Business Wire | Nov 5, 2020 04:16PM EST

Cloudflare Announces Third Quarter 2020 Financial Results

Nov. 05, 2020

SAN FRANCISCO--(BUSINESS WIRE)--Nov. 05, 2020--Cloudflare, Inc. (NYSE: NET), the security, performance, and reliability company helping to build a better Internet, today announced financial results for its third quarter ended September 30, 2020.

"Our third quarter represented many significant milestones including surpassing $100M in revenue, crossing 100,000 paying customers, and releasing more than a dozen new products and features," said Matthew Prince, co-founder & CEO of Cloudflare. "I'm incredibly proud that we exceeded financial, customer, and innovation milestones, all while providing our services, at no cost, to state and local governments to ensure that cyberattacks don't disrupt the United States 2020 elections. The world has never needed the Internet more than it has over the last nine months, and we're laser focused on helping to keep it fast, reliable, and secure."

Third Quarter Fiscal 2020 Financial Highlights

* Revenue: Total revenue of $114.2 million, representing an increase of 54% year-over-year. * Gross Profit: GAAP gross profit was $87.2 million, or 76.3% gross margin, compared to $57.9 million, or 78.3%, in the third quarter of 2019. Non-GAAP gross profit was $88.2 million, or 77.3% gross margin, compared to $58.3 million, or 78.9%, in the third quarter of 2019. * Operating Loss: GAAP loss from operations was $21.3 million, or 18.6% of total revenue, compared to $41.1 million, or 55.6% of total revenue, in the third quarter of 2019. Non-GAAP loss from operations was $4.5 million, or 4.0% of total revenue, compared to $18.1 million, or 24.5% of total revenue, in the third quarter of 2019. * Net Loss: GAAP net loss was $26.5 million, compared to $40.9 million in the third quarter of 2019. Non-GAAP net loss was $5.7 million, compared to $18.5 million in the third quarter of 2019. GAAP net loss per share was $0.09, compared to $0.35 in the third quarter of 2019. Non-GAAP net loss per share was $0.02, compared to $0.16 in the third quarter of 2019. * Cash Flow: Net cash flow from operations was $2.0 million, compared to negative $17.8 million for the third quarter of 2019. Free cash flow was negative $17.9 million, or 16% of total revenue, compared to negative $33.6 million, or 45% of total revenue, in the third quarter of 2019. * Cash, cash equivalents, and available-for-sale securities were $1,051.3 million as of September 30, 2020.

The section titled "Non-GAAP Financial Information" below describes our usage of non-GAAP financial measures. Reconciliations between historical GAAP and non-GAAP information are contained at the end of this press release following the accompanying financial data.

Financial Outlook

The following forward-looking statements regarding our financial outlook are subject to substantial uncertainty as a result of the COVID-19 pandemic, reflect our estimates as of November 5, 2020 regarding the impact of the pandemic on our operations, and are highly dependent on numerous factors that we may not be able to predict or control, including, among others: the duration, spread, and severity of the pandemic; actions taken by governments and businesses in response to the pandemic and the resulting impact on our customers, vendors, and partners; the impact of the pandemic on global and regional economies and economic activity generally; our ability to continue operating in impacted areas; and customer demand and spending patterns.

For the fourth quarter of fiscal 2020, we expect:

* Total revenue of $117.5 to $118.5 million * Non-GAAP loss from operations of $10 to $9 million * Non-GAAP net loss per share of $0.04 to $0.03, utilizing weighted average common shares outstanding of approximately 304 million

For the full year fiscal 2020, we expect:

* Total revenue of $422.5 to $423.5 million * Non-GAAP loss from operations of $38 to $37 million * Non-GAAP net loss per share of $0.13 to $0.12, utilizing weighted average common shares outstanding of approximately 300 million

Conference Call Information

Cloudflare will host an investor conference call to discuss its third quarter ended September 30, 2020 earnings results today at 2:00 p.m. Pacific time (5:00 p.m. Eastern time). Interested parties can access the call by dialing (866) 211-4146 from the United States or (647) 689-6734 internationally with conference ID 6459727. A live webcast of the conference call will be accessible from the investor relations website at https://cloudflare.NET. A replay will be available approximately two hours after the conclusion of the live event and will remain available for approximately 30 days.

Supplemental Financial and Other Information

Supplemental financial and other information can be accessed through the Company's investor relations website at https://cloudflare.NET. Beginning with the quarter ended March 31, 2020, we have transitioned the method for calculating our key business metrics from a billings-based methodology to a revenue-based methodology. We believe the change in methodology to GAAP-based metrics provides improved disclosures for our investors by better aligning our key business metrics with GAAP and our financial statements and will provide a better representation of these important components of our operating model and business performance as we continue to scale. We have recast these metrics for the eight trailing quarters to reflect this new methodology in our supplemental materials.

Non-GAAP Financial Information

Cloudflare believes that the presentation of non-GAAP financial information provides important supplemental information to management and investors regarding financial and business trends relating to the Company's financial condition and results of operations. Reconciliations of non-GAAP financial measures to the most directly comparable financial results as determined in accordance with GAAP are included at the end of this press release following the accompanying financial data. A reconciliation of non-GAAP guidance measures to corresponding GAAP measures is not available on a forward-looking basis without unreasonable effort due to the uncertainty of expenses that may be incurred in the future. For further information regarding why Cloudflare believes that these non-GAAP measures provide useful information to investors, the specific manner in which management uses these measures, and some of the limitations associated with the use of these measures, please refer to the "Explanation of Non-GAAP Financial Measures" section at the end of this press release.

Available Information

Cloudflare intends to use its press releases, website, investor relations website, news site, blog, and Twitter account, in addition to filings made with the Securities and Exchange Commission (SEC) and public conference calls, as a means of disclosing material non-public information and for complying with its disclosure obligations under Regulation FD.

Forward-Looking Statements

This press release contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which statements involve substantial risks and uncertainties. In some cases, you can identify forward-looking statements because they contain words such as "may," "will," "should," "expect," "explore," "plan," "anticipate," "could," "intend," "target," "project," "contemplate," "believe," "estimate," "predict," "potential," or "continue," or the negative of these words, or other similar terms or expressions that concern our expectations, strategy, plans, or intentions. However, not all forward-looking statements contain these identifying words. Forward-looking statements expressed or implied in this press release include, but are not limited to, statements regarding our future financial and operating performance, our reputation and performance in the market, general market trends, our estimated and projected revenue, non-GAAP net loss from operations and non-GAAP net loss per share, and shares outstanding, the benefits to customers from using our products, the expected functionality and performance of our products, our plans and objectives for future operations, growth, initiatives, or strategies, and comments made by our CEO and others. There are a significant number of factors that could cause actual results to differ materially from statements made in this press release, including: the extent and duration of the impact of the COVID-19 pandemic and adverse conditions in the general domestic and global economic markets; the impact of the COVID-19 pandemic on our and our customers', vendors', and partners' operations and future financial performance; our history of net losses; our limited operating history; risks associated with managing our rapid growth; our ability to attract and retain new customers; our ability to retain and upgrade paying customers and convert free customers to paying customers; problems with our internal systems, network, or data, including actual or perceived breaches or failures; rapidly evolving technological developments in the market; length of sales cycles; and general market, political, economic, and business conditions. Our actual results could differ materially from those stated or implied in forward-looking statements due to a number of factors, including but not limited to, risks detailed in our filings with the SEC, including our Quarterly Report on Form 10-Q filed on August 10, 2020, as well as other filings that we may make from time to time with the SEC.

The forward-looking statements made in this press release relate only to events as of the date on which the statements are made. We undertake no obligation to update any forward-looking statements made in this press release to reflect events or circumstances after the date of this press release or to reflect new information or the occurrence of unanticipated events, except as required by law. We may not actually achieve the plans, intentions, or expectations disclosed in our forward-looking statements, and you should not place undue reliance on our forward-looking statements.

About Cloudflare

Cloudflare, Inc. (www.cloudflare.com / @cloudflare) is on a mission to help build a better Internet. Cloudflare's platform protects and accelerates any Internet application online without adding hardware, installing software, or changing a line of code. Internet properties powered by Cloudflare have all web traffic routed through its intelligent global network, which gets smarter with every request. As a result, they see significant improvement in performance and a decrease in spam and other attacks. Cloudflare was named to Entrepreneur Magazine's Top Company Cultures 2018 list and ranked among the World's Most Innovative Companies by Fast Company in 2019. Headquartered in San Francisco, CA, Cloudflare has offices in Austin, TX, Champaign, IL, Seattle, WA, New York, NY, San Jose, CA, Washington, D.C., Lisbon, London, Munich, Beijing, Singapore, Sydney, and Tokyo.

CLOUDFLARE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(thousands, except per share data)

(unaudited)

Three Months Ended Nine Months Ended September 30, September 30,

2020 2019 2020 2019

Revenue $ 114,162 $ 73,941 $ 305,133 $ 203,092

Cost of revenue^(1) 27,005 16,033 71,990 45,225 (2)

Gross profit 87,157 57,908 233,143 157,867

Operating expenses:

Sales and marketing^ 55,982 45,538 154,323 112,191 (1)

Research and 30,902 27,863 92,387 64,380 development^(1)(3)

General andadministrative^(1) 21,525 25,593 68,460 59,300 (3)

Total operating 108,409 98,994 315,170 235,871 expenses

Loss from operations (21,252) (41,086) (82,027) (78,004)

Non-operating income (expense):

Interest income 1,316 1,079 5,742 2,822

Interest expense^(4) (9,828) (407) (14,902) (970)

Other expense, net (208) (651) 58 (1,030)

Total non-operatingincome (expense), (8,720) 21 (9,102) 822 net

Loss before income (29,972) (41,065) (91,129) (77,182) taxes

Provision for(benefit from) (3,504) (212) (5,780) 491 income taxes

Net loss $ (26,468) $ (40,853) $ (85,349) $ (77,673)

Net loss per shareattributable to $ (0.09) $ (0.35) $ (0.29) $ (0.81) common stockholders,basic and diluted

Weighted-averageshares used incomputing net lossper share 301,689 118,056 298,628 96,393 attributable tocommon stockholders,basic and diluted

____________(1) Includes stock-based compensation and related employer payroll taxes as follows:

Cost of revenue

$

354

397

$

988

$

463

Sales and marketing

4,761

4,880

12,315

5,434

Research and development

7,373

7,801

21,417

8,624

General and administrative

3,518

9,833

10,471

10,491

Total stock-based compensation and related employer payroll taxes

$

16,006

$

22,911

$

45,191

$

25,012

____________(1) Includes stock-based compensation and related employer payroll taxes asfollows:

Cost of revenue $ 354 397 $ 988 $ 463

Sales and marketing 4,761 4,880 12,315 5,434

Research and development 7,373 7,801 21,417 8,624

General and administrative 3,518 9,833 10,471 10,491

Total stock-basedcompensation and related $ 16,006 $ 22,911 $ 45,191 $ 25,012 employer payroll taxes

(2) Includes amortization of acquired intangible assets as follows:Cost of revenue

$

700

$

31

$

2,131

$

994

Total amortization of acquired intangible assets

$

700

$

31

$

2,131

$

94

(2) Includes amortization of acquired intangible assets as follows:Cost of revenue $ 700 $ 31 $ 2,131 $ 994

Total amortization of acquired intangible $ 700 $ 31 $ 2,131 $ 94assets

(3) Includes acquisition-related and other expenses as follows:Research and development

$

-

$

-

$

5,725

$

-

General and administrative

-

-

554

-

Total acquisition-related and other expenses

$

-

$

-

$

6,279

$

-

(3) Includes acquisition-related and other expenses as follows:Research and development $ - $ - $ 5,725 $ -

General and administrative - - 554 -

Total acquisition-related and other expenses $ - $ - $ 6,279 $ -

(4) Includes amortization of debt discounts and issuance costs as follows:Amortization of debt discounts and issuance costs

$

8,562

$

-

$

12,865

$

-

Total amortization of debt discounts and issuance costs

$

8,562

$

-

$

12,865

$

-

(4) Includes amortization of debt discounts and issuance costs as follows:Amortization of debt discounts and $ 8,562 $ - $ 12,865 $ - issuance costs

Total amortization of debt discounts and $ 8,562 $ - $ 12,865 $ - issuance costs

CLOUDFLARE, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except par value)

(unaudited)

September 30,2020

December 31,2019

Assets

Current assets:

Cash and cash equivalents

$

111,959

$

138,976

Available-for-sale securities

939,338

497,972

Accounts receivable, net

48,783

33,867

Contract assets

2,086

2,063

Restricted cash short-term

2,187

-

Prepaid expenses and other current assets

23,026

16,994

Total current assets

1,127,379

689,872

Property and equipment, net

122,423

101,466

Goodwill

17,167

4,083

Acquired intangible assets, net

3,500

31

Operating lease right-of-use assets

45,106

-

Deferred contract acquisition costs, noncurrent

37,714

25,184

Restricted cash

6,660

6,660

Other noncurrent assets

11,276

3,528

Total assets

$

1,371,225

$

830,824

Liabilities and Stockholders' Equity

Current liabilities:

Accounts payable

$

16,995

$

11,463

Accrued expenses and other current liabilities

38,630

28,314

Operating lease liabilities

17,265

-

Liability for early exercise of unvested stock options

9,679

13,263

Deferred revenue

48,435

30,843

Total current liabilities

131,004

83,883

Long-term debt

374,511

-

Build-to-suit lease financing obligation

-

10,506

Operating lease liabilities, noncurrent

29,675

-

Deferred revenue, noncurrent

1,637

804

Other noncurrent liabilities

7,951

9,803

Total liabilities

544,778

104,996

Stockholders' Equity:

Class A common stock; $0.001 par value; 2,250,000 shares authorized as of September 30, 2020 and December 31, 2019; 233,509 and 87,072 shares issued and outstanding as of September 30, 2020 and December 31, 2019, respectively

233

87

Class B common stock; $0.001 par value; 315,000 shares authorized as of September 30, 2020 and December 31, 2019; 73,520 and 213,101 shares issued and outstanding as of September 30, 2020 and December 31, 2019, respectively

69

207

Additional paid-in capital

1,212,074

1,027,179

Accumulated deficit

(386,499)

(301,706)

Accumulated other comprehensive income

570

61

Total stockholders' equity

826,447

725,828

Total liabilities and stockholders' equity

$

1,371,225

$

830,824

CLOUDFLARE, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except par value)

(unaudited)

September 30, December 2020 31, 2019

Assets

Current assets:

Cash and cash equivalents $ 111,959 $ 138,976

Available-for-sale securities 939,338 497,972

Accounts receivable, net 48,783 33,867

Contract assets 2,086 2,063

Restricted cash short-term 2,187 -

Prepaid expenses and other current assets 23,026 16,994

Total current assets 1,127,379 689,872

Property and equipment, net 122,423 101,466

Goodwill 17,167 4,083

Acquired intangible assets, net 3,500 31

Operating lease right-of-use assets 45,106 -

Deferred contract acquisition costs, noncurrent 37,714 25,184

Restricted cash 6,660 6,660

Other noncurrent assets 11,276 3,528

Total assets $ 1,371,225 $ 830,824

Liabilities and Stockholders' Equity

Current liabilities:

Accounts payable $ 16,995 $ 11,463

Accrued expenses and other current liabilities 38,630 28,314

Operating lease liabilities 17,265 -

Liability for early exercise of unvested stock 9,679 13,263 options

Deferred revenue 48,435 30,843

Total current liabilities 131,004 83,883

Long-term debt 374,511 -

Build-to-suit lease financing obligation - 10,506

Operating lease liabilities, noncurrent 29,675 -

Deferred revenue, noncurrent 1,637 804

Other noncurrent liabilities 7,951 9,803

Total liabilities 544,778 104,996

Stockholders' Equity:

Class A common stock; $0.001 par value; 2,250,000shares authorized as of September 30, 2020 andDecember 31, 2019; 233,509 and 87,072 shares issued 233 87 and outstanding as of September 30, 2020 andDecember 31, 2019, respectively

Class B common stock; $0.001 par value; 315,000shares authorized as of September 30, 2020 andDecember 31, 2019; 73,520 and 213,101 shares issued 69 207 and outstanding as of September 30, 2020 andDecember 31, 2019, respectively

Additional paid-in capital 1,212,074 1,027,179

Accumulated deficit (386,499) (301,706)

Accumulated other comprehensive income 570 61

Total stockholders' equity 826,447 725,828

Total liabilities and stockholders' equity $ 1,371,225 $ 830,824

CLOUDFLARE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

Nine Months Ended September 30,

2020

2019

Cash Flows From Operating Activities

Net loss

$

(85,349)

$

(77,673)

Adjustments to reconcile net loss to cash used in operating activities:

Depreciation and amortization expense

35,029

20,923

Non-cash operating lease costs

14,134

-

Amortization of deferred contract acquisition costs

12,085

7,722

Stock-based compensation expense

40,091

25,012

Amortization of debt discount and issuance costs

12,865

-

Net accretion of discounts and amortization of premiums on marketable securities

248

(1,137)

Deferred income taxes

(6,808)

-

Provision for bad debt

2,794

861

Change in fair value of redeemable convertible preferred stock warrant liability

-

1,517

Other

(73)

27

Changes in operating assets and liabilities, net of effect of acquisitions:

Accounts receivable, net

(17,710)

(7,911)

Contract assets

(23)

82

Deferred contract acquisition costs

(24,615)

(12,923)

Prepaid expenses and other current assets

(6,131)

(7,525)

Other noncurrent assets

(930)

(1,686)

Accounts payable

4,648

(994)

Accrued expenses and other current liabilities

8,545

5,652

Operating lease liability

(15,131)

-

Deferred revenue

18,425

13,614

Other noncurrent liabilities

(410)

4,096

Net cash used in operating activities

(8,316)

(30,343)

Cash Flows From Investing Activities

Purchases of property and equipment

(45,962)

(30,981)

Capitalized internal-use software

(14,333)

(11,332)

Cash paid for acquisitions, net of cash acquired

(13,691)

-

Purchases of available-for-sale securities

(956,147)

(157,075)

Sales of available-for-sale securities

-

1,978

Maturities of available-for-sale securities

515,044

132,398

Other investing activities

395

30

Net cash used in investing activities

(514,694)

(64,982)

Cash Flows From Financing Activities

Proceeds from initial public offering, net of underwriting discounts and commissions

-

570,544

Gross proceeds from issuance of convertible senior notes

575,000

-

Purchases of capped calls related to convertible senior notes

(67,333)

-

Cash paid for issuance costs on convertible senior notes

(12,542)

-

Proceeds from the exercise of stock options

5,724

2,899

Proceeds from the early exercise of stock options

180

2,871

Repurchases of unvested common stock

(113)

(155)

Payments on note payable

(200)

(218)

Proceeds from the issuance of common stock for employee stock purchase plan

5,447

-

Proceeds from build-to-suit lease financing obligation drawdown

-

58

Payments of deferred offering costs

-

(3,734)

Payment of tax withholding obligation on RSU settlement

(7,607)

-

Payment of tax withholding obligation on common stock issued under employee stock purchase plan

(376)

-

Net cash provided by financing activities

498,180

572,265

Net increase in cash, cash equivalents, and restricted cash

(24,830)

476,940

Cash, cash equivalents, and restricted cash, beginning of period

145,636

31,426

Cash, cash equivalents, and restricted cash, end of period

$

120,806

$

508,366

CLOUDFLARE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

Nine Months Ended September 30,

2020 2019

Cash Flows From Operating Activities

Net loss $ (85,349) $ (77,673)

Adjustments to reconcile net loss to cash used in operating activities:

Depreciation and amortization expense 35,029 20,923

Non-cash operating lease costs 14,134 -

Amortization of deferred contract acquisition 12,085 7,722 costs

Stock-based compensation expense 40,091 25,012

Amortization of debt discount and issuance costs 12,865 -

Net accretion of discounts and amortization of 248 (1,137) premiums on marketable securities

Deferred income taxes (6,808) -

Provision for bad debt 2,794 861

Change in fair value of redeemable convertible - 1,517 preferred stock warrant liability

Other (73) 27

Changes in operating assets and liabilities, net of effect of acquisitions:

Accounts receivable, net (17,710) (7,911)

Contract assets (23) 82

Deferred contract acquisition costs (24,615) (12,923)

Prepaid expenses and other current assets (6,131) (7,525)

Other noncurrent assets (930) (1,686)

Accounts payable 4,648 (994)

Accrued expenses and other current liabilities 8,545 5,652

Operating lease liability (15,131) -

Deferred revenue 18,425 13,614

Other noncurrent liabilities (410) 4,096

Net cash used in operating activities (8,316) (30,343)

Cash Flows From Investing Activities

Purchases of property and equipment (45,962) (30,981)

Capitalized internal-use software (14,333) (11,332)

Cash paid for acquisitions, net of cash acquired (13,691) -

Purchases of available-for-sale securities (956,147) (157,075)

Sales of available-for-sale securities - 1,978

Maturities of available-for-sale securities 515,044 132,398

Other investing activities 395 30

Net cash used in investing activities (514,694) (64,982)

Cash Flows From Financing Activities

Proceeds from initial public offering, net of - 570,544 underwriting discounts and commissions

Gross proceeds from issuance of convertible senior 575,000 - notes

Purchases of capped calls related to convertible (67,333) - senior notes

Cash paid for issuance costs on convertible senior (12,542) - notes

Proceeds from the exercise of stock options 5,724 2,899

Proceeds from the early exercise of stock options 180 2,871

Repurchases of unvested common stock (113) (155)

Payments on note payable (200) (218)

Proceeds from the issuance of common stock for 5,447 - employee stock purchase plan

Proceeds from build-to-suit lease financing - 58 obligation drawdown

Payments of deferred offering costs - (3,734)

Payment of tax withholding obligation on RSU (7,607) - settlement

Payment of tax withholding obligation on common (376) - stock issued under employee stock purchase plan

Net cash provided by financing activities 498,180 572,265

Net increase in cash, cash equivalents, and (24,830) 476,940 restricted cash

Cash, cash equivalents, and restricted cash, 145,636 31,426 beginning of period

Cash, cash equivalents, and restricted cash, end $ 120,806 $ 508,366 of period

CLOUDFLARE, INC.

RECONCILIATION OF GAAP TO NON-GAAP FINANCIAL MEASURES

(in thousands, except per share amounts)

(unaudited)

Three Months EndedSeptember 30,

Nine Months EndedSeptember 30,

2020

2019

2020

2019

Reconciliation of cost of revenue:

GAAP cost of revenue

$

27,005

16,033

$

71,990

$

45,225

Less: Stock-based compensation and related employer payroll taxes

(354)

(397)

(988)

(463)

Less: Amortization of acquired intangible assets

(700)

(31)

(2,131)

(94)

Non-GAAP cost of revenue

$

25,951

$

15,605

$

68,871

$

44,668

Reconciliation of gross profit:

GAAP gross profit

$

87,157

$

57,908

$

233,143

$

157,867

Add: Stock-based compensation and related employer payroll taxes

354

397

988

463

Add: Amortization of acquired intangible assets

700

31

2,131

94

Non-GAAP gross profit

$

88,211

$

58,336

$

236,262

$

158,424

Non-GAAP gross margin

77.3%

78.9%

77.4%

78.0%

Reconciliation of operating expenses:

GAAP sales and marketing

$

55,982

45,538

$

154,323

$

112,191

Less: Stock-based compensation and related employer payroll taxes

(4,761)

(4,880)

(12,315)

(5,434)

Non-GAAP sales and marketing

$

51,221

$

40,658

$

142,008

$

106,757

GAAP research and development

$

30,902

27,863

$

92,387

$

64,380

Less: Stock-based compensation and related employer payroll taxes

(7,373)

(7,801)

(21,417)

(8,624)

Less: Acquisition-related and other expenses

-

-

(5,725)

-

Non-GAAP research and development

$

23,529

$

20,062

$

65,245

$

55,756

GAAP general and administrative

$

21,525

25,593

$

68,460

$

59,300

Less: Stock-based compensation and related employer payroll taxes

(3,518)

(9,833)

(10,471)

(10,491)

Less: Acquisition-related and other expenses

-

-

(554)

-

Non-GAAP general and administrative

$

18,007

$

15,760

$

57,435

$

48,809

Reconciliation of loss from operations:

GAAP loss from operations

$

(21,252)

(41,086)

$

(82,027)

$

(78,004)

Add: Stock-based compensation and related employer payroll taxes

16,006

22,911

45,191

25,012

Add: Amortization of acquired intangible assets

700

31

2,131

94

Add: Acquisition-related and other expenses

-

-

6,279

-

Non-GAAP loss from operations

$

(4,546)

$

(18,144)

$

(28,426)

$

(52,898)

Non-GAAP operating margin

(4.0)%

(24.5)%

(9.3)%

(26.0)%

Reconciliation of interest expense:

GAAP interest expense

$

(9,828)

$

(407)

$

(14,902)

$

(970)

Add: Amortization of debt discount and issuance costs

8,562

-

12,865

-

Non-GAAP interest expense

$

(1,266)

$

(407)

$

(2,037)

$

(970)

Reconciliation of provision for (benefit from) income taxes:

GAAP provision for (benefit from) income taxes

$

(3,504)

$

(212)

$

(5,780)

$

491

Income tax effect of non-GAAP adjustments(1)

4,550

568

8,780

564

Non-GAAP provision for (benefit from) income taxes

$

1,046

$

356

$

3,000

$

1,055

CLOUDFLARE, INC.

RECONCILIATION OF GAAP TO NON-GAAP FINANCIAL MEASURES

(in thousands, except per share amounts)

(unaudited)

Three Months Ended Nine Months Ended September 30, September 30,

2020 2019 2020 2019

Reconciliation of cost of revenue:

GAAP cost of $ 27,005 16,033 $ 71,990 $ 45,225 revenue

Less: Stock-basedcompensation and (354) (397) (988) (463) related employerpayroll taxes

Less: Amortizationof acquired (700) (31) (2,131) (94) intangible assets

Non-GAAP cost of $ 25,951 $ 15,605 $ 68,871 $ 44,668 revenue

Reconciliation of gross profit:

GAAP gross profit $ 87,157 $ 57,908 $ 233,143 $ 157,867

Add: Stock-basedcompensation and 354 397 988 463 related employerpayroll taxes

Add: Amortizationof acquired 700 31 2,131 94 intangible assets

Non-GAAP gross $ 88,211 $ 58,336 $ 236,262 $ 158,424 profit

Non-GAAP gross 77.3% 78.9% 77.4% 78.0%margin

Reconciliation of operating expenses:

GAAP sales and $ 55,982 45,538 $ 154,323 $ 112,191 marketing

Less: Stock-basedcompensation and (4,761) (4,880) (12,315) (5,434) related employerpayroll taxes

Non-GAAP sales and $ 51,221 $ 40,658 $ 142,008 $ 106,757 marketing

GAAP research and $ 30,902 27,863 $ 92,387 $ 64,380 development

Less: Stock-basedcompensation and (7,373) (7,801) (21,417) (8,624) related employerpayroll taxes

Less:Acquisition-related - - (5,725) - and other expenses

Non-GAAP research $ 23,529 $ 20,062 $ 65,245 $ 55,756 and development

GAAP general and $ 21,525 25,593 $ 68,460 $ 59,300 administrative

Less: Stock-basedcompensation and (3,518) (9,833) (10,471) (10,491) related employerpayroll taxes

Less:Acquisition-related - - (554) - and other expenses

Non-GAAP general $ 18,007 $ 15,760 $ 57,435 $ 48,809 and administrative

Reconciliation ofloss from operations:

GAAP loss from $ (21,252) (41,086) $ (82,027) $ (78,004) operations

Add: Stock-basedcompensation and 16,006 22,911 45,191 25,012 related employerpayroll taxes

Add: Amortizationof acquired 700 31 2,131 94 intangible assets

Add:Acquisition-related - - 6,279 - and other expenses

Non-GAAP loss from $ (4,546) $ (18,144) $ (28,426) $ (52,898) operations

Non-GAAP operating (4.0)% (24.5)% (9.3)% (26.0)%margin

Reconciliation of interest expense:

GAAP interest $ (9,828) $ (407) $ (14,902) $ (970) expense

Add: Amortizationof debt discount 8,562 - 12,865 - and issuance costs

Non-GAAP interest $ (1,266) $ (407) $ (2,037) $ (970) expense

Reconciliation ofprovision for (benefit from)income taxes:

GAAP provision for(benefit from) $ (3,504) $ (212) $ (5,780) $ 491 income taxes

Income tax effectof non-GAAP 4,550 568 8,780 564 adjustments^(1)

Non-GAAP provisionfor (benefit from) $ 1,046 $ 356 $ 3,000 $ 1,055 income taxes

CLOUDFLARE, INC.

RECONCILIATION OF GAAP TO NON-GAAP FINANCIAL MEASURES

(in thousands)

(unaudited)

Three Months EndedSeptember 30,

Nine Months EndedSeptember 30,

2020

2019

2020

2019

Reconciliation of net loss and net loss per share:

GAAP net loss attributable to common stockholders

$

(26,468)

$

(40,853)

$

(85,349)

$

(77,673)

Add: Stock-based compensation expense

16,006

22,911

45,191

25,012

Add: Amortization of acquired intangible assets

700

31

2,131

94

Add: Acquisition-related and other expenses

-

-

6,279

-

Add: Amortization of debt discount and issuance costs

8,562

-

12,865

-

Income tax effect of non-GAAP adjustments(1)

(4,550)

(568)

(8,780)

(564)

Non-GAAP net loss

$

(5,750)

$

(18,479)

$

(27,663)

$

(53,131)

GAAP net loss per share

$

(0.09)

$

(0.35)

$

(0.29)

$

(0.81)

Add: Stock-based compensation expense

0.05

0.19

0.15

0.26

Add: Amortization of acquired intangible assets-

-

0.01

-

Add: Acquisition-related and other expenses

-

-

0.02

-

Add: Amortization of debt discount and issuance costs

0.03

-

0.04

-

Income tax effect of non-GAAP adjustments(1)

(0.02)

-

(0.03)

(0.01)

Non-GAAP net loss per share(2)

$

(0.02)

$

(0.16)

$

(0.09)

$

(0.55)

Weighted-average shares used in computing net loss per share attributable to common stockholders, basic and diluted

301,689

118,056

298,628

96,393

____________

(1) Non-GAAP adjustment for Q1'20 includes $0.7 million of income tax benefit from valuation allowance release as a result of the S2 Systems acquisition.

(2) Totals may not sum due to rounding. Figures are calculated based upon the respective underlying non-rounded data.

CLOUDFLARE, INC.

RECONCILIATION OF GAAP TO NON-GAAP FINANCIAL MEASURES

(in thousands)

(unaudited)

Three Months Ended Nine Months Ended September 30, September 30,

2020 2019 2020 2019

Reconciliation ofnet loss and net loss per share:

GAAP net lossattributable to $ (26,468) $ (40,853) $ (85,349) $ (77,673) common stockholders

Add: Stock-basedcompensation 16,006 22,911 45,191 25,012 expense

Add: Amortizationof acquired 700 31 2,131 94 intangible assets

Add:Acquisition-related - - 6,279 - and other expenses

Add: Amortizationof debt discount 8,562 - 12,865 - and issuance costs

Income tax effectof non-GAAP (4,550) (568) (8,780) (564) adjustments^(1)

Non-GAAP net loss $ (5,750) $ (18,479) $ (27,663) $ (53,131)

GAAP net loss per $ (0.09) $ (0.35) $ (0.29) $ (0.81) share

Add: Stock-basedcompensation 0.05 0.19 0.15 0.26 expense

Add: Amortization - - 0.01 -of acquired intangible assetsAdd:Acquisition-related - - 0.02 - and other expenses

Add: Amortizationof debt discount 0.03 - 0.04 - and issuance costs

Income tax effectof non-GAAP (0.02) - (0.03) (0.01) adjustments^(1)

Non-GAAP net loss $ (0.02) $ (0.16) $ (0.09) $ (0.55) per share^(2)

Weighted-averageshares used incomputing net lossper share 301,689 118,056 298,628 96,393 attributable tocommonstockholders, basicand diluted

____________

(1) Non-GAAP adjustment for Q1'20 includes $0.7 million of income tax benefitfrom valuation allowance release as a result of the S2 Systems acquisition.

(2) Totals may not sum due to rounding. Figures are calculated based upon therespective underlying non-rounded data.

Three Months EndedSeptember 30,

Nine Months EndedSeptember 30,

2020

2019

2020

2019

Free cash flow

Net cash provided by (used in) operating activities

$

1,973

$

(17,786)

$

(8,316)

$

(30,343)

Less: Purchases of property and equipment

(15,357)

(11,991)

(45,962)

(30,981)

Less: Capitalized internal-use software

(4,470)

(3,861)

(14,333)

(11,332)

Free cash flow

$

(17,854)

$

(33,638)

$

(68,611)

$

(72,656)

Net cash used in investing activities

$

(205,153)

$

(92,829)

$

(514,694)

$

(64,982)

Net cash provided by financing activities

$

1,156

$

570,216

$

498,180

$

572,265

Net cash provided by (used in) operating activities (percentage of revenue)

2

%

(24)

%

(3)

%

(15)

%

Less: Purchases of property and equipment (percentage of revenue)

(14)

%

(16)

%

(15)

%

(15)

%

Less: Capitalized internal-use software (percentage of revenue)

(4)

%

(5)

%

(4)

%

(6)

%

Free cash flow margin(1)

(16)

%

(45)

%

(22)

%

(36)

%

____________

(1) Totals may not sum due to rounding. Figures are calculated based upon the respective underlying non-rounded data.

Explanation of Non-GAAP Financial Measures

In addition to our results determined in accordance with generally accepted accounting principles in the United States (U.S. GAAP), we believe the following non-GAAP measures are useful in evaluating our operating performance. We use the following non-GAAP financial information to evaluate our ongoing operations and for internal planning and forecasting purposes. We believe that non-GAAP financial information, when taken collectively, may be helpful to investors because it provides consistency and comparability with past financial performance. However, non-GAAP financial information is presented for supplemental informational purposes only, has limitations as an analytical tool and should not be considered in isolation or as a substitute for financial information presented in accordance with U.S. GAAP. In particular, free cash flow is not a substitute for cash provided by (used in) operating activities. Additionally, the utility of free cash flow as a measure of our liquidity is further limited as it does not represent the total increase or decrease in our cash balance for a given period. In addition, other companies, including companies in our industry, may calculate similarly-titled non-GAAP measures differently or may use other measures to evaluate their performance, all of which could reduce the usefulness of our non-GAAP financial measures as tools for comparison. A reconciliation is provided above for each non-GAAP financial measure to the most directly comparable financial measure stated in accordance with U.S. GAAP. Investors are encouraged to review the related U.S. GAAP financial measures and the reconciliation of these non-GAAP financial measures to their most directly comparable U.S. GAAP financial measures, and not to rely on any single financial measure to evaluate our business.

Expenses Excluded from Non-GAAP Measures. We exclude stock-based compensation expense, which is a non-cash expense, from certain of our non-GAAP financial measures because we believe that excluding this item provides meaningful supplemental information regarding operational performance. We exclude employer payroll tax expenses related to stock-based compensation which is a cash expense, from certain of our non-GAAP financial measures because such expenses are dependent on the price of our common stock and other factors that are beyond our control and do not correlate to the operation of our business. Employer payroll tax expenses related to stock-based compensation was not material for all previous periods presented, and therefore it was not excluded from periods prior to March 31, 2020. We exclude amortization of acquired intangible assets, which is a non-cash expense, related to business combinations from certain of our non-GAAP financial measures because such expenses are related to business combinations and have no direct correlation to the operation of our business. We exclude acquisition-related and other expenses from certain of our non-GAAP financial measures because such expenses are related to business combinations and have no direct correlation to the operation of our business. Acquisition-related and other expenses can be cash or non-cash expenses and include third-party transaction costs and compensation expense for key acquired personnel. We exclude amortization of debt discount and issuance costs, which is a non-cash expense, from certain of our non-GAAP financial measures because such expenses have no direct correlation to the operation of our business.

Non-GAAP Gross Profit and Non-GAAP Gross Margin. We define non-GAAP gross profit and non-GAAP gross margin as U.S. GAAP gross profit and U.S. GAAP gross margin, respectively, excluding stock-based compensation and related employer payroll taxes and amortization of acquired intangible assets.

Non-GAAP Loss from Operations and Non-GAAP Operating Margin. We define non-GAAP loss from operations and non-GAAP operating margin as U.S. GAAP loss from operations and U.S. GAAP operating margin, respectively, excluding stock-based compensation and related employer payroll taxes, amortization of acquired intangible assets, and acquisition-related and other expenses.

Non-GAAP Net Loss and Non-GAAP Net Loss per Share, Basic and Diluted. We define non-GAAP net loss as GAAP net loss plus stock-based compensation and related employer payroll taxes, amortization of acquired intangible assets, acquisition-related and other expenses, and a non-GAAP provision for (benefit from) income taxes. Generally, the difference between our GAAP and non-GAAP income tax expense (benefit) is primarily due to adjustments in stock-based compensation and related employer payroll taxes, amortization of acquired intangibles associated with business combinations, acquisition-related and other expenses, and amortization of debt discount and issuance costs. We define non-GAAP net loss per share, basic and diluted, as non-GAAP net loss divided by the weighted-average common shares outstanding. Since we have reported net losses for all periods presented, we have excluded all potentially dilutive securities from the calculation of net loss per share as their effect is antidilutive and accordingly, basic and diluted net loss per share is the same for all periods presented. We believe that excluding these items from non-GAAP net loss and non-GAAP net loss per share, diluted, provides management and investors with greater visibility into the underlying performance of our core business operating results.

Free Cash Flow and Free Cash Flow Margin. Free cash flow is a non-GAAP financial measure that we calculate as net cash provided by (used in) operating activities less cash used for purchases of property and equipment and capitalized internal-use software. Free cash flow margin is calculated as free cash flow divided by revenue. We believe that free cash flow and free cash flow margin are useful indicators of liquidity that provide information to management and investors about the amount of cash generated from our operations that, after the investments in property and equipment and capitalized internal-use software, can be used for strategic initiatives, including investing in our business, and strengthening our financial position. We believe that historical and future trends in free cash flow and free cash flow margin, even if negative, provide useful information about the amount of cash generated (or consumed) by our operating activities that is available (or not available) to be used for strategic initiatives. For example, if free cash flow is negative, we may need to access cash reserves or other sources of capital to invest in strategic initiatives. One limitation of free cash flow and free cash flow margin is that they do not reflect our future contractual commitments. Additionally, free cash flow does not represent the total increase or decrease in our cash balance for a given period.

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CONTACT: Investor Relations Information Jayson Noland ir@cloudflare.com

CONTACT: Press Contact Information Daniella Vallurupalli press@cloudflare.com