DIGI INTERNATIONAL INC 10-Q

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Our management's discussion and analysis should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended September 30, 2020, as well as our subsequent reports on Form 10-Q and Form 8-K and any amendments to these reports. SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This Form 10-Q contains certain statements that are "forward-looking statements" as that term is defined under the Private Securities Litigation Reform Act of 1995, and within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-Looking Statements The words such as "assume," "believe," "anticipate," "intend," "estimate," "target," "may," "will," "expect," "plan," "potential," "project," "should," or "continue" or the negative thereof or other expressions, which are predictions of or indicate future events and trends and which do not relate to historical matters, identify forward-looking statements. Among other items, these statements relate to expectations of the business environment in which Digi operates, projections of future performance, perceived marketplace opportunities and statements regarding our mission and vision. Such statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions. Among others, these include risks related to the ongoing COVID-19 pandemic and efforts to mitigate the same, risks related to global economic volatility and the ability of companies like us to operate a global business in such conditions, the current supply chain and shipping market pressures that are negatively impacting both manufacturing and distribution timelines as well as operating costs for a wide range of companies globally, the highly competitive market in which our company operates, rapid changes in technologies that may displace products sold by us, declining prices of networking products, our reliance on distributors and other third parties to sell our products, the potential for significant purchase orders to be canceled or changed, delays in product development efforts, uncertainty in user acceptance of our products, the ability to integrate our products and services with those of other parties in a commercially accepted manner, potential liabilities that can arise if any of our products have design or manufacturing defects, our ability to defend or settle satisfactorily any litigation, uncertainty in global economic conditions and economic conditions within particular regions of the world which could negatively affect product demand and the financial solvency of customers and suppliers, the impact of natural disasters and other events beyond our control that could negatively impact our supply chain and customers, potential unintended consequences associated with restructuring, reorganizations or other similar business initiatives that may impact our ability to retain important employees or otherwise impact our operations in unintended and adverse ways, the ability to achieve the anticipated benefits and synergies associated with acquisitions or divestitures and changes in our level of revenue or profitability which can fluctuate for many reasons beyond our control. These and other risks, uncertainties and assumptions identified from time to time in our filings with the United States Securities and Exchange Commission, including without limitation, our Annual Report on Form 10-K for the year ended September 30, 2020, this filing on Form 10-Q and other filings, could cause our actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf. Many of such factors are beyond our ability to control or predict. These forward-looking statements speak only as of the date for which they are made. We disclaim any intent or obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of our condensed consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, the disclosure of contingent assets and liabilities and the values of purchased assets and assumed liabilities in acquisitions. We base our estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates. A description of our critical accounting policies and estimates was provided in the Management's Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the fiscal year ended September 30, 2020. 24 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) OVERVIEW We are a leading global provider of business and mission-critical Internet-of-Things ("IoT") connectivity products, services and solutions comprised of two reporting segments: IoT Products & Services and IoT Solutions. Our IoT Products & Services segment offers products and services that help original equipment manufacturers ("OEMs"), enterprise and government customers create and deploy, secure IoT connectivity solutions. From embedded and wireless modules to console servers, enterprise and industrial routers, we provide customers with a wide variety of communication sub-assemblies and finished products to meet their IoT communication requirements. In addition, the IoT Products & Services segment provides our customers with a device management platform and other professional services to enable customers to capture and manage data from devices they connect to networks. Our IoT Solutions segment offers wireless temperature and other condition-based monitoring services as well as task management services. These solutions are focused on the following vertical markets: food service, retail, healthcare, transportation/logistics and education. These solutions are marketed as SmartSense by Digi ® . We have formed, expanded and enhanced the IoT Solutions segment through four acquisitions. We compete for customers on the basis of existing and planned product features, service and software application capabilities, company reputation, brand recognition, technical support, alliance relationships, quality and reliability, product development capabilities, price and availability. On October 7, 2020, our Board of Directors approved a reorganization of our IoT Products & Services business segment. The restructuring plan aligned the business segment's organization around product lines, each with a segment manager. Under this plan, we recorded charges of $1.0 million for employee termination charges and eliminated 19 employment positions primarily in the U.S. during the first half of fiscal 2021. We have grouped our products under the following categories: Cellular Routers, Console Servers, OEM Solutions and Infrastructure Management. Consequently, the measure of segment operating profit used by our chief operating decision maker ("CODM") changed. As a result, our disclosed measure of segment operating income has been updated. For further detail on segment performance, see the Revenue by Segment, Cost of Goods Sold and Gross Profit by Segment and Operating Income sections of this Item 2. In fiscal 2021, our key operating objectives include: • continued growth of our SmartSense by Digi ® business that is the base of our IoT Solutions segment; • delivering growth within our IoT Products & Services segment through new product introductions and efforts to grow recurring revenue streams; and • identification of strategic growth initiatives through acquisition. We utilize many financial, operational, and other metrics to evaluate our financial condition and financial performance. Below we highlight the metrics for the third quarter of fiscal 2021 that we feel are most important in these evaluations: • Consolidated revenue increased $8.7 million, or 12.4% in the third quarter of fiscal 2021 compared to the third quarter of fiscal 2020. • Gross margin increased as a percentage of revenue to 53.8% in the third quarter of fiscal 2021 as compared to 53.1% in the third quarter of fiscal 2020. • Net income for the third fiscal quarter of 2021 was $3.2 million, or $0.09 per diluted share. Net income for the third fiscal quarter of 2020 was $1.8 million, or $0.06 per diluted share. Adjusted net income and adjusted net income per share was $8.7 million, or $0.25 per diluted share. In the third fiscal quarter of fiscal 2020, adjusted net income and adjusted net income per share was $6.6 million, or $0.23 per diluted share. • Adjusted EBITDA for the third fiscal quarter of 2021 was $11.6 million, or 14.6% of total revenue. In the third fiscal quarter of fiscal 2020, Adjusted EBITDA was $10.5 million, or 15.0% of total revenue. Impact of Global Events and Conditions on Our Business Results and Operations 25 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) Global Supply Chain and Freight Transportation Disruptions Like many companies, we are experiencing disruptions in our supply chain. This has led to shortfalls in available components we need to make products and well as increased costs both to obtain components and to transport components and products. It has also lengthened the timelines for us to fulfill customer orders. T he severity of the disruptions is continuously changing, meaning the impact on our ability to meet demand for particular products in a timely manner has been subject to ebb and flow. We are taking steps to attempt to mitigate the impact of the disruptions such as placing inventory demand further out into the future to secure our allocations of components, encouraging customers to place orders earlier than normal due to longer lead times and attempting (in conjunction with customers) to influence political leaders to assure components needed to make products that are essential to the health and well-being of society are prioritized to our customer’s needs by suppliers. At present the ongoing duration and severity of these disruptions we are unable to predict as is the ultimate impact on our business and financial results, which could be material. Ongoing Covid-19 Pandemic Impacts The ongoing pandemic and related global economic volatility continues to create significant uncertainty regarding the nearer term outlook for the markets where we provide products and services. While the rollout of vaccines is well underway in many parts of the world, the pandemic (including the recent spread of more contagious variants of the virus) and related economic volatility it has caused still represents a fluid situation that presents a wide and changing range of potential impacts on our own business and those of our customers, vendors and other business partners. As our products and services serve companies across a broad range of industries, in some instances demand has increased or appears to be returning to levels associated with pre-pandemic conditions while others continue to be depressed. At present, the duration, severity and impact of the pandemic in various locations globally as well as the impacts of related economic volatility remain unclear. During fiscal 2020, we took steps to lower our operating expenses as a result of the pandemic and related economic volatility. We continue to monitor the impacts of COVID-19 on our operations closely. As conditions change we could take steps to increase or decrease expenses as we believe circumstances warrant. Since the start of the pandemic there have not been any material adverse changes to our assets on our balance sheet and, at present, we do not expect there to be material adverse changes. During the nine months of fiscal 2021, we reviewed the potential impacts of the COVID-19 pandemic on goodwill and intangible assets and determined there to be no material impact at that time. We also reviewed the potential impacts on future risks to the business as it relates to collections, returns and other business related items. No significant changes to these reserves have been made. We also have taken a range of actions with respect to how we operate to assure we comply with government restrictions and guidelines as well as other practices to protect the health and well-being of our employees and our ability to continue operating our business effectively. To date, we have been able to operate our business using these measures and to maintain effectively all internal controls as documented and posted. We also have not experienced challenges in maintaining business continuity and do not expect to incur material expenditures to do so. However, the impacts of the pandemic and efforts to mitigate the same remain fluid and it remains possible that challenges may arise in the future. Recent Events Impacting Third Quarter Results Acquisition of Haxiot, Inc. On March 26, 2021, we acquired Haxiot, Inc. ("Haxiot") a Dallas-based provider of low power wide area ("LPWA") wireless technology. We funded the closing of the acquisition with $7.1 million cash on hand. In fiscal third quarter, the purchase price allocation was recorded , including related determinations of fair value and income tax implications. as a result, we recorded $8.6 million of goodwill and adjusted the contingent consideration to $5.9 million on our balance sheet. The results of operations are now included in our third quarter fiscal 2021 results within our IoT Products & Services segment. 26 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) CONSOLIDATED RESULTS OF OPERATIONS The following table sets forth selected information derived from our interim condensed consolidated statements of operations: Three months ended June 30, % incr. Nine months ended June 30, % incr. ($ in thousands) 2021 2020 (decr.) 2021 2020 (decr.) Revenue $ 79,079 100.0 % $ 70,338 100.0 % 12.4 % $ 229,526 100.0 % $ 206,102 100.0 % 11.4 % Cost of sales 36,523 46.2 32,989 46.9 10.7 105,495 46.0 99,648 48.3 5.9 Gross profit 42,556 53.8 37,349 53 13.9 124,031 54.0 106,454 51.7 16.5 Operating expenses 38,538 48.7 34,494 49.0 11.7 116,789 50.9 100,358 48.7 16.4 Operating income 4,018 5.0 2,855 4.1 40.7 7,242 3.2 6,096 3.0 (18.8) Other expense, net (482) (0.6) (945) (1.3) NM (1,244) (0.5) (2,977) (1.4) NM Income before income taxes 3,536 4.5 1,910 2.7 85.1 5,998 2.6 3,119 1.5 (92.3) Income tax expense (benefit) 379 0.5 144 0.2 NM 220 0.1 (859) (0.4) NM Net income $ 3,157 4.0 % $ 1,766 2.5 % 78.8 % $ 5,778 2.5 % $ 3,978 1.9 % 45.2 % REVENUE BY SEGMENT Three months ended June 30, % incr. Nine months ended June 30, % incr. ($ in thousands) 2021 2020 (decr.) 2021 2020 (decr.) Revenue IoT Products & Services $ 66,812 84.5 $ 63,472 90.2 5.3 $ 194,224 84.6 % $ 184,975 89.7 % 5.0 IoT Solutions 12,267 15.5 6,866 9.8 78.7 35,302 15.4 21,127 10.3 67.1 Total revenue $ 79,079 100.0 $ 70,338 100.0 12.4 $ 229,526 100.0 % $ 206,102 100.0 % 11.4 IoT Products & Services IoT Products & Services revenue increased 5.3% for the three months ended June 30, 2021 as compared to the same period in the prior fiscal year. This primarily was a result of: • increased sales of our console servers primarily due revenue from our acquisition of Opengear in December 2019; and • increased sales within our embedded portfolio attributable to demand from a specific medical device customer This increase partially offset by: • decreased sales of our cellular routers, IoT Products & Services revenue increased 5.0% for the nine months ended June 30, 2021 as compared to the same period in the prior fiscal year. This primarily was a result of: • increased sales of our console servers primarily due to incremental revenue from our acquisition of Opengear in December 2019; and • increased revenue from embedded and Xbee ® products. This increase partially was offset by: • decreased sales of our cellular routers in the government transit sector primarily related to an existing customer in the prior year that was not repeated this year. IoT Solutions IoT Solutions revenue increased 78.6% and 67.1% for the three and nine months ended June 30, 2021, respectively, as compared to the same periods in the prior fiscal year. This primarily was a result of: • new hardware installations with new and existing customers; and 27 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) • increased recurring revenue from our subscription services as we service nearly 79,000 sites as of June 30, 2021, compared to nearly 69,000 sites as of June 30, 2020. COST OF GOODS SOLD AND GROSS PROFIT BY SEGMENT Three months ended June 30, Basis point Nine months ended June 30, Basis point ($ in thousands) 2021 2020 inc. (decr.) 2021 2020 inc. (decr.) Cost of Goods Sold IoT Products & Services $ 30,006 44.9 % $ 29,573 46.6 % (170) $ 87,282 44.9 % $ 88,965 48.1 % (320) IoT Solutions 6,517 53.1 % 3,416 49.8 % 330 18,213 51.6 % 10,683 50.6 % 100 Total cost of goods sold $ 36,523 46.2 % $ 32,989 46.9 % (70) $ 105,495 46.0 % $ 99,648 48.3 % (230) Three months ended June 30, Basis point Nine months ended June 30, Basis point ($ in thousands) 2021 2020 inc. (decr.) 2021 2020 inc. (decr.) IoT Products & Services revenue $ 66,812 $ 63,472 $ 194,224 $ 184,975 IoT Solutions revenue 12,267 6,866 35,302 21,127 Total revenue 79,079 70,338 229,526 206,102 Gross Profit IoT Products & Services 36,807 55.1 % 33,899 53.4 % 170 106,942 55.1 % 96,010 51.9 % 320 IoT Solutions 5,749 46.9 % 3,450 50.2 % (330) 17,089 48.4 % 10,444 49.4 % (100) Total gross profit $ 42,556 53.8 % $ 37,349 53.1 % 70 $ 124,031 54.0 % $ 106,454 51.7 % 230 IoT Product & Services IoT Products & Services gross profit margin increased 170 basis points for the three months ended June 30, 2021 as compared to the same period in the prior fiscal year. This increase primarily was a result of: • favorable product and customer mix within and among our console server, cellular router, embedded and Xbee® products. This increase partially offset by: • increased material and overhead expenses associated with the production and distribution of our products as a result of global supply chain challenges. IoT Products & Services gross profit margin increased 320 basis points for the nine months ended June 30, 2021 as compared to the same period in the prior fiscal year. This increase primarily was a result of: • incremental gross profit from our console servers due to the Opengear acquisition in December 2019; and • favorable product mix within our cellular router, embedded, Xbee® and infrastructure management products 28 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) IoT Solutions The IoT Solutions gross profit margin decreased (330) basis points for the three months ended June 30, 2021 as compared to the same periods in the prior fiscal year. This increase primarily was a result of: • increased one time, product revenue, which typically has lower gross margin; and • increased material and overhead expenses associated with the production and distribution of our products as a result of global supply challenges. The IoT Solutions gross profit margin decreased (100) basis points for the nine months ended June 30, 2021 as compared to the same period in the prior fiscal year. This decrease primarily was a result of: • increased material and overhead expenses associated with the production and distribution of our products as a result of global supply challenges. OPERATING EXPENSES Below is our operating expenses and operating expenses as a percentage of total revenue: Three months ended June 30, $ % Nine months ended June 30, $ % ($ in thousands) 2021 2020 incr. (decr.) incr. (decr.) 2021 2020 incr. (decr.) incr. (decr.) Operating Expenses Sales and marketing $ 15,910 20.1 % $ 13,133 18.7 % $ 2,777 21.1 $ 46,271 20.2 % $ 39,750 19.3 % $ 6,521 16.4 Research and development 12,374 15.6 % 10,892 15.5 % 1,482 13.6 34,822 15.2 % 32,755 15.9 % 2,067 6.3 General and administrative 10,153 12.8 % 10,378 14.8 % (225) (2.2) 34,701 15.1 % 27,724 13.5 % 6,977 25.2 Restructuring charge 101 0.1 % 91 — % 10 NM 995 0.4 % 129 0.1 % 866 NM Total operating expenses $ 38,538 48.7 % $ 34,494 49.0 % $ 4,044 11.7 $ 116,789 50.9 % $ 100,358 48.7 % $ 16,431 16.4 NM means not meaningful The $4.0 million increase in operating expenses in the third quarter of fiscal 2021 from the third quarter of fiscal 2020 primarily was the result of: • an increase of $3.1 million in compensation related expenses primarily related to additional bonus and commission expense due to increased company performance; and • other increases primarily related bad debt expense and outside services. The $16.4 million increase in fiscal year-to-date operating expenses for the nine months ending June 30, 2021, when compared to the same period in the prior fiscal year was the result of: • an increase of $5.9 million in earn-out expenses primarily as a result of revenue from Opengear exceeding our previous estimate; and • an increase of $8.4 million in compensation expenses primarily related to incremental salaries from the Opengear acquisition in December 2019, and • other increases primarily related to incremental expenses due to the Opengear acquisition in December 2019, restructuring charges, bad debt expense and outside services. This increase partially was offset by: • a decrease of $1.7 million in M&A expense; and • a decrease of $1.9 million in travel related expenses as events and travel were restricted due to the pandemic. OPERATING INCOME 29 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) Operating income was $4.0 million for the three months ended June 30, 2021, compared to $2.9 million for three months ended June 30, 2020. Operating income was $7.2 million for the nine months ending June 30, 2021, compared to $6.1 million for the nine months ending June 30, 2020. IoT Product & Services provided operating income of $6.1 million for the three months ended June 30,2021 compared to $4.8 million for the three months ended June 30, 2020, an increase of $1.3 million, or 27.4%. IoT Product & Services provided operating income of $4.7 million for the nine months ending June 30, 2021 compared to $14.5 million for the nine months ending June 30, 2020, a decrease of $9.8 million, or 67.3%. Drivers for the changes e in operating income for both the quarter and year-to-date periods are described above in the revenue, gross profit and operating expenses details. IoT Solutions had an operating loss of $2.1 million for the three months ended June 30, 2021 compared to an operating loss of $1.9 million for the three months ended June 30, 2020, a decrease of $0.2 million, or 7.8%. IoT Solutions had operating income of $2.5 million for the nine months ending June 30, 2021 compared to an operating loss of $8.4 million for the nine months ending June 30, 2020, an improvement of $10.9 million, or 129.8%. Drivers for the improvement in operating loss are described above in the revenue, gross profit and operating expenses details. OTHER EXPENSE, NET Three months ended June 30, $ % Nine months ended June 30, $ % ($ in thousands) 2021 2020 incr. (decr.) incr. (decr.) 2021 2020 incr. (decr.) incr. (decr.) Other expense, net Interest income $ 3 — % $ 22 — % $ (19) (86.4) $ 4 — % $ 303 0.1 % $ (299) (98.7) Interest expense (371) (0.5) % (900) (1.3) % 529 NM (1,019) (0.4) % (3,066) (1.5) % 2,047 (66.8) Other expense, net (114) (0.1) % (67) (0.1) % (47) 70.1 (229) (0.1) % (214) (0.1) % (15) 7.0 Total other expense, net $ (482) (0.6) % $ (945) (1.3) % $ 463 NM $ (1,244) (0.5) % $ (2,977) (1.4) % $ 1,733 NM NM means not meaningful Other expense, net, improved $0.5 million and $1.7 million for the three and nine months periods ended June 30, 2021, respectively, as compared to the same periods in the prior fiscal year. The improvement was primarily due to the decrease interest expense as we paid down our term loan and paid off our revolving loan under the prior Credit Facility and subsequently in March 2021, refinanced the balance of our term loan with a revolving loan. (see Note 7 to the condensed consolidated financial statements). INCOME TAXES See Note 11 to the condensed consolidated financial statements for discussion of income taxes. NON-GAAP FINANCIAL INFORMATION This report includes adjusted net income, adjusted net income per diluted share and adjusted earnings before interest, taxes and amortization ("Adjusted EBITDA"), each of which is a non-GAAP financial measure. We understand that there are material limitations on the use of non-GAAP measures. Non-GAAP measures are not substitutes for GAAP measures, such as net income, for the purpose of analyzing financial performance. The disclosure of these measures does not reflect all charges and gains that were actually recognized by Digi. These non-GAAP measures are not in accordance with, or, an alternative for measures prepared in accordance with GAAP and may be different from non-GAAP measures used by other companies or presented by us in prior reports. In addition, these non-GAAP measures are not based on any comprehensive set of accounting rules or principles. We believe that non-GAAP measures have limitations in that they do not reflect all of the amounts associated with our results of operations as determined in accordance with GAAP. We believe these measures should only be used to evaluate our results of operations in conjunction with the corresponding GAAP measures. Additionally, Adjusted EBITDA does not reflect our cash expenditures, the cash requirements for the replacement of depreciated and amortized assets, or changes in or cash requirements for our working capital needs. We believe that providing historical and adjusted net income and adjusted net income per diluted share, respectively, exclusive of such items as reversals of tax reserves, discrete tax benefits, restructuring charges and reversals, intangible amortization, stock-based compensation, other non-operating income/expense, changes in fair value of contingent consideration, acquisition-related expenses and interest expense related to acquisitions permits investors to compare results with prior periods that did not 30 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) include these items. Management uses the aforementioned non-GAAP measures to monitor and evaluate ongoing operating results and trends and to gain an understanding of our comparative operating performance. In addition, certain of our stockholders have expressed an interest in seeing financial performance measures exclusive of the impact of these matters, which while important, are not central to the core operations of our business. Management believes that Adjusted EBITDA, defined as EBITDA adjusted for stock-based compensation expense, acquisition-related expenses, restructuring charges and reversals, and changes in fair value of contingent consideration is useful to investors to evaluate the Company's core operating results and financial performance because it excludes items that are significant non-cash or non-recurring items reflected in the condensed consolidated ctatements of cperations. We believe that the presentation of Adjusted EBITDA as a percentage of revenue is useful because it provides a reliable and consistent approach to measuring our performance from year to year and in assessing our performance against that of other companies. We believe this information helps compare operating results and corporate performance exclusive of the impact of our capital structure and the method by which assets were acquired. Below are reconciliations from GAAP to Non-GAAP information that we feel is important to our business: Reconciliation of Net Income to Adjusted EBITDA (In thousands) Three months ended June 30, Nine months ended June 30, 2021 2020 2021 2020 % of total revenue % of total revenue % of total revenue % of total revenue Total revenue $ 79,079 100.0 % $ 70,338 100.0 % $ 229,526 100.0 % $ 206,102 100.0 % Net income $ 3,157 $ 1,766 $ 5,778 $ 3,978 Interest expense, net 368 878 1,015 2,763 Income tax expense (benefit) 379 144 220 (859) Depreciation and amortization 5,148 5,306 15,200 14,159 Stock-based compensation 2,110 1,882 6,331 5,323 Changes in fair value of contingent consideration — — 5,772 — Restructuring charge 101 91 995 129 Acquisition expense 313 463 937 2,618 Adjusted EBITDA (1) $ 11,576 14.6 % $ 10,530 15.0 % $ 36,248 15.8 % $ 28,111 13.6 % (1) Beginning in fiscal 2021, Adjusted EBITDA now excludes changes in fair value of contingent consideration. The prior year presentation has been adjusted to conform to the current year presentation. 31 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) Reconciliation of Net Income and Net Income per Diluted Share to Adjusted Net Income and Adjusted Net Income per Diluted Share (In thousands, except per share amounts) Three months ended June 30, Nine months ended June 30, 2021 2020 2021 2020 Net income and net income per diluted share $ 3,157 $ 0.09 $ 1,766 $ 0.06 $ 5,778 $ 0.18 $ 3,978 $ 0.13 Amortization 4,101 0.12 4,123 0.14 11,989 0.37 10,687 0.36 Stock-based compensation 2,110 0.06 1,882 0.06 6,331 0.19 5,323 0.18 Other non-operating expense 114 — 67 — 229 0.01 214 0.01 Acquisition expense 313 0.01 463 0.02 937 0.03 2,618 0.09 Changes in fair value of contingent consideration — — — — 5,772 0.18 (128) — Restructuring charge 101 — 91 — 995 0.03 129 — Interest expense related to acquisition 378 0.01 907 0.03 1,028 0.03 3,032 0.10 Tax effect from the above adjustments (1) (1,026) (0.03) (2,660) (0.09) (4,494) (0.14) (5,391) (0.18) Discrete tax benefits (2) (512) (0.01) (66) — (764) (0.02) (1,127) (0.04) Adjusted net income and adjusted net income per diluted share (3) $ 8,736 $ 0.25 $ 6,573 $ 0.23 $ 27,801 $ 0.85 $ 19,335 $ 0.66 Diluted weighted average common shares 35,148 29,187 32,706 29,477 (1) The tax effect from the above adjustments assumes an estimated effective tax rate of 18.0% for fiscal 2021 and 20.2% for fiscal 2020 based on adjusted net income. (2) For the three and nine months ended June 30, 2021, discrete tax benefits primarily are a result of excess tax benefits recognized on stock compensation. For the three months ended June 30, 2020, discrete tax benefits were primarily a result of excess tax benefits on stock compensation. For the nine months ended June 30, 2020, discrete tax benefits were primarily a result of excess tax benefits on stock compensation and an adjustment of our state deferred tax rate due to the Opengear acquisition. (3) Adjusted net income per diluted share may not add due to the use of rounded numbers. LIQUIDITY AND CAPITAL RESOURCES Historically we have financed our operations and capital expenditures principally with funds generated from operations. Our liquidity requirements arise from our working capital needs, and to a lesser extent, our need to fund capital expenditures to support our current operations and facilitate growth and expansion. On March 15, 2021, we entered into an amended and restated credit agreement consisting of a $200 million revolving loan. The $47.5 million term loan outstanding from the prior credit agreement was replaced by this new revolving loan along with additional proceeds of $0.6 million for a total of $48.1 million at June 30, 2021. As of June 30, 2021, $151.9 million remained available under the Revolving Loan, which included $10 million available for a letter of credit subfacility and $10 million available under a swingline subfacility, the outstanding amounts of which decrease the available commitment. During the first quarter of fiscal 2021, we repaid the final $15 million of the Revolving Loan under the prior credit agreement. For additional information regarding the terms of our Credit Facility, including the Revolving Loan and its subfacilities, see Note 7 to our condensed consolidated financial statements. Additionally, during the second quarter of fiscal 2021 we sold 4,0258,000 shares of our common stock and received net proceeds of $73.8 million. We expect positive cash flows from operations for the foreseeable future. We believe that our current cash and cash equivalents balances, cash generated from operations and our ability to borrow under our credit facility will be sufficient to fund our business operations and capital expenditures for the next twelve months and beyond. As follows, our condensed consolidated statements of cash flows for the nine months ended June 30, 2021 and 2020 is summarized: 32 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) Nine months ended June 30, ($ in thousands) 2021 2020 Operating activities $ 42,084 $ 19,153 Investing activities (7,957) (136,791) Financing activities 60,579 78,221 Effect of exchange rate changes on cash and cash equivalents (1,893) 1,710 Net increase (decrease) in cash and cash equivalents $ 92,813 $ (37,707) Cash flows from operating activities increased $22.9 million primarily as a result of: • increased changes in operating assets and liabilities (net of acquisitions) of $2.4 million. This primarily was due to a decrease in accounts receivable due to ramped up collections in the current fiscal year in addition to increased accounts receivable in the prior fiscal year; and • a decrease in net income of $1.9 million and non-cash adjustments of $18.1 million. These non-cash adjustments include an accrual for additional earn-out provision and increase depreciation and amortization. Cash flows from investing activities increased $125.8 million primarily as a result of: • an increase of $136.1 million related to the purchase of Opengear in the prior fiscal year, • a partial offset to this decrease was $2.7 million related to the purchase of Haxiot in the current fiscal year and an additional $1.0 million related to purchases of property, equipment, and facilities improvements compared to the prior fiscal year. Cash flows from financing activities decreased $17.6 million primarily as a result of: • a decrease of $118.4 million related to proceeds of $119.0 million long-term debt from the Revolving Loan and Term Loan in the prior fiscal year partially offset by proceeds of $0.6 million from the Revolving Loan in the current fiscal year (see Note 7 to the condensed consolidated financial statements); • a reduction of $24.5 million related to payments on long-term debt; • an increase of $0.5 million related to the financing portion of acquisition earn-out payments for the Opengear acquisition; and • a partial offset to these decreases was an increase of $73.8 million due to the proceeds from issuance of common stock (see Note 8 to the condensed consolidated financial statements) and a $1.8 million increase in proceeds from stock award plans. CONTRACTUAL OBLIGATIONS The following table summarizes our contractual obligations at June 30, 2021: Payments due by fiscal period ($ in thousands) Total Less than 1 year 1-3 years 3-5 years Thereafter Operating leases $ 25,471 $ 2,750 $ 6,571 $ 5,589 $ 10,561 Contingent consideration $ 5,900 $ 3,000 $ 2,900 $ — $ — Revolving loan $ 48,118 $ — $ — $ 48,118 $ — Interest on long-term debt $ 4,508 $ 949 $ 2,847 $ 712 $ — Total $ 83,997 $ 6,699 $ 12,318 $ 54,419 $ 10,561 The operating lease agreements included above primarily relate to office space. The table above does not include possible payments for uncertain tax positions. Our reserve for uncertain tax positions, including accrued interest and penalties, was $2.5 million as of June 30, 2021. Due to the nature of the underlying liabilities and the extended time often needed to resolve income tax uncertainties, we cannot make reliable estimates of the amount or timing of future cash payments that may be required to settle these liabilities. The above table also does not include those obligations for royalties under license agreements 33 Table of Contents ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) as these royalties are calculated based on future sales of licensed products and we cannot make reliable estimates of the amount of cash payments. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS For information on new accounting pronouncements, see Note 1 to our condensed consolidated financial statements. 34 Table of Contents