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Item 2. Management’s Discussion and Analysis

2022-02-08 compared with 2021-11-09 · 181 added, 83 removed, 205 unchanged (56% of the section changed)

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Federal government shutdown or extended continuing resolution, effects of continued geopolitical unrest and regional conflicts, competition, changes in technology and methods of marketing, delays in completing engineering and manufacturing programs, changes in customer order patterns, changes in product mix, continued success in technological advances and delivering technological innovations, changes in, or in the U.S.

Government’s interpretation of, federal export control or procurement rules and regulations, changes in, or in the interpretation or enforcement of environmental rules and regulations, market acceptance of the Company's products, shortages in or delays in receiving components, production delays or unanticipated expenses due to performance quality issues with outsourced components, inability to fully realize the expected benefits from acquisitions, restructurings and value creation initiatives such as 1MPACT, or delays in realizing such benefits, challenges in integrating acquired businesses and achieving anticipated synergies, increases in interest rates, changes to industrial security and cyber-security regulations and requirements, changes in tax rates or tax regulations, changes to interest rate swaps or other cash flow hedging arrangements, changes to generally accepted accounting principles, difficulties in retaining key employees and customers, unanticipated costs under fixed-price service and system integration engagements, and various other factors beyond our control.

Government’s interpretation of, federal export control or procurement rules and regulations, changes in, or in the interpretation or enforcement of environmental rules and regulations, market acceptance of the Company's products, shortages in or delays in receiving components, production delays or unanticipated expenses due to performance quality issues with outsourced components, inability to fully realize the expected benefits from acquisitions, restructurings and value creation initiatives such as 1MPACT, or delays in realizing such benefits, challenges in integrating acquired businesses and achieving anticipated synergies, effects of shareholder activism, increases in interest rates, changes to industrial security and cyber-security regulations and requirements, changes in tax rates or tax regulations, changes to interest rate swaps or other cash flow hedging arrangements, changes to generally accepted accounting principles, difficulties in retaining key employees and customers, unanticipated costs under fixed-price service and system integration engagements, and various other factors beyond our control.

These risks and uncertainties also include such additional risk factors as set forth under Part I-Item 1A (Risk Factors) in the Company's Annual Report on Form 10-K for the fiscal year ended July 2, 2021.

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Additionally, order patterns do not necessarily correlate amongst customers and, therefore, we generally cannot identify sequential quarterly trends.

As of October 1, 2021, we had 2,239 employees.

As of December 31, 2021, we had 2,316 employees.

We employ hardware and software architects and design engineers, primarily engaged in engineering and research and product development activities to achieve our objectives to fully capitalize upon and maintain our technological leads in the high-performance, real-time sensor processing industry and in mission computing, platform management and other safety-critical applications.

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We believe that these values will help our employees realize their full potentials at work to provide Innovation That Matters®.

Our consolidated revenues, acquired revenues, net loss, diluted net loss per share, adjusted earnings per share (“adjusted EPS”), and adjusted EBITDA for the first quarter ended October 1, 2021 were $225.0 million, $41.3 million, $(7.1) million, $(0.13), $0.41, and $38.3 million, respectively.

Our consolidated revenues, acquired revenues, net loss, diluted net loss per share, adjusted earnings per share (“adjusted EPS”), and adjusted EBITDA for the second quarter ended December 31, 2021 were $220.4 million, $37.5 million, $(2.6) million, $(0.05), $0.39, and $38.1 million, respectively.

Our consolidated revenues, acquired revenues, net loss, diluted net loss per share, adjusted earnings per share (“adjusted EPS”), and adjusted EBITDA for the six months ended December 31, 2021 were $445.4 million, $78.8 million, $(9.8) million, $(0.18), $0.80, and $76.4 million, respectively.

See the Non-GAAP Financial Measures section for a reconciliation to our most directly comparable GAAP financial measures.

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We continue to monitor the COVID pandemic and adapt our policies and programs as needed to protect the health, safety and livelihoods of our people.

On September 9, 2021, President Biden signed an executive order directing executive departments and agencies to ensure that certain contracts had COVID-19 health and safety provisions, which included requirements for vaccinated employees, masking and physical distancing, and workplace safety coordinators.

We are requiring all employees in the U.S.

to become fully vaccinated from COVID-19 except in limited circumstances as allowed under the mandate.

We are also complying with requirements for masking and physical distancing in the workplace and have maintained an internal task force to coordinate COVID-19 workplace safety efforts since the start of the pandemic.

In September 2021, the White House announced that certain contractors would need to create COVID-19 vaccination programs for their employees in order to work on certain U.S.

government contracts.

We announced our COVID-19 U.S.

Vaccination Policy in October 2021 to comply with these federal requirements.

In December 2021, a federal judge temporarily blocked the government from enforcing their vaccine mandate while lawsuits were being resolved.

We suspended our vaccine policy pending the resolutions of these lawsuits, similar to other contractors in the aerospace and defense industry.

On August 3, 2021, we announced a companywide effort, called 1MPACT, to lay the foundation for the next phase of the Company’s value creation at scale.

The goal of 1MPACT is to achieve our full growth, margin expansion and adjusted EBITDA potential over the next five years.

Since fiscal year 2014 and through the first quarter ended October 1, 2021, we have completed 13 acquisitions, deploying $1.2 billion of capital and, as a result, dramatically scaled and transformed the business.

Since fiscal year 2014 and through the second quarter ended December 31, 2021, we have completed 15 acquisitions, deploying $1.4 billion of capital and, as a result, dramatically scaled and transformed the business.

Over this time, we have extracted substantial revenue and cost synergies from each of these individual acquisitions.

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RESULTS OF OPERATIONS:

Results of operations for the first quarter ended October 1, 2021 includes a full period of results from the acquisitions of Physical Optics Corporation ("POC") and Pentek Technologies, LLC and Pentek Systems, Inc.

(collectively, "Pentek").

Results of operations for the first quarter ended October 2, 2020 do not include results from POC or Pentek.

Results of operations for the second quarter and six months ended December 31, 2021 includes full period results from the acquisitions of Physical Optics Corporation ("POC") and Pentek Technologies, LLC and Pentek Systems, Inc.

(collectively, "Pentek") and only results from the acquisition date for Avalex Technologies ("Avalex") and Atlanta Micro which were acquired on November 5, 2021 and November 29, 2021, respectively.

Results of operations for the second quarter and six months ended January 1, 2021 includes only results from the December 30, 2020 acquisition date for POC and do not include results from Pentek, Avalex, or Atlanta Micro.

Accordingly, the periods presented below are not directly comparable.

The first quarter ended October 1, 2021 compared to the first quarter ended October 2, 2020

The following table sets forth, for the first quarter ended indicated, financial data from the Consolidated Statements of Operations and Comprehensive (Loss) Income:

(In thousands) October 1, 2021 As a % of

Revenue October 2, 2020 As a % of

The second quarter ended December 31, 2021 compared to the second quarter ended January 1, 2021

The following table sets forth, for the second quarter ended indicated, financial data from the Consolidated Statements of Operations and Comprehensive (Loss) Income:

(In thousands) December 31, 2021 As a % of

Revenue January 1, 2021 As a % of

Net revenues $ 220,380 100.0 % $ 210,676 100.0 %

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Net (loss) income $ (2,639) (1.2) % $ 12,686 6.0 %

Total revenues increased $19.4 million, or 9.4%, to $225.0 million during the first quarter ended October 1, 2021, as compared to $205.6 million during the first quarter ended October 2, 2020, including “acquired revenue” which represents net revenue from acquired businesses that have been part of Mercury for completion of four full quarters or less (and excludes any intercompany transactions).

After the completion of four full fiscal quarters, acquired businesses will be treated as organic for current and comparable historical periods.

The in crease in total revenue was primarily due to an additional $41.3 million of acquired revenues from the POC and Pentek businesses, partially offset by $21.9 million less organic revenues.

These increases were driven by modules and sub-assemblies which increased $41.6 million or 238% which was partially offset by decreases in components and integrated subsystems of $15.2 million and $7.0 million, respectively.

The increase in total revenue was primarily from the C4I and other sensor and effector end applications which increased $29.6 million and $8.3 million, respectively and were partially offset by a $13.5 million decrease to radar application.

The increase was primarily across the airborne platform which grew $29.3 million during the first quarter ended October 1, 2021.

The largest program increases were related t o the MH-60 program, a classified C2 program and a classified radar program.

There were no programs comprising 10% or more of our revenues for the first quarters ended October 1, 2021 or October 2, 2020.

Total revenues increased $9.7 million, or 4.6%, to $220.4 million during the second quarter ended December 31, 2021, as compared to $210.7 million during the second quarter ended January 1, 2021, including “acquired revenue” which represents net revenue from acquired businesses that have been part of Mercury for completion of four full quarters or less (and excludes any intercompany transactions).

After th e completion of four full fiscal quarters, acquired businesses will be treated as organic for current and comparable historical periods.

T he in crease in total revenue was primarily due to an additional $37.3 million of acquired revenues primarily from the POC business, partially offset by $27.6 million less organic revenues.

These increases were driven by modules and sub-assemblies, which increased $30.3 million which was partially offset by decreases in integrated subsystems of $11.5 million and components of $9.2 million.

The increase in total revenue was primarily from the C4I and EW markets which increased $32.6 million and $3.7 million, respectively, and were partially offset by a decrease of $33.6 million from the radar application market.

The increase was primarily across the airborne platform which grew $19.3 million during the second quart er ended December 31, 2021.

The largest program increases were related t o a classified C2 program, MH-60, P8, CDS, AARGM and F-16.

There were no pr ograms comprising 10% or more of our revenues for the second quarters ended December 31, 2021 or January 1, 2021.

See the Non-GAAP Financial Measures section for a reconciliation to our most directly comparable GAAP financial measures.

G ROSS M ARGIN

Gross margin was 39.3% for the first quarter ended October 1, 2021, a decrease of 360 basis points from the 42.9% gross margin achieved during the first quarter ended October 2, 2020.

The lower gross margin was primarily driven by program mix, including the acquisition of POC, which carries lower margins than the organic business, and higher volume of Customer Funded Research and Development (“CRAD”).

CRAD primarily represents engineering labor associated with long-term contracts for customized development, production and service activities.

Gross margin was 39.6% for the second quarter ended December 31, 2021, a decrease of 250 basis points from the 42.1% gross margin achieved during the second quarter ended January 1, 2021.

The lower gross margin was primarily driven by program mix, including the acquisition of POC, which carries lower margins than the organic business, and a higher volume of Customer Funded Research and Development (“CRAD”).

CRAD, including POC, increased $5.6 million in the quarter.

CRAD primarily represents engineering labor associated with long-term contracts for customized development, production and service activities.

Due to the nature of these efforts, they typically carry a lower margin but serve as a precursor to higher margin production orders over time.

These products are predominately grouped within integrated subsystems and to a lesser extent modules and sub-assemblies.

These gross margin decreases were partially offset by $1.8 million gross margin benefit from fair value adjustments from purchase accounting and $1.7 million less COVID expenses.

In addition to this, these gross margin decreases were also driven by $0.4 million less net margin benefit from fair value adjustments from purchase accounting during the second quarter ended December 31, 2021.

These gross margin decreases were partially offset by $2.9 million less direct COVID expenses during the second quarter ended December 31, 2021.

S ELLING , G ENERAL AND A DMINISTRATIVE

Selling, general and administrative expenses increased $4.1 million, or 12.3%, to $37.0 million during the first quarter ended October 1, 2021, as compared to $32.9 million in the first quarter ended October 2, 2020.

The increase was primarily related to the recent acquisitions of POC and Pentek, which contributed $3.3 million of incremental cost.

Selling, general and administrative expenses increased as a percentage of revenue to 16.4% for the first quarter ended October 1, 2021 from 16.0% for the first quarter ended October 2, 2020 as a result of lower overall operating leverage in the quarter.

Selling, general and administrative expenses increased $5.2 million, or 16.5%, to $36.8 million during the second quarter ended December 31, 2021, as compared to $31.6 million in the second quarter ended January 1, 2021.

The increase was primarily related to the recent acquisitions of POC, Pentek, Avalex, and Atlanta Micro which contributed $3.9 million of incremental cost.

Selling, general and administrative expenses increased as a percentage of revenue to 16.7% for the second quarter ended December 31, 2021 from 15.0% for the second quarter ended January 1, 2021.

R ESEARCH AND D EVELOPMENT

Research and development expenses increased $1.5 million, or 5.3%, to $28.9 million during the first quarter ended October 1, 2021, as compared to $27.4 million during the first quarter ended October 2, 2020.

The increase was primarily related to $1.0 million of incremental expenses from the recent acquisitions of POC and Pentek as well as continued investment in internal R&D to promote future growth, including new opportunities in avionics mission computers, secure processing, radar modernization and our trusted custom microelectronics business.

Research and development expenses accounted for 12.8% and 13.3% of our revenues for the first quarters ended October 1, 2021 and October 2, 2020, respectively.

Research and development expenses increased $0.2 million, or 0.7%, to $28.3 million during the second quarter ended December 31, 2021, as compared to $28.1 million during the second quarter ended January 1, 2021.

The increase was primarily related to $1.9 million of incremental expenses from the recent acquisitions of POC, Pentek, Avalex, and Atlanta Micro as well as continued investment in internal R&D to promote future growth, including new opportunities in secure processing, trusted custom microelectronics and open mission systems.

These increases were partially offset by greater CRAD of $5.6 million over the prior period.

Research and development expenses accounted for 12.9% and 13.4% of our revenues for the second quarters ended December 31, 2021 and January 1, 2021, respectively.

A MORTIZATION OF I NTANGIBLE A SSETS

Amortization of intangible assets increased $6.0 million to $13.7 million during the first quarter ended October 1, 2021, as compared to $7.7 million during the first quarter ended October 2, 2020, primarily due to the acquisitions of POC and Pentek.

Amortization of intangible assets increased $8.4 million to $16.0 million during the second quarter ended December 31, 2021, as compared to $7.6 million during the second quarter ended January 1, 2021 due to the acquisitions of POC, Pentek, Avalex and Atlanta Micro.

R ESTRUCTURING AND O THER C HARGES

During the first quarter ended October 1, 2021, the Company incurred $12.3 million of restructuring and other charges, as compared to $1.3 million during the first quarter ended October 2, 2020.

Restructuring and other charges of $7.3 million related to severance costs associated with the elimination of 100 employees based on changes in the business environment and alignment with the internal organizational changes completed under 1MPACT.

The remaining $4.9 million of restructuring and other charges related to third-party consulting costs associated with 1MPACT.

During the second quarter ended December 31, 2021, the Company incurred $3.8 million of restructuring and other charges, as compared to $1.0 million during the second quarter ended January 1, 2021.

Restructuring and other charges during the second quarter ended December 31, 2021 related to third-party consulting costs associated with 1MPACT while costs during the second quarter ended January 1, 2021 primarily related to severance costs associated with the elimination of 23 positions, predominantly in the manufacturing, SG&A and R&D functions.

The Company expects restructuring and other charges of $3.7 million related to 1MPACT during the third quarter of fiscal 2022.

A CQUISITION C OSTS AND O THER R ELATED E XPENSES

Acquisition costs and other related expenses were $2.1 million during the first quarter ended October 1, 2021.

The acquisition costs and other related expenses during the first quarter ended October 1, 2021 were primarily related to costs associated with signing a definitive agreement to acquire Avalex Technologies Corporation ("Avalex") and other M&A activities.

Acquisition costs and other related expenses were $2.7 million during the second quarter ended December 31, 2021, as compared to $2.2 million during the second quarter ended January 1, 2021.

Acquisition costs and other related expenses during the second quarter ended December 31, 2021 primarily related to the acquisitions of Avalex and Atlanta Micro which closed during the second quarter.

The second quarter ended January 1, 2021 included expenses related to the acquisition of POC which was completed on December 30, 2020.

We expect to incur acquisition costs and other related expenses periodically in the future as we continue to seek acquisition opportunities to expand our technological capabilities and especially within the sensor and effector and C4I markets.

Transaction costs incurred by the acquiree prior to the consummation of an acquisition would not be reflected in our historical results of operations.

I NTEREST I NCOME

Interest income decreased to less than $0.1 million during the first quarter ended October 1, 2021, as compared to $0.1 million for the first quarter ended October 2, 2020.

This was driven by lower cash on hand during the first quarter ended October 1, 2021, as compared to the prior year.

I NTEREST E XPENSE

We incurred $0.6 million of interest expense during the first quarter ended October 1, 2021, related to the $200.0 million balance on our Revolver to facilitate the acquisitions of POC and Pentek during fiscal 2021.

We incurred $1.1 million of interest expense during the second quarter ended December 31, 2021 as a result of $451.5 million of total borrowings on our Revolver used to facilitate the acquisitions of POC, Pentek, Avalex, and Atlanta Micro during fiscal 2021 and 2022.

O THER E XPENSE , N ET

Other expense, net increased to $1.4 million during the first quarter ended October 1, 2021, as compared to $0.8 million during the first quarter ended October 2, 2020.

The first quarter ended October 1, 2021 includes net foreign currency translation losses of $0.5 million and $0.2 million less of financing and registration costs, partially offset by $0.2 million of additional litigation and settlement costs.

The first quarter ended October 2, 2020 includes net foreign currency translation gains of $0.2 million.

Other expense, net increased to $1.3 million during the second quarter ended December 31, 2021, as compared to $1.0 million during the second quarter ended January 1, 2021.

The second quarter ended December 31, 2021 includes net foreign currency translation losses of $0.2 million as well as additional litigation and settlement costs of $0.3 million.

The second quarter ended January 1, 2021 includes loss on sale of a cost-method investment of $0.4 million.

I NCOME T AXES

We recorded an income tax (benefit) provision of $(0.4) million and $2.2 million on a (loss) income before income taxes of $(7.6) million and $18.0 million for the first quarters ended October 1, 2021 and October 2, 2020, respectively.

During the first quarters ended October 1, 2021 and October 2, 2020, we recognized a discrete tax provision of $0.7 million related to stock-based compensation shortfalls and a discrete tax benefit of $2.5 million related to excess benefits on stock-based compensation, respectively.

The effective tax rate for the first quarters ended October 1, 2021 and October 2, 2020 differed from the Federal statutory rate primarily due to Federal and State research and development credits, non-deductible compensation, stock-based compensation, and state taxes.

In addition, during the first quarter ended October 1, 2021, we had certain unbenefited deferred tax assets.

We recorded an income tax (benefit) provision of $(0.2) million and $4.4 million on a (loss) income before income taxes of $(2.8) million and $17.1 million for the second quarters ended December 31, 2021 and January 1, 2021, respectively.

During the second quarters ended December 31, 2021 and January 1, 2021, we recognized a discrete tax provision (benefit) of $0.2 million and $(0.1) million related to stock-based compensation shortfalls and windfalls, respectively.

The effective tax rate for the second quarters ended December 31, 2021 and January 1, 2021 differed from the Federal statutory rate primarily due to Federal and State research and development credits, non-deductible compensation, stock-based compensation, and state taxes.

In addition, during the second quarter ended December 31, 2021, we had certain unbenefited deferred tax assets.

During the second quarter ended December 31, 2021, we recorded an unrecognized tax benefit of $0.7 million related to acquired research and development carryforward credits.

Within the calculation of our annual effective tax rate, we have used assumptions and estimates that may change as a result of future guidance and interpretation from the Internal Revenue Service (“IRS”).

Six months ended December 31, 2021 compared to the six months ended January 1, 2021

The following tables set forth, for the six month periods indicated, financial data from the Consolidated Statements of Operations and Comprehensive Income:

(In thousands) December 31, 2021 As a % of

Revenue January 1, 2021 As a % of

Net revenues $ 445,393 100.0 % $ 416,297 100.0 %

Cost of revenues 269,762 60.6 239,511 57.5

Gross margin 175,631 39.4 176,786 42.5

Operating expenses:

Selling, general and administrative 73,766 16.5 64,500 15.5

Research and development 57,217 12.8 55,545 13.3

Amortization of intangible assets 29,736 6.7 15,374 3.7

Restructuring and other charges 16,076 3.6 2,248 0.6

Acquisition costs and other related expenses 4,798 1.1 2,236 0.5

Total operating expenses 181,593 40.7 139,903 33.6

(Loss) income from operations (5,962) (1.3) 36,883 8.9

Interest income 14 — 132 —

Interest expense (1,689) (0.4) (73) —

Other expense, net (2,738) (0.6) (1,827) (0.5)

(Loss) income before income taxes (10,375) (2.3) 35,115 8.4

Income tax (benefit) provision (596) (0.1) 6,631 1.6

Net (loss) income $ (9,779) (2.2) % $ 28,484 6.8 %

Total revenues increased $29.1 million, or 7.0%, to $445.4 million during the six months ended December 31, 2021, as compared to $416.3 million during the six months ended January 1, 2021.

The increase in total revenue was primarily due to an additional $78.6 million of acquired revenues, partially offset by $49.5 million less organic revenues.

These increases were driven by higher demand for modules and subassemblies of $71.9 million which was partially offset by decreases in components and integrated subsystems of $24.4 million and $18.4 million, respectively, during the six months ended December 31, 2021.

The increase in total revenue was primarily from the C4I end applications which increased $62.2 million and was

partially offset by decreases of $47.1 million from the radar applications.

The increase was primarily across the airborne and other platforms which grew $48.6 million and $22.8 million, respectively, and were partially offset by decreases to the land and naval platforms of $33.7 million and $8.6 million, respectively, during the six months ended December 31, 2021.

The largest program increases were related to a classified C2 program, MH-60, P8, F-35 and F-18 programs.

There were no programs comprising 10% or more of our revenues for the six months ended December 31, 2021 or January 1, 2021.

See the Non-GAAP Financial Measures section for a reconciliation to our most directly comparable GAAP financial measures.

G ROSS M ARGIN

Gross margin was 39.4% for the six months ended December 31, 2021, a decrease of 310 basis points from the 42.5% gross margin achieved during the six months ended January 1, 2021.

The lower gross margin was primarily driven by program mix, including the acquisition of POC, which carries lower margins than the organic business and increased CRAD of $19.2 million.

These gross margin decreases were partially offset by $4.6 million less direct COVID expenses and a $1.4 million increased gross margin benefit associated with fair value adjustments from purchase accounting for recent acquisitions.

S ELLING , G ENERAL AND A DMINISTRATIVE

Selling, general and administrative expenses increased $9.3 million, or 14.4%, to $73.8 million during the six months ended December 31, 2021, as compared to $64.5 million during the six months ended January 1, 2021.

The increase was primarily related to our acquisitions driving an incremental $7.4 million of expense during the six months ended December 31, 2021.

These increases were partially offset by $0.5 million less direct COVID expenses.

Selling, general and administrative expenses as a percentage of revenues increased to 16.5% for the six months ended December 31, 2021 from 15.5% for the six months ended January 1, 2021.

R ESEARCH AND D EVELOPMENT

Research and development expenses increased $1.7 million, or 3.1%, to $57.2 million during the six months ended December 31, 2021, as compared to $55.5 million during the six months ended January 1, 2021.

The increase was primarily related to our acquisitions driving incremental $2.9 million of expense, partially offset by increased volume of CRAD of $19.2 million.

Research and development expenses accounted for 12.8% and 13.3% of our revenues for the six months ended December 31, 2021 and January 1, 2021, respectively.

R ESTRUCTURING A ND O THER C HARGES

Restructuring and other charges were $16.1 million during the six months ended December 31, 2021, as compared to $2.2 million during the six months ended January 1, 2021.

Restructuring and other charges during the six months ended December 31, 2021 primarily related to $8.7 million of third-party consulting costs associated with 1MPACT and $7.4 million of severance costs associated with the elimination of approximately 100 positions based on changes in the business environment and alignment with internal organization changes completed under 1MPACT.

Charges during the second quarter ended January 1, 2021 primarily related to severance costs associated with the elimination of 23 positions, predominantly in the manufacturing, SG&A and R&D functions as well as additional talent shifts and resource redundancy resulting from the internal reorganization in August of fiscal 2021.

The Company expects restructuring and other charges of $3.7 million related to 1MPACT during the third quarter of fiscal 2022.

A CQUISITION C OSTS AND O THER R ELATED E XPENSES

Acquisition costs and other related expenses were $4.8 million during the six months ended December 31, 2021, as compared to $2.2 million during the six months ended January 1, 2021.

The acquisition costs and other related expenses we incurred during the six months ended December 31, 2021 were primarily related to the acquisitions of Avalex and Atlanta Micro, which closed during the quarter while those incurred during the six months ended January 1, 2021 were related to the acquisition of POC.

Both periods include costs associated with our evaluation of potential acquisition opportunities.

We expect to incur acquisition costs and other related expenses periodically in the future as we continue to seek acquisition opportunities to expand our technological capabilities, especially within the sensor and effector and C4I markets.

Transaction costs incurred by the acquiree prior to the consummation of an acquisition would not be reflected in our historical results of operations.

I NTEREST E XPENSE

We incurred $1.7 million of interest expense during the six months ended December 31, 2021, related to the $451.5 million of total borrowings on our Revolver used to facilitate the acquisitions of POC, Pentek, Avalex and Atlanta Micro during fiscal 2021 and 2022.

O THER E XPENSE , N ET

Other expense, net, increased to $2.7 million during the six months ended December 31, 2021 as compared to $1.8 million for the six months ended January 1, 2021.

There were $0.7 million of foreign currency translation losses during the six months ended December 31, 2021 as compared to $0.6 million of foreign currency translation gains during the six months ended January 1, 2021.

The six months ended January 1, 2021 also included a $0.4 million loss on the sale of a cost-method investment.

I NCOME T AXES

We recorded an income tax (benefit) provision of $(0.6) million and $6.6 million on a (loss) income before income taxes of $(10.4) million and $35.1 million for the six months ended December 31, 2021 and January 1, 2021, respectively.

During the six months ended December 31, 2021 and January 1, 2021, we recognized a discrete tax provision (benefit) of $0.9 million and $(2.6) million related to stock-based compensation shortfalls and windfalls, respectively.

The effective tax rate for the six months ended December 31, 2021 and January 1, 2021 differed from the Federal statutory rate primarily due to Federal and State research and development credits, stock-based compensation, non-deductible compensation, and state taxes.

During the six months ended December 31, 2021, we recorded an unrecognized tax benefit of $0.7 million related to acquired research and development carryforward credits.

Within the calculation of our annual effective tax rate we have used assumptions and estimates that may change as a result of future guidance and interpretation from the IRS.

L IQUIDITY AND C APITAL R ESOURCES

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On September 28, 2018, we amended the Revolver to increase and extend the borrowing capacity to a $750.0 million, 5-year revolving credit line, with the maturity extended to September 2023.

As of October 1, 2021, we had $200.0 million of outstanding borrowings on the Revolver.

As of December 31, 2021, we had $451.5 million of outstanding borrowings on the Revolver.

See Note I in the accompanying consolidated financial statements for further discussion of the Revolver.

As of and For the First Quarters Ended,

(In thousands) October 1, 2021 October 2, 2020

Net cash (used in) provided by operating activities $ (2,006) $ 22,929

As of and For the Six Months Ended,

(In thousands) December 31, 2021 January 1, 2021

Net cash provided by operating activities $ 4,818 $ 46,868

Net cash used in investing activities $ (259,890) $ (266,852)

Net cash used in financing activities $ (7,316) $ (64)

Net (decrease) increase in cash and cash equivalents $ (18,035) $ 12,284

Net cash provided by financing activities $ 246,517 $ 163,122

Net decrease in cash and cash equivalents $ (8,670) $ (56,099)

Cash and cash equivalents at end of period $ 105,169 $ 170,739

Our cash and cash equivalents decreased by $18.0 million from July 2, 2021 to October 1, 2021, primarily as the result of the $7.3 million share repurchase and retirement of common stock used to settle individual tax liabilities, $5.4 million invested in purchases of property and equipment and $3.2 million of other investing activities.

Our cash and cash equivalents decreased by $8.7 million to $105.2 million from July 2, 2021 to December 31, 2021, primarily due to acquisition activity, $13.4 million invested in purchases of property and equipment, and $7.5 million share repurchase and retirement of common stock used to settle individual tax liabilities, partially offset by $251.5 million of borrowings on our Revolver and $4.8 million generated from operating activities.

Operating Activities

During the first quarter ended October 1, 2021, we had an outflow of $2.0 million in cash from operating activities, as compared to $22.9 million of cash generated from operating activities for the first quarter ended October 2, 2020.

The decrease was primarily due to the net loss of $7.1 million, including cash outflows for restructuring and other charges associated with 1MPACT as well as acquisition costs primarily associated with the Avalex acquisition.

During the six months ended December 31, 2021, we generated $4.8 million in cash from operating activities, as compared to $46.9 million of cash generated from operating activities for the six months ended January 1, 2021.

The decrease was primarily due to the net loss of $9.8 million, including cash outflows for restructuring and other charges associated with 1MPACT as well as acquisition costs primarily associated with the Avalex and Atlanta Micro acquisitions.

In addition, the decrease was due to lower deferred revenue and customer advances, higher unbilled receivables and costs in excess of billings, as well as income tax payments.

These decreases were partially offset by lower cash outflows for accounts payable, accrued expenses and accrued compensation.

As a result of the Company’s content expansion strategy, revenues associated with modules and sub-assemblies or integrated subsystems and related services has increased over the last several years and especially with the acquisition of POC on December 30, 2020.

These revenues are typically recognized over time and can include milestone billing structures which drive higher unbilled balances.

These decreases were partially offset by lower cash outflows for inventory and timing of payments for accounts payable, accrued expenses and accrued compensation.

Investing Activities

During the first quarter ended October 1, 2021, we invested $8.6 million, a decrease of $2.4 million, as compared to the first quarter ended October 2, 2020.

The decrease was driven by $5.6 million lower purchases of property and equipment, partially offset by $3.2 million of other investing activity during the first quarter ended October 1, 2021.

During the six months ended December 31, 2021, we invested $259.9 million, a decrease of $7.0 million, as compared to the six months ended January 1, 2021.

The decrease was driven by $11.3 million lower purchases of property and equipment, partially offset by $4.8 million of other investing activities during the six months ended December 31, 2021.

Financing Activities

During the first quarter ended October 1, 2021, we used $7.3 million of cash payments related to the purchase and retirement of common stock used to settle individual employees’ tax liabilities associated with the annual vesting of restricted stock awards, as compared to $0.1 million in the first quarter ended October 2, 2020.

During the six months ended December 31, 2021, we had $246.5 million in cash provided by financing activities as compared to $163.1 million in the six months ended January 1, 2021.

The $83.2 million increase was driven by $91.5 million of additional borrowings on our Revolver to facilitate the acquisitions of Avalex and Atlanta Micro, partially offset by $7.4 million of additional payments related to the purchase and retirement of common stock used to settle employees' tax liabilities associated with vesting of restricted stock awards as compared to the six months ended January 1, 2021.

C OMMITMENTS, C ONTRACTUAL O BLIGATIONS AND C ONTINGENCIES

The following is a schedule of our commitments and contractual obligations outstanding at October 1, 2021:

The following is a schedule of our commitments and contractual obligations outstanding at December 31, 2021:

(In thousands) Total Less Than

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Purchase obligations represent open non-cancelable purchase commitments for certain inventory components and services used in normal operations.

The purchase commitments covered by these agreements are for less than one year and aggregated approxi mately $154.7 million at October 1, 2021.

We have a liability at October 1, 2021 of $7.5 million for uncertain tax positions that have been taken or are expected to be taken in various income tax returns.

The purchase commitments covered by these agreements are for less than one year and aggregated approxi mately $183.9 million at December 31, 2021.

We have a liability at December 31, 2021 of $8.2 million for uncertain tax positions that have been taken or are expected to be taken in various income tax returns.

We do not know the ultimate resolution on these uncertain tax positions and as such, do not know the ultimate timing of payments or amount, if any, related to this liability.

Accordingly, these amounts are not included in the above table.

Our standard product sales and license agreements entered into in the ordinary course of business typically contain an indemnification provision pursuant to which we indemnify, hold harmless, and agree to reimburse the indemnified party for losses suffered or incurred in connection with certain intellectual property infringement claims by any third party with respect to our products.

losses suffered or incurred in connection with certain intellectual property infringement claims by any third party with respect to our products.

Such provisions generally survive termination or expiration of the agreements.

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generally accepted accounting principles (“GAAP”), including adjusted EBITDA, adjusted income, adjusted EPS, free cash flow, organic revenue and acquired revenue.

Adjusted EBITDA is defined as net income before other non-operating adjustments, interest income and expense, income taxes, depreciation, amortization of intangible assets, restructuring and other charges, impairment of long-lived assets, acquisition and financing costs, fair value adjustments from purchase accounting, litigation and settlement income and expense, COVID related expenses, and stock-based and other non-cash compensation expense.

Adjusted EBITDA is defined as net income before other non-operating adjustments, interest income and expense, income taxes, depreciation, amortization of intangible assets, restructuring and other charges, impairment of long-lived assets, acquisition, financing and other third party costs, fair value adjustments from purchase accounting, litigation and settlement income and expense, COVID related expenses, and stock-based and other non-cash compensation expense.

We use adjusted EBITDA as an important indicator of the operating performance of our business.

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The following table reconciles our net (loss) income, the most directly comparable GAAP financial measure, to our adjusted EBITDA:

First Quarters Ended

(In thousands) October 1, 2021 October 2, 2020

Second Quarters Ended Six Months Ended

(In thousands) December 31, 2021 January 1, 2021 December 31, 2021 January 1, 2021

Net (loss) income $ (2,639) $ 12,686 $ (9,779) $ 28,484

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Impairment of long-lived assets — — — —

Acquisition and financing costs 2,633 841

Acquisition, financing and other third party costs 3,115 2,969 5,748 3,810

Fair value adjustments from purchase accounting (70) — (1,731) —

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We use these measures along with the corresponding GAAP financial measures to manage our business and to evaluate our performance compared to prior periods and the marketplace.

We define adjusted income as net income before other non-operating adjustments, amortization of intangible assets, restructuring and other charges, impairment of long-lived assets, acquisition and financing costs, fair value adjustments from purchase accounting, litigation and settlement income and expense, COVID related expenses, and stock-based and other non-cash compensation expense.

We define adjusted income as net income before other non-operating adjustments, amortization of intangible assets, restructuring and other charges, impairment of long-lived assets, acquisition, financing and other third party costs, fair value adjustments from purchase accounting, litigation and settlement income and expense, COVID related expenses, and stock-based and other non-cash compensation expense.

The impact to income taxes includes the impact to the effective tax rate, current tax provision and deferred tax provision.

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The following tables reconcile net (loss) income and diluted (loss) earnings per share, the most directly comparable GAAP measures, to adjusted income and adjusted EPS:

First Quarters Ended

(In thousands, except per share data) October 1, 2021 October 2, 2020

Second Quarters Ended

(In thousands, except per share data) December 31, 2021 January 1, 2021

Net (loss) income and diluted (loss) earnings per share $ (2,639) $ (0.05) $ 12,686 $ 0.23

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Impairment of long-lived assets — —

Acquisition and financing costs 2,633 841

Acquisition, financing and other third party costs 3,115 2,969

Fair value adjustments from purchase accounting (70) —

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The impact to income taxes includes the impact to the effective tax rate, current tax provision and deferred tax provision.

Six Months Ended

(In thousands, except per share data) December 31, 2021 January 1, 2021

Net (loss) income and diluted (loss) earnings per share $ (9,779) $ (0.18) $ 28,484 $ 0.51

Other non-operating adjustments, net 643 (185)

Amortization of intangible assets 29,736 15,374

Restructuring and other charges 16,076 2,248

Impairment of long-lived assets — —

Acquisition, financing and other third party costs 5,748 3,810

Fair value adjustments from purchase accounting (1,731) —

Litigation and settlement expense, net 882 438

COVID related expenses 457 5,628

Stock-based and other non-cash compensation expense 17,465 14,806

Impact to income taxes (1)

(14,973) (12,299)

Adjusted income and adjusted earnings per share $ 44,524 $ 0.80 $ 58,304 $ 1.05

Diluted weighted-average shares outstanding 55,653 55,385

(1) Impact to income taxes is calculated by recasting income before income taxes to include the add-backs involved in determining adjusted income and recalculating the income tax provision using this adjusted income from operations before income taxes.

The impact to income taxes includes the impact to the effective tax rate, current tax provision and deferred tax provision.

Free cash flow, a non-GAAP measure for reporting cash flow, is defined as cash provided by operating activities less capital expenditures for property and equipment, which includes capitalized software development costs.

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We expect to continue to incur expenditures similar to the free cash flow adjustment described above, and investors should not infer from our presentation of this non-GAAP financial measure that these expenditures reflect all of our obligations which require cash.

The following table reconciles cash (used in) provided by operating activities, the most directly comparable GAAP financial measure, to free cash flow:

First Quarters Ended

(In thousands) October 1, 2021 October 2, 2020

Cash (used in) provided by operating activities $ (2,006) $ 22,929

The following table reconciles cash provided by operating activities, the most directly comparable GAAP financial measure, to free cash flow:

Second Quarters Ended Six Months Ended

(In thousands) December 31, 2021 January 1, 2021 December 31, 2021 January 1, 2021

Cash provided by operating activities $ 6,824 $ 23,939 $ 4,818 $ 46,868

Purchase of property and equipment (8,027) (13,775) (13,404) (24,753)

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After the completion of four full fiscal quarters, acquired revenue is treated as organic for current and comparable historical periods.

The following tables reconcile the most directly comparable GAAP financial measure to the non-GAAP financial measure for the first quarters ended October 1, 2021 and October 2, 2020, respectively:

(In thousands) October 1, 2021 As a % of

Revenue October 2, 2020 As a % of

The following tables reconcile the most directly comparable GAAP financial measure to the non-GAAP financial measure for the second quarters six months and ended December 31, 2021 and January 1, 2021, respectively:

(In thousands) December 31, 2021 As a % of

Revenue January 1, 2021 As a % of

Revenue $ Change % Change

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Total revenues $ 220,380 100 % $ 210,676 100 % $ 9,704 5 %

(In thousands) December 31, 2021 As a % of

Revenue January 1, 2021 As a % of

Revenue $ Change % Change

Organic revenue $ 366,589 82 % $ 416,080 100 % $ (49,491) (12) %

Acquired revenue 78,804 18 % 217 — % 78,587 100 %

Total revenues $ 445,393 100 % $ 416,297 100 % $ 29,096 7 %

R ECENTLY I SSUED A CCOUNTING P RONOUNCEMENTS

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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There were no material changes in our exposure to market risk from July 2, 2021 to October 1, 2021.

There were no material changes in our exposure to market risk from July 2, 2021 to December 31, 2021.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis