WESTERN DIGITAL CORP 10-Q

Item 1. Financial Statements (unaudited) WESTERN DIGITAL CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (in millions, except par value) (Unaudited) December 30, 2022 July 1, 2022 ASSETS Current assets: Cash and cash equivalents $ 1,871 $ 2,327 Accounts receivable, net 1,905 2,804 Inventories 3,773 3,638 Other current assets 832 684 Total current assets 8,381 9,453 Property, plant and equipment, net 3,688 3,670 Notes receivable and investments in Flash Ventures 1,357 1,396 Goodwill 10,041 10,041 Other intangible assets, net 135 213 Other non-current assets 1,445 1,486 Total assets $ 25,047 $ 26,259 LIABILITIES AND SHAREHOLDERS’ EQUITY Current liabilities: Accounts payable $ 1,193 $ 1,902 Accounts payable to related parties 368 320 Accrued expenses 1,410 1,636 Income taxes payable 1,025 869 Accrued compensation 348 510 Current portion of long-term debt 38 — Total current liabilities 4,382 5,237 Long-term debt 7,033 7,022 Other liabilities 1,517 1,779 Total liabilities 12,932 14,038 Commitments and contingencies (Notes 10, 11, 13 and 16) Shareholders’ equity: Common stock, $ 0.01 par value; authorized — 450 shares; issued — 319 shares and 315 shares, respectively; outstanding — 319 shares and 315 shares, respectively 3 3 Additional paid-in capital 3,770 3,733 Accumulated other comprehensive loss ( 369 ) ( 554 ) Retained earnings 8,711 9,039 Total shareholders’ equity 12,115 12,221 Total liabilities and shareholders’ equity $ 25,047 $ 26,259 The accompanying notes are an integral part of these Condensed Consolidated Financial Statements. 5 Table of Contents WESTERN DIGITAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (in millions, except per share amounts) (Unaudited) Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 Revenue, net $ 3,107 $ 4,833 $ 6,843 $ 9,884 Cost of revenue 2,579 3,250 5,334 6,636 Gross profit 528 1,583 1,509 3,248 Operating expenses: Research and development 523 575 1,075 1,153 Selling, general and administrative 250 279 497 570 Employee termination, asset impairment, and other charges 76 2 100 20 Total operating expenses 849 856 1,672 1,743 Operating income (loss) ( 321 ) 727 ( 163 ) 1,505 Interest and other income (expense): Interest income 3 1 5 3 Interest expense ( 73 ) ( 76 ) ( 143 ) ( 154 ) Other income (expense), net 6 ( 6 ) — ( 4 ) Total interest and other expense, net ( 64 ) ( 81 ) ( 138 ) ( 155 ) Income (loss) before taxes ( 385 ) 646 ( 301 ) 1,350 Income tax expense 61 82 118 176 Net income (loss) $ ( 446 ) $ 564 $ ( 419 ) $ 1,174 Income (loss) per common share: Basic $ ( 1.40 ) $ 1.81 $ ( 1.32 ) $ 3.77 Diluted $ ( 1.40 ) $ 1.79 $ ( 1.32 ) $ 3.73 Weighted average shares outstanding: Basic 318 312 317 311 Diluted 318 315 317 315 The accompanying notes are an integral part of these Condensed Consolidated Financial Statements. 6 Table of Contents WESTERN DIGITAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (in millions) (Unaudited) Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 Net income (loss) $ ( 446 ) $ 564 $ ( 419 ) $ 1,174 Other comprehensive income (loss), before tax: Actuarial pension gain — — — 1 Foreign currency translation adjustment 95 ( 45 ) 15 ( 41 ) Net unrealized gain (loss) on derivative contracts and available-for-sale securities 288 ( 10 ) 212 23 Total other comprehensive income (loss), before tax 383 ( 55 ) 227 ( 17 ) Income tax benefit (expense) related to items of other comprehensive income (loss), before tax ( 58 ) 5 ( 42 ) ( 3 ) Other comprehensive income (loss), net of tax 325 ( 50 ) 185 ( 20 ) Total comprehensive income (loss) $ ( 121 ) $ 514 $ ( 234 ) $ 1,154 The accompanying notes are an integral part of these Condensed Consolidated Financial Statements. 7 Table of Contents WESTERN DIGITAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in millions) (Unaudited) Six Months Ended December 30, 2022 December 31, 2021 Cash flows from operating activities Net income (loss) $ ( 419 ) $ 1,174 Adjustments to reconcile net income to net cash provided by operations: Depreciation and amortization 430 492 Stock-based compensation 172 163 Deferred income taxes 25 38 Loss on disposal of assets 1 1 Non-cash portion of asset impairment 15 — Amortization of debt issuance costs and discounts 5 21 Other non-cash operating activities, net 69 13 Changes in: Accounts receivable, net 899 ( 486 ) Inventories ( 135 ) ( 30 ) Accounts payable ( 521 ) 96 Accounts payable to related parties 49 ( 9 ) Accrued expenses ( 226 ) 81 Income taxes payable 156 ( 34 ) Accrued compensation ( 162 ) ( 66 ) Other assets and liabilities, net ( 317 ) ( 267 ) Net cash provided by operating activities 41 1,187 Cash flows from investing activities Purchases of property, plant and equipment ( 578 ) ( 551 ) Proceeds from the sale of property, plant and equipment — 12 Proceeds from dispositions of business 7 — Notes receivable issuances to Flash Ventures ( 235 ) ( 337 ) Notes receivable proceeds from Flash Ventures 317 320 Strategic investments and other, net 7 ( 13 ) Net cash used in investing activities ( 482 ) ( 569 ) Cash flows from financing activities Issuance of stock under employee stock plans 48 60 Taxes paid on vested stock awards under employee stock plans ( 55 ) ( 80 ) Repayment of debt — ( 2,425 ) Proceeds from debt — 998 Repayments of revolving credit facility ( 1,180 ) — Proceeds from revolving credit facility 1,180 — Debt issuance costs ( 5 ) ( 9 ) Net cash used in financing activities ( 12 ) ( 1,456 ) Effect of exchange rate changes on cash ( 3 ) ( 1 ) Net decrease in cash and cash equivalents ( 456 ) ( 839 ) Cash and cash equivalents, beginning of year 2,327 3,370 Cash and cash equivalents, end of period $ 1,871 $ 2,531 Supplemental disclosure of cash flow information: Cash paid for income taxes $ 192 $ 312 Cash paid for interest $ 138 $ 129 The accompanying notes are an integral part of these Condensed Consolidated Financial Statements. 8 Table of Contents WESTERN DIGITAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (in millions) (Unaudited) Common Stock Treasury Stock Additional Paid-In Capital Accumulated Other Comprehensive Loss Retained Earnings Total Shareholders’ Equity Shares Amount Shares Amount Balance at July 1, 2022 315 $ 3 — $ — $ 3,733 $ ( 554 ) $ 9,039 $ 12,221 Net income — — — — — — 27 27 Adoption of new accounting standards — — — — ( 128 ) — 91 ( 37 ) Employee stock plans 3 — — — ( 50 ) — — ( 50 ) Stock-based compensation — — — — 86 — — 86 Foreign currency translation adjustment — — — — — ( 80 ) — ( 80 ) Net unrealized loss on derivative contracts — — — — — ( 60 ) — ( 60 ) Balance at September 30, 2022 318 3 — — 3,641 ( 694 ) 9,157 12,107 Net loss — — — — — — ( 446 ) ( 446 ) Employee stock plans 1 — — — 43 — — 43 Stock-based compensation — — — — 86 — — 86 Foreign currency translation adjustment — — — — — 97 — 97 Net unrealized gain on derivative contracts — — — — — 228 — 228 Balance at December 30, 2022 319 $ 3 — $ — $ 3,770 $ ( 369 ) $ 8,711 $ 12,115 The accompanying notes are an integral part of these Condensed Consolidated Financial Statements. 9 Table of Contents WESTERN DIGITAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (in millions) (Unaudited) Common Stock Treasury Stock Additional Paid-In Capital Accumulated Other Comprehensive Loss Retained Earnings Total Shareholders’ Equity Shares Amount Shares Amount Balance at July 2, 2021 312 $ 3 ( 4 ) $ ( 232 ) $ 3,608 $ ( 197 ) $ 7,539 $ 10,721 Net income — — — — — — 610 610 Employee stock plans — — 3 207 ( 283 ) — — ( 76 ) Stock-based compensation — — — — 76 — — 76 Actuarial pension gain — — — — — 1 — 1 Foreign currency translation adjustment — — — — — 4 — 4 Net unrealized gain on derivative contracts — — — — — 25 — 25 Balance at October 1, 2021 312 3 ( 1 ) ( 25 ) 3,401 ( 167 ) 8,149 11,361 Net income — — — — — — 564 564 Employee stock plans 1 — 1 25 31 — — 56 Stock-based compensation — — — — 87 — — 87 Foreign currency translation adjustment — — — — — ( 45 ) — ( 45 ) Net unrealized loss on derivative contracts — — — — — ( 5 ) — ( 5 ) Balance at December 31, 2021 313 $ 3 — $ — $ 3,519 $ ( 217 ) $ 8,713 $ 12,018 The accompanying notes are an integral part of these Condensed Consolidated Financial Statements. 10 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 1. Organization and Basis of Presentation Western Digital Corporation (“Western Digital” or the “Company”) is a leading developer, manufacturer, and provider of data storage devices and solutions based on both flash-based products (“Flash”) and hard disk drives (“HDD”) technologies. With dedicated Flash and HDD business units driving advancements in memory technologies, the Company creates and drives innovations needed to help customers capture, preserve, access, and transform an ever-increasing diversity of data. The accounting policies followed by the Company are set forth in Part II, Item 8, Note 1, Organization and Basis of Presentation, of the Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10‑K for the year ended July 1, 2022. In the opinion of management, all adjustments necessary to fairly state the Condensed Consolidated Financial Statements have been made. All such adjustments are of a normal, recurring nature. Certain information and footnote disclosures normally included in the Consolidated Financial Statements prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). These Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and the notes thereto included in the Company’s Annual Report on Form 10‑K for the year ended July 1, 2022. The results of operations for interim periods are not necessarily indicative of results to be expected for the full year. Fiscal Year The Company’s fiscal year ends on the Friday nearest to June 30 and typically consists of 52 weeks. Approximately every five to six years, the Company reports a 53-week fiscal year to align the fiscal year with the foregoing policy. Fiscal years 2023, which ends on June 30, 2023, and 2022, which ended on July 1, 2022, are each comprised of 52 weeks, with all quarters presented consisting of 13 weeks. Segment Reporting The Company manufactures, markets, and sells data storage devices and solutions in the U.S. and in foreign countries through its sales personnel, dealers, distributors, retailers, and subsidiaries. The Company manages and reports under two reportable segments: Flash and HDD. The Company’s Chief Operating Decision Maker (“CODM”) evaluates performance of the Company and makes decisions regarding allocation of resources based on each operating segment’s net revenue and gross margin. Because of the integrated nature of the Company’s production and distribution activities, separate segment asset measures are not available or reviewed by the CODM to evaluate the performance of or to allocate resources to the segments. Use of Estimates Company management has made estimates and assumptions relating to the reporting of certain assets and liabilities in conformity with U.S. GAAP. These estimates and assumptions have been applied using methodologies that are consistent throughout the periods presented with consideration given to the potential impacts of current macroeconomic conditions. However, actual results could differ materially from these estimates. 11 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 2. Recent Accounting Pronouncements Accounting Pronouncements Recently Adopted In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2020-06, “Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity” (“ASU 2020-06”). ASU 2020-06 reduces the number of accounting models for convertible debt instruments and convertible preferred stock and results in fewer instruments with embedded conversion features being separately recognized from the host contract as compared with prior standards. Those instruments that do not have a separately recognized embedded conversion feature will no longer recognize a debt issuance discount related to such a conversion feature and would recognize less interest expense on a periodic basis. Additionally, the ASU amends the calculation of the share dilution impact related to a conversion feature and eliminates the treasury method as an option. The Company adopted the new standard effective July 2, 2022, the first day of the year ending June 30, 2023, using the modified retrospective method. On the date of adoption, the Company recorded a reduction in Additional Paid-In Capital of $ 128 million, a reduction of unamortized debt discount o f $ 48 million, a reduction of deferred income tax liabilities of $ 11 million, and an increase to retained earnings of $ 91 million for the after-tax impact of previously recognized amortization of the debt discount associated with the Co mpany’s convertible senior notes. In November 2021, the FASB issued ASU No. 2021-10, “Government Assistance (Topic 832): Disclosures by Business Entities about Government Assistance” (“ASU 2021-10”). ASU 2021-10 increases the transparency of government assistance received by requiring most business entities to disclose information about government assistance received, including (1) the types of assistance, (2) the entity’s accounting for the assistance, and (3) the effect of the assistance on an entity’s financial statements. This ASU is effective for fiscal years (and interim periods within those fiscal years) beginning after December 15, 2021, which for the Company is the first quarter of 2023. The Company adopted this ASU on July 2, 2022, the first day of the year ending June 30, 2023, and the adoption did not have a material impact on its Condensed Consolidated Financial Statements. Recently Issued Accounting Pronouncements Not Yet Adopted In September 2022, the FASB issued ASU No. 2022-04, “Liabilities-Supplier Finance Programs (Subtopic 405-50): Disclosure of Supplier Finance Program Obligations”. This guidance requires annual and interim disclosures for entities that use supplier finance programs in connection with the purchase of goods and services. The ASU is effective for fiscal years beginning after December 15, 2022, with early adoption permitted, except for the amendment on rollforward information, which is effective for fiscal years beginning after December 15, 2023. The Company is currently evaluating the extent of the impact of this ASU on its Condensed Consolidated Financial Statements. 12 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 3. Business Segments, Geographic Information, and Concentrations of Risk The following table summarizes the operating performance of the Company’s reportable segments: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 $ in millions Net revenue: Flash $ 1,657 $ 2,620 $ 3,379 $ 5,110 HDD 1,450 2,213 3,464 4,774 Total net revenue $ 3,107 $ 4,833 $ 6,843 $ 9,884 Gross profit: Flash $ 240 $ 946 $ 662 $ 1,867 HDD 300 677 874 1,469 Total gross profit for segments 540 1,623 1,536 3,336 Unallocated corporate items: Stock-based compensation expense ( 12 ) ( 14 ) ( 26 ) ( 23 ) Amortization of acquired intangible assets — ( 26 ) ( 1 ) ( 65 ) Total unallocated corporate items ( 12 ) ( 40 ) ( 27 ) ( 88 ) Consolidated gross profit $ 528 $ 1,583 $ 1,509 $ 3,248 Gross margin: Flash 14.5 % 36.1 % 19.6 % 36.5 % HDD 20.7 % 30.6 % 25.2 % 30.8 % Consolidated gross margin 17.0 % 32.8 % 22.1 % 32.9 % Disaggregated Revenue The Company’s broad portfolio of technology and products address multiple end markets. Cloud represents a large and growing end market comprised primarily of products for public or private cloud environments and end customers, which the Company believes it is uniquely positioned to address as the only provider of both Flash and HDD. Through the Client end market, the Company provides its original equipment manufacturer (“OEM”) and channel customers a broad array of high-performance flash and hard drive solutions across personal computer, mobile, gaming, automotive, virtual reality headsets, at-home entertainment, and industrial spaces. The Consumer end market is highlighted by the Company’s broad range of retail and other end-user products, which capitalize on the strength of the Company’s product brand recognition and vast points of presence around the world. 13 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) The Company’s disaggregated revenue information is as follows: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions) Revenue by End Market Cloud $ 1,224 $ 1,920 $ 3,053 $ 4,145 Client 1,089 1,854 2,318 3,707 Consumer 794 1,059 1,472 2,032 Total Revenue $ 3,107 $ 4,833 $ 6,843 $ 9,884 Revenue by Geography Asia $ 1,494 $ 2,610 $ 3,180 $ 5,285 Americas 1,090 1,407 2,513 3,021 Europe, Middle East and Africa 523 816 1,150 1,578 Total Revenue $ 3,107 $ 4,833 $ 6,843 $ 9,884 The Company’s top 10 customers accounted for 47 % and 48 % of its net revenue for the three and six months ended December 30, 2022, respectively, and 46 % and 44 % of its net revenue for the three and six months ended December 31, 2021, respectively. For the three and six months ended December 30, 2022 and December 31, 2021, no single customer accounted for 10% or more of the Company’s net revenue. Goodwill The following table provides a summary of goodwill activity for the period: Flash HDD Total (in millions) Balance at July 1, 2022 $ 5,718 $ 4,323 $ 10,041 Foreign currency translation adjustment — — — Balance at December 30, 2022 $ 5,718 $ 4,323 $ 10,041 Goodwill is not amortized. Instead, it is tested for impairment annually as of the beginning of the Company’s fourth quarter, or more frequently if events or changes in circumstances indicate that goodwill may be impaired. The Company uses qualitative factors to determine whether goodwill is more-likely-than-not impaired and whether a quantitative test for impairment is considered necessary. If the Company concludes from the qualitative assessment that goodwill is more likely than not impaired, the Company is required to perform a quantitative approach to determine the amount of impairment. As of December 30, 2022, management identified several continuing factors, including changes in macroeconomic conditions and recent declines of the Company’s market stock price, that warranted quantitative analyses of impairments for both the Flash and HDD reporting units as of such date. The fair value of each operating segment was based on a weighting of two valuation methodologies: an income approach and a market approach. The income approach was based on the present value of the projected discounted cash flows (“DCF”) expected to be generated by the operating segment. Those projections required the use of significant estimates and assumptions specific to the reporting unit as well as those based on general economic conditions, which included, among other factors, revenue growth rates, gross margins, operating costs, capital expenditures, assumed tax rates and other assumptions deemed reasonable by management. The present value was based on applying a weighted average cost of capital (“WACC”) which considered long-term interest rates and cost of equity based on the Company’s risk profile. 14 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) The market approach was based on a guideline company method, which analyzed market multiples of revenue and earnings before interest, taxes, depreciation and amortization (“EBITDA”) for a group of comparable public companies. The Company reconciled the aggregated estimated fair value of both operating segments to the Company’s market capitalization, including consideration of a control premium representing the estimated amount a market participant would pay to obtain a controlling interest in the Company. As of December 30, 2022, the fair value derived from those valuation methodologies exceeded the carrying value by 9 % and 28 % for Flash and HDD, respectively. There were no impairment charges recorded for the three and six months ended December 30, 2022. The Company is required to use judgment when applying the goodwill impairment test, including the assignment of assets and liabilities to reporting units, and determination of the fair value of each reporting unit. In addition, the estimates used to determine the fair value of reporting units as well as their actual carrying value may change based on future changes in the Company’s results of operations, macroeconomic conditions or other factors. Changes in these estimates could materially affect the Company’s assessment of the fair value and goodwill impairment. In addition, if negative macroeconomic conditions continue or worsen or the Company’s stock price decreases further for a sustained period of time, goodwill could become impaired, which could result in an impairment charge and materially adversely affect the Company’s financial condition results of operations. 15 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 4. Revenues Contract assets represent the Company’s rights to consideration where performance obligations are completed but the customer payments are not due until another performance obligation is satisfied. The Company did not have any contract assets as of either December 30, 2022 or July 1, 2022. Contract liabilities relate to customers’ payments in advance of performance under the contract and primarily relate to remaining performance obligations under professional service and support and maintenance contracts. Contract liabilities as of December 30, 2022 and July 1, 2022 and changes in contract liabilities for the six months ended December 30, 2022 and December 31, 2021 were not material. The Company incurs sales commissions and other direct incremental costs to obtain sales contracts. The Company has applied the practical expedient to recognize the direct incremental costs of obtaining contracts as an expense when incurred if the amortization period is expected to be one year or less or the amount is not material, with these costs charged to Selling, general and administrative expenses. The Company had no direct incremental costs to obtain contracts that have an expected benefit of greater than one year. The Company applies the practical expedients and does not disclose transaction price allocated to the remaining performance obligations for (i) arrangements that have an original expected duration of one year or less, which mainly consist of the support and maintenance contracts, and (ii) variable consideration amounts for sale-based or usage-based royalties for intellectual property (“IP”) license arrangements, which typically have a duration of longer than one year. Remaining performance obligations are mainly attributed to right-to-access patent license arrangements, professional service arrangements and customer support and service contracts which will be recognized over the remaining contract period. The transaction price allocated to the remaining performance obligations as of December 30, 2022 was $ 17 million, which is mainly attributable to the functional IP license and professional service arrangements. The Company expects to recognize this amount as revenue as follows: $ 14 million during the remainder of 2023, and $ 3 million in 2024 and thereafter. 16 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 5. Supplemental Financial Statement Data Accounts receivable, net From time to time, in connection with factoring agreements, the Company sells trade accounts receivable without recourse to third party purchasers in exchange for cash. During the six months ended December 30, 2022, the Company sold trade accounts receivable aggregating $ 391 million. The Company did no t sell any trade accounts receivable during the six months ended December 31, 2021. The discounts on the trade accounts receivable sold were not material and were recorded within Other income (expense), net in the Condensed Consolidated Statements of Operations. As of December 30, 2022 and July 1, 2022, the amount of factored receivables that remained outstanding was $ 100 million and $ 300 million, respectively. Inventories December 30, 2022 July 1, 2022 (in millions) Inventories: Raw materials and component parts $ 1,968 $ 1,603 Work-in-process 966 1,162 Finished goods 839 873 Total inventories $ 3,773 $ 3,638 Property, plant and equipment, net December 30, 2022 July 1, 2022 (in millions) Property, plant and equipment: Land $ 269 $ 269 Buildings and improvements 1,953 1,920 Machinery and equipment 8,692 8,642 Computer equipment and software 506 494 Furniture and fixtures 54 54 Construction-in-process 690 591 Property, plant and equipment, gross 12,164 11,970 Accumulated depreciation ( 8,476 ) ( 8,300 ) Property, plant and equipment, net $ 3,688 $ 3,670 Other Intangible assets, net December 30, 2022 July 1, 2022 (in millions) Other Intangible assets: Finite-lived intangible assets $ 5,492 $ 5,493 In-process research and development 80 80 Accumulated amortization ( 5,437 ) ( 5,360 ) Other Intangible assets, net $ 135 $ 213 As part of prior acquisitions, the Company recorded at the time of the acquisition acquired in-process research and development (“IPR&D”) for projects in progress that had not yet reached technological feasibility. IPR&D is initially accounted for as an indefinite-lived intangible asset. Once a project reaches technological feasibility, the Company reclassifies the balance to existing technology and begins to amortize the intangible asset over its estimated useful life. 17 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Product warranty liability Changes in the warranty accrual were as follows: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions) Warranty accrual, beginning of period $ 340 $ 370 $ 345 $ 363 Charges to operations 25 36 57 76 Utilization ( 60 ) ( 28 ) ( 94 ) ( 51 ) Changes in estimate related to pre-existing warranties ( 16 ) ( 27 ) ( 19 ) ( 37 ) Warranty accrual, end of period $ 289 $ 351 $ 289 $ 351 The current portion of the warranty accrual is classified in Accrued expenses and the long-term portion is classified in Other liabilities as noted below: December 30, 2022 July 1, 2022 (in millions) Warranty accrual: Current portion (included in Accrued expenses) $ 131 $ 162 Long-term portion (included in Other liabilities) 158 183 Total warranty accrual $ 289 $ 345 Other liabilities December 30, 2022 July 1, 2022 (in millions) Other liabilities: Non-current net tax payable $ 458 $ 659 Non-current portion of unrecognized tax benefits 452 477 Other non-current liabilities 607 643 Total other liabilities $ 1,517 $ 1,779 18 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Accumulated other comprehensive loss Accumulated other comprehensive loss (“AOCI”), net of tax refers to expenses, gains and losses that are recorded as an element of shareholders’ equity but are excluded from net income. The following table illustrates the changes in the balances of each component of AOCI: Actuarial Pension Losses Foreign Currency Translation Adjustment Unrealized Losses on Derivative Contracts Total Accumulated Comprehensive Loss (in millions) Balance at July 1, 2022 $ ( 11 ) $ ( 277 ) $ ( 266 ) $ ( 554 ) Other comprehensive income before reclassifications — 15 35 50 Amounts reclassified from accumulated other comprehensive loss — — 177 177 Income tax benefit related to items of other comprehensive loss — 2 ( 44 ) ( 42 ) Net current-period other comprehensive income — 17 168 185 Balance at December 30, 2022 $ ( 11 ) $ ( 260 ) $ ( 98 ) $ ( 369 ) During the three and six months ended December 30, 2022, the amounts reclassified out of AOCI were losses related to foreign exchange contracts and gains related to interest rate swap contracts. Losses reclassified out of AOCI related to foreign exchange contracts were $ 119 million and $ 181 million for the three and six months ended December 30, 2022, respectively, that were substantially charged to Cost of revenue in the Condensed Consolidated Statements of Operations. Gains reclassified out of AOCI related to interest rate swap contracts were $ 6 million and $ 4 million for the three and six months ended December 30, 2022, respectively, that were charged to Interest expense in the Condensed Consolidated Statements of Operations. As of December 30, 2022, substantially all existing net losses related to cash flow hedges recorded in AOCI are expected to be reclassified to earnings within the next twelve months. In addition, as of December 30, 2022, the Company did not have any foreign exchange forward contracts with credit-risk-related contingent features. 19 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 6. Fair Value Measurements and Investments Financial Instruments Carried at Fair Value Financial assets and liabilities that are remeasured and reported at fair value at each reporting period are classified and disclosed in one of the following three levels: Level 1. Quoted prices in active markets for identical assets or liabilities. Level 2. Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 3. Inputs that are unobservable for the asset or liability and that are significant to the fair value of the assets or liabilities. The following tables present information about the Company’s financial assets and liabilities that are measured at fair value on a recurring basis as of December 30, 2022 and July 1, 2022, and indicate the fair value hierarchy of the valuation techniques utilized to determine such values: December 30, 2022 Level 1 Level 2 Level 3 Total (in millions) Assets: Cash equivalents - Money market funds $ 435 $ — $ — $ 435 Foreign exchange contracts — 105 — 105 Interest rate swap contracts — 6 — 6 Total assets at fair value $ 435 $ 111 $ — $ 546 Liabilities: Foreign exchange contracts $ — $ 97 $ — $ 97 Total liabilities at fair value $ — $ 97 $ — $ 97 July 1, 2022 Level 1 Level 2 Level 3 Total (in millions) Assets: Cash equivalents - Money market funds $ 266 $ — $ — $ 266 Foreign exchange contracts — 61 — 61 Interest rate swap contracts — 3 — 3 Total assets at fair value $ 266 $ 64 $ — $ 330 Liabilities: Foreign exchange contracts $ — $ 316 $ — $ 316 Total liabilities at fair value $ — $ 316 $ — $ 316 During the periods presented, the Company had no transfers of financial assets and liabilities between levels and there were no changes in valuation techniques or the inputs used in the fair value measurement. 20 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Financial Instruments Not Carried at Fair Value For financial instruments where the carrying value (which includes principal adjusted for any unamortized issuance costs, and discounts or premiums) differs from fair value (which is based on quoted market prices), the following table represents the related carrying value and fair value for each of the Company’s outstanding financial instruments. Each of the financial instruments presented below was categorized as Level 2 for all periods presented, based on the frequency of trading immediately prior to the end of the second quarter of 2023 and the fourth quarter of 2022, respectively. December 30, 2022 July 1, 2022 Carrying Value Fair Value Carrying Value Fair Value (in millions) 1.50 % convertible notes due 2024 $ 1,097 $ 1,052 $ 1,048 $ 1,040 4.75 % senior unsecured notes due 2026 2,292 2,169 2,291 2,205 Variable interest rate Term Loan A-2 maturing 2027 2,691 2,661 2,693 2,621 2.85 % senior unsecured notes due 2029 496 388 495 412 3.10 % senior unsecured notes due 2032 495 361 495 389 Total $ 7,071 $ 6,631 $ 7,022 $ 6,667 21 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 7. Derivative Instruments and Hedging Activities As of December 30, 2022, the Company had outstanding foreign exchange forward contracts that were designated as either cash flow hedges or non-designated hedges. Substantially all of the contract maturity dates of these foreign exchange forward contracts do not exceed 12 months. In addition, the Company had outstanding pay-fixed interest rate swaps that were designated as cash flow hedges of variable rate interest payments through February 2023, on a portion of its term loans. Changes in fair values of the non-designated foreign exchange contracts are recognized in Other income (expense), net and are largely offset by corresponding changes in the fair values of the foreign currency denominated monetary assets and liabilities. For each of the three and six months ended December 30, 2022 and December 31, 2021, total net realized and unrealized transaction and foreign exchange contract currency gains and losses were not material to the Company’s Condensed Consolidated Financial Statements. Unrealized gains or losses on designated cash flow hedges are recognized in AOCI. For more information regarding cash flow hedges, see Note 5, Supplemental Financial Statement Data - Accumulated other comprehensive loss. Netting Arrangements Under certain provisions and conditions within agreements with counterparties to the Company’s foreign exchange forward contracts, subject to applicable requirements, the Company has the right of offset associated with the Company’s foreign exchange forward contracts and is allowed to net settle transactions of the same currency with a single net amount payable by one party to the other. As of December 30, 2022 and July 1, 2022, the effect of rights of offset was not material and the Company did not offset or net the fair value amounts of derivative instruments in its Condensed Consolidated Balance Sheets. 22 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 8. Debt Debt consisted of the following: December 30, 2022 July 1, 2022 (in millions) 1.50 % convertible notes due 2024 $ 1,100 $ 1,100 4.75 % senior unsecured notes due 2026 2,300 2,300 Variable interest rate Term Loan A-2 maturing 2027 2,700 2,700 2.85 % senior unsecured notes due 2029 500 500 3.10 % senior unsecured notes due 2032 500 500 Total debt 7,100 7,100 Issuance costs and debt discounts ( 29 ) ( 78 ) Subtotal 7,071 7,022 Less current portion of long-term debt ( 38 ) — Long-term debt $ 7,033 $ 7,022 During the six months ended December 30, 2022, the Company drew and repaid $ 1.18 billion principal amount under its $ 2.25 billion revolving credit facility maturing in January 2027 (the “2027 Revolving Credit Facility”). In December 2022, the Company amended the credit agreement governing the 2027 Revolving Credit Facility and Term Loan A-2 for the purposes of providing flexibility by adjusting the leverage ratio requirements of the financial covenant thereunder through the Company’s quarter ending September 27, 2024 (such period, the “Covenant Relief Period”). As amended, the Company is required to maintain a maximum ratio (“Leverage Ratio”) of total funded debt to trailing twelve-month Consolidated Adjusted EBITDA (as defined in the Credit Agreement) at the end of each quarter as follows: Quarter ending: Leverage ratio December 30, 2022 3.25 to 1.00 March 31, 2023 3.75 to 1.00 June 30, 2023 4.75 to 1.00 September 29, 2023 5.00 to 1.00 December 29, 2023 4.75 to 1.00 March 29, 2024 4.50 to 1.00 June 28, 2024 4.25 to 1.00 September 27, 2024 3.75 to 1.00 December 27, 2024 and thereafter 3.25 to 1.00 As of December 30, 2022, the Company was in compliance with this financial covenant. The amendment also provides that the due date for amounts outstanding under the Credit Agreement will be accelerated from January 7, 2027 to November 2, 2023 if, as of that date, the Company does not have Cash and cash equivalents plus available unused capacity under its credit facilities that exceed by $ 1 billion the sum of the outstanding balance of the 1.50 % convertible notes due 2024 plus the outstanding principal amount of any other debt maturing within 12 months. In addition, during the Covenant Relief Period, the amendment requires certain subsidiaries of the Company to provide guarantees if the corporate family ratings of the Company from at least two of Standard & Poor’s Ratings Services, Moody’s Investors Service, Inc. and Fitch, Inc. (the “Credit Rating Agencies”) drops below investment grade and includes limits on secured indebtedness and certain types of unsecured subsidiary indebtedness. 23 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) In January 2023, the Company entered into a loan agreement (the “Delayed Draw Term Loan Agreement”), which allows the Company to draw a single unsecured loan of up to $ 875 million (the “Delayed Draw Term Loan”) through June 30, 2023. The Delayed Draw Term Loan Agreement may be terminated, at the election of the Company, at any time without premium or penalty, subject to certain conditions. Any amount drawn under the Delayed Draw Term Loan Agreement will mature 364 days following the date of the initial draw. However, the due date will be accelerated to November 2, 2023 if conditions for acceleration of amounts due under the Credit Agreement have been triggered as described above. The Delayed Draw Term Loan will bear interest, at the Company’s option, at a per annum rate equal to either (x) the Adjusted Term SOFR Rate (as defined in the Delayed Draw Term Loan Agreement) plus an applicable margin varying from 1.750 % to 2.625 % or (y) a base rate plus an applicable margin varying from 0.750 % to 1.625 %, in each case depending on the corporate family ratings of the Company from at least two of the Credit Rating Agencies. The Company will also pay an unused commitment fee on the Delayed Draw Term Loan Agreement of 0.200 %. The key covenants, limitations and requirements provided under Credit Agreement amendment noted above also apply to the Delayed Draw Term Loan Agreement. As described in Note 2, Recent Accounting Pronouncements, the Company adopted ASU 2020-06 effective July 2, 2022, using a modified retrospective method, which resulted in the elimination of the originally recorded debt discount associated with the conversion feature on its 1.50 % convertible notes due 2024. 24 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 9. Pension and Other Post-Retirement Benefit Plans The Company has pension and other post-retirement benefit plans in various countries. The Company’s principal pension plans are in Japan, Thailand and the Philippines. All pension and other post-retirement benefit plans outside of the Company’s Japan, Thailand and the Philippines defined benefit pension plans (the “Pension Plans”) are immaterial to the Condensed Consolidated Financial Statements. The expected long-term rate of return on the Pension Plans assets is 2.5 %. Obligations and Funded Status The following table presents the unfunded status of the benefit obligations for the Pension Plans: December 30, 2022 July 1, 2022 (in millions) Benefit obligation at end of period $ 302 $ 294 Fair value of plan assets at end of period 195 189 Unfunded status $ 107 $ 105 The following table presents the unfunded amounts related to the Pension Plans as recognized on the Company’s Condensed Consolidated Balance Sheets: December 30, 2022 July 1, 2022 (in millions) Current liabilities $ 1 $ 1 Non-current liabilities 106 104 Net amount recognized $ 107 $ 105 Net periodic benefit costs were not material for the three and six months ended December 30, 2022. 25 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 10. Related Parties and Related Commitments and Contingencies Flash Ventures The Company’s business ventures with Kioxia Corporation (“Kioxia”) consist of three separate legal entities: Flash Partners Ltd. (“Flash Partners”), Flash Alliance Ltd. (“Flash Alliance”), and Flash Forward Ltd. (“Flash Forward”), collectively referred to as “Flash Ventures”. The following table presents the notes receivable from, and equity investments in, Flash Ventures: December 30, 2022 July 1, 2022 (in millions) Notes receivable, Flash Partners $ 12 $ 27 Notes receivable, Flash Alliance 66 55 Notes receivable, Flash Forward 737 793 Investment in Flash Partners 174 166 Investment in Flash Alliance 251 243 Investment in Flash Forward 117 112 Total notes receivable and investments in Flash Ventures $ 1,357 $ 1,396 During the three and six months ended December 30, 2022 and December 31, 2021, the Company made net payments to Flash Ventures of $ 1.0 billion and $ 2.0 billion, and $ 1.1 billion and $ 2.3 billion, respectively, for purchased flash-based memory wafers and net loans. The Company makes, or will make, loans to Flash Ventures to fund equipment investments for new process technologies and additional wafer capacity. The Company aggregates its Flash Ventures’ notes receivable into one class of financing receivables due to the similar ownership interest and common structure in each Flash Venture entity. For all reporting periods presented, no loans were past due and no loan impairments were recorded. The Company’s notes receivable from each Flash Ventures entity, denominated in Japanese yen, are secured by equipment owned by that Flash Ventures entity. As of December 30, 2022 and July 1, 2022, the Company had accounts payable balances due to Flash Ventures of $ 368 million and $ 320 million, respectively. The Company’s maximum reasonably estimable loss exposure (excluding lost profits) as a result of its involvement with Flash Ventures, based upon the Japanese yen to U.S. dollar exchange rate at December 30, 2022, is presented below. Investments in Flash Ventures are denominated in Japanese yen, and the maximum estimable loss exposure excludes any cumulative translation adjustment due to revaluation from the Japanese yen to the U.S. dollar. December 30, 2022 (in millions) Notes receivable $ 815 Equity investments 542 Operating lease guarantees 1,895 Inventory and prepayments 1,128 Maximum estimable loss exposure $ 4,380 26 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) The Company is obligated to pay for variable costs incurred in producing its share of Flash Ventures’ flash-based memory wafer supply, based on its three-month forecast, which generally equals 50 % of Flash Ventures’ output. In addition, the Company is obligated to pay for half of Flash Ventures’ fixed costs regardless of the output the Company chooses to purchase. The Company is not able to estimate its total wafer purchase commitment obligation beyond its rolling three-month purchase commitment because the price is determined by reference to the future cost of producing the semiconductor wafers. In addition, the Company is committed to fund 49.9 % to 50.0 % of each Flash Ventures entity’s capital investments to the extent that each Flash Ventures entity’s operating cash flow is insufficient to fund these investments. In January 2022, the Company entered into additional agreements regarding Flash Ventures’ investment in a new wafer fabrication facility currently under construction in Yokkaichi, Japan, referred to as “Y7”. The primary purpose of Y7 is to provide clean room space to continue the transition of existing flash-based wafer capacity to newer flash technology nodes. The Company is committed to pay, among other items, future building depreciation prepayments aggregating approximately $ 147 million as follows: $ 124 million for the remaining six months of 2023 and $ 23 million in 2024, to be credited against future wafer charges. Inventory Purchase Commitments with Flash Ventures. Purchase orders placed under Flash Ventures for up to three months are binding and cannot be canceled. Research and Development Activities. The Company participates in common research and development (“R&D”) activities with Kioxia and is contractually committed to a minimum funding level. R&D commitments are immaterial to the Condensed Consolidated Financial Statements. Off-Balance Sheet Liabilities Flash Ventures sells to and leases back from a consortium of financial institutions a portion of its tools and has entered into equipment lease agreements of which the Company guarantees half or all of the outstanding obligations under each lease agreement. The lease agreements are subject to customary covenants and cancellation events related to Flash Ventures and each of the guarantors. The occurrence of a cancellation event could result in an acceleration of Flash Ventures’ obligations and a call on the Company’s guarantees. The following table presents the Company’s portion of the remaining guarantee obligations under the Flash Ventures’ lease facilities in both Japanese yen and U.S. dollar-equivalent, based upon the Japanese yen to U.S. dollar exchange rate as of December 30, 2022. Lease Amounts (Japanese yen, in billions) (U.S. dollar, in millions) Total guarantee obligations ¥ 250 $ 1,895 27 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) The following table details the breakdown of the Company’s remaining guarantee obligations between the principal amortization and the purchase option exercise price at the end of the term of the Flash Ventures lease agreements, in annual installments as of December 30, 2022 in U.S. dollars, based upon the Japanese yen to U.S. dollar exchange rate as of December 30, 2022: Annual Installments Payment of Principal Amortization Purchase Option Exercise Price at Final Lease Terms Guarantee Amount (in millions) Remaining six months of 2023 $ 285 $ 55 $ 340 2024 450 99 549 2025 250 90 340 2026 261 136 397 2027 81 116 197 2028 and thereafter 12 60 72 Total guarantee obligations $ 1,339 $ 556 $ 1,895 The Company and Kioxia have agreed to mutually contribute to, and indemnify each other and Flash Ventures for, environmental remediation costs or liability resulting from Flash Ventures’ manufacturing operations in certain circumstances. The Company has not made any indemnification payments, nor recorded any indemnification receivables, under any such agreements. As of December 30, 2022, no amounts have been accrued in the Condensed Consolidated Financial Statements with respect to these indemnification agreements. Unis Venture The Company has a joint venture with Unisplendour Corporation Limited and Unissoft (Wuxi) Group Co. Ltd. (“Unis”), referred to as the “Unis Venture”, to market and sell the Company’s products in China and to develop data storage systems for the Chinese market in the future. The Unis Venture is 49 % owned by the Company and 51 % owned by Unis. The Company accounts for its investment in the Unis Venture under the equity method of accounting. Revenue on products distributed by the Unis Venture is recognized upon sell through to third-party customers. For both the three and six months ended December 30, 2022, the Company recognized approximately 3 % of its consolidated revenue on products distributed by the Unis Venture. For both the three and six months ended December 31, 2021, the Company recognized approximately 4 % of its consolidated revenue on products distributed by the Unis Venture. The outstanding accounts receivable due from the Unis Venture were 7 % and 5 % of Accounts receivable, net as of December 30, 2022 and July 1, 2022, respectively. 28 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 11. Leases and Other Commitments Leases The Company leases certain domestic and international facilities and data center space under long-term, non-cancelable operating leases that expire at various dates through 2034. These leases include no material variable or contingent lease payments. Operating lease assets and liabilities are recognized based on the present value of the remaining lease payments discounted using the Company’s incremental borrowing rate. Operating lease assets also include prepaid lease payments minus any lease incentives. Extension or termination options present in the Company’s lease agreements are included in determining the right-of-use asset and lease liability when it is reasonably certain the Company will exercise those options. Lease expense is recognized on a straight-line basis over the lease term. The following table summarizes supplemental balance sheet information related to operating leases as of December 30, 2022: Lease Amounts ($ in millions) Minimum lease payments by year: Remaining six months of 2023 $ 24 2024 47 2025 44 2026 43 2027 39 Thereafter 147 Total future minimum lease payments 344 Less: Imputed interest 54 Present value of lease liabilities 290 Less: Current portion (included in Accrued expenses ) 39 Long-term operating lease liabilities (included in Other liabilities ) $ 251 Operating lease right-of-use assets (included in Other non-current assets ) $ 271 Weighted average remaining lease term in years 8.1 Weighted average discount rate 4.1 % The following table summarizes supplemental disclosures of operating cost and cash flow information related to operating leases: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions) Cost of operating leases $ 14 $ 14 $ 28 $ 27 Cash paid for operating leases 12 12 26 24 Operating lease assets obtained in exchange for operating lease liabilities — 11 4 123 29 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Purchase Agreements and Other Commitments In the normal course of business, the Company enters into purchase orders with suppliers for the purchase of components used to manufacture its products. These purchase orders generally cover forecasted component supplies needed for production during the next quarter, are recorded as a liability upon receipt of the components, and generally may be changed or canceled at any time prior to shipment of the components. The Company also enters into long-term agreements with suppliers that contain fixed future commitments, which are contingent on certain conditions such as performance, quality and technology of the vendor’s components. As of December 30, 2022, the Company had the following minimum long-term commitments: Long-Term Commitments (in millions) Year: Remaining six months of 2023 $ 193 2024 256 2025 180 2026 53 2027 46 Thereafter 150 Total $ 878 30 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 12. Shareholders’ Equity Stock-based Compensation Expense The following tables present the Company’s stock-based compensation for equity-settled awards by type (i.e., restricted stock units (“RSUs”), restricted stock unit awards with performance conditions or market conditions (“PSUs”), and rights to purchase shares of common stock under the Company’s Employee Stock Purchase Plan (“ESPP”)) and financial statement line as well as the related tax benefit included in the Company’s Condensed Consolidated Statements of Operations: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions) RSUs and PSUs $ 79 $ 78 $ 154 $ 145 ESPP 7 9 18 18 Total $ 86 $ 87 $ 172 $ 163 Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions) Cost of revenue $ 12 $ 14 $ 26 $ 23 Research and development 40 43 79 83 Selling, general and administrative 34 30 67 57 Subtotal 86 87 172 163 Tax benefit ( 11 ) ( 13 ) ( 24 ) ( 28 ) Total $ 75 $ 74 $ 148 $ 135 Windfall tax benefits and tax deficiencies for shortfalls related to the vesting and exercise of stock-based awards, which are recognized as a component of the Company’s Income tax expense, were not material for the periods presented. Compensation cost related to unvested RSUs, PSUs, and rights to purchase shares of common stock under the ESPP will generally be amortized on a straight-line basis over the remaining average service period. The following table presents the unamortized compensation cost and weighted average service period of all unvested outstanding awards as of December 30, 2022: Unamortized Compensation Costs Weighted Average Service Period (in millions) (years) RSUs and PSUs (1) $ 571 2.4 ESPP 89 1.9 Total unamortized compensation cost $ 660 (1) Weighted average service period assumes the performance metrics are met for the PSUs. 31 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Plan Activities Stock Options The following table summarizes stock option activity under the Company’s incentive plans. All outstanding options were exercisable at December 30, 2022: Number of Shares Weighted Average Exercise Price Per Share Weighted Average Remaining Contractual Life (in millions) (in years) Options outstanding at July 1, 2022 0.9 $ 66.76 0.54 Canceled or expired ( 0.5 ) 83.50 Options outstanding at December 30, 2022 0.4 $ 44.63 0.57 RSUs and PSUs The following table summarizes RSU and PSU activity under the Company’s incentive plans: Number of Shares Weighted Average Grant Date Fair Value Aggregate Intrinsic Value at Vest Date (in millions) (in millions) RSUs and PSUs outstanding at July 1, 2022 15.4 $ 52.89 Granted 4.7 43.34 Vested ( 4.7 ) 53.76 $ 200 Forfeited ( 0.9 ) 58.54 RSUs and PSUs outstanding at December 30, 2022 14.5 $ 49.18 RSUs and PSUs are generally settled in an equal number of shares of the Company’s common stock at the time of vesting of the units. Stock Repurchase Program The Company’s Board of Directors has authorized a stock repurchase program for the repurchase of up to $ 5.0 billion of the Company’s common stock, which authorization is effective through July 25, 2023. The Company did not make any stock repurchases during the six months ended December 30, 2022 and has not repurchased any shares of its common stock pursuant to its stock repurchase program since the first quarter of fiscal 2019. Although the Company will reevaluate the repurchasing of common stock when appropriate, there can be no assurance if, when or at what level the Company may resume such activity. The remaining amount available to be repurchased under the Company’s current stock repurchase program as of December 30, 2022 was $ 4.5 billion. Repurchases under the stock repurchase program may be made in the open market or in privately negotiated transactions and may be made under a Rule 10b5-1 plan. 32 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 13. Income Tax Expense The Tax Cuts and Jobs Act (the “2017 Act”), enacted on December 22, 2017, includes a broad range of tax reform proposals affecting businesses. The Company completed its accounting for the tax effects of the enactment of the 2017 Act during the second quarter of fiscal 2019. However, the U.S. Treasury and the Internal Revenue Service (“IRS”) have issued tax guidance on certain provisions of the 2017 Act since the enactment date, and the Company anticipates the issuance of additional regulatory and interpretive guidance. The Company applied a reasonable interpretation of the 2017 Act along with the then-available guidance in finalizing its accounting for the tax effects of the 2017 Act. Any additional regulatory or interpretive guidance would constitute new information, which may require further refinements to the Company’s estimates in future periods. On August 16, 2022, President Biden signed into law the Inflation Reduction Act of 2022, which contained significant law changes related to tax, climate, energy, and health care. The tax measures include, among other things, a corporate alternative minimum tax of 15% on corporations with three-year average annual adjusted financial statement income exceeding $1 billion. The corporate alternative minimum tax will not be effective for the Company until fiscal year 2024 and the Company is currently evaluating the potential effects of these legislative changes. The following table presents the Company’s Income tax expense and the effective tax rate: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 ($ in millions) Income (loss) before taxes $ ( 385 ) $ 646 $ ( 301 ) $ 1,350 Income tax expense 61 82 118 176 Effective tax rate ( 16 ) % 13 % ( 39 ) % 13 % Beginning in fiscal year 2023, the 2017 Act requires the Company to capitalize and amortize R&D expenses rather than expensing them in the year incurred. The tax effects related to the capitalization of R&D expenses are included in the effective tax rate for the three and six months ended December 30, 2022 but did not have a material impact on the effective tax rate. The primary drivers of the difference between the effective tax rate for the three and six months ended December 30, 2022 and the U.S. Federal statutory rate of 21% are the relative mix of earnings and losses by jurisdiction, the deduction for foreign derived intangible income, credits, and tax holidays in Malaysia, the Philippines and Thailand that will expire at various dates during fiscal years 2024 through 2031. The primary drivers of the difference between the effective tax rate for the three and six months ended December 31, 2021 and the U.S. Federal statutory rate of 21% are the relative mix of earnings and losses by jurisdiction, the deduction for foreign derived intangible income, credits, and tax holidays in Malaysia, the Philippines and Thailand that will expire at various dates during fiscal years 2024 through 2031. In addition, the effective tax rate for the three and six months ended December 31, 2021 included the discrete effect of an increase to unrecognized tax benefits of $ 8 million and $ 25 million, respectively, as a result of ongoing discussions with various taxing authorities. Uncertain Tax Positions With the exception of certain unrecognized tax benefits that are directly associated with the tax position taken, unrecognized tax benefits are presented gross in the Condensed Consolidated Balance Sheets. 33 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) The following is a tabular reconciliation of the total amounts of unrecognized tax benefits excluding accrued interest and penalties for the three months ended December 30, 2022 (in millions): Accrual balance at July 1, 2022 $ 1,047 Gross increases related to current year tax positions 4 Gross increases related to prior year tax positions 11 Gross decreases related to prior year tax positions ( 12 ) Settlements ( 5 ) Lapse of statute of limitations ( 3 ) Accrual balance at December 30, 2022 $ 1,042 As of December 30, 2022, the liability for unrecognized tax benefits (excluding accrued interest and penalties) was $ 1.04 billion. Interest and penalties related to unrecognized tax benefits are recognized in liabilities recorded for uncertain tax positions and are recorded in the provision for income taxes. Accrued interest and penalties included in the Company’s liability related to unrecognized tax benefits as of December 30, 2022 was $ 279 million. Of these amounts, approximately $ 1.18 billion could result in potential cash payments. As previously disclosed, the IRS issued statutory notices of deficiency and notices of proposed adjustments with respect to transfer pricing with the Company’s foreign subsidiaries and intercompany payable balances for years 2008 through 2015. In September 2018 and March 2019, the Company filed petitions with the U.S. Tax Court covering years 2008 through 2012, for which it had received statutory notices of deficiency, while years 2013 through 2015 remain in the jurisdiction of the IRS’s Examination function. The IRS has filed various Amendments to Answer with the U.S. Tax Court which, together with the notices of proposed adjustments, would result in additional federal income tax liabilities totaling approximately $ 1.6 billion and penalties totaling $ 449 million with respect to years 2008 through 2015. In May 2022, the Company and the IRS tentatively reached a settlement for resolving the statutory notices of deficiency and notices of proposed adjustments with respect to years 2008 through 2015 subject to the parties entering into final stipulations and a closing agreement. Based on the tentative settlement for resolution, the Company expects to pay tax and interest totaling approximately $ 720 million to $ 760 million, which the Company expects to be partially offset by future reductions to its mandatory deemed repatriation tax obligations and tax savings from interest deductions aggregating to approximately $ 100 million to $ 150 million. While the Company continues to work with the IRS to come to a final agreement on the federal tax and interest calculations, the Company is uncertain as to when a final agreement will be reached and the exact timing of when any payments will be made. However, the Company believes it is reasonably likely that these payments may be made within the next twelve months and has classified that portion of these unrecognized tax benefits, including interest in Income taxes payable on its Condensed Consolidated Balance Sheets as of December 30, 2022. This classification and amount may be subject to change in the next twelve months depending on when the Company is able to reach a final agreement with the IRS. The Company believes that adequate provision has been made for any adjustments that may result from any other tax examinations. However, the outcome of such tax examinations cannot be predicted with certainty. If any issues addressed in the Company’s tax examinations are resolved in a manner not consistent with management’s expectations, the Company could be required to adjust its provision for income taxes in the period such resolution occurs. Any significant change in the amount of the Company’s liability for unrecognized tax benefits would most likely result from additional information or settlements relating to the examination of the Company’s tax returns. 34 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 14. Net Income (Loss) Per Common Share The following table presents the computation of basic and diluted income (loss) per common share: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions, except per share data) Net income (loss) $ ( 446 ) $ 564 $ ( 419 ) $ 1,174 Weighted average shares outstanding: Basic 318 312 317 311 Employee stock options, RSUs, PSUs, and ESPP — 3 — 4 Basic and diluted 318 315 317 315 Income (loss) per common share Basic $ ( 1.40 ) $ 1.81 $ ( 1.32 ) $ 3.77 Diluted $ ( 1.40 ) $ 1.79 $ ( 1.32 ) $ 3.73 Anti-dilutive potential common shares excluded 15 5 15 3 The Company computes basic income (loss) per common share using Net income (loss) and the weighted average number of common shares outstanding during the period. Diluted income (loss) per common share is computed using Net income (loss) and the weighted average number of common shares and potentially dilutive common shares outstanding during the period. Potentially dilutive common shares include dilutive outstanding employee stock options, RSUs and PSUs, and rights to purchase shares of common stock under the Company’s ESPP. For the three and six months ended and December 31, 2021, the Company excluded common shares subject to certain outstanding equity awards from the calculation of diluted shares because their impact would have been anti-dilutive based on the Company’s average stock price during the period. For the three and six months ended December 30, 2022, the Company recorded a net loss and all shares subject to outstanding equity awards were excluded from the calculation of diluted shares for those periods because their impact would have been anti-dilutive. 35 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 15. Employee Termination, Asset Impairment, and Other Charges Business Realignment The Company periodically incurs charges as part of the integration process of recent acquisitions and to realign its operations with anticipated market demand, primarily consisting of organization rationalization designed to streamline its business, reduce its cost structure and focus its resources. The Company recorded the following charges related to these actions: Three Months Ended Six Months Ended December 30, 2022 December 31, 2021 December 30, 2022 December 31, 2021 (in millions) Employee termination benefits $ 61 $ 3 $ 85 $ 18 Asset impairments and losses on disposal of assets 15 ( 1 ) 15 2 Total employee termination, asset impairment, and other charges $ 76 $ 2 $ 100 $ 20 The following table presents an analysis of the components of these activities against the reserve during the six months ended December 30, 2022: Employee Termination Benefits (in millions) Accrual balance at July 1, 2022 $ 17 Charges 85 Cash payments ( 69 ) Accrual balance at December 30, 2022 $ 33 36 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 16. Legal Proceedings Tax For disclosures regarding statutory notices of deficiency issued by the IRS on June 28, 2018 and December 10, 2018, petitions filed by the Company with the U.S. Tax Court in September 2018 and March 2019, additional penalties asserted by the IRS in March 2021 and further Amendments to Answers filed by the IRS in June 2021 and January 2022, and a tentative resolution with respect to certain matters, see Note 13, Income Tax Expense . Other Matters In the normal course of business, the Company is subject to legal proceedings, lawsuits and other claims. Although the ultimate aggregate amount of probable monetary liability or financial impact with respect to these other matters is subject to many uncertainties, management believes that any monetary liability or financial impact to the Company from these matters, individually and in the aggregate, would not be material to the Company’s financial condition, results of operations or cash flows. However, any monetary liability and financial impact to the Company from these matters could differ materially from the Company’s expectations. 37 Table of Contents WESTERN DIGITAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Note 17. Subsequent Events On January 31, 2023, the Board of Directors of the Company authorized the designation of 900,000 shares of Series A Convertible Perpetual Preferred Stock, par value $ 0.01 per share (the “Preferred Shares”) from the Company’s existing five million authorized but unissued shares of preferred stock and issued the Preferred Shares through a private placement for an aggregate purchase price of $ 900 million. The Preferred Shares will have a stated value of $ 1,000 per share and accrue a cumulative preferred dividend at an annual rate of 6.25 % per annum (increasing to 7.25 % per annum on January 31, 2030 and to 8.25 % per annum on January 31, 2033) compounded on a quarterly basis. The Preferred Shares will also participate in any dividends declared for common shareholders on an as-converted equivalent basis. The Preferred Shares will be convertible into shares of the Company’s common stock at an initial conversion rate of $ 47.75 per share (the “Conversion Price”) (subject to anti-dilution adjustments and certain other one-time adjustments upon the occurrence of various specified spin-off transactions) applied to the aggregate of the stated value plus any cumulative accrued but unpaid dividends (the “Accumulated Stated Value”). In the event of a standalone spin-off transaction, the holders of Preferred Shares may have one third of their Preferred Shares converted to a similar class of preferred shares of the spin-off entity. The Preferred Shares will be convertible at the option of the holder beginning on January 31, 2024, or on the date a specified spin-off transaction is completed, if earlier. The Preferred Shares will be convertible at the option of the Company after January 31, 2026 if the closing price per share of the Company’s common stock exceeds 150 % of the Conversion Price for at least 20 out of 30 consecutive trading days. After January 31, 2030, the Company will have the right, but not the obligation, to redeem the Preferred Shares at an amount equal to 110 % of the Accumulated Stated Value. Redemption is contingently mandatory in the event of a fundamental change in the business as defined in the designation of the Preferred Shares. The Preferred Shares will vote on an as-converted equivalent basis along with holders of the Company’s common stock, except to the extent that shares issuable upon conversion of the Preferred Stock would exceed 19.9 % of common stock outstanding immediately prior to the original issuance date of the Preferred Stock. In the event of liquidation, holders of the Preferred Shares will be senior to the holders of the Company’s common stock. 38 Table of Contents