Rackspace Technology (RXT) 10-Q2020 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark one)

For the quarterly period ended September 30, 2020.

(Exact name of registrant as specified in its charter)

1 Fanatical Place

City of Windcrest

San Antonio, Texas 78218

(Address of principal executive offices, including zip code)

(210) 312-4000

(Registrant's telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

Securities registered pursuant to Section 12(b) of the Act:

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☑ No ☐

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

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

RACKSPACE TECHNOLOGY, INC.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

TRADEMARKS, TRADE NAMES AND SERVICE MARKS

RACKSPACE TECHNOLOGY, INC.

(formerly known as Rackspace Corp.)

CONSOLIDATED BALANCE SHEETS

(Unaudited)

RACKSPACE TECHNOLOGY, INC.

(formerly known as Rackspace Corp.)

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(Unaudited)

 

RACKSPACE TECHNOLOGY, INC.

(formerly known as Rackspace Corp.)

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

The following table provides a reconciliation of cash, cash equivalents, and restricted cash to the total of such amounts shown on the Consolidated Statements of Cash Flows.

RACKSPACE TECHNOLOGY, INC.

(formerly known as Rackspace Corp.)

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(Unaudited)

RACKSPACE TECHNOLOGY, INC.

(formerly known as Rackspace Corp.)

 NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Nature of Operations and Basis of Presentation

Rackspace Technology, Inc. ("Rackspace Technology") (formerly known as Rackspace Corp. until its legal name change on June 11, 2020 and formerly known as Inception Topco, Inc. until its legal name change on March 31, 2020), is a Delaware corporation controlled by investment funds affiliated with Apollo Global Management, Inc. and its subsidiaries (“Apollo”). Rackspace Technology was formed on July 21, 2016 but had no assets, liabilities or operating results until November 3, 2016 (the “Closing Date”) when Rackspace Hosting, Inc. (now named Rackspace Technology Global, Inc., or “Rackspace Technology Global”), a global provider of modern information technology-as-a-service, was acquired by Inception Parent, Inc., a wholly-owned entity indirectly owned by Rackspace Technology (the “Rackspace Acquisition”).

Rackspace Technology Global commenced operations in 1998 as a limited partnership, and was incorporated in Delaware in March 2000. Rackspace Technology serves as the holding company for Rackspace Technology Global and does not engage in any material business or operations other than those related to its indirect ownership of the capital stock of Rackspace Technology Global and its subsidiaries or business or operations otherwise customarily undertaken by a holding company.

For ease of reference, the terms “we,” “our company,” “the company,” “us,” or “our” as used in this report refer to Rackspace Technology and its consolidated subsidiaries.

On November 15, 2019, we acquired 100% of Onica Holdings LLC ("Onica") as described in more detail in Note 13, "Acquisitions." The preliminary estimate of fair values of Onica’s assets acquired and liabilities assumed, together with Onica’s results of operations subsequent to the November 15, 2019 acquisition date, are included in the unaudited consolidated financial statements.

On July 20, 2020, the board of directors of the company approved and effected a 12-for-one stock split of the company’s common stock (the "Stock Split"). All common stock share and per-share data, excluding par value per share, included in these unaudited consolidated financial statements give effect to the Stock Split and have been adjusted retroactively for all periods presented.

On August 7, 2020, we completed our initial public offering (the “IPO”), in which we issued and sold 33,500,000 shares of our common stock at a public offering price of $21.00 per share. We received net proceeds of $666.6 million from sales of shares in the IPO, after deducting underwriters' discounts and commissions of $36.9 million, but before deducting offering expenses of $8.8 million.

The unaudited consolidated financial statements include the accounts of Rackspace Technology, Inc. and our wholly-owned subsidiaries. Intercompany transactions and balances have been eliminated in consolidation.

Unaudited Interim Financial Information

The unaudited consolidated financial statements as of September 30, 2020, and for the three and nine months ended September 30, 2019 and 2020, are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information. Accordingly, they do not include all financial information and disclosures required by GAAP for complete financial statements. These unaudited interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the related notes thereto as of December 31, 2019, included in our Registration Statement on Form S-1 (File No. 333-239794), as amended, including the final prospectus, dated August 4, 2020, included therein (the "Prospectus"). The unaudited interim consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements included in the Prospectus and, in the opinion of management, reflect all adjustments, which include normal recurring adjustments, necessary for a fair statement of our financial position as of September 30, 2020, our results of operations for the three and nine months ended September 30, 2019 and 2020, our cash flows for the nine months ended September 30, 2019 and 2020, and our stockholders' equity for the three and nine months ended September 30, 2019 and 2020.

The results of operations for the three and nine months ended September 30, 2020 are not necessarily indicative of the results of operations to be expected for the year ending December 31, 2020, or for any other interim period, or for any other future year.

Use of Estimates

The preparation of consolidated financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, revenue and expenses, and related disclosures of contingent assets and liabilities in the consolidated financial statements and accompanying notes. On an ongoing basis, we evaluate our estimates, including those related to the allowance for doubtful accounts, useful lives of property, equipment and software, software capitalization, incremental borrowing rates for lease liability measurement, fair values of intangible assets and reporting units, useful lives of intangible assets, share-based compensation, contingencies, and income taxes, among others. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results could differ from our estimates.

Impact of COVID-19

In March 2020, the World Health Organization declared COVID-19 a global pandemic. The effects of COVID-19 are rapidly evolving, and the full impact and duration of the virus are unknown. Currently, COVID-19 has not had a significant impact on our operations or financial performance; however, the ultimate extent of the impact of COVID-19 on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak and its impact on our customers, vendors and employees and its impact on our sales cycles as well as industry events, all of which are uncertain and cannot be predicted. In addition, we face a greater degree of uncertainty in making estimates and assumptions needed to prepare our consolidated financial statements and footnotes.

Subsequent Events

On October 15, 2020, Rackspace Technology Global issued a Notice of Partial Redemption to holders of the 8.625% Senior Notes due 2024 (the "8.625% Senior Notes"). Pursuant to the terms of the indenture governing the 8.625% Senior Notes (the "Indenture"), on November 16, 2020, Rackspace Technology Global will redeem $86.0 million principal amount of the outstanding 8.625% Senior Notes at a price of 104.313%, plus accrued and unpaid interest, if any.

Significant Accounting Policies and Estimates

Our Prospectus includes an additional discussion of the significant accounting policies and estimates used in the preparation of our consolidated financial statements, which we are incorporating by reference herein. There were no material changes to our significant accounting policies and estimates during the nine months ended September 30, 2020, except for the adoptions of the Accounting Standards Updates ("ASU") discussed in "Recently Adopted Accounting Pronouncements" below.

Reclassifications

Certain reclassifications have been made to the prior period consolidated financial statements to conform to the current period presentation. Specifically, the non-current portion of "Finance lease liabilities" is now presented separately from "Other non-current liabilities" in the Consolidated Balance Sheets. This presentation change is due to the modification of certain leases in June 2020 which resulted in a change of classification from operating leases to finance leases, increasing the balance of the non-current portion of "Finance lease liabilities."

Recently Adopted Accounting Pronouncements

Financial Instruments-Credit Losses

Derivatives and Hedging-Targeted Improvements to Accounting for Hedging Activities

We adopted this ASU on January 1, 2020. The guidance applies to any existing hedges or new derivative instruments that are designated as hedges for derivative accounting purposes in future periods. We have historically not designated our interest rate swaps or foreign currency hedging contracts as hedges for derivative accounting purposes, However, on January 9, 2020, we designated certain of our interest rate swap agreements as cash flow hedges. Refer to Note 11, "Derivatives," for the cash flow hedge disclosures required by the provisions of this guidance.

Fair Value Measurement Disclosures

Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement

Reference Rate Reform

The following table presents the balances related to customer contracts as of December 31, 2019 and September 30, 2020:

Amounts recognized in revenue for the three months ended September 30, 2019 and September 30, 2020, which were included in deferred revenue as of the beginning of each period, totaled $27.1 million and $28.0 million, respectively. Amounts recognized in revenue for the nine months ended September 30, 2019 and September 30, 2020, which were included in deferred revenue as of the beginning of each period totaled $44.1 million and $55.6 million, respectively.

As of December 31, 2019 and September 30, 2020, the balances of capitalized costs to obtain a contract were $55.1 million and $57.2 million, respectively, and the balances of capitalized costs to fulfill a contract were $21.7 million and $24.3 million, respectively. These capitalized costs are included in “Other non-current assets” on the Consolidated Balance Sheets.

Amortization of capitalized sales commissions and implementation costs for the three and nine months ended September 30, 2019 and September 30, 2020 was as follows:

As of September 30, 2020, the aggregate amount of transaction price allocated to remaining performance obligations was $876.6 million, of which 19% is expected to be recognized as revenue during 2020 and the remainder thereafter. These remaining performance obligations primarily relate to our fixed-term arrangements. Our other revenue arrangements are usage-based, and as such, we recognize revenue based on the right to invoice for the services performed.

Basic loss per share is calculated by dividing net loss attributable to common stockholders by the weighted average shares outstanding during the period.

The following table sets forth the computation of basic and diluted net loss per share:

Potential common share equivalents consist of shares issuable upon the exercise of stock options or vesting of restricted stock, as well as contingent shares associated with our acquisition of Datapipe Parent, Inc. Since we were in a net loss position for all periods presented, basic net loss per share is the same as diluted net loss per share for all periods as the inclusion of all potential common shares outstanding would have been anti-dilutive. We excluded 21.4 million and 26.5 million potential common shares from the computation of dilutive loss per share for the three months ended September 30, 2019 and 2020, respectively, and 21.4 million and 26.5 million potential shares for the nine months ended September 30, 2019 and 2020, respectively, because the effect would have been anti-dilutive.

Property, equipment and software, net, at December 31, 2019 and September 30, 2020 consisted of the following: 

The following table sets forth the changes in the carrying amounts of goodwill by reportable segment during the nine months ended September 30, 2020:

The following tables provide information regarding our intangible assets other than goodwill:

In June 2019, CrowdStrike Holdings, Inc. ("CrowdStrike"), an entity in which Rackspace US, Inc. held an equity investment, completed an initial public offering and became a publicly-traded company. Prior to the date of CrowdStrike's initial public offering, our investment in CrowdStrike had a carrying value of $10.0 million and was accounted for as an equity investment without a readily determinable fair value. With the availability of observable price changes following the completion of CrowdStrike's initial public offering, our investment in CrowdStrike was measured at fair value on a prospective basis using the end of period quoted stock price, which is classified as a Level 1 input within the fair value hierarchy. In December 2019, Rackspace US, Inc. sold the investment in CrowdStrike for $106.9 million in cash proceeds.

We hold other equity investments that do not have readily determinable fair values. The aggregate carrying value of these other equity investments is immaterial.

For the three months ended September 30, 2019, we recognized a loss on investment activity of $22.0 million, which was entirely due to the decrease in the fair value of the CrowdStrike investment. For the nine months ended September 30, 2019, we recognized a net gain on investment activity of $121.4 million which was primarily comprised of a $118.8 million unrealized gain related to the increase in the fair value of the CrowdStrike investment and a $2.6 million realized gain recognized upon the receipt of proceeds related to the 2017 sale of an equity investment. For the nine months ended September 30, 2020, we recognized a net gain on investment activity of $0.9 million, primarily comprised of a realized gain upon the receipt of proceeds related to the 2017 sale of an equity investment. There was minimal activity for the three months ended September 30, 2020.

Debt consisted of the following:

Senior Facilities

The First Lien Credit Agreement includes a first lien term loan facility ("Term Loan Facility") and a revolving credit facility ("Revolving Credit Facility" and, together with the Term Loan Facility, the "Senior Facilities").

On July 20, 2020, we entered into an amendment to the First Lien Credit Agreement that modified the terms of the Revolving Credit Facility effective upon the closing of the IPO on August 7, 2020. The amendment (i) increased the amount of the commitments available under the Revolving Credit Facility from $225.0 million to $375.0 million, (ii) reduced the applicable margin with respect to the Revolving Credit Facility to 3.00% for LIBOR loans and 2.00% for base rate loans, but includes a 1.00% LIBOR “floor” applicable to LIBOR loans, and (iii) extended the maturity date with respect to the Revolving Credit Facility from November 3, 2021 to August 7, 2025; however, if 91 days prior to the scheduled maturity date of (A) the Term Loan Facility, more than $50.0 million aggregate principal amount of loans remains outstanding under the Term Loan Facility, or (B) the 8.625% Senior Notes, more than $50.0 million aggregate principal amount of the 8.625% Senior Notes remains outstanding, in either such case, the Revolving Credit Facility will mature on such earlier date.

The amendment to the Revolving Credit Facility also modified the financial maintenance covenant applicable to the Revolving Credit Facility that limits our net first lien leverage ratio to be a maximum of 5.00 to 1.00 (as compared to 3.50 to 1.00 prior to giving effect to the amendment). This financial maintenance covenant is only applicable and tested if the aggregate amount of outstanding borrowings under the Revolving Credit Facility and letters of credit issued thereunder (excluding $25.0 million of undrawn letters of credit and cash collateralized letters of credit) as of the last day of a fiscal quarter is equal to or greater than 35% of the Revolving Credit Facility commitments as of the last day of such fiscal quarter. Other than described in this and the previous paragraph, the terms and conditions of the Revolving Credit Facility remained the same, and the amendment did not amend or otherwise modify the terms of the Term Loan Facility.

We accounted for the amendment to the Revolving Credit Facility as a debt modification and recorded $0.6 million in debt issuance costs to "Other non-current assets" in the Consolidated Balance Sheets. These will be amortized, along with the unamortized debt issuance costs associated with the prior arrangement, on a straight-line basis to "Interest expense" in the Consolidated Statements of Comprehensive Loss over the five-year term of the modified arrangement.

As of September 30, 2020, the Revolving Credit Facility had total commitments of $375.0 million and matures on August 7, 2025. Over the course of the nine months ended September 30, 2020, Rackspace Technology Global borrowed and repaid an aggregate $245.0 million under the Revolving Credit Facility. As of September 30, 2020, we had 0 outstanding borrowings under the Revolving Credit Facility.

The Term Loan Facility matures on November 3, 2023 and, as of September 30, 2020, the interest rate on the Term Loan Facility was 4.00%. Rackspace Technology Global makes quarterly principal payments of $7.2 million. See Note 11, "Derivatives" for information on interest rate swap agreements we utilize to manage the interest rate risk on the Term Loan Facility.

The fair value of the Term Loan Facility as of September 30, 2020 was $2,739.8 million, based on quoted market prices for identical assets that are traded in over-the-counter secondary markets that are not considered active. The fair value of the Term Loan Facility is classified as Level 2 within the fair value hierarchy.

As of September 30, 2020, Rackspace Technology Global was in compliance with all covenants under the Senior Facilities.

8.625% Senior Notes due 2024

The 8.625% Senior Notes mature on November 15, 2024 and, as of September 30, 2020, Rackspace Technology Global was in compliance with all covenants under the indenture governing the 8.625% Senior Notes (the "Indenture").

During the nine months ended September 30, 2019, Rackspace Technology Global repurchased and surrendered for cancellation $73.9 million of principal amount of 8.625% Senior Notes for $63.7 million including accrued interest of $0.7 million. In connection with these repurchases, we recorded a gain on debt extinguishment of $9.5 million in our Consolidated Statements of Comprehensive Loss for the nine months ended September 30, 2019.

On August 12, 2020, Rackspace Technology Global commenced a tender offer to purchase for cash up to $600.0 million aggregate principal amount of the $1,120.2 million outstanding 8.625% Senior Notes. Prior to the expiration of the tender offer, holders of the 8.625% Senior Notes validly tendered $515.0 million aggregate principal amount of the 8.625% Senior Notes. Rackspace Technology Global repurchased the tendered 8.625% Senior Notes for aggregate cash of $557.2 million, which reflected a price of 105.75% of the principal amount, plus accrued and unpaid interest. Following the repurchases, Rackspace Technology Global canceled $515.0 million of the 8.625% Senior Notes. In connection with these repurchases, we recorded a loss on debt extinguishment of $37.0 million in our Consolidated Statements of Comprehensive Loss for the three and nine months ended September 30, 2020, comprised of a $29.7 million premium on repurchase, $7.1 million write-off of unamortized debt issuance costs, and transaction fees of $0.2 million.

The fair value of the outstanding 8.625% Senior Notes as of September 30, 2020 was $632.4 million, based on quoted market prices for identical assets that are traded in over-the-counter secondary markets that are not considered active. The fair value of the 8.625% Senior Notes is classified as Level 2 within the fair value hierarchy.

Accounts Receivable Financing Agreement

On March 19, 2020, a wholly owned subsidiary of the company entered into an accounts receivable financing agreement (the "Receivables Financing Facility"). Pursuant to the agreements evidencing the Receivables Financing Facility, Rackspace Receivables, LLC, a bankruptcy-remote special purpose vehicle ("SPV") wholly owned by Rackspace Technology Global, has granted a security interest in all of its current and future receivables and related assets in exchange for a credit facility permitting borrowings of up to a maximum aggregate amount of $100.0 million from time to time. Such borrowings are used by the SPV to finance purchases of accounts receivable. We recorded $1.0 million of fees and expenses related to the Receivables Financing Facility as debt issuance costs, which are included in "Other non-current assets" in the Consolidated Balance Sheets.

The amount of advances available are determined based on advance rates relating to the eligibility of the receivables held by the SPV at that time. Advances bear interest based on LIBOR plus a margin. The last date on which advances may be made is March 21, 2022, unless the maturity of the Receivables Financing Facility is otherwise accelerated. In addition to other customary fees associated with financings of this type, the SPV is required to pay a monthly commitment fee based on the unused amount of the facility.

As of September 30, 2020, our total borrowing capacity under the Receivables Financing Facility was $68.0 million and $65.0 million was borrowed and outstanding. The interest rate on the Receivables Financing Facility was 2.50% as of September 30, 2020.

The agreements evidencing the Receivables Financing Facility contain customary representations and warranties, affirmative and negative covenants, and events of default. As of September 30, 2020, the company was in compliance with all covenants under the Receivables Financing Facility.

We have contingencies that arise from various litigation, claims and commitments, none of which we consider to be material.

From time to time, we are a party to various claims asserting that certain of our services and technologies infringe the intellectual property rights of others. Adverse results in these lawsuits may include awards of substantial monetary damages, costly royalty or licensing agreements, or orders preventing us from offering certain features, products, or services, and may also cause us to change our business practices and require development of non-infringing products or technologies, which could result in a loss of revenue for us or otherwise harm our business.

We record an accrual for a loss contingency when a loss is considered probable and reasonably estimable. As additional facts concerning a loss contingency become known, we reassess our position and make appropriate adjustments to a recorded accrual. The amount that will ultimately be paid related to a matter may differ from the recorded accrual, and the timing of such payments, if any, may be uncertain.

We cannot predict the impact, if any, that any current matter will have on our business, results of operations, financial position, or cash flows. Because of the inherent uncertainties of these matters, including the early stage and lack of specific damage claims in many of them, we cannot estimate a range of possible losses from them at this time.

Repurchase of Common Stock

During the three and nine months ended September 30, 2019, we repurchased $0.3 million and $2.2 million, or 0.1 million and 0.2 million shares, respectively, of our common stock. These shares were subsequently retired.

Settlement of Share-Based Awards

As a result of the Rackspace Acquisition, Rackspace Technology Global had obligations related to the settlement of restricted stock units that were outstanding at the Closing Date. These obligations required installment payments that began in November 2016 and ended in the first quarter of 2019. We made cash payments of $19.2 million during the nine months ended September 30, 2019 and recognized compensation expense of $2.7 million within "Selling, general and administrative expenses" in the Consolidated Statements of Comprehensive Loss for the nine months ended September 30, 2019.

In addition, in connection with an employee's departure, we settled options and restricted stock for a one-time cash payment of $1.5 million during the nine months ended September 30, 2019.

Share-Based Compensation Expense

In April 2017, the Executive Committee of the board of directors authorized the company to adopt the Rackspace Technology, Inc. Equity Incentive Plan (the “2017 Incentive Plan”).

On July 24, 2020, the board of directors approved, effective on August 7, 2020, the Rackspace Technology, Inc. 2020 Equity Incentive Plan (the “2020 Incentive Plan” and, together with the 2017 Incentive Plan, the “Incentive Plans”) and amendments to the 2017 Incentive Plan which, among other things, resulted in the termination of the 2017 Incentive Plan, except as it relates to outstanding awards, and any remaining shares reserved for future grants under the 2017 Incentive Plan were released.

An Employee Stock Purchase Plan (the "ESPP") was approved by the company's board of directors on July 24, 2020 and became effective on August 7, 2020. Under the ESPP, eligible employees may purchase a limited number of shares of our common stock at the lesser of 85% of the market value on the enrollment date or 85% of the market value on the purchase date. The maximum shares available for issuance under the ESPP is 11.5 million shares. The fair value on each enrollment date is determined using the Black-Scholes option-pricing model. The share-based compensation expense recognized for the ESPP was $0.7 million during the three and nine months ended September 30, 2020. NaN shares were issued through the ESPP during the nine months ended September 30, 2020.

During the nine months ended September 30, 2020, we granted 8.2 million stock options and 1.2 million RSUs under the Incentive Plans with weighted-average grant date fair values of $8.38 and $17.80, respectively. The majority of the options were granted as part of our annual compensation award process and vest ratably over a three-year period, subject to continued service. Also included in the 8.2 million stock options granted were 2.6 million stock options granted to certain executives that vest in part subject to continued service ratably over a five-year period and in part based upon the attainment of performance and market conditions. The majority of the RSUs granted were part of a grant to all eligible employees on the date of our IPO and vest six months after the IPO.

Upon the completion of the IPO, it was determined that certain awards with performance and market conditions, tied to a liquidity event and the achievement of targets based on a multiple of invested capital ("MOIC") for Apollo, were probable of vesting. As a result of this change in estimate, the company recognized $20.2 million of share-based compensation expense, related to service received since the grant date of the respective awards, during the three months ended September 30, 2020.

As of September 30, 2020, there was $92.7 million and $18.6 million of total unrecognized compensation cost related to stock options and restricted stock, respectively, which will be recognized using the straight-line method over a weighted average period of 2.0 years and 1.0 year, respectively.

We are subject to U.S. federal income tax and various state, local, and international income taxes in numerous jurisdictions. The differences between our effective tax rate and the U.S. federal statutory rate of 21% generally result from various factors, including the geographical distribution of taxable income, tax credits, contingency reserves for uncertain tax positions, and permanent differences between the book and tax treatment of certain items. Additionally, the amount of income taxes paid is subject to our interpretation of applicable tax laws in the jurisdictions in which we file. For the three and nine months ended September 30, 2020, our effective tax rate is lower than the U.S. federal statutory rate of 21% due to the net impact of the geographical distribution of our earnings, the application of the global intangible low-taxed income (“GILTI”) provisions that were implemented with the Tax Cuts and Jobs Act (the “Act”) that was passed on December 22, 2017, as well as executive compensation that is nondeductible under Internal Revenue Code ("IRC") Section 162(m) as a result of the IPO.

We utilize derivative instruments, including interest rate swap agreements and foreign currency hedging contracts, to manage our exposure to interest rate risk and foreign currency fluctuations. We only hold such instruments for economic hedging purposes, not for speculative or trading purposes. Our derivative instruments are transacted only with highly-rated institutions, which reduces our exposure to credit risk in the event of nonperformance.

Interest Rate Swaps

We are exposed to interest rate risk associated with fluctuations in interest rates on the floating-rate Term Loan Facility. The objective in using interest rate derivatives is to manage our exposure to interest rate movements. To accomplish this objective, we have entered into interest rate swap agreements as part of our interest rate risk management strategy. Interest rate swaps involve the receipt of variable amounts from a counterparty in exchange for the company making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. 

In December 2016, we entered into 7 floating-to-fixed interest rate swap agreements to manage our risk from interest rate fluctuations associated with the floating-rate Term Loan Facility. The swap agreements became effective on February 3, 2017 with an aggregate notional amount of $1.5 billion. NaN swap agreements matured in 2018, 1 agreement matured during the nine months ended September 30, 2019, and 1 agreement matured during the nine months ended September 30, 2020. The remaining 3 swap agreements in effect as of September 30, 2020 have an aggregate notional amount of $1.05 billion and mature over the next two years. On a quarterly basis, we net settle with the counterparty for the difference between the fixed rate specified in each swap agreement, ranging from 1.7625% to 1.9040%, and the variable rate based upon the three-month LIBOR as applied to the notional amount of the swap.

In December 2018, we entered into 4 additional floating-to-fixed interest rate swap agreements with an aggregate notional amount of $1.35 billion and a maturity date of November 3, 2023. These swap agreements are forward-starting, and as of September 30, 2020, 2 swap agreements, with an aggregate notional amount of $300 million, were effective. The remaining swap agreements become effective each year thereafter to coincide with the maturity dates of the outstanding December 2016 swap agreements. On a quarterly basis, we net settle with the counterparty for the difference between the fixed rate specified in each swap agreement, ranging from 2.7350% to 2.7490%, and the variable rate based upon the three-month LIBOR as applied to the notional amount of the swap.

As of December 31, 2019, NaN of our interest rate swap agreements were designated as cash flow hedges of interest rate risk for accounting purposes, therefore, all changes in the fair value of the interest rate swap agreements were recorded to "Interest expense" in the Consolidated Statements of Comprehensive Loss. On January 9, 2020, we designated certain of our swaps as cash flow hedges. On the designation date, the cash flow hedges were in a $39.9 million liability position ("off-market swap value"). The cash flow hedges were expected to be highly effective on the designation date and, on a quarterly basis, we perform retrospective and prospective assessments to determine whether the cash flow hedges continue to be highly effective, which we have deemed to be a dollar-offset ratio between 80% to 125%. As long as the cash flow hedges are highly effective, changes in fair value are recorded to "Accumulated other comprehensive income (loss)" in the Consolidated Balance Sheets and reclassified to "Interest expense" in the period when the underlying transaction affects earnings. The off-market swap value will be amortized as a reduction to "Interest expense" on a straight-line basis over the remaining term of each cash flow hedge. The income tax effects of cash flow hedges are released from "Accumulated other comprehensive income (loss)" in the period when the underlying transaction affects earnings. Any stranded income tax effects are released from “Accumulated other comprehensive income (loss)” into “Benefit (provision) for income taxes” under the portfolio approach. As of September 30, 2020, all of our cash flow hedges were highly effective.

Our interest rate swap agreements are recognized at fair value in the Consolidated Balance Sheets and are valued using pricing models that rely on market observable inputs such as yield curve data, which are classified as Level 2 inputs within the fair value hierarchy.

Foreign Currency Hedging Contracts

The majority of our customers are invoiced, and the majority of our expenses are paid, by us or our subsidiaries in the functional currency of our company or our subsidiaries, respectively. We also have exposure to foreign currency transaction gains and losses as the result of certain receivables due from our foreign subsidiaries. As such, the results of operations and cash flows of our foreign subsidiaries are subject to fluctuations in foreign currency exchange rates. The objective of our foreign currency hedging contracts is to manage our exposure to foreign currency movements. To accomplish this objective, we may enter into foreign currency forward contracts and collars. A forward contract is an agreement to buy or sell a quantity of a currency at a predetermined future date and at a predetermined exchange rate. A collar is a strategy that uses a combination of a purchased put option and a sold call option with equal premiums to hedge a portion of anticipated cash flows, or to limit possible gains or losses on an underlying asset or liability to a specific range. The put and call options have identical notional amounts and settlement dates.

In November 2018, we entered into 1 foreign currency forward contract. Under the terms of the contract, we sold £75 million at a rate of 1.3002 British pound sterling to U.S. dollar and received $97.5 million. This contract settled on November 29, 2019 and we received a final net payment of $0.8 million.

In November 2019, we entered into 2 foreign currency net-zero cost collar contracts with an aggregate notional amount of £100 million and a maturity date of November 30, 2020. Under the terms of the contracts, the British pound sterling to U.S. dollar exchange rate floats between 1.2375 and 1.3475. On March 26, 2020, we settled 1 of these contracts, with an aggregate notional amount of £50 million, and we received a final net payment of $1.9 million.

In March 2020, we entered into 3 foreign currency forward contracts to manage our exposure to movements in the British pound sterling, Euro and Mexican peso. All 3 contracts settled on June 30, 2020, and we made a final net payment of $1.7 million resulting from the following:

These contracts are recognized at fair value in the Consolidated Balance Sheets and are valued using pricing models that rely on market observable inputs such as current exchange rates, which are classified as Level 2 inputs within the fair value hierarchy. We have not designated these contracts as cash flow hedges for accounting purposes, therefore, all changes in fair value are recorded in "Other income (expense), net."

Fair Values of Derivatives on the Consolidated Balance Sheets

The fair values of our derivatives and their location on the Consolidated Balance Sheets as of December 31, 2019 and September 30, 2020 were as follows:

    

For financial statement presentation purposes, we do not offset assets and liabilities under master netting arrangements and all amounts above are presented on a gross basis. The following table, however, is presented on a net asset and net liability basis:

Effect of Derivatives on the Consolidated Statements of Comprehensive Loss

The effect of our derivatives and their location on the Consolidated Statements of Comprehensive Loss for the three and nine months ended September 30, 2019 and 2020 was as follows:

Interest expense was $80.9 million and $68.3 million for the three months ended September 30, 2019 and 2020, respectively, and $270.7 million and $209.2 million for the nine months ended September 30, 2019 and 2020, respectively. As of September 30, 2020, the amount of cash flow hedge losses included within "Accumulated other comprehensive income (loss)" that is expected to be reclassified as an increase to "Interest expense" over the next 12 months is approximately $19.2 million. See Note 14, "Accumulated Other Comprehensive Income (Loss)," for information regarding changes in fair value of our derivatives designated as hedging instruments.

Credit-risk-related Contingent Features

We have agreements with interest rate swap counterparties that contain a provision whereby if we default on any of our material indebtedness, then we could also be declared in default of our interest rate swap agreements. As of September 30, 2020, our interest rate swap agreements with an aggregate fair value of $91.7 million were in a net liability position. However, if we were in default, our master netting arrangements with certain of our interest rate swap counterparties contain provisions which could result in net settlement of all outstanding agreements with an aggregate fair value of $91.5 million in a net liability position.

On February 1, 2017, we completed the sale of assets of our Mailgun business for total consideration of $40.2 million, which was comprised of an initial cash payment of $20.5 million, a promissory note with a fair value of $14.8 million, and an equity interest in the new entity, Mailgun Technologies, Inc. ("Mailgun Technologies") with a fair value of $4.9 million.

In March 2019, we received $18.0 million in cash from Mailgun Technologies as repayment for the promissory note balance of $15.9 million, which included accrued interest of $1.2 million. As such, we recorded a gain of $2.1 million, which is reflected within "Gain on sale" in the Consolidated Statements of Comprehensive Loss for the nine months ended September 30, 2019.

Onica

On November 15, 2019, Rackspace Technology acquired 100% of Onica, an Amazon Web Services ("AWS") Partner Network Premier Consulting Partner and AWS Managed Service Provider providing cloud-native consulting and managed services, including strategic advisory, architecture and engineering and application development services. Total consideration to acquire Onica was $323.4 million, net of cash acquired of $7.5 million, for a net purchase price of $315.9 million. Total consideration includes the purchase price adjustment resulting from the difference between net working capital on the date of acquisition compared to the estimated net working capital used to determine the closing consideration (the "Purchase Price Adjustment").

The Onica acquisition was accounted for using the acquisition method of accounting, in accordance with the accounting guidance for business combinations. Accordingly, the purchase price has been preliminarily allocated (pending the final valuation of certain tangible and intangible assets acquired and liabilities assumed, including deferred taxes) to the acquired assets and liabilities based upon their estimated fair values at the date of acquisition.

The preliminary allocation of the purchase price as of the November 15, 2019 closing date (as adjusted through September 30, 2020, as described below) is as follows:

During the nine months ended September 30, 2020, we recorded a measurement period adjustment to the preliminary amounts recorded as of November 15, 2019. We recorded a measurement period adjustment of $0.2 million to Onica Acquisition Consideration associated with the Purchase Price Adjustment, for a total net decrease to goodwill of $0.2 million. The Purchase Price Adjustment is included in "Other investing activities" in the Consolidated Statements of Cash Flows. The adjustment to the preliminary allocation is as follows:

Accumulated other comprehensive income (loss) consisted of the following:

In connection with the Rackspace Acquisition, we entered into a management consulting agreement with affiliates of Apollo and Searchlight Capital Partners L.P (“Searchlight”), (the “Apollo/Searchlight Management Consulting Agreement”) and a transaction fee agreement with an affiliate of Apollo (the “Transaction Fee Agreement”). In addition, on November 15, 2017, we entered into a management consulting agreement with ABRY Partners, LLC and ABRY Partners II, LLC (collectively, “ABRY”) (the “ABRY Management Consulting Agreement”). For the three and nine months ended September 30, 2019, we recorded $3.7 million and $9.6 million, respectively, and for the three and nine months ended September 30, 2020, we recorded $1.3 million and $8.4 million, respectively, of management consulting fees within "Selling, general and administrative expenses" in the Consolidated Statements of Comprehensive Loss.

On July 24, 2020, we executed termination letters with each of the parties to the Apollo/Searchlight Management Consulting Agreement, the Transaction Fee Agreement and the ABRY Management Consulting Agreement, whereby all such agreements terminated effective as of the pricing of the IPO on August 4, 2020. Therefore no management consulting or transaction fees were accrued or were payable under any of these agreements for periods subsequent to August 4, 2020.

Affiliates of ABRY are also Term Loan Facility lenders under the First Lien Credit Agreement. As of September 30, 2020, the outstanding principal amount of the Term Loan Facility was $2,802.9 million, of which $43.9 million, or 1.6%, is due to ABRY affiliates.

As part of the IPO, Apollo Global Securities, LLC, an affiliate of Apollo, received fees of $2.7 million in connection with their role as an underwriter in the IPO.

We have organized our operations into the following 3 operating segments, which correspond directly to our reportable segments: Multicloud Services, Apps & Cross Platform, and OpenStack Public Cloud. Our segments are based upon a number of factors, including, the basis for our budgets and forecasts, organizational and management structure and the financial information regularly used by our Chief Operating Decision Maker to make key decisions and to assess performance. We assess financial performance of our segments on the basis of revenue and adjusted gross profit, which is a non-GAAP measure of profitability. For the calculation of adjusted gross profit, we allocate certain costs, such as data center operating costs, customer support costs, license expense, and depreciation, to our segments generally based on segment revenue.

The table below presents a reconciliation of revenue by reportable segment to consolidated revenue and a reconciliation of segment adjusted gross profit to total consolidated gross profit for the three and nine months ended September 30, 2019 and 2020.