UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
For the quarterly period ended February 24, 2023
OR
For the transition period from to
Commission File Number 001-38102
(Exact name of registrant as specified in its charter)
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | ||||
| (Address of Principal Executive Offices) | (Zip Code) | ||||
Registrant’s telephone number, including area code: (510 ) 623-1231
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Trading Symbol(s) | Name of each exchange on which registered | ||||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
| Accelerated filer | Non-accelerated filer | Smaller reporting company | Emerging growth company | |||||||||||
| ☒ | ☐ | ☐ | ||||||||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒
As of March 27, 2023, the registrant had 49,071,741 ordinary shares outstanding.
Table of Contents
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2 |  | ||||
Cautionary Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q (“Quarterly Report”) contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. These statements include, but are not limited to, statements concerning future events and our future financial or operating performance; statements regarding the extent and timing of and expectations regarding our future revenues and expenses and customer demand; statements regarding our business strategies, investments and growth drivers in our industries and markets; statements regarding the deployment of our products and services and our ability to meet customer commitments; statements regarding the effects of the ongoing COVID-19 pandemic and macroeconomic events, including supply chain challenges, foreign currency fluctuations and interest rate changes, upon our and our customers’ respective businesses; statements regarding the anticipated benefits to be realized from the acquisition of Stratus Technologies; statements regarding the estimations of future payouts under our equity plans and in connection with the acquisition of Stratus Technologies; statements regarding our expected capital expenditures and our estimates regarding our capital requirements; statements regarding restructuring activities and charges; statements regarding the impairment of goodwill; and statements regarding our reliance on third parties. These statements can be identified by the fact that they do not relate strictly to historical or current facts. Forward-looking statements often use words such as “anticipate,” “target,” “expect,” “estimate,” “intend,” “plan,” “goal,” “believe,” “could” and other words of similar meaning. Forward-looking statements provide our current expectations or forecasts of future events, circumstances, results or aspirations and are subject to a number of significant risks, uncertainties and other factors, many of which are outside of our control, including but not limited to, issues, delays or complications in integrating the operations of Stratus Technologies; global business and economic conditions and growth trends in technology industries, our customer markets and various geographic regions; uncertainties in the geopolitical environment; the rapidly evolving nature of the COVID-19 pandemic; disruptions in our operations or supply chain as a result of the COVID-19 pandemic or otherwise; the ability to manage our cost structure, including our success in implementing restructuring or other plans intended to improve our operating efficiency; workforce reductions; uncertainties in the global macro-economic environment; changes in demand for our segments; changes in trade regulations or adverse developments in international trade relations and agreements; changes in currency exchange rates; overall information technology spending; appropriations for government spending; the success of our strategic initiatives including additional investments in new products and additional capacity; acquisitions of companies or technologies, the failure to successfully integrate and operate them or customers’ negative reactions to them; limitations on, or changes in the availability of, supply of materials and components; fluctuations in material costs; the temporary or volatile nature of pricing trends in memory or elsewhere; deterioration in customer relationships; production or manufacturing difficulties; competitive factors; technological changes; future cash flows of the Penguin Edge business; difficulties with, or delays in, the introduction of new products; slowing or contraction of growth in the memory market in Brazil or in the LED market; reduction in, or termination of, incentives for local manufacturing in Brazil; changes to applicable tax regimes or rates; prices for the end products of our customers; strikes or labor disputes; deterioration in or loss of relations with any of our limited number of key vendors; the inability to maintain or expand government business; and the continuing availability of borrowings under term loans and revolving lines of credit and our ability to raise capital through debt or equity financings. These and other risks, uncertainties and factors are described in greater detail under the sections titled “Risk Factors,” “Critical Accounting Estimates,” “Results of Operations,” “Quantitative and Qualitative Disclosures About Market Risk” and “Liquidity and Capital Resources” contained in our Annual Report on Form 10-K for the fiscal year ended August 26, 2022, this Quarterly Report on Form 10-Q and our other filings with the U.S. Securities and Exchange Commission (“SEC”). In addition, such risks, uncertainties and factors as outlined above and in such filings do not constitute all risks, uncertainties and factors that could cause actual results of our company to be materially different from such forward-looking statements. Accordingly, you are cautioned not to place undue reliance on any forward-looking statements.
Any forward-looking statements that we make in this Quarterly Report speak only as of the date of this Quarterly Report. Except as required by law, we do not undertake to update the forward-looking statements contained in this Quarterly Report to reflect the impact of circumstances or events that may arise after the date that the forward-looking statements were made.
About This Quarterly Report
As used herein, “SGH,” “Company,” “Registrant,” “we,” “our,” “us” or similar terms refer to SMART Global Holdings, Inc. and our consolidated subsidiaries, unless the context indicates otherwise. Our fiscal year is the 52 or 53-week period ending on the last Friday in August. Fiscal 2023 and 2022 each contain 52 weeks. All period references are to our fiscal periods unless otherwise indicated.
3 | | ||||
PART I. Financial Information
Item 1. Financial Statements
INDEX TO FINANCIAL STATEMENTS
| Page | |||||
4 | | ||||
SMART Global Holdings, Inc.
Consolidated Balance Sheets
(In thousands, except par value amount)
(Unaudited)
| As of | February 24, 2023 | August 26, 2022 | |||||||||
| Assets | |||||||||||
| Cash and cash equivalents | $ | $ | |||||||||
| Accounts receivable, net | |||||||||||
| Inventories | |||||||||||
| Other current assets | |||||||||||
| Total current assets | |||||||||||
| Property and equipment, net | |||||||||||
| Operating lease right-of-use assets | |||||||||||
| Intangible assets, net | |||||||||||
| Goodwill | |||||||||||
| Other noncurrent assets | |||||||||||
| Total assets | $ | $ | |||||||||
| Liabilities and Equity | |||||||||||
| Accounts payable and accrued expenses | $ | $ | |||||||||
| Current debt | |||||||||||
| Acquisition-related contingent consideration | |||||||||||
| Other current liabilities | |||||||||||
| Total current liabilities | |||||||||||
| Long-term debt | |||||||||||
| Noncurrent operating lease liabilities | |||||||||||
| Other noncurrent liabilities | |||||||||||
| Total liabilities | |||||||||||
| Commitments and contingencies | |||||||||||
| SMART Global Holdings shareholders’ equity: | |||||||||||
Ordinary shares, $ | |||||||||||
| Additional paid-in capital | |||||||||||
| Retained earnings | |||||||||||
Treasury shares, | ( | ( | |||||||||
| Accumulated other comprehensive income (loss) | ( | ( | |||||||||
| Total SGH shareholders’ equity | |||||||||||
| Noncontrolling interest in subsidiary | |||||||||||
| Total equity | |||||||||||
| Total liabilities and equity | $ | $ | |||||||||
The accompanying notes are an integral part of these consolidated financial statements.
5 | | ||||
SMART Global Holdings, Inc.
Consolidated Statements of Operations
(In thousands, except per share amounts)
(Unaudited)
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Net sales: | |||||||||||||||||||||||
| Products | $ | $ | $ | $ | |||||||||||||||||||
| Services | |||||||||||||||||||||||
| Total net sales | |||||||||||||||||||||||
| Cost of sales: | |||||||||||||||||||||||
| Products | |||||||||||||||||||||||
| Services | |||||||||||||||||||||||
| Total cost of sales | |||||||||||||||||||||||
| Gross profit | |||||||||||||||||||||||
| Operating expenses: | |||||||||||||||||||||||
| Research and development | |||||||||||||||||||||||
| Selling, general and administrative | |||||||||||||||||||||||
| Impairment of goodwill | |||||||||||||||||||||||
| Change in fair value of contingent consideration | |||||||||||||||||||||||
| Other operating (income) expense | |||||||||||||||||||||||
| Total operating expenses | |||||||||||||||||||||||
| Operating income (loss) | ( | ||||||||||||||||||||||
| Non-operating (income) expense: | |||||||||||||||||||||||
| Interest expense, net | |||||||||||||||||||||||
| Other non-operating (income) expense | |||||||||||||||||||||||
| Total non-operating (income) expense | |||||||||||||||||||||||
| Income (loss) before taxes | ( | ( | |||||||||||||||||||||
| Income tax provision (benefit) | ( | ||||||||||||||||||||||
| Net income (loss) | ( | ( | |||||||||||||||||||||
| Net income attributable to noncontrolling interest | |||||||||||||||||||||||
| Net income (loss) attributable to SGH | $ | ( | $ | $ | ( | $ | |||||||||||||||||
| Earnings (loss) per share | |||||||||||||||||||||||
| Basic | $ | ( | $ | $ | ( | $ | |||||||||||||||||
| Diluted | $ | ( | $ | $ | ( | $ | |||||||||||||||||
| Shares used in per share calculations: | |||||||||||||||||||||||
| Basic | |||||||||||||||||||||||
| Diluted | |||||||||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
6 | | ||||
SMART Global Holdings, Inc.
Consolidated Statements of Comprehensive Income (Loss)
(In thousands)
(Unaudited)
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Net income (loss) | $ | ( | $ | $ | ( | $ | |||||||||||||||||
| Other comprehensive income (loss), net of tax: | |||||||||||||||||||||||
| Cumulative translation adjustment | ( | ||||||||||||||||||||||
| Gains (losses) on derivative instruments | ( | ( | |||||||||||||||||||||
| Gains (losses) on investments | ( | ( | |||||||||||||||||||||
| Comprehensive income (loss) | ( | ( | |||||||||||||||||||||
| Comprehensive income attributable to noncontrolling interest | |||||||||||||||||||||||
| Comprehensive income (loss) attributable to SGH | $ | ( | $ | $ | ( | $ | |||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
7 | | ||||
SMART Global Holdings, Inc.
Consolidated Statements of Shareholders’ Equity
(In thousands)
(Unaudited)
| Shares Issued | Amount | Additional Paid-in Capital | Retained Earnings | Treasury Shares | Accumulated Other Comprehensive Income (Loss) | Total SGH Shareholders’ Equity | Non- controlling Interest in Subsidiary | Total Equity | |||||||||||||||||||||||||||||||||||||||||||||
| As of August 26, 2022 | $ | $ | $ | $ | ( | $ | ( | $ | $ | $ | |||||||||||||||||||||||||||||||||||||||||||
| Net income | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income (loss) | — | — | — | — | — | ( | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||
| Shares issued under equity plans | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase of ordinary shares | — | — | — | — | ( | — | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||
| Share-based compensation expense | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| — | — | ( | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||||
| As of November 25, 2022 | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | ( | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income (loss) | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| Shares issued under equity plans | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase of ordinary shares | — | — | — | — | ( | — | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||
| Share-based compensation expense | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| Purchase of Capped Calls | — | — | ( | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||
| Settlement of Capped Calls | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| Distribution to noncontrolling interest | — | — | — | — | — | — | — | ( | ( | ||||||||||||||||||||||||||||||||||||||||||||
| As of February 24, 2023 | $ | $ | $ | $ | ( | $ | ( | $ | $ | $ | |||||||||||||||||||||||||||||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
8 | | |||||||
SMART Global Holdings, Inc.
Consolidated Statements of Shareholders’ Equity
(In thousands)
(Unaudited)
| Shares Issued | Amount | Additional Paid-in Capital | Retained Earnings | Treasury Shares | Accumulated Other Comprehensive Income (Loss) | Total SGH Shareholders’ Equity | Non- controlling Interest in Subsidiary | Total Equity | |||||||||||||||||||||||||||||||||||||||||||||
| As of August 27, 2021 | $ | $ | $ | $ | ( | $ | ( | $ | $ | $ | |||||||||||||||||||||||||||||||||||||||||||
| Net income | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income (loss) | — | — | — | — | — | ( | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||
| Shares issued under equity plans | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase of ordinary shares | ( | ( | — | ( | — | ( | — | ( | |||||||||||||||||||||||||||||||||||||||||||||
| Share-based compensation expense | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| As of November 26, 2021 | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income (loss) | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| Shares issued under equity plans | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||
| Repurchase of ordinary shares | ( | — | — | — | ( | — | ( | — | ( | ||||||||||||||||||||||||||||||||||||||||||||
| Share-based compensation expense | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||
| Distribution to noncontrolling interest | — | — | — | — | — | — | — | ( | ( | ||||||||||||||||||||||||||||||||||||||||||||
| As of February 25, 2022 | $ | $ | $ | $ | ( | $ | ( | $ | $ | $ | |||||||||||||||||||||||||||||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
9 | | |||||||
SMART Global Holdings, Inc.
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
| Six months ended | February 24, 2023 | February 25, 2022 | |||||||||
| Cash flows from operating activities: | |||||||||||
| Net income (loss) | $ | ( | $ | ||||||||
| Adjustments to reconcile net income (loss) to net cash provided by operating activities: | |||||||||||
| Depreciation expense and amortization of intangible assets | |||||||||||
| Amortization of debt discount and issuance costs | |||||||||||
| Share-based compensation expense | |||||||||||
| Impairment of goodwill | |||||||||||
| Change in fair value of contingent consideration | |||||||||||
| (Gain) loss on extinguishment of debt | |||||||||||
| Other | |||||||||||
| Changes in operating assets and liabilities: | |||||||||||
| Accounts receivable | ( | ||||||||||
| Inventories | |||||||||||
| Other assets | ( | ||||||||||
| Accounts payable and accrued expenses and other liabilities | ( | ( | |||||||||
| Payment of acquisition-related contingent consideration | ( | ||||||||||
| Deferred income taxes, net | ( | ||||||||||
| Net cash provided by operating activities | |||||||||||
| Cash flows from investing activities: | |||||||||||
| Capital expenditures and deposits on equipment | ( | ( | |||||||||
| Acquisition of business, net of cash acquired | ( | ||||||||||
| Other | ( | ||||||||||
| Net cash used for investing activities | ( | ( | |||||||||
| Cash flows from financing activities: | |||||||||||
| Proceeds from debt | |||||||||||
| Proceeds from issuance of ordinary shares | |||||||||||
| Proceeds from borrowing under line of credit | |||||||||||
| Payment of acquisition-related contingent consideration | ( | ||||||||||
| Payments to acquire ordinary shares | ( | ( | |||||||||
| Payment of premium in connection with convertible note exchange | ( | ||||||||||
| Repayments of debt | ( | ( | |||||||||
| Net cash paid for settlement and purchase of Capped Calls | ( | ||||||||||
| Distribution to noncontrolling interest | ( | ( | |||||||||
| Repayments of borrowings under line of credit | ( | ||||||||||
| Other | ( | ( | |||||||||
| Net cash provided by financing activities | |||||||||||
| Effect of changes in currency exchange rates on cash, cash equivalents and restricted cash | ( | ||||||||||
| Net increase in cash, cash equivalents and restricted cash | |||||||||||
| Cash, cash equivalents and restricted cash at beginning of period | |||||||||||
| Cash, cash equivalents and restricted cash at end of period | $ | $ | |||||||||
The accompanying notes are an integral part of these consolidated financial statements.
10 | | ||||
SMART Global Holdings, Inc.
Notes to Consolidated Financial Statements
(Tabular amounts in thousands, except per share amounts)
(Unaudited)
Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include SGH and its consolidated subsidiaries and have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) consistent in all material respects with those applied in our Annual Report on Form 10-K for the fiscal year ended August 26, 2022 and the applicable rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial information. Certain information and disclosures normally included in consolidated financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. In the opinion of our management, the accompanying unaudited consolidated financial statements contain all necessary adjustments, consisting of a normal recurring nature, to fairly state the financial information set forth herein. These consolidated interim financial statements should be read in conjunction with the consolidated financial statements and accompanying notes included in our Annual Report on Form 10-K for the fiscal year ended August 26, 2022. Certain reclassifications have been made to prior period amounts to conform to current period presentation.
Fiscal Year: Our fiscal year is the 52 or 53-week period ending on the last Friday in August. Fiscal 2023 and 2022 each contain 52 weeks. All period references are to our fiscal periods unless otherwise indicated. Financial information for our subsidiaries in Brazil is included in our consolidated financial statements on a one-month lag because their fiscal years end on July 31 of each year.
Recently Adopted Accounting Standards
In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06 – Debt – Debt with Conversion and Other Options and Derivatives and Hedging – Contracts in Entity’s Own Equity: Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies the accounting for convertible debt instruments by reducing the number of accounting models and the number of embedded conversion features that could be recognized separately from the primary contract. This ASU requires a convertible debt instrument to be accounted for as a single liability measured at its amortized cost, as long as no other features require bifurcation and recognition as derivatives. This ASU requires an entity to use the if-converted method in the diluted earnings per share calculation for convertible instruments. This ASU was effective for us in the first quarter of 2023 and permits the use of either the modified retrospective or fully retrospective method of transition.
We adopted ASU 2020-06 in the first quarter of 2023 under the modified retrospective method. Upon adoption of ASU 2020-06, the previously separated equity component and associated issuance costs of our 2.25 % convertible senior notes due 2026 were reclassified from additional paid-in capital to long-term debt, thereby eliminating future amortization of the debt discount as interest expense. The following table summarizes the effects of adopting ASU 2020-06:
| Ending Balance as of August 26, 2022 | Adoption of ASU 2020-06 | Beginning Balance as of August 27, 2022 | |||||||||||||||
| Long-term debt | $ | $ | $ | ||||||||||||||
| Additional paid-in capital | ( | ||||||||||||||||
| Retained earnings | |||||||||||||||||
In October 2021, the FASB issued ASU 2021-08 – Business Combinations: Accounting for Contract Asset and Contract Liabilities from Contracts with Customers, to require that an acquirer recognize and measure contract assets and liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers. We adopted ASU 2021-08 in the third quarter of 2022 for any acquisitions occurring after our adoption.
11 | | ||||
Business Acquisition
Stratus Technologies
On August 29, 2022 (the “Acquisition Date”), we completed our previously announced acquisition of Storm Private Holdings I Ltd., a Cayman Islands exempted company (“Stratus Holding Company” and together with its subsidiaries, “Stratus Technologies”), pursuant to the terms of that certain Share Purchase Agreement (the “Purchase Agreement”), dated as of June 28, 2022, by and among SGH, Stratus Holding Company and Storm Private Investments LP, a Cayman Islands exempted limited partnership (“Seller”). Pursuant to the Purchase Agreement, among other matters, Seller sold to SGH, and SGH purchased from Seller, all of Seller’s right, title and interest in and to the outstanding equity securities of Stratus Holding Company (the “Share Purchase”). Stratus will operate as part of SGH’s Intelligent Platform Solutions (“IPS”) segment.
Stratus Technologies is a global leader in simplified, protected, and autonomous computing platforms and services in the data center and at the Edge. For more than 40 years, Stratus Technologies has provided high-availability, fault-tolerant computing to Fortune 500 companies and small-to-medium sized businesses enabling them to securely and remotely run critical applications with minimal downtime. The acquisition of Stratus Technologies further enhances SGH’s growth and diversification strategy and complements and expands SGH’s IPS business in data center and edge environments.
Purchase Price: At the closing of the transaction, we paid the seller a cash purchase price of $225 million, subject to certain adjustments. In addition, the Seller has the right to receive, and we will be obligated to pay, contingent consideration (if any) of up to $50 million (the “Earnout”) based on the gross profit performance of Stratus Technologies during the first full 12 fiscal months following the closing. The Earnout, if any, will be payable in cash, ordinary shares of SGH or a mix of cash and SGH Shares, at our election. See “Equity – SGH Shareholders’ Equity – Stratus Technologies Earnout.”
Cash paid was utilized, in part, to settle the outstanding debt of Stratus Technologies as of the closing of the transaction and was recognized as a component of consideration transferred. As a result, the assets acquired and liabilities assumed do not include an assumed liability for the outstanding debt of Stratus Technologies. The provisional purchase price was as follows:
| Cash | $ | ||||
Additional payment for net working capital adjustment (1) | |||||
| Fair value of Earnout | |||||
| $ | |||||
(1)Includes $14.4 million paid at closing and $2.8 million paid in the second quarter of 2023 upon completion of the review of the working capital assets acquired and liabilities assumed.
Contingent Consideration: The Earnout was accounted for as contingent consideration. As of the Acquisition Date, the fair value of the Earnout was estimated to be $20.8 million and was valued using a Monte Carlo simulation analysis in a risk-neutral framework with assumptions for volatility, market price of risk adjustment, risk-free rate and cost of debt. The fair value measurement was based on significant inputs, not observable in the market, including forecasted gross profit, comparable company volatility, discount rate and cost of debt. The fair value of the Earnout was estimated based on the Company’s evaluation of the probability and amount of Earnout to be achieved based on the expected gross profit of Stratus Technologies. A Monte Carlo simulation model was used to estimate the Earnout payment, which was discounted to its present value based on the expected payment date of the Earnout. The model used an estimated gross profit volatility of 33.4 % and a discount rate of 7.3 % as of the Acquisition Date.
The Earnout is revalued each quarter and any change in valuation is reflected in our results of operations. In the first six months of 2023, we adjusted the fair value of the Earnout to its current fair value with such change recognized in income from operations. The change in fair value reflected new information about the estimate of the gross profit of Stratus Technologies during the first full 12 fiscal months following the closing. As of February 24, 2023, the fair value of the Earnout was $30.9 million.
12 | | ||||
Valuation: We estimated the fair value of the assets and liabilities of Stratus Technologies as of the Acquisition Date. The purchase price has been allocated to the tangible and intangible assets acquired and liabilities assumed based on these valuation analyses and were as follows:
| Cash and cash equivalents | $ | ||||
| Accounts receivable | |||||
| Inventories | |||||
| Other current assets | |||||
| Property and equipment | |||||
| Operating lease right-of-use assets | |||||
| Intangible assets | |||||
| Goodwill | |||||
| Other noncurrent assets | |||||
| Accounts payable and accrued expenses | ( | ||||
| Other current liabilities | ( | ||||
| Noncurrent operating lease liabilities | ( | ||||
| Other noncurrent liabilities | ( | ||||
| Total net assets acquired | $ | ||||
The goodwill arising from the acquisition of Stratus Technologies was assigned to our IPS segment. None of the goodwill recognized is expected to be deductible for income tax purposes.
The fair values and useful lives of identifiable intangible assets were as follows:
| Amount | Estimated useful life (in years) | ||||||||||
| Technology | $ | ||||||||||
| Customer relationships | |||||||||||
| Trademarks/trade names | |||||||||||
| In-process research and development | N/A | ||||||||||
| $ | |||||||||||
•Technology intangible assets were valued using the multi-period excess earnings method based on the discounted cash flow and technology obsolescence rate. Discounted cash flow requires the use of significant unobservable inputs, including projected revenue, expenses, capital expenditures and other costs, and discount rates calculated based on the cost of equity adjusted for various risks, including the size of the acquiree, industry risk and other risk factors.
•Customer relationship intangible assets were valued using the multi-period excess earnings method, which is the present value of the projected cash flows that are expected to be generated by the existing intangible assets after reduction by an estimated fair rate of return on contributory assets required to generate the customer relationship revenues. Key assumptions included discounted cash flow, estimated life cycle and customer attrition rates.
•Trademark/trade name intangible assets were valued using the relief from royalty method, which is the discounted cash flow savings accruing to the owner by virtue of the fact that the owner is not required to license the trademarks/trade names from a third party. Key assumptions included attributable revenue expected from the trademarks/trade names, royalty rates and assumed asset life.
•In-process research and development (“IPR&D”) relates to next generation fault tolerant architecture. IPR&D is indefinite-lived and will be reviewed for impairment at least annually. Amortization will commence upon completion of research and development efforts. IPR&D was valued based on discounted cash flow, which requires the use of significant unobservable inputs, including projected revenue, expenses, capital expenditures and other costs.
Unaudited Pro Forma Financial Information: The following unaudited pro forma financial information presents SGH’s combined results of operations as if the acquisition of Stratus Technologies had occurred on August 27, 2021. The
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unaudited pro forma financial information is based on various adjustments and assumptions and is not necessarily indicative of what SGH’s results of operations actually would have been had the acquisition been completed as of August 27, 2021 or will be for any future periods. Furthermore, the pro forma financial information does not include adjustments to reflect any potential revenue, synergies or dis-synergies, or cost savings that may be achievable in connection with the acquisition or the associated costs that may be necessary to achieve such revenues, synergies or cost savings.
The following unaudited pro forma financial information for the three and six months ended February 25, 2022 combines the historical results of operations of SGH for the three and six months ended February 25, 2022 and the historical results of operations of Stratus Technologies for the three and six months ended November 28, 2021:
| Three Months Ended | Six Months Ended | ||||||||||
| February 25, 2022 | February 25, 2022 | ||||||||||
| Net sales | $ | $ | |||||||||
| Net income attributable to SGH | |||||||||||
| Earnings per share: | |||||||||||
| Basic | $ | $ | |||||||||
| Diluted | $ | $ | |||||||||
Inventories
| As of | February 24, 2023 | August 26, 2022 | |||||||||
| Raw materials | $ | $ | |||||||||
| Work in process | |||||||||||
| Finished goods | |||||||||||
| $ | $ | ||||||||||
As of February 24, 2023 and August 26, 2022, 5 % and 6 %, respectively, of total inventories were inventories owned and held under our logistics services.
Property and Equipment
| As of | February 24, 2023 | August 26, 2022 | |||||||||
| Equipment | $ | $ | |||||||||
| Buildings and building improvements | |||||||||||
| Furniture, fixtures and software | |||||||||||
| Land | |||||||||||
| Accumulated depreciation | ( | ( | |||||||||
| $ | $ | ||||||||||
Depreciation expense for property and equipment was $9.0 million and $17.8 million in the second quarter and first six months of 2023, respectively, and $10.2 million and $19.7 million in the second quarter and first six months of 2022, respectively.
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Intangible Assets and Goodwill
As of February 24, 2023 | As of August 26, 2022 | ||||||||||||||||||||||
Gross Amount | Accumulated Amortization | Gross Amount | Accumulated Amortization | ||||||||||||||||||||
| Intangible assets: | |||||||||||||||||||||||
| Technology | $ | $ | ( | $ | $ | ( | |||||||||||||||||
| Customer relationships | ( | ( | |||||||||||||||||||||
| Trademarks/trade names | ( | ( | |||||||||||||||||||||
| $ | $ | ( | $ | $ | ( | ||||||||||||||||||
| Goodwill by segment: | |||||||||||||||||||||||
| Intelligent Platform Solutions | $ | $ | |||||||||||||||||||||
| Memory Solutions | |||||||||||||||||||||||
| $ | $ | ||||||||||||||||||||||
In the first six months of 2023 and 2022, we capitalized $127.0 million, primarily in connection with our acquisition of Stratus Technologies, and $0.8 million, respectively, for intangible assets with weighted-average useful lives of 6.1 years and 13.6 years, respectively. Amortization expense for intangible assets was $11.0 million and $21.9 million in the second quarter and first six months of 2023, respectively, and $5.9 million and $12.2 million in the second quarter and first six months of 2022, respectively. Amortization expense is expected to be $22.0 million for the remainder of 2023, $41.9 million for 2024, $35.6 million for 2025, $30.4 million for 2026, $29.5 million for 2027 and $23.5 million for 2028 and thereafter.
Goodwill of our IPS segment increased in the first six months of 2023, primarily due to the addition of $125.9 million in connection with our acquisition of Stratus Technologies. See “Business Acquisition – Stratus Technologies.” In connection with the preparation of the financial statements included in this quarterly report, we assessed goodwill associated with our Penguin Edge business within our IPS segment and concluded it was partially impaired. As a result, we recognized a charge of $17.6 million to impair the carrying value of goodwill. See “Impairment of Penguin Edge Goodwill.”
Goodwill of our Memory Solutions segment increased by $0.3 million in the first six months of 2023 and decreased in all of 2022 by $0.2 million from translation adjustments.
Impairment of Penguin Edge Goodwill
During the second quarter of 2023, we initiated a plan within our IPS segment pursuant to which we intend to wind down manufacturing and discontinue the sale of certain legacy products offered through our Penguin Edge business by approximately the end of calendar 2024. In connection therewith and with the preparation of the financial statements included in this quarterly report, we performed a quantitative assessment of the fair value of goodwill using an income approach with assumptions that are considered Level 3 measurements and concluded that the carrying value of the Penguin Edge reporting unit goodwill exceeded its fair value. As a result, we recorded a charge of $17.6 million in the second quarter of 2023 to impair the carrying value of IPS goodwill. The fair value of the Penguin Edge reporting unit was determined primarily by discounting estimated future cash flows, which were determined based on revenue and expense assumptions over the next two years, at a weighted-average cost of capital of 14.5 %. We concluded that long-lived assets other than goodwill, primarily consisting of customer relationship intangible assets, had fair values in excess of their carrying amounts, and accordingly recorded no impairments of such assets. These assets will continue to be amortized over their remaining useful lives through the date of our anticipated completion of wind-down activities.
At each reporting date through the end of the wind-down period, we will estimate the then-future cash flows of the Penguin Edge business. As future cash flows are generally expected to decline over time, we currently anticipate that the
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Accounts Payable and Accrued Expenses
| As of | February 24, 2023 | August 26, 2022 | |||||||||
Accounts payable (1) | $ | $ | |||||||||
| Salaries, wages and benefits | |||||||||||
| Income and other taxes | |||||||||||
| Other | |||||||||||
| $ | $ | ||||||||||
(1)Includes accounts payable for property and equipment of $6.3 million and $3.5 million as of February 24, 2023 and August 26, 2022, respectively.
Debt
| As of | February 24, 2023 | August 26, 2022 | |||||||||
| Amended 2027 TLA | $ | $ | |||||||||
| 2029 Notes | |||||||||||
| 2026 Notes | |||||||||||
| LED Earnout Note | |||||||||||
| Other | |||||||||||
| Less current debt | ( | ( | |||||||||
| Long-term debt | $ | $ | |||||||||
Credit Facility
On February 7, 2022, SGH and SMART Modular Technologies, Inc. (collectively, the “Borrowers”) entered into a credit agreement (the “Original Credit Agreement”) with a syndicate of banks that provides for (i) a term loan credit facility in an aggregate principal amount of $275.0 million (the “2027 TLA”) and (ii) a revolving credit facility in an aggregate principal amount of $250.0 million (the “2027 Revolver” and together with the 2027 TLA, the “Original Credit Facility”), in each case, maturing on February 7, 2027 (subject to certain earlier “springing maturity” dates upon certain conditions specified in the Original Credit Agreement). The Original Credit Agreement provides that up to $35.0 million of the 2027 Revolver is available for issuances of letters of credit.
Incremental Amendment: On August 29, 2022, the Borrowers entered into the First Amendment (the “Amended Credit Agreement”) with and among the lenders party thereto and Citizens Bank, N.A., as Administrative Agent (the “Incremental Amendment”). The Incremental Amendment amends the Original Credit Agreement and (i) provides for incremental term loans under the Amended Credit Agreement in an aggregate amount of $300.0 million (the “Incremental Term Loans” and together with the 2027 TLA, the “Amended 2027 TLA”) which Incremental Term Loans are on the same terms as the term loans incurred under the Original Credit Agreement, (ii) increases the maximum First Lien Leverage Ratio (as defined in the Amended Credit Agreement) financial covenant from 3.00 :1.00 to 3.25 :1.00 and (iii) increases the aggregate amount of unrestricted cash and permitted investments netted from the definitions of Consolidated First Lien Debt and Consolidated Net Debt under the Amended Credit Agreement from $100 million to $125 million.
Substantially simultaneously with entering into the Incremental Amendment, the Borrowers applied a portion of the proceeds of the Incremental Term Loans to (i) finance a portion of the purchase price for the acquisition of Stratus Technologies and (ii) prepay in full the $101.8 million outstanding under the LED Earnout Note. In connection with our prepayment of the LED Earnout Note, we recognized a gain of $0.8 million, which is included in other non-operating (income) expense in the accompanying statement of operations.
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Other: As of February 24, 2023, there was $566.1 million of principal amount outstanding under the Amended 2027 TLA, unamortized issuance costs were $7.7 million and the effective interest rate was 7.45 %. As of February 24, 2023, there were no amounts outstanding under the 2027 Revolver.
Convertible Senior Notes
Convertible Senior Notes Exchange
On January 18, 2023, SGH entered into separate, privately negotiated exchange agreements with a limited number of holders of its 2.25 % Convertible Senior Notes due 2026 (“2026 Notes”) to exchange $150.0 million principal amount of the 2026 Notes for (i) $150.0 million in aggregate principal amount of new 2.00 % Convertible Senior Notes due 2029 (“2029 Notes”) and (ii) an aggregate of approximately $15.6 million in cash, with such cash payment representing $14.1 million of premium paid for the 2026 Notes in excess of par value and $1.5 million of accrued and unpaid interest on the 2026 Notes (collectively, the “Exchange Transactions”). The 2029 Notes were issued pursuant to, and are governed by, an indenture (“2029 Indenture”), dated as of January 23, 2023, between the Company and U.S. Bank Trust Company, National Association, as trustee.
Transactions involving contemporaneous exchanges between the same debtor and creditor in connection with the issuance of a new debt obligation and satisfaction of an existing debt obligation are accounted for as debt extinguishments if the debt instruments have substantially different terms. An exchange is deemed to have substantially different terms if:
•The present value of the remaining cash flows of the old instrument differs by more than 10% of the present value of the cash flows of the new instrument, or
•The change in the fair value of the conversion option immediately before and after the exchange is greater than 10% of the carrying value of the debt instrument immediately prior to the exchange.
We concluded that the exchanged 2026 Notes and the 2029 Notes had substantially different terms, and accordingly, we accounted for the Exchange Transactions as the extinguishment of the 2026 Notes and the issuance of the 2029 Notes. As a result, we recognized an extinguishment loss, included in other non-operating expense, of $16.7 million, consisting of $14.1 million of premium paid to extinguish the 2026 Notes and $2.5 million for the write-off of unamortized issuance costs.
2029 Notes
The 2029 Notes are senior, unsecured obligations of the Company and are equal in right of payment with our existing and future senior, unsecured indebtedness, senior in right of payment to our existing and future indebtedness that is expressly subordinated to the 2029 Notes and effectively subordinated to our existing and future senior, secured indebtedness, to the extent of the value of the collateral securing that indebtedness. Our 2026 Notes and 2029 Notes are structurally subordinated to all other existing and future indebtedness and other liabilities, including trade payables, and (to the extent the Company is not a holder thereof) preferred equity, if any, of our subsidiaries.
The 2029 Notes bear interest at a rate of 2.00 % per annum on the principal amount thereof, payable semi-annually in arrears on February 1 and August 1 of each year, beginning on August 1, 2023, to the noteholders of record of the 2029 Notes as of the close of business on the immediately preceding January 15 and July 15, respectively. The 2029 Notes will mature on February 1, 2029 (the “2029 Maturity Date”), unless earlier converted, redeemed or repurchased. The 2029 Notes are convertible into cash or a combination of cash and the Company’s ordinary shares, $0.03 par value per share (the “ordinary shares”), at our election.
The initial conversion rate of the 2029 Notes is 47.1059 ordinary shares per $1,000 principal amount of the 2029 Notes, which represents an initial conversion price of approximately $21.23 per ordinary share. The conversion rate is subject to adjustment upon the occurrence of certain specified events as set forth in the 2029 Indenture. In connection with any conversion of the 2029 Notes, we are required to pay the principal amount in cash and have the option to settle any amount in excess of the principal portion in cash and/or ordinary shares.
Conversion Rights: Holders of the 2029 Notes may convert them under the following circumstances:
i.during any fiscal quarter commencing after the fiscal quarter ended on May 26, 2023 (and only during such fiscal quarter) if the last reported sale price per ordinary share exceeds 130 % of the conversion price for at least 20
17 | | ||||
trading days in the 30 consecutive trading days ending on the last trading day of the immediately preceding fiscal quarter;
ii.during the five consecutive business days immediately after any 10 consecutive trading day period (such 10 consecutive trading day period, the “measurement period”) in which the trading price per $1,000 principal amount of notes for each trading day of the measurement period was less than 98 % of the product of the last reported sale price per ordinary share on such trading day and the conversion rate on such trading day;
iii.upon the occurrence of certain corporate events or distributions on our ordinary shares, as provided in the 2029 Indenture;
iv.if we call the 2029 Notes for redemption; and
v.on or after August 1, 2028 until the close of business on the second scheduled trading day immediately before the maturity date.
Upon the occurrence of a “make-whole fundamental change” (as defined in the 2029 Indenture), we will in certain circumstances increase the conversion rate for a specified period of time. In addition, upon the occurrence of a “fundamental change” (as defined in the 2029 Indenture), holders of the 2029 Notes may require us to repurchase their 2029 Notes at a cash repurchase price equal to the principal amount of the 2029 Notes to be repurchased, plus accrued and unpaid interest, if any, to, but excluding, the fundamental change repurchase date. The definition of fundamental change includes certain business combination transactions involving the Company and certain de-listing events with respect to our ordinary shares.
Cash Redemption at Our Option: We have the right to redeem the 2029 Notes, in whole or in part, at our option at any time, and from time to time, on or after February 6, 2026 and on or before the 40th scheduled trading day immediately before the 2029 Maturity Date, at a cash redemption price equal to the principal amount of the 2029 Notes to be redeemed, plus accrued and unpaid interest, if any, but only if the last reported per share sale price of our ordinary shares exceeds 130 % of the conversion price on (i) each of at least 20 trading days during the 30 consecutive trading days ending on, and including, the trading day immediately before the redemption notice date for such redemption and (ii) the trading day immediately before the date we send such notice. In addition, we have the right to redeem all, but not less than all, of the 2029 Notes if certain changes in tax law occur. Calling any 2029 Note for redemption will constitute a make-whole fundamental change with respect to such note, in which case the conversion rate applicable to the conversion of such note will be increased in certain circumstances if it is converted after it is called for redemption.
2026 Notes
In February 2020, we issued $250.0 million in aggregate principal amount of 2.25 % convertible senior notes due 2026 (the “2026 Notes”). The 2026 Notes are general unsecured obligations, bear interest at an annual rate of 2.25 % per year, payable semi-annually on February 15 and August 15, and mature on February 15, 2026, unless earlier converted, redeemed or repurchased. The 2026 Notes are governed by an indenture (the “2026 Indenture”) between us and U.S. Bank National Association, as trustee. After the effect of the share dividend paid in the second quarter of 2022, the conversion rate of the 2026 Notes is 49.2504 ordinary shares per $1,000 principal amount of notes, which represents a conversion price of approximately $20.30 per ordinary share. The conversion rate is subject to adjustment upon the occurrence of certain specified events as set forth in the 2026 Indenture. On January 18, 2023, we exchanged $150.0 million principal amount of 2026 Notes for $150.0 million principal amount of new 2029 Notes. As a result, as of February 24, 2023, $100.0 million in aggregate principal amount of 2026 Notes remain outstanding. See “Convertible Senior Notes – Convertible Senior Notes Exchange.”
First Supplemental Indenture to Indenture Governing the 2026 Notes: On August 26, 2022, SGH entered into the First Supplemental Indenture (the “2026 First Supplemental Indenture”) to the 2026 Indenture governing the 2026 Notes. The 2026 First Supplemental Indenture became effective on August 27, 2022. Pursuant to the 2026 First Supplemental Indenture, SGH irrevocably elected (i) to eliminate SGH’s option to elect Physical Settlement (as defined in the 2026 Indenture) on any conversion of the 2026 Notes that occurs on or after the date of the 2026 First Supplemental Indenture and (ii) with respect to any Combination Settlement (as defined in the 2026 Indenture) for a conversion of the 2026 Notes, the Specified Dollar Amount (as defined in the 2026 Indenture) that will be settled in cash per $1,000 principal amount of the 2026 Notes shall be no lower than $1,000 .
As a result of our election, upon any conversion of the 2026 Notes, we will be required to pay cash in an amount at least equal to the principal portion while continuing to have the option to settle any amount in excess of the principal portion in cash and/or ordinary shares. Following the irrevocable election, only the amounts expected to be settled in excess of the principal portion are considered in calculating diluted earnings per share under the if-converted method.
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Convertible Senior Note Interest
Unamortized debt discount and issuance costs are amortized over the terms of our 2026 Notes and 2029 Notes using the effective interest method. As of February 24, 2023 and August 26, 2022, the effective interest rate for our 2026 Notes was 2.83 % and 7.06 %, respectively. As of February 24, 2023, the effective interest rate for our 2029 Notes was 2.40 %. Aggregate interest expense for our convertible notes consisted of contractual stated interest and amortization of discount and issuance costs and included the following:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Contractual stated interest | $ | $ | $ | $ | |||||||||||||||||||
| Amortization of discount and issuance costs | |||||||||||||||||||||||
| $ | $ | $ | $ | ||||||||||||||||||||
As of August 26, 2022, the carrying amount of the equity components of the 2026 Notes, which was included in additional paid-in-capital, was $50.8 million. As of the beginning of the first quarter of 2023, we adopted ASU 2020-06. In connection therewith, we reclassified $32.2 million from additional paid-in-capital to long-term debt and $18.6 million from additional paid-in-capital to retained earnings. See “Recently Adopted Accounting Standards.”
Maturities of Debt
As of February 24, 2023, maturities of debt were as follows:
| Remainder of 2023 | $ | ||||
| 2024 | |||||
| 2025 | |||||
| 2026 | |||||
| 2027 | |||||
| 2028 and thereafter | |||||
| Less unamortized discount and issuance costs | ( | ||||
| $ | |||||
Leases
As of February 24, 2023 and August 26, 2022, we had operating leases through which we utilize facilities, offices and equipment in our manufacturing operations, research and development activities and selling, general and administrative functions. Sublease income was not significant in any period presented. The components of operating lease expense were as follows:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Fixed lease cost | $ | $ | $ | $ | |||||||||||||||||||
| Variable lease cost | |||||||||||||||||||||||
| Short-term lease cost | |||||||||||||||||||||||
| $ | $ | $ | $ | ||||||||||||||||||||
Cash flows used for operating activities in the first six months of 2023 and 2022 included payments for operating leases of $5.2 million and $5.1 million, respectively. Acquisitions of right-of-use assets were $10.5 million in the first six months of 2023, primarily due to the acquisition of Stratus Technologies, and $0.6 million in the first six months of 2022.
As of February 24, 2023 and August 26, 2022, the weighted-average remaining lease term for our operating leases was 10.3 years and 10.9 years, respectively. Certain of our operating leases include one or more options to extend the lease term for
19 | | ||||
periods from to five years . In determining the present value of our operating lease liabilities, we have assumed we will not extend any lease terms. As of February 24, 2023 and August 26, 2022, the weighted-average discount rate for our operating leases was 6.2 % and 6.1 %, respectively.
Minimum payments of operating lease liabilities as of February 24, 2023 were as follows:
| Remainder of 2023 | $ | ||||
| 2024 | |||||
| 2025 | |||||
| 2026 | |||||
| 2027 | |||||
| 2028 and thereafter | |||||
| Less imputed interest | ( | ||||
| Present value of total lease liabilities | $ | ||||
Commitments and Contingencies
Contingencies
From time to time, we are involved in legal matters that arise in the normal course of business. Litigation in general, and intellectual property, employment and shareholder litigation in particular, can be expensive and disruptive to normal business operations. Moreover, the results of complex legal proceedings are difficult to predict. Additionally, from time to time, we are a party in the normal course of business to a variety of agreements pursuant to which we may be obligated to indemnify another party. It is not possible to predict the maximum potential amount of future payments under these types of agreements due to the conditional nature of our obligations and the unique facts and circumstances involved in each particular agreement. Historically, our payments under these types of agreements have not had a material adverse effect on our business, results of operations or financial condition. We regularly review contingencies to determine whether the likelihood of loss has changed and to assess whether a reasonable estimate of the loss or range of loss can be made.
Equity
SGH Shareholders’ Equity
Share Dividend
On January 3, 2022, our Board of Directors declared a share dividend of one ordinary share, $0.03 par value per share, for every one outstanding ordinary share owned to shareholders of record as of January 25, 2022. The dividend was paid on February 1, 2022. The accompanying consolidated financial statements and notes have been restated and adjusted for the impact of the share dividend.
Share Repurchase Authorization
On April 4, 2022, our Board of Directors approved a $75 million share repurchase authorization, under which we may repurchase our outstanding ordinary shares from time to time through open market purchases, privately-negotiated transactions or otherwise. The share repurchase authorization has no expiration date but may be suspended or terminated by the Board of Directors at any time. In the first six months of 2023 and in 2022, we repurchased 0.5 million and 2.6 million shares, respectively, for $8.4 million and $50.0 million, respectively, under the repurchase authorization.
Other Share Repurchases
Ordinary shares withheld as payment of withholding taxes and exercise prices in connection with the vesting or exercise of equity awards are treated as ordinary share repurchases. We repurchased 33 thousand and 177 thousand ordinary shares as payment of withholding taxes for $0.6 million and $2.4 million, respectively, in the second quarter and first six months of 2023, and 4 thousand and 55 thousand ordinary shares for $0.2 million and $2.9 million, respectively, in the second quarter and first six months of 2022.
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In connection with the Exchange Transactions in the second quarter of 2023, we repurchased 326 thousand ordinary shares for $5.4 million.
Stratus Technologies Earnout
In connection with our acquisition of Status Technologies, the Seller has the right to receive an Earnout of up to $50.0 million based on the gross profit performance of Stratus Technologies during the first full 12 fiscal months following the closing. The Earnout, if any, will be payable in cash, ordinary shares of SGH or a mix of cash and SGH shares, at SGH’s election.
At the time of settlement of the Earnout, SGH may elect to pay any portion in SGH shares and, if so, the number of SGH shares issued will be determined based on the volume weighted-average price per SGH share for the 30 consecutive trading days ending on and including the trading day immediately preceding the date of payment of the Earnout (subject to equitable adjustment in the event of certain changes to SGH shares occurring during such 30 consecutive trading days). Shares issuable pursuant to the Earnout are contingently issuable shares and are considered in the computation of diluted earnings per share if dilutive. The number of contingently issuable shares included in diluted earnings per share is the number of shares, if any, that would be issuable at the time of settlement based on the assumption that the current fair value of the Earnout remains unchanged until the end of the earnout period. As of February 24, 2023, based on the fair value of the Earnout, the contingently issuable shares were anti-dilutive.
2029 Capped Calls
On January 18, 2023, in connection with the pricing of the 2029 Notes, we entered into privately negotiated capped call transactions (the “2029 Capped Calls”). The 2029 Capped Calls cover, subject to anti-dilution adjustments substantially similar to those applicable to the 2029 Notes, the aggregate number of ordinary shares that initially underlie the 2029 Notes, and are expected generally to reduce potential dilution to our ordinary shares upon any conversion of the 2029 Notes and/or offset any cash payments we are required to make in excess of the principal amount of converted 2029 Notes, as the case may be, with such reduction and/or offset subject to a cap, based on the cap price of the 2029 Capped Calls. The cap price of the 2029 Capped Calls is initially $29.1375 per share, which represented a premium of 75 % over the last reported sale price of our ordinary shares on January 18, 2023. The cost of the 2029 Capped Calls, which are considered capital transactions, was $15.1 million and was recognized as a decrease to additional paid-in capital.
The 2029 Capped Calls are separate transactions, each between the Company and the counterparties to the 2029 Capped Calls, and are not part of the terms of the 2029 Notes and do not affect any holder’s rights under the 2029 Notes or the 2029 Indenture. Holders of the 2029 Notes do not have any rights with respect to the 2029 Capped Calls.
2026 Capped Calls
In connection with our issuance of the 2026 Notes in February 2020, we entered into capped call transactions (the “2026 Capped Calls”). As part of the Exchange Transactions, we entered into agreements with a number of counterparties to settle a portion of the 2026 Capped Calls in a notional amount corresponding to the amount of the 2026 Notes that were exchanged. The value received in connection with the settlement of a portion of the 2026 Capped Calls was $10.8 million and was recognized as an increase in additional paid-in capital.
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Accumulated Other Comprehensive Income (Loss)
Changes in accumulated other comprehensive income (loss) by component for the six months ended February 24, 2023 were as follows:
Cumulative Translation Adjustment | Gains (Losses) on Derivative Instruments | Gains (Losses) on Investments | Total | ||||||||||||||||||||
| As of August 26, 2022 | $ | ( | $ | $ | $ | ( | |||||||||||||||||
| Other comprehensive income (loss) before reclassifications | ( | ||||||||||||||||||||||
| Reclassifications out of accumulated other comprehensive income | ( | ( | |||||||||||||||||||||
| Other comprehensive income (loss) | ( | ( | |||||||||||||||||||||
| As of February 24, 2023 | $ | ( | $ | ( | $ | ( | $ | ( | |||||||||||||||
Noncontrolling Interest in Subsidiary
Noncontrolling interest increased by $0.4 million and $0.8 million in the second quarter and first six months of 2023 and $0.5 million and $1.2 million in the second quarter and first six months of 2022, respectively, for San’an’s 49 % share of net income from the Cree Joint Venture. In the second quarters of 2023 and 2022, the Cree Joint Venture distributed an aggregate of $4.1 million and $7.7 million to its partners, including $2.1 million and $3.9 million to SGH and $2.0 million and $3.8 million to San’an, respectively. Cash and other assets of the Cree Joint Venture are generally not available for use by us in our other operations.
Government Incentives
Brazil Financial Credits
Through one of our Brazilian subsidiaries, we participate in an incentive program, known as Programa de Apoio ao Desenvolvimento Tecnológico da Indústria de Semicondutores (also known as Technology Development Support of the Semiconductor Industry Program) (“PADIS”), pursuant to which the Brazilian government incentivizes the manufacture and sale of semiconductor components within Brazil.
In January 2022, the Brazilian government approved an extension to PADIS. The financial credits available through the program are set to expire in December 2026. PADIS provides for reduced import and other transaction-related taxes for certain procurement, manufacturing and sales activities. In exchange, we must invest in certain research and development activities related to semiconductor-based solutions in an amount equivalent to 5 % of the gross revenues of such Brazilian subsidiary recognized in connection with incentivized sales of semiconductor components in Brazil, excluding exports and sales to customers located at the Manaus Free Trade Zone, subject to the limitations of 13.1 % (through December 31, 2024) and 12.3 % (from January 1, 2025 through December 31, 2026) of the subsidiary’s gross revenues.
Pursuant to PADIS, we recognized aggregate financial credits, reflected as a reduction of research and development expense, of $1.4 million and $4.0 million in the second quarter and first six months of 2023, respectively, and $6.0 million and $11.9 million in the second quarter and first six months of 2022, respectively. Financial credits earned under PADIS may be refunded in cash or used to offset liabilities for Brazil federal taxes. As of February 24, 2023 and August 26, 2022, receivables for earned but unused financial credits were $19.6 million and $18.7 million, respectively. Financial credits earned but unused as of February 24, 2023 can be utilized through December 2027.
Fair Value Measurements
Cash and cash equivalents as of February 24, 2023 and August 26, 2022 included money market funds of $15.6 million and $13.8 million, respectively, which were valued based on Level 1 measurements using quoted prices in active markets for identical assets. Restricted cash was $1.0 million as of February 24, 2023.
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Fair value measurements were as follows:
| As of February 24, 2023 | As of August 26, 2022 | ||||||||||||||||||||||
| Fair Value | Carrying Value | Fair Value | Carrying Value | ||||||||||||||||||||
| Derivative financial instrument assets | $ | $ | $ | $ | |||||||||||||||||||
| Derivative financial instrument liabilities | $ | $ | $ | $ | |||||||||||||||||||
| Acquisition-related contingent consideration | |||||||||||||||||||||||
| Amended 2027 TLA | |||||||||||||||||||||||
| 2029 Notes | |||||||||||||||||||||||
| 2026 Notes | |||||||||||||||||||||||
| LED Earnout Note | |||||||||||||||||||||||
| Debt – other | |||||||||||||||||||||||
The fair values of our derivative financial instruments, as measured on a recurring basis, were based on Level 2 measurements, including market-based observable inputs of currency exchange spot and forward rates, interest rates and credit-risk spreads.
Acquisition-related contingent consideration is related to our acquisition of Stratus Technologies and is included in current liabilities as of February 24, 2023. The fair value as of February 24, 2023, measured on a recurring basis, was based on Level 3 measurements, which included significant inputs not observable in the market. The fair value was estimated using a Monte Carlo simulation analysis in a risk-neutral framework with assumptions for volatility, market price of risk adjustment, risk-free rate and cost of debt. The fair value of the Earnout was estimated based on the Company’s evaluation of the probability and amount of Earnout to be achieved based on the expected gross profit of Stratus Technologies. The Monte Carlo simulation model was used to estimate the Earnout payment, which was discounted to its present value based on the expected payment date of the Earnout. The model used an estimated gross profit volatility of 33.2 % and a discount rate of 8.8 % as of February 24, 2023.
Derivative Instruments
We use currency forward contracts to mitigate our exposure of certain monetary assets and liabilities from changes in currency exchange rates. Realized and unrealized gains and losses from derivative instruments without hedge accounting designation as well as the changes in the underlying monetary assets and liabilities from changes in currency exchange rates are included in other non-operating (income) expense.
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Realized (gains) losses on currency forward contracts | $ | $ | ( | $ | $ | ( | |||||||||||||||||
| Unrealized (gains) losses on currency forward contracts | ( | ||||||||||||||||||||||
Equity Plans
As of February 24, 2023, 8.8 million shares of our ordinary shares were available for future awards under our equity plans.
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Restricted Share Awards and Restricted Share Units Awards (“Restricted Awards”)
Aggregate Restricted Award activity was as follows:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Awards granted | |||||||||||||||||||||||
| Weighted-average grant date fair value per share | $ | $ | $ | $ | |||||||||||||||||||
| Aggregate vesting date fair value of shares vested | $ | $ | $ | $ | |||||||||||||||||||
As of February 24, 2023, total unrecognized compensation costs for unvested Restricted Awards was $84.9 million, which was expected to be recognized over a weighted-average period of 2.5 years.
Share Options
As of February 24, 2023, total aggregate unrecognized compensation costs for unvested options was $1.8 million, which was expected to be recognized over a weighted-average period of 1.4 years.
Employee Share Purchase Plan (“ESPP”)
Under our ESPP, employees purchased 265 thousand ordinary shares for $2.9 million in the first six months of 2023 and 133 thousand shares for $3.0 million in the first six months of 2022.
Share-Based Compensation Expense
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Share-based compensation expense by caption: | |||||||||||||||||||||||
| Cost of sales | $ | $ | $ | $ | |||||||||||||||||||
| Research and development | |||||||||||||||||||||||
| Selling, general and administrative | |||||||||||||||||||||||
| $ | $ | $ | $ | ||||||||||||||||||||
Income tax benefits related to the tax deductions for share-based awards are recognized only upon the settlement of the related share-based awards. Income tax benefits for share-based awards were $1.8 million and $4.0 million in the second quarter and first six months of 2023, respectively, and $1.8 million and $4.9 million in the second quarter and first six months of 2022, respectively.
Revenue and Customer Contract Balances
Net Sales and Gross Billings
We provide certain logistics services on an agent basis, whereby we procure materials on behalf of our customers and then resell such materials to our customers. Our logistics services business includes procurement, logistics, inventory management, temporary warehousing, kitting and/or packaging services. While we take title to inventory under such arrangements, control of such inventory does not transfer to us as we do not, at any point, have the ability to direct the use, and thereby obtain the benefits of, the inventory.
Gross amounts invoiced to customers in connection with these agent services include amounts related to the services performed by us in addition to the cost of the materials procured. However, only the amount related to the agent component is recognized as revenue in our results of operations. We generally recognize revenue for these procurement, logistics and inventory management services upon the completion of such services, which typically occurs at the time of
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shipment of product to the customer. The cost of materials billed to our customers under these arrangements, but not recognized as revenue or cost of sales in our results of operations, were as follows:
| Three Months ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | February 25, 2022 | February 24, 2023 | February 25, 2022 | ||||||||||||||||||||
| Cost of materials billed in connection with logistics services | $ | $ | $ | $ | |||||||||||||||||||
Customer Contract Balances
| As of | February 24, 2023 | August 26, 2022 | |||||||||
Contract assets (1) | $ | $ | |||||||||
Contract liabilities: (2) | |||||||||||
Deferred revenue (3) | $ | $ | |||||||||
| Customer advances | |||||||||||
| $ | $ | ||||||||||
(1)Contract assets are included in other current and noncurrent assets.
(2)Contract liabilities are included in other current and noncurrent liabilities based on the timing of when our customer is expected to take control of the asset or receive the benefit of the service.
(3)Deferred revenue includes $15.6 million and $23.3 million as of February 24, 2023 and August 26, 2022, respectively, related to contracts that contain termination rights.
Deferred revenue represents amounts received from customers in advance of satisfying performance obligations. As of February 24, 2023, we expect to recognize revenue of $49.3 million of the balance of $61.8 million in the next 12 months and the remaining amount thereafter. In the first six months of 2023, we recognized revenue of $29.8 million from satisfying performance obligations related to amounts included in deferred revenue as of August 26, 2022.
Customer advances represent amounts received from customers for advance payments to secure product. In the first six months of 2023, we recognized revenue of $1.8 million from satisfying performance obligations related to amounts included in customer advances as of August 26, 2022.
As of February 24, 2023 and August 26, 2022, other current liabilities included $12.0 million and $15.4 million, respectively, for estimates of consideration payable to customers, including estimates for pricing adjustments and returns.
Other Operating (Income) Expense
In the first quarter of 2023, we initiated plans that included workforce reductions and the elimination of certain projects across our businesses. In connection therewith, we recorded restructure charges of $4.2 million and $6.2 million for the second quarter and first six months of 2023, respectively, primarily for employee severance costs and other benefits. We anticipate that these activities will continue into subsequent quarters of 2023 and anticipate recording additional restructure charges. As of February 24, 2023, $3.3 million remained unpaid, which is expected to be paid in the remainder of 2023.
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Other Non-operating (Income) Expense
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| February 24, 2023 | |||||||||||||||||||||||