What changed in this filing

/stocks — the workspaceLOADING

Item 2. Management’s Discussion and Analysis

2023-10-10 compared with 2023-04-06 · 139 added, 221 removed, 124 unchanged (74% of the section changed)

21 unchanged sentences

Business Overview

We design, build, and operate Next-Gen datacenters which are designed to provide massive computing power and support high-compute applications.

Our first facility was constructed in Jamestown, North Dakota with 100 Megawatts (“MW”) of capacity.

We signed an energy services agreement with a utility to power this facility.

We provide energized space for customers to host computing equipment.

Initially, these datacenters primarily hosted servers serving the Bitcoin network, but these facilities can also host hardware for other applications such as artificial intelligence, protein sequencing, drug discovery, machine learning and additional blockchain networks and applications.

During the quarter ended February 28, 2023, we have tested hosting other high-compute applications at our first facility.

On March 7, 2023, we announced the energizing of the 180 MW facility in Ellendale, ND.

Once fully energized, this location will bring the Company to 280 MW of total hosting capacity across its facilities in North Dakota, all of which are contracted out to customers on multi-year terms.

In addition to this facility, we have substantially completed construction on our facility in Garden City,

We have a colocation business model where our customers place hardware they own into our facilities and we provide full operational and maintenance services for a fixed fee.

We typically enter into long-term fixed rate contracts with our customers.

We are a designer, builder, and operator of next generation digital infrastructure providing cost-competitive solutions to customers in High-Performance Compute (“HPC”), artificial intelligence cloud service (“Cloud services”), and datacenter hosting (“Hosting”) industries.

Trends and Other Factors Affecting Our Business

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These legal and regulatory regimes, including the laws, rules and regulations thereunder, evolve frequently and may be modified, interpreted and applied in an inconsistent manner from one jurisdiction to another, and may conflict with one another.

Moreover, the complexity and evolving nature of our business and the significant uncertainty surrounding the regulation of the crypto economy requires us to exercise our judgement as to whether certain laws, rules and regulations apply to us or our customers, and it is possible that governmental bodies and regulators may disagree with our or our customers’ conclusions.

our customers, and it is possible that governmental bodies and regulators may disagree with our or our customers’ conclusions.

To the extent we or our customers have not complied with such laws, rules and regulations, we could be subject to significant fines and other regulatory consequences, which could adversely affect our business, prospects or operations.

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However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material.

Our significant accounting policies are discussed in Note 3 – Basis of Presentation and Significant Accounting Policies, of the Notes to Consolidated Financial Statements of the Company's Annual Report on Form 10-K for the fiscal year ended May 31, 2022 filed with the SEC on August 29, 2022.

Hosting Operation Highlights

Applied Digital’s first facility is in Jamestown, North Dakota with capacity of 100 MW.

The entire 100 MW of capacity has been fully contracted on multi-year contracts with our customers, providing revenue visibility for

Additionally, the facility is powered through a five-year energy services agreement with a local utility.

The facility began energizing in late January 2022 and has over 90 MW online as of February 28, 2023.

As previously reported in a Current Report on Form 8-K filed by the Company on July 18, 2022, there was an unexpected equipment failure at the substation powering the facility, resulting in a partial outage of approximately 50%.

The power provider completed the required repairs in mid-August, fully restoring power capacity to Jamestown ahead of the schedule for early September.

The Jamestown facility was not damaged and remains fully operational and capable of hosting the entire 100 MW of capacity.

There have been no reductions or interruptions in service since that time and February 28, 2023.

On July 12, 2022, the Company entered into a five-year hosting contract with Marathon Digital Holdings, Inc.

("Marathon") for 270 MW of mining capacity.

As a result of this arrangement, the Company will supply Marathon with 90 MW of hosting capacity at its facility in Texas and 180 MW of hosting capacity at its second facility in North Dakota.

Marathon has subsequently added 39.6 MW of additional capacity at the Company’s Jamestown, North Dakota facility.

Discontinued Operations

During the fourth quarter of our last fiscal year, the Company ceased all crypto mining operations and completed the sale of all crypto mining equipment.

The results of the crypto mining operations are accounted for as discontinued operations in our unaudited condensed consolidated financial statements.

Expansion Opportunities

On November 24, 2021, we entered into a letter of intent to develop a facility in Texas using 200 MW of wind power.

On April 13, 2022, the Company entered into a 99-year ground lease in Garden City, Texas, with the intent to build our second datacenter facility on this site.

On April 25, 2022 the Company began construction on this site.

This facility is collocated with a wind farm and upon completion is expected to provide 200 MW of power to hosting customers.

The facility is substantially complete and the 200 MW capacity is fully contracted with customers.

On August 8, 2022, the Company completed the purchase of 40 acres of land in Ellendale, North Dakota, for a total cost of $1 million.

The Company took possession of the land on August 15, 2022, built a hosting facility, and began energizing the site on March 4, 2023.

Once fully energized, this location will bring the Company to 280 MW of total hosting capacity across its facilities in North Dakota, all of which are contracted out to customers on multi-year terms.

As our hosting operations expand, we believe our business structure may become conducive to a real estate investment trust (“REIT”) structure, comparable to Digital Realty Trust (NYSE:

DLR) and Equinix, Inc.

EQIX), each of which is a traditional datacenter operator, and Innovative Industrial Properties, Inc.

IIPR), a specialty REIT that similarly services a new growth industry.

We have begun to investigate the possibility, costs and benefits of converting to a REIT structure.

On October 13, 2022, the Company entered into a joint venture agreement with Foundry Technologies, Inc.

(“Foundry”) to form SAI Computing, LLC (“SAI”).

SAI will provide artificial intelligence and machine learning application customers with access to machines and a hosting environment.

The Company is currently expanding capacity at the Jamestown, North Dakota datacenter facility to provide access to SAI and its customers.

The Company has an 98% ownership interest in SAI and consolidates the entity.

On December 14, 2022, the Company began construction of its latest specialized processing center, a 5 MW facility next to the Company’s currently operating 100-MW hosting facility in Jamestown, North Dakota.

This separate and unique building, designed and purpose-built for Graphics Processing Units (“GPUs”), will sit separate from the Company’s current buildings and plans to host more traditional high performance computing (“HPC”) applications, such as natural language processing, machine learning, and additional HPC developments.

Changes to Equity

On April 12, 2022, the Company effected a one-for-six (1:6) reverse split (the “Reverse Stock Split”) of shares of the Company’s common stock, par value $0.001 per share (the “Common Stock”).

All references to Common Stock, options to purchase Common Stock, restricted stock units, share data, per share data and related information contained in the unaudited condensed consolidated financial statements have been retrospectively adjusted to reflect the effect of the Reverse Stock Split for all periods presented.

No fractional shares of the Company’s Common Stock were issued in connection with the Reverse Stock Split.

Any fractional share resulting from the Reverse Stock Split was rounded down to the nearest whole share and the affected holder received cash in lieu of such fraction share.

On January 14, 2022, the Company granted restricted stock awards to directors and officers and restricted stock units to certain consultants.

Each of these awards and units contained a vesting condition of an effective registration statement covering the resale of the Common Stock underlying these awards.

On October 11, 2022, the Securities and Exchange Commission declared the Company’s registration statement covering these awards to be effective.

In conjunction with this registration statement being declared effective, awards for approximately 1.1 million shares of Common Stock vested.

Results of Operations Comparative Results for the Three and Nine Months Ended February 28, 2023 and 2022:

The following table sets forth key components of the results of operations (in thousands) of Applied Digital during the three and nine months ended February 28, 2023 and 2022.

Three Months Ended Nine Months Ended

February 28, 2023 February 28, 2022 February 28, 2023 February 28, 2022

Our critical accounting policies and estimates are identified and described in our annual consolidated financial statements and the related notes included in our Annual Report, and there have been no material changes since the filing of our Annual Report.

Business Update

Cloud Services

Our Cloud services business operates through our Sai Computing brand and provides cloud services applicable to artificial intelligence.

In June 2023, the Company expanded its commitment for up to 26,000 GPUs for the Company's Cloud services business.

During the three months ended August 31, 2023, the Company received and deployed an initial production cluster of 1,024 GPUs, and began recognizing revenue on our first cloud services contract.

HPC Datacenter Hosting

Our HPC datacenter business designs, builds, and operates next-gen datacenters which are designed to provide massive computing power and support high-compute applications within a cost-effective model.

The Company is in process of constructing a facility next to the Company’s currently operating facilities in Jamestown, North Dakota, and Ellendale, North Dakota.

Datacenter Hosting

Our datacenter hosting business provides infrastructure and colocation services to crypto mining customers.

As of August 31, 2023, the Company’s 106 MW facility in Jamestown, North Dakota and 180 MW facility in Ellendale, North Dakota were fully operational.

The Company’s 200 MW facility in Garden City, Texas is expected to energize during the fourth quarter of calendar 2023.

On September 8, 2023, the Company entered into a Facility Extension Agreement with Oncor Electricity Delivery Company LLC for the transmission and metering of power to the Company’s Garden City facility.

With this in place, metering and telemetry equipment will be installed onsite by Oncor and once installed, the site will be energized.

Results of Operations

Comparative Results for the Three Months Ended August 31, 2023 and 2022:

The following table sets forth key components of the results of operations (in thousands) during the three months ended August 31, 2023 and 2022.

Three Months Ended

August 31, 2023 August 31, 2022

Hosting revenue $ 29,987 $ 4,338

Cost of revenues $ 10,533 $ 2,073 $ 28,438 $ 2,073

Gross profit 3,557 (1,047) 4,916 (1,047)

Cloud services revenue 2,152 —

Related party hosting revenue 4,184 2,586

Total revenue 36,323 6,924

Costs and expenses:

Cost of revenues 24,398 6,093

Selling, general and administrative 17,052 5,008

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Operating loss (5,127) (4,177)

Other income (expense):

Interest Expense $ (384) $ — $ (1,125) $ —

Gain on extinguishment of accounts payable — 80 — 405

Interest expense, net 2,074 356

Loss on extinguishment of debt 2,353 94

Total other expense, net (384) 80 (1,219) (937)

Net loss from continuing operations before income tax expenses (7,341) (2,337) (39,030) (17,569)

Income tax benefit (expense) — (60) 280 (274)

Net loss from continuing operations (7,341) (2,397) (38,750) (17,843)

Net loss from discontinued operations, net of income taxes — (4,048) — (2,870)

Net loss including noncontrolling interests (7,341) (6,445) (38,750) (20,713)

Loss from legal settlement

Net loss before income taxes (11,854) (4,627)

Income tax expenses — 32

Net loss (11,854) (4,659)

Net loss attributable to noncontrolling interest (397) (128)

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Basic and diluted net (loss) gain per share:

Continuing Operations $ (0.08) $ (0.04) $ (0.41) $ (0.35)

Discontinued Operations $ — $ (0.08) $ — $ (0.06)

Basic and diluted net loss per share $ (0.12) $ (0.05)

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Adjusted Amounts (a)

Adjusted Operating Loss from Continuing Operations (1,017) (2,064) (7,613) (2,289)

Adjusted Operating Margin from Continuing Operations (7) % (201) % (23) % (223) %

Adjusted Net Loss from Continuing Operations (1,401) (2,044) (8,552) (3,500)

Adjusted Operating Loss 1,759 (2,990)

Adjusted Operating Margin 5 % (42) %

Adjusted Net Income (Loss)

Basic and diluted net loss per share $ — $ (0.03)

Other Financial Data (a)

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as a percentage of revenues 28 % (27) %

Adjusted Gross Profit 4,435 (987) 7,611 (987)

as a percentage of revenues 31 % (96) % 23 % (96) %

(a) Adjusted Amounts and Other Financial Data are non-GAAP performance measures.

A reconciliation of reported amounts to adjusted amounts can be found in the "Non-GAAP Measures and Reconciliation" section of the MD&A.

Commentary on Results of Operations Comparative Results for the three months Ended February 28, 2023 compared to the three months ended February 28, 2022

Hosting revenues increased by $13.1 million, or 1273%, from $1.0 million for the three months ended February 28, 2022 to $14.1 million for the three months ended February 28, 2023.

The increase in hosting revenues was driven by a full three months of operation at our first hosting facility in Jamestown, North Dakota.

Commentary on Results of Operations Comparative Results for the Three Months Ended August 31, 2023 compared to the Three Months Ended August 31, 2022

Total revenue increased by $29.4 million, or 425%, from $6.9 million for the three months ended August 31, 2022 to $36.3 million for the three months ended August 31, 2023.

The increase in revenue was driven by an increase in online

capacity from the Ellendale, North Dakota facility being operational, and revenue from the Company’s first cloud services contract, which started during the three months ended August 31, 2023.

Cost of revenues

Cost of revenues increased by $8.4 million, or 407%, from $2.1 million for the three months ended February 28, 2022 to $10.5 million for the three months ended February 28, 2023.

The increase in cost of revenues was primarily driven by driven by a full three months of operation at our first hosting facility in Jamestown, North Dakota.

The primary drivers of the change to cost of revenues for the three months ended February 28, 2023 were:

• approximately $0.8 million increase in depreciation and amortization expense directly attributable to the property and equipment at the Jamestown, North Dakota hosting facility;

• approximately $6.7 million increase in energy costs used to generate our hosting revenues;

• approximately $0.9 million increase in personnel expenses for employees directly working at the Jamestown, North Dakota hosting facility.

Cost of revenues increased $18.3 million, or 300%, from $6.1 million for the three months ended August 31, 2022 to $24.4 million for the three months ended August 31, 2023.

The primary drivers of the change to cost of revenues for the three months ended August 31, 2023 were:

• approximately $12.8 million increase in energy costs used to generate hosting revenue;

• approximately $3.9 million increase in depreciation and amortization expense attributable to owned and leased assets directly supporting revenue;

• approximately $1.2 million increase in personnel expenses for employees directly attributable to generating hosting revenue;

• approximately $0.4 million increase in other expenses directly attributable to generating hosting revenue.

Operating Expenses

Selling, general and administrative expenses increased by $9.3 million, or 782%, from $1.2 million for the three months ended February 28, 2022 to $10.5 million for the three months ended February 28, 2023.

The primary drivers of the change to selling, general and administrative expense for the three months ended February 28, 2023 were:

Selling, general and administrative expenses increased $12.1 million, or 241%, from $5.0 million for the three months ended August 31, 2022 to $17.1 million for the three months ended August 31, 2023.

The primary drivers of the increase in selling, general and administrative expense for the three months ended August 31, 2023 were:

• approximately $1.8 million increase in employee salaries and benefits expense not directly attributable to revenues;

• approximately $0.2 million increase in professional service expenses incurred to support the growth of the business;

• approximately $2.8 million increase in depreciation and amortization expense not attributable to owned and leased assets directly supporting revenue;

• approximately $2.2 million increase in other selling, general, and administrative expenses such as insurance premiums and computer and software expenses;

• approximately $5.1 million increase in stock based compensation expense.

• approximately $1.0 million increase in depreciation and amortization expense not directly attributable to the Jamestown, North Dakota hosting facility;

• approximately $2.7 million increase in other selling, general, and administrative expenses such as insurance premiums and computer and software expenses, which is directly related to the growth of the Company.

The increase was driven by an increase in awards to be expensed between the periods.

Other Expense

Interest expense increased $0.4 million, or 100% , from zero for the three months ended February 28, 2022 to $0.4 million for the three months ended February 28, 2023.

The increase was driven by the increase in finance leases and change in the Company’s debt obligations between periods.

Loss on extinguishment of debt for the three months ended February 28, 2022 and for the three months ended February 28, 2023 was zero for both periods.

Interest expense increased $1.7 million, or 483%, from $0.4 million for the three months ended August 31, 2022 to $2.1 million for the three months ended August 31, 2023.

The increase was driven by the increase in finance leases and interest-bearing loans between periods.

Loss on extinguishment of debt increased $2.3 million, or 2403%, from $0.1 million for the three months ended August 31, 2022 to $2.4 million for the three months ended August 31, 2023.The increase was driven by the termination fees to extinguish the B.

Riley loan during the three the three months ended August 31, 2023.

Loss from legal settlement was $2.3 million for the three months ended August 31, 2023 due to a settlement agreement entered into by the Company in respect to employment-related claims by a former executive.

The terms of the settlement include payment to the claimant of $2.3 million, which was included in accrued liabilities on the condensed consolidated balance sheets as of August 31, 2023.

Income tax benefit

The income tax benefit decreased $0.1 million or 100% from a $0.1 million expense for the three months ended February 28, 2022 to a zero for the three months ended February 28, 2023.

This change was driven by a change in valuation allowance for the three months ended February 28, 2023 compared to the three months ended February 28, 2022.

Loss from Discontinued Operations

Loss from discontinued operations decreased $4.0 million, or 100%, from $4.0 million for the three months ended February 28, 2022 to zero for the three months ended February 28, 2023.

The change was due to the fact that the Company no longer generates revenues from mining operations.

Commentary on Results of Operations Comparative Results for the nine months Ended February 28, 2023 compared to the nine months ended February 28, 2022

Hosting revenues increased by $32.3 million, or 3150%, from $1.0 million for the nine months ended February 28, 2022 to $33.4 million for the nine months ended February 28, 2023.

The increase in hosting revenues was driven by a full nine months of operations at our first hosting facility in Jamestown, North Dakota.

Cost of Revenues

Cost of revenues increased by $26.3 million, or 1270%, from $2.1 million for the nine months ended February 28, 2022 to $28.4 million for the nine months ended February 28, 2023.

The increase in cost of revenues was driven by a full nine months of operations at our first hosting facility in Jamestown, North Dakota.

The primary drivers of the change to cost of revenues for the nine months ended February 28, 2023 were:

• approximately $2.5 million increase in depreciation and amortization expense attributable to the property and equipment at the Jamestown, North Dakota hosting facility;

• approximately $21.9 million increase in energy costs used to generate the hosting revenues;

• approximately $1.9 million increase in personnel expenses for employees directly working at the Jamestown, North Dakota hosting facility.

Operating Expenses

Selling, general and administrative expenses increased by $27.1 million, or 174%, from $15.6 million for the nine months ended February 28, 2022 to $42.7 million for the nine months ended February 28, 2023.

The primary drivers of the change to selling, general and administrative expense for the nine months ended February 28, 2023 were:

• approximately $2.9 million increase in employee salaries and benefits expense not directly attributable to revenues;

• approximately $2.4 million increase in professional service expenses incurred to support the growth of the business;

• approximately $14.5 million increase in of stock-based compensation expense;

• approximately $1.9 million increase in depreciation and amortization expense not directly attributable to the Jamestown, North Dakota hosting facility;

• approximately $5.4 million increase in other selling, general, and administrative expenses such as insurance premiums and computer and software expenses, which is directly related to the growth of the Company.

Other Expense

Interest expense increased $1.1 million, or 100% , from zero for the nine months ended February 28, 2022 to $1.1 million for the nine months ended February 28, 2023.

The change is driven by the increase in finance leases and change in the Company’s debt obligations between periods.

Loss on extinguishment of debt decreased $1.2 million, or 93%, from $1.3 million for the nine months ended February 28, 2022 to $0.1 million for the nine months ended February 28, 2023.

This decrease was driven by the extinguishment of our related party notes payable by conversion to common stock during the nine months ended February 28, 2022, compared to a smaller extinguishment of term debt that was recognized in the nine months ended February 28, 2023.

Income tax benefit (expense)

Income tax benefit increased $0.6 million or 202% from a $0.3 million expense for the nine months ended February 28, 2022 to approximately $0.3 million benefit for the nine months ended February 28, 2023.

This change was driven by a change in valuation allowance for the nine months ended February 28, 2023 compared to the nine months ended February 28, 2022.

Loss from Discontinued Operations

Loss from discontinued operations decreased $2.9 million, or 100%, from $2.9 million for the nine months ended February 28, 2022 to zero for the nine months ended February 28, 2023.

The change was due to the fact that the Company no longer generates revenues from mining operations.

The income tax expense decreased $32 thousand, or 100%, from a $32 thousand expense for the three months ended August 31, 2022 to zero for the three months ended August 31, 2023.

This change was driven by a change in valuation allowance for the three months ended August 31, 2023 compared to the three months ended August 31, 2022.

Commentary on Segments Revenue

The following table sets forth segment revenue (excluding HPC as that segment has no revenue) (in thousands) during the three months ended August 31, 2023 and 2022:

Three Months Ended

August 31, 2023 August 31, 2022

Cloud services segment

Hosting segment

Total revenue $ 36,323 $ 6,924

Cloud Services Revenue

Cloud services revenue increased $2.2 million, or 100%, from zero for the three months ended August 31, 2022 to $2.2 million for the three months ended August 31, 2023.

The increase is due the Company beginning to provide services within the Cloud services segment during three months ended August 31, 2023.

Hosting Revenue

Hosting revenue increased $27.2 million, or 394%, from $6.9 million for the three months ended August 31, 2022 to $34.2 million for the three months ended August 31, 2023.

The increase is due to the full energization of the Company’s Ellendale, North Dakota and Jamestown, North Dakota facilities during the three months ended August 31, 2023, compared to the Company providing limited capacity at only the Jamestown, North Dakota facility during the three months ended August 31, 2022.

Commentary on Segments Operating Profit and Loss

The following table sets forth the Company’s operating profit for each of our segments for the three months ended August 31, 2023 and 2022 (in thousands):

Three Months Ended

August 31, 2023 August 31, 2022

Segment Operating (Loss) Profit:

Cloud services segment

$ (7,434) $ —

Hosting segment

HPC hosting segment (730) —

Total segment profit 794 (658)

Cloud Services Operating Loss

Cloud services operating loss increased $7.4 million, or 100% from zero for the three months ended August 31, 2022 to $7.4 million for the three months ended August 31, 2023 as the Company began providing cloud services during the first quarter of fiscal year 2024.

The change from the three months ended August 31, 2022 is driven by the segment expanding operations during the current period.

The operating loss is primary driven by amortization expense on finance leases on computing equipment, stock-based compensation expense attributable to the segment, and the segment only generating revenue for part of the period.

Hosting Operating Profit

Hosting operating profit increased $9.7 million, or 1,462% from a loss of $0.7 million for the three months ended August 31, 2022 to a profit of $9.0 million for the three months ended August 31, 2023.

The change is driven by full energization of the Company’s Ellendale, North Dakota and Jamestown, North Dakota facilities during the three months ended August 31, 2023, relative to operations only at the Company’s Jamestown facility during the the three months ended August 31, 2022 and the Jamestown facility operating at less than full capacity for a portion of the comparative period.

HPC Hosting Operating Loss

High performance compute hosting operating loss increased $0.7 million, or 100% from zero to $0.7 million due to the Company launching the segment during the current period.

The loss is largely comprised of stock-based compensation expense, payroll, and amortization expense related to finance leases in the HPC hosting buildout.

Non-GAAP Measures

Adjusted Operating Loss and Adjusted Net Loss

“Adjusted Operating Loss” and “Adjusted Net Loss” are non-GAAP measures that represents operating loss and net loss, respectively, from continuing operations excluding stock-based compensation and nonrecurring expenses.

“Adjusted Operating Loss” and “Adjusted Net Loss” are non-GAAP measures that represents operating loss and net loss, respectively, excluding stock-based compensation and nonrecurring expenses.

We believe these are useful metrics as they provide additional information regarding factors and trends affecting our business and provide perspective on results absent one-time or significant non-cash items.

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“EBITDA” is defined as earnings before interest, taxes, and depreciation and amortization.

“Adjusted EBITDA” is defined as EBITDA adjusted for stock-based compensation, gain on extinguishment of accounts payable, loss on extinguishment of debt, and one-time professional service costs not directly related to the Company’s offering and therefore not deferred under the guidance in ASC 340 and SAB Topic 5A.

“Adjusted EBITDA” is defined as EBITDA adjusted for stock-based compensation, loss on extinguishment of debt, one-time professional service costs, and other nonrecurring costs.

These costs have been adjusted as they are not indicative of business operations.

Adjusted EBITDA is intended as a

supplemental measure of Applied Digital’s performance that is neither required by, nor presented in accordance with, GAAP.

Adjusted EBITDA is intended as a supplemental measure of Applied Digital’s performance that is neither required by, nor presented in accordance with, GAAP.

Applied Digital believes that the use of EBITDA and Adjusted EBITDA provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing its financial measures with those of comparable companies, which may present similar non-GAAP financial measures to investors.

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You should review the reconciliation of net loss to EBITDA and Adjusted EBITDA above and not rely on any single financial measure to evaluate Applied Digital’s business.

Adjusted Gross Profit

“Adjusted Gross Profit” is a non-GAAP measure that represents gross profit adjusted for depreciation expense within cost of revenues.

We believe this is a useful metric as it provides additional information regarding gross profit aside from significant non-cash expense in depreciation.

However, Applied Digital’s presentation of this measure should not be construed as an inference that its future results will be unaffected by other factors within cost of revenues.

Applied Digital’s computation of Adjusted Gross Profit may not be comparable to other similarly titled measures computed by other companies, because all companies may not calculate Adjusted Gross Profit in the same fashion.

Because of these limitations, Adjusted Gross Profit should not be considered in isolation or as a substitute for performance measures calculated in accordance with GAAP.

Applied Digital compensates for these limitations by relying primarily on its GAAP results and using Adjusted Gross Profit on a supplemental basis.

You should review the reconciliation of gross profit to Adjusted Gross Profit above and not rely on any single financial measure to evaluate Applied Digital’s business.

Reconciliation of GAAP to Non-GAAP Measures

Three Months Ended Nine Months Ended

$ in thousands February 28, 2023 February 28, 2022 February 28, 2023 February 28, 2022

Three Months Ended

$ in thousands August 31, 2023 August 31, 2022

Adjusted operating loss

Operating Loss from Continuing Operations (GAAP) $ (6,957) $ (2,417) $ (37,811) $ (16,632)

Operating loss (GAAP) $ (5,127) $ (4,177)

Stock-based compensation 5,641 579

Gain on Extinguishment of Accounts Payable — (80) — (405)

Loss on Extinguishment of Debt — — 94 1,342

Non-recurring professional service costs 592 408

One-time electricity charges — — 114 —

Other non-recurring expenses 653 200

Adjusted Operating Loss from Continuing Operations (Non-GAAP) $ (1,017) $ (2,064) $ (7,613) $ (2,289)

Adjusted operating margin from Continuing Operations (7.2) % (201.2) % (22.8) % (223.1) %

Adjusted operating income (loss) (Non-GAAP) $ 1,759 $ (2,990)

Adjusted operating margin 4.8 % (43.2) %

Adjusted net income (loss)

Net Loss from Continuing Operations (GAAP) $ (7,341) $ (2,397) $ (38,750) $ (17,843)

Net loss attributable to Applied Digital Corporation (GAAP)

$ (11,457) $ (4,531)

Stock-based compensation 5,641 579

Gain on Extinguishment of Accounts Payable — (80) — (405)

Loss on extinguishment of debt 2,353 94

Loss from legal settlement

Non-recurring professional service costs 592 408

One-time electricity charges — — 114 —

Other non-recurring expenses 653 200

Adjusted net loss from Continuing Operations (Non-GAAP) $ (1,401) $ (2,044) $ (8,552) $ (3,500)

Adjusted net income (loss) (Non-GAAP) $ 82 $ (3,250)

Adjusted net income (loss) per share (Non-GAAP) $ — $ (0.03)

EBITDA and Adjusted EBITDA

Net Loss from Continuing Operations (GAAP) $ (7,341) $ (2,397) $ (38,750) $ (17,843)

Net loss attributable to Applied Digital Corporation (GAAP)

$ (11,457) $ (4,531)

Interest expense 2,074 356

3 unchanged sentences

Stock-based compensation 5,641 579

Gain on Extinguishment of Accounts Payable — (80) — (405)

Loss on extinguishment of debt 2,353 94

Loss from legal settlement

Non-recurring professional service costs 592 408

One-time electricity charges — — 114 —

Other non-recurring expenses 653 200

Adjusted EBITDA (Non-GAAP) $ 10,016 $ (1,726)

Adjusted Gross Profit

Gross profit (GAAP) $ 3,557 $ (1,047) $ 4,916 $ (1,047)

Depreciation and amortization in cost of revenues 878 60 2,581 60

One-time electricity charges — — 114 —

Adjusted Gross Profit (Non-GAAP) $ 4,435 $ (987) $ 7,611 $ (987)

Sources of Liquidity

We have primarily generated cash in the last 12 months from the proceeds of our term loans, proceeds from our initial public offering, and the receipt of contractual deposits and revenue prepayments from hosting customers.

On April 18, 2022, we received approximately $36 million in net proceeds from the issuance of 8 million shares of Common Stock in conjunction with the closing of our initial public offering.

On July 25, 2022, the Company entered into the Starion Loan Agreement.

The Starion Loan Agreement provides for the Starion Term Loan.

A portion of the proceeds were used to pay down the Vantage term loan that was entered into on March 11, 2022.

The remaining proceeds of the term loan will be used for working capital needs for the operation of Phase I of the hosting facility in Jamestown, North Dakota.

On November 7, 2022, the Company entered into the Vantage Garden City Loan Agreement.

As of February 28, 2023, an aggregate amount of $10.3 million has been advanced under the Vantage Garden City Loan Agreement.

The proceeds of the Vantage Garden City Loan will be used for the costs and expenses of a building at the Garden City Facility.

See Note 7 - Debt to the unaudited condensed consolidated financial statements included in this Quarterly Report on Form 10-Q for more information on the Starion Term Loan and Vantage Garden City Loan.

On February 16, 2023, the Company entered into a Starion Ellendale Loan Agreement with Starion Bank.

This agreement provides for a term loan in the principal amount of $20,000,000 with a maturity date of February 3, 2028.

The loan provides for an interest rate of 7.48% per annum.

The proceeds of the loan will be used to fund expansion on the Ellendale Facility.

On March 30, 2023, the Company received funding for the Starion Ellendale Loan.

The funding, net of issuance fees, totaled $19.8 million.

During the three and nine months ended February 28, 2023, we received $32.3 million and $77.0 million, respectively, in payments for future hosting services.

During the fiscal year ended May 31, 2022, we generated revenue from crypto mining and co-hosting, but we have incurred net losses from operations.

During the three and nine months ended February 28, 2023, we have generated revenue from co-hosting, but have incurred net losses from operations.

As of February 28, 2023 and May 31, 2022, we had cash of $22.9 million and $46.3 million, respectively, and an accumulated deficit of $94.2 million and $56.1 million, respectively.

As of August 31, 2023, the Company had approximate cash and cash equivalents of $5.9 million and negative working capital of $118.1 million.

Historically the Company has incurred losses and has relied on equity and debt financings to fund its operations.

Based on an analysis of cash flows, current net working capital, and expected operations revenue, the Company believes its current cash on hand is sufficient to meet its operating and capital requirement for at least next twelve months from the date these financial statements are issued.

We have primarily generated cash in the last 12 months from the proceeds of our term loans, issuance of common stock, and the receipt of contractual deposits and revenue payments from customers.

See Note 6 - Debt to the condensed consolidated financial statements included in this Quarterly Report on Form 10-Q for more information on our term loans.

On June 27, 2023, the Company began issuing and selling common stock under an "at the market" sales agreement, with Craig-Hallum Capital, pursuant to which the Company may sell up to $125 million in shares of common stock.

As of August 31, 2023, the Company has sold approximately 7.9 million shares.

Net proceeds, less commission and legal fees of approximately $2.2 million, were approximately $64.5 million.

The Company received an additional $2.7 million in proceeds subsequent to August 31, 2023.

During the three months ended August 31, 2023, we received $39.5 million in payments for future hosting services.

On September 13, 2023, Sai Computing borrowed an additional $5.0 million under the remaining capacity from the existing B.

Riley Loan that the Company entered into in May 2023.

The Company has also received prepayments from new cloud services customers totaling $9.6 million for future services.

Funding Requirements

We have experienced net losses through the periods ended February 28, 2023.

We have experienced net losses through the period ended August 31, 2023.

Our transition to profitability is dependent on the successful operation of our co-hosting facilities.

We believe that amounts we received from proceeds from our term loans, proceeds from our initial public offering, and revenue payments we have begun to achieve in our co-hosting operations since our first co-hosting facility was brought online in February 2022, after planned expenditures with respect to the items described in the section titled “ Expansion Opportunities” above, will be sufficient to meet our working capital needs for at least the next 12 months and all of the Company’s known requirements and plans for cash.

We believe that amounts we received from proceeds from our term loans, proceeds from stock offerings, and payments we have received from our hosting operations will be sufficient to meet our working capital needs for at least the next 12 months and all of the Company’s known requirements and plans for cash.

We have based our estimates as to how long we expect we will be able to fund our operations on assumptions that may prove to be wrong, and we could use our available capital resources sooner than we currently expect, in which case, we would be required to obtain additional financing sooner than currently projected, which may not be available to us on acceptable terms, or at all.

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We expect that our general and administrative expenses and our operating expenditures will continue to increase as we continue to expand our operations and as we bear the costs of being a public company.

We believe that the significant investments in property and equipment will begin to decrease during calendar 2023 as we complete construction of additional capacity.

We also expect that our revenues will increase as we continue to bring online additional capacity at our Jamestown, North Dakota, Garden City, Texas, and Ellendale, North Dakota locations.

We believe that the significant investments in property and equipment will begin remain throughout during calendar 2023 as we continue construction of our HPC facilities and acquire assets to support our cloud services business.

We also expect that our revenues will increase as we continue to bring online additional capacity at our Garden City, Texas location and within our cloud services contracts.

Summary of Cash Flows

The following table provides information about Applied Digital’s net cash flow (in thousands) for the nine months ended February 28, 2023.

Nine Months Ended

$ in thousands February 28, 2023 February 28, 2022

The following table provides information about Applied Digital’s net cash flow (in thousands) for the three months ended August 31, 2023 and August 31, 2022, respectively.

Three Months Ended

$ in thousands August 31, 2023 August 31, 2022

Net cash provided by operating activities $ 4,517 $ 17,294

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Net cash provided by financing activities 23,663 8,910

Net change in cash and cash equivalents (23,378) $ 211

Cash and cash equivalents at beginning of year 46,299 $ 11,750

Cash and cash equivalents at end of period $ 22,921 $ 11,961

Commentary on cash flows for the nine months Ended February 28, 2023

Operating Activities

The net cash provided by operating activities of $54.1 million for the nine months ended February 28, 2023 consisted primarily of the following:

• $26.9 million non-cash adjustment for stock-based compensation expense;

• $26.8 million increase in customer deposits due to the Company executing new contracts during the period;

• $43.7 million increase in deferred revenue due to prepayments due to prepayments from new contracts as well as more cash being received than revenue recognized during the period.

The above factors were partially offset by the $38.8 million loss from continuing operations

Investing Activities

The net cash used in investing activities of $96.3 million for the nine months ended February 28, 2023 was driven by the increase of purchases of property and equipment related to the construction of the Company’s Garden City, Texas and Ellendale, North Dakota facilities.

Financing Activities

The net cash provided by financing activities of $18.8 million for the nine months ended February 28, 2023 was primarily driven by:

• $25.6 million in proceeds from the Starion Term Loan and the Vantage Garden City Loan;

• $4.1 million in equity contributions to 1.21 Gigawatts, a subsidiary of the Company, by noncontrolling interest.

These above factors were partially offset by the extinguishment of the Vantage term loan totaling $7.1 million.

Commentary on cash flows for the nine months Ended February 28, 2022

Net decrease in cash and cash equivalents (12,361) (5,469)

Cash, cash equivalents, and restricted cash at beginning of year 43,574 46,299

Cash, cash equivalents, and restricted cash at end of period $ 31,213 $ 40,830

Commentary on the change in cash flows between the Three Months Ended August 31, 2023 and Three Months Ended August 31, 2022

Operating Activities

The net cash provided by operating activities of $4.2 million for the nine months ended February 28, 2022 consisted primarily of:

• $12.3 million non-cash expense adjustment for stock-based compensation expense;

• $1.3 million non-cash adjustment for loss on the extinguishment of debt;

• $4.5 million increase in accounts payable and accrued liabilities due to the timing of payments;

• $2.1 million increase in customer deposits;

• $2.9 million increase in deferred revenue.

These above factors were partially offset by:

• $2.1 million increase to prepaid expense and other current assets due to the timing of payments;

• $17.8 million in loss from continuing operations

The net cash provided by operating activities decreased by $12.8 million, or 74%, from $17.3 million for the three months ended August 31, 2022 to $4.5 million for the three months ended August 31, 2023.

The primary reason for the change was decrease in revenue prepayments received relative to revenue earned during the three months ended August 31, 2023.

Investing Activities

The net cash used in investing activities of $35.6 million for the nine months ended February 28, 2022 consisted of:

• $28.2 million in purchases of property and equipment related to the construction of the Company’s Jamestown, ND facility;

• $7.4 million in purchases of equipment related to the Company’s discontinued operations.

The net cash used in investing activities increased by $8.9 million, or 28%, from $31.7 million for the three months ended August 31, 2022 to $40.5 million for the three months ended August 31, 2023.

The primary reason for the change was finance lease prepayments made for leases on hosting equipment to support the Company’s cloud services business during the three months ended August 31, 2023.

Financing Activities

The net cash provided by financing activities of $31.6 million for the nine months ended February 28, 2022 represents proceeds from the issuance of preferred stock $34.5 million, partially offset by issuance costs of $2.9 million.

The net cash provided by financing activities increased by $14.8 million, or 166%, from $8.9 million for the three months ended August 31, 2022 to $23.7 million for the three months ended August 31, 2023.

The primary reason for the change

was receipt of net proceeds from the Company’s common stock offering the three months ended August 31, 2023 which was partially offset by an increase in term lease payments during the three months ended August 31, 2023.

Quantitative and Qualitative Disclosures About Market Risk

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What changed 10-Q

Item 2. Management’s Discussion and Analysis