DIGI INTERNATIONAL INC 10-K

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (CONTINUED) DIGI INTERNATIONAL INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY For fiscal years ended September 30, 2022, 2021 and 2020 (in thousands) Accumulated Additional Other Total Common Stock Treasury Stock Paid-In Retained Comprehensive Stockholders’ Shares Par Value Shares Value Capital Earnings (Loss) Income Equity Balance on September 30, 2020 35,513 $ 355 6,353 $ ( 55,109 ) $ 279,741 $ 170,330 $ ( 23,817 ) $ 371,500 Net income — — — — — 10,366 — 10,366 Other comprehensive income — — — — — — 1,071 1,071 Issuance of common stock, net of transaction expenses 4,025 40 — — 73,790 — — 73,830 Other — — — — — ( 4 ) — ( 4 ) Employee stock purchase issuances — — ( 79 ) 694 520 — — 1,214 Taxes paid for net share settlement of share-based payment awards — — 117 ( 2,120 ) — — — ( 2,120 ) Issuance of stock under stock award plans 1,115 12 — — 8,513 — — 8,525 Stock-based compensation expense — — — — 8,135 — — 8,135 Balance on September 30, 2021 40,653 407 6,391 ( 56,535 ) 370,699 180,692 ( 22,746 ) 472,517 Net income — — — — — 19,383 — 19,383 Other comprehensive loss — — — — — — ( 3,308 ) ( 3,308 ) Employee stock purchase issuances — — ( 80 ) 726 774 — — 1,500 Taxes paid for net share settlement of share-based payment awards — — 102 ( 2,363 ) ( 4,299 ) — — ( 6,662 ) Issuance of stock under stock award plans 1,297 13 — — 9,492 — — 9,505 Stock-based compensation expense — — — — 8,578 — — 8,578 Balances, September 30, 2022 41,950 420 6,413 ( 58,172 ) 385,244 200,075 ( 26,054 ) 501,513 Net income — — — — — 24,770 — 24,770 Other comprehensive loss — — — — — — ( 957 ) ( 957 ) Employee stock purchase issuances — — ( 83 ) 787 1,476 — — 2,263 Taxes paid for net share settlement of share-based payment awards — — 106 ( 4,121 ) ( 193 ) — — ( 4,314 ) Issuance of stock upon under stock award plans 551 5 — — 3,922 — — 3,927 Stock-based compensation expense — — — — 13,286 — — 13,286 Balances, September 30, 2023 42,501 $ 425 6,436 $ ( 61,506 ) $ 403,735 $ 224,845 $ ( 27,011 ) $ 540,488 The accompanying notes are an integral part of the consolidated financial statements. 41 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business Description We are a leading global provider of business and mission-critical IoT connectivity products, services and solutions. We help our customers create next-generation connected products to deploy, monitor and manage critical communications infrastructures and compliance standards in demanding environments with high levels of security and reliability. We have two reportable segments: (i) IoT Products & Services; and (ii) IoT Solutions. Principles of Consolidation The consolidated financial statements include our accounts and the accounts of our wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. Certain reclassifications have been made to the prior year's consolidated financial statements to conform to the current year presentation. Accounting Estimates The preparation of the consolidated financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts in the consolidated financial statements and accompanying notes. Actual results could differ significantly from those estimates. Cash and Cash Equivalents Cash equivalents consist of money market accounts and other highly liquid investments purchased with an original maturity of three months or less. The carrying amounts approximate fair value due to the short maturities of these investments. We maintain our cash and cash equivalents in bank accounts which may exceed federally insured limits at times. We have not experienced any losses in these accounts. Accounts Receivable Accounts receivable are stated at the amount we expect to collect. This amount is net of an allowance for credit losses for estimated losses resulting from the inability of our customers to make required payments and a reserve for future credit returns and pricing adjustments. The following factors are considered when determining the collectability of specific customer accounts: customer creditworthiness, past transaction history with the customer, and changes in customer payment terms or practices. In addition, overall historical collection experience, current economic industry trends, and a review of the current status of trade accounts receivable are considered when determining the required allowance for credit losses. Based on our assessment, we provide for estimated uncollectible amounts through a charge to earnings and a credit to our allowance for credit losses. Balances that remain outstanding after we have used reasonable collection efforts are written off through a charge to the allowance for credit losses and a credit to accounts receivable. Estimated reserves for future credit returns and pricing adjustments are established based on an analysis of historical patterns of credit returns and price adjustments compared to received credit returns and distribution sales for the current period. Estimated reserves for future credit returns and price adjustments are charged against revenue in the same period as the corresponding sales are recorded. Estimated sales returns for our distributor stock rotation program are accounted for under the guidance of Accounting Standard Codification ("ASC") 845 Nonmonetary Transactions . The following table presents a reconciliation of the allowance for credit losses (in thousands): Year ended September 30, 2023 2022 Balance at beginning of period $ 3,285 $ 3,934 Additions 1,134 1,475 Uncollectible accounts charged to allowance, net of recoveries ( 2,726 ) ( 2,124 ) Balance at end of period $ 1,693 $ 3,285 42 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Inventories Inventories are valued at the lower of cost or net realizable value using the first-in, first-out ("FIFO") method. Appropriate consideration is given to deterioration, obsolescence and other factors in evaluating net realizable value. Property, Equipment and Improvements, Net Property, equipment and improvements are carried at cost, net of accumulated depreciation. Depreciation is provided by charges to operations using the straight-line method over the estimated asset useful lives. Furniture and fixtures, purchased software and other equipment are depreciated over a period of three years to ten years . Building improvements and buildings are depreciated over ten years and 39 years, respectively. Leasehold improvements are depreciated over the shorter of the lease term or the estimated useful life of the asset. Long-lived assets to be held and used, such as property, equipment and improvements, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Expenditures for maintenance and repairs are charged to operations as incurred, while major renewals and betterments are capitalized. The assets and related accumulated depreciation accounts are adjusted for asset retirements and disposals with the resulting gain or loss included in operations. Identifiable Intangible Assets Purchased proven technology, license agreements, covenants not to compete and other identifiable intangible assets are recorded at fair value when acquired in a business acquisition, or at cost when not purchased in a business acquisition. All other identifiable intangible assets are amortized on a straight-line basis over their estimated useful lives of three years to 20.5 years. Useful lives for identifiable intangible assets are estimated at the time of acquisition based on the periods of time from which we expect to derive benefits from the identifiable intangible assets. Amortization of purchased and core technology is included in cost of sales in the Consolidated Statements of Operations. Amortization of all other acquired identifiable intangible assets is charged to operating expenses as a component of general and administrative expense. Identifiable intangible assets are reviewed for impairment whenever events or circumstances indicate that undiscounted expected future cash flows are not sufficient to recover the carrying value amount. Impairment losses, if any, are recorded in the period the impairment is identified. There were no impairments identified in fiscal 2023, 2022 or 2021. Goodwill Goodwill represents the excess of cost over the fair value of identifiable assets acquired. Goodwill is quantitatively tested for impairment on an annual basis as of June 30, or more frequently if events or circumstances occur which could indicate impairment. We have two reportable segments: our IoT Products & Services segment and our IoT Solutions segment (see Note 4 to the consolidated financial statements). Effective with the reorganization announcement on October 7, 2020 (see Note 10 ), our IoT Products & Services business is structured to include four reporting units under the IoT Products & Services segment, each with a reporting manager: Cellular Routers, Console Servers, OEM Solutions and Infrastructure Management. Following our acquisition of Ventus in the first fiscal quarter of 2022, IoT Solutions is comprised of two reporting units: Ventus and SmartSense by Digi. We have six reporting units that have been tested individually for impairment. Due to the reorganization on October 7, 2020 (see Note 10 ), we performed an interim impairment test in addition to our annual test as of June 30, 2021. Our goodwill impairment tests as of June 30, 2023, June 30,2022, June 30, 2021 and October 7, 2020 indicated no impairment (see Note 3 ). During the fourth quarter of fiscal 2023, we assessed various qualitative factors to determine whether or not an additional goodwill impairment assessment was required as of September 30, 2023, and we concluded that no additional impairment assessment was required. Contingent Consideration We measure our contingent consideration liabilities recognized in connection with business combinations at fair value on a recurring basis using significant unobservable inputs classified within Level 3 of the fair value hierarchy as defined in ASC 820 "Fair Value Measurement." We used a probability-weighted discounted cash flow approach as a valuation technique to 43 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) determine the fair value of the contingent consideration on the acquisition date. At each subsequent reporting period, the fair value is re-measured with the change in fair value recognized in general and administrative expense in our Consolidated Statements of Operations. Amounts, if any, paid to the seller in excess of the amount recorded on the acquisition date will be classified as cash flows used in operating activities. Payments to the seller not exceeding the acquisition-date fair value of the contingent consideration will be classified as cash flows used in financing activities. Warranties In general, we warrant our hardware products to be free from defects in material and workmanship under normal use and service. The warranty periods generally range from one year to five years . We typically have the option to either repair or replace hardware products we deem defective with regard to material or workmanship. Estimated warranty costs are accrued in the period that the related revenue is recognized based upon an estimated average per unit repair or replacement cost applied to the estimated number of units under warranty. These estimates are based upon historical warranty incidents and are evaluated on an ongoing basis to ensure the adequacy of the warranty accrual. We also warrant our software or firmware incorporated into our products generally for a period of one year and offer to provide a bug fix or software patch within a reasonable period. We have not accrued specifically for this warranty and have not had claims specifically related to software or firmware. We are not responsible for, and do not warrant that, custom software versions, created by OEM customers based upon our software source code, will function in a particular way, will conform to any specifications or are fit for any particular purpose. Further, we do not indemnify these customers from any third-party liability as it relates to or arises from any customization or modifications made by the OEM customer. Treasury Stock We record treasury stock at cost. Treasury stock may be acquired from employees for tax withholding purposes related to vesting of restricted stock unit awards as part of our stock-based compensation program and issued pursuant to the Employee Stock Purchase Plan. Revenue Recognition We recognize hardware product revenue upon transfer of control of goods or services to customers in an amount that reflects the consideration we expect to receive in exchange for those goods or services. We determine the amount of revenue to be recognized through application of the following steps: • identification of the contract, or contracts with a customer; • identification of the performance obligations in the contract; • determination of the transaction price; • allocation of the transaction price to the performance obligations in the contract; and • recognition of revenue when or as we satisfy the performance obligations. Hardware Product Revenue and SmartSense by Digi Equipment Revenue and Associated Installation Fees Our hardware product revenue is derived primarily from the sale of wired and wireless hardware products to our distributors and OEM customers. Product revenue generally is recognized upon shipment of the product to a customer. Sales to authorized domestic distributors and OEM customers typically are made with certain rights of return and price adjustment provisions. Estimated reserves for future credit returns and pricing adjustments are established based on an analysis of historical patterns of credit returns and price adjustments compared to received credit returns and distribution sales for the current period. Estimated reserves for future credit returns and price adjustments are charged against revenue in the same period as the corresponding sales are recorded. Material differences between the historical trends used to determine estimated reserves and actual credit returns and pricing adjustments could result in a material change to our consolidated results of operations or financial position. Estimated sales returns for our distributor stock rotation program are accounted for under the guidance of ASC 845 Nonmonetary Transactions . 44 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Equipment revenue from SmartSense by Digi and Ventus within our IoT Solutions segment is recognized upon shipment of the equipment to a customer. Installation service charges from these sales are recorded when the product is installed. Subscription and Support Services Revenue Our SmartSense by Digi and Ventus subscription revenue is recorded on a monthly basis. These subscriptions are generally in a range from one year to five years , and may contain an evergreen renewal provision. Generally, our subscription renewal charges per month are the same as the original contract term. We derive service revenue from our Digi Remote Manager, a platform-as-a-service (“PaaS”) offering, whereby customers pay for services consumed based on the number of devices being managed or monitored. This revenue is recognized over the life of the service term and is included in our IoT Products & Services segment. Digi Support Services revenues are recognized over the life of the support contract and included in our IoT Products & Services segment. Some of Digi Support Services revenue is for training and this revenue is recognized as the services are performed. Professional Services Revenue Professional services revenue is derived from our Digi Wireless Design Services contracts on either on a time-and-materials or a fixed-fee basis. These revenues, which are included in our IoT Products & Services segment are recognized as the services are performed for time-and-materials contracts or as invoiced for fixed-fee contracts. Contracts with Multiple Performance Obligations From time to time we have contracts from customers with multiple performance obligations. Our hardware products may be combined with our Digi Remote Manager PaaS offering as well as other support services in an individual contract. Our SmartSense by Digi ® revenues typically are derived from contracts with multiple performance obligations. These obligations may include: delivery of monitoring equipment that the customer purchases out-right, monitoring services, providing condition alerts of assets being monitored, and recertification of sensor equipment. When we retain ownership of the equipment, we charge an implementation fee to the customer so they can begin using the equipment. In these instances, all revenue derived from the above obligations is recognized over the subscription term of the contract. If the customer purchases the equipment out-right, that portion of the revenue is recognized at the stand-alone selling price at the time the equipment is shipped and all other revenue is recognized over the subscription term of the contract. We have made an accounting policy election to exclude from the measurement of our revenues any sales or similar taxes we collect from customers. Research and Development Research and development costs are expensed when incurred. Research and development costs include compensation, allocation of corporate costs, depreciation, utilities, professional services and prototypes. Software and firmware development costs are expensed as incurred until the point that both the technological feasibility and the proven marketability of the product are established. To date, the time period between the establishment of technological feasibility and completion of software development has been short and no significant development costs have been incurred during that period. Accordingly, we have not capitalized any software development costs to date. Income Taxes Deferred income taxes are recognized for the tax consequences in future years of differences between the tax basis of assets and liabilities and their financial reporting amounts at each year end based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. Income tax expense is equal to the tax payable for the period and the change during the period in deferred tax assets and liabilities as well as changes in income tax reserves. We maintain valuation allowances unless it is more likely than not that all or a portion of the deferred tax assets will be realized. Changes in valuation allowances from period to period are included in our tax provision in the period of change. We recognize the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. 45 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Stock-Based Compensation Stock-based compensation expense represents the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. This cost must be recognized over the period during which an employee is required to provide the service (usually the vesting period). Foreign Currency Translation Financial position and results of operations of our international subsidiaries are measured using local currencies as the functional currency. Assets and liabilities of these operations are translated at the exchange rates in effect at the end of each reporting period. For our international subsidiaries, our statements of operations accounts are translated at the weighted average rates of exchange prevailing during each reporting period. Translation adjustments arising from the use of differing currency exchange rates from period to period are included in accumulated other comprehensive loss in stockholders’ equity. Gains and losses on foreign currency exchange transactions, as well as translation gains or losses on transactions denominated in currencies other than an entity’s functional currency, are reflected in the statement of operations. During fiscal 2023, 2022 and 2021 there were net transaction gains (losses) of $ 0.0 million, $ 0.1 million and $( 0.1 ) million, respectively that were recorded in other income, net. We manage our net asset or net liability position for U.S. dollar accounts in our foreign locations to reduce our foreign currency risk. We have not implemented a formal hedging strategy. Comprehensive Income Our comprehensive income is comprised of net income, foreign currency translation adjustments and unrealized gains and losses on available-for-sale marketable securities. These items are charged or credited to the accumulated other comprehensive loss account in stockholders’ equity. Net Income Per Common Share Basic net income per common share is calculated based on the weighted average number of common shares outstanding during the period. Diluted net income per common share is computed by dividing net income by the weighted average number of common and potentially dilutive common shares outstanding during the period. Potentially dilutive common shares of our stock result from common stock options and restricted stock units. We use the treasury stock method to calculate the weighted-average shares used in the diluted earnings per share computation. Under this method the proceeds from exercise of an option, any amount of compensation cost for future service that we have not yet recognized, and the amount of estimated tax benefits that would be recorded in paid-in capital when the option is exercised are assumed to have been used to repurchase shares in the current period. The following table is a reconciliation of the numerators and denominators in the net income per common share calculations (in thousands, except per common share data): Year ended September 30, 2023 2022 2021 Numerator: Net income $ 24,770 $ 19,383 $ 10,366 Denominator: Denominator basic net income per common share — weighted average shares outstanding 35,820 35,031 32,111 Effect of dilutive securities: Stock options and restricted stock units 1,049 964 1,283 Denominator diluted net income per common share — adjusted weighted average shares 36,869 35,995 33,394 Net income per common share, basic $ 0.69 $ 0.55 $ 0.32 Net income per common share, diluted $ 0.67 $ 0.54 $ 0.31 Because their effect would be anti-dilutive at period end, certain potentially dilutive shares related to stock options to purchase common shares were excluded in the above computation of diluted earnings per share because the options’ exercise prices were greater than the average market price of our common shares. For the years ended September 30, 2023, 2022 and 2021, such excluded stock options were 395,190 , 647,181 and 1,122,121 , respectively. 46 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. ACQUISITIONS Fiscal 2022 Acquisition Acquisition of Ventus On November 1, 2021, we acquired Ventus for approximately $ 350 million in cash. The acquisition was funded through a combination of cash on hand and debt financing under a $ 350 million credit facility committed by BMO Harris Bank N.A. For tax purposes, this acquisition was treated as an asset acquisition. We believe this is a complementary acquisition for us as it significantly enhances our IoT Solutions segment by enhancing Digi's service portfolio and immediately extends the company's market reach with a Managed Network-as-a-Service ("MNaaS") solutions offering. Costs directly related to the acquisition of $ 4.4 million incurred in fiscal 2022 were charged to operations and are included in general and administrative expense in our consolidated statements of operations. These acquisition costs include legal, accounting, valuation and investment banking fees. The following table summarizes the fair values of Ventus assets acquired and liabilities assumed as of the acquisition date (in thousands): Cash $ 350,000 Fair value of net tangible assets acquired $ 20,365 Identifiable intangible assets: Customer relationships 179,000 Purchased and core technology 16,000 Trademarks 16,000 Goodwill 118,635 Total $ 350,000 The consolidated balance sheet as of September 30, 2022 reflects the final allocation of the purchase price to the assets acquired and liabilities assumed based on their estimated fair values at the date of acquisition. The fair value of customer relationships was calculated using the excess earnings method, while purchased and core technology and patents were valued using the relief from royalty method. These methodologies utilize future estimates including revenues attributable to customer relationships, tax rates, discount rates, royalty rates and obsolescence rates. The final purchase price allocation includes an adjustment made in the fourth fiscal quarter of 2022 to reflect an update from our preliminary purchase price allocation to the valuation of the net tangible assets acquired and goodwill resulting from the acquisition. Included in the fair value of net tangible assets acquired was $ 0.9 million of right-of-use asset included in other non-current assets and $ 0.9 million of lease liability included in other current liabilities and other non-current liabilities associated with Ventus’ operating leases. The weighted average useful life for all the identifiable intangibles listed above is estimated to be 19.2 years. For purposes of determining fair value, the existing customer relationships identified above are assumed to have a useful life of 20.5 years, purchased and core technology is assumed to have useful life of 11 years and trademarks are assumed a useful life of 13 years. Useful lives for identifiable intangible assets are estimated at the time of acquisition based on the periods of time from which we expect to derive benefits from the identifiable intangible assets. The identifiable intangible assets are amortized using the straight-line method which reflects the pattern in which the assets are expected to be consumed. The fiscal 2022 consolidated results include $ 54.3 million in revenue contributed by the acquired Ventus business. It is impracticable to quantify the amount of Ventus contribution to our consolidated net income due to the business structure management uses for reporting and allocating expenses to segments. 47 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. ACQUISITIONS (CONTINUED) The following consolidated pro forma information is presented as if the acquisition had occurred on October 1, 2020 (in thousands): Year ended September 30, 2022 2021 Net sales $ 393,290 $ 360,820 Net income (loss) $ 14,274 $ ( 2,701 ) Pro forma net income has been adjusted to include interest expense related to debt incurred as a result of the acquisition, amortization on the fair value of the intangibles acquired and remove any costs incurred with the sale transaction. Net income for the year ended September 30, 2021 was adjusted to include acquisition-related costs of $ 3.1 million. Fiscal 2021 Acquisitions Acquisition of Haxiot On March 26, 2021, we acquired Haxiot, a Dallas-based provider of low power wide area ("LPWA") wireless technology. Following this date, the results of operations are included within our IoT Products & Services segment. We believe this is a complementary acquisition for us as it significantly enhances our IoT Products & Services segment by enhancing Digi's embedded systems portfolio and immediately extends the company's market reach with a complete LoRaWAN-based solutions offering. The terms of the acquisition included an upfront cash payment as well as contingent consideration comprised of future earn-out payments. We funded the closing of the acquisition with $ 7.1 million of cash on hand. The future earn-out payments are based on Haxiot revenue performance and contractually are not to exceed $ 3.0 million and $ 5.0 million for the annual periods ended December 31, 2021 and December 31, 2022. In the third quarter of fiscal 2021, the purchase price allocation was updated, including related determination of fair value and income tax implications. As a result, we adjusted goodwill to $ 8.6 million and adjusted contingent consideration to $ 5.9 million. In the fourth fiscal quarter of 2022, it was determined that the revenue thresholds would not be met and the remaining balance was adjusted down by $ 5.9 million, resulting in a fair value of $ 0.0 million for contingent consideration relating to the acquisition of Haxiot at September 30, 2023 and 2022. For tax purposes, this acquisition is treated as a stock acquisition. The goodwill therefore is not deductible. Costs directly related to the acquisition of $ 0.3 million have been charged to operations in fiscal 2021. These costs are included in general and administrative expense in our consolidated statements of operations. These acquisition costs include legal, accounting, valuation and investment banking fees. The following table summarizes the fair values of Haxiot assets acquired, net of $ 50 thousand of cash acquired, and liabilities assumed as of the acquisition date (in thousands). Cash $ 7,096 Contingent consideration 5,900 Total $ 12,996 Fair value of net tangible assets acquired $ 86 Identifiable intangible assets: Customer relationships 3,900 Purchased and core technology 1,050 Trademarks 500 Deferred tax liability on identifiable intangible assets ( 1,145 ) Goodwill 8,605 Total $ 12,996 48 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 2. ACQUISITIONS (CONTINUED) Acquisition of Ctek, Inc. On July 6, 2021, we acquired Ctek, Inc. ("Ctek"), a San Pedro, California-based provider that specializes in solutions for remote monitoring and industrial controls. The results of operations of Ctek are included in our fourth quarter fiscal 2021 results within our IoT Products & Services segment. Through the acquisition of Ctek, Digi is uniquely positioned to provide customers with both battery and hardwired options for the control and monitoring of critical infrastructure, from complex off-shore oil rig locations to localized deployments such as municipal park lighting. In addition, Ctek’s offering and existing client portfolio is set to further Digi’s reach in a rapidly expanding market. The terms of the acquisition included an upfront cash payment as well as contingent consideration comprised of future earn-out payments. We funded the closing of the acquisition with $ 12.0 million of cash on hand. The future earn-out payments are based on revenue performance outlined in the terms of the purchase agreement for the annual periods ending December 31, 2021, December 31, 2022 and December 31, 2023. The cumulative amount of these earn-outs for the annual periods had a max $ 0.5 million, $ 1.0 million and $ 1.5 million, respectively. In the fiscal fourth quarter of 2022, it was determined that the revenue thresholds would not be met and the remaining balance was adjusted down by $ 0.3 million, resulting in a fair value of $ 0.0 million for contingent consideration relating to the acquisition of Ctek at September 30, 2023 and 2022. For tax purposes, this acquisition is treated as a stock acquisition. The goodwill therefore is not deductible. Costs directly related to the acquisition of $ 0.3 million have been charged to operations in fiscal 2021. These costs are included in general and administrative expense in our consolidated statements of operations. These acquisition costs include legal, accounting, valuation and investment banking fees. The following table summarizes the fair values of Ctek assets acquired and liabilities assumed as of the acquisition date (in thousands). Cash $ 12,012 Contingent consideration 300 Working capital adjustment 422 Total $ 12,734 Fair value of net tangible assets acquired $ 397 Identifiable intangible assets: Customer relationships 5,100 Purchased and core technology 1,300 Trademarks 70 Backlog 1,000 Goodwill 4,867 Total $ 12,734 49 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 3. GOODWILL AND OTHER IDENTIFIABLE INTANGIBLE ASSETS, NET Identifiable Intangible Assets, Net Amortizable identifiable intangible assets, net as of September 30, 2023 and 2022 were comprised of the following (in thousands): September 30, 2023 September 30, 2022 Gross carrying amount Accum. amort. Net Gross carrying amount Accum. amort. Net Purchased and core technology $ 85,032 $ ( 59,833 ) $ 25,199 $ 85,016 $ ( 55,854 ) $ 29,162 License agreements 112 ( 112 ) — 112 ( 112 ) — Patents and trademarks 39,957 ( 19,888 ) 20,069 39,711 ( 17,666 ) 22,045 Customer relationships 309,196 ( 77,380 ) 231,816 309,212 ( 58,355 ) 250,857 Non-compete agreements 600 ( 600 ) — 600 ( 600 ) — Order backlog 1,000 ( 1,000 ) — 1,000 ( 1,000 ) — Total $ 435,897 $ ( 158,813 ) $ 277,084 $ 435,651 $ ( 133,587 ) $ 302,064 Amortization expense is included in our consolidated statements of operations in cost of sales and general and administrative expense. Amortization expense in cost of sales includes amortization for purchased and core technology and certain patents and trademarks. Amortization expense for fiscal years 2023, 2022 and 2021 was as follows (in thousands): Fiscal year Total 2023 $ 25,226 2022 $ 27,195 2021 $ 16,534 Estimated amortization expense for the next five fiscal years is as follows (in thousands): Fiscal year Total 2024 (twelve months) $ 25,232 2025 $ 21,776 2026 $ 21,544 2027 $ 20,593 2028 $ 20,411 The changes in the carrying amount of goodwill by reportable segments are (in thousands): IoT Products & Services IoT Solutions Total Balance on September 30, 2021 $ 175,180 $ 50,342 $ 225,522 Acquisitions — 118,635 118,635 Adjustments 186 ( 631 ) ( 445 ) Foreign currency translation adjustment ( 2,435 ) ( 800 ) ( 3,235 ) Balance on September 30, 2022 $ 172,931 $ 167,546 $ 340,477 Foreign currency translation adjustment 1,026 90 1,116 Balance on September 30, 2023 $ 173,957 $ 167,636 $ 341,593 No goodwill impairment has been recorded in any period presented. 50 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 3. GOODWILL AND OTHER IDENTIFIABLE INTANGIBLE ASSETS, NET (CONTINUED) Goodwill represents the excess of cost over the fair value of net identifiable assets acquired. Goodwill is quantitatively tested for impairment on an annual basis as of June 30, or more frequently if events or circumstances occur which could indicate impairment. We continue to have two reportable segments, our IoT Products & Services segment and our IoT Solutions segment (see Note 4 ). Effective with the reorganization announcement on October 7, 2020 (see Note 10 ), our IoT Products & Services business is structured to include four reporting units under the IoT Products & Services segment, each with a reporting manager: Cellular Routers, Console Servers, OEM Solutions and Infrastructure Management. Due to the reorganization, we performed our fiscal third quarter 2021 annual impairment test for those four reporting units along with our IoT Solutions segment. Following our acquisition of Ventus, IoT Solutions is comprised of two reporting units. All six reporting units were included in our fiscal third quarter 2022 annual impairment test. For our quantitative goodwill impairment tests, we determine the estimated fair value of each reporting unit and compare it to the carrying value of the reporting unit, including goodwill. If the carrying amount of a reporting unit is higher than its estimated fair value, then an impairment loss must be recognized for the excess. Fair values for the six reporting units were each estimated on a standalone basis using a weighted combination of the income approach and market approach. The income approach indicates the fair value of a business based on the value of the cash flows the business or asset can be expected to generate in the future. A commonly used variation of the income approach used to value a business is the discounted cash flow (“DCF”) method. The DCF method is a valuation technique in which the value of a business is estimated on the earnings capacity, or available cash flow, of that business. Earnings capacity represents the earnings available for distribution to stockholders after consideration of the reinvestment required for future growth. Significant judgment is required to estimate the amount and timing of future cash flows for each reporting unit and the relative risk of achieving those cash flows. Key assumptions used in the analysis were related to the determination of discount rates and forecasts of future gross margins and earnings before income taxes, depreciation and amortization margins. The market approach indicates the fair value of a business or asset based on a comparison of the business or asset to comparable publicly traded companies or assets and transactions in its industry as well as our prior acquisitions. This approach can be estimated through the guideline company method. This method indicates fair value of a business by comparing it to publicly traded companies in similar lines of business. After identifying and selecting the guideline companies, we make judgments about the comparability of the companies based on size, growth rates, profitability, risk, and return on investment in order to estimate market multiples. These multiples are then applied to the reporting units to estimate a fair value. Assumptions and estimates to determine fair values under the income and market approaches are complex and often subjective. They can be affected by a variety of factors. These include external factors such as industry and economic trends. They also include internal factors such as changes in our business strategy and our internal forecasts. Changes in circumstances or a potential event could negatively affect the estimated fair values. We will continue to monitor potential impacts to our assumptions, as any changes could potentially affect our cash flows and market capitalization. If our future operating results do not meet current forecasts or if we experience a sustained decline in our market capitalization that is determined to be indicative of a reduction in fair value of one or more of our reporting units, we may be required to record future impairment charges for goodwill. Digi conducted an analysis as of September 30, 2023 and concluded changes in market conditions from the time of the Fiscal 2023 test, conducted as of June 30,2023, were not indicative of a reduction in fair value of any of our reporting units. Results of our Fiscal 2023 Annual Impairment Test As of June 30, 2023, we had a total of $ 32.7 million of goodwill for the Cellular Routers reporting unit, $ 57.1 million of goodwill for the Console Servers reporting unit, $ 64.6 million of goodwill for the OEM Solutions reporting unit, $ 20.4 million of goodwill for the Infrastructure Management reporting unit, $ 48.9 million of goodwill for the SmartSense by Digi reporting unit and $ 118.6 million of goodwill for the Ventus reporting unit. At June 30, 2023, the fair value of goodwill exceeded the carrying value for all six reporting units and no impairment was recorded. 51 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 4. SEGMENT INFORMATION AND MAJOR CUSTOMERS We have two reportable segments: (i) IoT Products & Services and (ii) IoT Solutions. This determination was made by considering both qualitative and quantitative information. The qualitative information included, but was not limited to, the following: the nature of the products and services and customers differ between the two segments, discrete financial information is available through operating income for both segments and the Chief Operating Decision Maker is reviewing both segments’ financial information separately to make decisions about the allocation of resources. Effective with the reorganization announcement on October 7, 2020 (see Note 10 ), our IoT Products & Services business is structured to include four operating segments, each with a segment manager. Following our acquisition of Ventus in the first fiscal quarter of 2022, IoT Solutions is comprised of two reporting units; Ventus and SmartSense by Digi. IoT Products & Services Our IoT Products & Services segment is composed of the following four operating segments: • Cellular Routers - box devices (fully enclosed) that provide connectivity typically in a place where the device can be plugged in exclusively using cellular communications. • Console Servers - similar to cellular routers except they are exclusively for edge computing installations and data center applications exclusively using cellular communications. • OEM Solutions - Original Equipment Manufacturers ("OEM") will be a chip, rather than a boxed device. This can come in the form of a stand-alone chip, or from a systems-on-module ("SOMs"). While cellular connectivity is used, other communication protocols can be used such as Zigbee, Bluetooth or Radio-Frequency ("RF") based on application. • Infrastructure Management - includes battery operated, cellular enabled connect sensors as well as other types of console server applications that are more Digi Accelerated Linux ("DAL") based than Console Servers. This operating segment has some products that do not use cellular communications, but a large part of this segment does use cellular communications. IoT Solutions Following the acquisition of Ventus on November 1, 2021, IoT Solutions is comprised of two operating segments: • SmartSense by Digi - offers wireless temperature and other condition-based monitoring services for perishable goods such as food or medicine, as well as employee task management services. • Ventus - provides MNaaS solutions that simplify the complexity of enterprise wide area network ("WAN") connectivity via wireless and fixed line solutions. The operating segments included in each reportable segment have similar qualitative and quantitative factors, which allow us to aggregate them under each reportable segment. The qualitative factors include similar nature of products and services, production process, type or class of customers and methods used to distribute the products. The quantitative factors include similar operating margins. Our chief operating decision maker reviews and makes business decisions which includes a primary review of operating income but also includes gross profit. Following the October 2020 reorganization, the shared general and administrative costs are being allocated to each operating segment. As a result, our disclosed measure of segment operating income has been updated for all periods presented to conform with this change. 52 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 4. SEGMENT INFORMATION AND MAJOR CUSTOMERS (CONTINUED) Summary operating results for each of our segments were as follows (in thousands): Year ended September 30, 2023 2022 2021 Revenue IoT Products & Services $ 345,680 $ 297,645 $ 264,173 IoT Solutions 99,169 90,580 44,459 Total revenue $ 444,849 $ 388,225 $ 308,632 Gross Profit IoT Products & Services $ 187,958 $ 160,117 $ 144,472 IoT Solutions 64,245 56,169 22,185 Total gross profit $ 252,203 $ 216,286 $ 166,657 Operating Income (loss) IoT Products & Services $ 51,157 $ 41,562 $ 18,212 IoT Solutions ( 1,062 ) ( 3,342 ) ( 7,684 ) Total operating income $ 50,095 $ 38,220 $ 10,528 Depreciation and Amortization IoT Products & Services $ 12,544 $ 13,974 $ 13,109 IoT Solutions 19,432 19,865 7,768 Total depreciation and amortization $ 31,976 $ 33,839 $ 20,877 Total expended for property, plant and equipment was as follows (in thousands): Year ended September 30, 2023 2022 2021 IoT Products & Services $ 588 $ 1,952 $ 2,257 IoT Solutions* 3,510 22 — Total expended for property, plant and equipment $ 4,098 $ 1,974 $ 2,257 * Excluded from this amount is $ 3.9 million, $ 6.2 million and $ 1.8 million of transfers of inventory to property plant and equipment for subscriber assets for the year ended September 30, 2023, 2022 and 2021, respectively. Total assets for each of our segments were as follows (in thousands): As of September 30, 2023 2022 IoT Products & Services $ 384,018 $ 390,128 IoT Solutions 419,820 428,867 Unallocated* 31,693 34,900 Total assets $ 835,531 $ 853,895 *Unallocated consists of cash and cash equivalents. Net property, equipment and improvements by geographic location were as follows (in thousands): As of September 30, 2023 2022 United States $ 28,631 $ 27,205 International, primarily Europe 477 389 Total net property, equipment and improvements $ 29,108 $ 27,594 Our U.S. export sales represented 27.2 %, 22.1 % and 26.2 % of revenue for the fiscal years ended September 30, 2023, 2022 and 2021. No single customer exceeded 10% of revenue or accounts receivable for any of the periods presented. 53 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 5. SELECTED BALANCE SHEET DATA The following table shows selected balance sheet data (in thousands): As of September 30, 2023 2022 Accounts receivable, net: Accounts receivable $ 61,880 $ 58,967 Less allowance for credit losses 1,693 3,285 Less reserve for future credit returns and pricing adjustments 4,190 5,232 Total accounts receivable, net $ 55,997 $ 50,450 Inventories: Raw materials $ 29,974 $ 39,189 Work in process 66 592 Finished goods 44,356 33,442 Total inventories $ 74,396 $ 73,223 Property, equipment and improvements, net: Land $ 570 $ 520 Buildings 2,338 2,338 Improvements 11,703 9,365 Equipment 17,909 17,990 Purchased software 5,143 4,297 Furniture and fixtures 2,459 2,148 Subscriber assets 28,532 24,636 Total property, equipment and improvements, gross 68,654 61,294 Less accumulated depreciation and amortization 39,546 33,700 Total property, equipment and improvements, net $ 29,108 $ 27,594 6. FAIR VALUE MEASUREMENTS Financial assets and liabilities are classified in the fair value hierarchy based on the lowest level input that is significant to the fair value measurement: Level 1 (unadjusted quoted prices in active markets for identical assets or liabilities); Level 2 (observable market inputs, other than quoted prices included in Level 1); and Level 3 (unobservable inputs that cannot be corroborated by observable market data). There were no transfers into or out of our Level 2 financial assets during fiscal 2023. There were no assets or liabilities that are measured at fair value on a recurring basis as of September 30, 2023 or 2022. In connection with our acquisition of Opengear, we agreed to make contingent payments, based upon certain revenue thresholds. We paid the first installment of $ 0.9 million during the third quarter of fiscal 2020. We paid the final installment of $ 10.0 million during the second quarter of fiscal 2021. In connection with our acquisition of Haxiot, we agreed to make contingent earn-out payments, based upon certain revenue thresholds (see Note 2 to the consolidated financial statements). In the third quarter of fiscal 2021, the preliminary purchase price allocation was updated, including related determination of fair value and income tax implications. As a result, we adjusted goodwill to $ 8.6 million and adjusted contingent consideration to $ 5.9 million on our balance sheet. In the fiscal fourth quarter of 2022, it was determined that the revenue thresholds would not be met and the remaining balance was adjusted down by $ 5.9 million. The fair value of the remaining liability for contingent consideration for the acquisition of Haxiot was $ 0.0 million at September 30, 2023 and 2022. In connection with our acquisition of Ctek, we agreed to make contingent earn-out payments, based upon certain revenue thresholds (see Note 2 to the consolidated financial statements). In the fiscal fourth quarter of 2022, it was determined that the revenue thresholds would not be met and the remaining balance was adjusted down by $ 0.3 million. The fair value of the remaining liability for contingent consideration for the acquisition of Ctek was $ 0.0 million at September 30, 2023 and 2022. 54 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6. FAIR VALUE MEASUREMENTS (CONTINUED) The following table presents a reconciliation of the contingent consideration liability measured at fair value on a recurring basis using significant unobservable inputs (Level 3) (in thousands): Year ended September 30, 2023 2022 Fair value at beginning of period $ — $ 6,200 Change in fair value of contingent consideration — ( 6,200 ) Fair value at end of period $ — $ — The change in fair value of contingent consideration reflects our estimate of the probability of achieving the relevant targets and is discounted based on our estimated discount rate. Due to the timing of the acquisition, the fair value of the contingent consideration at September 30, 2023 is based on the probability of achieving the specified revenue thresholds for Ctek. As of September 30, 2023, contingent consideration associated with Ctek remains subject to future performance through December 31, 2023. 7. INDEBTEDNESS On November 1, 2021, we entered into a second amended and restated credit agreement with BMO Harris Bank N.A. ("BMO"). This agreement provides us with a senior secured credit facility (the "Credit Facility") consisting of a $ 350 million term loan B secured loan (the “Term Loan Facility”) and a $ 35 million revolving credit facility (the “Revolving Loan Facility”) with an uncommitted option to increase incremental loans under the Credit Facility, subject to an incremental cap. The Revolving Loan Facility includes a $ 10 million letter of credit subfacility and $ 10 million swingline subfacility. Digi may use proceeds of the Revolving Loan Facility in the future for general corporate purposes. This loan replaced our syndicated senior secured credit agreement with BMO that was entered into on March 15, 2021 and replaced the remaining balance of our revolver with this new term loan. This prior agreement provided us with committed credit facilities ("Prior Credit Facility") consisting of a $ 200 million revolving loan. The debt issuance costs and remaining balance under the Prior Credit Facility totaled $ 2.3 million at November 1, 2021. Of this amount $ 1.9 million was written off and included in interest expense upon the entry into the new amendment and $ 0.4 million is being amortized over the term of the amended loan and reported in interest expense. Digi incurred an additional $ 11.7 million and $ 1.7 million in debt issuance costs relating to the November 1, 2021 and December 22, 2021 amendments, respectively. These amounts are being amortized over the term of the amended loan and reported in interest expense. On December 22, 2021, Digi entered into a third amended and restated credit agreement with BMO. Digi refinanced the Term Loan Facility and Revolving Loan Facility under its existing credit agreement entered into on November 1, 2021, but did not receive any additional proceeds from nor modify the amounts of any facilities or subfacilities contained within that credit agreement. Following the December amendment, borrowings under the Term Loan Facility bore interest at a rate based on LIBOR until the discontinuation of LIBOR on June 30, 2023. Following this date, borrowings under the Term Loan Facility are subject to a rate based on the Secured Overnight Financing Rate ("SOFR") with a credit spread adjustment to adjust for the change in reference rate ranging from 0.10% to 0.40%, depending on Digi's interest election. Our interest rate has floor of 0.50 % for an interest period of one, three or six months as selected by Digi, reset at the end of the selected interest period plus 5.00 % or a base rate plus 4.00 %. The base rate is determined by reference to the highest of BMO’s prime rate, the Federal Funds Effective Rate plus 0.50 %, or the one-month SOFR for U.S. dollars plus 1.00 %. The applicable margin for loans under the Revolving Credit Facility is in a range of 4.00 % to 3.75 % for SOFR loans and 3.00 % to 2.75 % for base rate loans, depending on Digi’s consolidated leverage ratio. In addition to paying interest on the outstanding balance under the Credit Facility, we are required to pay a commitment fee on the non-utilized commitments thereunder, which is also reported in interest expense. Digi elected 55 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7. INDEBTEDNESS (CONTINUED) an interest period of one month for the months of December 2021 through April 2022 and a period of six months effective May 1, 2022. Following the expiration of the election on October 31, 2022, Digi elected an interest period of one month, effective on November 1, 2022 and has elected the same periods each subsequent month. Our weighted average interest rate for our Term Loan Facility as of September 30, 2023 was 10.44 %. Our weighted average Revolving Loan Facility commitment fee was 0.20 % as of September 30, 2023. The Term Loan is payable in quarterly installments, with the balance remaining due on November 2, 2028. The Revolving Loan is due in a lump sum payment at maturity on November 2, 2028, if any amounts are drawn. The fair value of the Term Loan and Revolving Loan approximated carrying value at September 30, 2023. Digi made early payments against the term loan of $ 18.9 million and $ 100.0 million in twelve months ended September 30, 2023 and 2022, respectively. The following table is a summary of our long-term indebtedness (in thousands): Year ended September 30, 2023 2022 Term loan $ 213,625 $ 250,000 Less unamortized issuance costs ( 10,051 ) ( 12,029 ) Less current maturities of long-term debt ( 15,523 ) ( 15,523 ) Total long-term debt, net of current portion $ 188,051 $ 222,448 The following table is a summary of future maturities of our aggregate long-term debt at September 30, 2023 (in thousands): Fiscal year Amount 2024 $ 17,500 2025 17,500 2026 17,500 2027 17,500 2028 143,625 Total long-term debt $ 213,625 Covenants and Security Interest The agreements governing the Credit Facility contain a number of covenants. Among other thing, these covenants require us to maintain certain financial ratios (net leverage ratio and minimum fixed charge ratio). At September 30, 2023, we were in compliance with our debt covenants. Amounts borrowed under the Credit Facility are secured by substantially all of our assets. 8. PRODUCT WARRANTY OBLIGATION The following table summarizes the activity associated with the product warranty accrual (in thousands) and is listed on our consolidated balance sheets within other current liabilities: Year ended September 30, 2023 2022 2021 Balance at beginning of period $ 886 $ 707 $ 942 Warranties accrued 355 537 244 Settlements made ( 469 ) ( 358 ) ( 479 ) Balance at end of period $ 772 $ 886 $ 707 56 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 9. LEASES All of our leases are operating leases and primarily consist of leases for office space. For any lease with an initial term in excess of twelve months, the related lease assets and lease liabilities are recognized on our consolidated balance sheets as either operating or financing leases at the inception of an agreement where it is determined that a lease exists. We have lease agreements that contain both lease and non-lease components. We have elected to combine lease and non-lease components for all classes of assets. Leases with an initial term of twelve months or less are not recorded on our consolidated balance sheets. Instead we recognize lease expense for these leases on a straight-line basis over the lease term. Operating lease assets represent the right to use an underlying asset for the lease term and operating lease liabilities represent the obligation to make lease payments. These assets and liabilities are recognized based on the present value of future payments over the lease term at the commencement date. We generally use a collateralized incremental borrowing rate based on information available at the commencement date, including the lease term, in determining the present value of future payments. When determining our right-of-use asset, we generally do not include options to extend or terminate the lease unless it is reasonably certain that the option will be exercised. Our leases typically require payment of real estate taxes and common area maintenance and insurance. These components comprise the majority of our variable lease cost and are excluded from the present value of our lease obligations. Fixed payments may contain predetermined fixed rent escalations. We recognize the related rent expense on a straight-line basis from the commencement date to the end of the lease term. The following table shows the supplemental balance sheet information related to our leases (in thousands): Balance Sheet Location September 30, 2023 September 30, 2022 Assets Operating leases Operating lease right-of-use assets $ 12,876 $ 15,299 Total lease assets $ 12,876 $ 15,299 Liabilities Operating leases Current portion of operating lease liabilities $ 3,352 $ 3,196 Operating leases Operating lease liabilities 13,989 16,978 Total lease liabilities $ 17,341 $ 20,174 The following were the components of our lease cost which is recorded in both cost of goods sold and selling, general and administrative expense (in thousands): Statement of Operations Location Year ended September 30, 2023 Year ended September 30, 2022 Operating lease cost Cost of goods sold and SG&A $ 3,815 $ 3,783 Variable lease cost Cost of goods sold and SG&A 1,332 1,094 Short-term lease cost Cost of goods sold and SG&A 93 109 Total lease cost $ 5,240 $ 4,986 The following table presents supplemental information related to operating leases (in thousands): Year ended September 30, 2023 Year ended September 30, 2022 Cash paid for amounts included in the measurement of operating lease liabilities $ 2,965 $ 2,998 Right-of-use assets obtained in exchange for new operating lease liabilities $ 276 $ 2,615 57 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 9. LEASES (CONTINUED) September 30, 2023 Weighted average remaining lease term - operating leases 6.5 years Weighted average discount rate - operating leases 4.40 % The table below reconciles the undiscounted cash flows for each of the first five years as well as all the remaining years to the operating lease liabilities recorded on the Consolidated Balance Sheet as of September 30, 2023 (in thousands): Fiscal year Amount 2024 (twelve months) $ 3,999 2025 3,529 2026 3,105 2027 2,040 2028 1,897 Thereafter 5,705 Total future undiscounted lease payments 20,275 Less imputed interest ( 2,934 ) Total reported lease liability $ 17,341 10. RESTRUCTURING 2021 Restructuring On October 7, 2020, our Board of Directors approved a reorganization of our IoT Products & Services business segment. The restructuring plan aligned the business segment's organization around product lines. Under this plan, we recorded a charge of $ 0.7 million for employee termination charges and eliminated 19 employment positions primarily in the U.S. during the three months ended December 31, 2020. In the second quarter of fiscal 2021 we recorded an additional $ 0.2 million related to this restructuring. In the third quarter of fiscal 2021 we recorded an additional $ 0.1 million related to this restructuring. The charges relating to this restructuring were fully paid during the fourth quarter of fiscal 2021. Below is a summary of the restructuring charges and other activity within the restructuring accrual (in thousands): 2021 Restructuring Employee Termination Costs Total Balance on September 30, 2020 $ — $ — Restructuring charge 995 995 Payments ( 935 ) ( 935 ) Reversals — — Foreign currency fluctuation ( 60 ) ( 60 ) Balance on September 30, 2021 $ — $ — 58 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 11. REVENUE Revenue Disaggregation The following table summarizes our revenue by geographic location of our customers: Year ended September 30, ($ in thousands) 2023 2022 2021 North America, primarily the United States $ 323,714 $ 302,409 $ 227,923 Europe, Middle East & Africa 69,980 53,612 46,024 Rest of world 51,155 32,204 34,685 Total revenue $ 444,849 $ 388,225 $ 308,632 The following table summarizes our revenue by the timing of revenue recognition: Year ended September 30, ($ in thousands) 2023 2022 2021 Transferred at a point in time $ 345,119 $ 302,535 $ 274,960 Transferred over time 99,730 85,690 33,672 Total revenue $ 444,849 $ 388,225 $ 308,632 Contract Balances Contract Related Assets Our contract related assets consist of subscriber assets. Subscriber assets are equipment that we provide to customers pursuant to subscription-based contracts. In these cases, we retain the ownership of the equipment a customer uses and charge the customer subscription fees to receive our end-to-end solutions. The total net book value of subscriber assets of $ 16.6 million and $ 16.5 million as of September 30, 2023 and September 30, 2022, respectively, are included in property, equipment and improvements, net. Depreciation expense for these subscriber assets was $ 3.8 million and $ 3.2 million for the twelve months ended September 30, 2023 and 2022, respectively. We depreciate the cost of this equipment over its useful life and include these expenses in cost of sales. Contract Assets Contract assets at Digi consist of products and services that have been fulfilled, but for which revenue has not yet been recognized. Our contract asset balances were immaterial as of September 30, 2023 and September 30, 2022. Contract Liabilities The timing of revenue recognition may differ from the timing of invoicing to customers. Customers are invoiced for subscription services on a monthly, quarterly or annual basis. Contract liabilities consist of unearned revenue related to annual or multi-year contracts for subscription services and related implementation fees, as well as product sales that have been invoiced, but not yet fulfilled. Our contract liabilities were $ 27.9 million and $ 21.6 million at September 30, 2023 and 2022, respectively. Of the $ 21.6 million and $ 15.5 million balances as of September 30, 2022 and 2021, Digi recognized $ 17.5 million and $ 13.2 million as revenue in the twelve months ended September 30, 2023 and 2022, respectively. Remaining Performance Obligation As of September 30, 2023, we had approximately $ 152.5 million of remaining performance obligations on contracts with an original duration of one year or more. We expect to recognize revenue on approximately $ 88.4 million of remaining performance obligations over the next 12 months. Revenue from the remaining performance obligations we expect to recognize over a range of two to five years . 59 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 12. INCOME TAXES The components of income before income taxes are (in thousands): Year ended September 30, 2023 2022 2021 United States $ 21,149 $ 13,220 $ 5,380 International 3,769 5,408 3,619 Income before income taxes $ 24,918 $ 18,628 $ 8,999 The components of the income tax benefit are (in thousands): Year ended September 30, 2023 2022 2021 Current: Federal $ 9,894 $ 281 $ 1,388 State 1,955 766 242 Foreign 598 1,277 1,678 Deferred: Federal ( 12,131 ) ( 2,982 ) ( 3,627 ) State — — ( 618 ) Foreign ( 168 ) ( 97 ) ( 430 ) Income tax (benefit) expense $ 148 $ ( 755 ) $ ( 1,367 ) Net deferred tax liability consists of (in thousands): As of September 30, 2023 2022 Non-current deferred tax asset $ 4,884 $ — Non-current deferred tax liability ( 1,812 ) ( 9,666 ) Net deferred tax asset (liability) $ 3,072 $ ( 9,666 ) Depreciation and amortization $ ( 3,362 ) $ ( 4,930 ) Lease asset ( 2,866 ) ( 3,392 ) Lease liability 3,897 4,497 Inventories 6,407 2,586 Compensation costs 5,559 3,999 Other accruals 9,011 7,413 Tax credit carryforwards 3,867 7,445 Valuation allowance ( 3,254 ) ( 2,976 ) Identifiable intangible assets ( 25,276 ) ( 24,308 ) Research and development costs 9,089 — Net deferred tax asset (liability) $ 3,072 $ ( 9,666 ) As of September 30, 2023, we had $ 4.1 million of tax carryforwards (net of reserves) related to state research and development tax credits. We also had $ 0.6 million of carryforwards consisting of U.S. net operating losses of $ 0.2 million, non-U.S. net operating losses of $ 0.2 million and foreign tax credits of $ 0.2 million. The majority of our state research and development tax credits have a 15-year carryforward period. The majority of our non-U.S. net operating losses and tax credit carryforwards have an unlimited carryforward period. Our valuation allowance for certain U.S. and foreign attributes was $ 3.3 million at September 30, 2023 and $ 3.0 million at September 30, 2022. The increase in valuation allowance is primarily the result of additional reserves against state research and development credits. The deferred tax assets realized could vary if there are differences in the timing or amount of future reversals of existing deferred tax liabilities or changes in the amounts of future taxable income. If future taxable income projections are not realized, an additional valuation allowance may be required. This would be reflected as income tax expense at the time that any such change in future taxable income is determined. 60 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 12. INCOME TAXES (CONTINUED) The reconciliation of the statutory federal income tax amount to our income tax benefit is (in thousands): Year ended September 30, 2023 2022 2021 Statutory income tax amount $ 5,233 $ 3,912 $ 1,890 Increase (decrease) resulting from: State taxes, net of federal benefits 636 85 319 Transaction costs — 2 60 Employee stock purchase plan 165 98 79 Foreign operations 984 1,552 556 Non-deductible executive compensation 373 291 150 Change in valuation allowance — — ( 2,187 ) Capital Loss Expiration — — 2,301 Utilization of research and development tax credits ( 4,678 ) ( 2,780 ) ( 3,116 ) Deferred balance sheet remeasure — — ( 952 ) ASU 2016-09 excess stock compensation ( 1,678 ) ( 2,967 ) ( 1,131 ) Contingent consideration — ( 1,239 ) 1,212 Changes from provision to return 181 413 ( 458 ) Adjustment of tax contingency reserves 238 417 329 U.S. deduction for foreign export sales ( 1,419 ) ( 584 ) ( 630 ) Global intangible low-taxed income — — 33 Other, net 113 45 178 Income tax (benefit) expense $ 148 $ ( 755 ) $ ( 1,367 ) A reconciliation of the beginning and ending amount of unrecognized tax benefits is (in thousands): Year ended September 30, 2023 2022 2021 Unrecognized tax benefits at beginning of fiscal year $ 3,316 $ 2,908 $ 2,600 Increases related to: Prior year income tax positions 100 — 40 Current year income tax positions 858 524 507 Decreases related to: Prior year income tax positions ( 159 ) ( 21 ) ( 155 ) Settlements — — — Expiration of statute of limitations ( 953 ) ( 95 ) ( 84 ) Unrecognized tax benefits at end of fiscal year $ 3,162 $ 3,316 $ 2,908 The total amount of unrecognized tax benefits ("UTB") at September 30, 2023 that, if recognized, would affect our effective tax rate was $ 3.2 million. We expect that it is reasonably possible that the total amounts of UTB will decrease by approximately $ 0.4 million over the next 12 months due to the expiration of various statutes of limitations. Of the $ 3.2 million of UTB, $ 2.3 million is included in non-current income taxes payable and $ 0.9 million is included with non-current deferred tax liabilities on the consolidated balance sheets at September 30, 2023. We recognize interest and penalties related to income tax matters in income tax expense. During fiscal 2023 and 2022, there were insignificant amounts of interest and penalties related to income tax matters in income tax expense. We accrued $ 0.1 million in interest and penalties related to unrecognized tax benefits as of September 30, 2023 and 2022. These accrued interest and penalties are included in our non-current income taxes payable on our consolidated balance sheets. 61 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 12. INCOME TAXES (CONTINUED) We operate in multiple tax jurisdictions both in the U.S. and outside of the U.S. and face audits from various tax authorities regarding transfer pricing, tax credits, and other matters. Accordingly we must determine the appropriate allocation of income to each of these jurisdictions. This determination requires us to make several estimates and assumptions. Tax audits associated with the allocation of this income, and other complex issues, may require an extended period of time to resolve and may result in adjustments to our income tax balances in those years that are material to our consolidated balance sheets and results of operations. We file a U.S. federal income tax return and income tax returns in various states and foreign jurisdictions. With few exceptions, we are no longer subject to state and local or non-U.S. income tax examinations by tax authorities. At September 30, 2023, the majority of undistributed foreign earnings were taxed under the one time transition tax and the global intangible low-taxed income ("GILTI") provision of the Tax Cuts and Jobs Act of 2017. Additionally, the previously un-taxed accumulated undistributed foreign earnings from prior fiscal years are still permanently reinvested and, as such, we have not accrued additional U.S. tax. It is our position that the earnings of our foreign subsidiaries are to be reinvested indefinitely to fund current operations and provide for future international expansion opportunities and only repatriate earnings to the extent that U.S. taxes have already been recorded. As of September 30, 2023, we are permanently reinvested with respect to previously non-taxed accumulated earnings in all jurisdictions. Although we have no current need to repatriate historical foreign earnings that have not been taxed in the U.S., if we change our assertion from indefinitely reinvesting undistributed foreign earnings, we would have to accrue applicable taxes. The amount of any taxes and the application of any tax credits would be determined based on the income tax laws at the time of such repatriation. Under current tax law, we estimate the unrecognized tax liability to be immaterial. 13. STOCKHOLDERS' EQUITY Public Offering of Common Stock During March 2021 we sold 4,025,000 shares of our common stock at a public offering price of $ 19.50 per share. The shares offered were registered pursuant to a registration statement that we filed with the Securities and Exchange Commission. We received net proceeds of $ 73.8 million, net of transaction expenses of $ 0.3 million related to the public offering. 14. STOCK-BASED COMPENSATION Stock-based awards granted in 2023 were granted under the amended and restated 2021 Omnibus Incentive Plan (the "2021 Plan"). Shares subject to awards under the 2021 Plan or any prior plans that are forfeited, canceled, returned to us for failure to satisfy vesting requirements, settled in cash or otherwise terminated without payment also will be available for grant under the 2021 Plan. The authority to grant options under the 2021 Plan and set other terms and conditions rests with the Compensation Committee of the Board of Directors. The 2021 Plan authorizes the issuance of up to 3,500,000 common shares in connection with awards of stock options, stock appreciation rights, restricted stock, restricted stock units, performance-based full value awards or other stock-based awards. Eligible participants include our employees, our affiliates, non-employee directors of our Company and any consultant or advisor who is a natural person and provides services to us or our affiliates. Options that have been granted under the 2021 Plan typically vest over a four -year period and will expire if unexercised after seven years from the date of grant. Restricted stock unit awards ("RSUs") that have been granted to directors typically vest in one year. RSUs that have been granted to executives and employees typically vest in January over a four -year period. Performance stock unit awards ("PSUs") that have been granted to an executive will vest based on achievement of a cumulative adjusted earnings per share metric measured over a three -year period. Share-based compensation expenses recorded for this performance award is reevaluated at each reporting period based on the probability of achievement of the goal. The Amended Plan is scheduled to expire on January 28, 2032. Options under the Amended Plan can be granted as either incentive stock options or non-statutory stock options. The exercise price of options and the grant date price of RSUs and PSUs is determined by our Compensation Committee but will not be less than the fair market value of our common stock based on the closing price as of the date of grant. Upon exercise of options or settlement of vested RSUs or PSUs, we issue new shares of stock. As of September 30, 2023, there were approximately 2,365,365 shares available for future grants under the Amended Plan. 62 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 14. STOCK-BASED COMPENSATION (CONTINUED) Stock-based awards granted in 2022 and 2021 were granted under the 2021 Plan before amendments were made to increase the number of authorized shares. There were no other material changes to the plan made in the amendments. Cash received from the exercise of stock options was $ 3.9 million, $ 9.5 million and $ 8.5 million for the year ended September 30, 2023, 2022 and 2021, respectively. Our stock option plans allow the net exercise of options. Shares with a value of $ 0.2 million and $ 4.3 million were forfeited to satisfy tax withholding for the year ended September 30, 2023 and 2022, respectively. No amount was forfeited in fiscal 2021. Our equity plans and corresponding forms of award agreements generally have provisions allowing employees to elect to satisfy tax withholding obligations through the delivery of shares, having us retain a portion of shares issuable under the award or paying cash to us for the withholding. During fiscal 2023, 2022 and 2021 our employees forfeited 106,012 , 102,392 and 116,195 shares, respectively in order to satisfy $ 4.1 million, $ 2.4 million and $ 2.1 million, respectively, of withholding tax obligations related to stock-based compensation, pursuant to terms of awards under our board and shareholder-approved compensation plans. We sponsor an Employee Stock Purchase Plan, as amended and restated as of December 10, 2019 (the "Purchase Plan"), covering all domestic employees with at least 90 days of continuous service and who are customarily employed at least 20 hours per week. The Purchase Plan allows eligible participants the right to purchase common stock on a quarterly basis at the lower of 85 % of the market price at the beginning or end of each three-month offering period. The most recent amendments to the Purchase Plan, ratified by our stockholders on January 29, 2020, increased the total number of shares to 3,425,000 that may be purchased under the plan. Employee contributions to the Purchase Plan were $ 2.3 million, $ 1.5 million and $ 1.2 million in fiscal 2023, 2022 and 2021, respectively. Pursuant to the Purchase Plan, 82,621 , 80,225 , and 78,644 shares of common stock were issued to employees during fiscal 2023, 2022 and 2021, respectively. Shares are issued under the Purchase Plan from treasury stock. As of September 30, 2023, 470,227 shares of common stock were available for future issuances under the Purchase Plan. Stock-based compensation expense is included in the consolidated results of operations as (in thousands): Year ended September 30, 2023 2022 2021 Cost of sales $ 628 $ 466 $ 371 Sales and marketing 4,107 2,503 2,069 Research and development 1,777 1,236 1,032 General and administrative 6,774 4,373 4,663 Stock-based compensation before income taxes 13,286 8,578 8,135 Income tax benefit ( 2,840 ) ( 1,819 ) ( 1,755 ) Stock-based compensation after income taxes $ 10,446 $ 6,759 $ 6,380 63 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 14. STOCK-BASED COMPENSATION (CONTINUED) Stock Options Below is a summary of our stock options as of September 30, 2023 and changes during the twelve months then ended (in thousands, except per common share amounts): Options Outstanding Weighted Average Exercise Price Weighted Average Contractual Term (in years) Aggregate Intrinsic Value (1) Balance on September 30, 2022 1,790 $ 17.29 Granted 66 40.59 Exercised ( 262 ) 13.69 Forfeited / Canceled ( 41 ) 20.24 Balance on September 30, 2023 1,553 $ 18.52 3.89 $ 14,167 Exercisable on September 30, 2023 1,062 $ 16.24 3.37 $ 11,451 (1) The aggregate intrinsic value represents the total pre-tax intrinsic value, based on our closing stock price of $ 27.00 as of September 30, 2023, which would have been received by the option holders had all option holders exercised their options as of that date. The intrinsic value of an option is the amount by which the fair value of the underlying stock exceeds its exercise price. The total intrinsic value of all options exercised during each of the twelve months ended September 30, 2023, 2022 and 2021 was $ 5.2 million, $ 20.3 million and $ 6.5 million, respectively. The table below shows the weighted average fair value, which was determined based upon the fair value of each option on the grant date utilizing the Black-Scholes option-pricing model and the related assumptions: Year ended September 30, 2023 2022 2021 Weighted average per option grant date fair value $ 19.87 $ 10.37 $ 6.97 Assumptions used for option grants: Risk free interest rate 3.50% - 4.15% 1.25% - 3.00% 0.51% - 1.04% Expected term 6.00 years 6.00 years 6.00 years Expected volatility 46% 45% - 46% 44% - 46% Weighted average volatility 46 % 46 % 45 % Expected dividend yield 0 % 0 % 0 % The fair value of each option award granted during the periods presented was estimated using the Black-Scholes option valuation model that uses the assumptions noted in the above table. Expected volatilities are based on the historical volatility of our stock. We use historical data to estimate option exercise and employee termination information within the valuation model. The expected term of options granted is derived from the vesting period and historical information and represents the period of time that options granted are expected to be outstanding. The risk-free rate used is the zero-coupon U.S. Treasury bond rate in effect at the time of the grant whose maturity equals the expected term of the option. As of September 30, 2023, the total unrecognized compensation cost related to non-vested stock-based compensation arrangements was $ 4.9 million. The related weighted average period over which this cost is expected to be recognized was approximately 1.6 years. 64 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 14. STOCK-BASED COMPENSATION (CONTINUED) As of September 30, 2023, the weighted average exercise price and remaining life of the stock options were (in thousands, except remaining life and exercise price): Options Outstanding Options Exercisable Range of Exercise Prices Options Outstanding Weighted Average Remaining Contractual Life (In Years) Weighted Average Exercise Price Number of Shares Vested Weighted Average Exercise Price $9.03 - $11.87 295 2.16 $ 11.37 288 $ 11.38 $12.48 - $16.75 325 3.59 $ 15.35 262 $ 15.10 $17.10 - $17.94 365 3.39 $ 17.65 312 $ 17.70 $18.20 - $21.53 273 5.23 $ 20.86 105 $ 20.90 $23.46 - $33.53 230 5.11 $ 24.44 95 $ 24.27 $35.84 - $40.66 48 6.17 $ 40.51 — $ — $41.16 - $41.16 17 6.12 $ 41.16 — $ — $9.03 - $41.16 1,553 3.90 $ 18.52 1,062 $ 16.24 The total grant date fair value of shares vested was $ 4.5 million, $ 3.0 million and $ 2.6 million in each of fiscal 2023, 2022 and 2021, respectively. Non-vested Stock Units The following table presents a summary of our non-vested restricted stock units as of September 30, 2023 and changes during the twelve months then ended (in thousands, except per common share amounts): RSUs PSUs Number of Awards Weighted Average Grant Date Fair Value Number of Awards Weighted Average Grant Date Fair Value Nonvested on September 30, 2022 742 $ 19.14 27 $ 22.69 Granted 463 $ 39.96 113 $ 40.66 Vested ( 296 ) $ 17.49 ( 5 ) $ 22.93 Canceled ( 63 ) $ 26.65 — $ — Nonvested on September 30, 2023 846 $ 30.56 135 $ 37.72 As of September 30, 2023, the total unrecognized compensation cost related to non-vested restricted stock units and performance stock units was $ 19.3 million and $3.4 million, respectively. The related weighted average period over which these costs are expected to be recognized was approximately 2.1 years and 1.8 years, respectively. 15. EMPLOYEE BENEFIT PLANS We currently have a savings and profit sharing plan pursuant to Section 401(k) of the Internal Revenue Code, whereby eligible employees may contribute up to 25 % of their pre-tax earnings subject to certain limits under law. We provide a match of 100 % on the first 3 % of each employee’s bi-weekly contribution and a 50 % match on the next 2 % of each employee’s bi-weekly contribution. The employer matching contribution was reinstated for all employees after a suspension effective May 3, 2020 and ending on December 31, 2020 in the United States and Canada. We provided matching contributions of $ 3.4 million for fiscal 2023, $ 3.1 million for fiscal 2022 and $ 2.4 million for fiscal 2021. In addition, we may make contributions to the plan at the discretion of the Board of Directors. 65 Table of Contents NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 16. COMMITMENTS AND CONTINGENCIES Leases We lease certain of our buildings and equipment under noncancelable lease agreements. Please refer to Note 9 to our consolidated financial statements for additional information. Litigation In November 2018, DimOnOff Inc., a company headquartered in Quebec City, Quebec, Canada ("DimOnOff"), which sells control systems in the building automation and street lighting markets sued us and a former distributor from whom DimOnOff purchased certain Digi products. The suit was brought in the Superior Court of the Province of Quebec in the District of Quebec (Canada) and alleges certain Digi products it purchased and incorporated into street lighting systems in a Canadian city were defective causing some of the street lights to malfunction. It alleged damages of just over CAD 1.0 million . During the second quarter of fiscal 2021, the lawsuit was settled and no payment will be made by us. However, we will be providing DimOnOff reduced product pricing on a limited number of products for an amount substantially lower than what was claimed in the lawsuit. Data Logger Solutions, LLC ("Data Loggers") brought suit in Delaware Superior Court against us and our subsidiary Digi SmartSense, LLC in October, 2020. The suit alleges that Data Loggers has not been paid certain commissions it believes it is owed and will continue to be owed under a Reseller Agreement entered between Data Loggers and TempAlert. SmartSense is the successor of interest of TempAlert and terminated the Reseller Agreement in 2019. Data Loggers claims it is entitled to actual, speculative and punitive damages in connection with its allegations. Digi and SmartSense have made counterclaims against Data Loggers for breach of contract. Each party has submitted a motion for summary judgement in this case and a hearing is scheduled for January 2024. Pending a decision on each party’s summary judgement motion, a trial presently is scheduled to commence in February 2024. We believe we have strong defenses against the allegations asserted by Data Loggers. We intend to defend the matter vigorously; however, there can be no assurance that we will be successful in such defense. We are unable to estimate the total costs to defend the matter or the potential liability to us in the event that we are not successful in our defense. In addition to the matters discussed above, in the normal course of business, we are presently, and expect in the future to be, subject to various claims and litigation with third parties such as non-practicing intellectual property entities as well as customers, vendors and/or employees. There can be no assurance that any claims by third parties, if proven to have merit, will not materially adversely affect our business, liquidity or financial condition. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 66 Table of Contents