SemiLEDs Corp 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Forward Looking Statements This Quarterly Report on Form 10-Q, or this Quarterly Report, contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. All statements other than statements of historical facts contained in this Quarterly Report, including statements regarding the future results of operations of SemiLEDs Corporation, or “we,” “our” or the “Company,” and financial position, strategy and plans, and our expectations for future operations, including the execution of our restructuring plan and any resulting cost savings, are forward-looking statements. Any statements contained herein that are not statements of historical facts may be deemed to be forward-looking statements. The words “believe,” “may,” “should,” “plan,” “potential,” “project,” “will,” “estimate,” “continue,” “anticipate,” “design,” “intend,” “expect” and similar expressions are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and trends that we believe may affect our financial condition, results of operations, strategy, short-term and long-term business operations and objectives, and financial needs. These forward-looking statements are subject to a number of risks, uncertainties and assumptions, and actual results and the timing of certain events could differ materially and adversely from those anticipated or implied in the forward-looking statements as a result of many factors. These factors include, among other things, • Declining cash position. • The ability to retain the $500,000 partial payment of the uncompleted $1.6 million note financing as liquidated damages and the ability to pay a judgment should the court determine that we must repay some or all of the prepayment. • Our ability to improve our liquidity, access alternative sources of funding and obtain additional equity capital or credit when necessary for our operations, the difficulty of which may increase if our common stock is delisted from the NASDAQ Stock Market. • The impact of the COVID-19 pandemic on our business and the business of our customers. • The inability of our suppliers or other contract manufacturers to produce products that satisfy our requirements. • Our ability to implement our cost reduction programs and to execute our restructuring plan effectively. • Our ability to improve our gross margins, reduce our net losses and restore our operations to profitability. • Our ability to successfully introduce new products that we can produce and that customers will purchase in such amounts as to be sufficiently profitable to cover the costs of developing and producing these products, as well as providing us additional net income from operations. • Our ability to effectively develop, maintain and expand our sales and distribution channels, especially in the niche LED markets, including the UV LED and architectural lighting that we focus on. • Our ability to successfully manage our operations in the face of the cyclicality, rapid technological change, rapid product obsolescence, declining average selling prices and wide fluctuations in supply and demand typically found in the LED market. • Competitive pressures from existing and new companies. • Our ability to grow our revenues generated from the sales of our products and to control our expenses. • Loss of any of our key personnel, or our failure to attract, assimilate and retain other highly qualified personnel. • Intellectual property infringement or misappropriation claims by third parties against us or our customers, including our distributor customers. • The failure of LEDs to achieve widespread adoption in the general lighting market, or if alternative technologies gain market acceptance. • The loss of key suppliers or contract manufacturers. • Our ability to effectively expand or upgrade our production facilities or do so in a timely or cost-effective manner. • Difficulty in managing our future growth or in responding to a need to contract operations, and the associated changes to our operations. • Adverse development in those selected markets, including the Netherlands, Taiwan, the United States and China, where our revenues are concentrated, including the impact of the COVID-19 pandemic on customer demand. 16 Table of Contents • Our ability to develop and execute upon a new strategy to exploit the China and India market. • Our ability to resolve pending litigation on favorable terms. • The reduction or elimination of government investment in LED lighting or the elimination of, or changes in, policies in certain countries that encourage the use of LEDs over some traditional lighting technologies. • Our ability to implement our product innovation strategy effectively, particularly in view of the prohibition against our (and/or our assisting others in) making, using, importing, selling and/or offering to sell in the United States our accused products and/or any device that includes an accused product after October 1, 2012 as a result of the injunction agreed to in connection with the Cree Inc., or Cree, litigation. • Loss of customers. • Failure of our strategy of marketing and selling our products in jurisdictions with limited intellectual property enforcement regimes. • Lack of marketing and distribution success by our third-party distributors. • Our customers’ ability to produce and sell products incorporating our LED products. • Our failure to adequately prevent disclosure of trade secrets and other proprietary information. • Ineffectiveness of our disclosure controls and procedures and our internal control over financial reporting. • Our ability to profit from existing and future joint ventures, investments, acquisitions and other strategic alliances. • Impairment of long-lived assets or investments. • Undetected defects in our products that harm our sales and reputation and adversely affect our manufacturing yields. • The availability of adequate and timely supply of electricity and water for our manufacturing facilities. • Our ability to comply with existing and future environmental laws and the cost of such compliance. • The ability of SemiLEDs Optoelectronics Co., Ltd., or Taiwan SemiLEDs, to make dividends and other payments to SemiLEDs Corporation. • Our ability to obtain necessary regulatory approvals to make further investments in Taiwan SemiLEDs. • Our ability to maintain the minimum stockholders’ equity required to remain in compliance with the Nasdaq continued listing requirements necessary to avert delisting of our common stock. • Catastrophic events such as fires, earthquakes, floods, tornados, tsunamis, typhoons, pandemics, wars, terrorist activities and other similar events, particularly if these events occur at or near our operations, or the operations of our suppliers, contract manufacturers and customers. • The effect of the legal system in the People’s Republic of China, or the PRC. • Labor shortages, strikes and other disturbances that affect our operations. • Deterioration in the relations between the PRC and Taiwan governments. • Fluctuations in the exchange rate among the U.S. dollar, the New Taiwan, or NT, dollar, the Japanese Yen and other currencies in which our sales, raw materials and component purchases and capital expenditures are denominated. • The effect of the disclosure requirements under the provisions of the Dodd-Frank Act relating to “conflict minerals,” which could increase our costs and limit the supply of certain metals used in our products and affect our reputation with customers and shareholders. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We have not assumed any obligation to, and you should not expect us to, update or revise these statements because of new information, future events or otherwise. For more information on the significant risks that could affect the outcome of these forward-looking statements, see Item 1A “Risk Factors” in Part I of our Annual Report on Form 10-K for the fiscal year ended August 31, 2019, or the 2019 Annual Report, and those contained in Part II, Item 1A of this Quarterly Report, and other information provided from time to time in our filings with the Securities and Exchange Commission, or the SEC. 17 Table of Contents The following discussion and analysis of our financial condition and results of operations is ba sed upon and should be read in conjunction with the unaudited interim condensed consolidated financial statements and the notes and other information included elsewhere in this Quarterly Report, in our 201 9 Annual Report, and in other filings with the SEC. Company Overview We develop, manufacture and sell light emitting diode (LED) chips and LED components. Our products are used for general lighting applications, including street lights and commercial, industrial, system and residential lighting. Our LED chips may also be used in specialty industrial applications, such as ultraviolet, or UV, curing of polymers, LED light therapy in medical/cosmetic applications, counterfeit detection, LED lighting for horticulture applications, architectural lighting and entertainment lighting. Utilizing our patented and proprietary technology, our manufacturing process begins by growing upon the surface of a sapphire wafer, or substrate, several very thin separate semiconductive crystalline layers of gallium nitride, or GaN, a process known as epitaxial growth, on top of which a mirror-like reflective silver layer is then deposited. After the subsequent addition of a copper alloy layer and finally the removal of the sapphire substrate, we further process this multiple-layered material to create individual vertical LED chips. We package our LED chips into LED components, which we sell to distributors and a customer base that is heavily concentrated in a few select markets, including Taiwan, the United States and China (including Hong Kong). We also sell our “Enhanced Vertical,” or EV, LED product series in blue, white, green and UV in selected markets. We sell our LED chips to packagers or to distributors, who in turn sell to packagers. Our lighting products customers are primarily original design manufacturers, or ODMs, of lighting products and the end‑users of lighting devices. We also contract other manufacturers to produce for our sale certain LED products, and for certain aspects of our product fabrication, assembly and packaging processes, based on our design and technology requirements and under our quality control specifications and final inspection process. We have developed advanced capabilities and proprietary know-how in: • reusing sapphire substrate in subsequent production runs; • optimizing our epitaxial growth processes to create layers that efficiently convert electrical current into light; • employing a copper alloy base manufacturing technology to improve our chip’s thermal and electrical performance; • utilizing nanoscale surface engineering to improve usable light extraction; • developing a LED structure that generally consists of multiple epitaxial layers which are vertically-stacked on top of a copper alloy base; and • developing low cost Chip Scaled Packaging (CSP) technology. These technical capabilities enable us to produce LED chips and LED component products. We believe these capabilities, know-how and partnership should also allow us to reduce our manufacturing costs and our dependence on sapphire, a costly raw material used in the production of sapphire-based LED devices. We were incorporated in the State of Delaware on January 4, 2005 and sold our first LED chips in November 2005. We are a holding company for various wholly and majority owned subsidiaries. SemiLEDs Optoelectronics Co., Ltd., or Taiwan SemiLEDs, is our wholly owned operating subsidiary, where a substantial portion of our assets are held and located, where a portion of our research, development, manufacturing and sales activities take place. Taiwan SemiLEDs owns a 97% equity interest in Taiwan Bandaoti Zhaoming Co., Ltd., formerly known as Silicon Base Development, Inc., which is engaged in the research, development, manufacture, and substantial portion of marketing and sale of LED products, and where most of our employees are based. Key Factors Affecting Our Financial Condition, Results of Operations and Business The following are key factors that we believe affect our financial condition, results of operations and business: • COVID-19 Pandemic. In March 2020, the World Health Organization declared the outbreak of COVID-19 as a pandemic, which continues to spread throughout the world. As a result, and in consideration of the health and well-being of our employees, customers and communities, and in support of efforts to contain the spread of the virus, we have taken several precautionary measures and adjusted our operational needs. Our work places are operating under enhanced measures to ensure the health and safety of our employees, including limiting the visitors coming into our work place and using videoconferencing for meetings when possible. Our business, financial condition, liquidity and operating results have been, and will continue to be, adversely affected by COVID-19 and related restrictions. The conditions caused by the COVID-19 pandemic have adversely affected our customers’ ability or willingness to purchase our products or services, 18 Table of Contents delay ed prospective customers’ purchasing decisions, adversely impact ed our ability to provide or deliver products and on-site services to our customers, delay ed the provisi oning of our offerings, or lengthen ed payment terms, all of which could adversely affect our future sales, operating results and overall financial performance. Our operations have also begun to be negatively affected by a range of external factors related to the COVID-19 pandemic that are not within our control. For example, many cities, counties, states, and even countries have imposed or may impose a wide range of restrictions on our employees, partners and customers physical movement to limit the spread of COVID-19 . Also, some of our suppliers located in China are unable to produce as before, as a result, we have to find substitutes of some raw-materials or new suppliers in Taiwan or other place with higher price, and in the worst case we have had to post pone promised deliver dates. Several customers postponed or cancelled their order because of the delay. To avoid cash shortage due to the pandemic, we applied and received subsidies from the Taiwan government with a promise to not lay off employees or take any actions which could influence employees’ welfare, such as reducing employees’ compensation and salaries or forcing employees to take working days off without pay, until the end of a month when the last installment of subsidy is wired. Our bank also granted us a deferment period for twelve months starting from May 2020. During this period, we do n o t need to pay the monthly payments of the principal but only the interest. However, g iven the ongoing and evolving economic and business impact of the COVID -19 pandemic, we may be required to further revise certain acco unting estimates and judgments which could have a material adverse effect on our financial position and results of operations . • Our ability to raise additional debt, sell additional equity securities and improve our liquidity. We need to improve our liquidity, access alternative sources of funding and obtain additional equity capital or credit when necessary for our operations. However, we may not be able to obtain such debt funding or sell equity securities on terms that are favorable to us, or at all. The raising of additional debt funding by us, if required and available, would result in increased debt service obligations and could result in additional operating and financing covenants, or liens on our assets, that would restrict our operations. The sale of additional equity securities, if required and available, could result in dilution to our stockholders. • Our ability to get chips from other chip suppliers. Our reliance on our chip suppliers exposes us to a number of significant risks, including reduced control over delivery schedules, quality assurance and production costs, lack of guaranteed production capacity or product supply. If our chip suppliers are unable or unwilling to continue to supply our chips at requested quality, quantity, performance and costs, or in a timely manner, our business and reputation could be seriously harmed. Our inability to procure chips from other chip suppliers at the desired quality, quantity, performance and cost might result in unforeseen manufacturing and operations problems. In such events, our customer relationships, business, financial condition and results of operations would be adversely affected. • Industry growth and demand for products and applications using LEDs. The overall adoption of LED lighting devices to replace traditional lighting sources is expected to influence the growth and demand for LED chips and component products and impact our financial performance. We believe the potential market for LED lighting will continue to expand. LEDs for efficient generation of UV light are also starting to gain attention for various medical, germicidal and industrial applications. Since a substantial portion of our LED chips, LED components and our lighting products are used by end- users in general lighting applications and specialty industrial applications such as UV curing, medical/cosmetic, counterfeit detection, horticulture, architectural lighting and entertainment lighting the adoption of LEDs into these applications should have a strong impact on the demand of LED chips generally and, as a result, for our LED chips, LED components and LED lighting products. • Average selling price of our products. The average selling price of our products may decline for a variety of factors, including prices charged by our competitors, the efficacy of our products, our cost basis, changes in our product mix, the size of the order and our relationship with the relevant customer, as well as general market and economic conditions. Competition in the markets for LED products is intense, and we expect that competition will continue to increase, thereby creating a highly aggressive pricing environment. For example, some of our competitors have in the past reduced their average selling prices, and the resulting competitive pricing pressures have caused us to similarly reduce our prices, accelerating the decline in our revenues and the gross margin of our products. When prices decline, we must also write down the value of our inventory. Furthermore, the average selling prices for our LED products have typically decreased over product life cycles. Therefore, our ability to continue to innovate and offer competitive products that meet our customers’ specifications and pricing requirements, such as higher efficacy LED products at lower costs, will have a material influence on our ability to improve our revenues and product margins, although in the near term the introduction of such higher performance LED products may further reduce the selling prices of our existing products or render them obsolete. 19 Table of Contents • Changes in our product mix. We anticipate that our gross margins will continue to fluctuate from period to period as a result of the mix of products that we sell and the utilizat ion of our manufacturing capacity in any given period, among other things. For example, we continue to pursue opportunities for profitable growth in areas of our business where we see the best opportunity to develop as an end-to-end LED module solution sup plier by providing our customers with high quality, flexible and more complete LED system solution, customer technical support and LED module/system design, as opposed to just providing customers with individual components. As a strategic plan, we have pla ced greater emphasis on the sales of LED components rather than the sales of LED chips where we have been forced to cut pri ces on older inventory. Steady growth of the module product and the continued commercial sales of our UV LED product are expected to improve our gross margin, operating results and cash flows. In addition, we have adjusted the lower-priced LED components strategy as appropriate. We hav e adopted a strategy to adjust our product mix by exiting certain high volume but low unit selling price product lines in response to the general trend of lower average selling prices for products that have been available in the market for some time. Howev er, as we expand and diversify our product offerings and with varying average selling prices, or execute new business initiatives, a change in the mix of products that we sell in any given period may increase volatility in our revenues and gross margin fro m period to period. • Our ability to reduce cost to offset lower average selling prices. Competitors may reduce average selling prices faster than our ability to reduce costs, and competitive pricing pressures may accelerate the rate of decline of our average selling prices. To address increased pricing pressure, we have improved and increased our production yields to reduce the per-unit cost of production of our products. However, such cost savings currently have limited impact on our gross profit, as we currently suffer from the underutilization of manufacturing capacity and must absorb a high level of fixed costs, such as depreciation. While we intend to focus on managing our costs and expenses, over the long term we expect to be required to invest substantially in LED component products development and production equipment if we are to grow. • Our ability to continue to innovate. As part of our growth strategy, we plan to continue to be innovative in product design, to deliver new products and to improve our manufacturing efficiencies. Our continued success depends on our ability to develop and introduce new, technologically advanced and lower cost products, such as more efficient, better performance LED component products. If we are unable to introduce new products that are commercially viable and meet rapidly evolving customer requirements or keep pace with evolving technological standards and market developments or are otherwise unable to execute our product innovation strategy effectively, we may not be able to take advantage of market opportunities as they arise, execute our business plan or be able to compete effectively. To differentiate ourselves from other LED package manufacturers, we are putting more resources towards module and system design. Along with our technical know-how in the chip and package sectors, we are able to further integrate electrical, thermal and mechanical manufacturing resources to provide customers with one-stop system services. Services include design, prototyping, OEM and ODM. Key markets that we intend to target at the system end include different types of UV LED industrial printers, aquarium lighting, medical applications, niche imaging light engines, horticultural lighting and high standard commercial lighting. The modules are designed for various printing, curing, and PCB exposure industrial equipments, providing uncompromised reliability and optical output. Our LED components include different sizes and wattage to accommodate different demands in the LED market. • General economic conditions and geographic concentration. Many countries including the United States and the European Union (the “E.U.”) members have instituted, or have announced plans to institute, government regulations and programs designed to encourage or mandate increased energy efficiency in lighting. These actions include in certain cases banning the sale after specified dates of certain forms of incandescent lighting, which are advancing the adoption of more energy efficient lighting solutions such as LEDs. When the global economy slows or a financial crisis occurs, consumer and government confidence declines, with levels of government grants and subsidies for LED adoption and consumer spending likely to be adversely impacted. Our revenues have been concentrated in a few select markets, including the Netherlands, Taiwan, the United States, Germany, Japan and India. Given that we are operating in a rapidly changing industry, our sales in specific markets may fluctuate from quarter to quarter. Therefore, our financial results will be impacted by general economic and political conditions in such markets. For example, the aggressive support by the Chinese government for the LED industry through significant government incentives and subsidies to encourage the use of LED lighting and to establish the LED ‑ sector companies has resulted in production overcapacity in the market and intense competition. Furthermore, due to Chinese package manufacturers increasing usage of domestic LED chips, prices are increasingly competitive, leading to Chinese manufacturers growing market share in the global LED industry. In addition, we have historically derived a significant portion of our revenues from a limited number of customers. Some of our largest customers and what we produce/have produced for them have changed from quarter to quarter primarily as a result of the timing of discrete, large project‑based purchases and broadening customer base, among other things. For the three and the nine months ended May 31, 2020, sales to our three largest customers, in the aggregate, accounted for 61% and 59% of our revenues, respectively. 20 Table of Contents • Intellectual property issues. Competitors of ours and other third parties have in the past and will likely from time to time in the future a llege that our products infringe on their intellectual property rights. Defending against any intellectual property infringement claims would likely result in costly litigation and ultimately may lead to our not being able to manufacture, use or sell produ cts found to be infringing. In June 2012, we settled an intellectual property dispute involving Cree. We agreed to dismiss amended complaints filed against each other without prejudice. We agreed to the entry of a permanent injunction that was effective Oc tober 1, 2012 that precludes us from (and/or from assisting others in) making, using, importing, selling and/or offering to sell in the United States certain accused products and/or any device that includes such an accused product after that date and to pa yment of a settlement fee for past damages. All remaining claims between Cree and us were withdrawn without prejudice, with each retaining the right to assert them in the future. However, other third parties may also assert infringement claims against our customers with respect to our products, or our customers’ products that incorporate our technologies or products. Any such legal action or the threat of legal action against us, or our customers, could impair such customers’ continued demand for our produc ts. This could prevent us from growing or even maintaining our revenues, or cause us to incur additional costs and expenses, and adversely affect our financial condition and results of operations. • Cash position. Our cash and cash equivalents increased to $2.5 million as of May 31, 2020 primarily due to the combination of our proceeds from borrowing of long-term debt and the issuance of common stock in a private placement, offset by net cash used in operating activities. We have implemented actions to accelerate operating cost reductions and improve operational efficiencies. The plan is further enhanced through the fabless business model in which we implemented certain workforce reductions and are exploring the opportunities to sell certain equipment related to the manufacturing of vertical LED chips, in order to reduce the idle capacity charges, minimize our research and development activities associated with chips manufacturing operation. We believe we will be able to generate positive cash inflows through the restructuring of our chip operation and the significant ongoing cost savings in the form of reduced payroll and research and development activities. The shipment of our new module product and the continued commercial sales of our UV LED product are expected to grow steadily. Based on our current financial projections, we believe that we will have sufficient sources of liquidity to fund our operations and capital expenditure plans for the next 12 months. Critical Accounting Policies and Estimates On September 1, 2019, we adopted ASU No. 2018-13, Fair Value Measurement (Topic 820) Disclosure Framework – Change to the Disclosure Requirements for Fair Value Measurement. The amendments in this Update modify the disclosure requirements of fair value measurements in Topic 820, Fair Value Measurement, based on the concepts in the Concepts Statement, including the consideration of costs and benefits. There was no material impact on our consolidated financial position, results of operations or cash flows due to the adoption. On September 1, 2019, we adopted ASU No. 2018-07, Compensation – Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting. The amendments specify that Topic 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations by issuing share-based payment awards. The amendments also clarify that Topic 718 does not apply to share-based payments used to effectively provide (1) financing to the issuer or (2) awards granted in conjunction with selling goods or services to customers as part of a contract accounted for under Topic 606, Revenue from Contracts with Customers. There was no material impact on our consolidated financial position, results of operations or cash flows due to the adoption. Effective September 1, 2019, we adopted, without restating comparatives, ASC 842, Leases, which is intended to improve financial reporting on leasing transactions. This standard requires a lessee to record on the balance sheet the assets and liabilities for the rights and obligations created by lease terms of more than 12 months. As of September 1 2019, we recognized $307 thousand of lease right of use Asset and of lease liability; and there was no material impact on our consolidated financial results of operations or cash flows due to the adoption. Except as described above, there have been no material changes in the matters for which we make critical accounting policies and estimates in the preparation of our unaudited interim condensed consolidated financial statements for the nine months ended May 31, 2020 as compared to those disclosed in our 2019 Annual Report. 21 Table of Contents Exchange Rate Information We are a Delaware corporation and, under SEC requirements, must report our financial position, results of operations and cash flows in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. At the same time, our subsidiaries use the local currency as their functional currency. For example, the functional currency for Taiwan SemiLEDs is the NT dollar. The assets and liabilities of the subsidiaries are, therefore, translated into U.S. dollars at exchange rates in effect at each balance sheet date, and income and expense accounts are translated at average exchange rates during the period. The resulting translation adjustments are recorded to a separate component of accumulated other comprehensive income (loss) within equity. Any gains and losses from transactions denominated in currencies other than their functional currencies are recognized in the consolidated statements of operations as a separate component of other income (expense). Due to exchange rate fluctuations, such translated amounts may vary from quarter to quarter even in circumstances where such amounts have not materially changed when denominated in their functional currencies. The translations from NT dollars to U.S. dollars were made at the exchange rates as set forth in the statistical release of the Bank of Taiwan. On May 31, 2020, the exchange rate was 30.02 NT dollars to one U.S. dollar. On July 7, 2020, the exchange rate was 29.55 NT dollars to one U.S. dollar. No representation is made that the NT dollar or U.S. dollar amounts referred to herein could have been or could be converted into U.S. dollars or NT dollars, as the case may be, at any particular rate or at all. Results of Operations Three Months Ended May 31, 2020 Compared to the Three Months Ended May 31, 2019 Three Months Ended May 31, 2020 May 31, 2019 % of % of Change Change $ Revenues $ Revenues $ % (in thousands) LED chips $ 11 1 % $ 7 — % $ 4 57 % LED components 929 59 % 1,275 73 % (346 ) (27 ) % Lighting products 153 10 % 152 9 % 1 1 % Other revenues (1) 476 30 % 311 18 % 165 53 % Total revenues, net 1,569 100 % 1,745 100 % (176 ) (10 ) % Cost of revenues 1,153 73 % 1,405 81 % (252 ) (18 ) % Gross profit $ 416 27 % $ 340 19 % $ 76 22 % (1) Other includes primarily revenues attributable to the sale of epitaxial wafers, scraps and raw materials and the provision of services. Revenues, net Our revenues decreased by 10% to $1.6 million for the three months ended May 31, 2020 from $1.7 million for the three months ended May 31, 2019. The $176 thousand decrease in revenues reflects a $346 thousand decrease in revenues attributable to sales of LED components, offset partially by a $165 thousand increase in other revenues. Revenues attributable to the sales of our LED chips were $11 thousand and $7 thousand, respectively, of our revenues for the three months ended May 31, 2020 and 2019, primarily due to lower volume sold for the LED chips. We have adopted a strategy to adjust our product mix by exiting certain high volume but low unit selling price product lines in response to the general trend of lower average selling prices for products that have been available in the market for some time and to focus on profitable products. Revenues attributable to the sales of our LED components represented 59% and 73% of our revenues for the three months ended May 31, 2020 and 2019, respectively. The decrease in revenues attributable to sales of LED components was primarily due to the declining demand, offset in part by a higher average selling price for the UV LED product, which we particularly focus on within the niche LED markets. Revenues attributable to the sales of lighting products represented 10% and 9% of our revenues for the three months ended May 31, 2020 and 2019, respectively. Revenues attributable to the sales of lighting products were slightly higher for the three months ended May 31, 2020 primarily due to higher volumes sold. 22 Table of Contents Revenues attributable to other revenues represented 30% and 18% of our revenues for t he three months ended May 31, 2020 and 2019, respectively. The $1 65 thousand in crease in other revenues reflects a n $ 88 thousand in crease in the sale of raw material s , and a $77 thousand increase in the provision of services . Cost of Revenues Our cost of revenues decreased by 18% from $1.4 million for the three months ended May 31, 2019 to $1.2 million for the three months ended May 31, 2020. The decrease in cost of revenues was primarily due to the effort of focusing on profitable products and services. Gross Profit Our gross profit increased from $340 thousand for the three months ended May 31, 2019 to $416 thousand for the three months ended May 31, 2020. Our gross margin percentage increased from 19% to 27% for the three months ended May 31, 2020 as a consequence of the focusing on profitable products as more fully described above. Operating Expenses Three Months Ended May 31, 2020 May 31, 2019 % of % of Change Change $ Revenues $ Revenues $ % (in thousands) Research and development $ 375 24 % $ 444 26 % $ (69 ) (16 ) % Selling, general and administrative 782 50 % 597 34 % 185 31 % Total operating expenses $ 1,157 74 % $ 1,041 60 % $ 116 11 % Research and development Our research and development expenses were $375 thousand and $444 thousand for the three months ended May 31, 2020 and 2019, respectively. The decrease was primary due to a $79 thousand decrease in materials and supplies used for our new products, offset partially by increases in depreciation and amortization expense and various other expenses. Selling, general and administrative Our selling, general and administrative expenses increased from $597 thousand for the three months ended May 31, 2019 to $782 thousand for the three months ended May 31, 2020. The increase was mainly attributable to a $210 thousand increase in professional services fee and a $50 thousand increase in insurance fees, offset partially by a decrease in payroll and stock based compensation. Other Income (Expenses) Three Months Ended May 31, 2020 May 31, 2019 % of % of $ Revenues $ Revenues (in thousands) Interest expenses, net $ (95 ) (6 ) % $ (74 ) (4 ) % Other income, net 270 17 % 94 5 % Foreign currency transaction gain (loss), net 57 4 % (177 ) (10 ) % Total other income (expenses), net $ 232 15 % $ (157 ) (9 ) % Interest expenses, net The increase in interest expenses, net was primarily due to the increase in debt balance, resulting from issuance of $2 million of convertible notes in December 2019. Other income, net Other income, net increase from $94 thousand for the three months ended May 31, 2019 to $270 thousand for the three months ended May 31, 2020, primarily due to a financial subsidy from the Taiwan government for the economic impact resulting from the COVID-19 pandemic. 23 Table of Contents Foreign currency transaction loss , net We recognized a net foreign currency transaction gain of $ 57 thousand and a loss of $ 177 thousand for the thre e months ended May 31 , 20 20 and 201 9 , respectively , primarily due to the depreciation of the U.S. dollar against the NT dollar from bank deposits and accounts receivables. Income Tax Expense Our effective tax rate is expected to be approximately zero for fiscal 2020 and was zero for fiscal 2019, since Taiwan SemiLEDs incurred losses, and because we provided a full valuation allowance on all deferred tax assets, which consisted primarily of net operating loss carryforwards and foreign investment loss. On December 22, 2017, the U.S. Tax Cuts and Jobs Act was adopted, which among other effects, reduced the U.S. federal corporate income tax rate to 21% from 34% (or 35% in certain cases) beginning in 2018, requires companies to pay a one-time transition tax on certain unrepatriated earnings from non-U.S. subsidiaries that is payable over eight years, makes the receipt of future non-U.S. sourced income of non-U.S. subsidiaries tax-free to U.S. companies and creates a new minimum tax on the earnings of non-U.S. subsidiaries relating to the parent’s deductions for payments to the subsidiaries. Net Gain Attributable to Noncontrolling Interests Three Months Ended May 31, 2020 May 31, 2019 % of % of $ Revenues $ Revenues (in thousands) Net gain attributable to noncontrolling interests $ 4 — % $ 1 — % We recognized net gain attributable to non-controlling interests of $4 thousand and $1 thousand for the three months ended May 31, 2020 and 2019, respectively, which was attributable to the share of the net losses of Taiwan Bandaoti Zhaoming Co., Ltd held by the remaining non-controlling holders. As of May 31, 2020 and 2019, non-controlling interests represented 3.25% and 3.29% equity interest, respectively, in Taiwan Bandaoti Zhaoming CO., Ltd. Nine months Ended May 31, 2020 Compared to the Nine months Ended May 31, 2019 Nine Months Ended May 31, 2020 May 31, 2019 % of % of Change Change $ Revenues $ Revenues $ % (in thousands) LED chips $ 55 1 % $ 91 2 % $ (36 ) (40 ) % LED components 2,810 60 % 3,392 78 % (582 ) (17 ) % Lighting products 355 8 % 466 11 % (111 ) (24 ) % Other revenues (1) 1,449 31 % 398 9 % 1,051 264 % Total revenues, net 4,669 100 % 4,347 100 % 322 7 % Cost of revenues 3,187 68 % 4,224 97 % (1,037 ) (25 ) % Gross profit $ 1,482 32 % $ 123 3 % $ 1,359 1,105 % (1) Other includes primarily revenues attributable to the sale of epitaxial wafers, scraps and raw materials and the provision of services. Revenues, net Our revenues increased by 7% from $4.3 million for the nine months ended May 31, 2019 to $4.7 million for the nine months ended May 31, 2020. The $322 thousand increase in revenues reflects a $1.1 million increase in revenues attributable to other revenues, offset partially by a $36 thousand decrease in revenues attributable to sales of LED chips, a $582 thousand decrease in sales of LED components, and a $111 thousand decrease in revenues attributable to sales of lighting products. 24 Table of Contents Revenues attributable to the sales of our LED chips represented 1 % and 2 % of our revenues for the nine months ended May 31 , 20 20 and 20 19 , r espectively. The dec rease of 40 % in revenues attributable to sales of L ED chips was a result of a decrease in the volume of LED chips sold, offset slightly by a higher average selling price, primarily due to our strategic plan to place greater emphasis on the sales of LED com ponents rather than the sales of LED chips. Revenues attributable to the sales of our LED components represented 60% and 78% of our revenues for the nine months ended May 31, 2020 and 2019, respectively. The decrease in revenues attributable to sales of LED components was primarily due to lower volumes sold for the UV LED product, which we particularly focus on within the niche LED markets. Revenues attributable to the sales of lighting products represented 8% and 11% of our revenues for the nine months ended May 31, 2020 and 2019, respectively. Revenues attributable to the sales of lighting products was $111 thousand lower for the nine months ended May 31, 2020 primarily due to a slowdown in demand on LED luminaries and retrofits and fewer non-recurring project-based orders for LED lighting products compared to the nine months ended May 31, 2019. Revenues attributable to other revenues represented 31% and 9% of our revenues for the nine months ended May 31, 2020 and 2019, respectively. The increase in revenues attributable to other revenues was primarily due to the provision of services and the sale of raw materials. Cost of Revenues Our cost of revenues decreased by 25% from $4.2 million for the nine months ended May 31, 2019 to $3.2 million for the nine months ended May 31, 2020. The decrease in cost of revenues was primarily due to the effort of focusing on profitable products and services. Gross Profit Our gross profit increased from $123 thousand for the nine months ended May 31, 2019 to a gross profit of $1.5 million for the nine months ended May 31, 2020. Our gross margin percentage was 32% for the nine months ended May 31, 2020, as compared to 3% for the nine months ended May 31, 2019 as a consequence of the effort of focusing on profitable products as more fully described above Operating Expenses Nine Months Ended May 31, 2020 May 31, 2019 % of % of Change Change $ Revenues $ Revenues $ % (in thousands) Research and development $ 1,112 24 % $ 1,076 25 % $ 36 3 % Selling, general and administrative 2,141 46 % 1,973 45 % 168 9 % Gain on disposals of long-lived assets, net (79 ) (2 ) % (288 ) (7 ) % 209 (73 ) % Total operating expenses $ 3,174 67 % $ 2,761 63 % $ 413 — % Research and development Our research and development expenses were $1.1 million and $1.1 million for the nine months ended May 31, 2020 and 2019, respectively. The increase was primary due to a $37 thousand increase in materials and supplies used for our new products and a $9 thousand in depreciation and amortization expense, offset partially by decreases in payroll and compensation. Selling, general and administrative Our selling, general and administrative expenses increased from $2.0 million for the nine months ended May 31, 2019 to $2.1 million for the nine months ended May 31, 2020. The increase was mainly attributable to a $244 thousand increase in professional service fees, offset partially by decreases in payroll and stock based compensation and in various expenses. 25 Table of Contents G ain on dis pos al of long-lived assets, net We recognized a net gain of $79 thousand and $288 thousand on the disposal of long-lived assets for the nine months ended May 31, 2020 and 2019, respectively. Due to the excess capacity charges that we have experienced for the last few years, considering the risk of technological obsolescence and according to the production plan built based on our sales forecast, we disposed of certain of our idle equipment. Other Income (Expenses) Nine Months Ended May 31, 2020 May 31, 2019 % of % of $ Revenues $ Revenues (in thousands) Gain on disposal of investment $ 634 14 % $ — — % Interest expenses, net (273 ) (5 ) % (115 ) (2 ) % Other income, net 594 13 % 48 1 % Foreign currency transaction gain, net 256 5 % 20 — % Total other income (expenses), net $ 1,211 26 % $ (47 ) (1 ) % Gain on disposal of investment We recognized a gain of $634 thousand for the nine months ended May 31, 2020. On November 27, 2019, we entered into a stock purchase agreement to sell all of the outstanding shares of our Hong Kong Subsidiary, Semileds International Corporation Limited, and its wholly owned subsidiary Xuhe Guangdian Co Ltd for $100,000 and an additional $40,000 for the transaction cost. The $140,000 was fully received in November 2019, and the transaction was approved by the authority and closed in January 2020. Interest expenses, net The increase in interest expenses, net was primarily due to the increase in debt balance, resulting from issuance of $2 million of convertible notes in December 2019, and our entry into an aggregate amount of $3.2 million loan of agreements in January 8, 2019, with each of our Chairman and Chief Executive Officer and our largest shareholder. Other income, net Other income for the nine months ended May 31, 2020 primarily consists of government subsidy for the COVID-19 pandemic impact and rental income from the lease of spare space in our Hsinchu building. Other expenses for the nine months ended May 31, 2019 consists primarily of rental income from the lease of spare space in our Hsinchu building, net of related depreciation charge, and offset by the settlement of a lawsuit with Epistar. Foreign currency transaction gain, net We recognized net foreign currency transaction gain of $256 thousand and $20 thousand for the nine months ended May 31, 2020 and 2019, respectively, primarily due to the depreciation of the U.S. dollar against the NT dollar from bank deposits and accounts receivables held by Taiwan SemiLEDs and Taiwan Bandaoti Zhaoming Co., Ltd. in currency other than the functional currency of such subsidiaries. Income Tax Expense Our effective tax rate is expected to be approximately zero for fiscal 2020 and was zero for fiscal 2019, since Taiwan SemiLEDs incurred losses, and because we provided a full valuation allowance on all deferred tax assets, which consisted primarily of net operating loss carryforwards and foreign investment loss. On December 22, 2017, the U.S. Tax Cuts and Jobs Act was adopted, which among other effects, reduced the U.S. federal corporate income tax rate to 21% from 34% (or 35% in certain cases) beginning in 2018, requires companies to pay a one-time transition tax on certain unrepatriated earnings from non-U.S. subsidiaries that is payable over eight years, makes the receipt of future non-U.S. sourced income of non-U.S. subsidiaries tax-free to U.S. companies and creates a new minimum tax on the earnings of non-U.S. subsidiaries relating to the parent’s deductions for payments to the subsidiaries. 26 Table of Contents Net Loss Attributable to Noncontrolling Interests Nine Months Ended May 31, 2020 May 31, 2019 % of % of $ Revenues $ Revenues (in thousands) Net gain (loss) attributable to noncontrolling interests $ 1 — % $ (1 ) — We recognized net gain attributable to non-controlling interests of $1 thousand and net loss of $1 thousand for the nine months ended May 31, 2020 and 2019, respectively, which was attributable to the share of the net losses of Taiwan Bandaoti Zhaoming Co., Ltd held by the remaining non-controlling holders. As of May 31, 2020 and 2019, non-controlling interests represented 3.25% and 3.29% equity interest, respectively, in Taiwan Bandaoti Zhaoming CO., Ltd. Liquidity and Capital Resources As of May 31, 2020 and August 31, 2019, we had cash and cash equivalents of $2.5 million and $1.4 million, respectively, which were predominately held in U.S. dollar denominated demand deposits and/or money market funds. As of July 7, 2020, we had no available credit facility. Our long-term debt, which consisted of NT dollar denominated long-term notes convertible unsecured promissory notes, and loans from our Chairman and our largest shareholder, totaled $7.6 million and $6.4 million as of May 31, 2020 and August 31, 2019, respectively. Our NT dollar denominated long-term notes, totaled $3.0 million and $3.2 million as of May 31, 2020 and August 31, 2019, respectively. These long-term notes consisted of two loans which we entered into on July 5, 2019, with aggregate amounts of $3.2 million (NT$100 million). The first loan originally for $2.0 million (NT$62 million) has an annual floating interest rate equal to the NTD base lending rate plus 0.64% (or 1.465% currently), and was exclusively used to repay the existing loans. The second loan originally for $1.2 million (NT$38 million) has an annual floating interest rate equal to the NTD base lending rate plus 1.02% (or 1.845% currently) and is available for operating capital. These loans are secured by an $83 thousand (NT$2.5 million) security deposit and a first priority security interest on the Company’s headquarters building. Due to the impact of the COVID-19 pandemic, the bank agreed to give us a deferment period for twelve months starting from May 2020. During this period, we don’t need to pay the monthly payments of the principal but only the interest. • Starting from May 2021, the first note payable requires monthly payments of principal in the amount of $25 thousand plus interest over the 74-month term of the note with final payment to occur in July 2027 and, as of May 31, 2020, our outstanding balance on this note payable was approximately $1.9 million. • Starting from May 2021, the second note payable requires monthly payments of principal in the amount of $15 thousand plus interest over the 74-month term of the note with final payment to occur in July 2027 and, as of May 31, 2020, our outstanding balance on this note payable was approximately $1.1 million. Property, plant and equipment pledged as collateral for our notes payable were $3.6 million and $3.7 million as of May 31, 2020 and August 31, 2019, respectively. On January 8, 2019, we entered into loan agreements with each of our Chairman and Chief Executive Officer and our largest shareholder, with aggregate amounts of $3.2 million, and an annual interest rate of 8%. All proceeds of the loans were exclusively used to return the deposit to Formosa Epitaxy Incorporation in connection with the proposed sale of our headquarters building pursuant to the agreement dated December 15, 2015. We are required to repay the loans of $1.5 million on January 14, 2021 and $1.7 million on January 22, 2021, respectively, unless the loans are sooner accelerated pursuant to the loan agreements. As of May 31, 2020 and August 31, 2019, these loans totaled $3.2 million. The loans are secured by a second priority security interest on our headquarters building. On December 6, 2019 and on December 10, 2019, we issued convertible unsecured promissory notes to each of our Chairman and Chief Executive Officer and our largest shareholder (the “Holders”), with a principal sum of $2 million and an annual interest rate of 3.5%. Principal and accrued interest shall be due on demand by the Holders on and at any time after May 30, 2021 (the “Maturity Date”). The outstanding principal and unpaid accrued interest of the Notes may be converted into our Common Stock based on a conversion price of $3 dollars per share, at the option of the Holders any time from the date of the Notes. On May 25, 2020, the Holders each converted $300 thousand of notes into 100,000 shares of our Common stock. As of May 31, 2020, the principal of these notes totaled $1.4 million. 27 Table of Contents We have incurred significant losses since inception, including net losses attributable to SemiLEDs sto ckholders of $ 3. 6 million and $ 3.0 million during the years ended August 31, 2019 and 201 8, respectively. Net cash used in operating activities for the year ended August 31, 2019 was $3.5 million. As of August 31, 20 19, we had cash and cash equivalents of $1.4 million. We have undertaken actions to decrease losses incurred and implemented cost reduction programs in an effort to transform the Company into a profitable operation. In addition we are planning to issue con vertible notes to our major stockholders and may issue additional equity. Based on our current financial projections and assuming the successful implementation of our liquidity plans, we believe that we will have sufficient sources of liquidity to fund our operations and capital expenditure plans for the next 12 months. However, there can be no assurances that our planned activities will be successful in raising additional capital, reducing losses and preserving cash. If we are not able to generate positive cash flows from operations, we may need to consider alternative financing sources and seek additional funds through public or private equity financings or from other sources, or refinance our indebtedness, to support our working capital requirements or for other purposes. There can be no assurance that additional debt or equity financing will be available to us or that, if available, such financing will be available on terms favorable to us. Cash Flows The following summary of our cash flows for the periods indicated has been derived from our unaudited interim condensed consolidated financial statements, which are included elsewhere in this Quarterly Report (in thousands): Nine Months Ended May 31, 2020 May 31, 2019 Net cash used in operating activities $ (786 ) $ (2,874 ) Net cash used in investing activities $ (161 ) $ (2,571 ) Net cash provided by financing activities $ 2,419 $ 2,951 Cash Flows Used In Operating Activities Net cash used in operating activities for the nine months ended May 31, 2020 was $786 thousand while net cash used in operating activities for the nine months ended May 31, 2019 was $2.9 million. Cash flows used in operating activities for the nine months ended May 31, 2020 was $2.1 million less, primary attributable to a decrease in net loss. Cash Flows Used In Investing Activities Net cash used in investing activities for the nine months ended May 31, 2020 was $161 thousand, consisting primarily of $226 thousand of the purchases of machinery and equipment and $14 thousand of payments for development of intangible assets, offset in part by proceeds from sales of machinery and equipment. Net cash used in investing activities for the nine months ended May 31, 2019 was $2.6 million, consisting primarily of the return of $3 million to Epistar and $73 thousand of purchases of machinery and equipment, offset in part by $505 thousand of proceeds from sales of machinery and equipment. Cash Flows Provided by Financing Activities Net cash provided by financing activities for the nine months ended May 31, 2020 was $2.4 million, consisting primarily of $2 million of proceeds from convertible notes, and $700 thousand of issuance of common stocks, offset in part by the repayments on long-term debt. Net cash provided by financing activities for the nine months ended May 31, 2019 was $3.0 million, consisting primarily of $3.2 million of proceeds from Chairman and shareholder loans, offset in part by the repayments on long-term notes. 28 Table of Contents Capital Expenditures We had capital expenditures of $226 thousand and $73 thousand for the nine months ended May 31, 2020 and 2019, respectively. Our capital expenditures consisted primarily of the purchases of machinery and equipment, construction in progress, prepayments for our manufacturing facilities and prepayments for equipment purchases. We expect to continue investing in capital expenditures in the future as we expand our business operations and invest in such expansion of our production capacity as we deem appropriate under market conditions and customer demand. However, in response to controlling capital costs and maintaining financial flexibility, our management continues to monitor prices and, consistent with its existing contractual commitments, may decrease further its activity level and capital expenditures as appropriate. Off-Balance Sheet Arrangements As of May 31, 2020, we did not engage in any off-balance sheet arrangements. We do not have any interests in variable interest entities. Item 3. Quantitative and Qualitative Disclosures About Market Risk Not applicable.