Ribbon Communications Inc. 10-Q

Item 1. Financial Statements RIBBON COMMUNICATIONS INC. Condensed Consolidated Balance Sheets (in thousands, except share and per share data) (unaudited) June 30, 2022 December 31, 2021 Assets Current assets: Cash and cash equivalents $ 36,227 $ 103,915 Restricted cash 2,037 2,570 Accounts receivable, net 258,116 282,917 Inventory 64,648 54,043 Other current assets 54,395 37,545 Total current assets 415,423 480,990 Property and equipment, net 48,504 47,685 Intangible assets, net 319,787 350,730 Goodwill 300,892 300,892 Investments 4,520 43,931 Deferred income taxes 56,961 47,287 Operating lease right-of-use assets 46,951 53,147 Other assets 37,636 23,075 $ 1,230,674 $ 1,347,737 Liabilities and Stockholders' Equity Current liabilities: Current portion of term debt $ 20,058 $ 20,058 Accounts payable 102,518 97,121 Accrued expenses and other 99,951 100,752 Operating lease liabilities 16,078 17,403 Deferred revenue 106,463 109,119 Total current liabilities 345,068 344,453 Long-term debt, net of current 315,264 350,217 Operating lease liabilities, net of current 48,052 55,196 Deferred revenue, net of current 19,584 20,619 Deferred income taxes 8,117 8,116 Other long-term liabilities 43,245 41,970 Total liabilities 779,330 820,571 Commitments and contingencies (Note 17) Stockholders' equity: Preferred stock, $ 0.01 par value per share; 10,000,000 shares authorized, none issued and outstanding — — Common stock, $ 0.0001 par value per share; 240,000,000 shares authorized; 150,459,784 shares issued and outstanding at June 30, 2022; 148,895,308 shares issued and outstanding at December 31, 2021 15 15 Additional paid-in capital 1,881,942 1,875,234 Accumulated deficit ( 1,455,816 ) ( 1,355,661 ) Accumulated other comprehensive income 25,203 7,578 Total stockholders' equity 451,344 527,166 $ 1,230,674 $ 1,347,737 See notes to the unaudited condensed consolidated financial statements. 4 RIBBON COMMUNICATIONS INC. Condensed Consolidated Statements of Operations (in thousands, except per share data) (unaudited) Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Revenue: Product $ 112,667 $ 113,129 $ 194,657 $ 211,018 Service 93,129 98,081 184,337 192,964 Total revenue 205,796 211,210 378,994 403,982 Cost of revenue: Product 58,151 46,641 109,360 91,086 Service 35,207 36,142 70,874 73,922 Amortization of acquired technology 7,888 9,700 16,155 19,761 Total cost of revenue 101,246 92,483 196,389 184,769 Gross profit 104,550 118,727 182,605 219,213 Operating expenses: Research and development 51,103 46,797 103,793 94,207 Sales and marketing 35,843 34,881 73,462 72,099 General and administrative 12,901 12,734 25,763 28,287 Amortization of acquired intangible assets 7,513 7,481 14,788 13,243 Acquisition-, disposal- and integration-related 1,535 1,052 3,384 2,249 Restructuring and related 2,894 2,830 7,708 8,780 Total operating expenses 111,789 105,775 228,898 218,865 (Loss) income from operations ( 7,239 ) 12,952 ( 46,293 ) 348 Interest expense, net ( 4,602 ) ( 3,048 ) ( 8,603 ) ( 8,867 ) Other (expense) income, net ( 10,228 ) 17,180 ( 39,028 ) ( 8,268 ) (Loss) income before income taxes ( 22,069 ) 27,084 ( 93,924 ) ( 16,787 ) Income tax provision ( 8,111 ) ( 3,843 ) ( 6,231 ) ( 4,659 ) Net (loss) income $ ( 30,180 ) $ 23,241 $ ( 100,155 ) $ ( 21,446 ) (Loss) earnings per share: Basic $ ( 0.20 ) $ 0.16 $ ( 0.67 ) $ ( 0.15 ) Diluted $ ( 0.20 ) $ 0.15 $ ( 0.67 ) $ ( 0.15 ) Weighted average shares used to compute (loss) earnings per share: Basic 150,190 147,467 149,681 146,706 Diluted 150,190 154,160 149,681 146,706 See notes to the unaudited condensed consolidated financial statements. 5 RIBBON COMMUNICATIONS INC. Condensed Consolidated Statements of Comprehensive (Loss) Income (in thousands) (unaudited) Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Net (loss) income $ ( 30,180 ) $ 23,241 $ ( 100,155 ) $ ( 21,446 ) Other comprehensive income (loss), net of tax: Unrealized gain (loss) on interest rate swap 4,053 ( 205 ) 19,522 6,464 Foreign currency translation adjustments ( 322 ) ( 447 ) ( 1,013 ) ( 400 ) Employee retirement benefits ( 884 ) — ( 884 ) — Other comprehensive income (loss), net of tax 2,847 ( 652 ) 17,625 6,064 Comprehensive (loss) income, net of tax $ ( 27,333 ) $ 22,589 $ ( 82,530 ) $ ( 15,382 ) See notes to the unaudited condensed consolidated financial statements. 6 RIBBON COMMUNICATIONS INC. Condensed Consolidated Statements of Stockholders' Equity (in thousands, except shares) (unaudited) Three months ended June 30, 2022 Common stock Shares Amount Additional paid-in capital Accumulated deficit Accumulated other comprehensive income Total stockholders' equity Balance at April 1, 2022 150,111,958 $ 15 $ 1,877,677 $ ( 1,425,636 ) $ 22,356 $ 474,412 Vesting of restricted stock units 396,148 — Shares of restricted stock returned to the Company under net share settlements to satisfy tax withholding obligations ( 48,322 ) ( 134 ) ( 134 ) Stock-based compensation expense 4,399 4,399 Other comprehensive income 2,847 2,847 Net loss ( 30,180 ) ( 30,180 ) Balance at June 30, 2022 150,459,784 $ 15 $ 1,881,942 $ ( 1,455,816 ) $ 25,203 $ 451,344 Six months ended June 30, 2022 Common stock Shares Amount Additional paid-in capital Accumulated deficit Accumulated other comprehensive income Total stockholders' equity Balance at January 1, 2022 148,895,308 $ 15 $ 1,875,234 $ ( 1,355,661 ) $ 7,578 $ 527,166 Exercise of stock options 355 — Vesting of restricted stock units 2,007,138 — Vesting of performance-based stock units 175,751 — Shares of restricted stock returned to the Company under net share settlements to satisfy tax withholding obligations ( 618,768 ) ( 1,946 ) ( 1,946 ) Stock-based compensation expense 8,654 8,654 Other comprehensive income 17,625 17,625 Net loss ( 100,155 ) ( 100,155 ) Balance at June 30, 2022 150,459,784 $ 15 $ 1,881,942 $ ( 1,455,816 ) $ 25,203 $ 451,344 See notes to the unaudited condensed consolidated financial statements. 7 RIBBON COMMUNICATIONS INC. Condensed Consolidated Statements of Stockholders' Equity (in thousands, except shares) (unaudited) Three months ended June 30, 2021 Common stock Shares Amount Additional paid-in capital Accumulated deficit Accumulated other comprehensive (loss) income Total stockholders' equity Balance at April 1, 2021 147,358,590 $ 15 $ 1,864,107 $ ( 1,223,163 ) $ 1,774 $ 642,733 Exercise of stock options 213 — Vesting of restricted stock awards and units 802,576 — Shares of restricted stock returned to the Company under net share settlements to satisfy tax withholding obligations ( 104,078 ) ( 831 ) ( 831 ) Stock-based compensation expense 4,790 4,790 Other comprehensive loss ( 652 ) ( 652 ) Net income 23,241 23,241 Balance at June 30, 2021 148,057,301 $ 15 $ 1,868,066 $ ( 1,199,922 ) $ 1,122 $ 669,281 Six months ended June 30, 2021 Common stock Shares Amount Additional paid-in capital Accumulated deficit Accumulated other comprehensive (loss) income Total stockholders' equity Balance at January 1, 2021 145,425,248 $ 15 $ 1,870,256 $ ( 1,178,476 ) $ ( 4,942 ) $ 686,853 Exercise of stock options 13,602 24 24 Vesting of restricted stock awards and units 2,465,204 — Vesting of performance-based stock units 1,525,681 — Shares of restricted stock returned to the Company under net share settlements to satisfy tax withholding obligations ( 1,372,434 ) ( 12,064 ) ( 12,064 ) Stock-based compensation expense 9,850 9,850 Other comprehensive income 6,064 6,064 Net loss ( 21,446 ) ( 21,446 ) Balance at June 30, 2021 148,057,301 $ 15 $ 1,868,066 $ ( 1,199,922 ) $ 1,122 $ 669,281 See notes to the unaudited condensed consolidated financial statements. 8 RIBBON COMMUNICATIONS INC. Condensed Consolidated Statements of Cash Flows (in thousands) (unaudited) Six months ended June 30, 2022 June 30, 2021 Cash flows from operating activities: Net loss $ ( 100,155 ) $ ( 21,446 ) Adjustments to reconcile net loss to cash flows (used in) provided by operating activities: Depreciation and amortization of property and equipment 7,773 8,475 Amortization of intangible assets 30,943 33,004 Amortization of debt issuance costs 1,078 3,684 Stock-based compensation 8,654 9,850 Deferred income taxes ( 9,900 ) 918 Gain on sale of business — ( 2,772 ) Decrease in fair value of investments 39,411 9,171 Foreign currency exchange (gains) losses ( 1,048 ) 2,013 Changes in operating assets and liabilities: Accounts receivable 24,017 17,360 Inventory ( 17,043 ) ( 1,527 ) Other operating assets ( 319 ) 9,874 Accounts payable 4,090 ( 3,508 ) Accrued expenses and other long-term liabilities ( 8,196 ) ( 57,739 ) Deferred revenue ( 3,692 ) 673 Net cash (used in) provided by operating activities ( 24,387 ) 8,030 Cash flows from investing activities: Purchases of property and equipment ( 6,515 ) ( 10,570 ) Proceeds from sale of business — 2,944 Net cash used in investing activities ( 6,515 ) ( 7,626 ) Cash flows from financing activities: Borrowings under revolving line of credit 20,000 — Principal payments on revolving line of credit ( 20,000 ) — Proceeds from issuance of term debt 74,625 Principal payments of term debt ( 35,029 ) ( 82,147 ) Principal payments of finance leases ( 341 ) ( 507 ) Payment of debt issuance costs ( 1,046 ) ( 789 ) Proceeds from the exercise of stock options — 24 Payment of tax withholding obligations related to net share settlements of restricted stock awards ( 1,946 ) ( 12,064 ) Net cash used in financing activities ( 38,362 ) ( 20,858 ) Effect of exchange rate changes on cash, cash equivalents and restricted cash 1,043 ( 442 ) Net decrease in cash, cash equivalents and restricted cash ( 68,221 ) ( 20,896 ) Cash, cash equivalents and restricted cash, beginning of year 106,485 135,697 Cash, cash equivalents and restricted cash, end of period $ 38,264 $ 114,801 Supplemental disclosure of cash flow information: Interest paid $ 7,833 $ 8,009 Income taxes paid $ 5,955 $ 9,818 Income tax refunds received $ 25 $ 974 Supplemental disclosure of non-cash investing activities: Capital expenditures incurred, but not yet paid $ 3,478 $ 2,090 Supplemental disclosure of non-cash financing activities: Total fair value of restricted stock awards, restricted stock units and performance-based stock units on date vested $ 6,608 $ 33,410 See notes to the unaudited condensed consolidated financial statements. 9 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (unaudited) (1) BASIS OF PRESENTATION Business Ribbon Communications Inc. ("Ribbon" or the "Company") is a leading global provider of communications technology to service providers and enterprises. The Company provides a broad range of software and high-performance hardware products, network solutions and services that enable the secure delivery of data and voice communications, and high-bandwidth networking and connectivity for residential consumer and for small, medium and large enterprises, and industry verticals such as finance, education, government, utilities and transportation. Ribbon's mission is to create a recognized global technology leader providing cloud-centric solutions that enable the secure exchange of information, with unparalleled scale, performance and elasticity. The Company is headquartered in Plano, Texas, and has a global presence with research and development or sales and support locations in over thirty-five countries around the world. Basis of Presentation In the opinion of management, the accompanying unaudited condensed consolidated financial statements include all adjustments, consisting only of normal recurring items, necessary for their fair presentation with accounting principles generally accepted in the United States of America ("GAAP") and with the rules and regulations of the U.S. Securities and Exchange Commission ("SEC"). Interim results are not necessarily indicative of results for a full year or any future interim period. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the Company's Annual Report on Form 10-K for the year ended December 31, 2021 (the "Annual Report"), which was filed with the SEC on March 11, 2022. Operating Segments The Company's chief operating decision maker (the "CODM") is its President and Chief Executive Officer. The CODM assesses the Company's performance based on the performance of two separate organizations within Ribbon: the Cloud and Edge segment ("Cloud and Edge") and the IP Optical Networks segment ("IP Optical Networks"). Reclassifications In the fourth quarter of 2021, the Company reclassified amounts recorded for amortization of certain acquired intangible assets in prior presentations from Total operating expenses under the caption "Amortization of acquired intangible assets" to Cost of revenue under the caption "Amortization of acquired technology" in the condensed consolidated statements of operations. The Company's management believes this presentation aids in the comparability of its financial statements to industry peers. This reclassification did not impact the condensed consolidated balance sheets or statements of cash flows for any historical periods. The Company reports depreciation of property and equipment related to production activities as components of Cost of revenue. This reclassification for the three and six months ended June 30, 2021 was as follows (in thousands): 10 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Three months ended June 30, 2021 Six months ended June 30, 2021 Prior presentation Amounts reclassified Revised presentation Prior presentation Amounts reclassified Revised presentation Product revenue $ 113,129 $ 113,129 $ 211,018 $ 211,018 Service revenue 98,081 98,081 192,964 192,964 Total revenue 211,210 — 211,210 403,982 — 403,982 Cost of revenue - product 46,641 46,641 91,086 91,086 Cost of revenue - service 36,142 36,142 73,922 73,922 Amortization of acquired technology — 9,700 9,700 — 19,761 19,761 Total cost of revenue 82,783 9,700 92,483 165,008 19,761 184,769 Total gross profit 128,427 ( 9,700 ) 118,727 238,974 ( 19,761 ) 219,213 Research and development 46,797 46,797 94,207 94,207 Sales and marketing 34,881 34,881 72,099 72,099 General and administrative 12,734 12,734 28,287 28,287 Amortization of acquired intangible assets 17,181 ( 9,700 ) 7,481 33,004 ( 19,761 ) 13,243 Acquisition-, disposal- and integration-related 1,052 1,052 2,249 2,249 Restructuring and related 2,830 2,830 8,780 8,780 Total operating expenses 115,475 ( 9,700 ) 105,775 238,626 ( 19,761 ) 218,865 Income from operations $ 12,952 $ — $ 12,952 $ 348 $ — $ 348 Significant Accounting Policies The Company's significant accounting policies are disclosed in Note 2 to the Consolidated Financial Statements included in the Annual Report. There were no material changes to the significant accounting policies during the three months ended June 30, 2022. Principles of Consolidation The condensed consolidated financial statements include the accounts of Ribbon and its wholly-owned subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. Use of Estimates and Judgments The preparation of financial statements in conformity with GAAP requires Ribbon to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting periods. Significant estimates and judgments relied upon in preparing these condensed consolidated financial statements include accounting for business combinations, revenue recognition for multiple element arrangements, inventory valuations, assumptions used to determine the fair value of stock-based compensation, intangible asset and goodwill valuations, including impairments, legal contingencies and recoverability of Ribbon's net deferred tax assets and the related valuation allowances. Ribbon regularly assesses these estimates and records changes in estimates in the period in which they become known. Ribbon bases its estimates on historical experience and various other assumptions that it believes to be reasonable under the circumstances. Actual results could differ from those estimates. 11 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Restricted Cash The Company classifies as restricted cash all cash pledged as collateral to secure long-term obligations and all cash whose use is otherwise limited by contractual provisions. The Company had $ 2.0 million and $ 2.6 million of restricted cash as of June 30, 2022 and December 31, 2021, respectively, representing restricted short-term bank deposits pledged to secure certain performance and financial bonds as security for the Company's obligations under tenders, contracts and to one of its main subcontractors. Transfers of Financial Assets The Company maintains customer receivables factoring agreements with a number of financial institutions, primarily for IP Optical Networks sales outside of the United States . Under the terms of these agreements, the Company may transfer receivables to the financial institutions, on a non-recourse basis, provided that the financial institutions approve the receivables in advance. The Company maintains credit insurance policies from major insurance providers or obtains letters of credit from the customers for a majority of its factored trade receivables. The Company accounts for the factoring of its financial assets as a sale of the assets and records the factoring fees, when incurred, as a component of interest expense in the condensed consolidated statements of operations, and the proceeds from the sales of receivables are included in cash from operating activities in the condensed consolidated statements of cash flows. Information regarding the Company's factoring of its financial assets for the three and six months ended June 30, 2022 and 2021 is as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Accounts receivable sold $ 22,747 $ 32,329 $ 40,714 $ 63,647 Less factoring fees ( 323 ) $ ( 192 ) ( 476 ) ( 401 ) Net cash proceeds $ 22,424 $ 32,137 $ 40,238 $ 63,246 Going Concern Assessment and Management Plans The accompanying condensed consolidated financial statements are prepared in accordance with GAAP applicable to a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. Under the 2020 Credit Facility (as defined in Note 9), the Company is required to maintain compliance with certain financial covenants (see Note 9). As of June 30, 2022, the Company was in compliance with its financial covenants. Due to the impact of market conditions, including supply chain disruptions, higher costs, and other geopolitical instabilities and disputes, the Company projects it may not maintain compliance with its financial covenants under the 2020 Credit Facility, as amended, for the quarter ended September 30, 2022. Failure to remain in compliance would be an event of default that would permit the Lenders (as defined in Note 9) to accelerate the maturity of the 2020 Credit Facility. As of the date of the issuance of these condensed consolidated financial statements, the Company does not have sufficient cash on hand or available liquidity to repay the outstanding balance of $ 340.5 million as of June 30, 2022 in the event the debt was accelerated. Management plans to avoid any potential event of default include raising additional cash that would allow the Company to pay down debt in order to remain in compliance with its financial covenants. In addition, the Company has the ability to sell its derivative financial instrument, which had an aggregate fair market value of $ 21 million as of June 30, 2022. Lastly, the Company would evaluate the timing of its capital spending and extension of its payment terms with vendors as needed. The Company believes its plans are probable of being successfully implemented, which along with its available cash on hand and liquidity from the factoring of receivables, will result in adequate cash to allow the Company to pay down debt to meet its financial covenant requirements. 12 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Recent Accounting Pronouncements In March 2022, the FASB issued ASU 2022-02, Financial Instruments – Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures (“ASU 2022-02”), which eliminates the accounting guidance on troubled debt restructurings (TDRs) for creditors in ASC 310, Receivables (Topic 310) , and requires entities to provide disclosures about current period gross write-offs by year of origination. Also, ASU 2022-02 updates the requirements related to accounting for credit losses under ASC 326, Financial Instruments – Credit Losses (Topic 326) , and adds enhanced disclosures for creditors with respect to loan refinancings and restructurings for borrowers experiencing financial difficulty. ASU 2022-02 is effective for the Company January 1, 2023, with early adoption permitted. The Company believes that the adoption of ASU 2022-02 will not have a material impact on its consolidated financial statements upon adoption. In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers ("ASU 2021-08"), which amends ASC 805, Business Combinations (Topic 805) , to add contract assets and contract liabilities to the list of exceptions to the recognition and measurement principles that apply to business combinations and to require that an acquiring entity recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers (Topic 606) ("ASC 606"). Under current GAAP, an acquirer generally recognizes such items at fair value on the acquisition date. While primarily related to contract assets and contract liabilities that were accounted for by the acquiree in accordance with ASC 606, ASU 2021-08 also applies to contract assets and contract liabilities from other contracts to which the provisions of ASC 606 apply, such as contract liabilities from the sale of nonfinancial assets within the scope of ASU 2017-05, Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20) . ASU 2021-08 is effective for the Company January 1, 2023, with early adoption permitted. The Company believes that the adoption of ASU 2021-08 could have a material impact on its consolidated financial statements for periods including and subsequent to significant business acquisitions. In January 2021 the FASB issued ASU 2021-01, Reference Rate Reform (Topic 848): Scope ("ASU 2021-01"), which refines the scope of ASC 848, Reference Rate Reform , and clarifies some of its guidance as part of the FASB's monitoring of global reference rate reform activities. ASU 2021-01 permits entities to elect certain optional expedients and exceptions when accounting for derivative contracts and certain hedging relationships affected by changes in the interest rates used for discounting cash flows, for computing variation margin settlements, and for calculating price alignment interest in connection with reference rate reform activities under way in global financial markets (the "discounting transition"). ASU 2021-01 is effective for the Company prospectively in any period through December 31, 2022 that a modification is made to the terms of the derivatives affected by the discounting transition. The adoption of ASU 2021-01 did not have a material impact on the Company's consolidated financial statements. (2) EARNINGS (LOSS) PER SHARE Basic earnings (loss) per share is computed by dividing net income (loss) by the weighted average number of shares outstanding during the period. For periods in which the Company reports net income, diluted net earnings per share is determined by using the weighted average number of common and dilutive common equivalent shares outstanding during the period, unless the effect is antidilutive. The calculations of shares used to compute diluted earnings (loss) per share were as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Weighted average shares outstanding - basic 150,190 147,467 149,681 146,706 Potential dilutive common shares — 6,693 — — Weighted average shares outstanding - diluted 150,190 154,160 149,681 146,706 Options to purchase the Company's common stock and unvested restricted and performance-based stock units aggregating 13 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) 15.4 million shares have not been included in the computation of loss per share for the three and six months ended June 30, 2022 because their effect would have been antidilutive. Options to purchase the Company's common stock aggregating 0.1 million shares have not been included in the computation of diluted earnings per share for the three months ended June 30, 2021 because their effect would have been antidilutive. Options to purchase the Company's common stock and unvested restricted and performance-based stock awards and stock units aggregating 12.1 million shares have not been included in the computation of diluted loss per share for the six months ended June 30, 2021 because their effect would have been antidilutive. (3) INVENTORY Inventory at June 30, 2022 and December 31, 2021 consisted of the following (in thousands): June 30, 2022 December 31, 2021 On-hand final assemblies and finished goods inventories $ 72,954 $ 57,360 Deferred cost of goods sold 2,055 1,474 75,009 58,834 Less noncurrent portion (included in other assets) ( 10,361 ) ( 4,791 ) Current portion $ 64,648 $ 54,043 (4) INTANGIBLE ASSETS AND GOODWILL The Company's intangible assets at June 30, 2022 and December 31, 2021 consisted of the following (in thousands): June 30, 2022 Weighted average amortization period (years) Cost Accumulated amortization Net carrying value In-process research and development * $ 34,000 $ 34,000 Developed technology 7.93 306,380 197,548 108,832 Customer relationships 11.86 268,140 91,949 176,191 Trade names 3.88 5,000 4,236 764 Internal use software 3.00 730 730 — 9.17 $ 614,250 $ 294,463 $ 319,787 December 31, 2021 Weighted average amortization period (years) Cost Accumulated amortization Net carrying value In-process research and development * $ 34,000 $ — $ 34,000 Developed technology 7.93 306,380 181,393 124,987 Customer relationships 11.86 268,140 77,653 190,487 Trade names 3.88 5,000 3,744 1,256 Internal use software 3.00 730 730 — 9.17 $ 614,250 $ 263,520 $ 350,730 * An in-process research and development intangible asset has an indefinite life until the product is generally available, at which time such asset is typically reclassified to developed technology. 14 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Estimated future amortization expense for the Company's intangible assets at June 30, 2022 was as follows (in thousands): Years ending December 31, Remainder of 2022 $ 29,506 2023 53,966 2024 46,899 2025 40,338 2026 36,489 2027 31,634 Thereafter 80,955 $ 319,787 There were no changes to the carrying value of the Company's goodwill in the six months ended June 30, 2022 and 2021. The components of goodwill at June 30, 2022 and 2021 were as follows (in thousands): Cloud and Edge IP Optical Networks Total Balance at June 30, 2022 Goodwill $ 392,302 $ 191,996 $ 584,298 Accumulated impairment losses ( 167,406 ) ( 116,000 ) ( 283,406 ) $ 224,896 $ 75,996 $ 300,892 Balance at June 30, 2021 Goodwill $ 392,302 $ 191,996 $ 584,298 Accumulated impairment losses ( 167,406 ) — ( 167,406 ) $ 224,896 $ 191,996 $ 416,892 (5) INVESTMENTS AND FAIR VALUE HIERARCHY The Company received debentures and warrants as sale consideration in connection with the sale of its Kandy Communications Business on December 1, 2020 to American Virtual Cloud Technologies, Inc. ("AVCT"). The debentures bore interest at a rate of 10 % per annum (the "Debentures"), which was added to the principal amount of the Debentures. The Company recorded $ 1.2 million and $ 2.7 million of interest income in the three and six months ended June 30, 2021, which was added to the principal amount of the Debentures, and which is included in Interest expense, net, in the condensed consolidated statement of operations. On September 8, 2021 (the "Debenture Conversion Date"), the debentures were converted into 13,700,421 shares of AVCT common stock (the "Debenture Shares"). The warrants entitle the Company to purchase 4,377,800 shares of AVCT common stock at an exercise price of $ 0.01 per share, and expire on December 1, 2025 (the "Warrants"). The Company had not exercised any of the Warrants as of June 30, 2022. The Company's investment in AVCT (the "AVCT Investment") is comprised of the debentures and Warrants for periods prior to the Debenture Conversion Date and the Debenture Shares and Warrants for periods subsequent to the Debenture Conversion Date. The Company is recording the AVCT Investment at fair value, with changes in fair value recorded as a component of Other (expense) income, net, in the condensed consolidated statements of operations. The fair values of the AVCT Investment, which are reported as Investments in the Company's condensed consolidated balance sheets, were $ 4.5 million and $ 43.9 million at June 30, 2022 and December 31, 2021, respectively. The Company recorded losses of $ 12.4 million and $ 39.4 million in the three and six months ended June 30, 2022, respectively, representing the change in the fair value of the AVCT Investment. The Company recorded a gain of $ 12.1 million and a loss of $ 11.8 million in the three and six months ended June 30, 2021, respectively, representing the change in the fair value of the AVCT Investment, which loss was partially offset by the paid-in-kind interest income described above. The AVCT Investment is classified as a Level 1 fair value measurement at both June 30, 2022 and December 31, 2021. The Company evaluated the nature of its investment in AVCT at June 30, 2022 and December 31, 2021, and determined that it represented an equity interest on a diluted basis of approximately 9 % and 15 %, respectively. The Company determined 15 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) that it is not the primary beneficiary of AVCT as it does not have the power to direct the activities that most significantly impact the AVCT Investment's economic performance, and therefore concluded that it had neither significant influence nor a controlling interest arising from the AVCT Investment that would require consolidation as of June 30, 2022 or December 31, 2021. The carrying amounts of the Company's financial instruments approximate their fair values and include cash equivalents, accounts receivable, borrowings under a revolving credit facility, accounts payable and long-term debt. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. The three-tier fair value hierarchy is based on the level of independent, objective evidence surrounding the inputs used to measure fair value. A financial instrument's categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The fair value hierarchy is as follows: Level 1. Level 1 applies to assets or liabilities for which there are quoted prices in active markets for identical assets or liabilities. Level 2. Level 2 applies to assets or liabilities for which there are inputs that are directly or indirectly observable in the marketplace, such as quoted prices for similar assets or liabilities in active markets or quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets). Level 3. Level 3 applies to assets or liabilities for which there are unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of the assets or liabilities. (6) ACCRUED EXPENSES AND OTHER Accrued expenses at June 30, 2022 and December 31, 2021 consisted of the following (in thousands): June 30, 2022 December 31, 2021 Employee compensation and related costs $ 31,323 $ 38,040 Professional fees 17,635 14,365 Other 50,993 48,347 $ 99,951 $ 100,752 (7) WARRANTY ACCRUALS The changes in the Company's accrual balance in the six months ended June 30, 2022 were as follows (in thousands): Balance at January 1, 2022 $ 13,120 Current period provisions 2,676 Settlements ( 2,838 ) Balance at June 30, 2022 $ 12,958 (8) RESTRUCTURING AND FACILITIES CONSOLIDATION INITIATIVES The Company recorded restructuring and related expense aggregating $ 2.9 million and $ 2.8 million in the three months ended June 30, 2022 and 2021, respectively, and $ 7.7 million and $ 8.8 million in the six months ended June 30, 2022 and 2021, respectively. Restructuring and related expense includes restructuring expense (primarily severance and related costs), estimated future variable lease costs for vacated properties with no intent or ability of sublease, and accelerated rent 16 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) amortization expense. For restructuring events that involve lease assets and liabilities, the Company applies lease reassessment and modification guidance and evaluates the right-of-use assets for potential impairment. If the Company plans to exit all or distinct portions of a facility and does not have the ability or intent to sublease, the Company will accelerate the amortization of each of those lease components through the vacate date. The accelerated amortization is recorded as a component of Restructuring and related expense in the Company's condensed consolidated statements of operations. Related variable lease expenses will continue to be expensed as incurred through the vacate date, at which time the Company will reassess the liability balance to ensure it appropriately reflects the remaining liability associated with the premises and records a liability for the estimated future variable lease costs. Restructuring and related expense for the three and six months ended June 30, 2022 and 2021 was comprised of the following (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Severance and related costs $ 859 $ 1,926 $ 4,981 $ 2,595 Variable and other facilities-related costs 1,072 $ 904 1,764 2,817 Accelerated amortization of lease assets due to cease-use 963 $ — 963 3,368 $ 2,894 $ 2,830 $ 7,708 $ 8,780 Accelerated Rent Amortization Accelerated rent amortization of lease assets is recognized from the date that the Company commences the plan to fully or partially vacate a facility, for which there is no intent or ability to enter into a sublease, through the final vacate date. The liability for the total lease payments for each respective facility is included as a component of Operating lease liabilities in the Company's condensed consolidated balance sheets, both current and noncurrent (see Note 15). The Company may incur additional future expense if it is unable to sublease other locations included in its restructuring initiatives. 2022 Restructuring Plan On February 14, 2022, the Company's Board of Directors approved a strategic restructuring program (the "2022 Restructuring Plan") to streamline the Company's operations in order to support the Company's investment in critical growth areas. The 2022 Restructuring Plan is expected to include, among other things, charges related to a consolidation of facilities and a workforce reduction. Any positions eliminated in countries outside the United States are subject to local law and consultation requirements. The Company recorded restructuring and related expense of $ 2.9 million and $ 7.1 million in the three and six months ended June 30, 2022, respectively, in connection with the 2022 Restructuring Plan. The amount for the three months ended June 30, 2022 was comprised of $ 1.1 million for variable and other facilities-related costs, $ 1.0 million for accelerated amortization of lease assets no longer being used with no ability or intent to sublease, and $ 0.8 million for severance and related costs for approximately 10 employees. The amount for the six months ended June 30, 2022 was comprised of $ 5.0 million for severance and related costs for approximately 60 employees, $ 1.1 million for variable and other facilities-related costs and $ 1.0 million for accelerated amortization of lease assets no longer being used with no ability or intent to sublease. A summary of the 2022 Restructuring Plan accrual activity for the six months ended June 30, 2022 is as follows (in thousands): 17 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Balance at January 1, 2022 Initiatives charged to expense Cash payments Net transfer to operating lease liability accounts exchange Balance at June 30, 2022 Severance $ — $ 5,037 $ ( 1,810 ) $ — $ 3,227 Variable and other facilities-related costs — 1,072 ( 728 ) — 344 Accelerated amortization of lease assets due to cease-use — 963 — ( 963 ) — $ — $ 7,072 $ ( 2,538 ) $ ( 963 ) $ 3,571 Balance Sheet Classification The current portions of accrued restructuring are included as a component of Accrued expenses and the long-term portions of accrued restructuring are included as a component of Other long-term liabilities in the condensed consolidated balance sheets. The long-term portions of accrued restructuring relate to facilities and totaled $ 1.7 million at June 30, 2022 and $ 1.6 million at December 31, 2021. (9) DEBT 2020 Credit Facility On March 3, 2020, the Company entered into a Senior Secured Credit Facilities Credit Agreement (as amended, the "2020 Credit Facility"), by and among the Company, as a guarantor, Ribbon Communications Operating Company, Inc., as the borrower ("Borrower"), Citizens Bank, N.A. ("Citizens"), as administrative agent, a lender, issuing lender, swingline lender, joint lead arranger and bookrunner, Santander Bank, N.A., as a lender, joint lead arranger and bookrunner, and the other lenders party thereto (each, together with Citizens Bank, N.A. and Santander Bank, N.A., referred to individually as a "Lender", and collectively, the "Lenders"). The proceeds of the 2020 Credit Facility were used, in part, to pay off in full all obligations of the Company under its prior credit facility. The 2020 Credit Facility provides for $ 500 million of commitments from the Lenders to the Borrower, comprised of $ 400 million in term loans (the "2020 Term Loan Facility") and a $ 100 million facility available for revolving loans (the "2020 Revolving Credit Facility"). Under the 2020 Revolving Credit Facility, a $ 30 million sublimit is available for letters of credit and a $ 20 million sublimit is available for swingline loans. Under the 2020 Credit Facility, the Company was originally required to make quarterly principal payments aggregating approximately $ 10 million in the first year, $ 20 million per year for the following three years, and $ 30 million in the last year, with the remaining balance due on the maturity date. The 2020 Credit Facility also requires periodic interest payments until maturity. The indebtedness and other obligations under the 2020 Credit Facility are unconditionally guaranteed on a senior secured basis by the Company, Edgewater Networks, Inc., a wholly-owned subsidiary of the Company, and GENBAND Inc., a wholly-owned subsidiary of the Company (together, the "Guarantors"). The facilities under the 2020 Credit Facility are secured by first-priority liens on substantially all of the assets of the Borrower and the Guarantors, including substantially all of the assets of the Company. The 2020 Credit Facility requires compliance with certain financial covenants, including a minimum Consolidated Fixed Charge Coverage Ratio and a maximum Consolidated Net Leverage Ratio (each as defined in the 2020 Credit Facility, and each tested on a quarterly basis). In addition, the 2020 Credit Facility contains various covenants that, among other restrictions, limit the Company’s and its subsidiaries’ ability to incur or assume indebtedness; grant or assume liens; make acquisitions or engage in mergers; sell, transfer, assign or convey assets; repurchase equity and make dividend and certain other restricted payments; make investments; 18 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) engage in transactions with affiliates; enter into sale and leaseback transactions; enter into burdensome agreements; change the nature of its business; modify their organizational documents; and amend or make prepayments on certain junior debt. The 2020 Credit Facility contains events of default that are customary for a secured credit facility. If an event of default relating to bankruptcy or other insolvency events with respect to the Company or any of its subsidiaries occurs, all obligations under the 2020 Credit Facility will immediately become due and payable. If any other event of default occurs under the 2020 Credit Facility, the lenders may accelerate the maturity of the obligations outstanding under the Credit Facility and exercise other rights and remedies, including charging a default rate of interest equal to 2.00 % per year above the rate that would otherwise be applicable. In addition, if any event of default exists under the 2020 Credit Facility, the lenders can commence foreclosure or other actions against the collateral. On August 18, 2020 (the "First Amendment Date"), the Borrower entered into a First Amendment to the 2020 Credit Facility (the "First Amendment"). Pursuant to an assignment and assumption agreement entered into by Citizens and certain affiliates of Whitehorse Capital on the First Amendment Date (collectively, "HIG Whitehorse"), and consented to by Citizens and the Borrower, $ 75 million of the 2020 Term Loan Facility, designated as the Term B Loan (the "Term B Loan"), was assigned from Citizens to HIG Whitehorse as of August 18, 2020. The remaining $ 325 million of the 2020 Term Loan Facility that was not assigned to HIG Whitehorse was deemed the Term A Loan (the "Term A Loan" and, together with the Term B Loan, the "Amended 2020 Term Loan Facility"). The Term A Loan and the 2020 Revolving Credit Facility mature in March 2025. The Term A Loan and 2020 Revolving Credit Facility bear interest at the Borrower's option at either the LIBOR rate plus a margin ranging from 1.50 % to 3.50 % per year, or the base rate (the highest of the Federal Funds Effective Rate (as defined in the 2020 Credit Facility) plus 0.50 %, or the prime rate announced from time to time in The Wall Street Journal) plus a margin ranging from 0.50 % to 2.50 % per year (the "Applicable Margin"). The Applicable Margin varies depending on the Company's Consolidated Net Leverage Ratio (as defined in the 2020 Credit Facility). The base rate and the LIBOR rate are each subject to a zero percent floor. The Company was required to make quarterly principal payments on the Term A Loan aggregating approximately $ 10 million in the first year, $ 16 million per year in each of the next two years, $ 20 million in the fourth year and $ 16 million in the last year, with the final payment approximating $ 244 million due on the maturity date. The Borrower could prepay all amounts under the Term A Loan and the 2020 Revolving Credit Facility at any time without premium or penalty (other than customary LIBOR breakage costs), subject to certain notice requirements. The Term B Loan was scheduled to mature in March 2026 and bore interest, at the Borrower's option, at either the LIBOR rate plus a margin of 7.50 % per year, or the base rate (the highest of the Federal Funds Effective Rate (as defined in the First Amendment) plus 0.50 %, or the prime rate announced from time to time in The Wall Street Journal, plus a margin of 6.50 % per year. The Term B Loan had a lower rate of amortization than the Term A Loan and was subject to a 1.0 % premium if voluntarily repaid in connection with a repricing transaction (as defined in the 2020 Credit Facility) occurring prior to the six-month anniversary of the First Amendment Effective Date. The Company was required to make quarterly principal payments totaling approximately $ 1 million in the first year and $ 8 million in the aggregate over the next four and a half years, with the final payment approximating $ 66 million. The First Amendment reduced the Borrower's ability to incur new tranches of term loans, or increases in commitments under the Amended 2020 Term Loan Facility or the 2020 Revolving Credit Facility. Specifically, such indebtedness could be incurred up to an aggregate dollar amount equal to 75 % of the Company's Consolidated Adjusted EBITDA (as defined in the 2020 Credit Facility), reduced from 100 % prior to the First Amendment, as of the most recently ended fiscal quarter for which financial statements had been delivered to the lenders, plus additional amounts, so long as the Borrower's Consolidated Net Leverage Ratio (as defined in the 2020 Credit Agreement) did not exceed 2.25 :1.00, reduced from 2.75 :1.00 under the 2020 Credit Facility. The First Amendment also reduced the amount of Unrestricted Cash (as defined in the 2020 Credit Facility) used in calculating the Borrower's Consolidated Net Leverage Ratio from $ 25 million to $ 10 million. On December 1, 2020, the Borrower entered into a Second Amendment to the 2020 Credit Facility to obtain consent for an equity exchange with AVCT in connection with the Kandy Sale, as well as to amend certain other provisions of the 2020 Credit Facility. 19 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) On March 3, 2021 (the "Third Amendment Date"), the Company, the Borrower and certain of its subsidiaries entered into a Third Amendment to Credit Agreement (the "Third Amendment"), which further amended the 2020 Credit Facility. The Third Amendment provided for an incremental term loan facility to the Borrower in the original principal amount of $ 74.6 million, the proceeds of which were used on the Third Amendment Date to consummate an open market purchase of all outstanding amounts under the Term B Loan. Upon the consummation of the open market purchase, the Term B Loans were assigned to the Borrower and immediately cancelled, such that the outstanding amount under the Term A Loan and incremental term loan facility were combined and held by the Lenders (the "2020 Term Loan") with the same terms as the Term A Loan. The Company wrote off $ 2.5 million of capitalized debt issuance costs in connection with the Third Amendment, which is included in Interest expense, net, in the Company's condensed consolidated statement of operations for the six months ended June 30, 2021. The Company was required to make quarterly principal payments on the 2020 Term Loan aggregating approximately $ 20 million per year in the first three years and $ 30 million in the fourth year, with the final payment approximating $ 300 million due on the maturity date. The Third Amendment increased the Borrower's ability to incur new incremental revolving commitments or term loans. Such indebtedness can be incurred up to an aggregate dollar limit equal to 100 % of the Company's Consolidated Adjusted EBITDA (as defined in the 2020 Credit Facility) as of the most recently ended fiscal quarter for which financial statements have been delivered to the Lenders, plus additional amounts, so long as the Borrower's Consolidated Net Leverage Ratio (as defined in the Credit Agreement) does not exceed 2.75 :1.00, increased from 2.25 :1.00 under the First Amendment. The Third Amendment also increased the amount of Unrestricted Cash (as defined in the 2020 Credit Facility) used in calculating the Borrower's Consolidated Net Leverage Ratio from $ 10.0 million to $ 25.0 million. On March 10, 2022, the Borrower entered into a Fourth Amendment to the 2020 Credit Facility (the "Fourth Amendment") to increase the Maximum Consolidated Net Leverage Ratio (as defined in the 2020 Credit Facility) to 4.25 :1.00 for the first quarter of 2022 and 4.50 :1.00 for the second quarter of 2022, with reductions in subsequent quarters through the third quarter of 2023, when the ratio will be fixed at 3.00 :1.00. In connection with the Fourth Amendment, the Company made a $ 15.0 million prepayment that was applied to the final payment due on the maturity date. Subsequent to the Fourth Amendment, the Company was required to make quarterly principal payments on the 2020 Term Loan aggregating approximately $ 20 million per year for the next two years and $ 30 million in the following year, with the final payment approximating $ 285 million due on the maturity date. On June 30, 2022, the Borrower entered into a Fifth Amendment to the 2020 Credit Facility (the "Fifth Amendment") to increase the Maximum Consolidated Net Leverage Ratio (as defined in the 2020 Credit Facility) to 5.25 :1.00 for the second quarter of 2022, 5.00 :1.00 for the third quarter of 2022, and 4.75 :1.00 for the fourth quarter of 2022. Also, the Fifth Amendment reduced the minimum Consolidated Fixed Charge Coverage Ratio (as defined in the 2020 Credit Facility) to 1.10 :1.00 for the second, third and fourth quarters of 2022 and increased the maximum rate at which loans bear interest if the Company's Consolidated Net Leverage Ratio for any quarter is greater than 4.50 :1.00. Specifically, pursuant to the Fifth Amendment, loans incurred under the Senior Secured Credit Facilities bear interest, at the Borrower’s option, at either LIBOR plus a margin ranging from 1.50 % to 4.50 % per year, or the base rate (the highest of the Federal Funds Effective Rate (as defined in the Credit Agreement) plus 0.50 %, or the prime rate announced from time to time in The Wall Street Journal) plus a margin ranging from 0.50 % to 3.50 % per year (such margins being referred to as the “Applicable Margin”). In addition, the Fifth Amendment allows the Company to incur junior secured or unsecured debt in an amount no less than $ 50 million, subject to certain conditions, including the requirement that 50 % of the aggregate amount of such incurred debt (net of certain costs, fees and other amounts) must be applied to prepay the Senior Secured Credit Facilities, and compliance with certain leverage ratio-based covenant exceptions. In connection with the Fifth Amendment, the Company made a $ 10.0 million voluntary prepayment that was applied to the final payment due on the maturity date. Subsequent to the Fifth Amendment, the Company is required to make quarterly principal payments on the 2020 Term Loan aggregating approximately $ 5.0 million per quarter through March 31, 2024 and $ 10.0 million in each of the three quarters thereafter, with the final payment approximating $ 275 million due on the maturity date in March 2025. At June 30, 2022, the Company had an outstanding balance under the 2020 Term Loan of $ 340.5 million at an average interest rate of 4.4 % and $ 4.3 million of letters of credit outstanding with an interest rate of 3.5 %. At December 31, 2021, the Company had an outstanding 2020 Term Loan balance of $ 375.5 million at an average interest rate of 3.4 % and $ 4.3 million of letters of credit outstanding with an interest rate of 2.5 %. The Company was in compliance with all covenants of the 2020 Credit Facility at both June 30, 2022 and December 31, 2021. 20 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Letters of Credit and Performance and Bid Bonds The Company uses letters of credit and performance and bid bonds in the course of its business. At June 30, 2022, the Company had letters of credit, bank guarantees, and performance and bid bonds outstanding (collectively, "Guarantees") aggregating $ 25.4 million , comprised of the $ 4.3 million of letters of credit under the 2020 Credit Facility described above (the "Letters of Credit") and $ 21.1 million of bank guarantees and performance and bid bonds (collectively, the "Other Guarantees") under various uncommitted facilities. At December 31, 2021, the Company had Guarantees aggregating $ 30.1 million, comprised of the $ 4.3 million of Letters of Credit noted above and $ 25.8 million of Other Guarantees. At June 30, 2022 and December 31, 2021, the Company had cash collateral of $ 2.0 million and $ 2.6 million, respectively, supporting the Guarantees, which is reported as Restricted cash in the condensed consolidated balance sheets. (10) DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES The Company is exposed to financial market risk related to foreign currency fluctuations and changes in interest rates. These exposures are actively monitored by management. To manage the volatility related to the exposure to changes in interest rates, the Company has entered into a derivative financial instrument. Management's objective is to reduce, where it is deemed appropriate to do so, fluctuations in earnings and cash flows associated with changes in interest rates. Ribbon's policies and practices are to use derivative financial instruments only to the extent necessary to manage exposures. Ribbon does not hold or issue derivative financial instruments for trading or speculative purposes. The Company records derivatives on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative, whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a specific risk, such as interest rate risk, are considered fair value hedges. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Derivatives may also be designated as hedges of the foreign currency exposure of a net investment in a foreign operation. Hedge accounting generally provides for the matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in a fair value hedge, or the earnings effect of the hedged forecasted transactions in a cash flow hedge. The Company may enter into derivative contracts that are intended to economically hedge certain of its risk even though hedge accounting does not apply or the Company elects not to apply hedge accounting. Cash Flow Hedge of Interest Rate Risk The 2020 Term Loan Facility had outstanding balances of $ 340.5 million and $ 375.5 million at June 30, 2022 and December 31, 2021, respectively. The 2020 Revolving Credit Facility was undrawn at both J une 30, 2022 and December 31, 2021. Borrowings under the 2020 Credit Facility have variable interest rates based on LIBOR (see Note 9). As a result of exposure to interest rate movements, during March 2020, the Company entered into an interest rate swap arrangement, which effectively converted its $ 400 million term loan with its variable interest rate based upon one-month LIBOR to an aggregate fixed rate of 0.904 %, plus a leverage-based margin as defined in the 2020 Credit Facility. The notional amount of this swap at June 30, 2022 was $ 400 million, and the swap matures on March 3, 2025, the same date the 2020 Credit Facility matures. The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company is using an interest rate swap as part of its interest rate risk management strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable amounts from a counterparty in exchange for the Company making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. The effective portion of changes in the fair value of designated derivatives that qualify as cash flow hedges is recorded in accumulated other comprehensive income in the condensed consolidated balance sheet and is subsequently reclassified into earnings in the period that the hedged forecasted transactions affect earnings. During the three and six months ended June 30, 2022 and 2021, such a derivative was used to hedge the variable cash flows associated with the outstanding borrowings under 21 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) the 2020 Credit Facility and the Company has accounted for this derivative as an effective hedge. Any ineffective portion of the change in the fair value of the derivative would be recognized directly in earnings. Amounts reported in accumulated other comprehensive income related to the Company's derivative are reclassified to interest expense as interest is accrued on the Company’s variable-rate debt. Based upon projected forward rates, the Company estimates as of June 30, 2022 that $ 8.0 million may be reclassified as a decrease to interest expense over the next twelve months. The impact of the Company’s derivative financial instrument on its condensed consolidated statements of comprehensive (loss) income for the three and six months ended June 30, 2022 and 2021 was as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Gain (loss) recognized in other comprehensive income (loss) on derivative (effective portion) $ 3,916 $ ( 1,015 ) $ 18,629 $ 4,875 Amount reclassified from accumulated other comprehensive income (loss) to interest expense (effective portion) 137 810 893 1,589 $ 4,053 $ ( 205 ) $ 19,522 $ 6,464 The fair values and locations in the condensed consolidated balance sheets at June 30, 2022 and December 31, 2021 of the Company's derivative assets (liabilities) designated as a hedging instrument were as follows (in thousands): Balance sheet location June 30, 2022 December 31, 2021 Interest rate derivative - asset derivative Other current assets $ 8,032 $ — Interest rate derivative - asset derivative Other assets 13,301 3,865 Interest rate derivative - liability derivative Accrued expenses and other — ( 2,054 ) $ 21,333 $ 1,811 The Company has classified the interest rate derivative aggregating $ 21.3 million and $ 1.8 million at June 30, 2022 and December 31, 2021, respectively, as Level 2 fair value measurements within the fair value hierarchy (see Note 5). 22 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) (11) REVENUE RECOGNITION The Company derives revenue from two primary sources: products and services. Product revenue includes the Company's hardware and software that function together to deliver the products' essential functionality. Software and hardware are also sold on a standalone basis. Services include customer support (software updates, upgrades and technical support), consulting, design services, installation services and training. Generally, contracts with customers contain multiple performance obligations, consisting of products and services. For these contracts, the Company accounts for individual performance obligations separately if they are considered distinct. When an arrangement contains more than one performance obligation, the Company will allocate the transaction price to each performance obligation on a relative standalone selling price basis. The Company utilizes the observable price of goods and services when they are sold separately to similar customers in order to estimate standalone selling price. The Company's software licenses typically provide a perpetual right to use the Company's software. The Company also sells term-based software licenses that expire and Software-as-a-Service ("SaaS")-based software which are referred to as subscription arrangements. The Company does not customize its software nor are installation services required, as the customer has a right to utilize internal resources or a third-party service company. The software and hardware are delivered before related services are provided and are functional without professional services or customer support. The Company has concluded that its software licenses are functional intellectual property that are distinct, as the user can benefit from the software on its own. Product revenue is typically recognized upon transfer of control or when the software is made available for download, as this is the point the user of the software can direct the use of, and obtain substantially all of the remaining benefits from, the functional intellectual property. The Company begins to recognize software revenue related to the renewal of subscription software licenses at the start of the subscription period. The Company offers warranties on its products. Certain of the Company's warranties are considered to be assurance-type in nature, ensuring the product is functioning as intended. Assurance-type warranties do not represent separate performance obligations. The Company also sells separately-priced maintenance service contracts which qualify as service-type warranties and represent separate performance obligations. The Company does not allow and has no history of accepting product returns. Services revenue includes revenue from customer support and other professional services. Customer support includes software updates on a when-and-if-available basis, telephone support, integrated web-based support and bug fixes or patches. The Company sells its customer support contracts at a percentage of list or net product price. Customer support revenue is recognized ratably over the term of the customer support agreement, which is typically one year . The Company's professional services include consulting, technical support, resident engineer services, design services and installation services. Because control transfers over time, revenue is recognized based on progress toward completion of the performance obligation. The method to measure progress toward completion requires judgment and is based on the nature of the products or services to be provided. The Company generally uses the input method to measure progress for its contracts because it believes such method best depicts the transfer of assets to the customer, which occurs as the Company incurs costs for the contracts. However, in some instances, the Company uses the output method because it best depicts the transfer of asset to the customer. Under the cost-to-cost measure of progress, the progress toward completion is measured based on the ratio of costs incurred to date to the total estimated costs at completion of the performance obligation. When the measure of progress is based upon expended labor, progress toward completion is measured as the ratio of labor time expended to date versus the total estimated labor time required to complete the performance obligation. Revenue is recorded proportionally as costs are incurred or as labor is expended. Costs to fulfill these obligations include internal labor as well as subcontractor costs. Customer training includes courses offered by the Company. The related revenue is typically recognized as the training services are performed. 23 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) The Company's typical performance obligations include the following: Performance Obligation When Performance Obligation is Typically Satisfied When Payment is Typically Due Software and Product Revenue Software licenses (perpetual or term) Upon transfer of control; typically, when made available for download (point in time) Generally, within 30 days of invoicing except for term licenses, which may be paid for over time Software licenses (subscription) Upon activation of hosted site (over time) Generally, within 30 days of invoicing Hardware When control of the hardware passes to the customer; typically, upon delivery (point in time) Generally, within 30 days of invoicing Software upgrades Upon transfer of control; typically, when made available for download (point in time) Generally, within 30 days of invoicing Customer Support Revenue Customer support Ratably over the course of the support contract (over time) Generally, within 30 days of invoicing Professional Services Other professional services (excluding training services) As work is performed (over time) Generally, within 30 days of invoicing (upon completion of services) Training When the class is taught (point in time) Generally, within 30 days of services being performed Significant Judgments The Company's contracts with customers often include promises to transfer multiple products and services to the customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. Judgment is required to determine the standalone selling price ("SSP") for each distinct performance obligation. The Company typically has more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, the Company may use information such as the size of the customer and geographic region in determining the SSP. Deferred Revenue Deferred revenue is a contract liability representing amounts collected from or invoiced to customers in excess of revenue recognized. This results primarily from the billing of annual customer support agreements where the revenue is recognized over the term of the agreement. The value of deferred revenue will increase or decrease based on the timing of recognition of revenue. Disaggregation of Revenue The Company disaggregates its revenue from contracts with customers based on the nature of the products and services and the geographic regions in which each customer is domiciled. The Company's revenue for the three and six months ended June 30, 2022 and 2021 was disaggregated as follows: 24 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Three months ended June 30, 2022 Product revenue Service revenue (maintenance) Service revenue (professional services) Total revenue United States $ 53,743 $ 33,046 $ 11,360 $ 98,149 Europe, Middle East and Africa 28,528 18,700 6,545 53,773 Asia Pacific 23,004 9,371 4,158 36,533 Other 7,392 8,341 1,608 17,341 $ 112,667 $ 69,458 $ 23,671 $ 205,796 Three months ended June 30, 2021 Product revenue Service revenue (maintenance) Service revenue (professional services) Total revenue United States $ 56,128 $ 32,816 $ 11,590 $ 100,534 Europe, Middle East and Africa 31,309 20,739 7,741 59,789 Asia Pacific 19,045 10,837 3,868 33,750 Other 6,647 8,045 2,445 17,137 $ 113,129 $ 72,437 $ 25,644 $ 211,210 Six months ended June 30, 2022 Product revenue Service revenue (maintenance) Service revenue (professional services) Total revenue United States $ 85,683 $ 66,110 $ 22,005 $ 173,798 Europe, Middle East and Africa 52,938 36,442 13,356 102,736 Asia Pacific 45,394 19,796 7,605 72,795 Other 10,642 15,715 3,308 29,665 $ 194,657 $ 138,063 $ 46,274 $ 378,994 Six months ended June 30, 2021 Product revenue Service revenue (maintenance) Service revenue (professional services) Total revenue United States $ 92,940 $ 64,422 $ 22,752 $ 180,114 Europe, Middle East and Africa 59,517 40,394 14,651 114,562 Asia Pacific 44,627 20,585 9,671 74,883 Other 13,934 15,741 4,748 34,423 $ 211,018 $ 141,142 $ 51,822 $ 403,982 The Company's product revenue from indirect sales through its channel partner program and from its direct sales program for the three and six months ended June 30, 2022 and 2021 was as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Indirect sales through channel partner program $ 28,453 $ 27,114 $ 51,953 $ 47,277 Direct sales 84,214 86,015 142,704 163,741 $ 112,667 $ 113,129 $ 194,657 $ 211,018 The Company's product revenue from sales to enterprise customers and from sales to service provider customers for the three and six months ended June 30, 2022 and 2021 was as follows (in thousands): 25 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Sales to enterprise customers $ 22,837 $ 24,522 $ 44,920 $ 47,190 Sales to service provider customers 89,830 88,607 149,737 163,828 $ 112,667 $ 113,129 $ 194,657 $ 211,018 The Company's product revenue and service revenue components by segment for the three and six months ended June 30, 2022 and 2021 were as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Product revenue: Cloud and Edge $ 64,125 $ 64,361 $ 101,760 $ 114,513 IP Optical Networks 48,542 48,768 92,897 96,505 Total product revenue $ 112,667 $ 113,129 $ 194,657 $ 211,018 Service revenue: Maintenance: Cloud and Edge $ 55,179 $ 57,986 $ 110,209 $ 112,659 IP Optical Networks 14,279 14,451 27,854 28,483 Total maintenance revenue 69,458 72,437 138,063 141,142 Professional services: Cloud and Edge 17,776 19,074 34,917 39,671 IP Optical Networks 5,895 6,570 11,357 12,151 Total professional services revenue 23,671 25,644 46,274 51,822 Total service revenue $ 93,129 $ 98,081 $ 184,337 $ 192,964 Revenue Contract Balances The timing of revenue recognition, billings and cash collections results in billed accounts receivable; unbilled receivables, which are contract assets; and customer advances and deposits, which are contract liabilities, in the Company's condensed consolidated balance sheets. Amounts are billed as work progresses in accordance with agreed-upon contractual terms, either at periodic intervals or upon achievement of contractual milestones. Completion of services and billing may occur subsequent to revenue recognition, resulting in contract assets. The Company may receive advances or deposits from its customers before revenue is recognized, resulting in contract liabilities that are classified as deferred revenue. These assets and liabilities are reported in the Company's condensed consolidated balance sheets on a contract-by-contract basis as of the end of each reporting period. Changes in the contract asset and liability balances during the three months ended June 30, 2022 were not materially impacted by any factors other than billing and revenue recognition. Nearly all of the Company's deferred revenue balance is related to services revenue, primarily customer support contracts. Unbilled receivables stem primarily from engagements where services have been performed; however, billing cannot occur until services are completed. In some arrangements, the Company allows customers to pay for term-based software licenses and products over the term of the software license. The Company also sells SaaS-based software under subscription arrangements, with payment terms over the term of the SaaS agreement. Amounts recognized as revenue in excess of amounts billed are recorded as unbilled receivables. Unbilled receivables that are anticipated to be invoiced in the next twelve months are included in Accounts receivable on the Company's condensed consolidated balance sheets. The changes in the Company's accounts receivable, unbilled receivables and deferred revenue balances for the six months ended June 30, 2022 were as follows (in thousands): 26 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Accounts receivable Unbilled accounts receivable Deferred revenue (current) Deferred revenue (long-term) Balance at January 1, 2022 $ 208,972 $ 73,945 $ 109,119 $ 20,619 Increase (decrease), net ( 35,994 ) 11,193 ( 2,656 ) ( 1,035 ) Balance at June 30, 2022 $ 172,978 $ 85,138 $ 106,463 $ 19,584 The Company recognized approximately $ 66 million of revenue in the six months ended June 30, 2022 that was recorded as deferred revenue at December 31, 2021 and approximately $ 60 million of revenue in the six months ended June 30, 2021 that was recorded as deferred revenue at December 31, 2020. Of the Company's deferred revenue reported as long-term in its condensed consolidated balance sheet at June 30, 2022, the Company expects that approximately $ 8 million will be recognized as revenue in 2023, approximately $ 9 million will be recognized as revenue in 2024 and approximately $ 3 million will be recognized as revenue in 2025 and beyond. All freight-related customer invoicing is recorded as revenue, while the shipping and handling costs that occur after control of the promised goods or services transfer to the customer are reported as fulfillment costs, a component of Cost of revenue - product in the Company's condensed consolidated statements of operations. Deferred Commissions Cost Sales commissions earned by the Company's employees are considered incremental and recoverable costs of obtaining a contract with a customer. Expense related to commission payments has been deferred on our condensed consolidated balance sheet and is being amortized over the expected life of the customer contract, which averages five years . The current and long-term portions of deferred commission expense are included as components of Other current assets and Other assets, respectively. At both June 30, 2022 and December 31, 2021, the Company had $ 3.8 million of deferred sales commissions capitalized. 27 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) (12) OPERATING SEGMENT INFORMATION The Company has two reportable segments, which are intended to align with the manner in which the business is managed: Cloud and Edge, and IP Optical Networks. The Cloud and Edge segment provides secure and reliable software and hardware products, solutions and services for enabling Voice over Internet Protocol ("VoIP") communications, Voice over Long-Term Evolution ("VoLTE") and Voice Over 5G ("VoNR") communications, and Unified Communications and Collaboration ("UC&C") within service provider and enterprise networks and from the cloud. The Cloud and Edge products are increasingly software-centric and cloud-native for deployment on private, public or hybrid cloud infrastructures, in data centers, on enterprise premises and within service provider networks. Ribbon's Cloud and Edge product portfolio consists of its Session Border Controller ("SBC") products and its Network Transformation ("NTR") products. The IP Optical Networks segment provides high-performance, secure solutions for IP networking and optical transport, supporting wireless networks including 5G, metro and edge aggregation, core networking, data center interconnect, legacy transformation and transport solutions for wholesale carriers. This portfolio is offered to service provider, enterprise and industry verticals with critical transport network infrastructures including utilities, government, defense, transportation, and education and research. The Company has not provided segment asset information as such information is not provided to the CODM and accordingly, asset information is not used in assessing segment performance. Segment revenue and expenses included in the tables below represent direct revenue and expense attributable to each segment. Please see Note 4 for information regarding the allocation of goodwill between segments. The CODM utilizes revenue and adjusted gross profit to measure and assess each segment's performance. The Company calculates adjusted gross profit by excluding from cost of revenue: amortization of acquired technology and stock-based compensation, and may also exclude other items in future periods that the Company believes are not part of the Company's core business. Adjusted gross profit is not a financial measure determined in accordance with U.S. GAAP and may not be comparable to similarly titled measures used by other companies, and should not be considered a substitute for gross profit or other results reported in accordance with U.S. GAAP. See below for a reconciliation of adjusted gross profit to gross profit, which is the most directly comparable U.S. GAAP measure. The tables below provide information regarding revenue, adjusted gross profit, and depreciation expense by reportable segment for the three and six months ended June 30, 2022 and 2021 (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Segment revenue: Cloud and Edge $ 137,080 $ 141,421 $ 246,886 $ 266,843 IP Optical Networks 68,716 69,789 132,108 137,139 Revenue $ 205,796 $ 211,210 $ 378,994 $ 403,982 28 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Segment adjusted gross profit: Cloud and Edge $ 93,379 $ 95,837 $ 161,672 $ 180,172 IP Optical Networks 19,660 33,152 38,269 59,626 Total segment adjusted gross profit 113,039 128,989 199,941 239,798 Stock-based compensation expense ( 601 ) ( 562 ) ( 1,181 ) ( 824 ) Amortization of acquired technology ( 7,888 ) ( 9,700 ) ( 16,155 ) ( 19,761 ) Gross profit $ 104,550 $ 118,727 $ 182,605 $ 219,213 Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Segment depreciation expense: Cloud and Edge $ 2,685 $ 3,142 $ 5,400 $ 6,279 IP Optical Networks 1,203 1,107 2,373 2,196 Depreciation expense $ 3,888 $ 4,249 $ 7,773 $ 8,475 (13) MAJOR CUSTOMERS The following customer contributed 10% or more of the Company's revenue in the three and six months ended June 30, 2022 and 2021: Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Verizon Communications Inc. 20 % 17 % 17 % 16 % At June 30, 2022, one customer accounted for 10% or more of the Company's accounts receivable balance, representing approximately 17 % of total accounts receivable. At December 31, 2021, one customer accounted for 10% or more of the Company's accounts receivable balance, representing approximately 15 % of total accounts receivable. The Company performs ongoing credit evaluations of its customers and generally does not require collateral on accounts receivable, although in some instances the Company may require letters of credit to support customer outstanding accounts receivable balances. The Company maintains an allowance for doubtful accounts and such losses have been within management's expectations. (14) STOCK-BASED COMPENSATION PLANS 2019 Stock Incentive Plan The Company's Amended and Restated 2019 Incentive Award Plan (the "2019 Plan") provides for the award of options to purchase the Company's common stock ("stock options"), stock appreciation rights ("SARs"), restricted stock awards ("RSAs"), performance-based stock awards ("PSAs"), restricted stock units ("RSUs"), performance-based stock units ("PSUs") and other stock- or cash-based awards. Awards can be granted under the 2019 Plan to the Company's employees, officers and non-employee directors, as well as consultants and advisors of the Company and its subsidiaries. At the Company's annual meeting of stockholders held on May 25, 2022, the Company's stockholders approved an amendment to the 2019 Plan to increase the number of shares of the Company's common stock authorized for issuance under the 2019 Plan by 10.0 million shares. 29 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Assumed Stock Plans In connection with the acquisition of Edgewater Networks, Inc. in August 2018, the Company assumed Edgewater's Amended and Restated 2002 Stock Option Plan (the "Edgewater Plan") to the extent of the shares underlying the options outstanding under the Edgewater Plan as of the Edgewater Acquisition Date (the "Edgewater Options"). The Edgewater Options were converted to Ribbon stock options (the "Ribbon Replacement Options") which are vesting under the same schedules as the respective Edgewater Options. In connection with the Company's acquisitions of Performance Technologies Inc. ("PT") in 2014, and Network Equipment Technologies, Inc. ("NET") in 2012, the Company assumed their stock plans (collectively, the "Assumed Plans"). Any outstanding awards under the Assumed Plans that in the future expire, terminate, are cancelled or surrendered, or are repurchased by the Company will be returned to the 2019 Plan. Accordingly, no additional shares may be granted under the Assumed Plans. Executive Equity Arrangements Inducement Awards In connection with his appointment as President and Chief Executive Office of Ribbon, and as an inducement for Bruce McClelland's ("Mr. McClelland") commencement of employment, the Company awarded Mr. McClelland sign-on equity grants, comprised of 462,963 RSUs and a PSU grant with both market and service conditions (the "Inducement PSUs") on March 16, 2020. The RSUs vested and were released to Mr. McClelland on March 16, 2021. Subject to Mr. McClelland's continued employment, the Inducement PSUs are eligible to vest and be settled in up to 4,750,000 shares of Ribbon common stock upon the achievement of specified share price thresholds on or prior to September 1, 2024. The first share price threshold for Mr. McClelland’s Inducement PSUs was achieved on February 26, 2021, and accordingly 1,333,333 shares were released to him. Performance-Based Stock Grants In addition to granting RSUs to its executives and certain of its employees, the Company also grants PSUs to certain of its executives, including the Inducement PSUs granted to Mr. McClelland as described above. Each year, beginning in 2019 and continuing through 2022, the Company has granted certain of its executives (the "2022 PSUs", "2021 PSUs", "2020 PSUs" and "2019 PSUs", respectively), of which 60 % of each executive's PSU grant had both performance and service conditions (the "Performance PSUs") and 40 % had both market and service conditions (the "Market PSUs"). The 2019 PSUs earned were released on March 15, 2022; these releases are included in the table below. Each executive's Performance PSU grant is comprised of three consecutive fiscal year performance periods beginning in the year of grant (each, a "Fiscal Year Performance Period"), with one-third of the Performance PSUs attributable to each Fiscal Year Performance Period. The number of shares that will vest for each Fiscal Year Performance Period, if any, will be based on the achievement of certain metrics related to the Company's financial performance for the applicable year on a standalone basis (each, a "Fiscal Year Performance Condition"). The Company's achievement of the goals for each Fiscal Year Performance Condition (and the number of shares of Company common stock to vest as a result thereof) are being measured on a linear sliding scale in relation to specific threshold, target and stretch performance conditions, with any shares earned vesting in the first quarter of the fiscal year following the third Performance Period of the grant, pending each executive's continued employment with the Company through that date. The number of shares of common stock underlying the Performance PSUs that can be earned will in no event exceed 200 % of the Performance PSUs. Shares subject to the Performance PSUs that fail to be earned will be forfeited. The Market PSUs have one three-year performance period, beginning January 1 in the year of grant and ending on December 31, three years thereafter (the "Market Performance Period"). The number of shares subject to the Market PSUs that will vest, if any, will be dependent upon the Company's total shareholder return ("TSR") compared with the TSR of the companies included in a custom index for the applicable Market Performance Period, measured by the Compensation Committee after the Market Performance Period ends, with any shares earned vesting in the first quarter of the fiscal year 30 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) following the respective Market Performance Period, pending each executive's continued employment with the Company through that date. The number of shares of common stock underlying the Market PSUs that can be earned will in no event exceed 200 % of the Market PSUs. Shares subject to the Market PSUs that fail to be earned will be forfeited. Accounting for Performance PSUs. Once the grant date criteria have been met for a Fiscal Year Performance Period, the Company records stock-based compensation expense for the respective underlying Performance PSUs based on its assessment of the probability that each performance condition will be achieved and the level, if any, of such achievement. The Compensation Committee determines the number of shares earned, if any, after the Company's financial results for each Fiscal Year Performance Period are finalized. Upon the determination by the Compensation Committee of the number of shares that will be received upon vesting of the Performance PSUs, such number of shares becomes fixed and the unamortized expense is recorded through the remainder of the service period, generally three years from the date of grant, at which time the total Performance PSUs earned, if any, will vest, pending each executive's continued employment with the Company through that date. Accounting for Market PSUs . PSUs that include a market condition require the use of a Monte Carlo simulation approach to model future stock price movements based upon the risk-free rate of return, the date of return, the volatility of each entity and the pair-wise covariance between each entity. These results are then used to calculate the grant date fair values of the respective PSUs. The Company is required to record expense for the PSUs with market conditions through their respective final vesting dates, regardless of the number of shares that are ultimately earned. Stock Options The activity related to the Company's outstanding stock options for the six months ended June 30, 2022 was as follows: Number of Shares Weighted Average Exercise Price Weighted Average Remaining Contractual Term (years) Aggregate Intrinsic Value (in thousands) Outstanding at January 1, 2022 184,169 $ 13.25 Exercised ( 355 ) $ 1.95 Expired ( 7,804 ) $ 17.00 Outstanding at June 30, 2022 176,010 $ 13.11 2.13 $ 48 Vested or expected to vest at June 30, 2022 176,010 $ 13.11 2.13 $ 48 Exercisable at June 30, 2022 176,010 $ 13.11 2.13 $ 48 Both the total intrinsic value of options exercised and cash received in connection with those exercises was nominal in the three and six months ended June 30, 2022. Restricted Stock Units The activity related to the Company's RSUs for the six months ended June 30, 2022 was as follows: Shares Weighted Average Grant Date Fair Value Unvested balance at January 1, 2022 5,389,611 $ 6.19 Granted 5,602,733 $ 3.12 Vested ( 2,007,138 ) $ 6.21 Forfeited ( 449,298 ) $ 5.13 Unvested balance at June 30, 2022 8,535,908 $ 4.23 The total grant date fair value of shares of restricted stock underlying RSUs that vested during the six months ended June 30, 2022 was $ 12.5 million. 31 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Performance-Based Stock Units The activity related to the Company's PSUs for the six months ended June 30, 2022 was as follows: Shares Weighted Average Grant Date Fair Value Unvested balance at January 1, 2022 4,987,876 $ 2.87 Granted 2,228,073 $ 2.26 Vested ( 175,751 ) $ 5.03 Forfeited ( 365,530 ) $ 7.81 Unvested balance at June 30, 2022 6,674,668 $ 2.19 The total grant date fair value of shares of restricted stock underlying PSUs that vested during the six months ended June 30, 2022 was $ 0.9 million. Stock-Based Compensation The condensed consolidated statements of operations include stock-based compensation for the three and six months ended June 30, 2022 and 2021 as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Product cost of revenue $ 107 $ 93 $ 206 $ 120 Service cost of revenue 494 469 975 704 Research and development 1,240 1,160 2,446 1,787 Sales and marketing 1,480 1,752 2,851 3,626 General and administrative 1,078 1,316 2,176 3,613 $ 4,399 $ 4,790 $ 8,654 $ 9,850 At June 30, 2022, there was $ 31.2 million, net of expected forfeitures, of unrecognized stock-based compensation expense related to unvested stock options and stock units. This expense is expected to be recognized over a weighted average period of approximately two years . (15) LEASES The Company has operating and finance leases for corporate offices, research and development facilities, and certain equipment. Operating leases are reported separately in the Company's condensed consolidated balance sheets. Assets acquired under finance leases are included in Property and equipment, net, in the condensed consolidated balance sheets. The Company determines if an arrangement is a lease at inception. A contract is determined to contain a lease component if the arrangement provides the Company with a right to control the use of an identified asset. Lease agreements may include lease and non-lease components. In such instances for all classes of underlying assets, the Company does not separate lease and non-lease components but rather, accounts for the entire arrangement under leasing guidance. Leases with an initial term of 12 months or less are not recorded on the balance sheet and lease expense for these leases is recognized on a straight-line basis over the lease term. Right-of-use assets and lease liabilities are initially measured based on the present value of the future minimum fixed lease payments (i.e., fixed payments in the lease contract) over the lease term at the commencement date. As the Company's existing leases do not have a readily determinable implicit rate, the Company uses its incremental borrowing rate based on the 32 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) information available at the commencement date in determining the present value of future minimum fixed lease payments. The Company calculates its incremental borrowing rate to reflect the interest rate that it would have to pay to borrow on a collateralized basis an amount equal to the lease payments in a similar economic environment over a similar term and considers its historical borrowing activities and market data from entities with comparable credit ratings in this determination. The measurement of the right-of-use asset also includes any lease payments made prior to the commencement date (excluding any lease incentives) and initial direct costs incurred. The Company assessed its right-of-use assets for impairment as of June 30, 2022 and December 31, 2021 and determined no impairment has occurred. Lease terms may include options to extend or terminate the lease and the Company incorporates such options in the lease term when it has the unilateral right to make such an election and it is reasonably certain that the Company will exercise that option. In making this determination, the Company considers its prior renewal and termination history and planned usage of the assets under lease, incorporating expected market conditions. For operating leases, lease expense for minimum fixed lease payments is recognized on a straight-line basis over the lease term. The expense for finance leases includes both interest and amortization expense components, with the interest component calculated based on the effective interest method and the amortization component calculated based on straight-line amortization of the right-of-use asset over the lease term. Lease contracts may contain variable lease costs, such as common area maintenance, utilities and tax reimbursements that vary over the term of the contract. Variable lease costs are not included in minimum fixed lease payments and as a result, are excluded from the measurement of the right-of-use assets and lease liabilities. The Company expenses all variable lease costs as incurred. Certain leased facilities are being partially or fully vacated as part of the 2022 Restructuring Plan and for some of those facilities, the Company has no plans to enter into sublease agreements. Accordingly, the Company accelerated the amortization of those lease assets through the planned cease-use date of each facility, resulting in additional amortization expense of $ 1.0 million in the three and six months ended June 30, 2022. The Company also recorded expense of $ 0.3 million in the three and six months ended June 30, 2022 for all estimated future variable lease costs related to those facilities. In connection with the 2019 Restructuring Plan, certain lease assets related to facilities were partially or fully vacated as the Company consolidated its facilities. The Company had no plans to enter into sublease agreements for some of those facilities. The Company ceased use of those facilities in the first quarter of 2021, the first and fourth quarters of 2020, and the third quarter of 2019. Accordingly, the Company accelerated the amortization of the associated lease assets through the planned cease-use date of each facility, resulting in additional amortization expense of $ 3.4 million in the six months ended June 30, 2021. The Company also recorded expense of $ 1.4 million in the six months ended June 30, 2021 for all estimated future variable lease costs related to those facilities. The Company did not record expense for accelerated amortization or estimated future variable lease costs in connection with the 2019 Restructuring Plan in the three months ended June 30, 2021. The Company did not record expense for accelerated amortization or estimated future variable lease costs in connection with the 2019 Restructuring Plan in the three or six months ended June 30, 2022. All accelerated amortization and accrual of future variable costs are recorded as Restructuring and related expense in the Company's condensed consolidated statements of operations. At June 30, 2022 and December 31, 2021, the Company had accruals of $ 1.7 million and $ 1.6 million, respectively, for all future anticipated variable lease costs related to these facilities. The Company may incur additional future expense if it is unable to sublease other locations included in the Facilities Initiative. The Company leases its corporate offices and other facilities under operating leases, which expire at various times through 2032. The Company's right-of-use lease assets and lease liabilities at June 30, 2022 and December 31, 2021 were as follows (in thousands): 33 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Classification June 30, 2022 December 31, 2021 Assets: Operating lease assets Operating lease right-of-use assets $ 46,951 $ 53,147 Finance lease assets* Property and equipment, net 107 287 Total leased assets $ 47,058 $ 53,434 Liabilities: Current: Operating Operating lease liabilities $ 16,078 $ 17,403 Finance Accrued expenses and other 254 503 Noncurrent: Operating Operating lease liabilities, net of current 48,052 55,196 Finance Other long-term liabilities — 64 Total lease liabilities $ 64,384 $ 73,166 * Finance lease assets were recorded net of accumulated depreciation of $ 1.1 million and $ 1.8 million at June 30, 2022 and December 31, 2021, respectively. The components of lease expense for the three and six months ended June 30, 2022 and 2021 were as follows (in thousands): Three months ended Six months ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Operating lease cost* $ 5,538 $ 5,194 $ 10,168 $ 14,031 Finance lease cost: Amortization of leased assets 88 180 180 409 Interest on lease liabilities 4 20 10 46 Short-term lease cost 3,123 3,270 6,841 6,562 Variable lease costs (costs excluded from minimum fixed lease payments)** 1,033 500 1,859 2,658 Sublease income ( 447 ) ( 199 ) ( 937 ) ( 475 ) Net lease cost $ 9,339 $ 8,965 $ 18,121 $ 23,231 * Operating lease costs for the three and six months ended June 30, 2022 included $ 1.0 million of accelerated amortization for certain assets partially or fully vacated with no intent or ability to sublease. Operating lease costs for the six months ended June 30, 2021 included $ 3.4 million of accelerated amortization for certain assets partially or fully vacated with no intent or ability to sublease. No such accelerated amortization was recorded in the three months ended June 30, 2021. ** Variable lease costs for the three and six months ended June 30, 2022 included accruals of $ 0.3 million for all future estimated variable expenses related to certain assets partially or fully vacated with no intent or ability to sublease. Variable lease costs for the six months ended June 30, 2021 included accruals of $ 1.4 million for all future estimated variable expenses related to certain assets partially or fully vacated with no intent or ability to sublease. No such variable costs were accrued in the three months ended June 30, 2021. Cash flow information related to the Company's leases for the six months ended June 30, 2022 and 2021 was as follows (in thousands): 34 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) Six months ended June 30, 2022 June 30, 2021 Cash paid for amounts included in the measurement of lease liabilities: Operating cash flows for operating leases $ 8,338 $ 10,997 Operating cash flows for finance leases $ 10 $ 46 Financing cash flows for finance leases $ 341 $ 507 Other information related to the Company's leases as of June 30, 2022 and December 31, 2021 was as follows: June 30, 2022 December 31, 2021 Weighted average remaining lease term (years): Operating leases 6.25 6.25 Finance leases 0.67 1.00 Weighted average discount rate: Operating leases 5.78 % 5.61 % Finance leases 3.20 % 4.15 % Future minimum fixed lease payments under noncancelable leases at June 30, 2022 were as follows (in thousands): Operating Finance leases leases Remainder of 2022 $ 9,685 $ 194 2023 17,791 64 2024 10,792 — 2025 7,931 — 2026 6,902 — 2027 and beyond 24,551 — Total lease payments 77,652 258 Less: interest ( 13,522 ) ( 4 ) Present value of lease liabilities $ 64,130 $ 254 (16) INCOME TAXES The Company's income tax provisions for the six months ended June 30, 2022 and 2021 reflect the Company's estimates of the effective rates expected to be applicable for the respective full years, adjusted for any discrete events, which are recorded in the period that they occur. These estimates are reevaluated each quarter based on the Company's estimated tax expense for the full year. The estimated effective tax rate includes the impact of valuation allowances in various jurisdictions. The Company intends to continue to maintain a valuation allowance on its deferred tax assets until there is sufficient evidence to support the reversal of all or some portion of the respective allowances. Beginning in 2022, the Tax Cuts and Jobs Act of 2017 (the "TCJA") eliminates the option to deduct research and development expenditures currently and requires taxpayers to amortize them over a minimum of five years pursuant to IRC Section 174. Although Congress is considering legislation that would defer the amortization requirement to later years, the Company has no assurance that the provision will be repealed or otherwise modified. If this provision of the TCJA is not repealed or otherwise modified, it will materially reduce the Company's operating cash flows in 2022. 35 RIBBON COMMUNICATIONS INC. Notes to Condensed Consolidated Financial Statements (Continued) (unaudited) (17) COMMITMENTS AND CONTINGENCIES Liabilities for Royalty Payments to the IIA Prior to the ECI Acquisition, ECI had received research and development grants from the Office of the Innovation Authority of the Israeli Ministry of Economics (the "IIA"). The Company assumed ECI's contract with the IIA, which requires the Company to pay royalties to the IIA on proceeds from the sale of products which the Israeli government has supported by way of research and development grants. The royalties for grants prior to 2017 were calculated at the rates of 1.3 % to 5.0 % of the aggregated proceeds from the sale of such products developed at certain of the Company's R&D centers, up to an amount not exceeding 100 % of such grants plus interest at LIBOR. Effective for grants approved in 2017 and subsequently, interest was calculated at the higher of LIBOR plus 1.5 % to 2.75 %. At June 30, 2022, the Company's maximum possible future royalties commitment, including $ 4.1 million of unpaid royalties accrued, was $ 31.3 million, including interest of $ 2.0 million, based on estimates of future product sales, grants received from the IIA not yet repaid, and management's estimation of products still to be sold. Research and Development Grants The Company records grants received from the IIA as a reduction to research and development expense. Royalties payable to the IIA are recognized pursuant to sales of related products and are classified as Cost of revenue. The Company does not anticipate receiving material grants from the IIA in the foreseeable future. Litigation On November 8, 2018, Ron Miller, a purported stockholder of the Company, filed a Class Action Complaint (the "Miller Complaint") in the United States District Court for the District of Massachusetts (the "Massachusetts District Court") against the Company and three of its former officers (collectively, the "Defendants"), claiming to represent a class of purchasers of Sonus common stock during the period from January 8, 2015 through March 24, 2015 and alleging violations of the federal securities laws. Similar to a previous complaint entitled Sousa et al. vs. Sonus Networks, Inc. et al., which was dismissed with prejudice by an order dated June 6, 2017, the Miller Complaint claims that the Defendants made misleading forward-looking statements concerning Sonus' expected fiscal first quarter of 2015 financial performance, which statements were also the subject of an August 7, 2018 Securities and Exchange Commission Cease and Desist Order, whose findings the Company neither admitted nor denied. The Miller plaintiffs are seeking monetary damages. After the Miller Complaint was filed, several parties filed and briefed motions seeking to be selected by the Massachusetts District Court to serve as a Lead Plaintiff in the action. On June 21, 2019, the Massachusetts District Court appointed a group as Lead Plaintiffs and the Lead Plaintiffs filed an amended complaint on July 19, 2019. On August 30, 2019, the Defendants filed a motion to dismiss the Miller Complaint and, on October 4, 2019, the Lead Plaintiffs filed an opposition to the motion to dismiss. There was an oral argument on the motion to dismiss on February 12, 2020, but to date, the court has not ruled on the motion. In addition, the Company is often a party to disputes and legal proceedings that it considers routine and incidental to its business. Management does not expect the results of any of these actions to have a material effect on the Company's business or condensed consolidated financial statements. 36