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(Exact name of registrant as specified in its charter)
iDelaware
i41-1532464
(State
or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
i9350 Excelsior Blvd.
iSuite
700
iHopkins
iMinnesota
i55343
(Address
of principal executive offices)
(Zip Code)
(i952) i912-3444
(Registrant's telephone number, including area code)
Securities registered pursuant to Section
12(b) of the Act:
Title of each class
Trading Symbol
Name of each exchange on which registered
iCommon Stock,
par value $.01 per share
iDGII
iThe Nasdaq Stock Market LLC
Indicate by check mark whether the
Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. iYes☑No ☐
Indicate by check mark whether the
registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files.) iYes☑No ☐
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer,""accelerated filer,""smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act:
Large accelerated filer
☐
iAccelerated
filer
☑
Non-accelerated filer
☐
Smaller reporting company
i☐
Emerging
growth company
i☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the
Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes i☐No ☑
On July 29, 2022, there were i35,292,317
shares of the registrant's $.01 par value Common Stock outstanding.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. iBASIS
OF PRESENTATION OF UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The unaudited condensed consolidated financial statements of Digi International Inc. ("we", "us", "our", "Digi" or "the Company") have been prepared in accordance with the rules and regulations of the United States Securities and Exchange Commission applicable to interim financial statements. While these financial statements reflect all normal recurring adjustments that are, in the opinion of management, necessary for fair presentation of the results of the interim period, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles ("GAAP")
for complete financial statements. These financial statements should be read in conjunction with the financial statement disclosures in our Annual Report on Form 10-K for the year ended September 30, 2021 (the "2021 Financial Statements"). We use the same accounting policies in preparing quarterly and annual financial statements. The quarterly results of operations are not necessarily indicative of the results to be expected for the full year.
Potential Impacts of Macroeconomic Conditions on our Business
Our business is effected by present macroeconomic conditions including the ongoing pandemic, supply chain disruptions, the war in Ukraine and inflation. The impact of each of these items is volatile and continues to evolve. The extent of impact stemming from any individual factor or combination of factors on our operational
and financial performance will depend in large part on future developments, which cannot be reasonably estimated at this time and could vary in scope and severity both individually and collectively based upon actions taken by governments and other entities to mitigate impacts both within and outside jurisdictions where we operate. For a more detailed discussion see Part I, Item 1 in our Annual Report on Form 10-K for the year ended September 30, 2021 and "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 2 of this Form 10-Q.
i
Recently
Issued Accounting Pronouncements
Adopted
In October 2021, FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. This update requires entities to apply Topic 606 to recognize and measure contract assets and contract liabilities in a business combination. We adopted this standard in the first
quarter of fiscal 2022.
On
November 1, 2021, we acquired Ventus Networks, LLC ("Ventus") for approximately $i350 million in cash. The acquisition was funded through a combination of cash on hand and debt financing under a $i350
million credit facility committed by BMO Harris Bank N.A.
For tax purposes, this acquisition was treated as an asset acquisition. We believe this is a complementary acquisition for us as it significantly enhances our IoT Solutions segment by enhancing Digi's service portfolio and immediately extends the company's market reach with a Managed Network-as-a-Service ("MNaaS") solutions offering.
Costs directly related to the acquisition of $i4.2
million incurred fiscal year to date 2022 have been charged to operations and are included in general and administrative expense in our condensed consolidated statements of operations. These acquisition costs include legal, accounting, valuation and investment banking fees.
i
The following table summarizes the preliminary fair values of Ventus assets acquired and liabilities assumed as of the acquisition date (in thousands):
Cash
$
i350,000
Fair
value of net tangible assets acquired
$
i20,735
Identifiable intangible assets:
Customer relationships
i179,000
Purchased
and core technology
i16,000
Trademarks
i16,000
Goodwill
i118,265
Total
$
i350,000
/
The
condensed consolidated balance sheet as of June 30, 2022 reflects the preliminary allocation of the purchase price to the assets acquired and liabilities assumed based on their estimated fair values at the date of acquisition. This preliminary allocation was updated in the third fiscal quarter of 2022 to reflect information not available previously. The estimated fair value of the net assets acquired, liabilities assumed and identifiable intangible assets are preliminary and remain subject to change, as preliminary purchase price allocation has not yet been completed. Included in the fair value of net tangible assets acquired was $i0.7
million of right-of-use asset included in other non-current assets and $i0.7 million of lease liability included in other current liabilities and other non-current liabilities associated with Ventus’s operating leases.
The preliminary weighted average useful life for all the identifiable intangibles listed above is estimated to be i19.2
years. For purposes of determining fair value, the existing customer relationships identified above are assumed to have a useful life of i20.5 years, purchased and core technology is assumed to have useful life of i11
years and trademarks are assumed a useful life of i13 years. Useful lives for identifiable intangible assets are estimated at the time of acquisition based on the periods of time from which we expect to derive benefits from the identifiable intangible assets. The identifiable intangible assets are amortized using the straight-line method which reflects the pattern in which the assets are expected to be consumed.
i
The
following consolidated pro forma information is presented as if the acquisition had occurred on October 1, 2020 (in thousands):
Pro
forma net income has been adjusted to include interest expense related to debt incurred as a result of the acquisition, amortization on the fair value of the intangibles acquired and remove any costs incurred with the sale transaction. Net income for the nine months ended June 30, 2021 was adjusted to include acquisition-related costs of $i3.1 million.
The
following table is a reconciliation of the numerators and denominators in the net income per common share calculations (in thousands, except per common share data):
Denominator
for basic net income per common share — weighted average shares outstanding
i35,131
i34,057
i34,900
i31,443
Effect
of dilutive securities:
Stock options and restricted stock units
i609
i1,091
i840
i1,263
Denominator
for diluted net income per common share — adjusted weighted average shares
i35,740
i35,148
i35,740
i32,706
Net
income per common share, basic
$
i0.12
$
i0.09
$
i0.23
$
i0.18
Net
income per common share, diluted
$
i0.12
$
i0.09
$
i0.23
$
i0.18
/
Digi
excludes certain stock options and restricted stock unit awards that would have an anti-dilutive effect on our diluted net income per share calculation. For the three months ended June 30, 2022 and 2021, i939,101 and i994,096
shares outstanding were excluded, respectively. For the nine months ended June 30, 2022 and 2021, i778,573 and i864,744
were excluded, respectively.
4. iSELECTED BALANCE SHEET DATA
i
The
following table shows selected balance sheet data (in thousands):
Financial assets and liabilities are classified in the following fair value hierarchy based on the lowest level input that is significant to the fair value measurement: Level 1 (unadjusted quoted prices in active markets for identical assets or liabilities); Level 2 (observable market inputs, other than quoted prices included in Level 1); and Level 3 (unobservable inputs that cannot be corroborated by observable
market data).
i
The following tables provide information by level for financial liabilities that are measured at fair value on a recurring basis (in thousands):
Total
Fair Value at
Fair Value Measurements Using Inputs Considered as
In
connection with our acquisition of Opengear, Inc. in December 2019, we agreed to make contingent payments, based upon certain revenue thresholds. We paid the final installment of $i10.0 million during the second quarter of fiscal 2021.
In connection with our acquisition of Haxiot, Inc. ("Haxiot") in March 2021, we agreed to make contingent earn-out
payments, based upon certain revenue thresholds. In the fiscal third quarter of fiscal 2021, the preliminary purchase price allocation was updated, including related determination of fair value and income tax implications. As a result, we reduced contingent consideration by $i2.1 million in the third fiscal quarter of 2021. The fair value of the remaining liability for contingent consideration for
the acquisition of Haxiot was $i5.9 million at June 30, 2022.
In connection with our acquisition of Ctek, Inc. ("Ctek") in July 2021, we agreed to make contingent earn-out payments, based upon certain revenue thresholds. The fair value of the remaining liability for contingent consideration for the acquisition of Ctek was $i0.3
million at June 30, 2022.
i
The following table presents a reconciliation of the contingent consideration liability measured at fair value on a recurring basis using significant unobservable inputs (Level 3) (in thousands):
Contingent
consideration recognized for acquired business
i—
i—
i—
i8,000
Contingent
consideration payments
i—
i—
i—
(i10,000)
Change
in fair value of contingent consideration
i—
(i2,100)
i—
i3,672
Fair
value at end of period
$
i6,200
$
i5,900
$
i6,200
$
i5,900
/
The
change in fair value of contingent consideration reflects our estimates of the probabilities of achieving the relevant targets and is discounted based on our estimated discount rate. The fair value of the contingent consideration at June 30, 2022 is based on the probability of achieving the specified revenue thresholds for Haxiot and Ctek.
Amortization
expense was $i7.0 million and $i4.1 million for the three months ended June 30, 2022 and 2021,
respectively and $i20.4 million and $i12.0 million for the nine months ended June 30, 2022 and 2021,
respectively. Amortization expense is recorded on our condensed consolidated statements of operations within cost of sales and in general and administrative expense.
i
Estimated amortization expense related to intangible assets for the remainder of fiscal 2022 and the five succeeding fiscal years is (in thousands):
2022
(three months)
$
i6,722
2023
$
i24,996
2024
$
i24,282
2025
$
i20,825
2026
$
i20,593
2027
$
i18,582
/i
The
changes in the carrying amount of goodwill by reportable segments are (in thousands):
iGoodwill
represents the excess of cost over the fair value of net identifiable assets acquired. Goodwill is quantitatively tested for impairment on an annual basis as of June 30, or more frequently if events or circumstances occur which could indicate impairment. We continue to have itwo reportable segments, our IoT Products & Services segment and our IoT Solutions segment (see Note 8). Effective with the reorganization announcement
on October 7, 2020, our IoT Products & Services business is now structured to include four reporting units under the IoT Products & Services segment, each with a reporting manager: Cellular Routers, Console Servers, OEM Solutions and Infrastructure Management. We had four reporting units along with our IoT Solutions segment that were tested individually for impairment during our third quarter fiscal 2021 annual impairment test. Following our acquisition of Ventus in November, 2021, we have itwo
reporting units within our IoT Solutions segment in addition to the ifour reporting units included in IoT Products & Services.
Assumptions and estimates to determine fair values under the income and market approaches are complex and often subjective. They can be affected by a variety of factors. These include external factors such as industry and economic trends. They also include internal factors such as changes in our business strategy and our internal forecasts. Changes in circumstances
or a potential event could negatively affect the estimated fair values. If our future operating results do not meet current forecasts or
6. GOODWILL AND OTHER INTANGIBLE ASSETS, NET (CONTINUED)
if we experience a sustained decline in our market capitalization that is determined to be indicative of a reduction in fair value of one or more of our reporting units, we may be required to record future impairment charges for goodwill.
Results of our Fiscal 2022 Annual Impairment Test
As
of June 30, 2022, we had a total of $i32.7 million of goodwill for the Enterprise Routers reporting unit, $i57.1 million of goodwill for the Console Servers reporting unit, $i63.7 million
of goodwill for the OEM Solutions reporting unit, $i20.4 million of goodwill for the Infrastructure Management reporting unit, $i49.5 million of goodwill for the SmartSense reporting unit and $i118.3 million
of goodwill for the Ventus. At June 30, 2022, the fair value of goodwill exceeded the carrying value for all six reporting units. SmartSense and Ventus fair values exceeded carrying values by less than 10%. Implied fair value for each reporting unit was calculated on a standalone basis using a weighted combination of the income approach and market approach. The implied fair values of each reporting unit were added together along with our unallocated assets to get an indicated value of total equity to which a range of indicated value of total equity was derived. This range was compared to the total market capitalization of $i852.0 million
as of June 30, 2022. This implied a range of control (deficit)/ premiums of (i5.6)% to i7.9%. This range of control premiums fell below the
control premiums observed in the last five years in the communications equipment industry. As a result, the market capitalization reconciliation analysis proved support for the reasonableness of the fair values estimated for each individual reporting unit.
7. iINDEBTEDNESS
On November 1, 2021, we entered into a second amended and restated credit
agreement with BMO Harris Bank N.A. ("BMO"). This agreement provides us with a senior secured credit facility (the "Credit Facility") consisting of a $i350 million term loan B secured loan (the “Term Loan Facility”) and a $i35
million revolving credit facility (the “Revolving Loan Facility”) with an uncommitted option to increase incremental loans under the Credit Facility, subject to an incremental cap. The Revolving Loan Facility includes a $i10 million letter of credit subfacility and $i10
million swingline subfacility. Digi may use proceeds of the Revolving Loan Facility in the future for general corporate purposes. This loan replaced our syndicated senior secured credit agreement with BMO that was entered into on March 15, 2021 and replaced the remaining balance of our revolver with this new term loan. This prior agreement provided us with committed credit facilities ("Prior Credit Facility") consisting of a $i200 million revolving loan.
On
December 22, 2021, Digi entered into a third amended and restated credit agreement with BMO. Digi refinanced the Term Loan Facility and Revolving Loan Facility under its existing credit agreement entered into on November 1, 2021, but did not receive any additional proceeds from nor modify the amounts of any facilities or subfacilities contained within that credit agreement.
Following the December amendment, borrowings under the Term Loan Facility bear interest at a rate per annum equal to LIBOR with a floor of i0.50%
for an interest period of one, three or six months as selected by Digi, reset at the end of the selected interest period (or a replacement benchmark rate if LIBOR is no longer available) plus i5.00% or a base rate plus i4.00%.
The base rate is determined by reference to the highest of BMO’s prime rate, the Federal Funds Effective Rate plus i0.50%, or the one-month LIBOR for U.S. dollars plus i1.00%.
The applicable margin for loans under the Revolving Credit Facility is in a range of i4.00% to i3.75% for LIBOR loans and i3.00%
to i2.75% for base rate loans, depending on Digi’s consolidated leverage ratio. In addition to paying interest on the outstanding balance under the Credit Facility, we are required to pay a commitment fee on the non-utilized commitments thereunder which is also reported in interest expense. Our weighted average interest rate at June 30, 2022 was i6.85%.
The
debt issuance costs and remaining balance under the Prior Credit Facility totaled $i2.3 million at November 1, 2021. Of this amount $i1.9
million was written off and included in interest expense upon the entry into the new amendment and $i0.4 million is being amortized over the term of the amended loan and reported in interest expense. Digi incurred an additional $i11.7
million and $i1.7 million in debt issuance costs relating to the November 1, 2021 and December 22, 2021 amendments, respectively. These amounts will be amortized over the term of the amended loan and reported in interest expense.
The Term Loan is payable in quarterly installments, with the balance remaining due at November 2, 2028. The Revolving Loan is due in a lump sum payment at maturity
on November 2, 2028, if any amounts are drawn. The fair value of the Term Loan and Revolving Loan approximated carrying value at June 30, 2022.
Digi made early payments against the term loan of $i50 million in December 2021, $i11.3
million in March 2022 and $i20 million in June 2022.
The
following table is a summary of future maturities of our aggregate long-term debt at June 30, 2022 (in thousands):
Fiscal year
Amount
2022 (three months)
$
i4,375
2023
i17,500
2024
i17,500
2025
i17,500
2026
i17,500
2027
i17,500
2028
i176,873
Total
long-term debt
$
i268,748
/
Covenants and Security Interest
The agreements governing the Revolving Loan Facility contains a number of
covenants. Among other provisions, these covenants require us to maintain a certain financial ratio (net leverage ratio and minimum fixed charge ratio). At June 30, 2022, we had no amounts drawn on the Revolving Loan Facility. Amounts borrowed under the Credit Facility are secured by substantially all of our assets.
8. iSEGMENT INFORMATION
We
have itwo reportable segments: IoT Products & Services and IoT Solutions. Effective with the reorganization announcement on October 7, 2020, our IoT Products & Services business is now structured to include four operating segments, each with a segment manager. These ifour
operating segments include:
•Cellular Routers - box devices (fully enclosed) that provide connectivity typically in a place where the device can be plugged in exclusively using cellular communications.
•Console Servers - similar to cellular routers except they are exclusively for edge computing installations and data center applications (also exclusively using cellular communications).
•OEM Solutions - Original Equipment Manufacturers ("OEM") will be a chip, rather than a boxed device. This can come in the form of a stand-alone module, or from a systems-on-module ("SOMs"). While cellular connectivity is used, other communication protocols can be used such as Zigbee, Bluetooth or Radio-Frequency ("RF") based on application.
•Infrastructure
Management - includes battery operated, cellular enabled connect sensors as well as other types of console server applications that are more Digi Accelerated Linux ("DAL") based than Console Servers. This operating segment has some products that do not use cellular communications, but a large part of this segment does use cellular communications.
Following the acquisition of Ventus on November 1, 2021, IoT Solutions is now comprised of itwo
operating segments:
•SmartSense - offers wireless temperature and other condition-based monitoring services for perishable goods such as food or medicine, as well as employee task management services.
•Ventus - provides MNaaS solutions that simplify the complexity of enterprise wide area network ("WAN") connectivity via wireless and fixed line solutions.
The operating segments included in each reportable segment have similar qualitative and quantitative factors which allow us to aggregate them under each reportable segment. The qualitative factors include similar nature of products and services, production process, type or class of customers and methods used to distribute the products. The quantitative factors include similar operating margins. Our CODM reviews and makes business
decisions which includes a primary review of operating income but also includes gross profit. Following the October 2020 reorganization, the shared general and administrative costs began being allocated to each operating segment. As a result, our disclosed measure of segment operating income has been updated for all periods presented to conform with this change.
i
Summary operating results for each of our segments were (in thousands):
*
Excluded from this amount is $i1,742 and $i1,624 of transfers of inventory to property plant and
equipment for subscriber assets for the nine months ended June 30, 2022 and 2021, respectively.
Contract assets consist of subscriber assets. These subscriber assets relate to fees in certain contracts that we charge our customers so they can begin using equipment. In these cases, we retain the ownership of the equipment that the customer uses. The total net book value of subscriber assets of $i15.8
million and $i1.9 million as of June 30, 2022 and September 30, 2021, respectively, are included in property, equipment and improvements, net. The June 30, 2022 balance includes $i14.1
million acquired in the acquisition of Ventus. Depreciation expense for these subscriber assets, which is included in cost of sales, was $i0.4 million and $i0.5
million for the three months ended June 30, 2022 and June 30, 2021, respectively and $i2.3 million and $i1.4
million for the nine months ended June 30, 2022 and June 30, 2021, respectively. We depreciate the cost of this equipment over its useful life.
The timing of revenue recognition may differ from the timing of invoicing to customers. Customers are invoiced for subscription services on a monthly, quarterly or annual basis. Contract liabilities consist of unearned revenue related to annual or multi-year contracts for subscription services and related implementation fees, as well as product sales
that have been invoiced, but not yet fulfilled.
Our contract liabilities were $i22.6
million and $i14.8 million at June 30, 2022 and 2021, respectively. The June 30, 2022 balance includes $i2.1
million assumed from the Ventus acquisition completed in November 2021.
Of the $i24.8 million and $i16.4 million balances as
of March 31, 2022 and 2021, Digi recognized $i5.4 million and $i4.8
million in the three months ended June 30, 2022 and 2021, respectively. Of the $i15.5 million and $i9.3
million balances as of September 30, 2021 and 2020, Digi recognized $i12.0 million and $i8.3
million in the nine months ended June 30, 2022 and 2021, respectively.
Remaining Transaction Price
Transaction price allocated to the remaining performance obligations represents contracted revenue that has not been recognized. This includes unearned revenue and unbilled amounts that will be recognized as revenue in future periods. As of June 30, 2022, approximately $i22.6
million of revenue is expected to be recognized from remaining performance obligations. We expect to recognize revenue on approximately $i18.2 million of remaining performance obligations over the next itwelve
months. Revenue from the remaining performance obligations we expect to recognize over a range of two to iseven years.
10. iINCOME
TAXES
Our income tax benefit was $i1.5 million for the nine months ended June 30, 2022. Included in this benefit was a net tax benefit discretely related to the nine months ended June 30, 2022 of $i2.7
million. This benefit primarily was the result of excess tax benefits recognized on stock compensation.
Income tax expense was $i0.2 million for the nine months ended June 30, 2021. Included in this expense was a net tax benefit discretely related to the nine months ended June 30, 2021 of $i1.0
million. This benefit primarily was the result of excess tax benefits recognized on stock compensation.
Our effective tax rate will vary based on a variety of factors. These include our overall profitability, the geographical mix of income before taxes and related statutory tax rate in each jurisdiction, and tax items discretely related to the period, such as settlements of audits. We may record other benefits or expenses in the future that are specific to a particular quarter such as expiration of statutes of limitation, the completion of tax audits, or legislation that is enacted in both U.S. and foreign jurisdictions.
i
A
reconciliation of the beginning and ending amount of unrecognized tax benefits is (in thousands):
The total amount of unrecognized tax benefits at June 30, 2022
that, if recognized, would affect our effective tax rate was $i2.7 million, after considering the impact of interest and deferred benefit items. We expect that the total amount of unrecognized tax benefits will decrease by approximately $i0.7
million over the next 12 months.
iThe
following tables summarize the activity associated with the product warranty accrual (in thousands) and is included on our condensed consolidated balance sheets within current liabilities:
All
of our leases are operating leases and primarily consist of leases for office space. For any lease with an initial term in excess of twelve months, the related lease assets and lease liabilities are recognized on the condensed consolidated balance sheets as either operating or financing leases at the inception of an agreement where it is determined that a lease exists. We have lease agreements that contain both lease and non-lease components. We have elected to combine lease and non-lease components for all classes of assets. Leases with an expected term of twelve months or less are not recorded on the condensed consolidated balance sheets. Instead we recognize lease expense for these leases on a straight-line basis over the lease term.
Operating lease assets represent the right to use an underlying asset for the lease term and operating lease liabilities represent the obligation to make lease payments. These assets
and liabilities are recognized based on the present value of future payments over the lease term at the commencement date. We generally use a collateralized incremental borrowing rate based on information available at the commencement date, including the lease term, in determining the present value of future payments. When determining our right-of-use asset, we generally do not include options to extend or terminate the lease unless it is reasonably certain that the option will be exercised.
Our leases typically require payment of real estate taxes and common area maintenance and insurance. These components comprise the majority of our variable lease cost and are excluded from the present value of our lease obligations. Fixed payments may contain predetermined fixed rent escalations. We recognize the related rent expense on a straight-line basis from the commencement date to the end of the lease term.
i
The
following table shows the supplemental balance sheet information related to our leases (in thousands):
The following were the components of our lease cost which is recorded in both cost of goods sold and selling, general and administrative expense (in thousands):
Cash paid for amounts included in the measurement of operating lease liabilities
$
i—
$
i1,784
Right-of-use
assets acquired in Ventus acquisition
i699
i—
Right-of-use
assets obtained in exchange for new operating lease liabilities
i—
i3,919
Non-cash
tenant improvement allowance
$
i—
$
i1,000
/
At
June 30, 2022 the weighted average remaining lease term of our operating leases was i8.6 years and the weighted average discount rate for these leases was i2.8%.
i
The
table below reconciles the undiscounted cash flows for each of the first five years as well as all the remaining years to the operating lease liabilities recorded on the condensed consolidated balance sheet as of June 30, 2022 (in thousands):
Fiscal year
Amount
2022 (three months)
$
i992
2023
i3,746
2024
i3,241
2025
i2,821
2026
i2,591
2027
i1,761
Thereafter
i7,068
Total
future undiscounted lease payments
i22,220
Less imputed interest
(i2,407)
Total
reported lease liability
$
i19,813
/
13. iCOMMITMENTS
AND CONTINGENCIES
We lease certain of our buildings and equipment under noncancelable lease agreements. Please refer to Note 12 to our condensed consolidated financial statements for additional information.
In the normal course of business, we are presently, and expect in the future to be, subject to various claims and litigation with third parties such as non-practicing intellectual property entities as well as customers, vendors and/or former employees. There can be no assurance that any claims by third parties, if proven to have merit, will not materially adversely affect our business, liquidity or financial condition.
Stock-based awards were granted under the 2021 Omnibus Incentive Plan (as amended and restated, the "2021 Plan") beginning January
29, 2021. Prior to that date, such awards made in fiscal 2021 were granted under the 2020 Omnibus Incentive Plan (the "2020 Plan"). Upon stockholder approval of the 2021 Plan on January 29, 2021, we ceased granting awards under the 2020 Plan. On January 28, 2022, the stockholders approved the amendment and restatement of the 2021 Plan. Shares subject to awards under the 2020 Plan or any prior plans that are forfeited, canceled, returned to us for failure to satisfy vesting requirements, settled in cash or otherwise terminated without payment also will be available for grant under the 2021 Plan. The authority to grant options under the 2021 Plan and set other terms and conditions rests with the Compensation Committee of the Board of Directors.
The 2021 Plan authorizes the issuance of up to i2,400,000
common shares in connection with awards of stock options, stock appreciation rights, restricted stock, restricted stock units, performance-based full value awards or other stock-based awards. Eligible participants include our employees, our affiliates, non-employee directors of our Company and any consultant or advisor who is a natural person and provides services to us or our affiliates. Options that have been granted under the 2021 Plan typically vest over a four-year period and will expire if unexercised after iseven
years from the date of grant. Restricted stock unit awards ("RSUs") that have been granted to directors typically vest in ione year. RSUs that have been granted to executives and employees typically vest in January over a four-year period. Performance stock unit awards ("PSUs") that have been granted to an executive will vest based on achievement of a cumulative adjusted earnings per share metric measured over a three-year period. Share-based compensation expenses recorded for this performance
award is reevaluated at each reporting period based on the probability of achievement of the goal. The 2021 Plan is scheduled to expire on January 28, 2032. Options under the 2021 Plan can be granted as either incentive stock options or non-statutory stock options. The exercise price of options and the grant date price of RSUs and PSUs is determined by our Compensation Committee but will not be less than the fair market value of our common stock based on the closing price as of the date of grant. Upon exercise of options or settlement of vested restricted stock units or performance stock units, we issue new shares of stock. As of June 30, 2022, there were approximately i1,757,566
shares available for future grants under the 2021 Plan.
Cash received from the exercise of stock options was $i6.7 million and $i7.0
million for the nine months ended June 30, 2022 and June 30, 2021, respectively.
Our equity plans and corresponding forms of award agreements generally have provisions allowing employees to elect to satisfy tax withholding obligations through the delivery of shares. When employees make this election, we retain a portion of shares issuable under the award. Tax withholding obligations are otherwise fulfilled by the employee paying cash to us for the withholding. During the nine months ended June 30, 2022 and 2021, our employees forfeited i96,860
shares and i109,516 shares, respectively, in order to satisfy respective withholding tax obligations of $i2.2
million and $i2.0 million, respectively.
We sponsor an Employee Stock Purchase Plan as amended and restated as of December 10, 2019, October 29, 2013, December 4, 2009 and November 27, 2006 (the "ESPP"), covering all domestic employees with at
least i90 days of continuous service and who are customarily employed at least i20
hours per week. The ESPP allows eligible participants the right to purchase common stock on a quarterly basis at the lower of i85% of the market price at the beginning or end of each three-month offering period. The most recent amendments to the ESPP, ratified by our stockholders on January 29, 2020, increased the total number of shares to i3,425,000
that may be purchased under the plan. ESPP contributions by employees were $i1.1 million and $i0.9 million for the nine months ended June 30,
2022 and June 30, 2021, respectively. Pursuant to the ESPP, i60,481 and i61,302
common shares were issued to employees during the nine months ended June 30, 2022 and June 30, 2021, respectively. Shares are issued under the ESPP from treasury stock. As of June 30, 2022, i572,592 common shares were available for future issuances under the ESPP.
(1) The
aggregate intrinsic value represents the total pre-tax intrinsic value, based on our closing stock price of $i24.22 as of June 30, 2022, which would have been received by the option holders had all option holders exercised their options as of that date. The intrinsic value of an option is the amount by which the fair value of the underlying stock exceeds its exercise price.
The total intrinsic value of all options exercised during the nine months ended June 30, 2022 was $i15.6
million and during the nine months ended June 30, 2021 was $i5.4 million.
i
The
following table shows the weighted average fair value, which was determined based upon the fair value of each option on the grant date utilizing the Black-Scholes option-pricing model and the related assumptions:
The fair value of each option award granted during the periods presented was estimated using the Black-Scholes option valuation model that uses the assumptions noted in the above table. Expected volatilities are based on the historical volatility of our stock. We use historical data to estimate option exercise and employee termination information within the valuation model. The expected term of options granted is derived from the vesting period and historical information and represents the period of time that options granted are expected to be outstanding. The risk-free rate used is the zero-coupon U.S. Treasury bond rate in effect at the time of the grant whose maturity equals the expected term of the option.
As of June 30,
2022, the total unrecognized compensation cost related to non-vested stock options was $i8.0 million and the related weighted average period over which it is expected to be recognized is approximately i1.5
years.
Non-vested Stock Units
i
The following table presents a summary of our non-vested restricted stock and performance stock units as of June 30, 2022 and changes during the nine months then ended (in thousands, except per common share amounts):
As
of June 30, 2022, the total unrecognized compensation cost related to non-vested stock units was $i11.6 million. The related weighted average period over which this cost is expected to be recognized is approximately i2.4
years.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Our management's discussion and analysis should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended September 30, 2021, as well as our subsequent reports on Form 10-Q and Form 8-K and any amendments
to these reports.
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
This Form 10-Q contains certain statements that are "forward-looking statements" as that term is defined under the Private Securities Litigation Reform Act of 1995, and within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
Forward-Looking Statements
This discussion contains forward-looking statements that are based on management's current expectations and assumptions. These statements often can be identified by the use of forward-looking terminology such as "assume,""believe,""anticipate,""intend,""estimate,""target,""may,""will,""expect,""plan,""potential,""project,""should," or "continue," or the negative thereof or other variations thereon or similar terminology. Among other items, these statements relate to expectations of the business environment in which Digi operates, projections of future performance, perceived marketplace opportunities and statements regarding our mission and vision. Such statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions. Among others, these include risks related to the ongoing supply chain and transportation challenges impacting businesses globally, the ongoing COVID-19 pandemic and efforts to mitigate the same, risks related to ongoing inflationary pressures as well as present concerns about a potential recession and the ability of companies like us to operate a global business in such conditions, risks arising from the present war in Ukraine, the highly competitive market in
which our company operates, rapid changes in technologies that may displace products sold by us, declining prices of networking products, our reliance on distributors and other third parties to sell our products, the potential for significant purchase orders to be canceled or changed, delays in product development efforts, uncertainty in user acceptance of our products, the ability to integrate our products and services with those of other parties in a commercially accepted manner, potential liabilities that can arise if any of our products have design or manufacturing defects, our ability to integrate and realize the expected benefits of acquisitions such as our recently completed acquisition of Ventus, our ability to defend or settle satisfactorily any litigation, uncertainty in global economic conditions and economic conditions within particular regions of the world which could negatively
affect product demand and the financial solvency of customers and suppliers, the impact of natural disasters and other events beyond our control that could negatively impact our supply chain and customers, potential unintended consequences associated with restructuring, reorganizations or other similar business initiatives that may impact our ability to retain important employees or otherwise impact our operations in unintended and adverse ways, the ability to achieve the anticipated benefits and synergies associated with acquisitions or divestitures and changes in our level of revenue or profitability which can fluctuate for many reasons beyond our control.
These and other risks, uncertainties and assumptions identified from time to time in our filings with the United States Securities and Exchange Commission, including without limitation, our Annual Report on Form 10-K for the year ended September 30,
2021, this filing on Form 10-Q and other filings, could cause our actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf. Many of such factors are beyond our ability to control or predict. These forward-looking statements speak only as of the date for which they are made. We disclaim any intent or obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of our condensed consolidated financial statements requires us to make estimates
and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, the disclosure of contingent assets and liabilities and the values of purchased assets and assumed liabilities in acquisitions. We base our estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.
A description of our critical accounting policies and
estimates was provided in the Management's Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the fiscal year ended September 30, 2021.
GOODWILL
Results of our Fiscal 2022 Annual Impairment Test
Our goodwill impairment test as of June 30, 2022 indicated no impairment. SmartSense and Ventus fair values exceeded carrying values by less than 10%. We will continue to monitor potential impacts that could potentially affect our cash flows and market capitalization. Assumptions and estimates to determine fair values under the income and market approaches are complex and often subjective. They can be affected by a variety of factors. These include external factors such as industry
and economic trends. They also include internal factors such as changes in our business strategy and our internal forecasts. Changes in circumstances or a potential event could negatively affect the estimated fair values. If our future operating results do not meet current forecasts or if we experience a sustained decline in our market capitalization that is determined to be indicative of a reduction in fair value of one or more of our reporting units, we may be required to record future impairment charges for goodwill.
OVERVIEW
We are a leading global provider of business and mission-critical IoT connectivity products, services and solutions. Our business is comprised of two reporting segments: IoT Products & Services and IoT Solutions.
Our
IoT Products & Services segment offers products and services that help OEMs, enterprise and government customers create and deploy, secure IoT connectivity solutions. From embedded and wireless modules to console servers as well as enterprise and industrial routers, we provide a wide variety of communication sub-assemblies and finished products to meet our customers' IoT communication requirements. In addition, this segment provides our customers with a device management platform and other professional services to enable customers to capture and manage data from devices connected to networks. In the past this segment has benefited from significant one-time project based deployments. During the pandemic we saw a decrease in proposals for such projects. Recently we have seen some resumption of opportunities to make these project based sales, most notably in the areas mass transit and smart cities. While there is no assurance we will be chosen for any such deployments,
we view this renewed activity as a positive development for this segment. Demand generally has been strong for many products in this segment during fiscal 2022 and has driven record sales bookings and backlogs that we are constrained to meet at present because of supply chain challenges.
On October 7, 2020, our Board of Directors approved a reorganization of our IoT Products & Services business segment. The restructuring plan aligned the business segment's organization around product lines, each with a segment manager. Under this plan, we recorded charges of $1.0 million for employee termination charges and eliminated 19 employment positions primarily in the U.S. during the first half of fiscal 2021. We have grouped our products under the following categories: Cellular Routers, Console Servers, OEM Solutions and Infrastructure Management. Consequently, the measure
of segment operating profit used by our chief operating decision maker ("CODM") changed. As a result, our disclosed measure of segment operating income has been updated. For further detail on segment performance, see the Revenue by Segment, Cost of Goods Sold and Gross Profit by Segment and Operating Income sections of this Item 2.
Our IoT Solutions segment primarily consists of our SmartSense by Digi® and Ventus operating segments. SmartSense offers wireless temperature and other condition-based monitoring services as well as employee task management services. These solutions are focused on the following vertical markets: food service, healthcare (primarily pharmacies and hospitals) and supply chain. We initially formed, expanded and enhanced our SmartSense by Digi business through four acquisitions. Our recent acquisition of Ventus makes us a leader in the provision of MNaaS solutions that simplify the complexity
of enterprise wide area network WAN connectivity for our customers and provides us with a significant base of high margin subscription based recurring revenue. Ventus’s portfolio includes cellular wireless and fixed line WAN solutions for an array of connectivity applications in banking, healthcare, retail, gaming, hospitality and other sectors. Given our belief in the potential of this segment, we are making targeted investments in this segment designed to enhance its performance over time.
We compete for customers on the basis of existing and planned product features, service and software application capabilities, company reputation, brand recognition, technical support, alliance relationships, quality and reliability, product development capabilities, price and availability.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
In fiscal 2022, our key operating objectives include:
•continued growth of our SmartSense by Digi® and Ventus businesses that are the base of our IoT Solutions segment;
•delivering growth within our IoT Products & Services segment through new product introductions; and
•integration of our recently acquired Ventus business.
We utilize many financial, operational, and other metrics to evaluate our financial
condition and financial performance. Below we highlight the metrics for the third quarter of fiscal 2022 that we feel are most important in these evaluations, with comparisons to the third quarter of fiscal 2021:
•Consolidated revenue was $104 million, an increase of 31%.
•Consolidated gross profit was $57.4 million, an increase of 35%.
•Consolidated operating income was $10.0 million, an increase of 148%.
•Gross profit margin was 55.5% versus 53.8%. Gross profit margin excluding amortization was 56.7% compared to 55.2%.
•Net income was $4.1 million, an increase of 31%.
•Diluted
earnings per share was $0.12, compared to $0.09, an increase of 33%.
•Adjusted EBITDA was $21 million, an increase of 82%.
•Adjusted net income and adjusted net income per share was $15.9 million, or $0.45 per diluted share, compared to $8.7 million, or $0.25 per diluted share, an increase of 80%.
Recent Events Impacting Third Quarter Results
Acquisition of Ventus
On November 1, 2021, we acquired Ventus for approximately $350 million in cash. The acquisition was funded through a combination of cash on hand and debt financing under an amended and restated credit facility committed by BMO Harris Bank N.A. (see Note
7). In the first quarter of fiscal 2022, the preliminary purchase price allocation was recorded, including related determinations of fair value and income tax implications. In the third quarter of fiscal 2022, we recorded a purchase price allocation adjustment to adjust for new information. As a result, we have $118 million of goodwill and $211 million of other intangibles on our condensed consolidated balance sheets at June 30, 2022. The results of operations following the acquisition date are now included in our 2022 results within our IoT Solutions segment.
CONSOLIDATED RESULTS OF OPERATIONS
The following table sets forth selected information derived from our interim condensed consolidated
statements of operations:
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
REVENUE BY SEGMENT
Three
months ended June 30,
% incr.
Nine months ended June 30,
% incr.
($ in thousands)
2022
2021
(decr.)
2022
2021
(decr.)
Revenue
IoT
Products & Services
$
79,758
77.0
%
$
66,812
84.5
%
19.4
%
$
216,872
76.8
%
$
194,224
84.6
%
11.7
IoT
Solutions
23,759
23.0
12,267
15.5
93.7
65,615
23.2
35,302
15.4
85.9
Total
revenue
$
103,517
100.0
%
$
79,079
100.0
%
30.9
%
$
282,487
100.0
%
$
229,526
100.0
%
23.1
IoT
Products & Services
IoT Products & Services revenue increased 19.4% and 11.7% for the three and nine months ended June 30, 2022, respectively, as compared to the same periods in the prior fiscal year. This primarily was a result of:
•increased sales of console server and cellular products in both periods driven by demand for data center and edge based deployments and increased OEM sales in the third quarter.
This increase was partially offset by:
•decreased sales of infrastructure management products, driven by supply chain challenges.
IoT Solutions
IoT Solutions revenue increased 93.7% and 85.9%
for the three and nine months ended June 30, 2022, respectively, as compared to the same periods in the prior fiscal year. This primarily was a result of:
•increased recurring revenue from our November 2021 acquisition of Ventus.
These increases were partially offset by:
•decreased one-time customer implementation sales, due to significant activity from a few large customers in 2021 that did not recur in 2022.
COST OF GOODS SOLD AND GROSS PROFIT BY SEGMENT
Three
months ended June 30,
Basis point
Nine months ended June 30,
Basis point
($ in thousands)
2022
2021
inc. (decr.)
2022
2021
inc. (decr.)
Cost of Goods
Sold
IoT Products & Services
$
37,115
46.5
%
$
30,006
44.9
%
160
$
100,093
46.2
%
$
87,282
44.9
%
130
IoT
Solutions
8,976
37.8
%
6,517
53.1
%
(1,530)
25,103
38.3
%
18,213
51.6
%
(1,330)
Total
cost of goods sold
$
46,091
44.5
%
$
36,523
46.2
%
(170)
$
125,196
44.3
%
$
105,495
46.0
%
(170)
Three
months ended June 30,
Basis point
Nine months ended June 30,
Basis point
($ in thousands)
2022
2021
inc. (decr.)
2022
2021
inc. (decr.)
Gross Profit
IoT
Products & Services
$
42,643
53.5
%
$
36,806
55.1
%
(160)
$
116,779
53.8
%
$
106,942
55.1
%
(130)
IoT
Solutions
14,783
62.2
%
5,750
46.9
%
1,530
40,512
61.7
%
17,089
48.4
%
1,330
Total
gross profit
$
57,426
55.5
%
$
42,556
53.8
%
170
$
157,291
55.7
%
$
124,031
54.0
%
170
IoT
Product & Services
IoT Products & Services gross profit margin decreased 160 basis points for the three months ended June 30, 2022 as compared to the same period in the prior fiscal year. This decrease primarily was a result of:
•increased production and distribution costs due to the continuing supply chain challenges, as well as changes in product and customer mix.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
IoT
Products & Services gross profit margin decreased 130 basis points for the nine months ended June 30, 2022 as compared to the same period in the prior fiscal year. This decrease primarily was a result of:
•increased production and distribution costs due to the continuing supply chain challenges, as well as changes in product and customer mix.
IoT Solutions
The IoT Solutions gross profit margin increased 1,530 basis points for the three months ended June 30, 2022 as compared to the same periods in the prior fiscal year. This increase primarily was a result of:
•increased recurring subscription revenue, from the acquisition of Ventus, which
typically has a high gross profit margin.
The IoT Solutions gross profit margin increased 1,330 basis points for the nine months ended June 30, 2022 as compared to the same periods in the prior fiscal year. This increase primarily was a result of:
•increased recurring subscription revenue, from the acquisition of Ventus, which typically has a high gross profit margin.
OPERATING EXPENSES
Below is our operating expenses and operating expenses as a percentage of total revenue:
Three
months ended June 30,
$
%
Nine months ended June 30,
$
%
($ in thousands)
2022
2021
incr. (decr.)
incr. (decr.)
2022
2021
incr. (decr.)
incr. (decr.)
Operating
Expenses
Sales and marketing
$
18,230
17.6
%
$
15,910
20.1
%
$
2,320
14.6
$
51,325
18.2
%
$
46,271
20.2
%
$
5,054
10.9
%
Research
and development
13,968
13.5
12,374
15.6
1,594
12.9
41,199
14.6
34,822
15.2
6,377
18.3
General
and administrative
15,149
14.6
10,153
12.8
4,996
49.2
43,216
15.3
34,701
15.1
8,515
24.5
Restructuring
charge
105
0.1
101
0.1
4
4.0
214
0.1
995
0.4
(781)
(78.5)
Total
operating expenses
$
47,452
45.8
%
$
38,538
48.7
%
$
8,914
23.1
$
135,954
48.1
%
$
116,789
50.9
%
$
19,165
16.4
%
The
$8.9 million increase in operating expenses in the third quarter of fiscal 2022 from the third quarter of fiscal 2021 primarily was the result of:
•incremental operating expenses, primarily from the acquisition of Ventus.
The $19.2 million increase in operating expenses in the first three quarters of fiscal 2022 from the first three quarters of fiscal 2021 primarily was the result of:
•incremental operating expenses from our acquisitions of Haxiot, Ctek and Ventus.
This increase was partially offset by:
•$5.8 million in contingent consideration expenses in prior year and a decrease in restructuring charges.
OPERATING INCOME
Operating
income was $10.0 million for the three months ended June 30, 2022, compared to $4.0 million for the three months ended June 30, 2021. Operating income was $21.3 million for the nine months ended June 30, 2022, compared to $7.2 million for the nine months ended June 30, 2021.
IoT Product & Services provided operating income of $10.9 million for the three months ended June 30, 2022 compared to $6.1 million for the three months ended June 30, 2021, an increase of $4.8 million, or 78.3%. IoT Product & Services provided operating income of $24.0 million for the nine months ended June 30,
2022 compared to $12.0 million for the nine months ended June 30, 2021, an increase of $12.1 million, or 101.2%. Drivers for the changes in operating income for the both the quarter and year-to-date periods are described above in the revenue, gross profit and operating expenses details.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
IoT Solutions had an operating loss of $0.9 million for the three months ended June 30, 2022 compared
to an operating loss of $2.1 million for the three months ended June 30, 2021, a decrease of $1.2 million, or 56.5%. IoT Solutions incurred an operating loss of $2.7 million for the nine months ended June 30, 2022 compared to $4.7 million for the nine months ended June 30, 2021, a decrease of $2.0 million, or 42.5%. Drivers for the changes in operating loss for the both the quarter and year-to-date periods are described above in the revenue, gross profit and operating expenses details.
OTHER EXPENSE, NET
Three
months ended June 30,
$
%
Nine months ended June 30,
$
%
($ in thousands)
2022
2021
incr. (decr.)
incr. (decr.)
2022
2021
incr. (decr.)
incr. (decr.)
Other
expense, net
Interest income
$
1
—
%
$
3
—
%
$
(2)
NM
$
8
—
%
$
4
—
%
$
4
NM
Interest
expense
(5,297)
(5.1)
%
(371)
(0.5)
%
(4,926)
NM
(14,665)
(5.2)
%
(1,019)
(0.4)
%
(13,646)
NM
Other
expense, net
(96)
(0.1)
%
(114)
(0.1)
%
18
NM
(59)
—
%
(229)
(0.1)
%
170
NM
Total
other expense, net
$
(5,392)
(5.2)
%
$
(482)
(0.6)
%
$
(4,910)
NM
$
(14,716)
(5.2)
%
$
(1,244)
(0.5)
%
$
(13,472)
NM
NM
means not meaningful
Other expense, net, increased $4.9 million and $13.5 million for the three and nine months ended June 30, 2022, respectively, as compared to the same period in the prior fiscal year. The increase was primarily a result of an increase to our interest expense as we refinanced our revolving loan with a new credit facility in November 2021 and wrote off a portion of the deferred financing fees associated with our prior credit facility to fund the acquisition of Ventus. (see Note 7 to the condensed consolidated financial statements).
INCOME TAXES
See Note
10 to the condensed consolidated financial statements for discussion of income taxes.
NON-GAAP FINANCIAL INFORMATION
This report includes adjusted net income, adjusted net income per diluted share and adjusted earnings before interest, taxes and amortization ("Adjusted EBITDA"), each of which is a non-GAAP financial measure.
Non-GAAP measures are not substitutes for GAAP measures for the purpose of analyzing financial performance. The disclosure of these measures does not reflect all charges and gains that were actually recognized by Digi. These non-GAAP measures are not in accordance with, or, an alternative for measures prepared in accordance with GAAP and may be different from non-GAAP measures used by other companies or presented by us in prior reports. In addition, these non-GAAP measures are
not based on any comprehensive set of accounting rules or principles. We believe that non-GAAP measures have limitations in that they do not reflect all of the amounts associated with our results of operations as determined in accordance with GAAP. We believe these measures should only be used to evaluate our results of operations in conjunction with the corresponding GAAP measures. Additionally, Adjusted EBITDA does not reflect our cash expenditures, the cash requirements for the replacement of depreciated and amortized assets, or changes in or cash requirements for our working capital needs.
We believe that providing historical and adjusted net income and adjusted net income per diluted share, respectively, exclusive of such items as reversals of tax reserves, discrete tax benefits, restructuring charges and reversals, intangible amortization, stock-based compensation, other non-operating income/expense, adjustments to
estimates of contingent consideration, acquisition-related expenses and interest expense related to acquisition permits investors to compare results with prior periods that did not include these items. Management uses the aforementioned non-GAAP measures to monitor and evaluate ongoing operating results and trends and to gain an understanding of our comparative operating performance. In addition, certain of our stockholders have expressed an interest in seeing financial performance measures exclusive of the impact of these matters, which while important, are not central to the core operations of our business. Management believes that Adjusted EBITDA, defined as EBITDA adjusted for stock-based compensation expense, acquisition-related expenses, restructuring charges and reversals and changes in fair value of contingent consideration is useful to investors to evaluate our core operating results and financial performance because it excludes items that are significant
non-cash or non-recurring expenses reflected in the consolidated statements of operations. We believe that the presentation of Adjusted EBITDA as a percentage of revenue is useful because it provides a reliable and consistent approach to measuring our performance from year to year and in assessing
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
our performance against that of other companies. We believe this information helps compare operating results and corporate performance exclusive of the impact of our capital structure and the method
by which assets were acquired.
Below are reconciliations from GAAP to Non-GAAP information that we feel is important to our business:
Adjusted net income
and adjusted net income per diluted share (3)
$
15,934
$
0.45
$
8,736
$
0.25
$
43,139
$
1.21
$
27,801
$
0.85
Diluted
weighted average common shares
35,740
35,148
35,740
32,706
(1)The tax effect from the above adjustments assumes an estimated effective tax rate of 18.0% for fiscal 2022 and fiscal 2021 based on adjusted net income.
(2)For the three and nine months ended June 30,
2022 and June 30, 2021, discrete tax benefits primarily are a result of excess tax benefits recognized on stock compensation.
(3)Adjusted net income per diluted share may not add due to the use of rounded numbers.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
LIQUIDITY AND CAPITAL RESOURCES
Historically we have financed our operations
and capital expenditures principally with funds generated from operations. Our liquidity requirements arise from our working capital needs, and to a lesser extent, our need to fund capital expenditures to support our current operations and facilitate growth and expansion.
On November 1, 2021, we entered into a second amended and restated credit agreement consisting of a $350 million term loan B secured loan and a $35 million revolving credit facility. The $35 million revolving credit facility, which presently has no outstanding balance, includes a $10 million letter of credit subfacility and $10 million swingline subfacility. During the first quarter of fiscal 2022, we repaid all outstanding balances under the credit facility entered into on March 21, 2021. As of June 30, 2022,
$35.0 million remained available under the Revolving Loan, which included $10 million available for a letter of credit subfacility and $10 million available under a swingline subfacility, the outstanding amounts of which decrease the available commitment. For additional information regarding the terms of our Credit Facility, including the Revolving Loan and its subfacilities, see Note 7 to our condensed consolidated financial statements.
We expect positive cash flows from operations for the foreseeable future. Our third fiscal quarter operating cash flows were negatively impacted by changes in operating assets and liabilities (net of acquisitions) that we do not anticipate in future periods. We believe that our current cash and cash equivalents balances, cash generated from operations
and our ability to borrow under our credit facility will be sufficient to fund our business operations and capital expenditures for the next twelve months and beyond. As follows, our condensed consolidated statements of cash flows for the nine months ended June 30, 2022 and 2021 is summarized:
Nine months ended June 30,
($ in thousands)
2022
2021
Operating
activities
$
15,454
$
42,084
Investing activities
(351,771)
(7,957)
Financing activities
224,313
60,579
Effect
of exchange rate changes on cash and cash equivalents
1,087
(1,893)
Net increase (decrease) in cash and cash equivalents
$
(110,917)
$
92,813
Cash flows from operating activities decreased $26.6 million primarily as a result of:
•an increase in operating assets and liabilities (net of acquisitions) during the
period of $34.6 million compared to a decrease of $3.1 million in the nine months ended June 30, 2021, and
•a reduction of $5.8 million in contingent consideration fair value changes from the nine months ended June 30,2021.
These increases were partially offset by:
•increases in depreciation and amortization expenses, the provision for inventory obsolescence and net income.
Cash flows used in investing activities increased $343.8 million almost entirely as a result of:
•an increase of $341.2 million used for acquisitions, primarily related to our November 2021 acquisition of Ventus (see Note
2 to the condensed consolidated financial statements).
Cash flows from financing activities increased $163.7 million primarily as a result of:
•an increase of $350.0 million in proceeds from the Term Loan issued in November 2021.
This increase was partially offset by:
•$73.8 million in proceeds from stock issuance in Q2 2021,
•payments of $45.8 million upon the closing of the Term Loan issued in November 2021 to retire the previous credit facility, and
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
•early payments of $81.3 million on the new Term Loan issued in November 2021 compared to $15.6 million in debt payments in fiscal 2021 on the previous credit facility (see Note 7 to the condensed consolidated financial statements).
CONTRACTUAL OBLIGATIONS
The following table summarizes our contractual obligations at June 30, 2022:
Payments
due by fiscal period
($ in thousands)
Total
Less than 1 year
1-3 years
3-5 years
Thereafter
Operating leases
$
22,220
$
3,802
$
7,646
$
4,153
$
6,619
Contingent
consideration
6,200
6,100
100
—
—
Term Loan
268,748
17,500
35,000
35,000
181,248
Interest
on long-term debt
93,503
18,012
32,640
27,293
15,558
Total
$
390,671
$
45,414
$
75,386
$
66,446
$
203,425
The
operating lease agreements included above primarily relate to office space. The table above does not include possible payments for uncertain tax positions. Our reserve for uncertain tax positions, including accrued interest and penalties, was $2.8 million as of June 30, 2022. Due to the nature of the underlying liabilities and the extended time often needed to resolve income tax uncertainties, we cannot make reliable estimates of the amount or timing of future cash payments that may be required to settle these liabilities. The above table also does not include those obligations for royalties under license agreements as these royalties are calculated based on future sales of licensed products and we cannot make reliable estimates of the amount of cash payments.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
For information on new
accounting pronouncements, see Note 1 to our condensed consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to ongoing market risk related to changes in interest rates and foreign currency exchange
rates.
INTEREST RATE RISK
We are exposed to market risks related to fluctuations in interest rates on amounts borrowed under the Credit Facility. As of June 30, 2022, we had $268.7 million outstanding under our Term Loan. Borrowings under the Term Loan Facility bear interest at a rate per annum equal to LIBOR with a floor of 0.50% for an interest period of one, three or six months as selected by Digi, reset at the end of the selected interest period (or a replacement benchmark rate if LIBOR is no longer available) plus 5.00% or a base rate plus 4.00%. The base rate is determined by reference to the highest of BMO’s prime rate, the Federal Funds Effective Rate plus 0.5%, or the one-month LIBOR for U.S. dollars plus 1.00%. The applicable margin for loans under the Revolving Credit Facility is in a range of 4.00-3.75% for LIBOR
loans and 3.00 to 2.75% for base rate loans, depending on Digi’s consolidated leverage ratio. Based on the balance sheet position for the Revolving Loan at June 30, 2022, the annualized effect of a 25 basis point change in interest rates would increase or decrease our interest expense by $0.7 million. For additional information, see Note 7 to our condensed consolidated financial statements. For our Credit Facility, interest rate changes generally do not affect the fair value of the debt instruments, but do impact future earnings and cash flows, assuming other factors are held constant. If interest rates remain elevated, we will continue to see interest expenses that are higher than historical amounts.
FOREIGN CURRENCY RISK
We
are not exposed to foreign currency transaction risk associated with sales transactions as the majority of our sales are denominated in U.S. Dollars. We are exposed to foreign currency translation risk as the financial position and operating results of our foreign subsidiaries are translated into U.S. Dollars for consolidation. We manage our net asset or net liability position for non-functional currency accounts, primarily the U.S. Dollar accounts in our foreign locations to reduce our foreign currency risk. We have not implemented a formal hedging strategy.
A 10% change in the average exchange rate for the Euro, British Pound, Japanese Yen and Canadian Dollar to the U.S. Dollar during the first nine months of fiscal 2022 would have resulted in a 0.6% increase or decrease in stockholders' equity due to foreign currency translation.
CREDIT
RISK
We have exposure to credit risk related to our accounts receivable portfolio. Exposure to credit risk is controlled through regular monitoring of customer financial status, credit limits and collaboration with sales management and customer contacts to facilitate payment.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
As of the end of the period covered by this report, we conducted an evaluation, under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the
"Exchange Act")). Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act was recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and is accumulated and communicated to our management, including the principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There were no changes in our internal control over financial reporting that occurred during the nine months ended June 30, 2022 that have materially affected,
or are reasonably likely to materially affect, our internal control over financial reporting.
The disclosure set forth in Note
13 to the condensed consolidated financial statements in Part I, Item 1 of this Form 10-Q is incorporated herein by reference.
ITEM 1A. RISK FACTORS
There have been no material changes in our risk factors from those previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended September 30, 2021 and in Item 1A of Part II of our Quarterly Reports on Form 10-Q filed subsequent to that Annual Report.
ITEM
2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table presents the information with respect to purchases made by or on behalf of Digi International Inc. or any "affiliated purchaser" (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934), of our common stock during the third quarter of fiscal 2022:
Period
Total
Number of Shares Purchased(1)
Average Price Paid per Share
Total Number of Shares Purchased as Part of a Publicly Announced Program
Maximum Dollar Value of Shares that May Yet Be Purchased Under the Program
(1) All
shares reported were forfeited by employees in connection with the satisfaction of tax withholding obligations related to the vesting of restricted stock units.
The
following materials from Digi International Inc.'s Quarterly Report on Form 10-Q for the fiscal period ended June 30, 2022, as filed with the Security and Exchange Commission, formatted in iXBRL (Inline eXtensible Business Reporting Language): (i) Condensed Consolidated Statements of Operations; (ii) Condensed Consolidated Statements of Comprehensive Income; (iii) Condensed Consolidated Balance Sheets; (iv) Condensed Consolidated Statements of Cash Flows; (v) Condensed Consolidated Statements of Stockholders' Equity; and (vi) the Notes to the Condensed Consolidated Financial Statements.
Filed Electronically
104
The
cover page from Digi International Inc.'s Quarterly Report on Form 10-Q for the period ended June 30, 2022 is formatted in iXBRL (included in Exhibit 101).
____________
* Schedules have been omitted pursuant to Item 601(a)(5) of Regulation S-K. Digi agrees to furnish to the Commission a copy of any omitted schedule upon request.
** Management contract or compensatory plan or arrangement required to be filed as an exhibit to this Form 10-Q.
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.
