DATA I/O CORP 10-Q

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations General FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. This Act provides a “safe harbor” for forward-looking statements to encourage companies to provide prospective information about themselves as long as they identify these statements as forward-looking and provide meaningful cautionary statements identifying important factors that could cause actual results to differ from the projected results. All statements other than statements of historical fact made in this Quarterly Report on Form 10-Q are forward-looking. In particular, statements herein regarding industry prospects and trends; expected business recovery; industry partnerships; future results of operations or financial position; future spending; expected expenses, breakeven revenue point; cybersecurity risk management and costs; expected market decline, bottom or growth; the development of the Edge AI market; market acceptance of our newly introduced or upgraded products or services; the sufficiency of our cash to fund future operations and capital requirements; development, introduction and shipment of new products or services; changing foreign operations; strategic transformation progress and timeline; ERP implementation timeline; potential acquisitions; and the 2026 organic growth framework; taxes, trade issues and tariffs; expected inventory levels; expectations for unsupported platform or product versions and related inventory and other charges; Russian invasion of Ukraine impacts; Israel – Hamas war impacts; supply chain expectations; semiconductor chip shortages and recovery; and any other guidance on future periods are forward-looking statements. Forward-looking statements reflect management’s current expectations and are inherently uncertain. Although we believe that the expectations reflected in these forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, achievements, or other future events. Moreover, neither Data I/O nor anyone else assumes responsibility for the accuracy and completeness of these forward-looking statements. We are under no duty to update any of these forward-looking statements after the date of this Quarterly Report. The reader should not place undue reliance on these forward-looking statements. The following discussions and the 2025 Annual Report on Form 10-K section entitled “Risk Factors – Cautionary Factors That May Affect Future Results” describe some, but not all, of the factors that could cause these differences. OVERVIEW Data I/O continued to evolve its business through the first quarter of 2026, despite a challenging global economic environment. Slower uptake of new initiatives through the early part of the quarter negatively impacted revenue growth, but momentum began to build towards quarter-end. Meanwhile, management took steps to realign costs, leveraging operating efficiencies and internal AI deployments and select, targeted spending cuts to reduce costs. Our customers’ end markets have seen some weakening of demand which has affected sell-through of microcontrollers, security ICs and memory devices, which we believe has been partially offset by customers’ increased utilization of their existing systems. The net effect has been some greater need for engineering and maintenance services but also some lumpiness in demand for consumable adapters. Overall demand for capital equipment continued to be negatively impacted by global trade and tariff negotiations throughout most of the first quarter. However, the Company’s ongoing supply chain planning and other actions have helped mitigate the impact of new tariffs, trade and inflationary pressures, including shifting material sourcing and product manufacturing. We continue to focus on expanding our pipeline of opportunities beyond the automotive sector including a revitalization of our activities with semiconductor companies. Combined with continued efforts to expand our market reach, we expect to deliver revenue growth through end market diversification and an enhanced consultative sales process. In the quarter, we announced an important strategic relationship with IAR in the security space that we believe will expand the reach, applicability and addressable market for both companies. Significant operational and product progress has been made in a short period of time against a backdrop of significant economic and cross-border trade uncertainty. We remain cautious given the near-term headwinds, but are increasingly encouraged by later-quarter activity levels. We remain focused on setting the business up for sustainable growth by driving innovation, enhancing our products and improving our value proposition. 16 Table of Contents At the same time, we are focused on increasing our efficiency in delivering our products and services, and to that end we have sought to streamline and better align our operations. Notably, in the first quarter of 2026, we made some strategic realignments around our Germany office which we expect to yield material cost savings and efficiencies. Employee-related costs related to the Germany realignment and expensed in the first quarter amounted to approximately over $1 million, primarily for legal work and employee severance. We expect to continue to review our operations in Germany as well as the U.S. and China operations with an eye to improving operational efficiency worldwide. CRITICAL ACCOUNTING POLICY JUDGMENTS AND ESTIMATES The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires that we make estimates and judgments, which affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to revenue recognition, sales returns, credit losses, inventories, income taxes, warranty obligations, restructuring charges, contingencies such as litigation and contract terms that have multiple elements and other complexities typical in the capital equipment industry. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. There have been no changes to our critical accounting policies and estimates as compared to the critical accounting policies and estimates discussed in the Annual Report on Form 10-K for the year ended December 31, 2025, which was filed with the SEC on April 16, 2026, as described in Note 1. Description of Business and Summary of Significant Accounting Policies to the condensed consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q. RESULTS OF OPERATIONS: NET SALES Three Months Ended Net sales by location March 31, 2026 Change March 31, 2025 (in thousands) United States $ 1,755 132.1 % $ 756 % of total 54.0 % 12.2 % International $ 1,495 (72.4 )% $ 5,420 % of total 46.0 % 87.8 % Three Months Ended Net sales by type March 31, 2026 Change March 31, 2025 (as Revised) (in thousands) Platform sales $ 625 (79.5 )% $ 3,054 Adapter sales 1,520 (21.8 )% 1,943 Software and Services Sales* 1,105 (6.3 )% 1,179 Total $ 3,250 (47.4 )% $ 6,176 * includes service and parts sales associated with equipment service contracts The Company identified an error in the prior‑year disaggregated revenue amounts of net sales by type. As such, the Company has revised the net sales by type for the quarter ended March 31, 2025. This correction affected only the disaggregation of net sales among Platform, Adapter, and Software and Services sales and did not impact the Company’s previously reported consolidated balance sheets, statements of operations, comprehensive income (loss), or statements of cash flows. While the total revenue was not affected, the Company has revised the presentation of net sales by type for the quarter ended March 31, 2025 to enhance comparability. Net sales in the first quarter of 2026 were $3.3 million, compared with $6.2 million in the prior year period. Overall demand for capital equipment continued to be negatively impacted by ongoing global trade and tariff negotiations throughout most of the first quarter of 2026. Net sales of consumable adapters and services revenue represented 81% of total revenue and provide a stable base of recurring revenue. Total platform sales in the first quarter of 2026 were 19% of revenues, adapter sales were 47% and software and services sales revenues were 34% of revenues compared with 49% and 32% and 19% respectively in the first quarter of 2025. On a geographic basis, international sales represented approximately 46% of total net sales for the first quarter of 2026 compared with 88% in the prior year period. 17 Table of Contents Bookings increased in the latter half of the first quarter as customers had been delaying purchase decisions amid ongoing global trade and tariff concerns and as sales processes disrupted by the ransomware incident resumed. First quarter 2026 bookings were $4.2 million, up from $3.1 million in the fourth quarter 2025 and down from $4.6 million in the first quarter 2025. Backlog at March 31, 2026, was $2.6 million, up from $1.6 million at the end of the prior quarter. Deferred revenue was $1.5 million on March 31, 2026, and $1.5 million on December 31, 2025. GROSS MARGIN Three Months Ended March 31, 2026 Change March 31, 2025 (in thousands) Gross margin $ 1,609 (49.5 )% $ 3,188 Percentage of net sales 49.5 % 51.6 % Gross margin as a percentage of sales in the first quarter of 2026 was 49.5% as compared to 51.6% in the same period last year. Overall gross margins recovered sequentially as direct material costs remained steady and consistent with prior periods. Margins declined year-over-year as overheads and other fixed costs were spread over a smaller revenue base. Ongoing supply chain planning and other actions have been mitigating the impact of new tariffs, trade and inflationary pressures, including shifting material sourcing and product manufacturing. RESEARCH AND DEVELOPMENT Three Months Ended March 31, 2026 Change March 31, 2025 (in thousands) Research and development $ 1,291 (14.8 )% $ 1,515 Percentage of net sales 39.7 % 24.5 % Research and development (“R&D”) expenses decreased in the first quarter of 2026 as compared to the same period in 2025. The decrease is due primarily to a reduction in expenses related to headcount and outside services for projects completed in 2025. SELLING, GENERAL AND ADMINISTRATIVE Three Months Ended March 31, 2026 Change March 31, 2025 (in thousands) Selling, general & administrative $ 3,462 68.9 % $ 2,050 Percentage of net sales 106.5 % 33.2 % Selling, General and Administrative (“SG&A”) expenses were higher in the first quarter of 2026 as compared to the same period in 2025. The year-over-year increase in SG&A expense was largely driven by a number of one-time expenses, most notably reorganization expenses related to the strategic reconfiguration of the Company’s Munich operations. Continued efficiency improvements and cost reduction efforts remain a focus. 18 Table of Contents SHARE-BASED COMPENSATION Three Months Ended March 31, 2026 Change March 31, 2025 (in thousands) Share-based compensation $ 77 (55.7 )% $ 174 First quarter 2026 share-based compensation of $77,000 was $97,000 lower compared to the prior year period due to staff reductions and retirements since the fourth quarter of 2024. INTEREST Three Months Ended March 31, 2026 Change March 31, 2025 (in thousands) Interest income $ 15 (60.5 )% $ 38 Interest income was lower in the first quarter of 2026 compared to the same period in 2025 due to lower invested balances. INCOME TAXES Three Months Ended March 31, 2026 Change March 31, 2025 (in thousands) Income tax benefit (expense) $ - (100 )% $ (21 ) Income tax expense for the first quarter of both 2026 and 2025, primarily related to foreign and minor state taxes. Income tax provision of $0 and $21,000 were recognized for the three months ended March 31, 2026 and 2025, respectively, and the effective tax rates for these periods were 0% and 5.82%, respectively. The difference between our effective tax rates for the three months ended March 31, 2026 and 2025, and the U.S. statutory rate of 21% was primarily attributable to the impact of a full valuation allowance on our net deferred tax assets, as well as foreign taxes. Our consolidated effective tax rate decreased for the three months ended March 31, 2026, compared to the same period in the prior year primarily due to operational results in the first quarter of 2026. Financial Condition LIQUIDITY AND CAPITAL RESOURCES March 31, 2026 Change December 31, 2025 (in thousands) Working capital $ 9,297 $ (2,973 ) $ 12,270 Working capital decreased by $3.0 million during 2026, primarily due to the revenue decline and resulting operating loss. Our current ratio was 2.6 and 3.5 for March 31, 2026 and December 31, 2025, respectively. At March 31, 2026, our principal sources of liquidity consisted of existing cash and cash equivalents. Cash at $5.7 million decreased $2.2 million from December 31, 2025, primarily due to one-time expenses and investments in the first quarter, partially offset by an otherwise improved cost structure, lower inventory levels, and currency effects on overseas cash balances. Correspondingly, working capital of approximately $9.3 million on March 31, 2026, was down $3.0 million as compared to December 31, 2025. The Company continues to have no debt. 19 Table of Contents Although we have no significant capital expenditure plans currently, we expect to continue to carefully make and manage expenditures to support the business. Engineering and production tooling, test equipment and sales demonstration products will continue to be purchased as we develop and release new products. Capital expenditures are expected to be funded by existing and internally generated funds. As a result of our cyclical and seasonal industry, significant product development, customer support and selling and marketing efforts, we have required working capital to fund our operations. We have tried to balance our spending with our anticipated revenue levels and the goal of profitable operations. We have implemented or have on-going initiatives to reduce material and logistic costs, enhance product quality, increase operational and R&D efficiencies and minimize tax expenses. We believe that we have sufficient cash or working capital available under our operating plan to fund our operations and capital requirements through the next one-year period, and beyond. Our working capital may be used to fund possible losses, business growth, project initiatives, share repurchases and business development initiatives, including acquisitions, which could reduce our liquidity and result in a requirement for additional cash before that time. If the Company determines to pursue significant acquisitions or business development initiatives, the Company may need to raise additional capital. If additional capital is required, the Company will review the amounts and options to raise capital at that time, but future financing would most likely be through debt and equity offerings. Any substantial inability to achieve our current business plan could have a material adverse impact on our financial position, liquidity, or results of operations and may require us to further reduce expenditure and/or seek possible additional financing. OFF-BALANCE SHEET ARRANGEMENTS Except as noted in the accompanying consolidated financial statements in Note 5, “Operating Lease Commitments” and Note 6, “Other Commitments”, we have no off-balance sheet arrangements. NON-GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP) FINANCIAL MEASURES Earnings Before Interest, Taxes, Depreciation and Amortization (“EBITDA”) was ($3,070,000) in the first quarter of 2026 compared to ($272,000) in the first quarter of 2025. Adjusted EBITDA, excluding share-based compensation (a non-cash item), was ($2,993,000) in the first quarter of 2026, compared to ($98,000) in the first quarter of 2025. Non-GAAP financial measures, such as EBITDA and adjusted EBITDA, should not be considered a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP. We believe that these non-GAAP financial measures provide meaningful supplemental information regarding the Company’s results and facilitate the comparison of results. A reconciliation of net income to EBITDA and adjusted EBITDA follows: NON-GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP) FINANCIAL MEASURE RECONCILIATION Three Months Ended March 31, 2026 2025 (in thousands) Net Income (loss) $ (3,170 ) $ (382 ) Interest (income) (15 ) (38 ) Taxes 0 21 Depreciation & amortization 115 127 EBITDA earnings (loss) (3,070 ) (272 ) Equity compensation 77 174 Adjusted EBITDA, excluding equity compensation $ (2,993 ) $ (98 ) 20 Table of Contents Item 3 . Quantitative and Qualitative Disclosures About Market Risk Not applicable.