What changed in this filing

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Item 2. Management’s Discussion and Analysis

2020-05-11 compared with 2020-02-07 · 177 added, 174 removed, 129 unchanged (73% of the section changed)

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We are a global leader and innovator of high-performance, high-efficiency server and storage technology.

We develop and provide end-to-end green computing solutions to the cloud computing, data centers, enterprise, big data, artificial intelligence ("AI"), High-Performance Computing ("HPC"), edge computing and Internet of Things/embedded (“IoT”) markets.

We develop and provide end-to-end green computing solutions to the cloud computing, data center, enterprise, big data, artificial intelligence ("AI"), High-Performance Computing ("HPC"), edge computing and Internet of Things/embedded (“IoT”) markets.

Our solutions range from complete server, storage, modular blade servers, blades and workstations to full racks, networking devices, server management software, server sub-systems and global support and services.

We commenced operations in 1993 and have been profitable every year since inception.

Although our net sales for the three months ended December 31, 2019 declined from our net sales for the corresponding period in the prior year, we seek

to increase our sales and profits every quarter.

Our net sales for the three months ended March 31, 2020 increased to $772.4 million from $743.5 million for the corresponding period in the prior year, and our net income for the three months ended March 31, 2020 increased to $15.8 million from $10.6 million for the corresponding period in the prior year.

We seek to increase our sales and profits every quarter.

We believe that to do so, we must continue to develop flexible and application optimized server and storage solutions and be among the first to market with new features and products.

We must also continue to expand our software and customer service and support offerings, particularly as we increasingly focus on larger enterprise customers.

We must also continue to expand our software and our customer service and support offerings, particularly as we increasingly focus on larger enterprise customers.

Additionally, we focus on development of our sales partners and distribution channels to further expand our market share.

We measure our financial success based on various indicators, including growth in net sales, gross profit margin and operating margin.

Among the key non-financial indicators of our success is our ability to rapidly introduce new products and deliver the latest application-optimized server and storage solutions.

In this regard, we work closely with microprocessor and other key component vendors to take advantage of new technologies as they are introduced.

In this regard, we work closely with microprocessor and other key component vendors incorporating new technologies as they are introduced.

Historically, our ability to introduce new products rapidly has allowed us to benefit from technology transitions such as the introduction of new microprocessors and storage technologies, and as a result, we monitor the product introduction cycles of Intel Corporation, Advanced Micro Devices, Inc., Nvidia Corporation, Samsung Electronics Company Limited, Micron Technology, Inc.

and others carefully.

This also impacts our research and development expenditures as we continue to invest more in our current and future product development efforts.

For the three months ended December 31, 2019 , our industry experienced a slightly increased demand as evidenced by some improvement in demand from hyperscale datacenter customers primarily associated with the public cloud, offset by continued soft enterprise datacenter customer demand.

The industry continued to see declining component prices for memory and SSDs, which offset shipment volumes leading to lower revenues in comparison to the prior year.

As a result, we experienced higher volume of server and storage systems purchased by our datacenter customers as compared to last year for the same period, but lower component prices led us to adjust lower our average selling prices per compute node, resulting in lower server and storage systems revenue.

Gross margins improved because the prices we charged our customers on an average declined at a slower rate than the reduction in prices we paid for the components we purchased.

Therefore, despite the decline in net sales, our gross margin increased.

As a result, net income and earnings per share increased as compared to the comparable period in the prior fiscal year.

This also impacts our research and development expenditures as we continue to invest significantly in our current and future product development efforts.

Coronavirus (COVID-19) Pandemic Impact

The global spread of the coronavirus (COVID-19) and the various attempts to contain it have created significant volatility, uncertainty and economic disruption for many businesses worldwide.

In an effort to contain COVID-19 or slow its spread, governments around the world have enacted various measures, including orders to close all businesses not deemed “essentia l,” shelter in place, and practice social distancing when engaging in essential activities.

We are an essential business under the relevant regulations.

In late March, we responded to the directives from Santa Clara County and the State of California regarding “shelter in place” instructions to combat the spread of COVID-19.

Our first priority is the safety of our workforc e and we immediately began to implement numerous health precautions and work practices to operate in a safe manner.

We quickly transitioned most of our indirect labor forces to work from home and continued to operate our local assembly in Taiwan and, to a lesser extent, in the United States and Europe.

We operate in the critical industry of IT infrastructure and we assessed our customer base to identify priority customers who operate in critical industries.

We continue to see ongoing demand as we enter the fourth quarter of fiscal year 2020 and do not have significant direct exposure to industries such as retail and oil and gas, which have been impacted the greatest.

As time passes, we may discover greater indirect exposure to distressed industries through our channel partners and OEM customers.

We have actively managed our supply chain for potential shortage risk by first building inventories of critical components required for our motherboards and other system printed circuit boards in response to the early outbreak of COVID-19 in China.

Since that time, we have continued to add to our inventories of key components such as CPUs, memory, SSDs and to a lesser extent GPUs such that customer orders can be fulfilled as they are received.

We are monitoring the changes in liquidity a nd payment patterns of our customer base to evaluate risk in specific industries or geographic areas where cash flow may be disrupted.

While we believe that we are adequately capitalized, we are actively managing our liquidity needs and working to expand our access to credit facilities.

We are in the process of negotiating an extension of our credit facility with Bank of America and expect this process will be completed by the end of May, 2020.

Looking forward, logistics has emerged as a new challenge as the transportation industry restricts the frequency of departures and increases logistics costs.

We expect increased costs in freight as well as direct labor costs as we incentivize our employees to continue to work and assist us in serving our customers, many of whom are in critical industries.

Our management team is focused on guiding our company through the unfolding and emerging challenges presented by COVID-19.

Currently, we are unable to predict the ultimate extent to which the global COVID-19 pandemic may further impact our business operations, financial performance and results of operations within the next 12 months.

Financial Highlights

The following is a summary of our financial highlights of the second quarter of fiscal year 2020 :

Net sales decrease d by 6.5% as compared to the three months ended December 31, 2018 .

The decrease was mainly due to a decline in average selling prices per compute node caused by lower component prices offset by an increase in the volume of server and storage systems sold.

Gross margin increased to 15.9% in the three months ended December 31, 2019 from 13.7% for the three months ended December 31, 2018 , primarily due to a favorable geographic, customer and product mix and lower costs for key components.

Operating expenses increased by 8.2% as compared to the three months ended December 31, 2018 , and were equal to 12.7% and 11.0% of net sales in the three months ended December 31, 2019 and 2018 , respectively.

Effective tax rate decreased from 18.4% in the three months ended December 31, 2018 to 7.9% in the three months ended December 31, 2019 .

The following is a summary of our financial highlights of the third quarter of fiscal year 2020 :

Net sales increase d by 3.9% as compared to the three months ended March 31, 2019 .

The increase was mainly due to an increase in the sales of subsystems and accessories and an increase in the volume of server and storage systems sold, partially offset by lower average selling prices per system.

Gross margin increased to 17.3% in the three months ended March 31, 2020 from 15.1% for the three months ended March 31, 2019 , primarily due to a favorable geographic, customer and product mix.

Operating expenses increased by 18.4% as compared to the three months ended March 31, 2019 , and were equal to 15.3% and 13.4% of net sales in the three months ended March 31, 2020 and 2019 , respectively.

Effective tax rate decreased from 4.3% in the three months ended March 31, 2019 to (5.6)% in the three months ended March 31, 2020 .

Revenues and Expenses

Net sales consist of sales of our server and storage solutions, including systems and related services and subsystems and accessories.

The main factors that impact our net sales are the number of compute nodes sold, the average selling prices per node for our server and storage system sales and units shipped and the average selling price per unit for our subsystem and accessories.

The prices for our server and storage systems range widely depending upon the configuration, including the number of compute nodes in a server system as well as the level of integration of key components such as SSDs, and memory, and the prices for our subsystems and accessories can also vary widely based on whether a customer is purchasing power supplies, server boards, chassis or other accessories.

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As with most electronics-based product life cycles, average selling prices typically are highest at the time of introduction of new products that utilize the latest technology and tend to decrease over time as such products mature in the market and are replaced by next generation products.

Additionally, in order to remain competitive throughout all industry cycles, and due to price transparency of certain higher cost components, we must actively change our selling price per unit in response to changes in costs for key components such as memory and SSDs , and actively adjust our procurement practices in anticipation of near term fluctuations in market prices for key components.

Additionally, in order to remain competitive throughout all industry cycles, and due to price transparency of certain higher cost components, we must

actively change our selling price per unit in response to changes in costs for key components such as memory and SSDs, and actively adjust our procurement practices in anticipation of near term fluctuations in market prices for key components.

Cost of sales .

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Because we generally do not have long-term fixed supply agreements, our cost of sales is subject to change based on the cost of materials and market conditions.

As a result, our cost of sales as a percentage of net sales in any period can increase due to significant component price increases resulting from component shortages.

As a result, our cost of sales as a percentage of net sales in any period can increase due to significant component price increases resulting from a number of factors, including component shortages.

We use several suppliers and contract manufacturers to design and manufacture subsystems in accordance with our specifications, with most final assembly and testing performed at our manufacturing facility in San Jose, California.

During the first quarter of fiscal year 2020 and during fiscal year 2019, we continued to expand manufacturing and service operations in Taiwan and the Netherlands primarily to support our Asian and European customers and have continued to work on improving our utilization of our overseas manufacturing capacity.

Beginning in fiscal year 2019, we expanded manufacturing and service operations in Taiwan and the Netherlands primarily to support our Asian and European customers and have continued to work on improving our utilization of our overseas manufacturing capacity.

We continue to enhance our Taiwan manufacturing operations to increase the diversification of our manufacturing capabilities in order to strengthen our business continuity and better position the Company to respond to challenges, such as those arising from COVID-19.

We work with Ablecom, one of our key contract manufacturers and also a related party to optimize modular designs for our chassis and certain of other components.

We also outsource to Compuware, also a related party, a portion of our design activities and a significant part of our manufacturing of subsystems, particularly power supplies.

Our purchases of products from Ablecom and Compuware represent ed 10.3% and 9.3% of total cost of sales for the three months ended December 31, 2019 and 2018 , respectively, and 10.0% and 9.2% for the six months ended December 31, 2019 and 2018 , respectively.

We also outsource to Compuware, also a related party, a portion of our design activities and a significant part of ou r manufacturing of subsystems, particularly power supplies.

Our purchases of products from Ablecom and Compuware represented 9.4% and 9.9% of total cost of sales for the three months ended March 31, 2020 and 2019 , respectively, and 9.8% and 9.4% for the nine months ended March 31, 2020 and 2019 , respectively.

For further details on our dealings with related parties, see Part I, Item 1, Note 9, “Related Party Transactions.”

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Our income tax provision is based on our taxable income generated in the jurisdictions in which we operate, primarily the United States, Taiwan and the Netherlands.

Our effective tax rate differs from the statutory rate primarily due to research and development tax credits and the domestic production activities deduction which were partially offset by state taxes and unrecognized tax benefits related to permanent establishment exposures.

Our effective tax rate differs from the statutory rate

primarily due to the benefit of research and development tax credits and the domestic production activities deduction which were partially offset by state taxes and unrecognized tax benefits related to permanent establishment exposures.

Critical Accounting Policies and Estimates

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Our actual results could differ from these estimates.

Except for the changes to our accounting policy as a result of the adoption of the new lease accounting guidance on July 1, 2019, there have been no material change to our critical accounting policies and estimates as compared to those disclosed in our 2019 Comprehensive 10-K.

Except for the changes to our accounting policy as a result of the adoption of the new lease accounting guidance on July 1, 2019, there have been no material changes to our critical accounting policies and estimates as compared to those disclosed in our 2019 Comprehensive 10-K.

For a description of our critical accounting policies and estimates, see Part I, Item 1, Note 1, "Organization and Summary of Significant Accounting Policies" in our notes to the condensed consolidated financial statements in this Quarterly Report.

Results of Operations

The following table presents net sales by product type for the three and six months ended December 31, 2019 and 2018 (dollars in millions):

Three Months Ended December 31,

Six Months Ended December 31,

The following table presents certain items of our condensed consolidated statements of operations expressed as a percentage of revenue.

Three Months Ended

Nine Months Ended

Cost of sales

Operating expenses:

Research and development

Sales and marketing

General and administrative

Total operating expenses

Income from operations

Other (expense) income, net

Interest expense

Income before income tax provision

Income tax provision

Share of loss from equity investee, net of taxes

The following table presents net sales by product type for the three and nine months ended March 31, 2020 and 2019 (dollars in millions):

Three Months Ended March 31,

Nine Months Ended March 31,

Server and storage systems

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Total net sales

Comparison of Three Months Ended December 31, 2019 and 2018

The period-over-period decrease in net sales of our server and storage systems was primarily due to a decrease in average selling price per compute node by approximately 20%.

The decline in average selling prices was primarily due to substantially lower costs for key components, specifically for memory and SSDs.

The decrease in the average selling price was partially offset by an increase in the number of units of compute nodes shipped by approximately 10%, driven by a higher demand for our products from our datacenter customers.

The period-over-period increase in net sales of our subsystems and accessories is primarily due to an increase in the volume of subsystems and accessories sold by approximately 31% due to increased demand from our indirect sales channel.

Comparison of Six Months Ended December 31, 2019 and 2018

The period-over-period decrease in net sales of our server and storage systems was primarily due to a decrease in average selling price per compute node by approximately 17%.

The decline in average selling prices was primarily due to substantially lower costs for key components.

Server and storage systems constitute an assembly and integration of subsystems and accessories, and related services.

Subsystems and accessories are comprised of serverboards, chassis and accessories.

Comparison of Three Months Ended March 31, 2020 and 2019

The period-over-period decrease in net sales of our server and storage systems was due to a slight decrease in the number of units of compute nodes shipped and a 3% decline in the average selling prices per node.

The decline in the number of units of compute nodes shipped was due to fewer shipments of multimode systems, such as blades and twin systems, compared to the same period last year.

The period-over-period increase in net sales of our subsystems and accessories is primarily due to an increase in the volume of subsystems and accessories units sold by approximately 38% mainly due to increased demand from our indirect sales channel, which was offset by an approximately 5% decrease in the average selling price.

Comparison of Nine Months Ended March 31, 2020 and 2019

The period-over-period decrease in net sales of our server and storage systems was primarily due to a decrease in average selling prices per compute node by approximately 13% as well as a slight decrease in the number of units of compute nodes shipped.

The decline in average selling prices was primarily due to substantially lower costs for key components in the first two quarters of the fiscal year.

The period-over-period increase in net sales of our subsystems and accessories is primarily due to an increase in the volume of subsystems and accessories sold by approximately 35%, partially offset by a decrease in the average selling prices per unit by approximately 12%.

The following table presents the percentages of net sales from products sold through our indirect sales channel and to our direct customers and OEMs customers for the three and six months ended December 31, 2019 and 2018 :

Three Months Ended December 31,

Six Months Ended December 31,

The following table presents net sales from products sold through our indirect sales channel and to our direct customers and OEMs customers for the three and nine months ended March 31, 2020 and 2019 (dollars in millions):

Three Months Ended March 31,

Nine Months Ended March 31,

Indirect sales channel

Percentage of total net sales

Direct customers and OEMs

Percentage of total net sales

Total net sales

Comparison of Three Months Ended December 31, 2019 and 2018

The period-over-period increase in net sales through our indirect sales channel as a percentage of total net sales was primarily due to increased demand from channel partners supporting large end users and the lower average selling prices for our server and storage systems, caused by lower component pricing.

This resulted in the decline of direct customer and OEM net sales as a percentage of total net sales.

While the number of units of compute nodes shipped to direct customers and OEMs increased by 10%, the period-over-period decrease in net sales to our direct customers and OEMs as a percentage of total net sales was lower primarily due to a 20% drop in average selling price.

Comparison of Six Months Ended December 31, 2019 and 2018

The period-over-period increase in net sales through our indirect sales channel as a percentage of total net sales was primarily due to increased demand from the channel and the lower average selling prices for our server and storage systems, caused by lower component pricing.

This resulted in the decline of direct customer and OEM net sales as a percentage of total net sales.

The period-over-period decrease in net sales to our direct customers and OEMs as a percentage of total net sales was primarily due to 17% lower average selling price per compute node.

The following table presents percentages of net sales by geographic region for the three and six months ended December 31, 2019 and 2018 :

Three Months Ended December 31,

Six Months Ended December 31,

Comparison of Three Months Ended March 31, 2020 and 2019

The period-over-period increase in net sales through our indirect sales channel was primarily due to increased demand from indirect sales channel partners supporting large end users and the lower average selling prices for our server and storage systems, caused by fewer multimode systems shipped and slightly lower component pricing.

The period-over-period decrease in net sales to our direct customers and OEMs was primarily due to a decline in demand from our internet datacenter and cloud customers and our enterprise datacenter customers.

Comparison of Nine Months Ended March 31, 2020 and 2019

The period-over-period increase in net sales through our indirect sales channel was primarily due to increased demand from the channel supporting large end users and the lower average selling prices for our server and storage systems, caused by lower component pricing.

The following table presents net sales by geographic region for the three and nine months ended March 31, 2020 and 2019 (dollars in millions):

Three Months Ended March 31,

Nine Months Ended March 31,

United States

Percentage of total net sales

Total net sales

Comparison of Three Months Ended December 31, 2019 and 2018

The period-over-period increase in net sales in the United States as a percentage of total net sales for the three months ended December 31, 2019 and 2018 was primarily due to higher sales of our server and storage systems to our direct customers and OEMs and increased sales through our indirect sales channel.

The period-over-period decrease in net sales in Asia as a percentage of total net sales was due primarily to decreased sales in China and Japan partially offset by increased sales in Taiwan and Korea.

The decreased percentage of net sales in Europe was primarily due to lower sales in the United Kingdom and the Netherlands, partially offset by increased sales in Germany and Russia.

The period-over-period decrease in net sales in other countries as a percentage of total net sales was due to lower sales in Brazil, South Africa and Israel.

Comparison of Six Months Ended December 31, 2019 and 2018

The period-over-period increase in net sales in the United States as a percentage of total net sales for the six months ended December 31, 2019 and 2018 was primarily due to higher sales through our indirect sales channel.

The period-over-period decrease in net sales in Asia as a percentage of total net sales was due primarily to decreased sales in China, Japan and Korea, partially offset by increased sales in Taiwan.

The decreased percentage of net sales in Europe was primarily due to lower sales in the Netherlands, United Kingdom and Germany, partially offset by increased sales in Russia.

The period-over-period increase in net sales in other countries as a percentage of total net sales was due to increased sales in South America, primarily Mexico.

Comparison of Three Months Ended March 31, 2020 and 2019

The period-over-period decrease in net sales in the United States for the three months ended March 31, 2020 and 2019 was primarily due to lower sales of our server and storage systems to our direct customers and OEMs.

The period-over-period increase in net sales in Asia was due primarily to increased sales in Singapore, Taiwan and Korea, partially offset by decreased sales in Japan and China.

The increase of net sales in Europe was primarily due to higher sales in the United Kingdom, Germany, Hungary and the Netherlands, partially offset by decreased sales in France and Turkey.

Comparison of Nine Months Ended March 31, 2020 and 2019

The period-over-period decrease in net sales in Asia was due primarily to decreased sales in China, Indonesia and Japan, partially offset by increased sales in Taiwan, Korea and Vietnam.

The decrease in net sales in Europe was primarily due to lower sales in the Netherlands, United Kingdom and France, partially offset by increased sales in Russia, Germany and Hungary.

The period-over-period decrease in net sales in other countries was due to decreased sales in Australia and Israel, partially offset by increased sales in Mexico and Saudi Arabia.

We determined that COVID-19 has impacted certain of our customers’ ability to pay on a timely basis.

Our collectibility assessment resulted in delaying revenue recognition of $3.4 million for certain orders shipped during the three months ended March 31, 2020.

The impact of COVID-19 on future revenue may be more significant.

Cost of Sales and Gross Margin

Cost of sales and gross margin for the three and six months ended December 31, 2019 and 2018 are as follows (dollars in millions):

Three Months Ended December 31,

Six Months Ended December 31,

Cost of sales and gross margin for the three and nine months ended March 31, 2020 and 2019 are as follows (dollars in millions):

Three Months Ended March 31,

Nine Months Ended March 31,

Cost of sales

Comparison of Three Months Ended December 31, 2019 and 2018

The period-over-period decrease in cost of sales was primarily attributable to a decrease of $76.9 million in product costs related to the decrease in the cost of key components primarily associated with server and storage systems, offset by an

increase of $1.4 million in personnel expenses a result of an increase in the number of personnel, an increase in overhead costs of $2.4 million attributable primarily to increased tariffs and an increase of $1.4 million in other manufacturing costs.

The period-over-period increase in the gross margin percentage was primarily due to lower costs for key components, as the prices we charged our customers on average declined at a slower rate than the reduction in prices we paid for the components we purchased.

In addition, in the three months ended December 31, 2019, as compared with three months ended December 31, 2018, we had a lower percentage of net sales in Asia where pricing is typically lower because the market there is more competitive, which had a positive impact on our gross margin percentage.

Comparison of Six Months Ended December 31, 2019 and 2018

The period-over-period decrease in cost of sales was primarily attributable to a decrease of $258.1 million in product costs related to the decrease in the cost of key components primarily associated with server and storage systems, offset by an increase of $2.5 million in personnel expenses a result of an increase in the number of personnel, an increase in overhead costs of $10.0 million attributable primarily to increased tariffs and an increase of $1.0 million in manufacturing costs.

In addition, in the six months ended December 31, 2019 as compared with six months ended December 31, 2018 we had a lower percentage of net sales in Asia where pricing is typically lower because the market there is more competitive, which had a positive impact on our gross margin percentage.

Comparison of Three Months Ended March 31, 2020 and 2019

The period-over-period increase in cost of sales was primarily attributable to an increase of $6.4 million in costs of materials and contract manufacturing expenses primarily related to the increase in net sales, an increase of $4.8 million in personnel expenses as a result of an increase in the number of personnel and a one-time performance bonus of $2.9 million, an

increase of $1.0 million in product service costs and an increase of $2.0 million in manufacturing and other costs, offset by a decrease of $6.6 million in inventory obsolescence costs.

The period-over-period increase in the gross margin percentage was primarily due to sales prices declining at a slower rate than the decline in the costs of components we purchased.

We expect that an increase in logistics costs and additional inducements for employees to continue production will negatively impact our gross margins due to the COVID-19 pandemic.

Comparison of Nine Months Ended March 31, 2020 and 2019

The period-over-period decrease in cost of sales was primarily attributable to a decrease of $259.5 million in costs of materials and contract manufacturing expenses primarily related to the decrease in net sales and the decrease in the cost of key components primarily associated with server and storage systems and a decrease of $6.5 million in inventory obsolescence costs, offset by an increase of $7.2 million in personnel expenses as a result of an increase in the number of personnel and a one-time performance bonus of $2.9 million, an increase in overhead costs of $10.2 million primarily attributable to increased tariffs, an increase of $1.8 million in product service costs, an increase of $1.4 million in warranty expense and an increase of $3.8 million in manufacturing and other costs.

The period-over-period increase in the gross margin percentage was primarily due to sales prices declining at a slower rate than the decline in the costs of components we purchased.

We expect that an increase in logistics costs and additional inducements for employees to continue production will negatively impact our gross margins due to the COVID-19 pandemic.

Operating Expenses

Operating expenses for the three and six months ended December 31, 2019 and 2018 are as follows (dollars in millions):

Three Months Ended December 31,

Six Months Ended December 31,

Operating expenses for the three and nine months ended March 31, 2020 and 2019 are as follows (dollars in millions):

Three Months Ended March 31,

Nine Months Ended March 31,

Research and development

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Percentage of total net sales

Comparison of Three Months Ended December 31, 2019 and 2018

Comparison of Three Months Ended March 31, 2020 and 2019

Research and development expenses.

The period-over-period increase in research and development expenses was primarily due to an increase of $6.4 million in personnel expenses as a result of an increase in the number of personnel, an increase of $1.5 million in other product development costs, a decrease of $0.6 million in reimbursements received for certain research and development costs that we incur as part of the joint product development and an increase of $1.1 million related primarily to facilities and other research and development expenses.

The period-over-period increase in research and development expenses was primarily due to an increase of $13.0 million in personnel expenses as a result of an increase in the number of personnel and a one-time performance bonus of $5.3 million, a decrease of $0.5 million in reimbursements received for certain research and development costs that we incur as part of the joint product development and an increase of $0.8 million in facilities and other expenses.

During the three months ended March 31, 2020, we also recorded a $9.5 million net settlement fee as a reduction in the research and development expenses related to the reimbursement of previously incurred expenses for one canceled joint product development agreement.

We expect that research and development costs will increase as a result of additional inducements for employees who must work on-site to further our new product development for the duration of the “shelter in place” directives issued by the local authorities during the COVID-19 pandemic.

Sales and marketing expenses.

The period-over-period increase in sales and marketing expenses was primarily due to an increase of $2.0 million in personnel expenses as a result of an increase in the number of personnel.

The period-over-period increase in sales and marketing expenses was primarily due to an increase of $3.0 million in personnel expenses as a result of an increase in the number of personnel and a one-time performance bonus of $1.0 million.

General and administrative expenses.

The period-over-period decrease in general and administrative expenses includes a decrease of $5.5 million in professional fees that were primarily incurred to investigate, assess and begin remediating the causes that led to the delay in filing our periodic reports with the SEC and the associated restatement of certain of our previously issued financial statements, offset by an increase of $2.0 million in personnel expenses as a result of an increase in the number of personnel.

Comparison of Six Months Ended December 31, 2019 and 2018

administrative expenses, offset by a decrease of $13.8 million in professional fees primarily incurred to investigate, assess and begin remediating the causes that led to the delay in filing our periodic reports with the SEC and the associated restatement of certain of our previously issued financial statements.

Comparison of Nine Months Ended March 31, 2020 and 2019

Research and development expenses.

The period-over-period increase in research and development expenses was primarily due to an increase of $10.7 million in personnel expenses as a result of an increase in the number of personnel, an increase of $3.1 million in parts and materials expenses, and increase of $0.8 million in facilities expenses, a decrease of $0.6 million in reimbursements received for certain research and development costs that we incur as part of the joint product development and an increase of $0.8 million related primarily to other research and development expenses.

The period-over-period increase in research and development expenses was primarily due to an increase of $23.7 million in personnel expenses as a result of an increase in the number of personnel and a one-time performance bonus of $5.3 million, a decrease of $1.2 million in reimbursements received for certain research and development costs that we incur as part of joint product development, an increase of $2.8 million in costs mainly related to materials and supplies used in product development, and an increase of $1.9 million in facilities and other expenses.

Sales and marketing expenses.

The period-over-period increase in sales and marketing expenses was primarily due to an increase of $2.7 million in personnel expenses as a result of an increase in the number of personnel, an increase of $1.0 million related to participation in trade shows and an increase of $0.9 million in expenses related to advertising and promotion activities.

The period-over-period increase in sales and marketing expenses was primarily due to an increase of $5.7 million in personnel expenses as a result of an increase in the number of personnel and a one-time performance bonus of $1.0 million, an increase of $0.8 million related to participation in trade shows and an increase of $1.1 million in expenses related to advertising and promotion activities.

General and administrative expenses.

The period-over-period decrease in general and administrative expenses includes a decrease of $12.6 million in professional fees that were primarily incurred to investigate, assess and begin remediating the causes that led to the delay in filing our periodic reports with the SEC and the associated restatement of certain of our previously issued financial statements, offset by an increase of $3.3 million in personnel expenses as a result of an increase in the number of personnel.

The period-over-period increase in general and administrative expenses was primarily due to the expense accrual in the quarter ended March 31, 2020 for a potential SEC settlement fee of $17.5 million, an increase of $7.7 million in personnel expenses, including an increase in the number of personnel and a one-time performance bonus of $1.1 million and an increase of $2.5 million in insurance expense, offset by a decrease of $26.4 million in professional fees primarily incurred to investigate, assess and begin remediating the causes that led to the delay in filing our periodic reports with the SEC and the associated restatement of certain of our previously issued financial statements.

Interest and Other Income (Expense), Net

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Interest expense represents interest expense on our term loans and lines of credit.

Interest and other income (expense), net for the three and six months ended December 31, 2019 and 2018 are as follows (dollars in millions):

Interest and other income (expense), net for the three and nine months ended March 31, 2020 and 2019 are as follows (dollars in millions):

Three Months Ended

Six Months Ended

Nine Months Ended

Other income (expense), net

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Interest and other income (expense), net

Comparison of Three Months Ended December 31, 2019 and 2018

The period-over-period change in interest and other income (expense), net was due to a decrease of $1.2 million in interest expense primarily as a result of lower average outstanding debt during the three months ended December 31, 2019 as compared to three months ended December 31, 2018, which was due to repayments of our borrowings.

This was offset by a change of $1.0 million in other income (expense), net attributable to an increase of $0.6 million in interest income on our interest bearing deposits offset by change of $(1.6) million related to foreign exchange losses due to unfavorable foreign currency fluctuations.

Comparison of Six Months Ended December 31, 2019 and 2018

The period-over-period change in interest and other income (expense), net was due to a decrease of $3.1 million in interest expense primarily as a result of lower average outstanding debt during the six months ended December 31, 2019 as compared to six months ended December 31, 2018, which was due to repayments of our borrowings.

This was offset by a change of $0.4 million in other income (expense), net attributable to an increase of $1.3 million in interest income on our interest bearing deposits offset by change of $(0.9) million related to foreign exchange losses due to unfavorable foreign currency fluctuations.

Provision for Income Taxes

Provision for income taxes and effective tax rates for the three and six months ended December 31, 2019 and 2018 are as follows (dollars in millions):

Comparison of Three Months Ended March 31, 2020 and 2019

The period-over-period change in interest expense was due to a decrease of $0.8 million in interest expense primarily as a result of lower interest rates in the three months ended March 31, 2020 as compared to the three months ended March 31, 2019.

The change of $1.0 million in other income (expense), net was attributable to an increase of $0.3 million in interest income on our interest bearing deposits and a decrease of $0.6 million in other expenses.

Comparison of Nine Months Ended March 31, 2020 and 2019

The period-over-period change in interest expense was due to a decrease of $3.9 million in interest expense primarily as a result of lower interest rates in the nine months ended March 31, 2020 as compared to the nine months ended March 31, 2019.

The change of $1.4 million in other income (expense), net was attributable to an increase of $1.6 million in interest

income on our interest bearing deposits and a decrease of $0.6 million in other expenses, offset by change of $(0.9) million related to foreign exchange losses due to unfavorable foreign currency fluctuations.

Provision (Benefit) for Income Taxes

Provision (benefit) for income taxes and effective tax rates for the three and nine months ended March 31, 2020 and 2019 are as follows (dollars in millions):

Three Months Ended

Six Months Ended

Income tax provision

Nine Months Ended

Income tax (benefit) provision

Percentage of total net sales

Effective tax rate

Comparison of Three Months Ended December 31, 2019 and 2018

The period-over-period decrease in income tax provision and effe ctive tax rate was primarily due to a release of unrecognized tax benefits following the settlement of a Taiwan tax audit for the three months ended December 31, 2019 .

Comparison of Six Months Ended December 31, 2019 and 2018

The period-over-period decrease in effective tax rate was primarily due to a release of unrecognized tax benefits following the settlement of a Taiwan tax audit for the six months ended December 31, 2019.

Comparison of Three Months Ended March 31, 2020 and 2019

The income tax benefit and effective tax rate change was primarily due to a tax benefit from the disqualified disposition of incentive stock options for the three months ended March 31, 2020.

Comparison of Nine Months Ended March 31, 2020 and 2019

The period-over-period decrease in effective tax rate was primarily due to a tax benefit from the disqualified disposition of incentive stock options for the nine months ended March 31, 2020.

Liquidity and Capital Resources

We have financed our growth primarily with funds generated from operations, in addition to utilizing borrowing facilities, particularly in relation to the financing of real property acquisitions as well as working capital.

Our cash and cash equivalents were $309.0 million and $248.2 million as of December 31, 2019 and June 30, 2019 , respectively.

Our cash in foreign locations was $93.5 million and $124.6 million as of December 31, 2019 and June 30, 2019 , respectively.

Our cash and cash equivalents were $300.9 million and $248.2 million as of March 31, 2020 and June 30, 2019 , respectively.

Our cash in foreign locations was $90.2 million and $124.6 million as of March 31, 2020 and June 30, 2019 , respectively.

Amounts held outside of the U.S.

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Where local restrictions prevent an efficient intercompany transfer of funds, our intent is to keep cash balances outside of the U.S.

and to meet liquidity needs through ongoing cash flows, external borrowings, or both.

and to meet liquidity needs through operating cash flows, external borrowings, or both.

We do not expect restrictions or potential taxes incurred on repatriation of amounts held outside of the U.S.

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We believe that our current cash, cash equivalents, credit lines and internally generated cash flows will be generally sufficient to support our operating businesses, remediation efforts, maturing debt and interest payments for the twelve months following the issuance of these condensed consolidated financial statements.

Expected uses of our cash over the short term include our continued development of resource saving products, manufacturing expansion in the United States and Taiwan and ongoing remediation of our material weaknesses in internal controls over financial reporting.

Additionally, we expect to incur additional charges of $35.0 million to $40.0 million, which will be one-time in nature, in the third or fourth fiscal quarter of 2020.

These one-time charges, which will likely be settled in cash, will address residual clean-up matters from our extended black-out period.

We are in the process of negotiating an extension of our credit facility with Bank of America and expect this process will be completed by the end of May, 2020.

Expected uses of our cash over the short term include our continued development of our innovative and resource saving products, manufacturing expansion in the United States and Taiwan and ongoing remediation of our material weaknesses in internal controls over financial reporting.

We expect to pay one-time performance bonuses of approximately $25.3 million to employees in the fourth quarter of fiscal year 2020 and $8.5 million to other executives and members of the Board of Directors within the next two years when and if specified market and performance conditions will be met.

In addition, we expect to make a one-time settlement payment of $17.5 million to the SEC in connection with the conclusion of the ongoing investigations.

Our key cash flow metrics were as follows (dollars in millions):

Six Months Ended December 31,

Nine Months Ended

Net cash provided by operating activities

Net cash used in investing activities

Net cash used in financing activities

Net decrease in cash, cash equivalents and restricted cash

Net cash provided by (used in) financing activities

Net increase (decrease) in cash, cash equivalents and restricted cash

Operating Activities

Net cash provided by operating activities increased by $6.1 million for the six months ended December 31, 2019 as compared to the six months ended December 31, 2018.

The increase was due primarily to an increase in net income in the current period of $12.5 million and a reduction of non-cash charges from the change in deferred taxes, net of $7.1 million , from lower period-over-period changes in reserves and accruals, offset by increased net working capital of $10.8 million

resulting from a decrease in the cash collected from our customers, an increase in prepayments to tax authorities, a decrease in payments for professional fees, and a decrease in the share of loss from our equity investee of $3.2 million .

Net cash provided by operating activities decreased by $115.0 million for the nine months ended March 31, 2020 as compared to the nine months ended March 31, 2019.

The decrease was due primarily to an increase in net working capital of $129.7 million driven by increased inventories and prepaid expenses and other current assets, offset by an increase in net income for the current period of $17.7 million .

Investing Activities

Net cash used in investing activities was $23.3 million and $9.3 million for the six months ended December 31, 2019 and 2018, respectively, as we continued to invest in expanding our capacity and office space, including the expansion of our Green Computing Park in San Jose.

During the six months ended December 31, 2019, we received $0.8 million from the sale of our investment in a privately held company.

Net cash used in investing activities was $34.1 million and $15.8 million for the nine months ended March 31, 2020 and 2019, respectively, as we continued to invest in expanding our capacity and office space, including the expansion of our Green Computing Park in San Jose and offices in Taiwan.

During the nine months ended March 31, 2020, we received $0.8 million from the sale of our investment in a privately held company.

Financing Activities

Net cash used in financing activities decreased by $67.2 million for the six months ended December 31, 2019 as compared to the six months ended December 31, 2018 primarily due to decreased debt repayments of $66.5 million .

Net cash provided by financing activities for the nine months ended March 31, 2020 was $25.4 million while net cash used in financing activities for the nine months ended March 31, 2019 was $95.9 million .

The change in cash flows from financing activities was primarily due to decreased debt repayments of $101.9 million and cash received for exercise of stock options of $23.1 million .

Other Factors Affecting Liquidity and Capital Resources

Activities under Revolving Lines of Credit and Term Loans

Bank of America

2018 Bank of America Credit Facility

In April 2018, we entered into a revolving line of credit with Bank of America (the "2018 Bank of America Credit Facility"), which replaced the then existing credit facility with Bank of America (the "2016 Bank of America Credit Facility").

The 2018 Bank of America Credit Facility provides for a revolving credit line and other financial accommodations of up to $250.0 million extended by certain lenders, including a $5.0 million letter of credit sublimit, which was extended to $15.0 million in October 2019.

The 2018 Bank of America Credit Facility was originally set to expire after 364 days and was extended to June 30, 2020 through subsequent amendments.

Prior to its maturity, at our option and if certain conditions are satisfied, the 2018 Bank of America Credit Facility may convert into a five-year revolving credit facility.

If and upon such conversion, the lenders for the 2018 Bank of America Credit Facility shall extend, in aggregate, a principal amount of up to $400.0 million.

Prior to the 2018 Bank of America Credit Facility’s conversion to the five-year revolving credit facility, interest shall accrue at the LIBOR rate plus 2.75% per annum.

Upon the 2018 Bank of America Credit Facility converting to the five-year revolving credit facility, interest shall accrue at the LIBOR rate plus an amount between 1.50% and 2.00% for loans to both Super Micro Computer and Super Micro Computer B.V.

Under the terms of the 2018 Bank of America Credit Facility, we are required to grant the lenders a continuing security interest in and lien upon all amounts credited to any of our deposit accounts.

Interest accrued on any loans under the 2018 Bank of America Credit Facility is due on the first day of each month, and the loans are due and payable in full on the termination date of the 2018 Bank of America Credit Facility, unless payment is required earlier as determined by the lenders.

Voluntary prepayments are permitted without early repayment fees or penalties.

The terms of the arrangement require any amounts in the deposit accounts to be applied against our line of credit the next business day.

Subject to customary exceptions, the 2018 Bank of America Credit Facility is secured by substantially all of Super Micro Computer’s assets.

If converted to the five-year revolving credit facility, Super Micro Computer’s assets, and at our option, Super Micro Computer B.V.'s assets will be used as collateral for the 2018 Bank of America Credit Facility.

Under the terms of the 2018 Bank of America Credit Facility, we are not permitted to either repurchase our shares or pay any dividends.

In the fourth fiscal quarter of 2018, we paid $3.2 million in fees to the lenders and third parties in connection with the 2018 Bank of America Credit Facility.

The replacement of the 2016 Bank of America Credit Facility by the 2018 Bank of America Credit Facility is accounted for as a modification of the then-existing credit facility to the extent the lenders before and after the modification were the same.

Any unamortized fees relating to the 2016 Bank of America Credit Facility and the fees paid for the 2018 Bank of America Credit Facility are amortized over the term of the 2018 Bank of America Credit Facility as interest expense in our consolidated statements of operation and any unamortized amounts are classified within prepaid and other current assets in our consolidated balance sheets.

On January 31, 2019, we paid a fee and entered into an amendment of the 2018 Bank of America Credit Facility that resulted in the extension of the maturity date from April 19, 2019 to June 30, 2019.

On June 27, 2019, we entered into a second amendment of the 2018 Bank of America Credit Facility that extended the maturity date from June 30, 2019 to June 30, 2020.

As of December 31, 2019 , we had no outstanding borrowings under the 2018 Bank of America Credit Facility.

As of June 30, 2019 , the total outstanding borrowings under the 2018 Bank of America Credit facility were $1.1 million .

The interest rates under the 2018 Bank of America Credit Facility as of December 31, 2019 and June 30, 2019 were 3.75% per annum and 4.50% per annum, respectively.

As of December 31, 2019 , a $6.4 million letter of credit was outstanding under the 2018 Bank of America Credit Facility.

The balance of debt issuance costs outstanding were immaterial as of December 31, 2019 and June 30, 2019.

As of December 31, 2019, our available borrowing capacity under the 2018 Bank of America Credit Facility was $243.6 million , subject to the borrowing base limitation and compliance with other applicable terms.

In January 2018, we entered into a credit agreement with CTBC Bank that provided for (i) a 12-month NTD $700.0 million ($23.6 million U.S.

dollar equivalent) term loan facility secured by the land and building located in Bade, Taiwan with an interest rate equal to the lender's established NTD interest rate plus 0.25% per annum, which was adjusted monthly, which term loan facility also included a 12-month guarantee of up to NTD $100.0 million ($3.4 million U.S.

dollar equivalent) with an annual fee equal to 0.50% per annum, and (ii) a 12-month NTD $1,500.0 million ($50.5 million U.S.

dollar equivalent) term loan facility with an interest rate equal to the lender's established NTD interest rate plus 0.25% per annum, which was adjusted monthly (collectively, the “2018 CTBC Credit Facility”).

The total borrowings allowed under the 2018 CTBC Credit Facility was initially capped at $50.0 million and in August 2018 was reduced to $40.0 million.

In June 2019 prior to its maturity, the 2018 CTBC Credit Facility was replaced by the 2019 CTBC Credit Facility (defined below).

In June 2019, we entered into a credit agreement with CTBC Bank that provides for (i) a 12-month NTD $700.0 million ($22.5 million U.S.

dollar equivalent) term loan facility secured by the land and building located in Bade, Taiwan with an interest rate equal to the lender's established NTD interest rate plus 0.25% per annum which is adjusted monthly, which term loan facility also includes a 12-month guarantee of up to NTD $100.0 million ($3.2 million U.S.

dollar equivalent) with an annual fee equal to 0.50% per annum, (ii) a 180-day NTD $1,500.0 million ($48.2 million U.S.

dollar equivalent) term loan facility up to 100% of eligible accounts receivable in an aggregate amount with an interest rate equal to the lender's established NTD interest rate ranging from 0.30% to 0.50% per annum which is adjusted monthly, and (ⅲ) a 12-month revolving line of credit of up to 100% of eligible accounts receivable in an aggregate amount of up to $50.0 million with an interest rate equal to the lender's established USD interest rate plus an interest rate ranging from 0.30% to 0.50% per annum which is adjusted monthly (collectively, the “2019 CTBC Credit Facility”).

The total borrowings allowed under the 2019 CTBC Credit Facility was capped at $50.0 million.

The 2019 CTBC Credit Facility is to mature on June 30, 2020.

The total outstanding borrowings under the 2019 CTBC Credit Facility term loan were denominated in NTD and remeasured into U.S.

dollars of $23.3 million and $22.5 million at December 31, 2019 and June 30, 2019 , respectively.

The interest rate for these loans were 0.91% per annum as of December 31, 2019 and 0.93% per annum as of June 30, 2019.

At December 31, 2019 , the amount available for future borrowing under the 2019 CTBC Credit Facility was $26.7 million .

As of December 31, 2019 , the net book value of land and building located in Bade, Taiwan collateralizing the 2019 CTBC Credit Facility term loan was $25.6 million .

Covenant Compliance

2018 Bank of America Credit Facility

The credit agreement with Bank of America related to the 2018 Bank of America Credit Facility contains customary representations and warranties and customary affirmative and negative covenants applicable to us and our subsidiaries.

The credit agreement contains a financial covenant, which requires that we maintain a Fixed Charge Coverage Ratio, as defined in the agreement of at least 1.00 for each twelve-month period while a Trigger Period, as defined in the agreement, is in effect.

We have been in compliance with all the covenants under the 2018 Bank of America Credit Facility.

On September 7, 2018, Bank of America issued an extension letter to us in connection with the 2018 Bank of America Credit Facility, which extended the delivery date of our audited consolidated financial statements, compliance certificates and other material reports for the fiscal year ended June 30, 2018 to January 31, 2019.

On January 31, 2019, we entered into an amendment of the loan and security agreement with respect to the 2018 Bank of America Credit Facility to, among other matters, (a) extend the delivery date of our audited consolidated financial statements, compliance certificates and other material reports for the fiscal year ended June 30, 2018 to June 30, 2019, and (b) require the delivery, by no later than March 31, 2019 of our audited consolidated financial statements for the fiscal year ended June 30, 2019.

In April 2019, we paid a fee to extend the delivery to June 30, 2019 of our audited consolidated financial statements for the fiscal year ended June 30, 2017.

In connection with the second amendment of the 2018 Bank of America Credit Facility to extend the maturity of the 2018 Bank of America Credit Facility, we were required to deliver our audited consolidated financial statements for the

fiscal year ended June 30, 2018 by December 31, 2019, and deliver our audited consolidated financial statements for the fiscal year ended June 30, 2019 by March 31, 2020.

If we elect to deliver the audited consolidated financial statements for the fiscal years ended June 30, 2019 and 2018 together in a combined filing with the SEC, we are required to deliver our audited financial statements by March 31, 2020.

On December 19, 2019, we filed with the SEC our comprehensive Annual Report on Form 10-K for the fiscal year ended June 30, 2019, with expanded financial and other disclosures in lieu of filing a separate Annual Report on Form 10-K for the fiscal year ended June 30, 2018 and in lieu of filing Quarterly Reports on Form 10-Q for the first three quarters of fiscal year 2018.

On December 19, 2019, we also filed with the SEC our Quarterly Reports on Form 10-Q for the quarters ended September 30, 2018, December 31, 2018 and March 31, 2019.

As such, we complied with the requirements of the second amendment of the 2018 Bank of America Credit Facility.

There are no financial covenants associated with the 2018 CTBC Credit Facility or the 2019 CTBC Credit Facility.

We have a revolving line of credit with Bank of America (the "2018 Bank of America Credit Facility”) for up to $250.0 million, which expires in June 30, 2020.

Prior to its maturity, if certain conditions are satisfied, we may convert it into a five-year revolving credit facility for up to $400.0 million.

As of March 31, 2020, we had no outstanding borrowings and we had a $6.4 million letter of credit outstanding under this facility.

Our available borrowing capacity was $243.6 million , subject to the borrowing base limitation and compliance with other applicable terms.

The 2018 Bank of America Credit Facility is secured by substantially all of Super Micro Computer’s assets and we are not permitted to repurchase our shares or pay any dividends.

We were in compliance with all covenants as of March 31, 2020.

We are in the process of negotiating an extension of our credit facility with Bank of America and expect this process will be completed by the end of May, 2020.

2019 CTBC Credit Facility

In June 2019, we entered into a credit agreement with CTBC Bank in Taiwan that provides for term loans denominated in NTD of up to $50.0 million and expires in June 2020.

During the three months ended March 31, 2020, we borrowed $10.0 million under the revolving line of credit.

The total outstanding borrowings under the 2019 CTBC Credit Facility were $33.2 million with maturity on June 30, 2020.

The amount available for future borrowing was $16.8 million as of March 31, 2020.

The interest rate for these outstanding term loans was 0.91% per annum as of March 31, 2020 .

Term loans are secured by various Company’s assets, including certain property, plant, and equipment.

There are no financial covenants under the 2019 CTBC Credit Facility.

Refer to Part I, Item 1, Note 7, “Short-term Debt,” in our notes to the condensed consolidated financial statements in this Quarterly Report on Form 10-Q for further information on our outstanding debt.

Recent Accounting Pronouncements

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

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Item 2. Management’s Discussion and Analysis