  
    (in thousands)  

Net (loss) income

  $ (3,847   $ (2,314   $ (7,418   $ 3,244      $ (1,595   $ 4,001   

Excluding:

           

Interest income, net

    (7     (9     (6     (21     (32     (32

Other income (expense), net

    (46     (134     (5     9        14        34   

Taxes

                                         

Depreciation and amortization

    642        799        889        1,039        1,167        1,312   

Stock-based compensation expense

    146        321        350        448        898        1,702   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

  $ (3,112   $ (1,337   $ (6,190   $ 4,719      $ 452      $ 7,017   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(2) Free cash flow is a non-GAAP financial measure that we calculate as net cash provided by operating activities less net cash used in capital expenditures. Please see the section of this prospectus captioned “Selected Consolidated Financial and Other Data—Non-GAAP Financial Measures—Free Cash Flow” for more information.

The following table reflects the reconciliation of net cash (used in) provided by operating activities to free cash flow:

 

    Three Months Ended  
    Apr. 1, 2012     Jul. 1, 2012     Sep. 30, 2012     Dec. 30, 2012     Mar. 31, 2013     Jun. 30, 2013  
    (in thousands)  

Net cash (used in) provided by operating activities

  $ (1,371   $ (4,676   $ 6,998      $ 15,332      $ 3,509      $ 494   

Capital expenditures

    (3,014     (1,015     (1,535     (2,294     (2,905     (5,338
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Free cash flow

  $ (4,385   $ (5,691   $ 5,463      $ 13,038      $ 604      $ (4,844
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Seasonality and Quarterly Trends

We believe our results are impacted by a pattern of increased sales during the back-to-school shopping season in the third quarter and holiday shopping season in the fourth quarter which has resulted in increased sales during a portion of the third quarter and the fourth quarter each fiscal year, which then results in lower sequential growth in the first quarter. For example, net sales in the first quarter of 2013 decreased when compared with net sales in the fourth quarter of 2012. We also believe that we

 

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have experienced slower growth in orders placed during the late spring and early summer months, although we do not believe this pattern has affected net sales. We expect this seasonality to continue in future years. Our operating income (losses) have also been affected by these historical trends because many of our expenses are relatively fixed in the short term. If our growth rates were to slow, the impact of these seasonality trends on our results of operations would become more pronounced.

Our quarterly net sales increased sequentially quarter-to-quarter for all periods presented above other than the first quarter of 2013, reflecting increased demand for our products from new and existing customers. We cannot assure you that this pattern of sequential net sales growth will continue. As noted above, the seasonality of our business has resulted in net sales for the first quarter of 2013 being less than total net sales for the fourth quarter of 2012. As a result, we believe that comparisons of net sales and results of operations for a given quarter to net sales and results of operations for the corresponding quarter in the prior fiscal year are generally more meaningful than comparisons of net sales and results of operations for sequential quarters.

Our quarterly cost of sales increased sequentially quarter-to-quarter for substantially all periods presented above, primarily due to the increase in products sold to our customers during the period as well as due to corresponding increases in fulfillment and transportation costs.

Marketing expenses generally remained consistent or increased sequentially quarter-to-quarter for the periods presented above, primarily due to increased marketing programs to acquire and retain new email subscribers, users of our mobile applications and customers.

Selling, general and administrative expenses increased sequentially quarter-to-quarter for all periods presented above, primarily due to increases in salaries and related benefits as we continued to increase our headcount as a result of business growth, increases in professional services and contract labor costs as a result of business growth and increases in our merchant processing fees which increase in total dollars as sales increase.

Our business is directly affected by the behavior of consumers. Economic conditions and competitive pressures can significantly impact, both positively and negatively, the level of demand by moms and other customers for our products. Consequently, the results of any prior quarterly or annual periods should not be relied upon as indications of our future operating performance.

Liquidity and Capital Resources

The following tables show our cash and cash equivalents, short-term investments, accounts receivable and working capital as of the dates indicated:

 

     As of  
     Jan. 1, 2012      Dec. 30, 2012      Jun. 30, 2013  
     (in thousands)  

Cash and cash equivalents

   $ 28,361       $ 96,998       $ 83,015   

Short-term investments

     14,000         8,000         18,005   

Accounts receivable

     620         3,043         4,175   

Working capital

     22,821         62,605         61,240   

As of June 30, 2013, our cash and cash equivalents were held for working capital purposes, a majority of which were held in cash deposits and money market funds. Cash held internationally as of December 31, 2010, January 1, 2012, December 30, 2012 and June 30, 2013 was immaterial. We intend to increase our capital expenditures to support the growth in our business and operations. We believe that our existing cash and cash equivalents, together with cash generated from operations, will

 

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be sufficient to meet our anticipated cash needs for at least the next 12 months. However, our liquidity assumptions may prove to be incorrect, and we could exhaust our available financial resources sooner than we currently expect. In addition, we may elect to raise additional funds at any time through equity, equity-linked or debt financing arrangements. Our future capital requirements and the adequacy of available funds will depend on many factors, including those described in the section of the prospectus captioned “Risk Factors.” We may not be able to secure additional financing to meet our operating requirements on acceptable terms, or at all.

Sources of Liquidity

Since our inception, we have financed our operations and capital expenditures primarily through cash flows generated by operations and through private sales of convertible redeemable preferred stock and common stock. Since inception, we have raised a total of $94.8 million from the sale of preferred stock and common stock, net of costs and expenses associated with such financings and net of repurchases of $43.5 million of capital stock.

Historical Cash Flows

 

     Fiscal Year     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  
                 (in thousands)              

Net cash (used in) provided by operating activities

   $ (656   $ 8,864      $ 16,283      $ (6,047   $ 4,003   

Net cash (used in) provided by investing activities

     (608     (21,615     (139     1,971        (18,162

Net cash provided by financing activities

     9,903        31,955        52,493        45        158   

Effect of exchange rates

                                 18   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

   $ 8,639      $ 19,204      $ 68,637      $ (4,031   $ (13,983
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net Cash Provided by (Used in) Operating Activities

Net cash provided by (used in) operating activities in each period presented has been influenced by changes in deferred revenue, inventory, accounts payable and accrued expenses. The increase in deferred revenue for each of the periods presented was primarily due to an increase in customer orders during the period which had not been delivered as of the end of the period. The changes in inventory were primarily due to changes in the number of items sold, which were either in the fulfillment centers awaiting shipment to customers or in-transit to customers. The increase in accounts payable and accrued expenses during most periods was primarily due to the growth in the business during the periods presented, which primarily relate to amounts owed to vendors for products sold on our sites, transportation expenses for products being shipped into and out of our fulfillment centers and member and customer acquisition marketing expenses. For the six months ended July 1, 2012 and June 30, 2013, accounts payable and accrued expenses decreased due to timing of payments to vendors during the period.

Net cash provided by operating activities was $4.0 million in the six months ended June 30, 2013, as a result of net income of $2.4 million, stock-based compensation expense and other non-cash charges of $5.1 million and changes in our operating assets and liabilities that used $3.5 million in cash. Inventory increased $2.5 million, accounts receivable increased $1.1 million and accounts payable decreased $5.1 million offset by increases in deferred revenue of $3.5 million and accrued expenses of $2.9 million. The increase in accounts receivable represented funds collected from our credit card processor, which

 

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were in-transit to us. The decrease in accounts payable represented additional payments to vendors, which can fluctuate depending on payment terms and timing of when we run events.

Net cash used in operating activities was $6.0 million in the six months ended July 1, 2012, as a result of net loss of $6.2 million, stock-based compensation expense and other non-cash charges of $1.9 million and changes in our operating assets and liabilities that used $1.8 million in cash. Inventory increased $2.0 million, accounts receivable increased $2.4 million and accounts payable decreased $2.1 million, partially offset by increases in deferred revenue of $3.6 million and accrued expenses of $2.2 million. The increase in accounts receivable represented funds collected from our credit card processor, which were in-transit to us. The decrease in accounts payable represents additional payments to vendors, which can fluctuate depending on payment terms and timing of when we run events.

Net cash provided by operating activities was $16.3 million in 2012, as a result of net loss of $10.3 million, stock-based compensation expense and other non-cash charges of $4.7 million and changes in our operating assets and liabilities that provided $21.9 million in positive cash flow. Accounts payable increased $14.2 million, accrued expenses increased $8.3 million, and deferred revenue increased $6.1 million, partially offset by a $3.0 million increase in inventory and a $2.4 million increase in accounts receivable. The increase in accounts payable and accrued expenses was primarily due to the growth in the business during 2012. The increase in accounts receivable represented funds collected from our credit card processor, which were in-transit to us.

Net cash provided by operating activities was $8.9 million in 2011, as a result of net loss of $11.3 million, stock-based compensation expense and other non-cash charges of $2.7 million and changes in our operating assets and liabilities that provided $17.5 million in positive cash flow. Accounts payable increased $16.3 million, accrued expenses increased $4.6 million and deferred revenue increased $2.5 million, partially offset by a $4.0 million increase in inventory.

Net cash used in operating activities was $0.7 million in 2010, as a result of net loss of $7.0 million, stock-based compensation expense and other non-cash charges of $3.3 million and changes in our operating assets and liabilities that provided $3.1 million in positive cash flow. Accrued expenses increased $2.1 million and deferred revenue increased $1.0 million.

Net Cash (Used in) Provided by Investing Activities

Our primary investing activities have consisted of purchases of property and equipment to support our fulfillment centers and our overall business growth. Purchases of property and equipment may vary from period-to-period due to timing of our expansion of our operations. Additionally, we have invested some of our excess cash balances in money market funds and commercial paper.

Net cash used in investing activities was $18.2 million in the six months ended June 30, 2013. This was primarily attributable to purchases of short-term investments related to excess cash of $18.0 million and $8.2 million in capital expenditures, which related to additional equipment for our fulfillment centers as well as software purchases and internally developed software offset by proceeds from maturities of securities of $8.0 million, which were transferred to cash.

Net cash provided by investing activities was $2.0 million in the six months ended July 1, 2012. This was primarily attributable to the proceeds from available for sale investments, which were transferred to cash, of $14.0 million and net proceeds from restricted cash of $2.0 million offset by purchases of short-term investments related to excess cash of $10.0 million and $4.0 million in capital expenditures, which related to additional equipment for our fulfillment centers as well as software purchases and internally developed software.

 

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Net cash used in investing activities was $0.1 million in 2012. This was primarily attributable to $7.9 million in capital expenditures, which related to equipment for our fulfillment centers, software purchases, internally developed software and hardware purchases for employees and general operations offset by $5.8 million in proceeds from available for sale investments, which were transferred to cash.

Net cash used in investing activities was $21.6 million in 2011. This was primarily attributable to cash transferred into short-term investments of $14.0 million, in addition to $5.1 million in capital expenditures, which related to software purchases, internally developed software and hardware purchases for employees and general operations.

Net cash used in investing activities was $0.6 million in 2010. This was primarily attributable to $0.5 million in capital expenditures, which related to internally developed software and computer and hardware for employees and general operations, in addition to a $0.1 million increase in restricted cash.

Net Cash Provided by Financing Activities

Net cash provided by financing activities was $0.2 million in the six months ended June 30, 2013. This was primarily attributable to proceeds from the exercise of stock options.

Net cash provided by financing activities in the six months ended July 1, 2012 was primarily attributable to proceeds from the exercise of stock options.

Net cash provided by financing activities was $52.5 million in 2012. This was primarily attributable to net proceeds from preferred stock financing of $84.9 million offset by the repurchase of preferred stock from existing investors of $32.5 million.

Net cash provided by financing activities was $32.0 million in 2011. This was primarily attributable to net proceeds from preferred stock financing of $31.9 million and from common stock financing of $11.0 million offset by the repurchase of common from existing employees of $11.0 million.

Net cash provided by financing activities was $9.9 million in 2010. This was primarily attributable to net proceeds from preferred stock financing of $9.9 million.

Off Balance Sheet Arrangements

We did not have any off balance sheet arrangements in 2010, 2011 or 2012, or as of the six months ended June 30, 2013, except for operating leases as discussed below.

Contractual Obligations

We lease various office and fulfillment facilities, including our corporate headquarters in Seattle, Washington under operating lease agreements that expire from 2013 to 2017. The terms of the lease agreements provide for rental payments on a graduated basis. We recognize rent expense on a straight-line basis over the lease periods. We do not have any debt or material capital lease obligations and all of our property, equipment and software have been purchased with cash. We have no material long-term purchase obligations outstanding with any vendors or third parties. Our future minimum payments under non-cancelable operating leases for equipment and office facilities are as follows as of December 30, 2012:

 

     Payments Due by Period  
     Total      Less Than
1 Year
     1 - 3
Years
     3 - 5
Years
     More Than
5 Years
 
     (in thousands)  

Operating lease obligations(1)

   $ 15,150       $ 5,057       $ 6,654       $ 3,439       $   —   

 

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(1) The contractual obligation amounts in the table exclude our lease agreement for office space in Seattle, Washington executed on May 2, 2013. The lease term expires in 2024 and future minimum lease payments are approximately $61.0 million.

The contractual commitment amounts in the table above are associated with agreements that are enforceable and legally binding. Obligations under contracts that we can cancel without a significant penalty are not included in the table above.

Critical Accounting Policies

Our management’s discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, net sales, expenses and related disclosures. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates.

We believe that the assumptions and estimates associated with revenue recognition, inventory, income taxes and stock-based compensation have the greatest potential impact on our consolidated financial statements. Therefore, we consider these to be our critical accounting policies and estimates. For further information on all of our significant accounting policies, please see Note 1 of the accompanying notes to our consolidated financial statements.

Revenue Recognition

We generate net sales from sales of children’s apparel, women’s apparel and other categories, such as toys, infant gear, kitchen accessories and home décor. We generate net sales from shipping and handling charges to our customers. We also generate net sales from the sale of services events, which are primarily electronic vouchers or access codes for our customers to redeem directly with the vendor.

We recognize revenue when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred; (3) the selling price is fixed or determinable; and (4) collectability is reasonably assured. For product sales, these criteria are met when the customer orders an item through our sites via the electronic shopping cart, funds are collected from the customer and the item is fulfilled in one of our fulfillment centers or third-party fulfillment centers, shipped and delivered to the customer. Revenue from product sales is generally recorded at the gross amount as we are the primary obligor in the arrangement with the customer, have latitude in establishing the products available for sale and the price to the customer, are responsible for ensuring the delivery of the product to the customer and assume inventory and credit risk. For services sales, these criteria are met when the customer orders an item through our sites via the electronic shopping cart, funds are collected from the customer and the voucher or access code is downloaded from our sites. Revenue from services sales is generally recorded at the net amount, or the commission earned on the voucher, as we are acting as an agent on behalf of the vendor. The vendor is ultimately responsible for fulfilling the customer order directly with the customer and assumes the inventory risk. To date, services revenues have not been material. We defer revenue when cash is collected from our customer prior to the satisfaction of the revenue recognition criteria.

To encourage customers to purchase our products and services, we periodically provide incentive offers. Generally, these promotions include dollar-off and percentage-off discounts to be applied against current purchases. We also grant merchandise credits to participants in our referral program when the customer referral results in a sale. Merchandise credits issued through the referral program

 

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typically expire in 18 months. We record these discounts and merchandise credits as reductions of sales price at the date the promotion is redeemed. Additionally, we provide customers merchandise credits to be applied against future purchases in instances in which the customer is unsatisfied with an order. In these instances, we have established a sales reserve based on our historical experience. To date, these reserves have not been significant.

Income Taxes

Deferred tax assets and liabilities are determined based on the differences between financial reporting and the tax bases of assets and liabilities and are measured using the tax rates that will be in effect when the differences are expected to reverse. Future tax benefits are recognized to the extent that realization of such benefits is considered to be more likely than not. A valuation allowance is provided on deferred tax assets if it is determined that it is more likely than not that the deferred tax asset will not be realized. We have considered future market growth, historical and forecasted earnings, future taxable income and the mix of earnings in the jurisdictions in which we operate along with prudent, feasible and permissible tax planning strategies in determining the extent to which our deferred tax assets may be realizable. Projections inherently include a level of uncertainty that could result in lower or higher than expected future taxable income. When we determine that the deferred tax assets for which there is currently a valuation allowance would be realized in the future, the related valuation allowance would be reduced and a benefit to operations would be recorded. Conversely, if we were to make a determination that we will not be able to realize a portion of our net deferred tax assets in the future (using the “more likely than not” criteria), we record an adjustment to our valuation allowance and a charge to operations in the period such determination is made.

We use a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount which is more than 50% likely of being realized upon ultimate settlement. We consider many factors when evaluating and estimating tax positions and tax benefits, which may require periodic adjustments and which may not accurately forecast actual outcomes. We do not have any unrecognized tax benefits. If interest and penalties related to unrecognized tax benefits were incurred, such amounts would be included in our provision for income taxes.

Stock-Based Compensation

Stock-based compensation is measured at the grant date based on the fair value of the award and is recognized as expense, net of estimated forfeitures, over the requisite service period, which is generally the vesting period of the award.

Determining the fair value of stock-based awards at the grant date represent management’s best estimates, but the estimates involve inherent uncertainties and the application of management’s judgment. Changes in judgments could have a material impact on our results of operations and financial position. We use the Black-Scholes option pricing model to determine the fair value of stock options. The determination of the grant date fair value of options using an option pricing model is affected by our estimated common stock fair value as well as assumptions regarding a number of other complex and subjective variables. These variables include the fair value of our common stock, our expected stock price volatility over the expected term of the options, stock option exercise and cancellation behaviors, risk-free interest rates and expected dividends, which are estimated as follows:

 

  Ÿ  

Fair Value of Our Common Stock.    Because our stock is not publicly traded, we must estimate the fair value of our common stock, as discussed in “—Common Stock Valuations” below.

 

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  Ÿ  

Expected Term.    The expected term represents the period that our stock-based awards are expected to be outstanding. As we do not have sufficient historical experience for determining the expected term of the stock option awards granted, we have based our expected term for awards issued to employees (including members of our board of directors) on the simplified method, which represents the average period from vesting to the expiration of the stock option. For grants to nonemployees, the expected term is equal to the contractual term, which is generally ten years.

 

  Ÿ  

Expected Volatility.    As we have been a private company and do not have a trading history for our common stock, the expected stock price volatility for our common stock was estimated by taking the average historical price volatility for industry peers, which we have designated, based on daily price observations over a period equivalent to the expected term of the stock option grants. Industry peers, which we have designated, consist of several public companies in the industry similar in size, stage of life cycle and financial leverage. These industry peers were also utilized in our common stock valuations. We intend to continue to consistently apply this process using the same or similar public companies until a sufficient amount of historical information regarding the volatility of our own common stock share price becomes available, or unless circumstances change such that the identified companies are no longer similar to us, in which case more suitable companies whose share prices are publicly available would be used in the calculation.

 

  Ÿ  

Risk-free Interest Rate.    The risk-free interest rate is based on the yields of U.S. Treasury securities with maturities similar to the expected term of the options for each option group.

 

  Ÿ  

Expected Dividend Yield.    We have never declared or paid any cash dividends to common stockholders and do not presently plan to pay cash dividends in the foreseeable future. Consequently, we used an expected dividend yield of zero.

If any of the assumptions used in the Black-Scholes model change significantly, stock-based compensation for future awards may differ materially compared with the awards granted previously.

The following table presents the weighted-average assumptions used to estimate the fair value of options granted during the periods presented:

 

     Fiscal Years     Six Months Ended  
     2010     2011     2012     Jul. 1, 2012     Jun. 30, 2013  

Expected volatility

     65.7     61.7     61.7     62.0     51.0

Expected term (in years)

     6.16        5.69        5.98        5.96        6.78   

Risk-free interest rate

     2.3     1.6     1.0     1.0     1.2

Expected dividend yield

                                   

Common Stock Valuations

The fair value of the common stock underlying our stock options was determined by our board of directors, which intended all options granted to be exercisable at a price per share not less than the per-share value of our common stock underlying those options on the date of grant. The valuations of our common stock were determined in accordance with the guidelines outlined in the American Institute of Certified Public Accountants Practice Aid, Valuation of Privately-Held-Company Equity Securities Issued as Compensation. The assumptions used in the valuation model were based on future expectations combined with management judgment. Members of the board of directors and management team have extensive business, financial and investing experience. Because there had been no public market for our common stock, the board of directors with input from management exercised significant judgment and considered numerous objective and subjective factors to determine the fair value of common stock as of the date of each option grant, including the following factors:

 

  Ÿ  

contemporaneous third-party valuations of our common stock;

 

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  Ÿ  

the prices, rights, preferences and privileges of preferred stock relative to the common stock;

 

  Ÿ  

the prices of preferred stock sold to third-party investors in arms-length transactions;

 

  Ÿ  

the prices of common stock sold to third-party investors in secondary transactions or repurchased by us in arms-length transactions;

 

  Ÿ  

our operating and financial performance;

 

  Ÿ  

current business conditions and projections;

 

  Ÿ  

our stage of development;

 

  Ÿ  

the likelihood of achieving a liquidity event for the shares of common stock underlying these stock options, such as an initial public offering or sale of the company, given prevailing market conditions;

 

  Ÿ  

any adjustment necessary to recognize a lack of marketability for common stock;

 

  Ÿ  

the market performance of comparable publicly traded companies; and

 

  Ÿ  

the U.S. and global capital market conditions.

We granted stock options with the following exercise prices between January 1, 2012 and June 30, 2013:

 

Grant Date

   Common
Shares
Underlying
Options
Granted
     Exercise
Price
Per Share
     Fair Value
Per Common
Share for
Financial
Reporting
Purposes at
Grant Date
     Intrinsic
Value Per
Underlying
Common
Share
 

February 21, 2012

     849,000       $ 1.49       $ 1.49       $   

May 16, 2012

     1,893,850         1.82         1.82           

September 6, 2012

     394,150         1.86         1.86           

November 6, 2012

     5,255,840         1.87         1.87           

December 19, 2012

     1,180,500         1.87         1.87           

February 5, 2013

     2,869,350         1.98         1.98           

May 6, 2013

     575,375         2.57         3.08         0.51   

May 16, 2013

     23,213,352         2.57         3.08         0.51   

Based upon the assumed initial public offering price of $         per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, the aggregate intrinsic value of options outstanding as of June 30, 2013 was $         million, of which $         million related to vested options and $         million related to unvested options.

In order to determine the fair value of our common stock underlying option grants issued, we determined the enterprise value, added net cash, then allocated the equity value to each class of equity securities outstanding (preferred stock, common stock and options).

For the valuations completed in December 2011, March 2012 and June 2012, the enterprise value was estimated using the market approach using the comparable company method. The market approach considers multiples of financial metrics based on both acquisitions and trading multiples of a selected peer group of publicly traded companies. These multiples are then applied to our financial metrics to derive a range of estimated enterprise values.

For the valuations completed in September 2012, December 2012, March 2013 and May 2013, the enterprise value was estimated using the market approach and the income approach. The income

 

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approach estimates the fair value of the enterprise based on the present value of our future estimated cash flows and our residual value beyond the forecast period. The residual value was based on an exit or terminal multiple observed in the comparable company method analysis. The future cash flows and residual value are discounted to their present value to reflect the risks inherent in us achieving these estimated cash flows. The discount rate was based on benchmark venture capital studies of discount rates for other companies in or nearing an initial public offering, and the calculated weighted average cost of capital.

The equity value at each valuation date through March 2013 was allocated to the shares of preferred stock, common stock and options, using the option pricing method. An option pricing method treats common stock and convertible preferred stock as call options on a business, with exercise prices based on the liquidation preference of the convertible preferred stock. Therefore, the common stock has value only if the funds available for distribution to the stockholders exceed the value of the liquidation preference at the time of a liquidity event, such as a merger, sale or initial public offering, assuming the business has funds available to make a liquidation preference meaningful and collectible by the stockholders. The common stock is modeled as a call option with a claim on the business at an exercise price equal to the remaining value immediately after the convertible preferred stock is liquidated. The option pricing method uses the Black-Scholes option pricing model to price the call option. Estimates of the volatility applied in the Black-Scholes option pricing model were based on available information on the volatility of common stock of comparable, publicly traded companies. Management and the third-party valuation firm considered operational area, size, business model, industry, the description of comparable companies’ respective businesses set forth in public filings and the stage of their business efforts in selecting comparable companies. Although none of the comparable companies mirror our relatively unique business model, similar retailers (both online and traditional stores) were used in the peer group. A group of nine to eleven comparable companies was consistently used in both the market and income approaches. In addition, we considered secondary sales of our common stock that occurred during the relevant period. We selected the option pricing method to allocate the equity value to the common stock due to uncertainty surrounding potential exit timings. Lastly, we applied a discount for lack of marketability.

The equity value in May 2013 was allocated to the shares of preferred stock, common stock and options using both the option pricing method and the probability-weighted expected return method (“PWERM”) and then weighted to arrive at overall equity value. Under the PWERM, the value of equity is estimated based on analysis of future values for the enterprise assuming various possible outcomes and timing of those outcomes. Management and the third-party valuation firm considered two initial public offering scenarios based on information obtained from third-parties. Additionally, we applied a discount for lack of marketability.

We believe we applied a reasonable valuation method to determine the stock option exercise prices on the respective stock option grant dates. A combination of factors led to changes in the fair value of our common stock. Certain of the significant factors considered by our board of directors to determine the fair value per share of our common stock for purposes of calculating stock-based compensation costs during this period include:

February 2012

The U.S. economy and financial markets continued to gather strength during the fourth quarter of 2011 heading into the first quarter of 2012. We also continued to see strength in our business during this period. Total net sales increased from $36.5 million for the three months ended October 2, 2011 to $59.2 million for the three months ended January 1, 2012. We and a third-party valuation firm performed a valuation of our common stock as of December 31, 2011. We weighted the comparable company revenue multiple at 70% and the transaction revenue multiple at 30%. The transaction

 

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revenue multiple was weighted at only 30% due to the limited number of relevant acquisition comparables. We used the option pricing method to allocate the equity value to the common stock, and then applied a lack of marketability discount of 16%. The analysis resulted in an equity value of approximately $835 million and an estimated fair value of common stock of $1.488 per share. Based on the valuation and other factors described herein, our board of directors granted options to purchase 849,000 shares of common stock with an exercise price of $1.488 on February 21, 2012.

May 2012

The U.S. economy and financial markets continued to gather strength during the first quarter of 2012 heading in the second quarter. We also continued to see strength in our business during this period. Total net sales remained consistent at $59.2 million for the three months ended January 1, 2012 and $58.6 million for the three months ended April 1, 2012. We and a third-party valuation firm performed a valuation of our common stock as of March 31, 2012 using the market approach. We weighted the comparable company revenue multiple at 70% and the transaction multiple at 30%. The transaction revenue multiple was weighted at only 30% due to the limited number of relevant acquisition comparables. We used the option pricing method to allocate the equity value to the common stock, and then applied a lack of marketability discount of 15%. The analysis resulted in an equity value of approximately $984 million and an estimated fair value of common stock of $1.82 per share. In addition, in April 2012, one of our employees sold shares of common stock to an existing investor for $1.802 per share. Based on the valuation, such sale of shares and other factors described herein, our board of directors granted options to purchase 1,893,850 shares of common stock with an exercise price of $1.82 per share.

September 2012

The U.S. economy and financial markets continued to strengthen during the second and third quarters of 2012. We also continued to see strength in our business during this period. Total net sales increased from $58.6 million for the three months ended April 1, 2012 to $68.4 million for the three months ended July 1, 2012. We and a third-party valuation firm performed a valuation of our common stock as of June 30, 2012 using the market approach. Consistent with the prior valuation, we weighted the comparable company revenue multiple at 70% and the transaction revenue multiple at 30%. The transaction multiple was weighted at only 30% due to the limited number of relevant acquisition comparables. The comparable company multiple remained at 70% due primarily to the number of relevant public company comparables and how closely they relate to our company. We used the option pricing method to allocate the equity value to the common stock, and then applied a lack of marketability discount of 15%. The analysis resulted in an equity value of approximately $1.0 billion and an estimated fair value of common stock of $1.86 per share. Based on the valuation and other factors described herein, our board of directors granted options to purchase 394,150 shares of common stock with an exercise price of $1.86 per share.

November 2012

The U.S. economy and financial markets continued to strengthen during the third quarter of 2012. We also continued to see strength in our business during this period. Total net sales increased from $68.4 million for the three months ended July 1, 2012 to $75.8 million for the three months ended September 30, 2012.

In October 2012, we received a term sheet for our Series D preferred stock financing. In November 2012, we completed the Series D preferred stock financing. Total proceeds were $85 million at a price of $2.0744 per share. In connection with the financing, we agreed to use up to $40 million of the proceeds to repurchase preferred stock from certain existing investors at a purchase price of

 

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$1.7632. In November 2012 we repurchased 18.4 million shares of our Series Seed preferred stock and Series A preferred stock.

We and a third-party valuation firm performed a valuation of our common stock as of September 30, 2012 utilizing both the market approach and the income approach. We weighted the market approach at 75% and the income approach at 25%. The market approach was weighted at 75% due to our consistent execution of our near-term business and revenue growth plan. We used the option pricing method to allocate the equity value to the common stock, and then applied a lack of marketability discount of 15%. The analysis resulted in an equity value of approximately $1.0 billion and an estimated fair value of common stock of $1.87 per share. Based on this valuation, the Series D preferred stock financing and other factors described herein, our board of directors granted options to purchase 5,255,840 shares of common stock with an exercise price of $1.87 per share.

December 2012

The U.S. economy and financial markets continued to strengthen during the fourth quarter of 2012. We also continued to see strength in our business during this period. In December 2012, an employee sold shares of common stock to an existing investor at a purchase price of $1.87 per share. Based on the valuation as of September 30, 2012, the Series D preferred stock financing in November 2012 and other factors described herein, our board of directors granted options to purchase 1,180,500 shares of common stock with an exercise price of $1.87 per share.

February 2013

The U.S. economy and financial markets continued to strengthen in early 2013. We also continued to see strength in our business during this period. Total net sales increased from $75.8 million for the three months ended September 30, 2012 to $128.5 million for the three months ended December 30, 2012. We and a third-party valuation firm performed a valuation of our common stock as of December 31, 2012 utilizing both the market approach and the income approach. Consistent with the prior valuation, we weighted the market approach at 75% and the income approach at 25%. We used the option pricing method to allocate the equity value to the common stock, and then applied a lack of marketability discount of 15%. The analysis resulted in an equity value of approximately $1.1 billion and an estimated fair value of common stock of $1.98 per share. Based on the valuation and other factors described herein, our board of directors granted options to purchase 2,869,350 shares of common stock with an exercise price of $1.98 per share.

March 2013

The U.S. economy and financial markets continued to strengthen during the first quarter of 2013. We also continued to see strength in our business during this period. Total net sales remained consistent at $127.0 million for the three months ended March 31, 2013 compared with $128.5 million for the three months ended December 30, 2012. We and a third-party valuation firm performed a valuation of our common stock as of December 31, 2012 utilizing both the market approach and the income approach. Consistent with the prior valuation, we weighted the market approach at 75% and the income approach at 25%. We used the option pricing method to allocate the equity value to the common stock, and then applied a lack of marketability discount of 12.5%. The analysis resulted in an equity value of approximately $1.4 billion and an estimated fair value of common stock of $2.57 per share.

 

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May 2013

The U.S. economy and financial markets remained strong into the second quarter of 2013. We also continued to see strength in our business during this period. Based on the valuation as of March 31, 2013 and other factors described herein, our board of directors granted options to purchase 575,375 shares of common stock on May 6, 2013 and 23,213,352 shares of common stock on May 16, 2013 with an exercise price of $2.57 per share.

Subsequent to the May 2013 option grants, we re-evaluated our estimate of fair value of our common stock for financial reporting purposes as a result of our improving financial performance, our belief that an initial public offering was increasingly viable and the generally improving conditions in the capital markets in the second quarter of 2013. We and a third-party valuation firm performed a valuation of our common stock as of May 16, 2013 utilizing a hybrid approach of both the market approach and the income approach, in a consistent manner with our prior valuation, and combined this with the PWERM. We then weighted the result of the market approach and the income approach at 60% and the PWERM at 40%. The resulting equity value was $1.7 billion. The analysis resulted in an estimated fair value of common stock of $3.08 per share. As a result of our re-evaluation, we determined that the fair value of our common stock was higher than the fair market values determined in good faith by our board of directors for the option