Corsair Gaming, Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS You should read the following discussion and analysis of our financial condition and results of operations together with the condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed in the section titled “Risk Factors” and in other parts of this Quarterly Report on Form 10-Q. Overview We are a leading global provider and innovator of high-performance gear for gamers, streamers and content creators, many of which build their own PCs using our components. Our gear is sold to end users worldwide through either our retail channel or our direct-to-consumer channel. In our retail channel, we distribute our gear either directly to the retailer, such as Amazon and Best Buy, or through key distributors. In the last two years, we have entered into four large new markets: microphones and cameras markets for content creators, the gaming monitors market and prebuilt gaming laptops market for both gamers and content creators. We continue to optimize the value of existing products and to introduce new products to the market driving growth. Over the longer term, we believe we will be able to continue to grow in new markets as well as the markets that we participate in through innovation and leading technologies and entry into new categories via organic growth or acquisition. We group our products into two categories (operating segments): • Gamer and creator peripherals. Includes our high-performance gaming keyboards, mice, headsets, controllers, and streaming gear, which includes capture cards, Stream Decks, USB microphones, our Facecam streaming camera, studio accessories, and EpocCam software, as well as coaching and training services, among others. • Gaming components and systems. Includes our high-performance power supply units, or PSUs, cooling solutions, computer cases, and DRAM modules, as well as high-end prebuilt and custom-built gaming PCs and laptops, and gaming monitor, among others. Since 2018, we have completed eight acquisitions, including our acquisition of 51% of the share capital of iDisplay, a leader in electronic development and design specializing in display technology, in January 2022. The iDisplay acquisition will allow us to direct the development and integration of iDisplay’s display-based touch-screen technologies into our products for creators, gamers and streamers. iDisplay’s results of operations are fully consolidated with Corsair with effect from January 1, 2022. Summary of Financial Results Our revenue for the three months ended September 30, 2022, decreased by $79.4 million or 20.3%, compared to the same period last year. Our revenue for the nine months ended September 30, 2022, decreased by $417.1 million or 29.9% compared to the same period last year. The decrease in revenue for the three- and nine-month periods was primarily driven by the continuing slowdown in consumer spending in Europe mainly related to the Russia and Ukraine war, the unexpected high inflationary pressure on consumer spending, and currency pressure from the strengthening of the U.S. dollar against the Euro and British Pound, causing some of our products to become more expensive in Europe. The decrease in revenue for the nine months ended September 30, 2022 was also partly due to the easing of the COVID-19 shelter in-place restrictions which resulted in decreased demand for our gear as consumers sought alternative forms of entertainment. The decrease in demand for our gear in 2022 resulted in a buildup of inventory in our warehouses as well as in the retail channel, causing our channel partners to delay ordering while they clear excess inventory. In the three months ended September 30, 2022, the excess inventory situation in the retail channel has begun to ease in the United States, and we expect it to gradually ease in Europe starting next quarter. Our gross margins decreased from 25.9% to 23.0% for the three months ended September 30, 2022, and from 28.1% to 20.4% for the nine months ended September 30, 2022, in each case, as compared to the same periods last year. The decrease in our gross margins for the three- and nine-month periods were primarily due to increased logistics costs and higher promotional activities. The decrease in gross margin for the nine months ended September 30, 2022 was also partially due to the higher inventory impairment and related charges in 2022 as a result of our inventory rationalization plan to align our inventory balance with the updated revenue outlook for 2022. In addition, the decrease in gross margins for the three and nine months ended September 30, 2022 was partially offset by lower freight costs as the elevated freight rate caused by the pandemic has normalized to close to pre-pandemic level, beginning in the third fiscal quarter of 2022. As of September 30, 2022, we had cash and restricted cash, in the aggregate of $61.7 million and $245.0 million Term Loan outstanding (face value). We generated $45.1 million cash from operations in the nine months ended September 30, 2022. 24 Table of Contents Key Factors Affecting Our Business Our results of operations and financial condition are affected by numerous factors, including those discussed in the section titled “Risk Factors” in Part II, Item 1A of this Quarterly Report on Form 10-Q and those described below. Impact of Industry Trends Our results of operations and financial condition are impacted by industry trends in the gaming market, including: • Increasing gaming engagement. We believe that gaming’s increasing time share of global entertainment consumption will drive continued growth in spending on both games and gaming gear. Gaming continues to become increasingly social and streaming viewership more widely adopted along with increasing numbers of content creators. We believe this trend will continue and we are well positioned to serve the streaming market with best-in-class tools for content creation. • Introduction of new high-performance computing hardware and sophisticated games . We believe that the introduction and availability of more powerful CPUs and GPUs that place increased demands on other system components, such as memory, power supply or cooling, has a significant effect on increasing the demand for our gear. The shortage of reasonably priced GPUs since the second half of 2021 has had a negative impact to our gaming component revenue. Starting from the third fiscal quarter of 2022, we saw the availability of reasonably priced GPUs begin to normalize and bring along some positive effects to the market. In addition, we believe that our business success depends in part on the introduction and success of games with sophisticated graphics that place increasing demands on system processing speed and capacity and therefore require more powerful CPUs or GPUs, which in turn drives demand for our high-performance gaming components and systems, such as PSUs and cooling solutions, and our gaming PC memory. As a result, our operating results may be materially affected by the timing of, and the rate at which computer hardware companies introduce, new and enhanced CPUs and GPUs, as well as the availability and pricing of such CPUs and GPUs, the timing of, and rate at which computer game companies and developers introduce, sophisticated new and improved games that require increasingly high levels of system and graphics processing power, and whether these new products and games are widely accepted by gamers. Impact of Product Mix Our gamer and creator peripherals segment has a higher gross margin than our gaming components and systems segment. As a result, our overall gross margin is affected by changes in product mix. External factors can have an impact on our product mix, such as popular game releases that can increase sales of peripherals and availability of new CPUs and GPUs that can impact component sales. In addition, within our gamer and creator peripherals and gaming components and systems segments, gross margin varies between products, and significant shifts in product mix within either segment may also significantly impact our overall gross margin. Impact of Customer Concentration We operate a global sales network that consists primarily of retailers (including eRetailers), as well as distributors we use to access certain retailers. Further, a limited number of retailers and distributors represent a significant portion of our net revenue, with eRetailer Amazon accounting for 26.3% and 26.4% of our net revenue for the nine months ended September 30, 2022 and 2021, respectively, and sales to our ten largest customers accounting for approximately 52.0% and 50.5% of our net revenue for the nine months ended September 30, 2022 and 2021, respectively. Our customers, including Amazon, typically do not enter into long-term agreements to purchase our gear but instead enter into purchase orders with us. As a result of this concentration and the lack of long-term agreements with our customers, a primary driver of our net revenue and operating performance is maintaining good relationships with these retailers and distributors. To help maintain good relationships, we implement initiatives such as our updated packaging design that helps eRetailers such as Amazon process our packages more efficiently. Further, given our global operations, a significant percentage of our expenses relate to shipping costs. Our ability to effectively optimize these shipping expenses, for example utilizing expensive shipping options such as air freight for smaller packages and more urgent deliveries and more cost-efficient options, such as train or boat, for other shipments, has an impact on our expenses and results of operations. Impact of New Product Introductions Gamers demand new technology and product features, and we expect our ability to accurately anticipate and meet these demands will be one of the main drivers for any future sales growth and market share expansion. In 2022, we had launched and started shipping several new products, such as our new K70 Pro RGB keyboard and Elgato’s new accessories including our new Facecam and next generation of HD60 X Capture card, Corsair DDR5 memory and new high-performance gaming controllers including SCUF Reflex, Reflex Pro and Reflex FPS, among others. However, there can be no assurance that our new product introductions will have a favorable impact on our operating results or that customers will choose our new gear over those of our competitors. Impact of Seasonal Sales Trends 25 Table of Contents Since 2020, our revenue seasonality has been impacted positively and negatively, and thus has not followed historic patterns, by external events, such as shelter-in-place restrictions, global supply chain and logistics issues and availability of affordable GPUs, primarily caused by the COVID-19 pandemic. H istorically, prior to 2020, we have experienced and expect to continue to experience seasonal fluctuations in sales due to the buying patterns of our customers and spending patterns of gamers. Our net revenue has generally been lowest in the first and second calendar quarters due to lower consumer demand following the fourth quarter holiday season and because of the decline in sales that typically occurs in anticipation of the introduction of new or enhanced CPUs, GPUs, and other computer hardware products, which usually take place in the second calendar quarter, and which tend to drive sales in the following two quarters. Further, our net revenue tends to be higher in the third and fourth calendar quarter due to seasonal sales such as “Black Friday,” “Cyber Monday” and “Singles Day” in China, as retailers tend to make purchases in advance of these sales, and our sales also tend to be higher in the fourth quarter due to the introduction of new consoles and high-profile games in connection with the holiday season. As a consequence of seasonality, our net revenue for the second calendar quarter is generally the lowest of the year followed by the first calendar quarter. Historical seasonal patterns may not continue in the future and have been impacted, and may be further impacted in the future, by increasing supply constraints, GPU shortages, shifts in customer behavior and the evolving impacts of the COVID-19 pandemic. Impact of Fluctuations in Currency Exchange Rates We are subject to inherent risks attributed to operating in a global economy. Some of our international sales are denominated in foreign currencies and any unfavorable movement in the exchange rate between U.S. dollars and the currencies in which we conduct sales in foreign countries, in particular, our revenue for the three and nine months ended September 30, 2022 were negatively impacted by the strengthening of the U.S. dollar against the Euro and the British Pound. In addition, we generally pay our employees located outside the United States in the local currency, with a significant portion of those payments being made in Taiwan dollars and Euros. Additionally, as a result of our foreign sales and operations, we have other expenses, assets and liabilities that are denominated in foreign currencies, in particular the Chinese Yuan, Euro and British Pound. Impact of Fluctuations in Integrated Circuits Pricing Integrated circuits, or ICs, account for most of the cost of producing our high-performance memory products. IC prices are subject to pricing fluctuations which can affect the average sales prices of memory modules, and thus impact our net revenue, and can have an effect on gross margins. The impact on net revenues can be significant as our high-performance memory products, included within our gaming components and systems segment, represent a significant portion of our net revenue. Impact of Macroeconomic Conditions, COVID-19 Pandemic and Supply Chain Challenges In February 2022, Russia invaded Ukraine resulting in, among other things, broad economic sanctions being imposed on Russia, which has further increased existing global supply chain, logistics, and inflationary challenges. Although our business in Russia and Ukraine was not material to our results, we believe the war has degraded the consumer sentiment in Europe and coupled with the unexpected worldwide inflationary pressures and the negative impacts from the strengthening of the U.S. dollar, has dampened consumer spending, which led to the 20.3% and 29.9% decrease in our net revenue in the three and nine months ended September 30, 2022, respectively, compared to the same periods last year. Due to the COVID-19 pandemic, there has been and will continue to be uncertainty and disruption in the global economy and financial markets. Since early 2020, we have experienced an increase in demand for our gear as more people were under shelter-in-place restrictions, which we believe have limited people’s access to alternative forms of entertainment and social interaction, and thus have increased the demand for home entertainment and connecting with others through content creation. In contrast, as the COVID-19 pandemic subsides, it has resulted in shelter-in-place and other similar restrictions being eased. Such easing of restrictions has resulted in consumers returning to other alternative forms of entertainment and interaction. This in turn has resulted in a decline in demand for our products since the second half of 2021. In addition, we have experienced and may in the future continue to experience supply chain challenges, including longer production and shipping times, and increased shipping and logistics costs, each of which has negatively impacted our gross margins, as well as the need to purchase long-lead time items ahead of demand due to supply constraints. The extent of the impact of macroeconomic conditions, the COVID-19 pandemic, and geopolitical tensions on our business, sales, results of operations, cash flows and financial condition will depend on future developments, which are not within our control and are highly uncertain and cannot be predicted. We will continue to evaluate these risks and uncertainties and further our mitigation plans. During the second fiscal quarter of 2022, as part of our plan to rationalize inventory level to align with our updated revenue outlook for 2022, we increased our inventory impairment and related charges by approximately $22.7 million, as compared to the same period last year. In the third fiscal quarter of 2022, we have seen the excess inventory situation in the distribution channels begin 26 Table of Contents to ease in the U nited S tates . I nventory impairment and related charges , of a routine nature, were recognized in the three months ended September 30, 2022 , and the amount was immaterial . In order to align our expenses with the expected revenue level, we implemented a restructuring plan in 2022 and terminated 94 employees worldwide, resulting in approximately $1.6 million of restructuring costs in the nine months ended September 30, 2022, primarily consisting of severance and benefits. Our restructuring plan has been completed as of September 30, 2022. Components of our Operating Results Net Revenue We generate materially all of our net revenue from the sale of gamer and creator peripherals and gaming components and systems to retailers, including online retailers, gamers and distributors worldwide. Our revenue is recognized net of allowances for returns, discounts, sales incentives and any taxes collected from customers. Cost of Revenue Cost of revenue consists primarily of product costs, including costs of contract manufacturers, inbound freight costs from manufacturers to our distribution hubs as well as inter-hub shipments, cost of materials and overhead, duties and tariffs, warranty replacement cost to process and rework returned items, depreciation of tooling equipment, warehousing costs, excess and obsolete inventory write-downs, and certain allocated costs related to facilities and information technology, or IT, and personnel-related expenses and other operating expenses related to supply chain logistics. Operating Expenses Operating expenses consist of product development and sales, general and administrative expenses. Sales, general and administrative. Sales, general and administrative, or SG&A, expenses represent the largest component of our operating expenses and consist of distribution costs, sales, marketing and other general and administrative costs. Distribution costs include outbound freight and the costs to operate our distribution hubs. Sales and marketing costs relate to the costs to operate our global sales force that works in conjunction with our channel partners, gaming team and event sponsorships, advertising and marketing promotions of our products and services, costs of maintaining our web store and credit card processing fees related to sales on our webstore, personnel-related cost and allocated overhead costs . General and administrative costs consist primarily of personnel-related expenses for our finance, legal, human resources, IT and administrative personnel, as well as the costs of professional services related to these functions and allocated overhead costs. SG&A expenses also includes factoring fees. We expect our total sales, general and administrative expenses to increase in absolute dollars as we continue to actively promote and distribute a higher volume of our products and also due to the anticipated growth of our business and related infrastructure, including increases in legal, accounting, insurance, compliance, investor relations and other consulting costs. Product development . Product development costs are generally expensed as incurred. Product development costs consist primarily of the costs associated with the design and testing of new products and improvements to existing products. These costs relate primarily to compensation of personnel and consultants involved with product design, definition, compatibility testing and qualification , as well as depreciation costs of equipment used, prototype material costs and allocated overhead costs . We expect our product development expenses to increase in absolute dollars as we continue to make significant investments in developing new products and enhancing existing products. Interest Expense Interest expense consists of interest associated with our debt financing arrangements, including our revolving line of credit, amortization of debt issuance costs and debt discounts, loss from debt extinguishment, consisting of the write-off of unamortized debt discount and fees associated with the prepayment of our term loans. Other (Expense) Income, Net Other (expense) income, net consists primarily of our foreign currency exchange gains and losses relating to transactions and remeasurement of asset and liability balances denominated in foreign currencies. We expect our foreign currency gains and losses to continue to fluctuate in the future due to changes in foreign currency exchange rates. 27 Table of Contents Income Tax Expense We are subject to income taxes in the United States and foreign jurisdictions in which we do business. These foreign jurisdictions have statutory tax rates different from those in the United States. Accordingly, our effective tax rates will vary depending on the relative proportion of foreign to United States income, the utilization of foreign tax credits and changes in tax laws. Deferred tax assets are reduced through the establishment of a valuation allowance, if, based upon available evidence, it is determined that it is more likely than not that the deferred tax assets will not be realized. Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the tax and financial reporting bases of our assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in future years in which those temporary differences are expected to be recovered or settled. Net Income Attributable to Noncontrolling Interests Net income attributable to noncontrolling interests represents the share of the net income of iDisplay attributable to the 49% ownership interest of iDisplay not acquired by Corsair. Results of Operations The following tables set forth the components of our condensed consolidated statements of operations, in dollars (thousands) and as a percentage of total net revenue, for each of the periods presented. Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Net revenue $ 311,769 $ 391,121 $ 976,368 $ 1,393,438 Cost of revenue 240,209 289,759 777,593 1,001,397 Gross profit 71,560 101,362 198,775 392,041 Operating expenses: Sales, general and administrative 66,932 76,112 216,456 234,134 Product development 15,616 14,495 50,752 45,150 Total operating expenses 82,548 90,607 267,208 279,284 Operating income (loss) (10,988 ) 10,755 (68,433 ) 112,757 Other (expense) income: Interest expense (2,734 ) (7,202 ) (5,689 ) (16,656 ) Other income (expense), net 1,662 (1,402 ) 1,796 (4,002 ) Total other expense, net (1,072 ) (8,604 ) (3,893 ) (20,658 ) Income (loss) before income taxes (12,060 ) 2,151 (72,326 ) 92,099 Income tax benefit (expense) 6,115 (374 ) 11,262 (15,854 ) Net income (loss) (5,945 ) 1,777 (61,064 ) 76,245 Less: Net income attributable to noncontrolling interests 266 — 33 — Net income (loss) attributable to Corsair Gaming, Inc. $ (6,211 ) $ 1,777 $ (61,097 ) $ 76,245 28 Table of Contents Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Net revenue 100.0 % 100.0 % 100.0 % 100.0 % Cost of revenue 77.0 74.1 79.6 71.9 Gross profit 23.0 25.9 20.4 28.1 Operating expenses: Sales, general and administrative 21.5 19.5 22.2 16.8 Product development 5.0 3.7 5.2 3.2 Total operating expenses 26.5 23.2 27.4 20.0 Operating income (loss) (3.5 ) 2.7 (7.0 ) 8.1 Other (expense) income: Interest expense (0.9 ) (1.8 ) (0.6 ) (1.2 ) Other income (expense), net 0.5 (0.4 ) 0.2 (0.3 ) Total other expense, net (0.4 ) (2.2 ) (0.4 ) (1.5 ) Income (loss) before income taxes (3.9 ) 0.5 (7.4 ) 6.6 Income tax benefit (expense) 2.0 (0.1 ) 1.2 (1.1 ) Net income (loss) (1.9 ) 0.4 (6.2 ) 5.5 Less: Net income attributable to noncontrolling interests 0.1 — 0.0 — Net income (loss) attributable to Corsair Gaming, Inc. (2.0 )% 0.4 % (6.2 )% 5.5 % Components of Results of Operations Net Revenue Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In thousands) Net revenue $ 311,769 $ 391,121 $ 976,368 $ 1,393,438 Net revenue decreased $79.4 million, or 20.3%, for the three months ended September 30, 2022, as compared to the same period last year. The decrease was due to a 30.5% decrease in sales for our gamer and creator peripherals segment and a 14.7% decrease in sales for our gaming components and systems segment . Net revenue decreased $417.1 million, or 29.9%, for the nine months ended September 30, 2022, as compared to the same period last year. The decrease was due to a 32.0% decrease in sales for our gamer and creator peripherals segment and a 28.9% decrease in sales for our gaming components and systems segment . We believe the decrease in net revenue in both segments for the three- and nine-month periods was primarily due to consumer consumption in Europe being negatively impacted by the Russia-Ukraine war, coupled with lower consumer discretionary spending due to higher-than-expected inflationary pressures, as well as currency pressure from the strengthening of the U.S. dollar against the Euro and British Pound, causing some of our products to become more expensive in Europe. The decrease in our Europe and Middle East Region net revenue accounted for approximately 71.3% and 66.3% of the decline in our total net revenue in the three and nine months ended September 30, 2022, respectively. The decrease in our net revenue for the nine months ended September 30, 2022 was also in part due to a slow-down in demand compared to the same period last year as a result of more entertainment options becoming available due to the easing of the COVID-19 shelter-in-place restrictions, starting in the second half of 2021. 29 Table of Contents Gross Profit and Gross Margin (defined as gross profit as a percentage of revenue) Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In thousands) Gross profit $ 71,560 $ 101,362 $ 198,775 $ 392,041 Gross margin 23.0 % 25.9 % 20.4 % 28.1 % Gross margin decreased by 2.9% for the three months ended September 30, 2022, as compared to the same period last year. This decrease was primarily attributable to an unfavorable shift towards higher mix of net revenue from our lower margin gaming components and systems segment, increased promotional activity and logistics costs, as well as increased amortization of intangible assets from our iDisplay acquisition. Gross margin decreased by 7.7% for the nine months ended September 30, 2022, as compared to the same period last year. This decrease was primarily attributable to an increase in inventory impairment and related charges in 2022 due to the inventory rationalization plan to align our inventory balance with our updated revenue outlook for 2022. The gross margin in the nine months ended September 30, 2022, as compared to the same period last year was also negatively impacted by increased promotional activity and logistics costs, as well as increased amortization of intangible assets from the iDisplay acquisition. In addition, the decrease in gross margins for the three and nine months ended September 30, 2022, was partially offset by lower freight costs as the elevated freight rate caused by the pandemic has normalized to close to pre-pandemic level, beginning in the third fiscal quarter of 2022. Sales, General and Administrative (SG&A) Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In thousands) Sales, general and administrative $ 66,932 $ 76,112 $ 216,456 $ 234,134 SG&A expenses decreased $9.2 million, or 12.1%, for the three months ended September 30, 2022, as compared to the same period last year. The decrease was primarily due to a $4.0 million decrease in distribution cost including outbound freight cost due to decreased sales volume, a $3.4 million decrease in marketing and advertising expenses, and a $0.8 million decrease in personnel-related costs. SG&A expenses decreased $17.7 million, or 7.6%, for the nine months ended September 30, 2022, as compared to the same period last year. The decrease was primarily due to a $9.2 million decrease in distribution cost including outbound freight cost with lower shipment volume, a $5.5 million decrease in personnel-related costs with lower bonus expense, a $3.4 million decrease in marketing and advertising expenses and a $1.8 million decrease in legal and other professional fees. These decreases were offset partially by a $3.5 million charge related to the acceleration of the amortization of capitalized cloud computing implementation costs in the nine months ended September 30, 2022. Product Development Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In thousands) Product development $ 15,616 $ 14,495 $ 50,752 $ 45,150 Product development expenses increased $1.1 million, or 7.7%, for the three months ended September 30, 2022, as compared to the same period last year. The increase was primarily due to a $0.9 million increase in amortization of intangible assets acquired in the iDisplay acquisition . Product development expenses increased $5.6 million, or 12.4%, for the nine months ended September 30, 2022, as compared to the same period last year. The increase was primarily due to a $2.9 million increase in amortization of intangible assets acquired in the iDisplay acquisition and a $2.6 million increase in allocation of corporate IT-related and facility-related costs. 30 Table of Contents Interest Expense and Other ( Expense ) Income , Net Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In thousands) Interest expense $ (2,734 ) $ (7,202 ) $ (5,689 ) $ (16,656 ) Other (expense) income, net 1,662 (1,402 ) 1,796 (4,002 ) Interest expense decreased $4.5 million, or 62.0%, for the three months ended September 30, 2022, as compared to the same period last year. Interest expenses decreased $11.0 million, or 65.8%, for the nine months ended September 30, 2022, as compared to the same period last year. The decrease in interest expense in both the three- and nine-month periods was primarily due to a lower principal balance on our Term Loan executed in September 2021 which replaced our First Lien Term Loan and lower interest rate compared to the same periods last year. Other (expense) income, net is primarily comprised of foreign exchange gains and losses on cash, accounts receivable and intercompany balances denominated in currencies other than the functional currencies of our subsidiaries . Our foreign currency exposure is primarily driven by fluctuations in the foreign currency exchanges rates of the Euro, British Pound and the Chinese Yuan. Income Tax Benefit (Expense) Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In thousands) Income (loss) before income taxes $ (12,060 ) $ 2,151 $ (72,326 ) $ 92,099 Income tax benefit (expense) 6,115 (374 ) 11,262 (15,854 ) Effective tax rate 50.7 % 17.4 % 15.6 % 17.2 % We are subject to income taxes in the United States and foreign jurisdictions in which we do business. These foreign jurisdictions have statutory tax rates different from those in the United States. Accordingly, our effective tax rates will vary depending on the relative proportion of foreign to United States income, the utilization of net operating loss and tax credit carry forwards, changes in geographic mix of income and expense, and changes in management’s assessment of matters such as the ability to realize deferred tax assets, and changes in tax laws. Our effective tax rates were 50.7% and 17.4% for the three months ended September 30, 2022, and 2021, respectively. The increase in effective tax rates was primarily due to the change in the forecast and the mix of losses between various jurisdictions. Our effective tax rates were 15.6% and 17.2% for the nine months ended September 30, 2022, and 2021, respectively. The decrease in effective tax rates was primarily due to an increase in losses in our foreign subsidiaries which was partially offset by a decrease in excess tax benefits from stock-based compensation recognized in the nine months ended September 30, 2022, as compared to the same period last year. In addition, in the nine months ended September 30, 2021, we recorded a $1.4 million one-time tax expense related to the remeasurement of our United Kingdom deferred tax liabilities as a result of the enactment of the increased corporate tax rate in the United Kingdom. 31 Table of Contents Segment Results Segment Net Revenue The following table sets forth our net revenue by segment expressed both in dollars (thousands) and as a percentage of net revenue: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Gamer and Creator Peripherals Segment $ 96,848 31.1% $ 139,260 35.6% $ 319,985 32.8% $ 470,329 33.8% Gaming Components and Systems Segment Memory Products 115,194 36.9 115,524 29.5 346,468 35.5 436,123 31.3 Other Component Products 99,727 32.0 136,337 34.9 309,915 31.7 486,986 34.9 214,921 68.9 251,861 64.4 656,383 67.2 923,109 66.2 Total Net Revenue $ 311,769 100.0% $ 391,121 100.0% $ 976,368 100.0% $ 1,393,438 100.0% Gamer and Creator Peripherals Segment Net revenue of the gamer and creator peripherals segment decreased $42.4 million, or 30.5%, for the three months ended September 30, 2022 as compared to the same period last year, primarily due to the decline in consumer demand in Europe due to the war between Russia and Ukraine, inflationary economic pressures and currency pressure from the strengthening of the U.S. dollar against the Euro and British Pound, causing some of our products to be more expensive in Europe. Net revenue of the gamer and creator peripherals segment decreased $150.3 million, or 32.0%, for the nine months ended September 30, 2022 as compared to the same period last year, primarily due to the decline in consumer demand in Europe due to the war between Russia and Ukraine, inflationary economic pressures and currency pressure from the strengthening of the U.S. dollar against the Euro and British Pound, causing some of our products to be more expensive in Europe. The decrease in net revenue in the nine months ended September 30, 2022 was also partly due to the easing of the COVID-19 shelter-in-place restriction because more entertainment options becoming available, starting in the second half of 2021. Gaming Components and Systems Segment Net revenue of the gaming components and systems segment decreased $36.9 million, or 14.7%, for the three months ended September 30, 2022 as compared to the same period last year, primarily attributable to our other components products, which was more affected by the decline in consumer demand in Europe due to the war between Russia and Ukraine and the inflationary economic pressures. Net revenue of the gaming components and systems segment decreased $266.7 million, or 28.9%, for the nine months ended September 30, 2022 as compared to the same period last year, primarily driven by the decline in consumer demand in Europe due to the war between Russia and Ukraine and inflationary economic pressures. In addition, the decrease in net revenue for the nine months ended September 30, 2022 was also attributable to the shortage of reasonably priced GPUs which curtailed the demand for new PC builds and its components, as well as supply and logistics constraints caused by the COVID-19 pandemic. The availability of reasonably priced GPUs began to normalize in the three months ended September 30, 2022 and together with the new technology platforms launched by Nvidia, AMD and Intel during such period, we expect to see some positive impact in the customer demand for our component products beginning in the fourth quarter of 2022. Segment Gross Profit and Gross Margin The following table sets forth our gross profit expressed in dollars (thousands) and gross margin by segment: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Gamer and Creator Peripherals Segment $ 31,790 32.8% $ 48,580 34.9% $ 85,405 26.7% $ 172,080 36.6% Gaming Components and Systems Segment Memory Products 16,595 14.4 15,935 13.8 46,545 13.4 77,984 17.9 Other Component Products 23,175 23.2 36,847 27.0 66,825 21.6 141,977 29.2 39,770 18.5 52,782 21.0 113,370 17.3 219,961 23.8 Total Gross Profit $ 71,560 23.0% $ 101,362 25.9% $ 198,775 20.4% $ 392,041 28.1% 32 Table of Contents Gamer and Creator Peripherals Segment The gross margin of the gamer and creator peripherals segment decreased in the three months ended September 30, 2022 by 2.1% as compared to the same period last year, primarily due to increased promotional activity and logistics costs, as well as increased amortization of intangible assets from the iDisplay acquisition. The gross margin of the gamer and creator peripherals segment decreased in the nine months ended September 30, 2022 by 9.9% as compared to the same period last year, primarily attributable to an increase in inventory impairment and related charges in 2022 due to the inventory rationalization plan to align our inventory balance with our updated revenue outlook for 2022, as well as increased logistics costs and promotional activity, and increased amortization of intangible assets from the iDisplay acquisition. In addition, the decrease in gross margins of the gamer and creator peripherals segment for the three and nine months ended September 30, 2022, was partially offset by lower freight costs as the elevated freight rate caused by the pandemic has normalized to close to pre-pandemic level, beginning in the third fiscal quarter of 2022. Gaming Components and Systems Segment The gross margin of the gaming components and systems segment decreased in the three months ended September 30, 2022 by 2.5% as compared to the same period last year, primarily attributable to a change in sales mix toward more lower margin products in this segment as well as increased promotional activity. The gross margin of the gaming components and systems segment decreased in the nine months ended September 30, 2022 by 6.5% as compared to the same period last year, primarily attributable to an increase in inventory impairment and related charges in 2022 due to the inventory rationalization plan to align our inventory balance with our updated revenue outlook for 2022, as well as increased logistics costs and promotional activity. In addition, the decrease in gross margins of the gaming components and systems segment for the three and nine months ended September 30, 2022, was partially offset by lower freight costs as the elevated freight rate caused by the pandemic has normalized to close to pre-pandemic level, beginning in the third fiscal quarter of 2022. Liquidity and Capital Resources Our principal sources of liquidity have been the payments received from customers purchasing our products and the borrowings under our Credit Agreement (defined below). On September 29, 2022, one of our subsidiaries entered into an accounts receivable Factoring Agreement with a Factor, a third-party financial institution. Pursuant to the terms of the arrangement, we sell certain of our customer receivables on a non-recourse basis to the Factor. Our obligations to the Factor arising from the Factoring Agreement are secured by certain assets of our subsidiary. The cost of factoring is not expected to have a material effect to our overall liquidity, financial condition or results of operations. Our principal uses of cash generally will include purchases of inventory, payroll and other operating expenses related to the development and marketing of our products, capital expenditure, repayments of debt and related interest, income tax payments, continued investments in businesses and technology, and selective mergers and acquisitions . As of September 30, 2022, we had cash and restricted cash, in aggregate of $61.7 million, including $19.7 million held by our foreign subsidiaries . Amounts held outside of the United States are generally utilized to support our non-U.S. liquidity needs. Repatriations of amounts held outside the United States generally will not be taxable from a U.S. federal tax perspective but may be subject to state income or foreign withholding tax. We do not expect restrictions or potential taxes incurred on repatriation of amounts held outside of the United States to have a material effect on our overall liquidity, financial condition or results of operations. We believe that the anticipated cash flows from operations based on our current business outlook, combined with our current levels of cash balances at September 30, 2022, supplemented with the borrowings under our Revolving Credit Facility will be sufficient to fund our principal uses of cash for at least the next twelve months. In the longer term, liquidity will depend to a great extent on our future revenues and our ability to appropriately manage our costs based on the demand for our products. We may require additional funding and need or choose to raise the required funds through borrowings or public or private sales of debt or equity securities. The sale of additional equity would result in additional dilution to our stockholders. The incurrence of debt financing would result in debt service obligations and the instruments governing such debt could provide for operating and financial covenants that would restrict our operations. There can be no assurance that any such equity or debt financing will be available on favorable terms, or at all. 33 Table of Contents Liquidity The following table summarizes our cash flows for the periods presented (in thousands): Nine Months Ended September 30, 2022 2021 Net cash provided by (used in): Operating activities $ 45,142 $ 25,061 Investing activities (40,479 ) (14,039 ) Financing activities (3,927 ) (67,183 ) Cash Flows from Operating Activities Net cash provided by operating activities for the nine months ended September 30, 2022 was $45.1 million and consisted of $65.3 million net cash inflow from changes in our net operating assets and liabilities, partially offset by our net loss of $61.1 million, which included non-cash adjustments of $40.9 million. The net cash inflow from changes in our net operating assets and liabilities was primarily related to a decrease in accounts receivable mainly from the cash we received from the Factor during the period and a decrease in inventories mainly from lower purchases. These net cash inflows were partially offset by a decrease in accounts payable due to lower inventory purchases and a decrease in other liabilities and accrued expenses mainly due to lower accrual for sales returns and customer incentives and bonus expense. The non-cash adjustments consisted primarily of amortization and depreciation, stock-based compensation expense and change in net deferred tax liabilities. Net cash provided by operating activities for the nine months ended September 30, 2021 was $25.1 million and consisted of net income of $76.2 million and non-cash adjustments of $48.7 million and was partially offset by $99.8 million from changes in our net operating assets and liabilities. The non-cash adjustments consisted primarily of amortization and depreciation, stock-based compensation expense, loss on debt extinguishment and amortization of debt issuance costs and change in deferred tax assets. The net cash outflow from changes in our net operating assets and liabilities was primarily related to an increase in inventory, prepaid expenses and other assets, and a decrease in accounts payable mainly due to timing of payments. The net cash outflow was partially offset by a decrease in accounts receivable and an increase in other liabilities and accrued expenses . Cash Flows from Investing Activities Cash used in investing activities was $40.5 million for the nine months ended September 30, 2022 and primarily consisted of $19.5 million for the iDisplay acquisition (net of cash acquired), $19.9 million capital expenditure including renovation and furnishing of our new headquarters in Milpitas, California, as well as purchases of equipment and software, and $1.0 million for the investment in an available-for-sale convertible note. Cash used in investing activities was $14.0 million for the nine months ended September 30, 2021 and consisted of $7.7 million for the purchase of capital equipment and software, $4.7 million for the payment of deferred and contingent consideration primarily related to the Origin business acquisition, and $1.7 million for the acquisition of an immaterial business . Cash Flows from Financing Activities Cash used in financing activities was $3.9 million for the nine months ended September 30, 2022 and consisted primarily of $4.0 million repayment of debt and debt issuance costs, $2.2 million payment of dividends to noncontrolling interests, $1.4 million payment of taxes related to net share settlement of equity awards, partially offset by $4.1 million proceeds received from the issuance of shares through the employee equity incentive plans. During the nine months ended September 30, 2022, we also borrowed $626.0 million from our revolving credit facility to fund our operations and the full amount was repaid within the same period. Cash used in financing activities was $67.2 million for the nine months ended September 30, 2021 a nd consisted primarily of $327.0 million repayments of debt (First Lien Term Loan) and $0.2 million payment of taxes related to net share settlement of equity awards. These cash outflows were partially offset by $248.5 million net proceeds from our new Term Loan executed in September 2021 and $11.5 million proceeds received from the issuance of shares through the employee equity incentive plans. Capital Resources Credit Agreement (Term Loan and Revolving Credit Facility) 34 Table of Contents On September 3, 2021, we refinanced the First Lien Credit and Guaranty Agreement with a new Credit Agreement (“Credit Agreement”). The new Credit Agreement provides for a total commitment of $350 million, consisting of a $100 million revolving credit facility (“Revolving Credit Facility”) and a $250 million term loan facility (“Term Loan”). The net proceeds from borrowings under the Term Loan of $248.5 million (net of $1.5 million of debt discount) were used to repay all amounts outstanding under the First Lien Term Loan on September 3, 2021 . The Credit Agreement is available for a period of five years, maturing September 2026, and provides for additional incremental facilities up to a maximum aggregate principal amount of $250.0 million, subject to the satisfaction of certain conditions. We may prepay the Term Loan and the Revolving Facility at any time without premium or penalty. The Term Loan and Revolving Credit Facility under the Credit Agreement initially carried interest at our election at either (a) LIBOR plus a percentage spread (ranging from 1.25% to 2.0%) based on our total net leverage ratio, or (b) the base rate (described in the Credit Agreement as the greatest of (i) the prime rate, (ii) the federal funds rate plus 0.50% and (iii) one-month LIBOR plus 1.0%) plus a percentage spread (ranging from 0.25% to 1.0%) based on our total net leverage ratio. The Credit Agreement contains covenants with which we must comply during the term of the agreement, which we believe are ordinary and standard for agreements of this nature, including the maintenance of a maximum Consolidated Total Net Leverage Ratio of 3.0 to 1.0 and a minimum Consolidated Interest Coverage Ratio of 3.0 to 1.0 (as defined in our Credit Agreement). The Credit Agreement also includes events of default customary for facilities of this nature and upon the occurrence of such events of default, among other things, all outstanding amounts under the Credit Agreement may be accelerated and/or the lenders’ commitments terminated. In addition, upon the occurrence of certain events of default, the interest on the Term loan and Revolving Credit Facility can increase by 2.0%. Our obligations under the Credit Agreement are guaranteed by substantially all of our U.S. subsidiaries and secured by a security interest in substantially all assets of the Company and the guarantor subsidiaries, subject to certain exceptions detailed in the Credit Agreement and related ancillary documentation. On June 30, 2022, we entered into a First Amendment of the Credit Agreement (“ First Amendment ”) which among other changes resulted in the Bloomberg Short-Term Bank Yield Index rate (“ BSBY ”) being utilized as a replacement rate for LIBOR. Consequently, following the First Amendment, the Term Loan and Revolving Facility will each bear interest at our election at either (a) BSBY plus a percentage spread (ranging from 1.25% to 2.25%) based on our total net leverage ratio, or (b) the base rate (as described in the Credit Agreement) as the greatest of (i) the prime rate, (ii) the federal funds rate plus 0.50% and (iii) one-month BSBY plus 1.0%) plus a percentage spread (ranging from 0.25% to 1.25%) based on our total net leverage ratio. In addition, pursuant to the First Amendment, the maximum permitted Consolidated Total Net Leverage Ratio (as defined in the Credit Agreement) was also amended to increase to 3.50 to 1.0 between the quarters ending September 30, 2022 through and including March 31, 2023, and such ratio will revert to 3.00 to 1.00 from the quarter ended June 30, 2023 and each quarter thereafter, provided that, upon the occurrence of a Qualified Acquisition (as defined in the Credit Agreement), such ratio can be increased to 3.50 to 1.0 temporarily provided all the requirements set forth in the Credit Agreement are met. On September 29, 2022, we entered into an accounts receivable Factoring Agreement with a Factor. In connection with the Factoring Agreement, we also entered into (i) a Second Amendment (“Second Amendment” ) to the Credit Agreement to permit the transactions contemplated by the Factoring Agreement and (ii) an Assignment of Factoring Proceeds and Intercreditor Agreement with the Factor and the administrative agent under the Credit Agreement to establish the respective rights of the Factor and the Credit Agreement Agent in and to the related factoring collateral. As of September 30, 2022, we were not in default under the Credit Agreement. Total principal outstanding of the Term Loan was $245.0 million and the available and uncommitted capacity under the Revolving Credit Facility was $100 million . 35 Table of Contents Contractual Obligations and Other Commitments The following table summarizes our contractual cash and other obligations as of September 30, 2022 (in thousands): Payments Due by Period Total Less than 1 Year 1-3 Years 3-5 Years More than 5 Years Debt principal and interest payments (1) $ 292,965 $ 19,069 $ 49,446 $ 224,450 $ — Inventory-related purchase obligations (2) 68,402 67,442 960 — — Operating lease obligations (3) 65,281 10,775 17,745 11,801 24,960 Other purchase obligations (4) 21,179 17,978 3,201 — — Contingent consideration in connection with a business acquisition 954 954 — — — Total $ 448,781 $ 116,218 $ 71,352 $ 236,251 $ 24,960 (1) Amounts represent the principal cash payments as of September 30, 2022 of our Term Loan based on the repayment schedule according to the Credit Agreement and the expected interest payments associated with the Term Loan. See Note 8, “Debt” to our condensed consolidated financial statements for more information . (2) Amounts represent an estimate of purchase obligations related to inventory . (3) Amounts represent contractual obligations from our operating leases for offices and warehouse spaces . (4) Amounts represent non-cancelable obligations related to capital expenditures, software licenses, marketing and other activities. As of September 30, 2022, we had $2.6 million in non-current income tax payable, including interest and penalties, related to our income tax liability for uncertain tax positions. At this time, we are unable to make a reasonably reliable estimate of the timing of payments in individual years in connection with these tax liabilities; therefore, such amounts are not included in the contractual cash obligation table above. Critical Accounting Polices and Estimates A critical accounting policy is defined as one that has both a material impact on our financial condition and results of operations and requires us to make difficult, complex and/or subjective judgments, often as a result of the need to make estimates about matters that are inherently uncertain. Our consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”), which requires us to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities at the date of the condensed consolidated financial statements, as well as the reported amounts of revenue and expenses during the reporting periods . Our estimates are based on our historical experience and on various other factors that we believe to be applicable and we evaluate them on an ongoing basis to ensure they remain reasonable under current conditions. Actual results may differ significantly from those estimates, which could have a material impact on our business, results of operations, and financial condition . Other than the new items discussed in Note 2 of our condensed consolidated financial statements, there have been no material changes to our critical accounting policies and estimates during the nine months ended September 30, 2022 as compared to the critical accounting policies and estimates described in our Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2021 filed with the SEC on March 1, 2022. Recent Accounting Pronouncements Refer to Note 2 to the condensed consolidated financial statements included in this Quarterly Report on Form 10-Q for recent accounting pronouncements adopted and to be adopted. 36 Table of Contents