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FTI ConsultingTable of Contents UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549 FORM 10-K (Mark One)xANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the Fiscal Year Ended December 31, 2013OR ¨TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period from to Commission File Number: 001-35232 WAGEWORKS, INC.(Exact name of Registrant as specified in its charter) Delaware 94-3351864(State or other jurisdiction ofincorporation or organization) (I.R.S. EmployerIdentification No.) 1100 Park Place, 4th FloorSan Mateo, California 94403(Address of principal executive offices) (Zip Code)(650) 577-5200(Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registeredCommon Stock, $0.001 par value per share The New York Stock ExchangeSecurities registered pursuant to Section 12(g) of the Act:None. Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No ¨Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No xIndicate 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 12months (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 90days. Yes x No ¨Indicate by check mark whether the registrant has submitted electronically and posted to its corporate Web site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post suchfiles). Yes x No ¨Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’sknowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨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 “largeaccelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. Large accelerated filer x Accelerated filer ¨Non-accelerated filer ¨ (Do not check if a smaller reporting company) Smaller reporting company ¨Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No xThe aggregate market value of the registrant’s common stock, $0.001 par value per share, held by non-affiliates of the registrant on June 28, 2013, the last business day of theregistrant’s most recently completed second fiscal quarter, was $924,131,723 (based on the closing sales price of the registrant’s common stock on that date). This determinationof affiliate status is not necessarily a conclusive determination for other purposes.As of February 20, 2014, there were 34,810,862 shares of the registrant’s common stock outstanding.DOCUMENTS INCORPORATED BY REFERENCEPortions of the registrant’s Proxy Statement for its 2014 Annual Meeting of the Stockholders (the “2014 Proxy Statement”), to be filed with the Securities and ExchangeCommission are incorporated by reference into Part III of this Annual Report where indicated. Table of ContentsWAGEWORKS, INC.FORM 10-KTable of Contents PART I Item 1. Business 1 Item 1A. Risk Factors 14 Item 1B. Unresolved Staff Comments 27 Item 2. Properties 27 Item 3. Legal Proceedings 27 Item 4. Mine Safety Disclosures 27 PART II Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 28 Item 6. Selected Financial Data 30 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 31 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 51 Item 8. Financial Statements and Supplementary Data 52 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure 85 Item 9A. Controls and Procedures 85 Item 9B. Other Information 86 PART III Item 10. Directors, Executive Officers and Corporate Governance 87 Item 11. Executive Compensation 87 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 87 Item 13. Certain Relationships and Related Transactions, and Director Independence 87 Item 14. Principal Accounting Fees and Services 87 PART IV Item 15. Exhibits and Financial Statement Schedules 88 Signatures 89 Table of ContentsForward Looking StatementsThis Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if theynever materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements.Statements that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act, and Section 21E of theSecurities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements are often identified by the use of words such as, butnot limited to, “anticipate,” “believe,” “can,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “project,” “seek,” “should,”“target,” “will,” “would” and similar expressions or variations intended to identify forward-looking statements. Such statements include, but are notlimited to, statements concerning tax-advantaged consumer-directed benefits, market opportunity, our future financial and operating results,investment strategy, sales and marketing strategy, management’s plans, beliefs and objectives for future operations, technology and development,economic and industry trends or trend analysis, expectations about seasonality, opportunity for portfolio purchases, channel partnerships, privateexchanges, operating expenses, anticipated income tax rates, capital expenditures, cash flows and liquidity. These statements are based on the beliefsand assumptions of our management based on information currently available to us. Such forward-looking statements are subject to risks,uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future resultsexpressed or implied by such forward-looking statements. You should not place undue reliance on these forward-looking statements which speak onlyas of the date of this Annual Report on Form 10-K. Except as required by law, we undertake no obligation to update any forward-looking statements toreflect events or circumstances after the date of such events.PART IItem 1. BusinessCorporate InformationWageWorks was incorporated as a Delaware corporation in 2000. Our website address is www.wageworks.com. We make available on our website, freeof charge, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and any amendments to those reports, as soonas reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (“SEC”). Our SEC reportscan be accessed through the Investor Relations section of our website. The information found on our website is not part of this or any other report we file withor furnish to the SEC.OverviewWe are a leader in administering Consumer-Directed Benefits, or CDBs, which empower employees to save money on taxes while also providingcorporate tax deductions for employers. We are solely dedicated to administering CDBs, including pre –tax spending accounts such as health and dependentcare Flexible Spending Accounts (FSAs), Health Savings Accounts (HSAs), Health Reimbursement Arrangements (HRAs) as well as commuter benefitservices, including transit and parking programs, wellness programs and other employee spending account benefits, in the United States.We deliver our CDB programs through a highly scalable delivery model that employer clients and their employee participants may access through astandard web browser on any internet-enabled device, including computers, smart phones and other mobile devices such as tablet computers. Our on-demanddelivery model eliminates the need for our employer clients to install and maintain hardware and software in order to support CDB programs and enables us torapidly implement product enhancements across our entire user base.Our CDB programs assist employees and their families in saving money by using pre-tax dollars to pay for certain of their healthcare, dependent careand commuter expenses. Employers financially benefit from our programs through reduced payroll taxes, even after factoring in our fees. Under our FSA,HSA and commuter 1 Table of Contentsprograms, employee participants contribute funds from their pre-tax income to pay for qualified out-of-pocket healthcare expenses not fully covered byinsurance, such as co-pays, deductibles and over-the-counter medical products or for commuting costs.These employee contributions result in savings to both employees and employers. As an example, based on our average employee participant’s annualFSA contribution of approximately $1,300 and an assumed personal combined federal and state income tax rate of 35%, an employee participant will reducehis or her taxes by approximately $455 per year by participating in an FSA. Our employer clients also realize payroll tax (i.e., FICA and Medicare) savings onthe pre-tax contributions made by their employees. In the above FSA example, an employer client would save approximately $56 per participant per year, evenafter the payment of our fees.Under our HRA programs, employer clients provide their employee participants with a specified amount of available reimbursement funds to help theiremployee participants defray out-of-pocket medical expenses such as deductibles, co-insurance and co-payments. All amounts paid by the employer intoHRAs are deductible by the employer as an ordinary business expense and are tax-free to the employee.We market and sell our CDB programs through multiple channels, including direct sales to large enterprises, direct sales and through brokers to small-and medium-sized businesses, or SMBs, direct sales to industry purchasing and affiliate groups, through channel partners and within private exchanges. Ourenterprise sales force targets Fortune 1000 companies and generates new large account relationships through employer prospecting, consultant relationships andstrategic partnerships. Our SMB distribution channel complements our enterprise sales channel. It consists of third-party advisors and institutional brokersthat sell our CDB programs along with their own complementary products to SMBs. Our average sales cycle ranges from approximately two months forSMBs to six to nine months for our large institutional clients.Our CDB agreements with our larger employer clients, which we refer to as enterprise clients, are typically for three-year terms and provide for monthlyfees based on the number of employee participants enrolled in our programs. We price our services based on the estimated number and types of claims,whether payment processing and client support activities will be provided within or outside of the United States, the estimated number of calls to our customersupport center and any specific client requirements. Almost all of the healthcare benefit plans we service on behalf of our enterprise clients are subject tocontractual minimum monthly billing amounts. Typically, such minimum billing amounts are subject to upward revision on a monthly basis as our employerclients hire new employees who elect to participate in our programs, but generally are not subject to downward revision when employees leave their employersbecause we continue to administer those former employee participants’ accounts for the remainder of the plan year. For our SMB clients, our agreements aretypically for one to three year terms and the monthly fee remains constant for the plan year. In some cases, the agreements provide that the monthly fee issubject to upward revision when there is a 10% or greater increase in the number of employee participants during the plan year. In addition, we derive a portionof our revenues from interchange fees that we receive when employee participants use the prepaid debit cards we provide to them for healthcare and commuterexpenses.At January 31, 2014, we had over 3.2 million employee participants from over 29,000 employer clients. Our participant counts do not include ourTransitChek Basic program participants, as that fare media is shipped directly to the employers and then the employers distribute the products to theiremployee base as the demand presents. We believe that January 31 is the most appropriate point-in-time measurement date for annual plan metrics. Althoughplan changes and the entry and exit of employers and participants from our programs are usually decided late in the calendar year during open enrollment to beeffective on January 1, it is not unusual for employers to still be submitting updated files of participants in early January. While updates can be delayed pastJanuary, any changes from such late updates are usually minimal. Consequently, we believe the January 31 point-in-time measurement date is the mostappropriate date to use as a baseline. In 2013, employee participants used over 3.9 million WageWorks prepaid debit cards. 2 Table of ContentsPart of our growth strategy is the acquisition and integration of TPAs, which we refer to as portfolio purchases. We completed two portfolio purchases in2012; The Choice Care Card, LLC, also known as Choice Strategies, or CS, in January 2012, and Benefit Concepts, Inc., or BCI, in December 2012; aswell as the purchase of Crosby Benefit Systems, Inc., or CBS, in May 2013. In addition, we completed the acquisition of TransitCenter, Inc. (a business werefer to as TransitChek or TC) in February 2012.Our ServicesFlexible Spending AccountsHealthcareWe offer flexible spending accounts, or FSAs, which are employer-sponsored CDBs that enable employees to set aside pre-tax dollars to pay for eligiblehealthcare expenses that are not generally covered by insurance, such as co-pays, deductibles and over-the-counter medical products, as well as visionexpenses, orthodontia, medical devices and autism treatments. Employers benefit from payroll tax savings on the pre-tax FSA contributions from theemployee.During each annual open enrollment period, an employee elects an amount to be placed into an FSA for the following plan year. The contributed amountis then deducted in equal increments out of each paycheck on a pre-tax basis over the plan year. The entire annual election amount is available to theparticipant for use starting on the first day of the plan year and cannot be changed except for the occurrence of certain life events such as a birth, death,marriage or divorce. During the course of the plan year, we are able to automatically process a substantial majority of our employee participants’ claims forreimbursement. The remaining claims for reimbursement are independently adjudicated by us to ensure that FSA funds are used only for qualified healthcareexpenses. If an employer has not elected the new carryover option that became available under Notice 2013-71 issued by the IRS and Treasury on October 31,2013, any unused funds that remain in the account at the end of the plan year are forfeited by the employee participant and revert to the employer. However,with the modification of the long standing “Use-it-or-Lose-it Rule”, employers can amend their FSA plans to allow for a carryover of up to $500 of unusedamounts remaining at the end of a plan year in a health FSA to be paid or reimbursed to plan participants for qualified medical expenses incurred during thefollowing plan year, provided that the health FSA plan does not also incorporate the grace period rule. This change to the “Use-it-or-Lose-it Rule” is a benefit toemployers as well as employees as participants no longer risk losing their hard earned money or find themselves spending the money on unnecessary items toavoid forfeiture of any funds and employers get additional FICS and Medicare savings as more employees participate in the health FSA. Employers will stillreceive certain forfeitures as the carryover is limited to $500 and participants will still voluntarily or involuntarily terminate employment during a plan year.Forfeited funds are generally used by the employer to defray the administrative expenses of the FSA plans. Forfeitures also reduce excess claims costs that mayhave been incurred by employee participants who voluntarily or involuntarily leave their employ before the end of a plan year.The Affordable Care Act imposes a $2,500 limit, indexed to inflation, on pre-tax dollar employee contributions made to a healthcare FSA for plan yearsthat begin on or after January 1, 2013. The carryover of up to $500 does not count against or otherwise affect the indexed $2,500 salary reduction limitapplicable to each plan year. Employers themselves are able to contribute additional amounts in excess of this statutory limit, and may choose to do so in aneffort to mitigate the impact of rising healthcare costs on their employees.Dependent CareWe also offer FSA programs for dependent care plans. These plans allow employees to set aside pre-tax dollars to pay for eligible dependent careexpenses, which typically include child care or day care expenses but may also include expenses incurred from adult and elder care. Current laws andregulations limit the amount of pre-tax dollars employees can contribute to dependent care FSAs to $5,000 per tax year. Like healthcare FSAs, employers canalso contribute funds to employees’ dependent care FSAs, subject to a statutory $5,000 annual limit on total contributions. As with healthcare FSAs,employers realize payroll tax savings on the pre-tax dependent care FSA contributions made by their employees. 3 Table of ContentsHealth Reimbursement ArrangementsWe offer employer-funded heath reimbursement arrangements, or HRAs. Under HRAs, employers provide their employees with a specified amount ofreimbursement funds that are available to help employees defray their out-of-pocket healthcare expenses, such as deductibles, co-insurance and co-payments.HRAs may only be funded by employers and, while there is no limitation on how much employers may contribute, employers are required to establish theprograms in such a way as to prevent discrimination in favor of highly compensated employees. HRAs must either be considered an excepted benefit (forexample, a dental-only HRA or a retiree HRA) or be integrated with another group health plan. HRAs can be customized by employers so employers have thefreedom to determine what expenses are eligible for reimbursement under these arrangements. At the end of the plan year, employers have the option to allow all,or a portion, of the unused funds to roll over and accumulate year-to-year if not spent. All amounts paid by employers into HRAs are deductible by theemployer and tax-free to the employee.Health Savings AccountsWe also administer health savings accounts, or HSAs, for employers that allow employee participants to invest funds to be used for qualified healthcareexpenses at any time without federal tax liability or penalty. Such funds are also exempt from payroll taxes for employers. Both employees and employers canmake contributions to an HSA. HSA funds are held by a custodian, accumulate year-to-year if not spent and are portable if a participant leaves his employer.Our HSA programs are designed to offer employers a choice of third party custodian to hold the funds as well as a variety of investment options within eachcustodial offering that enables employers the opportunity to explore a broader assortment of funds to offer their employees.In order to be eligible for an HSA, an employee must be enrolled in a qualified High Deductible Health Plan, or HDHP, that is HSA-compatible and notbe covered by any other impermissible coverage. HSAs have annual contribution limits. For 2013, the annual HSA contribution limit was $3,250 for anindividual and $6,450 for a family, with allowable catch-up annual contributions of $1,000 for those aged 55 and older so that those individuals canaccumulate adequate funds to meet their healthcare expense obligations. Withdrawals for non-medical expenses are treated similarly to those in an individualretirement account. Specifically, such withdrawals may provide tax advantages if taken after retirement age, and may incur penalties if taken earlier.Commuter ProgramsWe also offer qualified transportation fringe benefits. The federal tax code currently permits employers to provide the following commuter benefits toemployees on a tax-free basis: • qualified parking; • transit passes; • transportation in a commuter highway vehicle, or vanpooling, if such transportation is in connection with travel between the employee’s residenceand place of employment; and • qualified bicycle commuting reimbursement.For commuter benefits, the maximum monthly amount that employees can exclude from gross income for federal income tax purposes and, in mostcases, state income tax purposes is subject to a statutory limit that is periodically adjusted for inflation. For 2014, the monthly maximum is $130 for transit orvanpooling, $250 for parking and $20 for bicycle reimbursement.We offer five variations of pre-tax commuter benefit programs: Commuter Order Model (COM), Commuter Account Model (CAM), Commuter Express,TransitChek Premium and TransitChek Basic. Each of these programs is described below. 4 Table of ContentsWhile these programs differ in terms of funding, implementation and available services, they include the following common features unless otherwisenoted: • home delivery of transit passes and vouchers (other than TransitChek Basic); • electronic loading of transit agency smartcards (other than TransitChek Basic); • an express electronic payment feature for select transit and vanpool operators (other than TransitChek Basic); • access to transit vouchers; • a prepaid debit card used to pay for transit purchases or parking expenses; • a direct monthly payment to parking providers for eligible parking (other than TransitChek Basic); • Park-n-Ride Support, which provides parking at or near transit stations or stops (other than TransitChek Premium and TransitChek Basic); • a cash reimbursement process for parking, vanpool, and certain other transit expenses (other than TransitChek Basic); • employer managed parking, which includes support for employer owned, managed, or leased parking, including customization capability byparking facility (COM only); and • the employer usually recognizes a financial benefit because it does not pay FICA and Medicare tax on amounts contributed by its employees.Under our COM, which we target to medium-sized and larger enterprise clients, employees place orders for transit, vanpool or parking benefits throughour website or our toll-free customer service center. Employers pay us for transit and parking orders in advance. Employers either provide the benefit as a tax-free employer-paid fringe benefit, or reimburse themselves through payroll deductions from the participants, or a combination of both, all of which are exemptfrom payroll and federal income taxes and, in most cases, state income taxes as well, up to a statutory monthly cap. In addition to the tax-free pretax payrolldeductions, employees may also supplement the amounts in their account with their own personal funds, although such supplemental funds, which may bemade through payroll deductions, are contributed on an after-tax basis.Under our CAM, which we target to medium-sized and larger enterprise clients, and particularly to those clients in the public sector, employees makepretax payroll deduction elections that employers use to fund accounts that we maintain. These deductions are exempt from payroll and federal income taxesand, in most cases, state income taxes as well, up to a statutory monthly cap. Participants use the funds in their accounts either automatically to fund aprepaid debit card that can be used to make transit or parking purchases at eligible locations or to purchase a transit or parking pass directly on our website.In addition to the payroll deductions, employees may also supplement the amounts in their account with their own personal funds, although suchsupplemental funds are contributed on an after-tax basis.Under our Commuter Express program, which we target to SMBs, employers create transit and parking accounts on behalf of their employees using aweb-based application on our proprietary platform. Employees then designate a monthly election amount, the employer submits the appropriate funds to usand we deposit those funds into a transit or parking account, which can be used to fund a variety of transit and parking options. All such employee electionsare exempt from federal income taxes and, in most cases, state income taxes as well, up to a statutory monthly cap. Employees may also supplement theamounts in their account with their own personal funds, although such supplemental funds are contributed on an after-tax basis.Under our TransitChek Premium program, which we target primarily to SMBs in the greater New York Metropolitan market, employers offer theiremployees the ability to enroll for transit, vanpool, parking or bicycle benefits through our TransitChek Account Management (TAMS) website or our toll-freecustomer service center. 5 Table of ContentsEmployer clients pay us for the selected benefit in advance. Other than the bicycle benefit, employer clients either provide the benefit as tax-free employer-paidfringe benefit, or reimburse themselves through payroll deductions from the participants, or a combination of both, all of which are exempt from payroll andfederal income taxes and, in most cases, state income tax as well, up to a statutory monthly cap. In addition to the tax-free fringe and pretax payrolldeductions, employees may also supplement the amounts in their account with their own personal funds, although such supplemental funds, which may bemade through payroll deductions, are contributed on an after-tax basis. The bicycle benefit may only be offered as an employer-paid fringe benefit. In allcases, the elections are exempt from federal income taxes and, in most cases, state income taxes as well, up to the statutory monthly cap.Under our TransitChek Basic program, employee participants enroll through their employers for pre-tax commuter benefit programs. Employers mayoffer only transit and parking benefits under this program. These benefits may be offered as a monthly pre-tax election deducted from an employee’s salary, atax-free employer-paid fringe benefit, or a combination of both. Employer clients order products in bulk on behalf of their employees and handle theadministration and distribution of the benefit to their employee participants. In all cases, the elections are exempt from federal income taxes and, in most cases,state income taxes as well, up to a statutory monthly cap.Under all our pre-tax commuter benefit programs, employers usually recognize a financial benefit through the reduction of FICA and Medicare taxobligations. Whether the programs are offered as a pre-tax election deducted from an employee’s salary, a tax-free employer-paid fringe, or a combination ofboth, the amount of the benefit, up to the statutory monthly cap, is excluded from the employee’s gross taxable pay resulting in lower payroll taxes.Our commuter programs include a parking catalog with over 3,400 selectable locations and purchasable transit products from over 650 transit operatorscovering every major metropolitan area. At January 31, 2014, we offered over 133,000 different transportation products and currently we fulfill over10.7 million commuter orders each calendar year, including passes, smartcard loads, direct pay loads, parking payments, vanpool vouchers and commutercards, to commuters and their employers on an annual basis. We sell our commuter program to employers of all sizes and industries.COBRAWe offer Consolidated Omnibus Budget Reconciliation Act, or COBRA, continuation services to employer clients to meet the employer’s obligation tomake available continuation of coverage for participants who are no longer eligible for the employer’s COBRA covered benefits which includes medical,dental, vision, HRAs and certain healthcare FSAs. COBRA requires employers to make health coverage available for terminated employees for a period of upto 36 months post-termination. As part of our COBRA program, we offer a direct billing service where former employee participants pay for coverage they electto continue. We handle the accounting and customer service for these separated employees, as well as interfacing with the carrier regarding the employees’eligibility. At January 31, 2014, we provided COBRA services to over 1,300 employer clients.Our Employer ClientsAs of January 31, 2014, we had over 29,000 employer clients across a broad range of industries with approximately 3.2 million participating employeesin all 50 states. Our employer clients include many of the Fortune 100 and Fortune 500 companies.Our Technology PlatformsWe run our services on two distinct on-demand technology platforms that have been designed to be highly scalable, and we closely monitor utilization ofall aspects of our platforms for capacity planning purposes. Our existing infrastructure has been designed with sufficient capacity to meet our current andplanned future needs. 6 Table of ContentsThe majority of our accounts run on our integrated and scalable proprietary platform, which we call our v5 platform. We generally use our v5 platformfor medium-sized and enterprise clients. Our v5 platform supports all account administrative functions and provides integration with the systems used byemployer clients, payment networks, health plans and key suppliers. Our v5 platform offers employer clients and employee participants a variety of paymentfeatures, in addition to traditional reimbursement, for our healthcare, commuter and other employee spending plans. Our v5 platform features a flexible, rules-based engine that includes multi-wallet functionality and is highly configurable to accommodate custom client plan designs and service requests. This multi-wallet functionality allows us to include more than one type of healthcare account (FSA, HRA and HSA) on one card, and helps ensure that funds that areotherwise subject to forfeiture at the end of a plan year are used first to pay for eligible expenses. Our v5 platform also allows for automated file interfacingwith clients and external vendors, including card processors, custodian banks, health plan providers, claims and payment vendors. We have a dailysettlement system and have implemented internal reporting and monitoring systems to ensure quality control on a daily basis.In addition to our v5 platform, we also operate a technology platform known as WinFlexOne, which has been specifically designed and enhanced toaddress the needs of SMBs. While the overall features and capabilities of WinFlexOne are comparable to v5, WinFlexOne utilizes a simpler set of interfacesand product configurations that better accommodate the more limited administrative capabilities and needs of small employers.In 2013, we implemented a variety of new features to enhance the client and participant user experience on our platform. These included more client andparticipant optional mobile features such as; alerts and account notifications sent via text, the ability to order replacement debit cards online or throughinteractive voice response and the ability to repay an account online using a bank account, debit or credit card. We also enhanced the participant website toenable participants to access the full site and enjoy full functionality from any modern mobile device.Our client-focused enhancements included updates to the client website with an updated look and feel, year-over-year enrollment comparisons on the newgraphic dashboard, self-service enrollment tools and the ability to upload custom forms and documents for display on participants websites. In the fourthquarter of 2013, we focused on various enhancements to support the new carryover feature, as a result of IRS Notice 2013-71 issued on October 13, 2013which revised the “Use-it-or-Lose-it” provision, on both our enterprise and SMB platforms, enabling us to offer clients a range of options for both the 2013and 2014 plan years.Throughout 2013, we implemented enhancements to our internal applications, consolidated internal platforms and automated processes to moreefficiently implement and serve our users, including the ability to efficiently migrate new business from any acquired or partner legacy platform.OperationsOperation Support ServicesWe provide operational support services to our clients, including customer support center servicing and claims processing.Our customer support center servicing team is responsible for handling all incoming calls from our employee participants and is focused on continuallyimproving the participants’ customer service experience. Our team is trained to provide support on all our product offerings and is cross trained to support ourclaims servicing team. The customer support center servicing team is responsible for resolving any issues or problems an employee participant may have,including: education as to how our programs work; to what benefits an employee participant may be entitled; how to submit a claim for reimbursement; andwhy an employee participant may need to provide additional detail before a particular transaction is approved. We also have an executive escalations team thatis trained to respond to any significant service issues that arise. Our customer support center team serviced over 3.3 million calls in 2013. 7 Table of ContentsOur claims servicing team is responsible for processing all incoming claims for payment or reimbursement directly to providers or participants. Thisteam reviews and adjudicates claims to ensure they meet all compliance and employer plan requirements and communicates with participants regarding thestatus of their claims using our in-house claims center technology tool. Like the customer support center servicing team, the claims servicing team is trained tosupport the customer support center servicing team when demand dictates. In 2013, the claims servicing team processed over 8.6 million claims and card useverification forms.In an effort to increase our service efficiency and maintain our high-quality high-touch approach, we outsource and train additional resources that wecan use to support our customer support center and claims services teams during busy times such as open enrollment. All of these outsourced resources gothrough the same rigorous training as our own customer support center and claims servicing teams, and we believe that they provide the same level of qualityservice as our own employees.Our operations support team is also responsible for processing and coordinating all activities required to support our high volume transaction business,including: • managing prepaid funds and reimbursement payments from client employers to settle participant transactions; • monitoring all card spending, authorizations and settlements with the transaction processors; • delivering electronic and paper statements directly to participants; • delivering “explanation of benefits” forms directly to participants; • delivering healthcare and commuter cards and passes directly to participants; and • managing process improvement projects across our organization.Our operations support team utilizes both our v5 and WinFlexOne on-demand platforms to deliver products and services to clients and participants. Inaddition, we have supporting applications provided by third party vendors, the most significant of which is Fidelity National Information Services, whichprovides card network switching and settlement services, and Alegeus, which handles fulfillment of our printed healthcare statements, explanation of benefitsand payment statements and open enrollment guides.In 2013, our operations team delivered over 3.9 million healthcare and commuter prepaid debit cards, and we fulfill over 10.7 million commuter orderseach calendar year.We also have a professional services team that is responsible for coordinating all activities related to the implementation, transition and on-board of newemployer clients, assisting our existing clients with the addition of new services to their accounts and transitioning clients that we acquire from portfoliopurchases to our platforms. This team also coordinates project planning to ensure that the startup of new programs coincide with the employer client’s newplan year and acts as a client liaison to keep the client informed of the implementation status. In addition, our professional services team coordinates thecompletion of requests for proposals in response to new business prospects and works directly with all other functions in our organization to ensure eachemployer client receives consistent quality service.Employer Relationship ManagementWe assign each employer client to a regionally aligned account team with a relationship manager who functions as the client’s single point of contact. Ourrelationship managers are trained on all of our account offerings and receive prompt updates from internal subject matter experts on how regulatory oroperational changes may impact a particular program or procedure. Our account consultants, who are responsible for day-to-day management of client data,are subject matter experts on new or specific aspects of our business and work closely with the relationship manager to ensure that our employer clients receivehigh-quality consultative service. 8 Table of ContentsWe provide assistance to our enterprise clients with their open enrollment processes. Our employer clients have an annual open enrollment period duringwhich their employees have the opportunity to enroll, re-enroll or change their benefit elections for the upcoming plan year. We provide our employer clientswith tools, such as educational information, calculators, video, webinars and onsite support to help facilitate their open enrollment and help drive employeeparticipation in our programs.We also provide both pre- and post-enrollment consultation services to employer clients to ensure that they utilize our services in a way that fits with theiroverall approach to employee benefit plans for the upcoming year. These consultations include providing employer clients with robust data regarding spendpatterns, participation and service utilization, such as website usage, online claims submissions and participant feedback, to ensure maximum employeeparticipation in their benefits programs. Our Employer Relationship Management team also ensures that any platform or product changes are properlycommunicated to and adopted by our clients. Examples of these changes include service enhancements, such as online claims processing, the launch of ourmobile application and website process changes.We have relationships with a significant number of regional transit authorities, and have a large catalog of commuter pass offerings. Our EmployerRelationship Management team ensures that our commuter clients’ employee participants are kept informed about rate changes, new pricing schemes and theadoption of new technologies, such as smart cards.Sales and Business DevelopmentWe grow our employer client base through our various sales channels and through other business development efforts.SalesWe sell our CDB programs to our employer clients through five different sales channels, each of which targets a distinct group of clients.Direct Sales. Our direct sales force targets Enterprise, Mid-market and SMB companies and generates new account relationships through employerprospecting, consultant relationships and strategic partnerships. Our Enterprise team focuses on Fortune 1000 employers while our Mid-market and SMBteams focus on employers with fewer than 10,000 employees. Our sales process includes responding to requests for proposals, making client presentations andproviding demonstrations of our v5 platform, and is focused on both securing new accounts as well as cross-selling additional products to existing clients.SMB Distribution Channel. Our SMB distribution channel complements our direct sales channel and consists of third party advisors, includinginsurance agents and benefits consultants who typically have two to three enterprise clients and several hundred smaller employer clients, and institutionalresellers, including regional and national insurance carriers, health plans, payroll providers, commercial banks and TPAs, who sell our CDB programs tosmaller employers along with their own complementary products. We provide CDB programs to our resellers who either rebrand our programs under their ownname or co-brand the programs with us.Group Purchasing Organizations. We also sell our programs through group purchasing organizations in which we negotiate a standard servicecontract with group purchasing organizations that are formed by industry specific employers to cover their members. Once the standard contract and pricinghave been negotiated, we are able to add additional employers that are members of the group at a low incremental cost.Channel Partnerships. Channel partnerships involve an existing provider agreeing to transition its CDB clients to us over a defined period of time foran agreed upon purchase price. In these cases, we negotiate a master agreement with the channel partner that outlines the details of transitioning the CDB clientsfrom their 9 Table of Contentsplatform to ours. In all cases, we negotiate and execute new agreements (including Business Associate Agreements) with the transitioned clients and implementthem as new business. These channel partnerships also have a resale and referral component to them so we stand to derive additional opportunities from thesearrangements.Private Exchanges. The private exchange marketplace offers another opportunity for us to sell our programs. There are different private exchangemodels, some that cater to enterprise businesses and others that focus on mid-market and SMB companies. Depending on the type of exchange at issue, wehave an opportunity to offer some or all of our products. With these relationships, which can be exclusive or non-exclusive, we establish a standard masteragreement with the private exchange partner and then provide services to companies participating in such exchange that decide to include our products in theirdefined contribution offering to their employee base.Business DevelopmentIn addition to our sales channels, we utilize portfolio purchases as a business development strategy to broaden our employer client base and to acquirenew employer clients. Since 2007, we have purchased CDB portfolios of seven TPAs: MHM Resources, or MHM, in September 2007, Creative Benefits, orCB, in September 2008, Planned Benefit Systems, or PBS, in August 2010, the CDB assets of a division of Fringe Benefits Management Company, or FBM,in November 2010, CS in January 2012, BCI in December 2012 and CBS in May 2013. In addition, we completed one acquisition, TC. We migrate acquiredclients to our proprietary technology platforms over time following the completion of a portfolio purchase. The acquired portfolios often contain a mix of largeemployer clients and SMB clients. In general, larger clients will be transitioned to our v5 platform and smaller clients will be transitioned to the WinFlexOneplatform. This process is usually completed over a 12-to-24-month period. In connection with these portfolio purchases, we have leveraged the ease ofintegration and efficiencies afforded by our on-demand software platforms and cross-sold additional CDB products and services to many acquired employerclients.MarketingWe market ourselves as a leader in administering CDBs through three primary channels:Public CommunicationsOur public communications efforts include: • Our public websites, which include information about WageWorks, our CDB programs and developments in the CDB industry; • Our nationwide media campaign to educate the public about CDBs, which includes print, online and broadcast media stories, as well asutilization of social media; • Participation in trade shows, conferences and other events designed to educate the public about CDBs; and • Involvement with various industry organizations, such as the Employers Council on Flexible Compensation, the Special Interest Group for IIASStandards, the HSA Council and the Society of Human Resource Management.Client CommunicationsOur client communications initiatives include: • Publishing client newsletters with information about us, our products and the industry; • Providing clients with educational programs, such as webinars and white papers; 10 Table of Contents • Creating education and awareness tools for employees to support clients’ annual open enrollment processes; and • Providing clients with regulatory updates and guidance.Participant CommunicationsOur participant communications efforts include: • Providing online or paper open enrollment materials that are easy for participants to understand and use to make a decision; • Preparing welcome materials and introductory guides to help new participants get started; and • Providing ongoing educational resources for participants regarding program features, benefits and regulatory changes.We also regularly engage in advocacy efforts to educate legislators and regulators about the importance of retaining and expanding the availability ofCDBs for employees. For example, we worked closely with regulators to modify the use it or lose it rule resulting in the ability to carryover unused FSAdollars to future plan years. In addition, our agency comment letters improved the mechanical aspects of Health Reimbursement Arrangements by allowing forsimplified assessment of when an HRA is integrated and clarifying that certain HRAs can be considered excepted benefits. We continue to work on thelegislative front for transit to be included in a tax extenders package and for permanent parity between transit and parking.Government RegulationOur business is subject to extensive, complex and rapidly changing federal and state laws and regulations.IRS RegulationsWe are subject to applicable Internal Revenue Service regulations, which lay the foundation for tax savings and eligible expenses under the CDBprograms we administer. Each year, the IRS issues guidance regarding employee plans.ERISACertain of our CDB programs are covered by the Employee Retirement Income Security Act of 1974, as amended, or ERISA, which governs thestructure of “employee benefits plans.” ERISA does not apply to dependent care FSAs, HSAs or any of our commuter programs, and does not typically applyto agreements with churches or governments. ERISA generally imposes extensive reporting requirements on employers, as well as an obligation to providedetailed disclosure to covered individuals, which includes both employees and beneficiaries. The Department of Labor can bring enforcement actions or assesspenalties against employers for failing to comply with ERISA’s requirements. Participants may also file lawsuits against employers under ERISA.HIPAA, Privacy and Data Security RegulationsIn connection with processing data on behalf of our clients and participants, we frequently undertake or are subject to specific compliance obligationsunder privacy and data security-related laws, including the Health Insurance Portability and Accountability Act of 1996, or HIPAA, and related state laws.We are also subject to federal and state security breach notification laws, as well as state laws regulating the processing of personal information, includinglaws governing the collection, use and disclosure of social security numbers and related identifiers. As part of the payment-related aspects of our business, wemay also undertake security-related obligations arising out of the Gramm-Leach-Bliley Act and the Payment Card Industry guidelines applicable to cardsystems. 11 Table of ContentsDepartment of LaborThe Department of Labor, or the DOL, is responsible for issuing guidance under any component plans that are subject to ERISA, including healthcareFSAs and HRAs.The DOL issues regulations, technical releases and other pieces of guidance that apply to employee benefit plans generally. In addition, in response to arequest by an individual or an organization, the DOL’s Employee Benefits Security Administration may issue an advisory opinion that interprets and appliesERISA to a specific situation, including issues related to consumer-directed healthcare accounts.Centers for Medicare and Medicaid Services / Department of Health and Human ServicesThe Centers for Medicare and Medicaid Services, or CMS, is also involved in the oversight of the group health plans we administer as a division of theDepartment of Health and Human Services, or HHS. In addition to the IRS, Department of Treasury, and the Department of Labor, CMS has responsibilityfor enforcement and implementation of many of the requirements of health care reform. HHS has responsibility over enforcement of the HIPAA privacy rules.Healthcare ReformIn March 2010, the federal government enacted significant reforms to healthcare legislation through the Patient Protection and Affordable Care Act, orPPACA, and the Healthcare and Education Reconciliation Act of 2010, or HCERA. These laws amended various provisions in many federal laws, includingthe Internal Revenue Code of 1986, as amended, or the Code, and ERISA. These amendments include numerous coverage changes affecting group healthplans, which now apply to insurers and governmental plans, as well as employer-sponsored health plans, including self-insured plans.CompetitionThe market for CDBs is highly competitive, rapidly evolving and fragmented. Key categories of competitors include: • National CDB specialists, such as TASC, Inc.; • Health insurance carriers, such as Aetna or UHC; • Human resources consulting firms, such as Aon Hewitt; • Payroll providers, such as ADP or Paychexs; • Small regional TPAs focused on CDBs; and • Commercial banks, such as Bank of America.CDB sales opportunities are presented through a number of different channels and often involve direct competition and requests for proposal processes.Many of our competitors, such as health insurance carriers, payroll providers, human resources consulting firms and commercial banks, offer CDBprograms as non-core offerings bundled with their main products and services. We also compete against many regional TPAs who often lack sufficientresources to rapidly implement new technologies or to tailor their operations and service offerings in response to evolving rules and regulations. We furthercompete against the limited number of other CDB specialists.Our ability to compete successfully depends on a number of factors, including: • our products’ performance and cost relative to that of our competitors; • the quality of service that we provide to our employer clients and their employee participants; 12 Table of Contents • our ability to easily identify, acquire and integrate client portfolio purchases; and • our industry leadership and expertise.Some of our competitors have longer operating histories and significantly greater financial, technical, marketing and other resources than we do. As aresult, some of these competitors may choose to devote greater resources to the development, promotion, sale and support of their products and services. Webelieve our focus on CDB programs, our high quality service and our highly scalable delivery model are the principal basis on which we can compete in theCDB market. We cannot assure you that our products will continue to compete favorably or that we will be successful in the face of increasing competitionfrom new products and enhancements introduced by our existing competitors or new companies entering our market.Intellectual PropertyOur success depends in part on our ability to protect our core technology and intellectual property. To accomplish this, we rely on a combination ofpatent laws, trade secrets, including know-how, employee and third party nondisclosure agreements, copyright laws, trademarks, intellectual propertylicenses and other contractual rights to establish and protect our proprietary rights in our technology. We have one issued patent which expires in 2022.Despite our efforts to preserve and protect our proprietary and intellectual property rights, unauthorized third parties may attempt to copy, reverseengineer, or otherwise obtain portions of our products. Competitors may attempt to develop similar products that could compete in the same market as ourproducts. Unauthorized disclosure of our confidential information by our employees or third parties could occur.Third-party infringement claims are also possible in our industry, especially as software functionality and features expand, evolve, and overlap withother industry segments. Current and future competitors, as well as non-practicing patent holders, could claim at any time that some or all of our productsinfringe on patents they now hold or might obtain, or be issued in the future.EmployeesAt December 31, 2013, we had approximately 1,200 employees, including 1,068 full-time employees, 19 part-time employees and 110 temporary orseasonal employees. There are 125 employees located in our Northern California headquarters and the remainder are located in our various other officesthroughout the United States or work remotely from various locations. None of our employees are currently represented by labor unions or are covered by acollective bargaining agreement with respect to his or her employment. To date we have not experienced any work stoppages, and we consider our relationshipwith our employees to be good.Legal ProceedingsFrom time-to-time, we are subject to various legal proceedings that arise in the normal course of our business activities. In addition, from time-to-time,third parties may assert intellectual property infringement claims against us in the form of letters and other forms of communication. As of December 31,2013, we are not a party to any litigation whereby the outcome of which, if determined adversely to us, would individually or in the aggregate be reasonablyexpected to have a material adverse effect on our results of operations, prospects, cash flows, financial position or brand. 13 Table of ContentsItem 1A. Risk FactorsRISK FACTORSYou should carefully consider the risks described below together with the other information set forth in this report, which could materially affectour business, financial condition and future results. The risks described below are not the only risks facing our company. Risks and uncertainties notcurrently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and operatingresults. If any of the following risks is realized, our business, financial condition, results of operations and prospects could be materially and adverselyaffected. In that event, the trading price of our common stock could decline.Our business is dependent upon the availability of tax-advantaged consumer-directed benefits to employers and employees and any diminution in,elimination of, or change in the availability of, these benefits would materially adversely affect our results of operations, financial condition,business and prospects.Our business fundamentally depends on employer and employee demand for tax-advantaged Consumer-Directed Benefits, or CDBs. Any diminution inor elimination of the availability of CDBs for employees would materially adversely affect our results of operations, financial condition, business andprospects. In addition, incentives for employers to offer CDBs may also be reduced or eliminated by changes in laws that result in employers no longerrealizing financial gain from the implementation of these benefits. If employers cease to offer CDB programs or reduce the number of programs they offer totheir employees, our results of operations, financial condition, business and prospects would also be materially adversely affected. We are not aware of anyreliable statistics on the growth of CDB programs and cannot assure you that participation in CDB programs will grow.In addition, if the payroll tax savings employers currently realize from their employees’ utilization of CDBs become reduced or unavailable, employersmay be less inclined to offer these programs to their employees. If the tax savings currently realized by employee participants by utilizing CDBs were reducedor unavailable, we expect employees would correspondingly reduce or eliminate their participation in such CDB plans. Any such reduction in employer oremployee incentives would materially adversely affect our results of operations, financial condition, business and prospects.Future portfolio purchases and acquisitions are an important aspect of our growth strategy, and any failure to successfully identify, acquire orintegrate acquisitions or additional portfolio targets could materially adversely affect our ability to grow our business. In addition, costs ofintegrating acquisitions and portfolio purchases may adversely affect our results of operations in the short term.Our recent growth has been, and our future growth will be, substantially dependent on our ability to continue to make and integrate acquisitions andcomplementary portfolio purchases to expand our employer client base and service offerings. Since 2007, we have completed seven portfolio purchases and oneacquisition. Our most recent portfolio purchases of Benefit Concepts, Inc., or BCI, and Crosby Benefit Systems, Inc., or CBS, were completed in December2012 and May 2013, respectively. Our successful integration of these portfolio purchases and acquisitions into our operations on a cost-effective basis iscritical to our future financial performance. While we believe that there are numerous potential portfolio purchases that would add to our employer client baseand service offerings, we cannot assure you that we will be able to successfully make a sufficient number of such portfolio purchases in a timely and effectivemanner in order to support our growth objectives. In addition, the process of integrating portfolio purchases and our most recent acquisition may createunforeseen difficulties and expenditures. We face various risks in making portfolio purchases and any acquisition, including: • our ability to retain acquired employer clients and their associated revenues; • diversion of management’s time and focus from operating our business to address integration challenges; • our ability to retain or replace key employees from acquisitions and portfolios we acquire; 14 Table of Contents • cultural and logistical challenges associated with integrating employees from acquired portfolios into our organization; • our ability to integrate the combined products, services and technology; • the migration of acquired employer clients to our technology platforms; • our ability to cross-sell additional CDB programs to acquired employer clients; • our ability to realize expected synergies; • the need to implement or improve internal controls, procedures and policies appropriate for a public company at businesses that, prior to theportfolio purchase or acquisition, may have lacked effective controls, procedures and policies, including, but not limited to, processes requiredfor the effective and timely reporting of the financial condition and results of operations of the acquired business, both for historical periods priorto the acquisition and on a forward-looking basis following the acquisition; • possible write-offs or impairment charges that result from acquisitions and portfolio purchases; • unanticipated or unknown liabilities that relate to purchased businesses; • the need to integrate purchased businesses’ accounting, management information, human resources, and other administrative systems to permiteffective management; and • any change in one of the many complex federal or state laws or regulations that govern any aspect of the financial or business operations of ourbusiness and businesses we acquire, such as state escheatment laws.Portfolio purchases and acquisitions may have a short-term material adverse impact on our results of operations, including a potential material adverseimpact on our cost of revenues, as we seek to migrate acquired employer clients to our proprietary technology platforms, typically over the succeeding 12 to 24months, in order to achieve additional operating efficiencies. For example, our cost of revenues in 2013 included additional expenses of $12.1 million due tothe purchases of BCI and CBS. Additionally, from time to time, we may incur material costs and charges related to consolidating our operations following ourportfolio purchases and acquisitions.If we are unable to retain and expand our employer client base and establish new channel partnerships, our results of operations, financialcondition, business and prospects would be materially adversely affected.Most of our revenue is derived from the long term, multi-year agreements that we typically enter into with our employer clients. The initial subscriptionperiod is typically three years for our larger employer clients, which we refer to as enterprise clients, and one to three years for our small- and medium-sizedbusiness, or SMB, clients. We also derive revenue from our channel partner agreements with American Family Life Assurance Company, or Aflac, andCeridian. We anticipate in the future establishing new channel partnerships with other companies. Our employer clients, however, have no obligation to renewtheir agreements with us after the initial term and we cannot assure you that our employer clients will continue to renew their agreements at the same rate, if atall. In addition, employer clients transitioning to us from a channel partner have no obligation to enter into agreements with us and, if they do, there is noguarantee that they will renew their agreements with us after the initial transition period.Moreover, most of our employer clients have the right to cancel their agreements for convenience, subject to certain notice requirements. While fewemployer clients have terminated their agreements with us for convenience, some of our employer clients have elected not to renew their agreements with us. Ouremployer clients’ renewal rates may decline or fluctuate as a result of a number of factors, including the prices of competing products or services or reductionsin our employer clients’ spending levels. 15 Table of ContentsAnother important aspect of our growth strategy depends upon our ability to maintain our existing channel partner relationships and develop newrelationships. No assurance can be given that new channel partners will be found, that any such new relationships will be successful when they are in place,or that business with our current channel partners will increase at the level necessary to support our growth objectives. If our employer clients do not renewtheir agreements with us, and we are unable to attract new employer clients or channel partners, our revenue may decline and our results of operations,financial condition, business and prospects may be materially adversely affected.The market for our services may not grow if our marketing efforts do not successfully raise awareness among employers and employees about theadvantages of adopting and participating in CDB programs.Our revenue model is substantially based on the number of employee participants enrolled in the CDB programs that we administer. We devotesignificant resources to educating both employers and their employees on the potential cost savings available to them from utilizing CDB programs. We havecreated various marketing, educational and awareness tools to inform employers about the benefits of offering CDB programs to their employees and how ourservices allow them to offer these benefits in an efficient and cost effective manner. We also provide marketing information to employees that informs themabout the potential tax savings they can achieve by utilizing CDB programs to pay for their healthcare, commuter and other benefit needs. However, if moreemployers and employees do not become aware of or understand these potential cost savings and choose to adopt CDB programs, our results of operations,financial condition, business and prospects may be materially adversely affected.In addition, there is no guarantee that the market for our services will grow as we expect. For example, the value of our services is directly related to thecomplexity of administering CDB programs and government action that significantly reduces or simplifies these requirements could reduce demand or pricingfor our services. Further, employees may not participate in CDB programs because they have insufficient funds to set aside into such programs, find the rulesregarding use of such program too complex, or otherwise. If the market for our services declines or develops more slowly than we expect, or the number ofemployer clients that select us to provide CDB programs to their employee participants declines or fails to increase as we expect, our results of operations,financial condition, business and prospects could be materially adversely affected.Our business and prospects may be materially adversely affected if we are unable to cross-sell our products and services.A significant component of our growth strategy is the increased cross-selling of products and services to current and future employer clients. Inparticular, many of our employer clients use only one of our products so we expect our ability to cross-sell our commuter programs to our healthcare programclients and our healthcare programs to our commuter employer clients to be an important part of this strategy. We may not be successful in cross-selling ourproducts and services if our employer clients find our additional products and services to be unnecessary or unattractive. Any failure to sell additionalproducts and services to current and future clients could materially adversely affect our results of operations, financial condition, business and prospects.We may be unable to compete effectively against our current and future competitors.The market for our products and services is highly competitive, rapidly evolving and fragmented. We have numerous competitors, including healthinsurance carriers, such as Aetna, human resources consultants and outsourcers, such as Aon Hewitt, payroll providers, such as ADP, national CDBspecialists, such as TASC, and regional third party administrators and commercial banks, such as Bank of America. Many of our competitors, includinghealth insurance carriers, have longer operating histories and significantly greater financial, technical, marketing and other resources than we have. As aresult, some of these competitors may be in a position to devote greater resources to the development, promotion, sale and support of their products andservices. 16 Table of ContentsIn addition, if one or more of our competitors were to merge or partner with another of our competitors, the change in the competitive landscape couldmaterially adversely affect our ability to compete effectively. Our competitors may also establish or strengthen cooperative relationships with our current orfuture strategic brokers, insurance carriers, payroll services companies, private exchanges, third party advisors or other parties with which we haverelationships, thereby limiting our ability to promote our CDB programs with these parties and limiting the number of brokers available to sell or market ourprograms. If we are unable to compete effectively with our competitors for any of the foregoing reasons, our results of operations, financial condition, businessand prospects could be materially adversely affected.Changes in healthcare, security and privacy laws and other regulations applicable to our business may constrain our ability to offer our productsand services.Changes in healthcare or other laws and regulations applicable to our business may occur that could increase our compliance and other costs of doingbusiness, require significant systems enhancement, or render our products or services less profitable or obsolete, any of which could have a material adverseeffect on our results of operations.The Patient Protection and Affordable Care Act signed into law on March 23, 2010 and related regulations or regulatory actions could adversely affectour ability to offer certain of our CDBs in the manner that we do today or may make CDBs less attractive to some employers. For example, any new laws thatincrease reporting and compliance burdens on employers may make them less likely to offer CDBs to their employees and instead offer employees benefitcoverage through public exchanges. In addition, it is unclear whether the “Cadillac Tax” set to become effective in 2018 will apply proportionately to anemployer’s total health care costs including health related CDBs or if health related CDBs will be exempt from the calculation. If employers are lessincentivized to offer our CDB programs to employees because of increased regulatory burdens, costs or otherwise, our results of operations and financialcondition could be materially adversely affected.In addition, the numerous federal and state laws and regulations related to the privacy and security of personal health information, in particular thosepromulgated pursuant to the Health Insurance Portability and Accountability Act of 1996, or HIPAA, require the implementation of administrative, physicaland technological safeguards to ensure the confidentiality and integrity of individually identifiable health information in electronic form. We are required toenter into written agreements with all of our employer clients known as Business Associated Agreements. Pursuant to these agreements, and as our employerclient’s “Business Associate” thereunder, we are required to safeguard all individually identifiable health information of their participating employees and arerestricted in how we use and disclose such information. These agreements also contain data security breach notification requirements which, in somecircumstances, may be more stringent than HIPAA requirements. As we are unable to predict what changes to HIPAA or other privacy and security laws orregulations might be made in the future, we can’t be certain how those changes could affect our business or the costs of compliance.We plan to extend and expand our products and services and introduce new products and services, and we may not accurately estimate the impactof developing and introducing these products and services on our business.We intend to continue to invest in technology and development to create new and enhanced products and services to offer our employer clients and theirparticipating employees. During this past year, we have added several new features to our participant site and have continued to enhance the site’s mobilecompatibility. We also added more functionality to our EZ Receipts mobile application to enable participants to track and monitor their account informationand activity on the go. To increase the value we deliver to our clients, we have also updated the look and feel of our client facing website with the addition of anew graphic dashboard providing users access to key metrics. Scalability of our platform also remains an on-going focus as our platform volume 17 Table of Contentsincreases. We continue to make investments in technology stack upgrades, to ensure stability and performance of our applications for our clients andparticipants. Our health and wellness offerings continue to be expanded to include online claims for our wellness product and the integration of a WellnessPortal to provide our users with the most up-to-date health and wellness information. We have limited experience in these areas and so we may not be able toanticipate or manage new risks and obligations or legal, compliance or other requirements that may arise. The anticipated benefits of such new and improvedproducts and services may not outweigh the costs and resources associated with their development.Our ability to attract and retain new employer clients and increase revenue from existing employer clients will depend in large part on our ability toenhance and improve our existing products and services and to introduce new products and services. The success of any enhancement or new product orservice depends on several factors, including the timely completion, introduction and market acceptance of the enhancement or new product or service. Anynew product or service we develop or acquire may not be introduced in a timely or cost-effective manner and may not achieve the broad market acceptancenecessary to generate significant revenue. If we are unable to successfully develop or acquire new products or services or enhance our existing products orservices to meet client requirements, our results of operations, financial condition, business or prospects may be materially adversely affected.If we fail to manage future growth effectively, we may not be able to market and sell our products and services successfully.We have expanded our operations significantly in recent years and anticipate that further expansion will be required in order for us to grow our business.If we do not effectively manage our growth, the quality of our services could suffer, which could materially adversely affect our results of operations, financialcondition, business and prospects, and damage our brand and reputation among existing and prospective clients. In order to manage our future growth, wewill need to hire, integrate and retain highly skilled and motivated employees. We will also be required to continue to improve our existing systems foroperational and financial information management, including our reporting systems, procedures and controls and regulatory compliance processes. Theseimprovements may require significant capital expenditures and will place increasing demands on our management. We may not be successful in managing orexpanding our operations, or in maintaining adequate operating and financial information systems and controls. If we are not successful in implementingimprovements in these areas, our results of operations, financial condition, business and prospects would be materially adversely affected.General economic and other conditions may adversely affect trends in employment and hiring patterns, which could result in lower employeeparticipation in CDB programs, which would materially adversely affect our results of operations, financial condition, business and prospects.Our revenue is attributable to the number of employee participants at each of our employer clients, which in turn is influenced by the employment andhiring patterns of our employer clients. To the extent our employer clients freeze or reduce their headcount or wages paid because of general economic or otherconditions, demand for our programs may decrease, which could materially adversely affect our results of operations, financial condition, business andprospects.Failure to effectively develop and expand our direct and indirect sales channels may materially adversely affect our results of operations, financialcondition, business and prospects and reduce our growth.We will need to continue to expand our sales and marketing infrastructure in order to grow our employer client base and our business. We rely on ourenterprise sales force to target new Fortune 1000 client accounts and sell into the private exchanges, as well as to cross-sell additional products and services toour existing enterprise clients. Effectively training our sales personnel requires significant time, expense and attention. In addition, we utilize various channelbrokers, including insurance agents, benefits consultants, regional and national insurance 18 Table of Contentscarriers, health plans, payroll companies, banks and regional TPAs, to sell and market our programs to SMB employers. If we are unable to develop andexpand our direct sales team, these indirect sales channels, or become a partner to more private exchanges, our ability to attract new employer clients, become aprivate exchange partner and cross-sell our programs may be negatively impacted and our growth opportunities will be reduced, each of which wouldmaterially adversely affect our results of operations, financial condition, business and prospects.If our efforts to develop and expand our direct and indirect sales channels do not generate a corresponding increase in revenue, our business may bematerially adversely affected. In particular, if we are unable to effectively train our sales personnel or if our direct sales personnel are unable to achieve expectedproductivity levels in a reasonable period of time, we may not be able to increase our revenue and grow our business.Long sales cycles make the timing of our long-term revenues difficult to predict.Our average sales cycle ranges from approximately two months for SMBs to six to nine months for our large institutional clients, and, in some cases,even longer depending on the size of the potential client. Factors that may influence the length of our sales cycle include: • the need to educate potential employer clients about the uses and benefits of our CDB programs; • the relatively long duration of the commitment clients make in their agreements with us or with pre-existing plan administrators; • the discretionary nature of potential employer clients’ purchasing and budget cycles and decisions; • the competitive nature of potential employer clients’ evaluation and purchasing processes; • fluctuations in the CDB program needs of potential employer clients; and • lengthy purchasing approval processes of potential employer clients.The fluctuations that result from the length of our sales cycle may be magnified for large- and mid-sized potential employer clients. If we are unable toclose an expected significant transaction with one or more of these potential clients in the anticipated period, our operating results for that period, and for anyfuture periods in which revenue from such transaction would otherwise have been recognized, would be harmed.Our business and operational results are subject to seasonality as a result of open enrollment for CDB programs and decreased use of commuterprogram offerings during typical vacation months.The number of accounts that generate revenue is typically greatest during our first calendar quarter. This is primarily due to two factors. First, newemployer clients and their employee participants typically begin service on January 1. Second, during the first calendar quarter, we are also servicing the endof plan year activity for existing clients, including assisting our clients with initiating the deduction of healthcare premiums on a tax deferred basis, andemployee participants who do not continue participation into the next plan year.Generally, in comparison to other quarters, our revenue is highest in the first quarter and lowest in the second and third quarters. Thereafter, our revenuegenerally grows gradually in the fourth quarter as our employer clients hire new employees who then elect to participate in our programs, thereby increasing ourmonthly minimum billing amount. The minimum billing amount is not, however, generally subject to downward revision when employees leave theiremployers because we continue to administer those former employee participants’ accounts for the remainder of the plan year. Revenue from commuterprograms may vary from month-to-month because employees may elect to participate in our commuter programs at any time during the year and may changetheir election to participate or the amount of their contribution on a monthly basis; however, participation rates in our commuter business typically slowduring the summer as people take vacations and do not purchase transit passes or parking passes during that time. 19 Table of ContentsOur operating expenses increase during the fourth quarter because of increased debit card production and because we increase our customer supportcenter capacity to answer questions from employee participants during the open enrollment periods related to their CDB participation decisions. The cost ofproviding services peaks in the first quarter as new employee participants contact us for information about their CDBs, and as terminating employeeparticipants submit their final claims for reimbursement.Our operating results can fluctuate from period to period, which could cause our share price to fluctuate.Fluctuations in our quarterly operating results could cause our stock price to decline rapidly, may lead analysts to change their long-term models forvaluing our common stock, could cause short-term liquidity issues, may impact our ability to retain or attract key personnel or cause other unanticipatedissues. If our quarterly operating results or guidance fall below the expectations of research analysts or investors, the price of our common stock could declinesubstantially. Our quarterly operating expenses and operating results may vary significantly in the future and period-to-period comparisons of our operatingresults may not be meaningful. You should not rely on the results of one quarter as an indication of future performance.If employee participants do not continue to utilize our prepaid debit cards or choose to use PIN rather than signature enabled prepaid debit cards,our results of operations, business and prospects could be materially adversely affected.We derive a portion of our revenue from interchange fees that are paid to us when employee participants utilize our prepaid debit cards to pay for certainhealthcare and commuter expenses under CDB programs. These fees represent a percentage of the expenses transacted on each debit card. If our employerclients do not adopt these prepaid debit cards as part of the benefits programs they offer, if the employee participants do not use them at the rate we expect, ifemployee participants choose to process their transactions over PIN networks rather than signature networks or if other alternatives to prepaid tax-advantagedbenefit cards develop, our results of operations, business and prospects could be materially adversely affected.If we are unable to maintain and enhance our brand and reputation, our ability to sustain and grow our business may be materially adverselyaffected.Maintaining and strengthening our brand is critical to attracting new clients and growing our business. Our ability to maintain and strengthen our brandand reputation will depend heavily on our capacity to continue to provide high levels of customer service to our employer clients and their employeeparticipants at cost effective and competitive prices, which we may not do successfully. In addition, our continued success depends, in part, on our reputationas an industry leader in promoting awareness and understanding of the positive impact of CDBs among employers and employees. If we fail to successfullymaintain and strengthen our brand, our results of operations, financial condition, business and prospects will be materially adversely affected.Some plan providers with which we have relationships also provide, or may provide, competing services.We face competitive risks in situations where some of our strategic partners are also current or potential competitors. For example, certain of the bankswe utilize as custodians of the funds for our HSA employee participants also offer their own HSA products. To the extent that these partners choose to offercompeting products and services that they have developed or in which they have an interest to our current or potential clients, our results of operations,business and prospects could be materially adversely affected.We are subject to complex regulation, and any compliance failures or regulatory action could materially adversely affect our business.The plans we administer and, as a result, our business are subject to extensive, complex and continually changing federal and state laws andregulations, including the Affordable Care Act, IRS regulations, ERISA, privacy and HIPAA regulations and Department of Labor regulations, all of whichare further described in 20 Table of Contents“Business — Government Regulation” above. If we fail to comply with any applicable law, rule or regulation, we could be subject to fines and penalties,indemnification claims by our clients, or become the subject of a regulatory enforcement action, each of which would materially adversely affect our businessand reputation.We may also become subject to additional regulatory and compliance requirements as a result of changes in laws or regulations, or as a result of anyexpansion or enhancement of our existing products and services or the development of any new products or services in the future. For example, if we expandour product and service offerings into the health insurance market in the future, we would become subject to state Department of Insurance regulations.Compliance with any new regulatory requirements may divert internal resources and take significant time and effort.Any claims of noncompliance brought against us, regardless of merit or ultimate outcome, could subject us to investigation by the Department of Labor,the Internal Revenue Service, the Centers for Medicare and Medicaid Services, the Treasury Department or other federal and state regulatory authorities, whichcould result in substantial costs to us and divert management’s attention and other resources away from our operations. In addition, investor perceptions of usmay suffer and could cause a decline in the market price of our common stock. Our compliance processes may not be sufficient to prevent assertions that wefailed to comply with any applicable law, rule or regulation.Failure to ensure and protect the confidentiality of participant data could lead to legal liability, adversely affect our reputation and have a materialadverse effect on our results of operations, business or financial condition.We must collect, store and use employee participants’ confidential information, including the transmission of that data to third parties, to provide ourservices. For example, we collect names, addresses, social security numbers and other personally identifiable information from employee participants. Inaddition, we facilitate the issuance and funding of prepaid debit cards and, in some cases, collect bank routing information, account numbers and personalcredit card information for purposes of funding an account or issuing a reimbursement. We have invested significantly in preserving the security of this data.In addition, we outsource customer support center services and claims processing services to third-party subcontractors to whom we transmit certainconfidential information of our employee participants. We have security measures in place with each of these subcontractors to protect this confidentialinformation, including written agreements that outline how protected health information will be handled and shared. However, there are no assurances thatthese measures, or any additional security measures that our subcontractors may have in place, will be sufficient to protect this outsourced confidentialinformation from unauthorized security breaches.We cannot assure you that, despite the implementation of these security measures, we will not be subject to a security breach or that this data will not becompromised. We may be required to expend significant capital and other resources to protect against security breaches or to alleviate problems caused bysecurity breaches, or to pay penalties as a result of such breaches. Despite our implementation of security measures, techniques used to obtain unauthorizedaccess or to sabotage systems change frequently. As a result, we may be unable to anticipate these techniques or implement adequate preventative measures toprotect this data. Any compromise or perceived compromise of our security could damage our reputation with our clients and brokers, and could subject us tosignificant liability, as well as regulatory action, including financial penalties, which would materially adversely affect our brand, results of operations,financial condition, business and prospects.Privacy concerns could require us to modify our operations.As part of our business, we collect employee participants’ personal data for the sole purpose of processing their benefits. For privacy or securityreasons, privacy groups, governmental agencies and individuals may seek to restrict or prevent our use of this data. We have incurred, and will continue toincur, expenses to comply with 21 Table of Contentsprivacy and security standards and protocols imposed by law, regulation, industry standards or contractual obligations. Increased regulation of datautilization and distribution practices, including self-regulation, could require us to modify our operations and incur significant additional expense, whichcould have a material adverse effect on our results of operations, financial condition, business and prospects.If we fail to effectively upgrade our information technology systems, our business and operations could be disrupted.As part of our efforts to continue the improvement of our enterprise resource planning, we plan to upgrade our existing information technology systemsin order to automate several controls that are currently performed manually. We may experience difficulties in transitioning to these upgraded systems,including loss of data and decreases in productivity as personnel work to become familiar with these new systems. In addition, our management informationsystems will require modification and refinement as we grow and as our business needs change, which could prolong difficulties we experience with systemstransitions, and we may not always employ the most effective systems for our purposes. If we experience difficulties in implementing new or upgradedinformation systems or experience significant system failures, or if we are unable to successfully modify our management information systems or respond tochanges in our business needs, we may not be able to effectively manage our business and we may fail to meet our reporting obligations.Our future success depends on our ability to recruit and retain qualified employees, including our executive officers and directors.Our success is substantially dependent upon the performance of our senior management, such as our chief executive officer. Our management andemployees may terminate their employment at any time, and the loss of the services of any of our executive officers could materially adversely affect ourbusiness. Our success is also substantially dependent upon our ability to attract additional personnel for all areas of our organization. Competition forqualified personnel is intense, and we may not be successful in attracting and retaining such personnel on a timely basis, on competitive terms or at all.Additionally, it may be more difficult for us to attract and retain qualified individuals to serve on our board of directors or as our executive officers due topotential liability concerns related to serving on a public company. If we are unable to attract and retain the necessary personnel, our results of operations,financial condition, business and prospects would be materially adversely affected.Changes in credit card association or other network rules or standards set by Visa or MasterCard, or changes in card association and debitnetwork fees or products or interchange rates, could materially adversely affect our results of operations, business and financial position.We, and the banks that issue our prepaid debit cards, are subject to Visa and MasterCard association rules that could subject us to a variety of fines orpenalties that may be levied by the card associations or networks for acts or omissions by us or businesses that work with us, including card processors,such as Alegius. The termination of the card association registrations held by us or any of the banks that issue our cards, or any changes in card associationor other debit network rules or standards, including interpretation and implementation of existing rules, participants deciding to use PIN networks, standardsor guidance that increase the cost of doing business or limit our ability to provide our products and services, or limit our ability to receive interchange, couldhave a material adverse effect on our results of operations, financial condition, business and prospects. In addition, from time-to-time, card associationsincrease the organization or processing fees that they charge, which could increase our operating expenses, reduce our profit margin and materially adverselyaffect our results of operations, financial condition, business and prospects. 22 Table of ContentsWe have entered into outsourcing and other agreements with third parties related to certain of our business operations, and any difficultiesexperienced in these arrangements could result in additional expense, loss of revenue or an interruption of our services.We have entered into outsourcing agreements with third parties to provide certain customer service and related support functions to our employer clientsand their employee participants. As a result, we rely on third parties over which we have limited control. If these third parties are unable to perform to ourrequirements or to provide the level of service required or expected by our employer clients, including ensuring the privacy and integrity of individuallyidentifiable health information that they may be privy to as a result of the services they perform for our employer clients and their employee participants, ouroperating results, financial condition, business, prospects and reputation may be materially harmed. In addition, we may be forced to pursue alternativestrategies to provide these services, which could result in delays, interruptions, additional expenses and loss of clients and related revenues.If our intellectual property and technology are not adequately protected to prevent use or appropriation by our competitors, our business andcompetitive position could be materially adversely affected.We rely on a combination of copyright, trademark and trade secret laws, as well as confidentiality procedures and contractual provisions, to establishand protect our intellectual property rights in the United States.The efforts we have taken to protect our intellectual property may not be sufficient or effective, and our trademarks and copyrights may be held invalidor unenforceable. We may not be effective in policing unauthorized use of our intellectual property, and even if we do detect violations, litigation may benecessary to enforce our intellectual property rights. Any enforcement efforts we undertake, including litigation, could be time consuming and expensive, coulddivert our management’s attention and may result in a court determining that our intellectual property rights are unenforceable. If we are not successful in cost-effectively protecting our intellectual property rights, our results of operations, financial condition, business and prospects could be materially adverselyaffected.Our ability to use net operating loss carryforwards to offset future taxable income may be limited.As of December 31, 2013, we had $54.6 million of federal and $96.4 million of state net operating loss carryforwards available to offset future taxableincome. These net operating loss carryforwards will expire beginning in 2024 through 2029 for U.S. federal income tax purposes and beginning in 2015through 2033 for state income tax purposes, if not fully utilized. In addition, we have federal and state research and development credit carryforwards ofapproximately $4.3 million and $2.0 million respectively. The federal research credit carryforwards expire beginning in 2022 through 2033, if not fullyutilized. The California research credit carries forward indefinitely. Our ability to utilize net operating loss and tax credit carryforwards are subject torestrictions, including limitations in the event of past or future ownership changes as defined in Section 382 of the Internal Revenue Code (“IRC”) of 1986, asamended, and similar state tax law. In general, an ownership change occurs if the aggregate stock ownership of certain stockholders increases by more than 50percentage points over such stockholders’ lowest percentage ownership during the testing period (generally three years). We have considered Section 382 of theIRC and concluded that any ownership change would not diminish our utilization of our net operating loss or our research and development credits during thecarryover periods.If one or more jurisdictions successfully assert that we should have collected or in the future should collect additional sales and use taxes on ourfees, we could be subject to additional liability with respect to past or future sales and the results of our operations could be adversely affected.Sales and use tax laws and rates vary by jurisdiction and such laws are subject to interpretation. In those jurisdictions where we believe sales taxes areapplicable, we collect and file timely sales tax returns. Currently, 23 Table of Contentssuch taxes are minimal. Jurisdictions in which we do not collect sales and use taxes may assert that such taxes are applicable, which could result in theassessment of such taxes, interest and penalties, and we could be required to collect such taxes in the future. This additional sales and use tax liability couldadversely affect our results of operations.Third parties may assert intellectual property infringement claims against us, or our services may infringe the intellectual property rights of thirdparties, which may subject us to legal liability and materially adversely affect our reputation.Assertion of intellectual property infringement claims against us could result in litigation. We might not prevail in any such litigation or be able to obtaina license for the use of any infringed intellectual property from a third party on commercially reasonable terms, or at all. Even if obtained, we may be unable toprotect such licenses from infringement or misuse, or prevent infringement claims against us in connection with our licensing efforts. Any such claims,regardless of their merit or ultimate outcome, could result in substantial cost to us, divert management’s attention and our resources away from our operationsand otherwise adversely affect our reputation. Our process for controlling our own employees’ use of third-party proprietary information may not be sufficientto prevent assertions of intellectual property infringement claims against us.We rely on insurance to mitigate some risks of our business and, to the extent the cost of insurance increases or we maintain insufficientcoverage, our results of operations, business and financial condition may be materially adversely affected.We contract for insurance to cover a portion of our potential business risks and liabilities. In the current environment, insurance companies areincreasingly specific about what they will and will not insure. It is possible that we may not be able to obtain sufficient insurance to meet our needs, may haveto pay very high prices for the coverage we do obtain or may not acquire any insurance for certain types of business risk including those related to cybersecurity matters. This could leave us exposed, and to the extent we incur liabilities and expenses for which we are not adequately insured, our results ofoperations, business and financial condition could be materially adversely affected. Also, to the extent the cost of maintaining insurance increases, ouroperating expenses will rise, which could materially adversely affect our results of operations, financial condition, business and prospects.We will continue to incur increased costs and demands upon management as a result of complying with the laws and regulations that affect publiccompanies, which could materially adversely affect our results of operations, financial condition, business and prospects.We were an “emerging growth company” until December 31, 2013, at which point we became a large accelerated filer and became subject to therequirements of Section 404 and other provisions of Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, for our audited 2013 financials.As a public company and particularly now that we have ceased to be an “emerging growth company,” we will continue to incur significant legal,accounting and other expenses that we did not incur as a private company, including costs associated with public company reporting and corporate governancerequirements. These requirements include compliance with Section 404 and other provisions of the Sarbanes-Oxley Act, as well as rules implemented by theSEC and the NYSE. We expect that compliance with these rules and regulations will substantially increase our legal and financial compliance costs and willmake some activities more time-consuming and costly.We have experienced an increase in legal, accounting and other professional fees in 2013 associated with preparing our control environment to becompliant with Section 404 and other provisions of the Sarbanes-Oxley Act. If these requirements divert our management’s attention from other businessconcerns, they could have a material adverse effect on our results of operations, financial condition, business and prospects. 24 Table of ContentsAs a public company, we are required to maintain a system of effective control over financial reporting. In the past significant deficiencies in ourinternal control over financial reporting have been identified. If our internal controls are not effective, there may be errors in our financialinformation that could require a restatement or delay our SEC filings, and investors may lose confidence in our reported financial information,which could lead to a decline in our stock price.We have, in the past, experienced issues with our internal control over financial reporting and it is possible that we may discover significant deficienciesor material weaknesses in our internal control over financial reporting in the future. Any failure to maintain or implement required new or improved controls,or any difficulties we encounter in their implementation, could cause us to fail to meet our periodic reporting obligations, or result in material misstatements inour financial information. Any such delays or restatements could cause investors to lose confidence in our reported financial information and lead to a declinein our stock price.Substantial sales of our common stock by our stockholders could depress the market price of our common stock regardless of our operatingresults.Sales of substantial amounts of our common stock in the public market, or the perception that these sales could occur, could adversely affect themarket price of our common stock and impair our ability to raise capital through offerings of our common stock. As of December 31, 2013, we had34,746,115 shares of our common stock outstanding. In addition, as of December 31, 2013, there were outstanding options to purchase 2,988,678 shares ofour common stock and 383,500 restricted stock units. Substantially all of our outstanding common stock is eligible for sale, subject to Rule 144 volumelimitations for holders affected by such limitations, as are common stock issuable under vested and exercisable options. If our existing stockholders sell alarge number of common stock or the public market perceives that existing stockholders might sell our common stock, the market price of our common stockcould decline significantly. These sales might also make it more difficult for us to sell equity securities at a time and price that we deem appropriate.Our stock price has fluctuated and may continue to do so and may even decline regardless of our financial performance.The market price of our common stock has fluctuated and may continue to fluctuate significantly in response to numerous factors, many of which arebeyond our control, including: • actual or anticipated fluctuations in our financial results; • the financial projections we provide to the public, any changes in these projections or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of our company, changes in financial estimates by any securities analysts who followour company, or our failure to meet these estimates or the expectations of investors; • ratings changes by any securities analysts who follow our company; • announcements by us or our competitors of significant technical innovations, acquisitions, strategic partnerships, joint ventures or capitalcommitments; • changes in operating performance and stock market valuations of other newly public companies generally, or those in our industry in particular; • changes brought about by health care reform and the emergence of federal, state and private exchanges; • price and volume fluctuations in the overall stock market, including as a result of trends in the global economy; 25 Table of Contents • any major change in our board of directors or management; • lawsuits threatened or filed against us; and • other events or factors, including those resulting from war, incidents of terrorism or responses to these events.In addition, in the past, following periods of volatility in the overall market and the market price of a particular company’s securities, securities classaction litigation has often been instituted against such a company. If securities class action litigation is instituted against us, it could result in substantial costsand a diversion of our management’s attention and resources and could materially adversely affect our operating results.Anti-takeover provisions contained in our amended and restated certificate of incorporation and amended and restated bylaws, as well asprovisions of Delaware law, could impair a takeover attempt.Our amended and restated certificate of incorporation, amended and restated bylaws and Delaware law contain provisions that could have the effect ofdelaying, preventing or rendering more difficult an acquisition of us if such acquisition is deemed undesirable by our board of directors. Our corporategovernance documents include provisions that: • create a classified board of directors whose members serve staggered three-year terms; • authorize “blank check” preferred stock, which could be issued by the board of directors without stockholder approval and may contain voting,liquidation, dividend and other rights superior to our common stock; • limit the ability of our stockholders to call and bring business before special meetings; • require advance notice of stockholder proposals for business to be conducted at meetings of our stockholders and for nominations of candidatesfor election to our board of directors; • control the procedures for the conduct and scheduling of board of directors and stockholder meetings; and • provide the board of directors with the express power to postpone previously scheduled annual meetings and to cancel previously scheduledspecial meetings.These provisions, alone or together, could delay or prevent unsolicited takeovers and changes in control or changes in our management.As a Delaware corporation, we are also subject to provisions of Delaware law, including Section 203 of the Delaware General Corporation Law, whichprevents some stockholders holding more than 15% of our outstanding common stock from engaging in certain business combinations without approval ofthe holders of substantially all of our outstanding common stock.Any provision of our amended and restated certificate of incorporation or amended and restated bylaws or Delaware law that has the effect of delaying ordeterring a change in control could limit the opportunity for our stockholders to receive a premium for their shares of our common stock and could also affectthe price that some investors are willing to pay for our common stock.We do not expect to declare any dividends in the foreseeable future.We do not anticipate declaring any cash dividends to holders of our common stock in the foreseeable future. In addition, our existing credit facilityprohibits us from paying cash dividends, and any future financing agreements may prohibit us from paying any type of dividends. Consequently, investorsmay need to rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on theirinvestment. Investors seeking cash dividends should not purchase our common stock. 26 Table of ContentsItem 1B. Unresolved Staff CommentsNone.Item 2. PropertiesFacilitiesWe do not currently own any of our facilities. Our corporate headquarters are located in San Mateo, California where we occupy approximately 38,249square feet of space under a lease that expires in December 2014. We have additional facilities in Arizona, California, Florida, Massachusetts, New York,Ohio, Rhode Island, Vermont and Wisconsin under various leases that expired or will expire between November 2012 and January 2023. We believe that ourfacilities are adequate for our current needs and that suitable additional or substitute space will be available as needed to accommodate planned expansion ofour operations.Item 3. Legal ProceedingsFrom time-to-time, we may be subject to various legal proceedings and claims that arise in the normal course of our business activities. As of the filing ofthis Annual Report on Form 10-K, we are not a party to any litigation whereby the outcome of such litigation, if determined adversely to us, wouldindividually or in the aggregate be reasonably expected to have a material adverse effect on our results of operations, prospects, cash flows, financial positionor brand.Item 4. Mine Safety DisclosuresNot applicable. 27 Table of ContentsPART IIItem 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity SecuritiesMarket InformationOur common stock has traded on the New York Stock Exchange, or the NYSE, under the symbol “WAGE” since May 2012. The following table setsforth the range of high and low sales prices on the NYSE of our common stock for the periods indicated, as reported by the NYSE. Price Range High Low Fiscal 2012: Second Quarter (from May 10, 2012 — June 30, 2012) $15.40 $9.75 Third Quarter (July 1, 2012 — September 30, 2012) $18.87 $12.36 Fourth Quarter (October 1, 2012 — December 31, 2012) $19.79 $17.01 Price Range High Low Fiscal 2013: First Quarter (January 1, 2013 — March 30, 2013) $26.25 $17.32 Second Quarter (April 1, 2013 — June 30, 2013) $34.95 $23.91 Third Quarter (July 1, 2013 — September 30, 2013) $56.97 $32.88 Fourth Quarter (October 1, 2013 — December 31, 2013) $62.58 $46.59 StockholdersAs of February 20, 2014, according to the records of our transfer agent, there were 25 holders of record of our common stock. The number of beneficialstockholders is substantially greater than the number of holders of record because a large portion of our common stock is held through brokerage firms.DividendsWe have never declared nor paid any cash dividend on our common stock. We currently intend to retain any future earnings and do not currently plan topay any dividends in the immediate future. The payment of future dividends on the common stock and the rate of such dividends, if any and when notrestricted, will be determined by our board of directors in light of our results of operations, financial condition, capital requirements, and any other relevantfactors.Use of Proceeds from Public Offerings of Common StockOn May 15, 2012, we closed our initial public offering and sold 7,475,000 shares of common stock (inclusive of 975,000 shares of common stockfrom the full exercise of the overallotment option of shares granted to the underwriters). All of the shares offered and sold in the initial public offering wereregistered under the Securities Act pursuant to a registration statement on Form S-1 (File No. 333-173709), which the SEC declared effective on May 9, 2012.William Blair & Company, L.L.C.; Stifel, Nicolaus & Company, Incorporated; JMP Securities LLC and Needham & Company, LLC acted as theunderwriters. The public offering price of the shares sold in the offering was $9.00 per share. The total gross proceeds from the offering to us were $67.3million. After deducting underwriting discounts and commissions of $4.7 million and offering expenses payable by us of $5.5 million, we receivedapproximately $57.0 million. There has been no material change in the planned use of proceeds from our initial public offering as described in our finalprospectus filed with the SEC on May 10, 2012 pursuant to Rule 424(b) of the Securities Act. We invested the funds received in registered money marketfunds. 28 Table of ContentsStock Performance GraphThis performance graph shall not be deemed “filed” for purposes of Section 18 of the Exchange Act or otherwise subject to the liabilities under thatSection, and shall not be deemed to be incorporated by reference into any of our filings under the Securities Act or the Exchange Act, except as shall beexpressly set forth by specific reference in such filing.The following graph compares the cumulative total return of our common stock with the total return for the New York Stock Exchange Composite Index(the “NYSE Composite”) and the Russell 3000 Index (the “Russell 3000”) from May 10, 2012 (the date our common stock commenced trading on the NYSE)through December 31, 2013. The chart assumes $100 was invested on May 10, 2012, in the common stock of WageWorks, Inc., the NYSE Composite andthe Russell 3000, and assumes reinvestment of any dividends. The stock price performance on the following graph is not necessarily indicative of future stockprice performance. 29 Table of ContentsItem 6. Selected Financial DataThe following selected consolidated financial data (presented in thousands, except per share amounts) is derived from our consolidated financialstatements. As our operating results are not necessarily indicative of future operating results, this data should be read in conjunction with the consolidatedfinancial statements and notes thereto, and with Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations. Years Ended December 31, 2009 2010 2011 2012 2013 (in thousands, except per share data) Operations: Revenues $108,461 $115,047 $135,637 $177,282 $219,278 Operating expenses: Cost of revenues (excluding amortization of internal use software) 46,802 50,205 55,651 64,647 81,918 Sales and marketing, technology and development and general and administrative 52,792 49,044 55,099 78,029 93,772 Amortization and change in contingent consideration 8,398 7,764 11,327 15,674 11,612 Total operating expense 107,992 107,013 122,077 158,350 187,302 Income from operations 469 8,034 13,560 18,932 31,976 Other income (expense): Interest income 851 220 36 36 17 Interest expense (1,102) (188) (494) (1,772) (1,339) Interest expense: amortization of convertible debt discount (71) (21,107) — — — Other, net (286) (5,413) 351 429 248 Income (loss) before income taxes (139) (18,454) 13,453 17,625 30,902 Income tax (provision) benefit (495) 1,204 19,868 (7,126) (9,203) Net income (loss) (634) (17,250) 33,321 10,499 21,699 Accretion of redemption premium (expense) benefit 1,037 (6,740) (6,209) (2,301) — Net income (loss) attributable to common stockholders $403 $(23,990) $27,112 $8,198 $21,699 Net income (loss) per share attributable to common stockholders: Basic $0.25 $(15.70) $17.65 $0.45 $0.65 Diluted $(0.04) $(15.70) $1.43 $0.33 $0.62 Weighted Average Common Shares Outstanding Basic 1,606 1,528 1,536 18,138 33,626 Diluted 16,864 1,528 20,086 24,414 35,277 Consolidated Balance Sheet Data: Cash and cash equivalents $93,261 $104,280 $154,621 $305,793 $359,958 Working capital (44,788) (43,311) (35,816) 46,362 68,843 Total assets 171,478 206,831 278,696 519,970 599,655 Total liabilities 167,430 182,254 218,584 363,559 371,523 Total redeemable convertible preferred stock 48,043 75,960 82,169 — — Total stockholders’ equity (deficit) (43,995) (51,383) (22,057) 156,411 228,132 30 Table of ContentsItem 7. Management’s Discussion and Analysis of Financial Condition and Results of OperationsThe following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidatedfinancial statements and related notes appearing elsewhere in this Annual Report on Form 10-K. The following discussion and analysis containsforward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could causeour results to differ materially from those expressed or implied by such forward-looking statements. Statements that are not purely historical areforward-looking statements within the meaning of Section 27A of the Securities Act, and Section 21E of the Securities Exchange Act of 1934, asamended (the “Exchange Act”). Forward-looking statements are often identified by the use of words such as, but not limited to, “anticipate,”“believe,” “can,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would”and similar expressions or variations intended to identify forward-looking statements. Such statements include, but are not limited to, statementsconcerning market opportunity, our future financial and operating results, investment strategy, sales and marketing strategy, management’s plans,beliefs and objectives for future operations, technology and development, economic and industry trends or trend analysis, expectations aboutseasonality, opportunity for portfolio purchases, use of non-GAAP financial measures, operating expenses, anticipated income tax rates, capitalexpenditures, cash flows and liquidity. These statements are based on the beliefs and assumptions of our management based on information currentlyavailable to us. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and thetiming of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause orcontribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” includedunder Part I, Item 1A above. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, weundertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such events.OverviewWe are a leader in administering Consumer-Directed Benefits, or CDBs, which empower employees to save money on taxes while also providingcorporate tax deductions for employers. We are solely dedicated to administering CDBs, including pre –tax spending accounts such as health and dependentcare Flexible Spending Accounts (FSAs), Health Savings Accounts (HSAs), Health Reimbursement Arrangements (HRAs) as well as commuter benefitservices, including transit and parking programs, wellness programs and other employee spending account benefits, in the United States.We deliver our CDB programs through a highly scalable delivery model that employer clients and their employee participants may access through astandard web browser on any internet-enabled device, including computers, smart phones and other mobile devices such as tablet computers. Our on-demanddelivery model eliminates the need for our employer clients to install and maintain hardware and software in order to support CDB programs and enables us torapidly implement product enhancements across our entire user base.Our CDB programs assist employees and their families in saving money by using pre-tax dollars to pay for certain of their healthcare, dependent careand commuter expenses. Employers financially benefit from our programs through reduced payroll taxes, even after factoring in our fees. Under our FSA,HSA and commuter programs, employee participants contribute funds from their pre-tax income to pay for qualified out-of-pocket healthcare expenses notfully covered by insurance, such as co-pays, deductibles and over-the-counter medical products or for commuting costs.These employee contributions result in savings to both employees and employers. As an example, based on our average employee participant’s annualFSA contribution of approximately $1,300 and an assumed personal combined federal and state income tax rate of 35%, an employee participant will reducehis or her taxes by approximately $455 per year by participating in an FSA. Our employer clients also realize payroll tax (i.e., FICA 31 Table of Contentsand Medicare) savings on the pre-tax contributions made by their employees. In the above FSA example, an employer client would save approximately $56 perparticipant per year, even after the payment of our fees.Under our HRA programs, employer clients provide their employee participants with a specified amount of available reimbursement funds to help theiremployee participants defray out-of-pocket medical expenses such as deductibles, co-insurance and co-payments. All amounts paid by the employer intoHRAs are deductible by the employer as an ordinary business expense and are tax-free to the employee.Benefit plan years customarily run concurrently with the calendar year and have an open enrollment period that typically occurs at benefit plan year-endduring the fourth quarter of the calendar year. Most of our healthcare CDB agreements are executed in the last quarter of the calendar year. Because the signingof our contract often coincides with open enrollment, employer clients are able to offer our CDB programs to their employees during open enrollment for theupcoming benefit year. As a result of this timing, we are able to obtain significant visibility into our healthcare-related revenue early on in each plan yearbecause healthcare benefit plans are administered on an annual basis, contractual revenue is based on the number of participants enrolled in our CDBprograms on a per month basis and the minimum number of enrolled participants for the plan year is usually established at the close of the open enrollmentperiod. In contrast to healthcare CDB programs, enrollment in commuter programs occurs on a monthly basis. Therefore, there is less visibility and somevariability in commuter revenue from month-to-month, particularly during the summer vacation period when employee participants are less likely toparticipate in commuter programs for those months.We offer prepaid debit cards for use in conjunction with almost all of the plans that we administer. These prepaid debit cards are offered in coordinationwith commercial banks and card associations. We receive interchange fees from employee participants’ prepaid debit card transactions, which are calculatedas a percentage of the expenses transacted on each card. Although the rules do not include an explicit exemption for health benefit cards, these interchange feesare exempt from the Durbin Amendment because there is an exception for general purpose reloadable prepaid cards and some of such cards also fall outside thedefinitions that establish the scope of coverage. In addition to interchange fees, we also derive revenue through our wholesale card program from fees we chargeto assist third party administrators, or TPAs, in issuing our prepaid debit cards to their employee participant groups and in selling their administrativeservices utilizing our prepaid debit cards to new employee participants. We have historically experienced seasonality in healthcare interchange revenue, whichis typically the highest during the first quarter of the year because participants are either using their newly available balances for the current plan year orspending any remaining funds available from the prior plan year during the prior plan year’s grace period. A grace period is generally established by employerclients as January 1 through March 15 of the succeeding plan year and is the period during which employee participants can access funds from the prior planyear’s FSA account. Healthcare interchange revenue generally declines through the second and third quarters and is subject to a small increase in December assome employee participants strive to use their remaining account balances before the end of the plan year.We also offer transit passes from various transit agencies, which we purchase on behalf of employee participants. Due to our significant volume, wereceive commissions on these passes which we recognize as vendor commission revenue.The maximum monthly amount allowed for transit and vanpooling that employees can exclude from gross income for federal income tax purposes and,in most cases, state income tax purposes, fell from $245 per month in 2013 to $130, effective January 1, 2014. A year earlier the American Taxpayer ReliefAct brought the transit statutory limit to $245 in parity with the pretax parking limit but that was not a permanent change and, accordingly, it expired at theend of 2013. By contrast, the monthly pretax parking benefit rose from $245 to $250 on January 1, 2014.Our cost of revenues typically varies with our revenue and is, therefore, impacted by the seasonality of our business. We incur higher expenses in thefirst quarter associated with increased headcount in the form of 32 Table of Contentstemporary workers, consultants and other outsourced services that are required to cover the increased call volume and activity associated with thecommencement of the new plan year. The need for these resources diminishes in the second and third quarters, but increases again in the fourth quarter whenwe provide services to our employer clients during their open enrollment periods. We also incur higher debit card production expenses in the fourth quarter.At the beginning of a plan year, most of our enterprise clients provide us with prefunds for their FSA programs based on a percentage of projectedelections by the employee participants for the plan year ahead. This prefunding activity covers our estimate of approximately one week of spending on behalfof the employer client’s employee participants. During the plan year, we process employee participants’ FSA claims as they are submitted and typically seekreimbursement from our employer clients within one week after settling the claim. Employer clients generally set a time after the close of a plan year whenemployee participants in FSA programs are allowed to continue submitting claims for the preceding plan year, which we refer to as a run-out period. At the endof the plan year and following the grace period and run-out period, as applicable, we reconcile all claims paid against the FSA prefund and return any unusedfunds to the employer. If an employer has adopted the new carryover option instead of the grace period rule for their plan year, then any unused funds, of up to$500 per participant, will be carried over into the new plan year rather than returned to the employer client. Prior to that point we will have already received anentirely new FSA prefund from a continuing employer client for the new plan year.Our growth strategy includes acquiring and integrating smaller TPAs to expand our employer client base. We refer to these acquisitions as portfoliopurchases. Consistent with this acquisition strategy, we have made seven portfolio purchases since 2007. Our model for these portfolio purchases generallyinvolves a payment at closing of the transaction and contingent payments based on achievement of revenue growth targets. Portfolio purchases may have amaterial adverse impact on our results of operations, including a potential material adverse impact on our cost of revenues in the short term as we migrateacquired clients to our proprietary technology platforms, typically over the succeeding 12 to 24 months, in order to achieve additional operating efficiencies.For example, our cost of revenues in Fiscal 2013 included additional expenses of $12.1 million due to the purchases of BCI and CBS. There are severalhundred regional TPA portfolios that we continually monitor and evaluate in order to maintain a robust pipeline of potential candidates for purchase and weintend to continue executing our focused strategy of portfolio purchases to broaden our employer client base.Ceridian Channel Partner ArrangementAs part of our continuing efforts to grow our business through the acquisition of employer clients through various means, in July 2013, we entered intoa channel partner arrangement with Ceridian, a global product and services company, pursuant to which Ceridian’s CDB account administration businesswill be substantially transitioned to us between October 2013 and January 2015. This new channel partner arrangement did not have a significant impact onrevenue in 2013. In conjunction with the transition, we also entered into a separate reseller arrangement with Ceridian.The final purchase price is calculated as a multiple of the expected annual revenue for each employer client successfully transitioned to us. The timing ofthe transition of revenue to us is dependent upon the employer clients executing new agreements with us and agreeing to a service conversion, a process whosetiming and outcome is ultimately controlled by each employer client. The total purchase price is expected to be in the range of $15.0 million to $16.0 millionand will be capitalized as an intangible asset, and amortized over its expected life, as employer clients transition. In July 2013, we made an initial payment of$15.0 million to Ceridian, in advance of any employer clients transitioning over to us. The $15.0 million payment was recorded in other assets in ourconsolidated balance sheet. As the employer clients transition to us, amounts from the other asset category will be reclassified as an intangible asset andamortization will commence. 33 Table of ContentsAflac Channel Partner ArrangementIn April 2012, we entered into a channel partner arrangement with American Family Life Assurance Company, or Aflac, pursuant to which Aflac’s FSAand commuter account administration business would be substantially transitioned to us. As of June 30, 2013, the transitioning of existing Aflac employerclients was completed. We have made total payments to Aflac of $7.2 million for all employer clients that transitioned to us. We have capitalized thesepayments as an intangible asset and are amortizing the asset over an expected life of 7 years.Follow-On OfferingOn March 18, 2013, we closed a follow-on public offering and sold 500,000 shares of common stock at a price of $24.00 per share, which raised$11.6 million, net of underwriters’ discounts and commissions. Certain selling stockholders, including VantagePoint, sold 5,131,115 shares of commonstock in the offering. In addition, the underwriters exercised their overallotment option to purchase 844,667 additional shares from the selling stockholders.We did not receive any proceeds from the sale of shares by the selling stockholders.On August 19, 2013, we closed a follow-on public offering pursuant to which certain selling stockholders, including VantagePoint, sold 2,968,276shares of common stock. In addition, the underwriters exercised their overallotment option to purchase 445,241 additional shares from the sellingstockholders. The shares were purchased at a price of $39.54 per share, net of underwriters’ discounts and commissions. We did not receive any proceedsfrom the sale of shares by the selling stockholders.Consolidation of OperationsWe monitor our operating results and take steps to improve, redirect and consolidate our operations. In the first quarter of 2013, we closed our Vista,California facility and consolidated redundant activities within our operations, which resulted in the early termination of a lease and elimination of certainpersonnel. The expenses related to these actions were approximately $0.4 million and were primarily driven by the termination of the lease.In the second quarter of 2013, we decided not to renew our Leawood Kansas and Centennial Colorado office leases, which expired as of the end of thethird quarter of 2013. We are not exiting the Leawood or Centennial markets, but have chosen not to maintain a physical presence at the two locations. We haveincurred $0.5 million and $0.2 million in one-time severance and other benefit payments to various impacted employees related to the Leawood and Centennialoffice closures, respectively.Key Components of Our Results of OperationsRevenueWe generate revenue from three major sources: healthcare solutions, commuter solutions and other services.Healthcare RevenueWe derive our healthcare revenue from the service fees paid by our employer clients for the administration services we provide in connection with theiremployee participants’ healthcare FSA, dependent care FSA, HRA and HSA tax-advantaged accounts. Our fee is generally fixed for the duration of the writtenagreement with our employer client, which is typically three years for our enterprise clients and one to three years for our SMB clients. These fees are paid tous on a monthly basis by our employer clients, and the related services are made available to employee participants pursuant to written agreements between usand each employer client. Almost all of the healthcare benefit plans we service on behalf of our enterprise employer clients are subject to contractual minimummonthly billing amounts. Generally, such minimum billing amounts are subject to upward 34 Table of Contentsrevision on a monthly basis as our employer clients hire new employees who elect to participate in our programs, but generally are not subject to downwardrevision when employees leave their employers because we continue to administer those former employee participants’ accounts for the remainder of the planyear. For SMB employer clients, the monthly fee remains constant for the plan year unless there is a 10% or greater increase in the number of employeeparticipants in which case it is subject to upward revision. Revenue is recognized monthly as services are rendered under our written service agreements.We also earn interchange revenue from debit cards used by employee participants in connection with all of our healthcare programs and through ourwholesale card program, which we recognize monthly based on reports received from third parties. We also earn revenue from self-service plan kits calledPremium Only Plan kits, or POP revenue.Commuter RevenueFor our Commuter Order Model, or COM, Commuter Account Model, or CAM and Commuter Express, we derive our commuter revenue from monthlyservice fees paid by our employer clients, interchange revenue that we receive from debit cards used by employee participants in connection with our commutersolutions and revenue from the sale of transit passes used in our commuter solutions. Our fees from employer clients are normally paid monthly in arrearsbased on the number of employee participants enrolled for the month. Most agreements have volume tiers that adjust the per participant price based upon thenumber of participants enrolled during that month. Revenue is recognized monthly as services are rendered under these written service agreements. We earninterchange revenue from the debit cards used by employee participants in connection with our commuter programs, which we recognize monthly based onreports received from third parties. We also receive commissions from transit passes, which we purchase from various transit agencies on behalf of employeeparticipants. Due to our significant volume, we receive commissions on these passes which we recognize as vendor commission revenue. Commission revenueis recognized on a monthly basis as transactions are placed under written purchase agreements having stipulated terms and conditions, which do not requiremanagement to make any significant judgments or assumptions regarding any potential uncertainties.Revenue from our TC operations is derived from two programs that are similar in size: TransitChek Basic and TransitChek Premium. Revenue fromthe TransitChek Basic program is based on a percentage of the face value of the transit and parking passes ordered by employer clients and revenue from theTransitChek Premium program is derived from monthly service fees paid by employer clients based on the number of participants. In both programs,revenues also include interchange revenue that we receive from debit cards used by employee participants in connection with our commuter solutions. We alsorecognize revenue on our estimate of certain passes that will expire unused over the estimated useful life of the passes, as the amounts paid for these passes arenonrefundable to both the employer client and the employee participant.Other RevenueWe derive other revenue primarily from COBRA administration services to employer clients for continuation of coverage for participants who are nolonger eligible for the employer’s health benefits, such as medical, dental, vision, and for the continued administration of the employee participants’ HRAsand certain healthcare FSAs. Our agreements to provide COBRA services are not consistently structured and we receive fees based on a variety ofmethodologies. Other services also include enrollment and eligibility services, employee account administration (i.e., tuition and health club reimbursements)and project-related professional fees. Other services revenue is recognized as services are rendered under our written service agreements.Costs and ExpensesCost of Revenues (excluding amortization of internal use software)Cost of revenues includes the costs of providing services to our employer clients’ employee participants. 35 Table of ContentsThe primary component of cost of revenues is personnel expenses and the expenses related to our claims processing, product support and customerservice personnel. Cost of revenues includes outsourced and temporary help costs, check/ACH payment processing services, debit card processing services,shipping and handling costs for cards and passes and employee participant communications costs.Cost of revenues also includes the losses or gains associated with processing our large volume of transactions, which we refer to as “net processinglosses or gains.” In the normal course of our business, we make administrative and processing errors that we cannot bill to our employer clients. For example,we may over-reimburse employee participants for claims they submit or incur the cost of replacing commuter passes that are not received by employeeparticipants. Upon identifying such an error, we record the expense as a processing loss. In certain circumstances, we experience recoveries with respect tothese amounts which are recorded as processing gains.Cost of revenues does not include amortization of internal use software, which is included in amortization, or the cost of operating on-demandtechnology infrastructure, which is included in technology and development expenses.Technology and DevelopmentTechnology and development expenses include personnel and related expenses for our technology operations and development personnel as well asoutsourced programming services, the costs of operating our on-demand technology infrastructure, depreciation of equipment and software licensing expenses.During the planning and post-implementation phases of development, we expense, as incurred, all internal use software and website development expensesassociated with our proprietary scalable delivery model. During the development phase, costs incurred for internal use software are capitalized andsubsequently amortized once the software is available for its intended use. See “Amortization and Change in Contingent Consideration” below. Expensesassociated with the platform content or the repair or maintenance of the existing platforms are expensed as incurred.Sales and MarketingSales and marketing expenses consist primarily of personnel and related expenses for our sales, client services and marketing staff, including salescommissions for our direct sales force and external agent/broker commission expense, as well as communication, promotional, public relations and othermarketing expenses.General and AdministrativeGeneral and administrative expenses include personnel and related expenses of and professional fees incurred by our executive, finance, legal, humanresources and facilities departments.Amortization and Change in Contingent ConsiderationAmortization and change in contingent consideration expense includes amortization of internal use software, amortization of acquired intangible assetsand changes in contingent consideration in connection with portfolio purchases and acquisitions.We capitalize internal use software and website development costs incurred during the development phase and we amortize these costs over thetechnology’s estimated useful life, which is generally four years. These capitalized costs include personnel costs and fees for outsourced programming andconsulting services.We also amortize acquired intangible assets consisting primarily of employer client agreements and relationships and broker relationships. Employerclient agreements and relationships and broker relationships are amortized on a straight-line basis over an average estimated life. 36 Table of ContentsWe measure contingent consideration payable each reporting period at fair value and recognize changes in fair value in our consolidated statements ofincome each period, until the final amount payable is determined. Increases or decreases in the fair value of the contingent consideration payable can resultfrom changes in revenue forecasts and risk and probability assumptions. Significant judgment is employed in determining the appropriateness of theseassumptions in each period.Other Income (Expense)Other income (expense) primarily consists of (i) interest income; (ii) interest expense; and (iii) gain (loss) on equity investments.Provision for Income TaxesWe are subject to taxation in the United States. Income taxes are computed using the asset and liability method, under which deferred tax assets andliabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for theyear in which the differences are expected to affect taxable income. As of December 31, 2013, we remain in a net deferred tax asset position. Valuationallowances are established when necessary to reduce net deferred tax assets to the amount expected to be realized.At December 31, 2013, we had federal and state operating loss carryforwards of approximately $54.6 million and $96.4 million, respectively, availableto offset future regular and alternative minimum taxable income. The increase in operating loss carryforwards for 2013 was the result of the tax deduction fromthe exercise of stock options. Our federal net operating loss carryforwards expire in the years 2024 through 2033, if not utilized. The state net operating losscarryforwards expire in the years 2015 through 2033. The federal and state net operating loss carryforwards include excess tax deductions related to stockoptions in the amount of $22.6 million and $16.2 million, respectively. When utilized, the related excess tax benefit will be booked to additional paid-incapital. We also have tax deductible goodwill related to asset acquisitions.We have federal and California research and development credit carryforwards of approximately $4.3 million and $2.0 million respectively, available tooffset future tax liabilities. The federal research credit carryforwards expire in the years 2022 through 2033, if not fully utilized. The California tax creditcarryforward can be carried forward indefinitely.Our ability to utilize the net operating losses and tax credit carryforwards are subject to restrictions, including limitations in the event of past or futureownership changes as defined in Section 382 of the Internal Revenue Code (“IRC”) of 1986, as amended, and similar state tax law. In general, an ownershipchange occurs if the aggregate stock ownership of certain stockholders increases by more than 50 percentage points over such stockholders’ lowest percentageownership during the testing period (generally three years). We have considered Section 382 of the IRC and concluded that any ownership change would notdiminish our utilization of the net operating loss or research and development credits during the carryover periods.We make estimates and judgments about our future taxable income that are based on assumptions that are consistent with our plans and estimates.Should the actual amounts differ from our estimates, our provision for income taxes could be materially affected.Critical Accounting Policies and Significant Management EstimatesOur consolidated financial statements are prepared in accordance with generally accepted accounting principles, or GAAP, in the United States. Thepreparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities,revenue, costs and expenses and related disclosures. We base our estimates on historical experience and on various other 37 Table of Contentsassumptions that we believe to be reasonable under the circumstances. In many instances, we could have reasonably used different accounting estimates, andin other instances, changes in the accounting estimates are reasonably likely to occur from period-to-period. Accordingly, actual results could differsignificantly from the estimates made by our management. To the extent that there are material differences between these estimates and actual results, our futurefinancial statement presentation, financial condition, results of operations and cash flows will be affected.In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management’s judgment in itsapplication, while in other cases, management’s judgment is required in selecting among available alternative accounting standards that allow differentaccounting treatment for similar transactions. We believe that there are several accounting policies that are critical to understanding our business and prospectsfor future performance, as these policies affect the reported amounts of revenue and other significant areas that involve management’s judgment and estimates.These significant policies and our procedures related to these policies are described in detail below. In addition, please refer to the “Notes to ConsolidatedFinancial Statements” for further discussion of our accounting policies.Revenue RecognitionWe report revenue for the following product lines: healthcare, commuter and other services.We recognize revenue when the following criteria are met: collectability is reasonably assured, delivery has occurred, persuasive evidence of anarrangement exists and there is a fixed or determinable fee.Healthcare and commuter programs include revenues generated from benefit service fees based on employee participant levels, fees based on a percentageof the face value of the transit and parking passes, interchange and other commission fees. The criteria above are generally met each month as we deliverservices to our employer clients and their employee participants.Most of our employee participants utilize prepaid debit cards to pay for their qualified healthcare and commuter expenses and we receive fees, known asinterchange, that represent a percentage of the expenses transacted on each card. We also receive commissions from transit passes that we purchase fromvarious transit agencies on behalf of employee participants. Due to our significant volume, we receive commissions on these passes which we recognize asvendor commission revenue. In addition, we recognize revenue on our estimate of passes that will expire unused over the estimated useful life of the passes, asthe amounts paid for these passes are nonrefundable to both the employer client and the employee participant.Valuation of Long-Lived Assets and GoodwillLong-lived assets, such as property, equipment, acquired intangibles and capitalized internal use software subject to amortization, are reviewed forimpairment whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be recoverable such as: (i) a significantadverse change in the extent or manner in which it is being used or in its physical condition, (ii) a significant adverse change in legal factors or in the businessclimate that could affect its value, or (iii) a current-period operating or cash flow loss combined with a history of operating or cash flow losses or a projectionor forecast that demonstrates continuing losses associated with its use.Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset group to estimated undiscounted futurecash flows expected to be generated by the asset group. An asset group is the lowest level at which cash flows can be identified that are largely independent ofthe cash flows of other asset groups. If the carrying amount of an asset group exceeds its estimated future cash flows, an impairment charge is recognized bythe amount by which the carrying amount of the asset group exceeds the fair value of the asset group. With the exception of MHM, we have determined that theentity level is the lowest level at which cash flows can be identified that are largely independent of the cash flows of other assets and liabilities as our revenue 38 Table of Contentsis interdependent on the revenue-producing activities and significant shared operating activities of all long-lived assets. The entity level is the aggregation of ourthree revenue streams arising from the administration of employer client sponsored healthcare programs, commuter programs and other programs. We haveidentified the long-lived assets of MHM as a separate asset group because we believe that the financial information available is sufficient to determine the cashinflows and outflows of certain MHM assets. Management evaluates on an annual basis and tests for impairment whenever events or changes incircumstances occur that could impact the recoverability of these assets.We perform an annual goodwill impairment test on December 31st and more frequently if events and circumstances indicate that the asset might beimpaired. The impairment tests are performed in accordance with Financial Accounting Standards Board (FASB) ASC 350, Intangibles — Goodwill andOther, or ASC 350. An impairment loss is recognized to the extent that the carrying amount exceeds the reporting unit’s fair value. The goodwill impairmentanalysis is a two-step process: First, the reporting unit’s estimated fair value is compared to its carrying value, including goodwill. If we determine that theestimated fair value of the reporting unit is less than its carrying value, we move to the second step to determine the implied fair value of the reporting unit’sgoodwill. If the carrying amount of the reporting unit’s goodwill exceeds its fair value, an impairment loss is recognized for any excess of the carrying amountof the reporting unit’s goodwill over the implied fair value of the reporting unit’s goodwill in a manner similar to a purchase price allocation. ASC 350 allowsan entity the option to make a qualitative evaluation about the likelihood of goodwill impairment to determine whether it should calculate the fair value of areporting unit. If impairment is deemed more likely than not, management would perform the currently prescribed two-step goodwill impairment test.Otherwise, the two-step goodwill impairment test is not required. The amendments also expand upon the examples of events and circumstances that an entityshould consider between annual impairment tests in determining whether it is more likely than not that the fair value of a reporting unit is less than its carryingamount. In assessing the qualitative factors, we assess relevant events and circumstances that may impact the fair value and the carrying amount of thereporting unit. The identification of relevant events and circumstances and how these may impact a reporting unit’s fair value or carrying amount involvesignificant judgments and assumptions. The judgment and assumptions include the identification of macroeconomic conditions, industry and marketconsiderations, overall financial performance, our specific events and share price trends and making the assessment on whether each relevant factor willimpact the impairment test positively or negatively and the magnitude of any such impact. At December 31, 2013, based on the qualitative evaluationperformed, management determined that it is not more likely than not that goodwill is impaired and the two-step goodwill impairment test was not deemednecessary.When reviewing goodwill for impairment, we assess whether goodwill should be allocated to operating levels lower than our single operating segment forwhich discrete financial information is available and reviewed for decision-making purposes. These lower levels are referred to as reporting units. Currently,our one reporting unit was determined to be our one operating segment in accordance with FASB ASC 280, Segment Reporting.To date, we have not made any impairment adjustments to goodwill, as the fair value of our reporting unit in all prior years has always exceeded ourcarrying value by a significant amount.Income TaxesWe are subject to income taxes in the United States. Significant judgments are required in determining the consolidated provision for income taxes.We use the asset and liability method to account for income taxes. Deferred tax assets and liabilities are recognized for the future tax consequencesattributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and net operating losscarryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which thosetemporary differences are expected to be recovered or settled. The effect on deferred tax 39 Table of Contentsassets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. We record a valuation allowance to reducedeferred tax assets to an amount whose realization is more likely than not.During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. As a result,we recognize tax liabilities based on estimates of whether additional taxes and interest will be due. These tax liabilities are recognized when, despite the beliefthat our tax return positions are supportable, we believe that certain positions may not be more likely than not of being sustained upon review by taxauthorities. As of December 31, 2013, our unrecognized tax benefits approximated $3.7 million, and we have no uncertain tax positions that would be reducedas a result of a lapse of the applicable statute of limitations. We believe that our accruals for tax liabilities are adequate for all open audit years based on ourassessment of many factors, including past experience and interpretations of tax law. This assessment relies on estimates and assumptions and may involve aseries of complex judgments about future events. We do not anticipate any adjustments would result in a material change to our financial position. To the extentthat the final tax outcome of these matters is different than the amounts recorded, such differences will impact income tax expense in the period in which suchdetermination is made. We recognize accrued interest and penalties related to unrecognized tax benefits as a component of income tax expense.Management periodically evaluates if it is more likely than not that some or all of the deferred tax assets will be realized. In making such determination,we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax planningstrategies and recent financial performance. In order to support a conclusion that a valuation allowance is not needed, positive evidence of sufficient quantityand quality (objective compared to subjective) is necessary to overcome negative evidence.In the future, if there is a significant negative change in our operating results or the other factors that were considered in making this determination, wecould be required to record a valuation allowance against our deferred tax assets. Any subsequent increases in the valuation allowance will be recognized as anincrease in deferred tax expense. Any decreases in the valuation allowance will be recorded either as a reduction of the income tax provision or as a credit topaid-in capital if the associated deferred tax asset relates to windfall stock option deductions on the exercise of stock options.Stock-Based CompensationStock-based compensation for stock awards is estimated at the grant date based on the award’s fair value as calculated by the Black-Scholes optionpricing model and is recognized as an expense over the requisite service period, which is generally the vesting period. The determination of the fair value ofstock-based awards on the date of grant using an option pricing model is affected by our stock price as well as assumptions regarding a number of complexand subjective variables. These variables include our expected stock price and related volatility over the expected term of the awards, actual and projectedemployee stock option exercise behaviors, risk-free interest rate, estimated forfeitures and expected dividends. The following table sets forth the weightedaverage assumptions used with respect to valuing option awards during 2011, 2012 and 2013. Year Ended December 31, 2011 2012 2013 Expected volatility 55.78% 52.79% 51.43% Risk-free interest rate 2.58% 1.26% 1.09% Expected term (in years) 5.9 6.6 6.0 Dividend yield — % — % — % We use the “simplified” method as an estimate of expected term due to the lack of option exercise history as a public company. We based the risk-freeinterest rate on zero-coupon yields implied from U.S. Treasury issues with remaining terms similar to the expected term on the options. We estimate expectedvolatility based on the 40 Table of Contentshistorical volatility of comparable companies from a representative peer-group as well as our own historical volatility. We do not anticipate paying any cashdividends in the foreseeable future, and therefore, used an expected dividend yield of zero in the option pricing model. We are required to estimate forfeitures atthe time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. If we use different assumptions forestimating stock-based compensation expense in future periods, or if actual forfeitures differ materially from our estimated forfeitures, future stock-basedcompensation expense may differ significantly from what we have recorded in the current period and could materially affect our income from operations, netincome and net income per share.Results of OperationsRevenue Year Ended December 31, Change from prior year 2011 2012 2013 2012 2013 (in thousands) Healthcare $90,917 $112,905 $135,140 24% 20% Commuter 33,325 51,817 59,579 55% 15% Other 11,395 12,560 24,559 10% 96% Total revenue $135,637 $177,282 $219,278 31% 24% Healthcare RevenueThe $22.2 million increase in healthcare revenue from 2012 to 2013 was primarily due to a $17.0 million increase in FSA revenue, which was drivenby an increase of $7.5 million related to the Aflac channel partner arrangement, $5.4 million in post-purchase revenues for BCI, $1.2 million from theaddition of a large employer client in the first quarter of 2013 and $1.3 million in post-purchase revenues for CBS. The growth in healthcare revenue wasfurther driven by a $4.3 million increase in HRA revenue primarily due to the addition of a large employer client and $1.0 million increase in HSA revenue dueto growth in participation of our HSA programs.The $22.0 million increase in healthcare revenue from 2011 to 2012 was primarily driven by the inclusion of a full year of post-purchase revenue of$13.8 million for CS, which was acquired in January 2012. Healthcare revenue was further driven by a $7.0 million increase in FSA, HRA and HSArevenue due to greater employee participation in our programs during 2012 as compared to 2011, and higher interchange fees of $2.4 million due to increaseddebit card usage as well as an increase in the number of debit cards issued. The increases in healthcare revenue were partially offset by a decrease of $1.2million in Premium Only Plan kits, or POP, revenue during 2012 as compared to 2011. These are self-service plan kits that we provide to employer clients toinitiate the deduction of healthcare premiums on a tax deferred basis.Commuter RevenueThe $7.8 million increase in commuter revenue from 2012 to 2013 was primarily driven by a $2.3 million increase in TransitCheck Premium revenueand a $1.2 million increase in Commuter Order Model revenue as the number of employee participants in these programs grew, as well as having a full year ofrevenue in 2013 for TC, which was acquired in February of 2012. Commuter revenue was further driven by a $2.1 million increase in TransitCheck Basicrevenue due primarily to the increase in the statutory monthly cap increase in the first quarter of 2013, as well as the impact from having a full year of revenuefor TC. The remainder of the commuter revenue growth was primarily driven by $1.1 million in increased interchange revenue as a result of increased debitcard usage and $0.6 million in transit agency commission revenue.The $18.5 million increase in commuter revenue from 2011 to 2012 was primarily driven by the inclusion of a full year of post-purchase revenue of$17.8 million for TC, which was acquired in February 2012. Commuter revenue was further increased by $0.4 million due to increased participation in ourcommuter programs and by $0.2 million from interchange revenue as a result of increased prepaid debit card usage as well as an increase in the number ofdebit cards issued. 41 Table of ContentsOther RevenueThe $12.0 million increase in other revenue from 2012 to 2013 was primarily driven by the inclusion of $9.6 million in post-purchase COBRArevenues for BCI and $1.5 million in post-purchase revenues for CBS. The remainder of other revenue growth was primarily driven by increased COBRArevenue due to increased participation by our existing employer clients.The $1.2 million increase in other revenue from 2011 to 2012 was driven by an increase in COBRA revenue and direct billing services.Cost of Revenue Year Ended December 31, Change from prior year 2011 2012 2013 2012 2013 (in thousands) Cost of revenues (excluding amortization of internal usesoftware) $55,651 $64,647 $81,918 16% 27% Percent of revenue 41% 36% 37% The $17.3 million increase in cost of revenues (excluding amortization of internal use software) from 2012 to 2013 was primarily driven by increases insalaries and personnel-related costs of $9.0 million, primarily as a result of post-purchase salaries and personnel-related costs from the BCI and CBSportfolio purchases, which increased headcount. Cost of revenues were further driven by the inclusion of approximately $4.8 million in other post-purchaseexpenses for BCI and CBS, and $2.6 million in outsource services costs resulting from processing and supporting an increased number of employeeparticipants. Stock-based compensation expense increased $0.7 million, primarily due to additional expense from new grants of restricted stock units,performance-based restricted stock units and stock options, as well as adjustments to the vesting terms of performance based stock options as the probabilityof achieving the performance criteria for early vesting were deemed probable of being met.The $9.0 million increase in cost of revenues (excluding amortization of internal use software) from 2011 to 2012 was driven by the inclusion ofapproximately $9.1 million in post-purchase expenses for CS and TC, primarily related to salaries and personnel-related costs, as well as an increase of $0.9million in temporary workers expense and $0.4 million in outsourcing services as a result of increased processing and client support activities. These increaseswere offset in part by decreases in depreciation expense of $0.5 million, due to assets becoming fully depreciated and decreases in salaries and personnel-related costs of $0.4 million primarily as a result of the integration of PBS and FBM. In 2012, there was a net processing loss of $0.3 million for the yearcompared to a net processing loss of $0.5 million for 2011. The lower net processing loss for 2012 was primarily the result of a favorable adjustment due tothe recognition of transit agency credits. The cost of revenues decreased as a percentage of revenue for 2012 as compared to 2011 by 5%, primarily due to theTC acquisition that added to our commuter revenue, which has lower direct expenses relative to healthcare revenue which experiences higher claims processingcosts.As we continue to scale our operations, we expect our cost of revenues to increase in dollar amount to support increased employer client and employeeparticipant levels. Cost of revenues will continue to be affected by our portfolio purchases, acquisitions and channel partner arrangements. Prior to migratingto our proprietary technology platforms, these new portfolios often operate with higher service delivery costs that result in increased cost of revenues until weare able to complete the migration process, which typically occurs over the 12- to 24-month period following closing of the portfolio purchase or acquisition. 42 Table of ContentsTechnology and Development Year Ended December 31, Change from prior year 2011 2012 2013 2012 2013 (in thousands) Technology and development $13,526 $18,849 $21,459 39% 14% Percent of revenue 10% 10% 10% The $2.6 million increase in technology and development expenses from to 2012 to 2013 was driven by increases in salaries and personnel-related costsof $2.6 million, primarily as a result of post-purchase salaries and personnel-related costs due to an increase in headcount from the BCI and CBS portfoliopurchases and increased headcount to support improvements to our platform in handling the processing of claims. Technology and development expenses werefurther driven by the inclusion of approximately $0.7 million in other post-purchase expenses for BCI and CBS and an increase in stock-based compensationexpense of $0.4 million from new grants of restricted stock units, performance-based restricted stock units and stock options. These increases were partiallyoffset by a $1.1 million decrease in temporary help and consulting services due to consolidation of ongoing projects and contractors becoming full-timeemployees in 2013.The $5.3 million increase in technology and development expenses from 2011 to 2012 was driven by the inclusion of approximately $4.0 million inpost-purchase expenses for CS and TC, primarily related to salaries and personnel-related costs. This increase was also driven by an increase in temporaryhelp, consulting services and salaries and personnel-related costs of $3.7 million, due to continued investment in improving the functionality of our platformand mobile features. These costs were partly offset by an increase in expenditures qualifying for capitalization of $2.4 million in 2012 related toimplementation of additional features and functionality to our platform.We intend to continue enhancing the functionality of our software platform as part of our continuous effort to improve our employer client and employeeparticipant experience and to maintain and enhance our control and compliance environment. As a result of our focus on technology development and our CSand BCI portfolio purchase, we expect our technology and development expenses to increase in dollar amount in future periods. The timing of development andenhancement of projects, including whether they are in phases where costs are capitalized or expensed, could significantly affect our technology anddevelopment expense both in dollar amount and as a percentage of revenue.Sales and Marketing Year Ended December 31, Change from prior year 2011 2012 2013 2012 2013 (in thousands) Sales and marketing $20,697 $30,341 $34,676 47% 14% Percent of revenue 15% 17% 16% The $4.3 million increase in sales and marketing expense from 2012 to 2013 was primarily driven by salaries and personnel-related costs of $2.9million as a result of increases in headcount from the BCI and CBS portfolio purchases of $1.2 million, increased hiring of sales and marketing personnelresulting from the ongoing implementation of various new sales and marketing programs of $1.1 million and increases in commission expense of $0.6million. Sales and marketing expenses were further driven by an increase in stock-based compensation expense of $0.6 million from new grants of restrictedstock, performance-based restricted stock units and stock options. Travel and entertainment expense also increased by $0.4 million during 2013 whencompared to 2012.The $9.6 million increase in sales and marketing expense from 2011 to 2012 was primarily due to the acquisition of CS and TC, which increasedsales and marketing expense by $8.0 million, primarily related to salaries and personnel-related costs and commission sales expense. Salaries and personnel-related costs also increased by $1.7 million due to increased hiring of sales and marketing personnel outside of CS and TC. 43 Table of ContentsSales and marketing expense as a percentage of revenue decreased in 2013 as compared to 2012 by 1%. This decrease was primarily due to our BCI andCBS acquisitions having lower relative sales and marketing expenses as a percentage of revenue.We intend to continue to invest in sales, client services and marketing by hiring additional direct sales personnel and continuing to build our broker andchannel relationships. We also intend to promote our brand through a variety of marketing and public relations activities. As a result, we expect our sales andmarketing expenses to increase in absolute dollars and as a percentage of revenue in future periods.General and Administrative Year Ended December 31, Change from prior year 2011 2012 2013 2012 2013 (in thousands) General and administrative $20,876 $28,839 $37,637 38% 31% Percent of revenue 16% 16% 17% The $8.8 million increase in general and administration expense from 2012 to 2013 was primarily driven by an increase of $3.7 million in stock-basedcompensation expense, primarily due to additional expense from new grants of restricted stock units, performance-based restricted stock units and stockoptions, as well as adjustments to the vesting terms of performance based stock options as the probability of achieving the performance criteria for earlyvesting were deemed probable of being met. General and administrative expenses were further driven by salaries and personnel-related costs of $2.3 million dueto an increase in headcount as we continue to expand our operations and from the BCI and CBS portfolio purchases, as well as an increase of $1.4 million inprofessional fees, as a result of increased legal fees incurred as part of our follow-on public offering, required Securities and Exchange Commission filingsand acquisitions. Professional fees were further driven by fees incurred as part of our efforts to enhance our control environment to meet compliance rules withSection 404 of the Sarbanes-Oxley Act. In fiscal 2012, we also benefited from a $0.4 million bad debt reserve release, which compares favorably to fiscal 2013.General and administrative expenses also increased by $0.5 million driven by increased allocation of facilities costs to general and administrative departmentsas a result of increased headcount, when compared to the same period a year ago and the inclusion of approximately $0.2 million in other post-purchaseexpenses for BCI and CBS.The $8.0 million increase in general and administrative expense from 2011 to 2012 was primarily due to the inclusion of approximately $4.8 million inpost-purchase expenses for CS and TC, primarily related to salaries and personnel-related costs. General and administrative expenses also increased by $1.4million due to increased professional and consulting expenses and salaries and personnel-related costs, resulting from continued efforts to enhance our controlenvironment and to meet other requirements of being a public company and other compensation costs. General and administrative expenses also increased by$1.1 million due to additional stock-based compensation expense incurred during 2012 as a result of the vesting of performance-based option grants at theclosing of our IPO, a one-time adjustment related to past grants and additional expense from stock option grants made during 2012. The remaining $0.7million increase in general and administrative expenses was primarily driven by increased allocation of facilities costs to general and administrativedepartments as a result of increased headcount.General and administrative expenses as a percentage of revenue increased in 2013 as compared to 2012 by 1%. This increase was primarily driven byincreases in compensation expense related to our stock-based compensation arrangements.As we continue to grow, we expect our general and administrative expenses to increase in dollar amount as we expand general and administrativeheadcount to support our continued growth and due to the increased expenses associated with being a public company. 44 Table of ContentsAmortization and Change in Contingent Consideration Year Ended December 31, Change from prior year 2011 2012 2013 2012 2013 (in thousands) Amortization and change in contingent consideration $11,327 $15,674 $11,612 38% (26%) Our amortization and change in contingent consideration consists of three components: amortization of internal use software, amortization of acquiredintangibles and change in contingent consideration. We capitalize our software development costs related to the development and enhancement of our businesssolution. When the technology is available for its intended use, the capitalized costs are amortized over the technology’s estimated useful life, which isgenerally four years. Acquired intangibles are also amortized over their estimated useful lives.The $4.1 million decrease in amortization and change in contingent consideration from 2012 to 2013 was driven by a gain of $6.0 million related to there-measurement of the contingent consideration related to BCI, as the timing of anticipated partnerships and certain new employer clients were deferred untillater in 2014 and into 2015, as such the forecasted revenue increase in 2014 and 2015 was adjusted downward. The gain related to BCI is partially offset byadditional amortization expense from acquired intangible assets, including the BCI portfolio purchase, the Aflac channel partnership arrangement andadditional amortization of capitalized software development costs.The $4.3 million increase in amortization and change in contingent consideration from 2011 to 2012 was primarily due to a $3.9 million increase inamortization of acquired intangible assets driven by the CS portfolio purchase and TC acquisition.Other Income (Expense) Year Ended December 31, 2011 2012 2013 (in thousands) Interest income $36 $36 $17 Interest expense (494) (1,772) (1,339) Other income — 48 248 The decrease in interest expense from 2012 to 2013 was due to the repayment of outstanding debt borrowed under our credit facility with Union Bank,N.A. in 2013.The increase in interest expense from 2011 to 2012 was due to the increase in the amount borrowed under our credit facility with Union Bank, N.A. in2012 to finance the TC acquisition.Revaluation of Warrants Year Ended December 31, 2011 2012 2013 (in thousands) Gain on revaluation of warrants $351 $381 $— Upon the closing of our IPO in May 2012 and the automatic conversion of the outstanding shares of our preferred stock into shares of common stock,the warrant for Series C redeemable preferred stock became exercisable for shares of common stock. We performed the final re-measurement of the warrant forSeries C redeemable preferred stock at the closing date and the warrant was then reclassified from liability to equity. We did not record any mark-to-marketchanges in the fair value of these warrants in the statements of income subsequent to the warrants being reclassified to equity. 45 Table of ContentsThe mark-to-market adjustment related to our outstanding warrants for Series C redeemable preferred stock was a $0.4 million gain for the year endedDecember 31, 2011 primarily due to a decline in the underlying fair market value of our Series C redeemable preferred stock.Income Taxes Year Ended December 31, 2011 2012 2013 (in thousands) Income tax benefit (provision) $19,868 $(7,126) $(9,203) The change from 2012 to 2013 was primarily the result of increases in federal income taxes, driven by higher taxable income year over year, partiallyoffset by a reduction in overall tax rate due to permanent tax items primarily related to non-deductible changes in the fair value of contingent consideration.The change from 2011 to 2012 was primarily related to the release of the $25.9 million valuation allowance in 2011 and the result of increases in federalincome taxes, driven by higher taxable income year over year.Liquidity and Capital ResourcesAt December 31, 2013, our principal sources of liquidity were cash and cash equivalents totaling $360.0 million comprised primarily of prefunds byclients of amounts to be paid on behalf of employee participants as well as, in recent years, other cash flows from operating activities. In connection with ourfollow-on public offering in March 2013, we received aggregate proceeds of $11.6 million; after deducting underwriting discounts and commissions but beforededucting offering costs of $0.8 million.Prior to our public offerings, our operations had been financed primarily through cash flows from operating activities, the sale of convertible preferredstock and short and long-term borrowings.We believe that our existing cash and cash equivalents and expected cash flow from operations will be sufficient to meet our operating and capitalrequirements, as well as anticipated cash requirements for potential future portfolio purchases, over at least the next 12 months. We have historically been ableto fulfill our obligations as incurred and expect to continue to fulfill our obligations in the future. Our expectation is based on our current and anticipated clientretention rates and our continuing funding model in which the vast majority of our enterprise clients provide us with prefunds as more fully described belowunder “ — Prefunds.”PrefundsUnder our contracts with the vast majority of our enterprise employer clients, we receive prefunds that have been and are expected to continue to be asignificant source of cash flows from operating activities. Each prefund is reflected in cash and cash equivalents on our balance sheet with an equivalentcustomer obligation recorded as a liability as the prefund is received. Changes in these prefunds and corresponding customer obligations are reflected in ourcash flows from operating activities. The substantial majority of our SMB employer clients deposit funds into a separate custodial account, and those fundsare neither a source of cash flows from operating activities nor reflected on our balance sheet. These SMB employer clients are responsible for maintaining anadequate balance in those custodial accounts to cover their employee participants’ claims. We only pay SMB employee participant claims from amounts in thecustodial accounts.The operation of these prefunds for our enterprise employer clients throughout the year typically is as follows: at the beginning of a plan year, theseemployer clients provide us with prefunds for their FSA and HRA programs based on a percentage of projected spending by the employee participants for theplan year. In the case of our commuter program, at the beginning of each month we receive prefunds based on the employee participants’ monthly elections.These prefunds are typically replenished on a weekly basis by our FSA and HRA 46 Table of Contentsemployer clients and on a monthly basis by our commuter employer clients, in each case, after we have advanced the funds necessary to process employeeparticipants’ FSA and HRA claims as they are submitted to us and to pay vendors relating to our commuter programs. As a result, our cash balances canvary significantly depending upon the timing of invoicing of, and payment by, our employer clients of reimbursement for payments we have made on behalfof employee participants. This prefunding activity covers our estimate of approximately one week of spending on behalf of the employer client’s employeeparticipants. We do not require a prefund to administer any of our HSA programs because employee participants in these programs only have access to fundsthey have previously contributed.By way of example, a new FSA enterprise employer client with a plan year starting January 1 will provide the projected annual election for its employeeparticipants as a prefund in late December. Once the new plan year starts, the employee participants can immediately access all elected funds of their FSAbenefit even before any payroll deductions have commenced. This access to funds differs from our HSA programs where available funds are added toemployee participants’ accounts only as payroll deductions occur and HRA programs where funds are only available as contributions are made.Following the run-out period and grace period, the FSA prefunds from the prior plan year are reconciled and funds are returned to the employer clients,resulting in a substantial decline in our cash position. If an employer has adopted the new carryover option instead of the grace period rule for their plan year,then any unused funds, of up to $500 per participant, will be carried over into the new plan year rather than returned to the employer client. The cycle thenrepeats itself in each plan year as participants enroll in programs and prefunds are received in the fourth quarter for the new plan year. In a majority of cases,new FSA prefunds for the succeeding plan year are received prior to a plan year’s prefund being fully paid out in the form of benefits for employeeparticipants or being returned to the employer client. Because participant activity in our commuter programs varies monthly, prefunds for these programsfluctuate monthly.Our enterprise client contracts do not contain restrictions on our use of enterprise client prefunds and, as a result, these prefunds are reflected as cashand cash equivalents on our balance sheet and changes in prefunds are recorded as an element of our cash flow from operating activities. The timing of whenemployer clients make their prefunds as well as the timing of when we make payments on behalf of employee participants can significantly affect our cashflows.Union Bank Credit FacilityDebt consists of borrowings under a Commercial Credit Agreement, or Revolver, with Union Bank, N.A., or UB, under which we can borrow anaggregate principal amount up to $75.0 million. As collateral for the Revolver, we granted UB a security interest in all of our assets. All of our material existingand future subsidiaries are required to guaranty our obligations under the Revolver. Such guarantees by existing and future material subsidiaries are and willbe secured by substantially all of the property of such material subsidiaries.Each loan under the Revolver bears interest at a fluctuating rate per annum equal to a base rate determined in accordance with the credit agreement, plus0.25%, or, at our option, an interest rate equal to the LIBOR rate determined in accordance with the credit agreement, plus 2.50%. In the third quarter of 2013,we re-paid $15.0 million and as of December 31, 2013, we had outstanding indebtedness under the Revolver of $29.6 million. The interest rate applicable tothe loan outstanding at December 31, 2013 is 2.9%. Principal, together with all accrued and unpaid interest, is due and payable on December 31, 2015.The Revolver contains customary affirmative and negative covenants and also has financial covenants relating to a liquidity ratio, a ratio ofindebtedness to EBITDA, a debt service coverage ratio and a minimum consolidated net worth covenant. We are obligated to pay customary commitment feesand letter of credit fees for a facility of this size and type. 47 Table of ContentsThe Revolver contains customary events of default, including, among others, payment defaults, covenant defaults, inaccuracy of representations andwarranties, cross-defaults to other material indebtedness, judgment defaults, a change of control default and bankruptcy and insolvency defaults. Undercertain circumstances, a default interest rate will apply on all obligations during the existence of an event of default under the loan agreement at a per annumrate of interest equal to 2.00% above the applicable interest rate. Upon an event of default, the lenders may declare the outstanding obligations payable by theCompany to be immediately due and payable and exercise other rights and remedies provided for under the credit facility.Cash FlowsThe following table presents information regarding our financial position including cash and cash equivalents as of December 31, 2012 and 2013: December 31, 2012 2013 (in thousands) Cash and cash equivalents, end of year $305,793 $359,958 Working capital 46,362 68,843 Total stockholders’ equity 156,411 228,132 The following table presents information regarding our cash flows for the years ended December 2011, 2012 and 2013: Year Ended December 31, 2011 2012 2013 (in thousands) Net cash provided by operating activities $55,189 $56,133 $61,705 Net cash used in investing activities (12,594) (7,554) (27,555) Net cash provided by financing activities 7,746 102,593 20,015 Net increase in cash and cash equivalents $50,341 $151,172 $54,165 Cash Flows from Operating Activities Year Ended December 31, 2011 2012 2013 (in thousands) Net cash provided by operating activities $55,189 $56,133 $61,705 Net cash provided by operating activities increased in 2013 when compared to 2012, driven by an increase in net income of $11.2 million in 2013compared to 2012, and an increase in cash inflow of $2.7 million from customer obligations primarily due to the timing of our billing and increase inemployer client payments of prefunds for 2014. Cash provided by operating activities were further impacted a by $3.4 million payment of contingentconsideration in excess of the initial measurement reflected in operating activities in 2012 while only a $0.6 million payment related to contingent considerationin excess of the initial measurement was reflected in operating activities in 2013. These increases were partially offset by an increase in accounts receivable in2013 when compared to 2012, primarily from the timing and receipt of billing for funds owed by employer clients that had a $2.9 million impact on operatingcash.Net cash provided by operating activities in 2012 resulted primarily from our net income of $10.5 million being adjusted for the following non-cashitems: depreciation, amortization and change in contingent consideration aggregating $18.6 million, deferred taxes of $6.7 million and stock-basedcompensation of $3.8 million. Cash from operating activities increased by $23.7 million for customer obligations primarily due to the 48 Table of Contentsincrease in prefunds and the timing of our billings and employer client payments. Operating cash flow was further increased by changes in accounts payableand accrued expenses of $5.1 million primarily from an increase in transit agency payables as a result of the TC acquisition. These cash flows were offset inpart by increases in accounts receivable balance of approximately $5.5 million due to the timing of collections and overall increases from the various 2012acquisitions, $3.4 million in charges to the statement of operations for changes in the value of contingent consideration in excess of the initial measurement and$2.7 million due to net changes in prepaid expenses and other current assets driven by offering costs related to our initial public offering and follow-onoffering.Net cash provided by operating activities in 2011 resulted primarily from our net income of $33.3 million being adjusted for the following non-cashitems: depreciation, amortization and change in contingent consideration aggregating $14.5 million and stock-based compensation of $2.2 million offset by a$20.2 million increase in deferred tax assets, primarily as a result of releasing the valuation allowance. Cash from operating activities was further increased by$28.9 million of customer obligations primarily due to the increase in our commuter elections, an increase in prefunds and the timing of our billings andemployer client payments. These cash flows were offset in part by a $4.0 million increase in prepaid expenses and other current assets, primarily due toprepaid expenses related to our public offering.Cash Flows from Investing Activities Year Ended December 31, 2011 2012 2013 (in thousands) Net cash used in investing activities $(12,594) $(7,554) $(27,555) Net cash used in investing activities increased in 2013 compared to 2012, primarily due to a payment of $15.0 million during the third quarter of 2013,in connection with an advanced payment made to Ceridian for the employer clients that are expected to transition to WageWorks, while no such payments wasmade in 2012. Cash used in investing activities were further impacted by cash received in the acquisition of TransitChek during 2012, which had a positivenet cash inflow in investing activities of $8.9 million for 2012, while the acquisition of Crosby Benefit Systems, Inc., during 2013 had a negative cashoutflow of $0.8 million, causing a negative year-over-year impact of $9.7 million. These increases in cash used in investing activities were partially offset bythe impact of cash paid for the Aflac channel partner arrangement in the amount of $6.0 million during 2012, while cash paid for the Aflac and Ceridianchannel partner arrangement in 2013 was only $1.6 million, causing a positive year-over-year impact of $4.4 million.Net cash used in investing activities in 2012 was primarily the result of $12.3 million of capitalized internal use software and purchased equipment,which was largely related to further upgrades to our product platform. In connection with the Aflac channel partner arrangement, we also paid Aflac $6.0million for the employer clients that have transitioned to us. These outflows were partially offset by cash acquired in connection with our CS and BCIportfolio purchases as well as the TC acquisition exceeding the cash payments made for these acquisitions.Net cash used in investing activities in 2011 was primarily a result of $9.4 million of capitalized internal use software and purchased equipmentprincipally related to enhancing the functionality of our platform and a $1.9 million cash payment, net of cash received, made in connection with our FBMportfolio purchase. We also used cash to increase our restricted cash by $1.3 million, in preparation for our CS portfolio purchase on January 3, 2012.Cash Flows from Financing Activities Year Ended December 31, 2011 2012 2013 (in thousands) Net cash provided by financing activities $7,746 $102,593 $20,015 49 Table of ContentsNet cash provided by financing activities decreased in 2013 compared to 2012, primarily due to cash received from our initial public offering and drawdowns under the Revolver with UB during 2012 totaling $92.0 million while we did not have these transactions during 2013. Cash provided by financingactivities were further decreased by a $15.0 million repayment of debt in 2013 under our Revolver with Union Bank. These decreases were partially offset byincreases in proceeds received from the exercise of stock options and issuance of stock under our employee stock purchase plan totaling $12.6 million. Thedecreases in cash provided by financing activities were further offset by payments of contingent consideration made during 2012 totaling $14.7 million whilepayments of contingent consideration made during 2013 only totaled $6.6 million.Net cash provided by financing activities in 2012 was due to $62.6 million and $16.5 million received in connection with our initial public offeringand follow-on offering, respectively, as well as $29.5 million in draw downs on our credit facility to fund payments for our TC acquisition and CS portfoliopurchase that took place in the first quarter of 2012. Financing inflows were further increased by $7.0 million from cash received from the exercise ofwarrants, exercise of stock options and the issuance of common stock related to our employee stock purchase plan, partially offset by contingent considerationpayments of $14.7 million related to PBS, CS, TC and FBM transactions.Net cash provided by financing activities in 2011 was due to $12.1 million in draw downs on our credit facility to fund payments related to ourcontingent consideration payments for FBM and PBS portfolio purchases that took place in 2010, partially offset by the FBM contingent considerationpayment of $2.3 million and the PBS contingent consideration payment of $2.0 million.Recently Issued Accounting PronouncementsSee Note 1 of our accompanying consolidated financial statements for a full description of recent accounting pronouncements and our expectation oftheir impact, if any, on our results of operations and financial condition.Contractual ObligationsThe following table describes our contractual obligations as of December 31, 2013: Total Less than1 year 1-3years 3-5years More than5 years Long-term debt obligations (1) $29,600 $— $29,600 $— $— Interest on long-term debt obligations (2) 1,714 857 857 — — Operating lease obligations (3) 19,835 5,108 6,708 3,044 4,975 Acquisition payments (4) 9,200 4,590 4,610 — — Total $60,349 $10,555 $41,775 $3,044 $4,975 (1)Credit facility: $75.0 million credit facility with a variable interest rate of base rate plus 0.25% per annum or LIBOR plus 2.50% per annum, and amaturity date of December 31, 2015. See Note 8 of our consolidated financial statements. The $29.6 million outstanding principal amount is recordednet of debt issuance costs on our balance sheet and the debt issuance costs are not included in the table above.(2)Estimated interest payments assume the current interest rate of 2.9% per annum on a $29.6 million principal amount.(3)We lease facilities under non-cancelable operating leases expiring at various dates through 2023.(4)Estimated undiscounted contingent consideration for companies acquired in 2012 and 2013. See Note 3 to our consolidated financial statements.Off-Balance Sheet ArrangementsWe have no off-balance sheet arrangements. 50 Table of ContentsItem 7A. Quantitative and Qualitative Disclosures About Market RiskMarket risk represents the risk of loss that may affect our financial position due to adverse changes in financial market prices and rates. We are exposedto market risks related to changes in interest rates.As of December 31, 2013, we had cash and cash equivalents of $360.0 million. These amounts consist of cash on deposit with banks and moneymarket funds. The cash and cash equivalents are held for working capital purposes. We do not enter into investments for trading or speculative purposes. Dueto the short-term nature of these investments, we do not believe that changes in interest rates would have a material impact on our financial position and resultsof operations. However, declines in interest rates and cash balances will reduce future investment income.The primary objective of our investment activities is to preserve principal while maximizing yields without significantly increasing risk. This objectiveis accomplished by making diversified investments, consisting only of investment grade securities. The decrease in interest income from the effect of ahypothetical decrease in short-term interest rates of 10% would not have a material impact on our net income and cash flows.Our exposure to market risk also relates to the increase or decrease in the amount of interest expense we must pay on our outstanding debt instruments.As of December 31, 2013, we had outstanding principal of $29.6 million under our credit facility. The interest rate applicable to the remaining loanoutstanding at December 31, 2013 was 2.9%. New loans under the credit facility bears interest at a fluctuating rate per annum equal to a base rate determinedin accordance with the credit agreement, plus 0.25%, or, at our option, an interest rate equal to the LIBOR rate determined in accordance with the creditagreement, plus 2.50%. If market interest rates on our debt increase or decrease by 100 basis points, the increase or decrease in annual interest expense on ourdebt would increase or decrease future earnings and cash flows by approximately $0.3 million, respectively. 51 Table of ContentsItem 8. Financial Statements and Supplementary DataWageWorks, Inc. and SubsidiariesIndex To Consolidated Financial Statements Page Report of Independent Registered Public Accounting Firm 53 Consolidated Balance Sheets 54 Consolidated Statements of Income 55 Consolidated Statements of Stockholders’ Equity (Deficit) 56 Consolidated Statements of Cash Flows 57 Notes to Consolidated Financial Statements 58 52 Table of ContentsReport of Independent Registered Public Accounting FirmThe Board of Directors and StockholdersWageWorks, Inc.:We have audited the accompanying consolidated balance sheets of WageWorks, Inc. and subsidiaries (the Company) as of December 31, 2012 and2013, and the related consolidated statements of income, stockholders’ equity (deficit), and cash flows for each of the years in the three-year period endedDecember 31, 2013. We also have audited the Company’s internal control over financial reporting as of December 31, 2013, based on criteria established inInternal Control — Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). TheCompany’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and forits assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control OverFinancial Reporting appearing under item 9A. Our responsibility is to express an opinion on these consolidated financial statements and an opinion on theCompany’s internal control over financial reporting based on our audits.We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standardsrequire that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whethereffective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements includedexamining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used andsignificant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reportingincluded obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluatingthe design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as weconsidered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reportingand the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal controlover financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are beingmade only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention ortimely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluationof effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliancewith the policies or procedures may deteriorate.In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of WageWorks, Inc.and subsidiaries as of December 31, 2012 and 2013, and the results of its operations and its cash flows for each of the years in the three-year period endedDecember 31, 2013, in conformity with U.S. generally accepted accounting principles. Also in our opinion, WageWorks, Inc. and subsidiaries maintained, inall material respects, effective internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control —Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)./s/ KPMG LLPSan Francisco, CaliforniaFebruary 27, 2014 53 Table of ContentsWAGEWORKS, INC.Consolidated Balance Sheets(In thousands, except per share amounts) December 31, 2012 December 31, 2013 Assets Current assets: Cash and cash equivalents $305,793 $359,958 Restricted cash 1,147 331 Accounts receivable, net 23,840 32,863 Deferred tax assets — current 11,855 1,985 Prepaid expenses and other current assets 6,309 10,135 Total current assets 348,944 405,272 Restricted cash, net of current portion 2,432 — Property and equipment, net 24,777 26,532 Goodwill 94,373 97,636 Acquired intangible assets, net 47,506 42,786 Deferred tax assets — 10,666 Other assets 1,938 16,763 Total assets $519,970 $599,655 Liabilities and Stockholders’ Equity Current liabilities: Accounts payable and accrued expenses $42,034 $49,419 Customer obligations 251,004 281,153 Short-term contingent payment 6,818 4,265 Other current liabilities 2,726 1,592 Total current liabilities 302,582 336,429 Long-term debt 44,371 29,448 Long-term contingent payment, net of current portion 11,772 3,802 Deferred tax liability 2,450 — Other non-current liability 2,384 1,844 Total liabilities 363,559 371,523 Stockholders’ Equity: Common stock, $0.001 par value. Authorized 1,000,000 shares; issued and outstanding31,571 shares at December 31, 2012 and 34,746 shares at December 31, 2013 32 35 Additional paid-in capital 220,500 270,519 Accumulated deficit (64,121) (42,422) Total stockholders’ equity 156,411 228,132 Total liabilities and stockholders’ equity $519,970 $599,655 The accompanying notes are an integral part of the consolidated financial statements. 54 Table of ContentsWAGEWORKS, INC.Consolidated Statements of Income(In thousands, except per share amounts) Year Ended December 31, 2011 2012 2013 Revenues: Healthcare $90,917 $112,905 $135,140 Commuter 33,325 51,817 59,579 Other 11,395 12,560 24,559 Total revenue 135,637 177,282 219,278 Operating expenses: Cost of revenues (excluding amortization of internal use software) 55,651 64,647 81,918 Technology and development 13,526 18,849 21,459 Sales and marketing 20,697 30,341 34,676 General and administrative 20,876 28,839 37,637 Amortization and change in contingent consideration 11,327 15,674 11,612 Total operating expenses 122,077 158,350 187,302 Income from operations 13,560 18,932 31,976 Other income (expense): Interest income 36 36 17 Interest expense (494) (1,772) (1,339) Gain on revaluation of warrants 351 381 — Other income — 48 248 Income before income taxes 13,453 17,625 30,902 Income tax benefit (provision) 19,868 (7,126) (9,203) Net income 33,321 10,499 21,699 Accretion of redemption premium expense (6,209) (2,301) — Net income attributable to common stockholders $27,112 $8,198 $21,699 Basic net income per share attributable to common stockholders $17.65 $0.45 $0.65 Diluted net income per share attributable to common stockholders $1.43 $0.33 $0.62 Shares used in basic net income per share calculations 1,536 18,138 33,626 Shares used in diluted net income per share calculations 20,086 24,414 35,277 The accompanying notes are an integral part of the consolidated financial statements. 55 Table of ContentsWAGEWORKS, INC.Consolidated Statements of Stockholders’ Equity (Deficit)(In thousands, except per share amounts) Convertible preferred stock Common stock Additionalpaid-in capital Accumulateddeficit TotalStockholders’Equity(Deficit) Shares Amount Shares Amount Balance at December 31, 2010 17,645 $33,965 1,531 $2 $22,591 $(107,941) $(51,383) Exercise of stock options — — 20 — 27 — 27 Share repurchases — — (5) — (57) — (57) Stock-based compensation — — — — 2,244 — 2,244 Accretion of redemption premium — — — — (6,209) — (6,209) Net income — — — — — 33,321 33,321 Balance at December 31, 2011 17,645 $33,965 1,546 $2 $18,596 $(74,620) $(22,057) Issuance of common stock in May2012 initial public offering at $9.00per share, net of issuance costs of$5,527 — — 7,475 7 57,023 — 57,030 Issuance of common stock in October2012 follow-on offering at $17.50per share, net of issuance costs of$903 — — 1,000 1 15,546 — 15,547 Conversion of preferred stock tocommon stock (17,645) (33,965) 17,688 18 118,416 — 84,469 Conversion of preferred stockwarrants to common stock warrants — — — — 738 — 738 Exercise of stock options — — 701 1 4,391 — 4,392 Exercise of Investor Warrant — — 3,039 3 1,737 — 1,740 Exercise of ORIX Warrant — — 43 — — — — Issuance of common stock underEmployee Stock Purchase Plan — — 87 — 852 — 852 Share repurchases — — (8) — (113) — (113) Tax benefit from the exercise of stockoptions — — — — 1,865 — 1,865 Stock-based compensation — — — — 3,750 — 3,750 Accretion of redemption premium — — — — (2,301) — (2,301) Net income — — — — — 10,499 10,499 Balance at December 31, 2012 — $— 31,571 $32 $220,500 $(64,121) $156,411 Issuance of common stock in March2013 follow-on offering at $24.00per share, net of issuance costs of$829 — — 500 1 10,721 — 10,722 Exercise of stock options — — 2,118 2 15,979 — 15,981 Exercise of Investor Warrant — — 351 — — — — Exercise of Lender Warrant — — 117 — — — — Issuance of common stock underEmployee Stock Purchase Plan — — 89 — 1,817 — 1,817 Tax benefit from the exercise of stockoptions — — — — 12,296 12,296 Stock-based compensation — — — — 9,206 — 9,206 Net income — — — — — 21,699 21,699 Balance at December 31, 2013 — $— 34,746 $35 $270,519 $(42,422) $228,132 The accompanying notes are an integral part of the consolidated financial statements. 56 Table of ContentsWAGEWORKS, INC.Consolidated Statements of Cash Flows(In thousands) Year Ended December 31, 2011 2012 2013 Cash flows from operating activities: Net income $33,321 $10,499 $21,699 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 3,199 2,950 3,421 Amortization and change in contingent consideration 11,327 15,674 11,612 Stock-based compensation 2,244 3,750 9,206 Revaluation of warrants (351) (381) — Loss on disposal of fixed assets 167 178 128 Payment of contingent consideration in excess of initial measurement (662) (3,361) (643) Provision for doubtful accounts 61 (261) 180 Deferred taxes (20,198) 6,688 9,049 Excess tax benefit from the exercise of stock options — (1,901) (12,296) Changes in operating assets and liabilities: Accounts receivable 475 (5,538) (8,457) Prepaid expenses and other current assets (3,996) (2,659) (3,954) Other assets 204 (160) (179) Accounts payable and accrued expenses (29) 5,075 7,840 Customer obligations 28,917 23,680 26,339 Other liabilities 510 1,900 (2,240) Net cash provided by operating activities 55,189 56,133 61,705 Cash flows from investing activities: Purchases of property and equipment (9,408) (12,291) (13,832) Cash consideration for business acquisitions, net of cash acquired (1,852) 8,953 (752) Cash paid for acquisition of client contracts — (6,006) (1,573) Advance payment for acquisition of client contracts — — (14,646) Change in restricted cash (1,334) 1,790 3,248 Net cash used in investing activities (12,594) (7,554) (27,555) Cash flows from financing activities: Proceeds from debt 12,064 29,470 — Repayment of debt — — (15,000) Proceeds from initial public offering net of underwriters commissions and discounts — 62,557 — Proceeds from follow-on offering net of underwriters commissions and discounts — 16,450 11,550 Proceeds from exercise of warrants — 1,740 — Proceeds from exercise of common stock options 27 4,392 15,981 Proceeds from issuance of common stock (Employee Stock Purchase Plan) — 852 1,817 Payment of contingent consideration (4,288) (14,656) (6,629) Payment for share repurchases (57) (113) — Excess tax benefit from the exercise of stock options — 1,901 12,296 Net cash provided by financing activities 7,746 102,593 20,015 Net increase in cash and cash equivalents 50,341 151,172 54,165 Cash and cash equivalents at beginning of period 104,280 154,621 305,793 Cash and cash equivalents at end of period $154,621 $305,793 $359,958 Supplemental cash flow disclosure: Cash paid during the period for: Interest $368 $1,094 $1,533 Taxes 442 583 714 Noncash financing and investing activities: Accretion of redemption premium 6,209 2,301 — Reduction in FBM contingent consideration due to re-negotiated lease — 528 — Reduction in FBM contingent consideration due to post-purchase adjustment — 2,316 Conversion of preferred stock to common stock — 118,434 — Conversion of preferred stock warrants to common stock warrants — 738 — PBS acquisition adjustment 590 — — The accompanying notes are an integral part of the consolidated financial statements. 57 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements (1)Summary of Business and Significant Accounting PoliciesBusinessWe are a leader in administering Consumer-Directed Benefits, or CDBs, which empower employees to save money on taxes while also providingcorporate tax deductions for employers. We are solely dedicated to administering CDBs, including pre –tax spending accounts such as health and dependentcare Flexible Spending Accounts (FSAs), Health Savings Accounts (HSAs), Health Reimbursement Arrangements (HRAs) as well as commuter benefitservices, including transit and parking programs, wellness programs and other employee spending account benefits, in the United States.We deliver our CDB programs through a highly scalable delivery model that employer clients and their employee participants may access through astandard web browser on any internet-enabled device, including computers, smart phones and other mobile devices such as tablet computers. Our on-demanddelivery model eliminates the need for our employer clients to install and maintain hardware and software in order to support CDB programs and enables us torapidly implement product enhancements across our entire user base.Our CDB programs assist employees and their families in saving money by using pre-tax dollars to pay for certain of their healthcare, dependent careand commuter expenses. Employers financially benefit from our programs through reduced payroll taxes, even after factoring in our fees. Under our FSA,HSA and commuter programs, employee participants contribute funds from their pre-tax income to pay for qualified out-of-pocket healthcare expenses notfully covered by insurance, such as co-pays, deductibles and over-the-counter medical products or for commuting costs.The Company operates as a single reportable segment on an entity level basis. The Company generates revenue from the administration of healthcare,commuter and other employer sponsored tax-advantaged benefit services. The entity level is the aggregation of these three revenue streams.Initial Public OfferingOn May 15, 2012, the Company closed its initial public offering (IPO). The offer and sale of all of the shares in the initial public offering wereregistered under the Securities Act pursuant to a registration statement on Form S-1, which was declared effective by the SEC on May 9, 2012 (the EffectiveDate). In connection with the IPO the Company sold 7,475,000 shares of common stock to the public at a price of $9.00 per share, which included 975,000shares of common stock from the full exercise of the overallotment option of shares granted to the underwriters. The Company received aggregate proceeds of$62.6 million from the initial public offering and the underwriters’ overallotment option, net of underwriters’ discounts and commissions. Upon the closingof the IPO, all shares of the Company’s previously outstanding preferred stock automatically converted into shares of common stock and outstandingwarrants to purchase the Company’s preferred stock automatically became exercisable for shares of common stock.Follow-On Public OfferingsOn October 9, 2012, the Company closed a follow-on public offering and sold 1,000,000 shares of common stock at a price of $17.50 per share, whichraised $16.5 million, net of underwriters’ discounts and commissions. Certain selling stockholders, including VantagePoint, sold 5,000,000 shares ofcommon stock in the offering, including 338,566 shares of common stock which were issued upon the exercise of outstanding warrants. In addition, theunderwriters exercised their overallotment option to purchase 900,000 additional shares from the selling stockholders, including 31,313 shares of commonstock which were issued upon the exercise of outstanding warrants. The Company did not receive any proceeds from the sale of shares by the sellingstockholders other than $1.7 million representing the exercise price of the warrants that were exercised by a selling stockholder in connection with the offering. 58 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements On March 18, 2013, the Company closed a follow-on public offering and sold 500,000 shares of common stock at a price of $24.00 per share, whichraised $11.6 million, net of underwriters’ discounts and commissions. Certain selling stockholders, including funds affiliated with VantagePoint CapitalPartners, or VantagePoint, sold 5,131,115 shares of common stock in the offering. In addition, the underwriters exercised their overallotment option topurchase 844,667 additional shares from the selling stockholders. The Company did not receive any proceeds from the sale of shares by the sellingstockholders.On August 19, 2013, the Company closed a follow-on public offering pursuant to which certain selling stockholders, including VantagePoint, sold2,968,276 shares of common stock. In addition, the underwriters exercised their overallotment option to purchase 445,241 additional shares from the sellingstockholders. The shares were purchased at a price of $39.54 per share, net of underwriters’ discounts and commissions. The Company did not receive anyproceeds from the sale of shares by the selling stockholders.Principles of ConsolidationThe consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. Acquisitions of businesses areaccounted for as business combinations, and accordingly, the results of operations of acquired businesses are included in the consolidated financialstatements from the date of acquisition. All significant intercompany accounts and transactions have been eliminated in consolidation.During the fourth quarter of 2013, the Company determined that certain shares that had previously been repurchased from current and formeremployees had, in fact, been cancelled upon repurchase and were not held in treasury. As a result, the Company made an immaterial correction in the 2012balance sheet to reduce treasury shares and additional paid-in capital by 200,000 shares and $546,000, respectively. As part of the immaterial correction, theCompany corrected to eliminate 187,000, 5,000 and 8,000 shares from treasury shares to common stock and reduced additional paid-in capital by $376,000,$57,000 and $113,000 for December 31, 2010, 2011 and 2012, respectively. This correction did not have an impact on the Company’s results of operationsor cash flows for any of the periods in the three years ended December 31, 2013.Use of EstimatesThe preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenueand expenses during the reporting period. Significant estimates in these consolidated financial statements include allowances for doubtful accounts, estimatesof future cash flows associated with assets, asset impairments, useful lives for depreciation and amortization, loss contingencies, expired and unredeemedproducts, deferred tax assets, reserve for income tax uncertainties, the assumptions used for stock-based compensation, and the assumptions used to fairvalue contingent consideration associated with acquisitions and purchase accounting. Actual results could differ from those estimates. In making its estimates,the Company considers the current economic and legislative environment in the estimates and has considered those factors when reviewing the assumptionsand estimates.Cash, Cash Equivalents, and Restricted CashThe Company considers all highly liquid investments with an original maturity of 90 days or less to be cash equivalents. Cash and cash equivalents,which consist of cash on deposit with banks and money market funds, are stated at cost. To the extent the Company’s contracts do not provide for anyrestrictions on the Company’s use of cash that it receives from clients the cash is recorded as cash and cash equivalents. 59 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements In all cases, the Company recognizes a related liability to its customers, classified as customer obligations in the accompanying consolidated balancesheets.Restricted cash represents cash used to collateralize standby letters of credit.Fair Value of Financial InstrumentsFinancial Accounting Standards Board (FASB) ASC 820, Fair Value Measurements and Disclosures, or ASC 820, provides a consistent frameworkto define, measure, and disclose the fair value of assets and liabilities in financial statements. ASC 820 establishes a three-level hierarchy priority fordisclosure of assets and liabilities recorded at fair value. The ordering of priority reflects the degree to which objective prices in external active markets areavailable to measure fair value. The classification of assets and liabilities within the hierarchy is based on whether the inputs to the valuation methodologyused for measurement are observable or unobservable.The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extentpossible. The Company determines fair value based on assumptions that market participants would use in pricing an asset or liability in the principal or mostadvantageous market. When considering market participant assumptions in fair value measurements, the following fair value hierarchy distinguishes betweenobservable and unobservable inputs, which are categorized in one of the following levels: • Level 1 Inputs: Unadjusted quoted prices in active markets for identical assets or liabilities accessible to the reporting entity at the measurementdate. • Level 2 Inputs: Other than quoted prices included in Level 1 inputs that are observable for the asset or liability, either directly or indirectly, forsubstantially the full term of the asset or liability. • Level 3 Inputs: Unobservable inputs for the asset or liability used to measure fair value to the extent that observable inputs are not available,thereby allowing for situations in which there is little, if any, market activity for the asset or liability at measurement date.The contingent consideration payable related to the Planned Benefits Systems (PBS), Fringe Benefits Management (FBM), Choice Strategies (CS),TransitCheck (TC), Benefit Concepts, Inc. (BCI) and Crosby Benefit Systems, Inc. (CBS) acquisitions were recorded at fair value on the acquisition dateand are adjusted quarterly to fair value. The increases or decreases in the fair value of contingent consideration payable can result from changes in anticipatedrevenue levels and changes in assumed discount periods and rates. As the fair value measure is based on significant inputs that are not observable in themarket, they are categorized as Level 3.Other financial instruments not measured at fair value on the Company’s consolidated balance sheet at December 31, 2013, but which require disclosureof their fair values include: cash and cash equivalents (including restricted cash), accounts receivable, accounts payable and accrued expenses and debt underthe line of credit with Union Bank, N.A. The estimated fair value of such instruments at December 31, 2013 approximates their carrying value as reported onthe consolidated balance sheet. The fair value of all of these instruments are categorized as Level 2 of the fair value hierarchy, with the exception of cash,which is categorized as Level 1. 60 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements The following table provides a reconciliation between the beginning and ending balances of items measured at fair value on a recurring basis that usedsignificant unobservable inputs (Level 3) (dollars in thousands): LenderWarrant ContingentConsiderationPBS ContingentConsiderationFBM ContingentConsiderationCS ContingentConsiderationTC ContingentConsiderationBCI ContingentConsiderationCBS Balances at December 31, 2011 $1,119 $5,798 $3,178 $— $— $— $— Initial fair value of contingentconsideration — — — 11,054 5,314 11,772 — Gains or losses included inearnings: Gain on revaluation of warrant (381) — — — — — — Loss on revaluation ofcontingent consideration — 1,062 542 645 86 — — Payment of contingent consideration — (6,860) (546) (5,211) (5,400) — — Reclassification of warrant toadditional paid-in capital (738) — — — — — — Reduction in FBM contingentconsideration due to post-purchase price adjustment — — (2,316) — — — — Reduction in FBM contingentconsideration due to re-negotiatedlease — — (528) — — — — Balances at December 31, 2012 $— $— $330 $6,488 $— $11,772 $— Initial fair value of contingentconsideration — — — — — — 2,170 Gains or losses included inearnings: (Gains) losses on revaluationof contingent consideration — — (330) 784 — (5,971) 96 Payment of contingent consideration — — — (7,272) — — — Balances at December 31, 2013 $— $— $— $— $— $5,801 $2,266 61 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements The Company measures contingent consideration elements each reporting period at fair value and recognizes changes in fair value in earnings eachperiod in the amortization and change in contingent consideration line item on the consolidated statements of income, until the contingency is resolved.The Company recorded $1.1 million, $0.5 million and $0.6 million in charges related to the change in fair value of the contingent considerations forPBS, FBM and CS, respectively, during 2012 due to increased revenue levels estimated to be achieved. In 2012, the Company recorded $0.1 million incharges related to the change in fair value of the TC contingent consideration as a result of the passage of time. The charges were recorded in the amortizationand change in contingent consideration line item in the Company’s accompanying consolidated statements of income.The Company recorded a net gain of $5.4 million for changes in the fair value of contingent considerations during 2013, which was primarily drivenby a gain of $5.9 million related to the BCI contingent consideration, as the timing of anticipated partnerships and certain new employer clients were deferreduntil later in 2014 and into 2015, as such the forecasted revenue increase in 2014 and 2015 was adjusted downward and a gain of $0.3 million related toFBM. These gains were partially offset by charges related to the change in fair value of the contingent consideration for CS of $0.8 million due to increasedrevenue levels estimated to be achieved, as well as charges related to the change in fair value of the contingent consideration for CBS of $0.1 million as a resultof the passage of time. The net gain was recorded in the amortization and change in contingent consideration line item in the Company’s accompanyingconsolidated statements of income.Quantitative Information About Level 3 Fair Value MeasurementsThe significant unobservable inputs used in the fair value measurement of the Company’s contingent consideration designated as Level 3 are as follows: Fair Value atDecember 31, 2013 ValuationTechnique SignificantUnobservableInput (in thousands, unaudited) Contingent consideration — BCI $5,801 Discounted cash flow Annualized revenue andprobability of achievementContingent consideration — CBS $2,266 Discounted cash flow Annualized revenue andprobability of achievementSensitivity To Changes In Significant Unobservable InputsAs presented in the table above, the significant unobservable inputs used in the fair value measurement of contingent consideration related to theacquisitions are annualized revenue forecasts developed by the Company’s management and the probability of achievement of those revenue forecasts.Significant increases (decreases) in these unobservable inputs in isolation would result in a significantly lower (higher) fair value measurement.Accounts ReceivableAccounts receivable represent both amounts receivable in relation to fees for the Company’s services and unpaid amounts by customers for benefitservices of participants provided by third-party vendors, such as transit agencies and healthcare providers. The Company provides for an allowance fordoubtful accounts by reference to reserves for specific accounts. The Company reviews its allowance for doubtful accounts monthly. Accounts more than 30days past due are reviewed weekly for collectability. Account balances are written off against the allowance after all means of collection have been exhaustedand the potential for recovery is considered remote. Write-offs for 2011, 2012 and 2013 were not significant. 62 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Property and EquipmentProperty and equipment are stated at cost less accumulated depreciation. Depreciation on computer and equipment and furniture and fixtures iscalculated on a straight-line basis over the estimated useful lives of those assets, ranging from three to five years. Leasehold improvements are amortized on astraight-line basis over the shorter of their estimated useful life or the lease term.When assets are retired or otherwise disposed of, the cost and related accumulated depreciation are removed from their respective accounts, and any gainor loss on such sale or disposal is reflected in operating expenses.Maintenance and repairs are expensed as incurred. Expenditures that substantially increase an asset’s useful life are capitalized.Software and Web Site Development CostsThe Company recognizes internal use software and Website development costs in accordance with FASB ASC Subtopic 350-40, Intangibles —Goodwill and Other — Internal-Use Software, and FASB ASC Subtopic 350-50, Intangibles — Goodwill and Other — Website Development Costs,respectively. As such, the Company expenses all costs incurred that relate to the planning and post implementation phases of development. Costs incurred inthe development phase are capitalized and recognized over the technology’s estimated useful life, generally four years, as amortization in the accompanyingconsolidated statements of income. Costs associated with the platform content or the repair or maintenance of the existing platforms are expensed as incurred.The Company accounts for interest costs related to internal use software and Website development costs in accordance with the provisions of FASBASC Subtopic 835-20, Interest — Capitalization of Interest, which require capitalization of interest on major construction or acquisition projects where thefinancial statement effect of capitalization versus current expense recognition is likely to be material. Capitalized interest related to software and developmentcosts was immaterial for all years.Accounting for Impairment of Long-Lived AssetsIn accordance with FASB ASC Subtopic 360-10, Property, Plant and Equipment, the Company evaluates the recoverability of property and equipmentand other assets, including identifiable intangible assets with definite lives, whenever events or changes in circumstances indicate that the carrying amount ofan asset may not be recoverable. Recoverability of assets held and used is measured by comparison of the carrying amount of an asset or an asset group toestimated undiscounted future net cash flows expected to be generated by the asset or asset group. If the carrying amount of an asset exceeds these estimatedfuture cash flows, an impairment charge is recognized by the amount by which the carrying amount of the assets exceeds the fair value of the asset or assetgroup, based on discounted cash flows. Assets to be disposed of are reported at the lower of their carrying amount or fair value less cost to sell. Impairmentadjustments related to software development costs were not significant for 2011, 2012 or 2013. There were no other impairments recorded for the remainingother long-lived assets for 2011, 2012 or 2013.Acquisitions and GoodwillThe Company has accounted for all of its acquisitions using the purchase method as required under the provisions of FASB ASC 805, BusinessCombinations, or ASC 805. The cost of acquisition is allocated to the assets acquired and liabilities assumed based on fair values at the date of acquisition.Goodwill represents the excess cost over the fair value of net assets acquired in the acquisition. 63 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements The Company performs a goodwill impairment test annually on December 31st and more frequently if events and circumstances indicate that the assetmight be impaired. The impairment tests are performed in accordance with FASB ASC 350, Intangibles — Goodwill and Other, or ASC 350. The followingare examples of triggering events (none of which occurred in 2012 or 2013) that could indicate that the fair value of a reporting unit has fallen below the unit’scarrying amount: • A significant adverse change in legal factors or in the business climate • An adverse action or assessment by a regulator • Unanticipated competition • A loss of key personnel • A more-likely than-not expectation that a reporting unit or a significant portion of a reporting unit will be sold or otherwise disposed ofAn impairment loss is recognized to the extent that the carrying amount exceeds the reporting unit’s fair value. When reviewing goodwill for impairment,the Company assesses whether goodwill should be allocated to operating levels lower than the Company’s single operating segment for which discrete financialinformation is available and reviewed for decision-making purposes. These lower levels are referred to as reporting units. The Company’s chief operatingdecision maker, the Chief Executive Officer, does not allocate resources or assess performance at the individual healthcare, commuter or other revenue streamlevel, but rather at the operating segment level. Discrete financial information is therefore not maintained at the revenue stream level. The Company’s onereporting unit was determined to be the Company’s one operating segment.The goodwill impairment analysis is a two-step process: first, the reporting unit’s estimated fair value is compared to its carrying value, includinggoodwill. If the Company determines that the estimated fair value of the reporting unit is less than its carrying value, the Company moves to the second step todetermine the implied fair value of the reporting unit’s goodwill. If the carrying amount of the reporting unit’s goodwill exceeds its fair value, an impairmentloss is recognized for any excess of the carrying amount of the reporting unit’s goodwill over the implied fair value of the reporting unit in a manner similar to apurchase price allocation.ASC 350 reduces the complexity and costs of goodwill impairment testing by allowing an entity the option to first make a qualitative evaluation aboutthe likelihood of goodwill impairment. If impairment is deemed more likely than not, management would perform the currently prescribed two-step goodwillimpairment test. Otherwise, the two-step goodwill impairment test is not required. In assessing the qualitative factors, the Company assesses relevant eventsand circumstances that may impact the fair value and the carrying amount of the reporting unit. The identification of relevant events and circumstances andhow these may impact a reporting unit’s fair value or carrying amount involve significant judgments and assumptions. The judgment and assumptionsinclude the identification of macroeconomic conditions, industry and market considerations, overall financial performance, Company specific events andshare price trends and making the assessment on whether each relevant factor will impact the impairment test positively or negatively and the magnitude ofany such impact. Based on the qualitative evaluation performed, management determined that it is not more likely than not that the fair value of our reportingunit is less than its carrying value and the two-step goodwill impairment test was not deemed necessary.To date, the Company has not made any impairment adjustments to goodwill as the fair value of its reporting unit in all prior years has always exceededits carrying value by a significant amount. 64 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Income TaxesThe Company reports income taxes in accordance with FASB ASC 740, Income Taxes, which requires an asset and liability approach in accountingfor income taxes. Deferred tax assets and liabilities arise from the differences between the tax basis of an asset or liability and its reported amount in theconsolidated financial statements, as well as from net operating loss and tax credit carryforwards. Deferred tax amounts are determined by using the tax ratesexpected to be in effect when the taxes will actually be paid or refunds received, as provided under current enacted tax law. The effect on deferred tax assets andliabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance reduces the deferred tax assets tothe amount that is more likely than not to be realized.The Company uses financial projections to support its net deferred tax assets, which contain significant assumptions and estimates of future operations.If such assumptions were to differ significantly, it may have a material impact on the Company’s ability to realize its deferred tax assets. At the end of eachperiod, the Company assesses the ability to realize the deferred tax benefits. If it is more likely than not that the Company would not realize the deferred taxbenefits, then the Company would establish a valuation allowance for all or a portion of the deferred tax benefits.Under ASC Subtopic 740-10, the Company recognizes the effect of income tax positions only if those positions are more likely than not of beingsustained on examination by the taxing authorities, based on the technical merits of the position. Recognized income tax positions are measured at the largestamount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgmentoccurs.The Company records interest and penalties related to uncertain tax positions in income tax expense.Revenue RecognitionThe Company reports revenue based on the following product lines: Healthcare, Commuter, and Other services. Healthcare and Commuter includerevenues generated from benefit service fees based on employee participant participation levels and interchange and other commission revenues. Interchangeand other commission revenues are based on a percentage of total healthcare and commuter dollars transacted pursuant to written purchase agreements withcertain vendors and banks. Other revenue includes services related to Consolidated Omnibus Budget Reconciliation Act, or COBRA, enrollment andeligibility, non-healthcare, and employee account administration (i.e., tuition and health club reimbursements) and project-related professional services.The Company recognizes all revenue streams in accordance with FASB ASC 605, Revenue Recognition. As such, the Company recognizes revenuewhen collectability is reasonably assured, service has been performed, persuasive evidence of an arrangement exists, and there is a fixed or determinable fee.Benefit service fees are recognized on a monthly basis as services are rendered and earned under service arrangements where fees and commissions arefixed or determinable and collectability is reasonably assured. Benefit service fees are based on a fee for service model (e.g., monthly fee per participant) inwhich revenue is recognized on a monthly basis as services are rendered under price quotations or service agreements having stipulated terms and conditions,which do not require management to make any significant judgments or assumptions regarding any potential uncertainties. Fees received for initial setup ofnew clients and annual renewal fees are deferred and recognized on a monthly basis as services are rendered over the agreed benefit period. The initial setupfees are not considered separable from the ongoing services provided for which benefit service fees are earned. 65 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Vendor and bank interchange revenues are attributed to revenue sharing arrangements the Company enters into with certain banks and cardassociations, whereby the Company shares a portion of the transaction fees earned by these financial institutions on debit cards the Company issues to itsemployee participants based on a percentage of total dollars transacted as reported on third-party reports. Commission revenue entails the Companypurchasing passes on behalf of its employee participants from various transit agencies and due to the significant volume of purchases, the Company receivescommissions on these passes which the Company records on a net basis. Commission revenue is recognized on a monthly basis as transactions are placedunder written purchase agreements having stipulated terms and conditions, which do not require management to make any significant judgments orassumptions regarding any potential uncertainties. In addition, the Company recognizes revenue on our estimate of passes that will expire unused over theestimated useful life of the passes, as the amounts paid for these passes are nonrefundable to both the employer client and the employee participant.Professional service fees are related to projects provided to the Company’s existing employer clients that last up to two months to accommodate theirchanging reporting and file transfer requirements and recognized upon completion of services and projects. These projects are discrete contracts and are notentered into contemporaneously with any other services the Company provides. The professional services are rendered with written price quotations or serviceagreements having stipulated terms and conditions, which do not require management to make any significant judgments or assumptions regarding anypotential uncertainties and where fees are fixed or determinable and collectability is reasonably assured.Stock-Based CompensationThe Company accounts for stock-based compensation costs in accordance with FASB ASC 718, Compensation — Stock Compensation, or ASC718. Under ASC 718, stock-based compensation cost is measured at the grant date, based on the estimated fair value of the award at that date, and isrecognized as expense over the employee’s requisite service period (generally over the vesting period of the award) on a straight-line basis.ASC 718 requires the benefits of tax deductions in excess of the compensation cost recognized for those options to be classified as financing cashinflows rather than operating cash inflows. There were no material excess tax benefits in the year ended December 31, 2011, and approximately $1.9 millionand $12.3 million of excess tax benefits in the years ended December 31, 2012 and 2013, respectively.Recently Issued Accounting PronouncementsIn July 2013, the FASB issued Accounting Standards Update No. 2013-11, Presentation of an Unrecognized Tax Benefit When a Net OperatingLoss Carryforward, a Similar Tax Loss, or Tax Credit Carryforward Exists, or ASU 2013-11. ASU 2013-11 allows entities to present an unrecognized taxbenefit, or a portion of an unrecognized tax benefit, as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax creditcarryforward when settlement in this manner is available under the tax law. The Company does not anticipate that the adoption of this standard in the firstquarter of 2014 will have a material impact on its results of operations or its financial condition. 66 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements (2)Net Income Per ShareThe following table sets forth the computation of basic and diluted net income per share attributable to common stockholders: Year Ended December 31, 2011 2012 2013 (in thousands,except per sharedata) Numerator (basic and diluted): Net income $33,321 $10,499 $21,699 Less: accretion of redemption premium expense (6,209) (2,301) — Net income attributable to common stockholders for basic EPS $27,112 $8,198 $21,699 Add back: accretion of redemption premium related to dilutive redeemable preferred stock 1,587 (260) — Net income attributable to common stockholders for diluted EPS $28,699 $7,938 $21,699 Denominator (basic): Weighted average common shares outstanding 1,536 18,138 33,626 Denominator (diluted): Weighted average common shares outstanding 1,536 18,138 33,626 Dilutive stock options 1,010 1,377 1,651 Weighted average common shares from stock warrants 2,500 403 — Weighted average common shares from preferred stock 15,040 4,496 — Net weighted average common shares outstanding 20,086 24,414 35,277 Net income per share attributable to holders of common stock: Basic $17.65 $0.45 $0.65 Diluted $1.43 $0.33 $0.62 Diluted net income per share does not include the effect of the following anti-dilutive common equivalent shares (in thousands): Year Ended December 31, 2011 2012 2013 Stock options outstanding 152 31 22 Common shares from convertible preferred stock 2,648 2,077 — Total common stock equivalents 2,800 2,108 22 (3)Acquisitions and Channel Partner ArrangementsThe Choice Care Card, LLC AcquisitionOn January 3, 2012, the Company acquired the operating assets and certain liabilities of The Choice Care Card, LLC, or CS, a Vermont limitedliability company. CS administers tax-advantaged, consumer-driven health care programs, primarily HRAs, through a debit card or direct-pay to provider ormember platform. This acquisition added a new regional base of customers and participant relationships. The aggregate non-contingent portion of the purchaseprice paid in cash was $8.7 million of which $8.3 million was paid at closing. 67 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements The Company accounted for the acquisition of CS as a purchase of a business under ASC 805. The purchase price included a contingent considerationelement for which the Company determined the initial fair value totaled $11.1 million at the acquisition date.The following table summarizes the allocation of the purchase price at the date of acquisition (dollars in millions): Amount Weighted AverageUseful Life(in years) Other net assets acquired $0.6 Client contracts 9.2 10 Developed technology 0.6 2 Goodwill 9.4 Total allocation of purchase price $19.8 As part of the purchase price allocation, the Company determined that CS’s separately identifiable intangible assets were its client contracts anddeveloped technology. The Company used the income approach to value the customer relationships. This approach calculates fair value by discounting theafter-tax cash flows back to a present value. The baseline data for this analysis was the cash flow estimates used to price the transaction. Cash flows wereforecasted and then discounted using a discount rate for customer relationships of 13%, based on the estimated weighted average cost of capital, whichemploys an estimate of the required equity rate of return and after-tax cost of debt.Goodwill recognized from the transaction results from the acquired workforce, the opportunity to expand our client base and achieve greater long-termgrowth opportunities than either company had operating alone. All of the recognized goodwill is expected to be deductible for tax purposes.TransitChek AcquisitionOn February 1, 2012, the Company acquired the commuter benefit services business TransitChek, or TC, from TransitCenter, Inc., or TCI, a NewYork-based not for profit entity that provided commuter benefit services predominantly to small- and medium-sized business, or SMB, employer clients in theNew York tri-state area. This acquisition added a new base of transit customers and participant relationships. The aggregate non-contingent portion of thepurchase price was $31.1 million of which $30.8 million was paid at closing.The Company accounted for the acquisition of TC as a purchase of a business under ASC 805.The purchase price included an additional future payment of $0.7 million that was discounted to present value that would be paid to a promotional fundin furtherance of TCI’s mission of raising awareness of the benefits of mass transit. The purchase price also included a contingent consideration element thatwas paid in 2012 to the former owners of TCI. 68 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements The following table summarizes the allocation of the purchase price at the date of acquisition (dollars in millions): Amount Weighted AverageUseful Life(in years) Other net assets acquired $1.7 Client contracts 8.8 8.7 Developed technology 4.4 3.0 Trade names 0.9 10.0 Favorable lease 1.1 11.0 Goodwill 20.2 Total allocation of purchase price $37.1 Other net assets acquired in the acquisition of TC primarily related to the following (in millions): Amount Cash $48.3 Restricted cash 0.5 Accounts receivable 0.9 Inventory 3.9 Prepaids and other assets 0.1 Property and equipment 1.4 Customer obligations (51.0) Accounts payable and accrued expenses (2.4) Total allocation to purchase price $1.7 As part of the purchase price allocation, the Company determined that TC’s separately identifiable intangible assets were its client contracts, developedtechnology, trade names and a favorable lease. The Company used the income approach to value the customer relationships and trade name. This approachcalculates fair value by discounting the after-tax cash flows back to a present value. The baseline data for this analysis was the cash flow estimates used toprice the transaction. Cash flows were forecasted and then discounted using a discount rate for customer relationships and trade name of 16% and 15%,respectively, based on the estimated weighted average cost of capital, which employs an estimate of the required equity rate of return and after-tax cost of debt.The Company used a replacement cost approach to estimate the fair value of developed technology in which estimates of development time and cost per manmonth are used to calculate total replacement cost. The Company estimated the fair value of the favorable lease terms by discounting the amount by which thestated lease payments differ from current estimated market rates at the acquisition date over the remaining lease term.Goodwill recognized from the transaction results from the acquired workforce, the opportunity to expand our client base and achieve greater long-termgrowth opportunities than either company had operating alone. All of the recognized goodwill is expected to be deductible for tax purposes.Benefit Concepts, Inc. AcquisitionOn December 31, 2012, the Company acquired Benefit Concepts, Inc., or BCI, a third party administrator of CDBs, such as, flexible spendingaccounts, health reimbursement arrangements and COBRA continuation services based in East Providence, Rhode Island. The Company accounted for theacquisition of BCI as a 69 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements purchase of a business under ASC 805. At December 31, 2012, the acquisition of BCI did not have an impact on the Company’s results of operations. Thisacquisition added a new regional base of customers and participant relationships and further strengthens the Company’s position in the Consumer-DirectedBenefits market. The goodwill of $19.0 million arising from the acquisition was attributed to the premium paid for the opportunity to expand and better servesmall and medium-sized businesses and achieve greater long-term growth opportunities than either company had operating alone. The aggregate non-contingentportion of the purchase price was $17.0 million and was paid in cash on December 31, 2012.The purchase price also included a contingent consideration element for which the Company determined the initial fair value totaled $11.8 million at theacquisition date. The fair value was determined from forecasts developed by management based upon existing business and relationships and projected growthrates. The Company discounted these forecasts using time value discount present value factor of 6.5%.The following table summarizes the consideration for BCI and the amounts of estimated fair value of the assets acquired and liabilities assumed at theacquisition date (in millions). Goodwill $ 19.0 Client contracts 8.0 Developed technology 2.4 Other intangibles 0.2 Other net assets acquired 3.2 Deferred income taxes (4.0) Total allocation of purchase price $28.8 The acquired intangible assets, all of which are being amortized, have a weighted average useful life of approximately 6.7 years. The intangible assetsinclude client contracts of $8.0 million (8.0-year weighted average useful life), developed technology of $2.4 million (2.9-year weighted average useful life) andother intangible assets of $0.2 million (2.8-year weighted average useful life).Since the acquisition was a stock purchase, assets acquired cannot be revalued for tax purposes; accordingly, a deferred tax liability of $4.0 million wasrecorded at the date of acquisition for the book tax cost basis difference related to the assets.Goodwill was calculated as the difference between the acquisition-date fair value of the consideration transferred and the values assigned to the assetsacquired and liabilities assumed. None of the goodwill is expected to be deductible for tax purposes.The valuation of acquired payments to or from participants of BCI, were initially recorded on a provisional basis and were based on information thatwas available as of the acquisition date. During the fourth quarter of 2013, the Company received additional information necessary to finalize the valuation ofacquired payments to or from participants of BCI. Accordingly, the consolidated balance sheet at December 31, 2012 has been retrospectively adjusted toinclude the effect of the measurement period adjustments as required by ASC 805. The Company recorded adjustments to increase cash and cash equivalentsby $0.7 million, increase accounts receivable by $0.9 million and increase customer obligations by $1.2 million, which resulted in a retrospective adjustmentto goodwill of $0.4 million. 70 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Crosby Benefit Systems, Inc. AcquisitionOn May 1, 2013, the Company acquired Crosby Benefit Systems, Inc., or CBS, a third party administrator of CDBs, such as, flexible spendingaccounts, health reimbursement arrangements, COBRA continuance services, enrollment and eligibility management and commuter programs, based inNewton, Massachusetts. CBS will continue to operate out of the Newton office as a division of the Company. The Company accounted for the acquisition ofCBS as a purchase of a business under ASC 805. The results of operations for CBS have been included in the Company’s financial results since theacquisition date. The financial results of this acquisition are considered immaterial for purposes of pro forma financial statement disclosures. The goodwill of$3.3 million arising from the acquisition was attributed to the premium paid for the opportunity to expand and better serve small and medium-sized businessesas well as enterprise clients. Goodwill is also attributed to the expectation of achieving greater long-term growth as a combined company than either companyhad operating alone. This acquisition added new customers and participant relationships and further strengthens the Company’s position in the Consumer-Directed Benefits market. The aggregate non-contingent portion of the purchase price was $5.0 million and was paid in cash on May 1, 2013.The purchase price also includes a contingent consideration element that requires the Company to pay the former owners of CBS additional amounts in2014 and 2015 based upon revenue growth rates of CBS for 2014 and 2015, respectively. The initial fair value of the contingent element totaled $2.2 millionbased on forecasted revenue growth rates for 2014 and 2015. The fair value was determined from forecasts developed by management based upon existingbusiness and relationships and projected growth rates. The Company discounted these forecasts using a present value discount factor of 6.5%. As the fairvalue measure is based on significant inputs that are not observable in the market, the Company categorizes the inputs as Level 3 inputs under ASC 820.The following table summarizes the consideration for CBS and the amounts of estimated fair value of the assets acquired and liabilities assumed at theacquisition date (in millions): Goodwill $ 3.3 Client contracts 2.7 Other intangibles 0.1 Other net assets acquired 1.1 Total allocation of purchase price $7.2 Client contracts are being amortized over a useful life of 8 years.Goodwill was calculated as the difference between the acquisition-date fair value of the consideration transferred and the values assigned to the assetsacquired and liabilities assumed. None of the goodwill is expected to be deductible for tax purposes.Channel Partner ArrangementsAflacIn April 2012, the Company entered into a channel partner arrangement with American Family Life Assurance Company, or Aflac, pursuant to whichAflac’s FSA and commuter account administration business would be transitioned to the Company. As of June 30, 2013, the transitioning of existing Aflacemployer clients was completed. The Company paid Aflac total payments of $7.2 million for all employer clients that transitioned to the Company. TheCompany has capitalized these payments as an intangible asset and is amortizing the asset over an expected life of 7 years. 71 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements CeridianIn July 2013, the Company entered into a channel partner arrangement with Ceridian, a global product and services company, pursuant to which theCeridian’s CDB account administration business will be substantially transitioned to the Company between October 2013 and January 2015. This newchannel partner arrangement did not have a significant impact on revenue in 2013. In conjunction with the transition, the Company also entered into a separatereseller arrangement with Ceridian.The final purchase price is calculated as a multiple of the expected annual revenue for each employer client successfully transitioned to the Company.The timing of the transition of revenue to the Company is dependent upon the employer clients executing new agreements with the Company and agreeing to aservice conversion, a process whose timing and outcome is ultimately controlled by each employer client. In July 2013, the Company made an initial paymentof $15.0 million to Ceridian, in advance of any employer clients transitioning over to the Company, which is anticipated to cover a substantial portion of thepurchase price. The $15.0 million payment was recorded in other assets in the Company’s consolidated balance sheet. As the employer clients transition to us,amounts from the other asset category will be reclassified as an intangible asset and amortization will commence. (4)Goodwill and Intangible AssetsThe changes in the carrying amount of goodwill for the years ended December 31, 2012 and 2013 is as follows (dollars in thousands): December 31, 2012 2013 Balance at beginning of year $46,233 $94,373 Additions 48,140 3,263 Balance at end of year $94,373 $97,636 In 2012, the increase in goodwill is attributed to the acquisitions of CS, TC and BCI. In 2013, the increase in goodwill is attributed to the acquisition ofCBS (see Note 3).Acquired intangible assets at December 31, 2012 and December 31, 2013 were comprised of the following (dollars in thousands): December 31, 2012 December 31, 2013 Grosscarryingamount Accumulatedamortization Net Grosscarryingamount Accumulatedamortization Net Amortizable intangible assets: Client contracts and broker relationships $58,410 $19,273 $39,137 $62,689 $25,313 $37,376 Trade names 2,180 792 1,388 2,240 1,120 1,120 Technology 9,946 4,316 5,630 9,946 6,850 3,096 Noncompete agreements 2,012 1,705 307 2,012 1,745 267 Favorable lease 1,137 93 1,044 1,137 210 927 Total $73,685 $26,179 $47,506 $78,024 $35,238 $42,786 Amortization expense for acquired intangible assets totaled $2.7 million, $6.6 million and $9.1 million in 2011, 2012 and 2013, respectively. 72 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements The estimated expected amortization expense in future periods at December 31, 2013 is as follows (dollars in thousands): 2014 $8,529 2015 7,034 2016 5,957 2017 5,631 2018 5,323 Thereafter 10,312 Total $42,786 (5)Accounts ReceivableAccounts receivable at December 31, 2012 and 2013 were comprised of the following (dollars in thousands): December 31, 2012 2013 Trade receivables $14,965 $18,398 Unpaid amounts for benefit services 9,278 14,932 24,243 33,330 Less allowance for doubtful accounts (403) (467) Accounts receivable, net $23,840 $32,863 Allowance for doubtful accounts roll forward is comprised of the following (dollars in thousands): BalanceBeginning ofYear AdditionsCharged to Costsand Expenses (Deductions)/Recoveries Balance atEnd of Year (In thousands) Allowance for Doubtful Accounts: Year Ended December 31, 2013 $403 $247 $(183) $467 Year Ended December 31, 2012 69 539 (205) 403 Year Ended December 31, 2011 415 292 (638) 69 (6)Property and EquipmentProperty and equipment at December 31, 2012 and 2013 were comprised of the following (dollars in thousands): December 31, 2012 2013 Computers and equipment $10,877 $9,960 Software and development costs 54,274 64,241 Furniture and fixtures 3,291 2,815 Leasehold improvements 7,039 5,840 $75,481 $82,856 Less accumulated depreciation and amortization (50,704) (56,324) Property and equipment, net $24,777 $26,532 73 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements During 2011, 2012 and 2013, the Company capitalized software development costs of $8.3 million, $10.5 million and $15.3 million, respectively.Amortization expense related to capitalized software development costs was $6.0 million, $6.7 million, and $8.0 million for 2011, 2012, and 2013respectively. These costs are included in amortization and change in contingent consideration in the accompanying consolidated statements of income. AtDecember 31, 2013, the unamortized software development costs included in property and equipment in the accompanying consolidated balance sheet was$21.0 million.Total depreciation expense, including amortization of internal use software, for the years ended December 31, 2011, 2012 and 2013 was $9.2 million,$9.7 million and $11.4 million, respectively. (7)Accounts Payable and Accrued ExpensesAccounts payable and accrued expenses at December 31, 2012 and 2013 were comprised of the following (dollars in thousands): December 31, 2012 2013 Accounts payable $2,020 $1,859 Payable to benefit providers and transit agencies 17,519 23,017 Accrued payables 6,239 6,305 Accrued compensation and related benefits 12,153 13,379 Other accrued expenses 1,994 1,616 Deferred revenue 2,109 3,243 Accounts payable and accrued expenses $42,034 $49,419 (8)DebtDebt consists of borrowings under a Commercial Credit Agreement, or Revolver, with Union Bank, N.A., or UB under which the Company canborrow an aggregate principal amount up to $75.0 million. In the third quarter of 2013, the Company repaid $15.0 million and as of December 31, 2013, theCompany had $29.6 million outstanding under the Revolver with UB. As collateral for the Revolver, the Company granted UB a security interest in all of theCompany’s assets. All of the Company’s material existing and future subsidiaries are required to guaranty the Company’s obligations under the Revolver.Such guarantees by existing and future material subsidiaries are and will be secured by substantially all of the property of such material subsidiaries.Under the amended terms of the Revolver, each new loan under the credit facility bears interest at a fluctuating rate per annum equal to a base ratedetermined in accordance with the credit agreement, plus 0.25%, or, at the Company’s option, an interest rate equal to the LIBOR rate determined inaccordance with the credit agreement, plus 2.50%. The interest rate applicable to the remaining loan outstanding at December 31, 2013 is 2.9%. Principal,together with all accrued and unpaid interest, is due and payable on December 31, 2015.The Revolver contains customary affirmative and negative covenants and also has financial covenants relating to a liquidity ratio, a ratio ofindebtedness to EBITDA, a debt service coverage ratio and a minimum consolidated net worth covenant. The Company is obligated to pay customarycommitment fees and letter of credit fees for a facility of this size and type.The Revolver contains customary events of default, including, among others, payment defaults, covenant defaults, inaccuracy of representations andwarranties, cross-defaults to other material indebtedness, judgment defaults, a change of control default and bankruptcy and insolvency defaults. Undercertain circumstances, a default interest rate will apply on all obligations during the existence of an event of default under the loan 74 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements agreement at a per annum rate of interest equal to 2.00% above the applicable interest rate. Upon an event of default, the lenders may declare the outstandingobligations payable by the Company to be immediately due and payable and exercise other rights and remedies provided for under the credit facility. (9)Warrants(a) Lender WarrantOn May 23, 2005, the Company entered into a Senior Loan and Security Agreement with Hercules, or Hercules Debt. On September 27, 2007, theCompany repaid the loan to Hercules. In connection with the Hercules Debt financing, the Company granted Hercules a warrant, or Lender Warrant, topurchase 423,529 shares of Series C Redeemable Preferred Stock at a purchase price of $4.25 per share. Upon the automatic conversion of the Company’spreferred stock into common stock in connection with the closing of the Company’s IPO on May 15, 2012, the Lender Warrant became exercisable for211,764 shares of common stock at a purchase price of $8.50 per share. In January 2013, the Lender Warrant was net exercised, resulting in 117,166common shares being issued. The cashless net exercise resulted in no cash being received by the Company as the shares withheld were applied to settle theexercise price owed by the exercising stockholder.(b) Investor WarrantsOn December 28, 2009, in connection with the Company entering into certain convertible note agreements with several existing Preferred Stockholders,the Company granted to the instrument holders warrants, or Investor Warrants, to purchase Series E Preferred Stock (later amended to Series E-1 PreferredStock). Upon the automatic conversion of the Company’s preferred stock into common stock in connection with the closing of the Company’s IPO onMay 15, 2012, the Investor Warrants became exercisable for 4,366,803 shares of common stock. In November 2012, the Company issued common shares,net of shares withheld, in connection with the exercise of the Investor Warrants by certain stockholders. The common shares were issued at an exercise price of$4.58 per share. Following this exercise, stockholders held Investor Warrants that were exercisable for 472,736 of common shares; these remaining InvestorWarrants were net exercised in January 2013, resulting in 350,705 common shares being issued. The cashless net exercise resulted in no cash being receivedby the Company as the shares withheld were applied to settle the exercise price owed by the exercising stockholders. (10)Common Stock(a) Authorized SharesOn May 15, 2012, the certificate of incorporation was amended to authorize the issuance of 1.1 billion shares of capital stock. The total number ofshares of common stock authorized was 1.0 billion shares.(b) Follow-On Public OfferingsOn March 18, 2013, the Company closed a follow-on public offering and sold 500,000 shares of common stock at a price of $24.00 per share, whichraised $11.6 million, net of underwriters’ discounts and commissions. Certain selling stockholders, including funds affiliated with VantagePoint CapitalPartners, or VantagePoint, sold 5,131,115 shares of common stock in the offering. In addition, the underwriters exercised their overallotment option topurchase 844,667 additional shares from the selling stockholders. The Company did not receive any proceeds from the sale of shares by the sellingstockholders.On August 19, 2013, the Company closed a follow-on public offering pursuant to which certain selling stockholders, including VantagePoint, sold2,968,276 shares of common stock. In addition, the underwriters exercised their overallotment option to purchase 445,241 additional shares from the sellingstockholders. The shares were purchased at a price of $39.54 per share, net of underwriters’ discounts and commissions. The Company did not receive anyproceeds from the sale of shares by the selling stockholders. 75 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements (11)Employee Benefit Plans(a) Employee Stock Option PlanThe Company’s stock option program is a long-term retention program that is intended to attract, retain, and provide incentives for talented employees,officers and directors, and to align stockholder and employee interests. The Company considers its option program critical to its operation and productivity.Currently, the Company grants options from the 2010 Equity Incentive Plan (2010 Plan). The Company’s 2010 Plan was adopted on May 26, 2010,and the Company has reserved for issuance under the 2010 Plan a total of 3.2 million common stock shares at December 31, 2013. Under the 2010 Plan,options can be granted to all employees, including executive officers, outside consultants and non-employee directors.The Company’s 2000 Stock Option/Stock Issuance Plan adopted in June 2000, as amended and restated, (2000 Plan), provides for the issuance ofoptions and other stock-based awards. The Company has reserved for issuance under the 2000 Plan a total of 1.3 million common stock shares atDecember 31, 2013. The Company issues new shares upon the exercise of stock options. Any forfeitures or shares remaining under the plan are canceled andnot available for reissue.Options under the 2000 and the 2010 Plan, or the Plans, are generally for periods not to exceed 10 years and must be issued at prices not less than 85%of the estimated fair value of the shares of Common Stock on the date of grant as determined by the plan administrator. Options become vested and exercisableat such times and under such conditions as determined by the board of directors. Options generally vest over four years with 25% vesting after one year andthe balance vesting monthly over the remaining period.In fiscal 2010 and the first quarter of 2012, the Company granted a total of 417,500 and 320,000 performance option awards to certain executives of theCompany, respectively. The performance option awards vest upon the completion of 7 years of service with the Company, and are subject to potential earlyvesting based upon the achievement of certain milestones as follows: 25% to vest upon an initial public offering, 25% to vest upon achieving certain revenuegrowth rate per year for two consecutive years, and an additional 50% will vest upon the achievement on an initial public offering and achieving consecutivegrowth rates. The Company completed its initial public offering in May 2012 and 25% of the awards vested. During 2013, the Company determined that itwas probable that the revenue growth rates would be achieved and this triggered early vesting on the remaining awards. The Company therefore accelerated andrecognized the stock-based compensation expense associated with these awards in fiscal 2013.In the third quarter of 2012, the Company granted 37,500 performance option awards to an executive of the Company. The performance option award issubject to the following vesting criteria: none of the options shall vest until September 18, 2019, provided however, that the following milestone is achieved:the shares shall immediately vest and become exercisable upon achieving certain revenue growth rate per year for two consecutive years. The Companyregularly assesses whether the milestone that would trigger early vesting of these options are probable to be achieved. As of December 31, 2013, the Companyhas determined that it is not appropriate to accelerate the vesting of these options based on the probability of achieving certain revenue growth rates and theCompany will continue to expense the awards over the service period through September 18, 2019. 76 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Stock-based compensation is classified in the consolidated statements of income in the same expense line items as cash compensation. Amounts recordedas expense in the consolidated statements of income are as follows (in thousands): Year Ended December 31, 2011 2012 2013 Cost of revenue $219 $282 $978 Technology and development 256 323 818 Sales and marketing 391 476 1,079 General and administrative 1,378 2,669 6,331 Total $2,244 $3,750 $9,206 As of December 31, 2013, there was $6.9 million of total unrecognized compensation cost related to unvested stock-based employee compensationarrangements that are expected to vest. The cost is expected to be recognized over a weighted average period of approximate 3.28 years, as of December 31,2013.The following table summarizes the weighted-average fair value of stock options granted: Year Ended December 31, 2011 2012 2013 Stock options granted (in thousands) 139 983 576 Weighted average fair value at date of grant $6.09 $5.83 $12.55 Stock option activity for the year ended December 31, 2013 is as follows (shares in thousands): Shares Weighted averageexercise price Remainingcontractual term(years) Aggregate intrinsicvalue (dollars inthousands) Outstanding at December 31, 2012 4,615 $8.11 6.54 $44,801 Granted 576 25.80 Exercised (2,118) 7.55 Forfeited (84) 12.13 Outstanding at December 31, 2013 2,989 $11.80 6.55 142,377 Vested and expected to vest at December 31,2013 2,883 $11.68 6.49 137,708 Exercisable at December 31, 2013 1,529 $8.88 5.03 77,303 The total intrinsic value of options exercised during the years ended December 31, 2011, 2012 and 2013, was $0.2 million, $8.1 million and $55.6million, respectively. Cash received from option exercises under all share-based payment arrangements for the year ended December 31, 2011 was less thanone hundred thousand dollars, and $4.4 million and $16.0 million for the years ended December 31, 2012 and 2013, respectively. The Company elected tofollow the tax law method of determining realization of excess tax benefits for stock-based compensation in accordance with ASC 718. There were no materialexcess tax benefits in the year ended December 31, 2011, and approximately $1.9 million and $12.3 million of excess tax benefits related to stock-based compensation that was recorded to stockholders’ equity during the years ended December 31, 2012 and 2013, respectively. 77 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements (b) Valuation AssumptionsThe Company calculated the fair value of each option award on the date of grant using the Black-Scholes option pricing model with the followingweighted average assumptions: Year Ended December 31, 2011 2012 2013 Expected volatility 55.78% 52.79% 51.43% Risk-free interest rate 2.58% 1.26% 1.09% Expected term (in years) 5.9 6.6 6.0 Dividend yield — % — % — % Stock-based compensation cost is measured at the grant date based on the fair value of the award. The determination of the fair value of stock-basedawards on the date of grant using an option pricing model is affected by the Company’s stock price as well as assumptions regarding a number of complexand subjective variables. Expected volatility is determined using weighted average volatility of peer publicly traded companies as well as the Company’s ownhistorical volatility. The Company expects that it will increase weighting of its own historical data in future periods, as that history grows over time. The risk-free interest rate is determined by using published zero coupon rates on treasury notes for each grant date given the expected term on the options. The dividendyield of zero is based on the fact that the Company expects to invest cash in operations and has never paid cash dividends on its common stock. TheCompany uses the “simplified” method to estimate expected term as determined under Staff Accounting Bulletin No. 110 due to the lack of option exercisehistory as a public company. During 2013, the Company assessed the appropriateness of the use of the simplified method and determined that it wasappropriate as the Company develops a history of option exercises. The Company will continue to assess the appropriateness of the use of the simplifiedmethod.The fair value of each option grant for performance share options was estimated on the date of grant using the same option valuation model used foroptions granted under the employee share option plan and assumes that performance goals will be achieved.Stock-based compensation expense is recognized in the consolidated statements of income based on awards ultimately expected to vest, it is reduced forestimated pre-vest forfeitures. ASC 718 requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actualforfeitures differ from those estimates. In addition, ASC 718 requires that compensation cost recognized at any date must be at least equal to the amountattributable to options that are vested at that date. The Company calculates an adjustment of its compensation costs to the vested amounts on a quarterly basis.The pre-vesting of forfeitures is estimated based on weighted average historical forfeiture rates. Under the provisions of ASC 718, the Company will recordadditional expense if the actual forfeiture rate is lower than estimated, and will record a recovery of prior expense if the actual forfeiture rate is higher thanestimated.(c) Restricted Stock UnitsThe Company grants restricted stock units to certain employees, officers, and directors under the 2010 Plan. Restricted stock units vest upon eitherperformance-based or service-based criteria. Generally, service-based restricted stock units vest over four years, with equal annual cliff-vesting. Performance-based restricted stock units vest based on the satisfaction of specific performance criteria. At each vesting date, the holder of the award is issued shares of theCompany’s common stock. Compensation expense from these awards is equal to the fair market value of the Company’s common stock on the date of grantand is recognized either over the requisite service period, for service-based awards, or based on the probable outcome of achievement of the financial metrics,for performance-based awards. Management’s estimate of the number of shares expected to vest is based on the anticipated achievement of the specifiedperformance criteria. No restricted stock units were granted prior to fiscal 2013. 78 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements In fiscal 2013, the Company granted a total of 219,000 performance-based restricted stock units to certain executives and employees and granted a totalof 171,500 service-based restricted stock units to certain employees. Performance-based restricted stock units are typically granted such that they vest uponthe achievement of certain revenue growth rates, and other financial metrics, during a specified performance period for which participants have the ability toreceive up to 150% of the target number of shares originally granted. The Company determined that it is probable that the revenue growth rates and otherfinancial metrics will be achieved and the Company therefore is recognizing stock-based compensation expense associated with these awards at the 150%target.Stock-based compensation expense related to restricted stock units was $2.7 million in 2013. Total unrecorded stock-based compensation cost atDecember 31, 2013 associated with restricted stock units was $8.4 million, which is expected to be recognized over a weighted-average period of 2.60 years.The following table summarizes information about restricted stock units issued to officers, directors, and employees under our 2010 Plan: Shares Weighted AverageGrant DateFair Value (in thousands) Non-vested at December 31, 2012 — $— Granted 391 24.47 Vested — — Forfeitures (7) 23.76 Non-vested at December 31, 2013 384 $24.48 (d) Employee Stock Purchase PlanConcurrent with the closing of our IPO in May 2012, the Company established the 2012 Employee Stock Purchase Plan (ESPP) which is intended toqualify under Section 423 of the Internal Revenue Code of 1986. The ESPP allows eligible Company executives and other employees to purchase shares of theCompany’s common stock at a discount through payroll deductions. The Company issued 88,911 common stock shares for which it received $1.8 millionfrom employee contributions during 2013. At December 31, 2013, a total of 639,698 shares of the Company’s common stock are available for sale under theESPP. In addition, the ESPP provides for annual increases in the number of shares available for issuance under the ESPP on the first day of each fiscal year,equal to the least of: • 500,000 shares of common stock; • 1% of the outstanding shares of our common stock as of the last day of our immediately preceding fiscal year; or • such other amount as may be determined by the board.Under the ESPP, employees are eligible to purchase common stock through payroll deductions of up to 25% of their eligible compensation, subject toany plan limitations. The ESPP has four consecutive offering periods of approximately three months in length during the year and the purchase price of theshares will be 85% of the lower of the fair value of our common stock on the first trading day of the offering period or on the last day of the offering period. 79 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements (e) 401(k) PlanThe Company participates in the WageWorks 401(k) Plan, or 401(k) Plan, a tax-deferred savings plan covering all of its employees working more than1,000 hours per year. Employees become participants in the 401(k) Plan on the first day of any month following the first day of employment. Eligibleemployees may contribute up to 85% of their compensation to the 401(k) Plan, limited to the maximum allowed under the Internal Revenue Code. TheCompany, at its discretion, may match up to 25% of the first 6% of employees’ contributions and may make additional contributions to the 401(k) Plan. TheCompany contributed approximately $0.3 million, $0.7 million and $1.0 million for 2011, 2012 and 2013, respectively. (12)Income TaxesThe Company provides for income taxes using an asset and liability approach, under which deferred income taxes are provided based upon enacted taxlaws and rates applicable to periods in which the taxes become payable. The Company is subject to income taxes in the U.S. federal and various statejurisdictions. Presently, there is no income tax examination going on in the jurisdictions where the Company operates.The components of the benefit (provision) for income taxes for the years ended December 31, 2011, 2012 and 2013 are as follows (dollars inthousands): 2011 2012 2013 Current: Federal $— $(1,667) $(10,748) State (330) (635) (1,702) $(330) $(2,302) $(12,450) Deferred: Federal 17,854 (4,757) 2,929 State 2,344 (67) 318 20,198 (4,824) 3,247 Total benefit (provision) for income taxes $19,868 $(7,126) $(9,203) 80 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Deferred tax assets (liabilities) as of December 31, 2012 and 2013 consist of the following (dollars in thousands): 2012 2013 Deferred tax assets: Current: Accruals and reserves $1,985 $1,985 Net operating loss carryforwards 9,870 — Deferred tax assets-current 11,855 1,985 Noncurrent: Net operating loss carryforwards 4,255 13,410 Stock-based compensation 3,827 5,182 R&D and other credits 1,532 2,523 Property and equipment 286 609 Reserves-noncurrent 290 453 Deferred tax assets-noncurrent 10,190 22,177 Gross deferred tax assets 22,045 24,162 Deferred tax liabilities: Noncurrent Intangibles (9,540) (6,665) Goodwill (3,100) (4,846) Gross deferred tax liabilities (12,640) (11,511) Net deferred tax assets and liabilities: Net deferred tax assets-current 11,855 1,985 Net deferred tax assets (liabilities) (2,450) 10,666 Total net deferred tax assets $9,405 $12,651 Reconciliation of the statutory federal income tax rate to the Company’s effective tax rate for the years ended December 31, 2011, 2012 and 2013: 2011 2012 2013 Tax provision at U.S. statutory rate 34% 35% 35% State income taxes, net of federal benefit 4 3 5 Warrants (1) — — Permanent items — adjustment to contingent consideration 8 3 (8) Permanent items — other — 1 1 R&D credits (1) — (1) Change in valuation allowance (193) — — Other 1 (2) (2) Provision (benefit) for tax (148)% 40% 30% The Company’s accounting for deferred taxes involves the evaluation of a number of factors concerning the realizability of the Company’s deferred taxassets. Assessing the realizability of deferred tax assets is dependent upon several factors, including the likelihood and amount, if any, of future taxableincome in relevant jurisdictions during the periods in which those temporary differences become deductible. The Company’s management forecasts taxableincome by considering all available positive and negative evidence including its 81 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements history of operating income or losses and its financial plans and estimates which are used to manage the business. The Company evaluated its position for theyear ended December 31, 2011 and removed the valuation allowance it was carrying against deferred tax assets based on that evaluation. The Company hasconcluded there was sufficient positive evidence at the end of December 31, 2012 and December 31, 2013 to continue to support the position that the Companydoes not need to maintain a valuation allowance on deferred tax assets. These assumptions require significant judgment about future taxable income. Theamount of deferred tax assets considered realizable is subject to adjustment in future periods if estimates of future taxable income are reduced.At December 31, 2013, unrecognized tax benefits approximated $3.7 million, which would impact the income tax expense if recognized. Included in thebalance at December 31, 2013 is $0.7 million of current year tax positions, which would affect the Company’s income tax expense if recognized. As ofDecember 31, 2013, the Company has no uncertain tax positions that would be reduced as a result of a lapse of the applicable statute of limitations in thefollowing year. The Company does not anticipate that any adjustments would result in a material change to its financial position. For the years endedDecember 31, 2011, 2012 and 2013, the Company did not recognize interest or penalties related to unrecognized tax benefits.A reconciliation of the beginning and ending balances of the total amounts of gross unrecognized tax benefits is as follows: Year Ended December 31, 2011 2012 2013 (In thousands) Balance, beginning of year $1,994 $2,321 $2,478 Increase in tax positions for prior years 24 15 515 Increase in tax positions for current year 303 142 723 Balance, end of year $2,321 $2,478 $3,716 The Company files income tax returns in the U.S. federal jurisdiction and various states jurisdictions. As a result of the Company’s net operating losscarryforwards, the 2000 through 2013 tax years are open and may be subject to potential examination in one or more jurisdictions.At December 31, 2013, the Company had federal and state operating loss carryforwards of approximately $54.6 million and $96.4 million,respectively, available to offset future regular and alternative minimum taxable income. The increase in operating loss carryforwards for 2013, was the resultof tax deductions from the exercise of stock options. The Company’s federal net operating loss carryforwards expire in the years 2024 through 2033, if notutilized. The state net operating loss carryforwards expire in the years 2015 through 2033. The federal and state net operating loss carryforwards includeexcess tax deductions related to stock options in the amount of $22.6 million and $16.2 million, respectively. When utilized, the related tax benefit will bebooked to additional paid-in capital.The Company also has tax deductible goodwill related to asset acquisitions.In addition, the Company had federal and California research and development credit carryforwards of approximately $4.3 million and $2.0 millionrespectively, available to offset future tax liabilities. The federal research credit carryforwards expire beginning in the years 2022 through 2033, if not fullyutilized. The California tax credit carryforward can be carried forward indefinitely.The Company’s ability to utilize the net operating losses and tax credit carryforwards are subject to limitations in the event of an ownership change asdefined in Section 382 of the Internal Revenue Code (“IRC”) of 1986, as amended, and similar state tax law. In general, an ownership change occurs if theaggregate stock 82 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements ownership of certain stockholders increases by more than 50 percentage points over such stockholders’ lowest percentage ownership during the testing period(generally three years). The Company has considered Section 382 of the IRC and concluded that any ownership change would not diminish the Company’sutilization of its net operating loss or its research and development credits during the carryover periods.The Company elected to follow the tax law method of determining realization of excess tax benefits for stock-based compensation in accordance withASC 718. During 2013, the Company recorded approximately $12.3 million of excess tax benefits related to stock-based compensation that was credited tostockholders’ equity during the year. (13)Commitments and Contingencies(a) Operating LeasesThe Company leases office space and equipment under noncancelable operating leases with various expiration dates through 2023. Future minimumlease payments under noncancelable operating leases are as follows (dollars in thousands): Operating leases As of December 31,2013 2014 $5,109 2015 3,491 2016 1,724 2017 1,492 2018 1,484 Thereafter 6,535 Total future minimum lease payments $19,835 Rent expense in 2011, 2012 and 2013 was $3.2 million, $4.5 million and $4.7 million, respectively.(b) Legal MattersThe Company is involved from time to time in claims that arise in the normal course of its business. The Company is not presently subject to anymaterial litigation nor, to management’s knowledge, is any litigation threatened against the Company that collectively is expected to have a material adverseeffect on the Company’s cash flows, financial condition or results of operations. (14)Related PartyThe National Flex Trust, or the Trust, established by a subsidiary of the Company, is to provide reimbursement of qualified expenses to planparticipants under certain employer plans that have contracted with the Company to provide the plan services using a custodial account, or the Trust Account.The client is responsible for maintaining the employer plan for their participants, including the establishment of eligibility and paying all eligible claimamounts owed to their participants. The Company is an independent contractor engaged to perform administration services. As an administrator, theCompany does not have the power to direct the activities of the Trust that would most significantly impact the Trust’s economic performance. 83 Table of ContentsWAGEWORKS, INC.Notes to Consolidated Financial Statements Under a Management Agreement for Services to the Trust, the Company is to provide services to the Trust, including accounting, treasury, tax,administration, and management. The Trust is to pay the Company monthly for the services provided based on plan participants and/or debit cardsadministered. For the past several years, the Trust’s earnings have been insufficient to cover these costs and, consequently, the Company has not recognizedthese fees during this period. Amounts due to the Company from the Trust for management services have been fully written off as of December 31, 2012.Trust expenses subsidized by the Company were $112,000, $82,000 and $80,000 in 2011, 2012 and 2013.The Company has a long-term receivable due from the Trust totaling $1.0 million which the Trust holds with its banks, as a security deposit for thesettlement of participant claims. The Company has recorded this receivable within Other Assets. (15)Selected Quarterly Financial Data (unaudited) Fiscal Quarter Ended March 31,2012 June 30,2012 September 30,2012 December 31,2012 March 31,2013 June 30,2013 September 30,2013 December 31,2013 Revenues $44,310 $43,777 $42,538 $46,657 $56,115 $54,561 $53,571 $55,031 Operating expenses: Cost of revenues (excludingamortization of internal usesoftware) 17,057 15,620 15,210 16,760 20,613 19,932 19,300 22,073 Sales and marketing, technology anddevelopment and general andadministrative 19,027 19,214 18,635 21,153 23,541 23,167 23,832 23,232 Amortization and change incontingent consideration 4,438 4,094 3,713 3,429 4,462 4,725 554 1,871 Total operating expense 40,522 38,928 37,558 41,342 48,616 47,824 43,686 47,176 Income from operations 3,788 4,849 4,980 5,315 7,499 6,737 9,885 7,855 Other income (expense): Interest income 10 9 14 3 7 6 3 1 Interest expense (405) (452) (456) (459) (378) (369) (326) (266) Other, net (11) 419 19 2 19 14 7 208 Income before income taxes 3,382 4,825 4,557 4,861 7,147 6,388 9,569 7,798 Income tax provision (1,372) (1,601) (2,034) (2,119) (2,511) (2,396) (1,818) (2,478) Net income 2,010 3,224 2,523 2,742 4,636 3,992 7,751 5,320 Accretion of redemption premium(expense) benefit (1,523) (778) — — — — — — Net income attributable to commonstockholders $487 $2,446 $2,523 $2,742 $4,636 $3,992 $7,751 $5,320 Net income per share attributable to commonstockholders: Basic $0.32 $0.17 $0.09 $0.09 $0.14 $0.12 $0.23 $0.15 Diluted $0.02 $0.10 $0.08 $0.09 $0.14 $0.11 $0.22 $0.15 Shares Outstanding Basic 1,546 14,268 26,755 29,761 32,226 33,473 34,134 34,638 Diluted 16,986 24,349 31,632 31,898 33,841 35,047 35,875 36,313 84 Table of ContentsItem 9. Changes in and Disagreements With Accountants on Accounting and Financial DisclosureNone.Item 9A. Controls and ProceduresEvaluation of Disclosure Controls and ProceduresWe maintain “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934(“Exchange Act”), that are designed to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act isrecorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and that such information is accumulated andcommunicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regardingrequired disclosure. In designing and evaluating our disclosure controls and procedures, management recognizes that disclosure controls and procedures, nomatter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures aremet. Additionally, in designing disclosure controls and procedures, our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures.Subject to the limitations noted above, based on their evaluation at the end of the period covered by this Annual Report on Form 10-K, our management,with the participation of our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of the Company’s disclosure controls andprocedures and have concluded that our disclosure controls and procedures were effective at the reasonable assurance level.Management’s Report on Internal Control over Financial ReportingOur management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company as defined in Rule13a-15(f) and 15d-15(f) of the Exchange Act. The Company’s internal control over financial reporting is a process designed by, or under the supervision of,our Chief Executive Officer and Chief Financial Officer, and effected by our board of directors, management and other personnel, to provide reasonableassurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally acceptedaccounting principles. Internal control over financial reporting includes those policies and procedures that: (i) pertain to the maintenance of records that, inreasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recordedas necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expendituresare being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timelydetection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluationof effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliancewith the policies or procedures may deteriorate.Our management, under the supervision of our Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of the Company’sinternal control over financial reporting as of December 31, 2013 using the criteria established in Internal Control — Integrated Framework (1992) issuedby the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on this assessment and those criteria, management concludedthat our internal control over financial reporting was effective as of December 31, 2013.The effectiveness of our internal control over financial reporting as of December 31, 2013 has been audited by KPMG LLP, an independent registeredpublic accounting firm, as stated in their report, which appears in Part II, Item 8 of this Form 10-K. 85 Table of ContentsChanges in Internal Control over Financial ReportingThere was no change in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) or theExchange Act that occurred during the period covered by this Annual Report on Form 10-K that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.Item 9B. Other InformationNone. 86 Table of ContentsPART III.Item 10. Directors, Executive Officers and Corporate GovernanceThe information required by this Item 10 of Form 10-K that is found in our 2014 Proxy Statement to be filed with the SEC in connection with thesolicitation of proxies for the Company’s 2014 Annual Meeting of Stockholders is incorporated by reference to our 2014 Proxy Statement. The 2014 ProxyStatement will be filed with the SEC within 120 days after the end of the fiscal year to which this report relates.Item 11. Executive CompensationThe information required by this Item 11 of Form 10-K is incorporated by reference to our 2014 Proxy Statement.Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder MattersThe information required by this Item 12 of Form 10-K is incorporated by reference to our 2014 Proxy Statement.Item 13. Certain Relationships and Related Transactions, and Director IndependenceThe information required by this Item 13 of Form 10-K is incorporated by reference to our 2014 Proxy Statement.Item 14. Principal Accounting Fees and ServicesThe information required by this Item 14 of Form 10-K is incorporated by reference to our 2014 Proxy Statement. 87 Table of ContentsPART IV.Item 15. Exhibits and Financial Statement SchedulesDocuments filed as part of this report are as follows: 1.Consolidated Financial Statements:Our Consolidated Financial Statements are listed in the “Index to Consolidated Financial Statements” in Part II, Item 8 of this Annual Report onForm 10-K. 2.Exhibits:The documents listed in the Exhibit Index of this Annual Report on Form 10-K are incorporated by reference or are filed with this report, in eachcase as indicated therein (numbered in accordance with Item 601 of Regulation S-K). 88 Table of ContentsSIGNATURESPursuant to the requirement of Sections 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized. WAGEWORKS, INC.Date: February 27, 2014 By: /s/ RICHARD T GREEN Richard T. Green Chief Financial Officer (Principal Financial and Accounting Officer)POWER OF ATTORNEYKNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Joseph L. Jackson andRichard T. Green, and each or any one of them, his or her lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him orher and in his or her name, place and stead, in any and all capacities, to sign any and all amendments (including post-effective amendments) to this AnnualReport on Form 10-K and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and ExchangeCommission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thingrequisite and necessary to be done in connection therewith, as fully to all intents and purposes as he or she might or could do in person, hereby ratifying andconfirming all that said attorneys-in-fact and agents, or any of them, or their or his substitutes, may lawfully do or cause to be done by virtue hereof.Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of theregistrant and in the capacities and on the dates indicated. SIGNATURE TITLE DATE/S/ JOSEPH L JACKSON Chief Executive Officerand Director (Principal Executive Officer) February 27, 2014Joseph L. Jackson /S/ RICHARD T GREEN Chief Financial Officer (Principal Financial Officer) February 27, 2014Richard T. Green /S/ RICHARD M BERKELEY Director February 27, 2014Richard M. Berkeley /S/ THOMAS A BEVILACQUA Director February 27, 2014Thomas A. Bevilacqua /S/ BRUCE G BODAKEN Director February 27, 2014Bruce G. Bodaken /S/ MARIANN BYERWALTER Director February 27, 2014Mariann Byerwalter /S/ JEROME D GRAMAGLIA Director February 27, 2014Jerome D. Gramaglia. 89 Table of ContentsSIGNATURE TITLE DATE/S/ JOHN W LARSON Director February 27, 2014John W. Larson /S/ EDWARD C NAFUS Director February 27, 2014Edward C. Nafus 90 Table of ContentsExhibit Index ExhibitNumber Exhibit Description Incorporated by Reference Form File No. Exhibit Filing Date 2.1 Asset Purchase Agreement, by and between Registrant and TransitCenter, Inc.,dated as of November 16, 2011 S-1 333-173709 2.1 03/07/2012 3.1 Amended and Restated Certificate of Incorporation of Registrant S-1 333-173709 3.2 07/19/2011 3.2 Amended and Restated Bylaws of Registrant S-1 333-173709 3.4 07/19/2011 4.1 Specimen common stock certificate of Registrant S-1 333-173709 4.1 07/19/2011 4.2 Amended and Restated Investors’ Rights Agreement, dated as of December 22,2005, between Registrant and certain holders of Registrant’s capital stocknamed therein S-1 333-173709 4.2 04/25/2011 4.3 Amendment No. 1 to Amended and Restated Investors’ Rights Agreement,dated as of December 28, 2009, between Registrant and certain holders ofRegistrant’s capital stock named therein S-1 333-173709 4.3 04/25/2011 4.4 Amendment No. 2 to Amended and Restated Investors’ Rights Agreement,dated as of July 30, 2010, between Registrant and certain holders ofRegistrant’s capital stock named therein S-1 333-173709 4.4 04/25/2011 4.5 Stockholder Agreement by and among VantagePoint Venture Partners IV (Q),L.P., VantagePoint Venture Partners IV, L.P., VantagePoint Venture Partners IVPrincipals Fund, L.P. and Registrant S-1 333-173709 4.5 07/19/2011 4.6 Form of Amended and Restated Warrant to Purchase Series E-1 Preferred Stock S-1 333-173709 4.6 04/25/2011 4.7 Warrant Agreement to Purchase Shares of the Series C Preferred Stock ofRegistrant issued to Hercules Technology Growth Capital, Inc., dated as ofMay 23, 2005 S-1 333-173709 4.7 04/25/2011 4.8 Warrant to Purchase Common Stock of Registrant issued to ORIX VentureFinance LLC, dated as of September 26, 2007 S-1 333-173709 4.8 04/25/2011 10.1* Form of Indemnification Agreement entered into between Registrant, itsaffiliates and its directors and officers S-1 333-173709 10.1 07/19/2011 10.2* Amended and Restated 2010 Equity Incentive Plan 8-K 001-35232 10.1 04/17/2013 91 Table of ContentsExhibitNumber Exhibit Description Incorporated by Reference Form File No. Exhibit Filing Date 10.3* Forms of Stock Option Agreements under the Amended and Restated 2010Equity Incentive Plan S-1 333-173709 10.3 07/19/2011 10.4* 2000 Stock Option/Stock Issuance Plan S-1 333-173709 10.4 04/25/2011 10.5* Form of Stock Option Agreement under the 2000 Stock Option/StockIssuance Plan S-1 333-173709 10.5 04/25/2011 10.6* 2012 Employee Stock Purchase Plan 10-K 001-35232 10.10D 02/27/2013 10.7* Form of Subscription Agreement under 2012 Employee Stock Purchase Plan S-1 333-173709 10.7 03/07/2012 10.8* Second Amended and Restated Employment Agreement, dated as ofNovember 23, 2010, between Registrant and Joseph L. Jackson S-1 333-173709 10.8 06/08/2011 10.9* Form of Amended and Restated Executive Severance Benefit AgreementPurchase Plan S-1 333-173709 10.9 04/25/2011 10.10 Commercial Credit Agreement, between Registrant and Union Bank, N.A.,dated as of August 31, 2010 S-1 333-173709 10.10 04/25/2011 10.10A First Loan Modification Agreement, by and among Registrant, Union Bank,N.A. and MHM Resources, LLC, dated as of November 16, 2011 S-1 333-173709 10.10A 03/07/2012 10.10B Second Loan Modification Agreement, by and among Registrant, UnionBank, N.A. and MHM Resources, LLC, dated as of February 14, 2012 S-1 333-173709 10.10B 03/07/2012 10.10C Third Loan Modification Agreement, by and among Registrant, UnionBank, N.A. and MHM Resources, LLC, dated as of September 20, 2012 8-K 001-35232 10.1 09/24/2012 10.10D Fourth Loan Modification Agreement, by and among Registrant, UnionBank, N.A. and MHM Resources, LLC, dated as of December 31, 2012 10-K 001-35232 10.10D 02/27/2013 10.11 Sublease Agreement between Oracle USA, Inc. and Registrant, dated as ofSeptember 13, 2006 S-1 333-173709 10.11 04/25/2011 10.12 First Amendment to Sublease between Oracle USA, Inc. and Registrant,dated as of October 30, 2006 S-1 333-173709 10.12 04/25/2011 10.13 Commercial Building Lease, by and between Applied Buildings, LLC andHCAP Strategies, Inc., dated as of December 17, 2004 S-1 333-173709 10.13 04/25/2011 10.14 Assignment and Assumption of Lease, between, HCAP Strategies, Inc. andRegistrant, dated as of May 16, 2005 S-1 333-173709 10.14 04/25/2011 92 Table of ContentsExhibitNumber Exhibit Description Incorporated by Reference Form File No. Exhibit Filing Date 10.15 Amendment to Commercial Building Lease, between Applied Buildings, LLCand Registrant, dated as of September 8, 2005 S-1 333-173709 10.15 04/25/2011 10.16 Lease, by and between Phoenix Investors #25, L.L.C. and Registrant, dated asof July 23, 2007 S-1 333-173709 10.16 04/25/2011 10.17 First Amendment to Lease, by and between Phoenix Investors #25, L.L.C. andRegistrant, dated as of May 24, 2010 S-1 333-173709 10.17 04/25/2011 10.18 Second Amendment to Lease, by and between Phoenix Investors #25, L.L.C.and Registrant, dated as of August 31, 2010 S-1 333-173709 10.18 04/25/2011 10.19 Sublease Agreement, dated as of June 1, 2011, by and between Fringe BenefitsManagement Company and Registrant S-1 333-173709 10.19 06/08/2011 10.20 Office Lease between Revere Corporate Center, LLC and Planned BenefitsSystems, Inc., dated as of May 3, 2006 S-1 333-173709 10.20 04/25/2011 10.21 Amendment to Lease Agreement, dated as of October 6, 2008, by and betweenRevere Corporate Center, LLC and Planned Benefits Systems, Inc. S-1 333-173709 10.21 04/25/2011 10.22 Pinnacle Corporate Centre IV Standard Office Lease, dated as of February 8,2008, by and between BK Pinnacle IV LLC and MHM Resources, LLC S-1 333-173709 10.22 04/25/2011 10.23 First Amendment to Lease, dated as of April 30, 2008, by and between BKPinnacle IV LLC and MHM Resources, LLC S-1 333-173709 10.23 04/25/2011 10.24 Second Amendment to Lease dated as of August 12, 2008 by and between BKPinnacle IV LLC and MHM Resources, LLC S-1 333-173709 10.24 04/25/2011 10.25 Second Amendment to Sublease between Oracle America, Inc. and Registrant,dated as of May 1, 2011 S-1 333-173709 10.25 06/08/2011 10.26* 2011 Bonus Plan 10-K-A 001-35232 10.26 03/11/2013 10.27* 2012 Bonus Plan 10-K-A 001-35232 10.27 03/11/2013 10.28* Executive Bonus Plan 8-K 001-35232 10.2 04/17/2013 21.1 List of subsidiaries of Registrant S-1 333-173709 21.1 03/07/2012 23.1 Consent of KPMG LLP, Independent Registered Public Accounting Firm 24.1 Power of Attorney (contained in the signature page to this Annual Report) 93 Table of ContentsExhibitNumber Exhibit Description Incorporated by Reference Form File No. Exhibit Filing Date 31.1 Certification of the Principal Executive Officer Pursuant toExchange Act Rules 13a-14(a) and 15d-14(a), as adoptedpursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of the Principal Financial Officer Pursuant toExchange Act Rules 13a-14(a) and 15d-14(a), as adoptedpursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32.1** Certification of the Principal Executive Officer and PrincipalFinancial Officer Pursuant to 18 U.S.C. Section 1350, asadopted pursuant to Section 906 of the Sarbanes-Oxley Act of2002 101.INS XBRL Instance Document 101.SCH XBRL Taxonomy Extension Schema 101.CAL XBRL Taxonomy Extension Calculation Linkbase 101.DEF XBRL Taxonomy Extension Definition Linkbase 101.LAB XBRL Taxonomy Extension Label Linkbase 101.PRE XBRL Taxonomy Extension Presentation Linkbase *Indicates a management contract or compensatory plan or arrangement.**The certifications attached as Exhibit 32.1 that accompany this Annual Report on Form 10-K, are not deemed filed with the Securities and ExchangeCommission and are not to be incorporated by reference into any filing of WageWorks, Inc. under the Securities Act of 1933, as amended, or theSecurities Exchange Act of 1934, as amended, whether made before or after the date of this Form 10-K, irrespective of any general incorporationlanguage contained in such filing. 94 Exhibit 23.1Consent of Independent Registered Public Accounting FirmThe Board of DirectorsWageWorks, Inc.:We consent to the incorporation by reference in the registration statements on Forms S-8 (No. 333-181300 and 333-188658) and on Form S-3 (333-190567) ofWageWorks, Inc. of our report dated February 27, 2014, with respect to the consolidated balance sheets of WageWorks, Inc. as of December 31, 2012 and2013, and the related consolidated statements of income, stockholders’ equity (deficit), and cash flows, for each of the years in the three-year period endedDecember 31, 2013, and the effectiveness of internal control over financial reporting as of December 31, 2013, which report appears in the December 31, 2013annual report on Form 10-K of WageWorks, Inc. /s/ KPMG LLPSan Francisco, CaliforniaFebruary 27, 2014 Exhibit 31.1Certification of Principal Executive Officerpursuant toExchange Act Rules 13a-14(a) and 15d-14(a),as adopted pursuant toSection 302 of Sarbanes-Oxley Act of 2002I, Joseph L. Jackson, certify that: 1.I have reviewed this Annual Report on Form 10-K of WageWorks, Inc.; 2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by thisreport; 3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respectsthe financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under oursupervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us byothers within those entities, particularly during the period in which this report is being prepared; b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements forexternal purposes in accordance with generally accepted accounting principles; c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of the period covered by this report, based on such evaluation; and d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s mostrecent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonablylikely to materially affect, the registrant’s internal control over financial reporting; and 5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, tothe registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which arereasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internalcontrol over financial reporting.Date: February 27, 2014 /s/ Joseph L. Jackson Name: Joseph L. Jackson Title: Chief Executive Officer and Director(Principal Executive Officer) Exhibit 31.2Certification of Principal Financial Officerpursuant toExchange Act Rules 13a-14(a) and 15d-14(a),as adopted pursuant toSection 302 of Sarbanes-Oxley Act of 2002I, Richard T. Green, certify that: 1.I have reviewed this Annual Report on Form 10-K of WageWorks, Inc.; 2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by thisreport; 3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respectsthe financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under oursupervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us byothers within those entities, particularly during the period in which this report is being prepared; b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements forexternal purposes in accordance with generally accepted accounting principles; c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of the period covered by this report, based on such evaluation; and d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s mostrecent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonablylikely to materially affect, the registrant’s internal control over financial reporting; and 5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, tothe registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which arereasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internalcontrol over financial reporting.Date: February 27, 2014 /s/ Richard T. Green Name: Richard T. Green Title: Chief Financial Officer(Principal Financial Officer) Exhibit 32.1CERTIFICATIONS OF PRINCIPAL EXECUTIVE OFFICER AND PRINCIPAL FINANCIAL OFFICERPURSUANT TO 18 U.S.C. SECTION 1350,AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350), Joseph L. Jackson, Chief Executive Officer and Director (Principal ExecutiveOfficer) of WageWorks, Inc. (the “Company”), and Richard T. Green, Chief Financial Officer (Principal Financial Officer) of the Company, each herebycertifies that, to the best of his knowledge: 1.Our Annual Report on Form 10-K for the year ended December 31, 2013, to which this Certification is attached as Exhibit 32.1 (the “Report”),fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2.The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.Date: February 27, 2014 /s/ Joseph L. JacksonName: Joseph L. JacksonTitle: Chief Executive Officer and Director(Principal Executive Officer) /s/ Richard T. GreenName: Richard T. GreenTitle: Chief Financial Officer(Principal Financial Officer)
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