ITEM 1A. RISK FACTORS
We operate in a rapidly changing environment that involves numerous
risks and uncertainties. Before deciding to purchase, hold or sell our common stock, you should carefully consider the risks described
in this section, as well as other information contained in this Report and in our other filings with the SEC. This section should be read
in conjunction with the consolidated financial statements and accompanying notes thereto included in Item 8 of this Report, and “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” included in Item 7 of this Report. If any of these risks
or uncertainties actually occurs, our business, financial condition, results of operations or prospects could be materially harmed. In
that event, the market price for our common stock could decline and you could lose all or part of your investment. In addition, risks
and uncertainties not presently known to us or that we currently deem immaterial may also adversely affect our business.
Risks Related to Our Operations and Industry
The effect of COVID-19 and other possible
pandemics and similar outbreaks could result in material adverse effects on our business, financial position, results of operations and
cash flows.
The ongoing COVID-19 pandemic, and the periodic measures intended to
reduce its spread imposed by governments and other authorities around the world, including restrictions on freedom of movement and business
operations such as travel bans, border closings, business limitations and closures, quarantines and shelter-in-place orders, have had,
and may continue to have, an adverse impact on the economy generally, our business and the businesses of our suppliers, and our results
of operations and financial condition. Most of our employees transitioned to remote working arrangements commencing in March 2020, and
many continue to primarily work remotely as of the date hereof, which may ultimately result in lower work efficiency and productivity,
and in turn adversely affect our business. In addition, the COVID-19 pandemic resulted in industry events, trade shows and business travel
being suspended, cancelled and/or significantly curtailed. The cessation of trade shows and business travel resulted in our lead pipeline
being negatively impacted, which has negatively affected our sales since the beginning of the outbreak. While most industry events, trade
shows and business travel have resumed, if these activities are suspended, cancelled and/or significantly curtailed in the future, whether
due to surges of COVID-19 or otherwise related to the pandemic, our sales may continue to be negatively impacted in the future.
In addition, the ongoing impact of the COVID-19 pandemic and measures
to prevent its spread subject us to various risks and uncertainties that could materially adversely affect our business, results
of operations and financial condition, including the following:
The duration and extent of the COVID-19 pandemic’s effect on
our operations and financial condition will depend on future developments, which are highly uncertain and cannot be predicted at this
time, including new information which may emerge concerning the long-term effects of COVID-19, actions taken to contain COVID-19, additional
surges of COVID-19 infections due to the rate of public acceptance and efficacy of COVID-19 vaccines or due to new and more contagious
and/or vaccine resistant variants, and how quickly and to what extent normal economic and operating conditions can resume. Even after
the COVID-19 pandemic has subsided, we may experience adverse impacts to our business, financial condition, results of operations, and
prospects as a result of its global economic impact, including any economic downturn or recession that has occurred or may occur in the
future. The adverse impact of the COVID-19 pandemic on our business, results of operations and financial condition could be material.
We have experienced and may in the future experience constraints
in the supply of certain materials and components that could affect our operating results.
Some of our integrated circuits are only available from a single source
and in some cases, are no longer being manufactured. From time to time, integrated circuits, and potentially other components used in
our products, will be phased out of production by the manufacturer. When this happens, we attempt to purchase sufficient inventory to
meet our needs until a substitute component can be incorporated into our products. Nonetheless, we may be unable to purchase sufficient
components to meet our demands, or we may incorrectly forecast our demands, and purchase too many or too few components. In addition,
our products use components that have been in the past and may in the future be subject to market shortages and substantial price fluctuations,
whether due to the COVID-19 pandemic, the war between Ukraine and Russia, recent tensions between China and Taiwan or otherwise. From
time to time, we have been unable to meet customer orders because we were unable to purchase necessary components for our products. We
do not have long-term supply arrangements with most of our vendors to obtain necessary components, including semiconductor chips, or technology
for our products and instead purchase components on a purchase order basis. If we are unable to purchase components from these suppliers,
our product shipments could be prevented or delayed, which could result in a loss of sales. If we are unable to meet existing orders or
to enter into new orders because of a shortage in components, we will likely lose net revenue, risk losing customers and risk harm to
our reputation in the marketplace, which could adversely affect our business, financial condition or results of operations. For instance,
we have recently experienced increased delays in shipments of semiconductor chips. As a result, we have sought alternate sources of certain
components, which have been at a higher cost. Because semiconductor chips continue to be subject to an ongoing significant shortage, our
ability to source components that use semiconductor chips has been adversely affected. These supply interruptions have resulted in increased
component delivery lead times and increased costs to obtain components with available semiconductor chips. To the extent this semiconductor
chip shortage or other shortages continue, the production of our products may be impacted.
Future operating results depend upon our ability to timely obtain
components in sufficient quantities and on acceptable terms.
We and our contract manufacturers are responsible for procuring raw
materials for our products. Our products incorporate some components and technologies that are only available from single or limited sources
of supply. Depending on a limited number of suppliers exposes us to risks, including limited control over pricing, availability, quality
and delivery schedules. Moreover, due to our limited sales, we may not be able to convince suppliers to continue to make components available
to us unless there is demand for these components from their other customers. If any one or more of our suppliers cease to provide us
with sufficient quantities of components in a timely manner or on terms acceptable to us, we would have to seek alternative sources of
supply and we may have difficulty identifying additional or replacement suppliers for some of our components.
We outsource substantially all of our manufacturing to contract
manufacturers in Asia. If our contract manufacturers are unable or unwilling to manufacture our products at the quality and quantity we
request, our business could be harmed.
We use contract manufacturers based in Asia to manufacture substantially
all of our products. Generally, we do not have guaranteed supply agreements with our contract manufacturers or suppliers. If any of these
subcontractors or suppliers were to cease doing business with us, we might not be able to obtain alternative sources in a timely or cost-effective
manner. Our reliance on third-party manufacturers, especially in countries outside of the U.S., exposes us to a number of significant
risks, including:
· lack of guaranteed production capacity or product supply;
· unexpected changes in regulatory requirements, taxes, trade laws and tariffs;
· reduced protection for intellectual property rights in some countries;
· differing labor regulations;
· compliance with a wide variety of complex regulatory requirements;
· fluctuations in currency exchange rates;
· changes in a country’s or region’s political or economic conditions;
· effects of terrorist attacks or geopolitical conflicts abroad;
· greater difficulty in staffing and managing foreign operations; and
· increased financial accounting and reporting burdens and complexities.
Any problems that we may encounter with the delivery, quality or cost
of our products from our contract manufacturers or suppliers could cause us to lose net revenue, damage our customer relationships and
harm our reputation in the marketplace, each of which could materially and adversely affect our business, financial condition or results
of operations.
From time to time, we may transition the manufacturing of certain products
from one contract manufacturer to another. When we do this, we may incur substantial expenses, risk material delays or encounter other
unexpected issues.
Certain of our products are sold into mature markets, which could
limit our ability to continue to generate revenue from these products. Our ability to sustain and grow our business depends on our ability
to develop, market, and sell new products.
Certain of our products are sold into mature markets that are characterized
by a trend of declining demand. As the overall market for these products decreases due to the adoption of new technologies, we expect
that our revenues from these products will continue to decline. As a result, our future prospects will depend on our ability to develop
and successfully market new products that address new and growing markets. Our failure to develop new products or failure to achieve widespread
customer acceptance of any new products could cause us to lose market share and cause our revenues to decline. There can be no assurance
that we will not experience difficulties that could delay or prevent the successful development, introduction, marketing and sale of new
products or product enhancements. Factors that could cause delays include regulatory and/or industry approvals, product design cycle and
failure to identify products or features that customers demand. In addition, the introduction and sale of new products often involves
a significant technical evaluation, and we often face delays because of our customers’ internal procedures for evaluating, approving
and deploying new technologies. For these and other reasons, the sales cycle associated with new products is typically lengthy, often
lasting six to 24 months and sometimes longer. Therefore, there can be no assurance that our introduction or announcement of new product
offerings will achieve any significant or sustainable degree of market acceptance or result in increased revenue in the near term.
Our software offerings are subject to risks that differ from
those facing our hardware products.
We continue to dedicate significant engineering resources to our management
software platform, applications, and SaaS offerings, including ConsoleFlowTM. These product and service offerings are subject to
significant additional risks that are not necessarily related to our hardware products. Our ability to succeed with these offerings will
depend in large part on our ability to provide customers with software products and services that offer features and functionality that
address the needs of particular businesses. We may face challenges and delays in the development of this product line as the marketplace
for products and services evolves to meet the needs and desires of customers. We cannot provide assurances that we will be successful
in operating and growing this product line.
In light of these risks and uncertainties, we may not be able to establish
or maintain market share for our software and SaaS offerings. As we develop new product lines, we must adapt to market conditions that
are unfamiliar to us, such as competitors and distribution channels that are different from those we have known in the past. We have and
will encounter competition from other solutions providers, many of whom may have more significant resources than us with which to compete.
There can be no assurance that we will recover our investments in this product line, that we will receive meaningful revenue from or realize
a profit from this new product line or that diverting our management’s attention to this product line will not have a material adverse
effect on our existing business, and in turn on our results of operations, financial condition and prospects.
We may experience significant fluctuation in our revenue because
the timing of large orders placed by some of our customers is often project-based.
Our operating results fluctuate because we often receive large orders
from customers that coincide with the timing of the customer’s project. Sales of our products and services may be delayed if customers
delay approval or commencement of projects due to budgetary constraints, internal acceptance review procedures, timing of budget cycles
or timing of competitive evaluation processes. In addition, sometimes our customers make significant one-time hardware purchases for projects
which are not repeated. We sell primarily on a purchase order basis rather than pursuant to long-term contracts, and we expect fluctuations
in our revenues as a result of one-time project-based purchases to continue in the future. In addition, our sales may be subject to significant
fluctuations based on the acceleration, delay or cancellation of customer projects, or our failure to complete one or a series of significant
potential sales. Because a significant portion of our operating expenses are fixed, even a single order can have a disproportionate effect
on our quarterly revenues and operating results. As a result of the factors discussed above, and due to the complexities of the industry
in which we operate, it is difficult for us to forecast demand for our current or future products with any degree of certainty, which
means it is difficult for us to forecast our sales. If our quarterly or annual operating results fall below the expectations of investors
or securities analysts, the price of our common stock could decline substantially.
The lengthy sales cycle for our products and services, along
with delays in customer completion of projects, make the timing of our revenues difficult to predict.
We have a lengthy sales cycle for many of our products that generally
extends between six and 24 months and sometimes longer due to a lengthy customer evaluation and approval process. The length of this process
can be affected by factors over which we have little or no control, including the customer’s budgetary constraints, timing of the
customer’s budget cycles, and concerns by the customer about the introduction of new products by us or by our competitors. As a
result, sales cycles for customer orders vary substantially among different customers. The lengthy sales cycle is one of the factors that
has caused, and may continue to cause, our revenues and operating results to vary significantly from quarter to quarter. In addition,
we may incur substantial expenses and devote significant management effort and expense to develop potential relationships that do not
result in agreements or revenues, which may prevent us from pursuing other opportunities. Accordingly, excessive delays in sales could
be material and adversely affect our business, financial condition or results of operations.
The nature of our products, customer base and sales channels
causes us to lack visibility into future demand for our products, which makes it difficult for us to forecast our manufacturing and inventory
requirements.
We use forecasts based on anticipated product orders to manage our
manufacturing and inventory levels and other aspects of our business. However, several factors contribute to a lack of visibility with
respect to future orders, including:
· the project-driven nature of many of our customers’ requirements;
· we primarily sell our products indirectly through distributors;
· the lack of long-term contracts with our customers;
· we have some customers who make single, non-recurring purchases; and
· a large number of our customers typically purchase in small quantities.
This lack of visibility impacts our ability to forecast our inventory
requirements. If we overestimate our customers’ future requirements for products, we may have excess inventory, which would increase
our costs and potentially require us to write-off inventory that becomes obsolete. Additionally, if we underestimate our customers’
future requirements, we may have inadequate inventory, which could interrupt and delay delivery of our products to our customers, harm
our reputation, and cause our revenues to decline. If any of these events occur, they could prevent us from achieving or sustaining profitability
and the value of our common stock may decline.
Delays in qualifying revisions of existing products for certain
of our customers could result in the delay or loss of sales to those customers, which could negatively impact our business and financial
results.
Our industry is characterized by intense competition, rapidly evolving
technology and continually changing customer preferences and requirements. As a result, we frequently develop and introduce new versions
of our existing products, which we refer to as revisions.
Prior to purchasing our products, some of our customers require that
products undergo a qualification process, which may involve testing of the products in the customer’s system. A subsequent revision
to a product’s hardware or firmware, changes in the manufacturing process or our selection of a new supplier may require a new qualification
process, which may result in delays in sales to customers, loss of sales, or us holding excess or obsolete inventory.
After products are qualified, it can take additional time before the
customer commences volume production of components or devices that incorporate our products. If we are unsuccessful or delayed in qualifying
any new or revised products with a customer, that failure or delay would preclude or delay sales of these products to the customer, and
could negatively impact our financial results. In addition, new revisions to our products could cause our customers to alter the timing
of their purchases, by either accelerating or delaying purchases, which could result in fluctuations of our net revenue from quarter to
quarter.
We depend on distributors for a majority of our sales and to
complete order fulfillment.
We depend on the resale of products through distributor accounts for
a substantial majority of our worldwide net revenue. In addition, sales through our top five distributors accounted for approximately
44% of our net revenue in fiscal 2022. A significant reduction of effort by one or more distributors to sell our products or a material
change in our relationship with one or more distributors may reduce our access to certain end customers and adversely affect our ability
to sell our products. Furthermore, if a key distributor materially defaults on a contract or otherwise fails to perform, our business
and financial results would suffer.
In addition, the financial health of our distributors and our continuing
relationships with them are important to our success. Our business could be harmed if the financial health of these distributors impairs
their performance and we are unable to secure alternate distributors.
Our ability to sustain and grow our business depends in part
on the success of our distributors and resellers.
A substantial part of our revenues is generated through sales by distributors
and resellers. To the extent they are unsuccessful in selling our products, or if we are unable to obtain and retain a sufficient number
of high-quality distributors and resellers, our operating results could be materially and adversely affected. In addition, our distributors
and resellers may devote more resources to marketing, selling and supporting products and services that are competitive with ours, than
to our products. They also may have incentives to promote our competitors' products over our products, particularly for our competitors
with larger volumes of orders, more diverse product offerings and a longer relationship with our distributors and resellers. In these
cases, one or more of our important distributors or resellers may stop selling our products completely or may significantly decrease the
volume of products they sell on our behalf. This sales structure also could subject us to lawsuits, potential liability and reputational
harm if, for example, any of our distributors or resellers misrepresents the functionality of our products or services to customers, violates
laws or our corporate policies. If we fail to effectively manage our existing or future distributors and resellers effectively, our business
and operating results could be materially and adversely affected.
Changes to the average selling prices of our products could affect
our net revenue and gross margins and adversely affect results of operations.
In the past, we have experienced reductions in the average selling
prices and gross margins of our products. We expect competition to continue to increase, and we anticipate this could result in additional
downward pressure on our pricing. Our average selling prices for our products might also decline as a result of other reasons, including
promotional programs introduced by us or our competitors and customers who negotiate price concessions. To the extent we are able to increase
prices, we may experience a decline in sales volumes if customers decide to purchase competitive products. If any of these were to occur,
our gross margins could decline and we might not be able to reduce the cost to manufacture our products enough or at all to keep up with
the decline in prices.
If we are unable to sell our inventory in a timely manner, it
could become obsolete, which could require us to write-down or write off obsolete inventory, which could harm our operating results.
At any time, competitive products may be introduced with more attractive
features or at lower prices than ours. If this occurs, and for other reasons, we may not be able to accurately forecast demand for our
products and our inventory levels may increase. There is a risk that we may be unable to sell our inventory in a timely manner to avoid
it becoming obsolete. If we are required to substantially discount our inventory or are unable to sell our inventory in a timely manner,
we would be required to increase our inventory reserves or write off obsolete inventory and our operating results could be substantially
harmed.
Our failure to compete successfully in our highly competitive
market could result in reduced prices and loss of market share.
The market in which we operate is intensely competitive, subject to
rapid technological advances and highly sensitive to evolving industry standards. The market can also be affected significantly by new
product and technology introductions and marketing and pricing activities of industry participants. Our products compete directly with
products produced by a number of our competitors. Many of our competitors and potential competitors have greater financial and human resources
for marketing and product development, more experience conducting research and development activities, greater experience obtaining regulatory
approval for new products, larger distribution and customer networks, more established relationships with contract manufacturers and suppliers,
and more established reputations and name recognition. For these and other reasons, we may not be able to compete successfully against
our current or potential future competitors. In addition, the amount of competition we face in the marketplace may change and grow as
the market for IoT and M2M networking solutions grows and new companies enter the marketplace. Present and future competitors may be able
to identify new markets, adapt new technologies, develop and commercialize products more quickly and gain market acceptance of products
with greater success. As a result of these competitive factors, we may fail to meet our business objectives and our business, financial
condition and operating results could be materially and adversely affected.
Acquisitions, strategic partnerships, joint ventures or investments
may impair our capital and equity resources, divert our management’s attention or otherwise negatively impact our operating results.
We may pursue acquisitions, strategic partnerships and joint ventures
that we believe would allow us to complement our growth strategy, increase market share in our current markets and expand into adjacent
markets, broaden our technology and intellectual property and strengthen our relationships with distributors, OEMs and ODMs. For instance,
we acquired Maestro, Intrinsyc and the Transition Networks and Net2Edge businesses of CSI in 2019, 2020 and 2021, respectively. Our previous
acquisitions have required, and any future acquisition, partnership, joint venture or investment may also require, that we pay significant
cash, issue equity and/or incur substantial debt. Acquisitions, partnerships or joint ventures may also result in the loss of key personnel
and the dilution of existing stockholders to the extent we are required to issue equity securities. In addition, acquisitions, partnerships
or joint ventures require significant managerial attention, which may be diverted from our other operations. These capital, equity and
managerial commitments may impair the operation of our business. Furthermore, acquired businesses may not be effectively integrated, may
be unable to maintain key pre-acquisition business relationships, may not result in expected synergies, an increase in revenues or earnings
or the delivery of new products, may contribute to increased fixed costs, and may expose us to unanticipated liabilities. If any of these
occur, we may fail to meet our business objectives and our business, financial condition and operating results could be materially and
adversely affected.
We may experience difficulties associated with utilizing third-party
logistics providers.
A majority of our physical inventory management process, as well as
the shipping and receiving of our inventory, is performed by third-party logistics providers in Los Angeles, California and Hong Kong.
There is a possibility that these third-party logistics providers will not perform as expected and we could experience delays in our ability
to ship, receive, and process the related data in a timely manner. This could adversely affect our financial position, results of operations,
cash flows and the market price of our common stock.
Relying on third-party logistics providers could increase the risk
of the following: failing to receive accurate and timely inventory data, theft or poor physical security of our inventory, inventory damage,
ineffective internal controls over inventory processes or other similar business risks out of our immediate control.
Risks Related to Technology, Cybersecurity and Intellectual Property
Cybersecurity breaches and other disruptions could compromise
our information and expose us to liability, which could cause our business and reputation to suffer.
In the ordinary course of our business, we collect and store sensitive
data, including intellectual property, our proprietary business information and that of our customers, suppliers and business partners,
and personally identifiable information of our employees, on our networks and third-party cloud software providers. Increased global information
technology (“IT”) security threats and more sophisticated and targeted computer crime pose a risk to the security of our systems
and networks and the confidentiality, availability and integrity of our data. There have been several recent, highly publicized cases
in which organizations of various types and sizes have reported the unauthorized disclosure of customer or other confidential information,
as well as cyberattacks involving the dissemination, theft and destruction of corporate information, intellectual property, cash or other
valuable assets. There have also been several highly publicized cases in which hackers have requested “ransom” payments in
exchange for not disclosing customer or other confidential information or for not disabling the target company’s computer or other
systems. The secure processing, maintenance and transmission of the information that we collect and store on our systems is critical to
our operations and implementing security measures designed to prevent, detect, mitigate or correct these or other IT security threats
involves significant costs. Although we have taken steps to protect the security of our information systems, we have, from time to time,
experienced threats to our data and systems, including malware, phishing and computer virus attacks, and it is possible that in the future
our safety and security measures will not prevent the systems’ improper functioning or damage, or the improper access or disclosure
of personally identifiable information such as in the event of cyber-attacks. In addition, due to the fast pace and unpredictability of
cyber threats, long-term implementation plans designed to address cybersecurity risks become obsolete quickly and, in some cases, it may
be difficult to anticipate or immediately detect such incidents and the damage they cause. Any unauthorized access, disclosure or other
loss of information could result in legal claims or proceedings, disrupt our operations, damage our reputation, and cause a loss of confidence
in our products and services, which could adversely affect our business.
If our products become subject to cybersecurity breaches, or
if public perception is that they are vulnerable to cyberattacks, our reputation and business could suffer.
We could be subject to liability or our reputation could be harmed
if technologies integrated into our products, or our products, fail to prevent cyberattacks, or if our partners or customers fail to safeguard
the systems with security policies that conform to industry best practices. In addition, any cyberattack or security breach that affects
a competitor’s products could lead to the negative perception that our solutions are or could be subject to similar attacks or breaches.
Some of our software offerings may be subject to various cybersecurity
risks, which are particularly acute in the cloud-based technologies operated by us and other third parties that form a part of our solutions.
In connection with certain implementations of our management software
platform, application, and SaaS offering, ConsoleFlow, we expect to store, convey and potentially process data produced by devices. This
data may include confidential or proprietary information, intellectual property or personally identifiable information of our customers
or other third parties with whom they do business. It is important for us to maintain solutions and related infrastructure that are perceived
by our customers and other parties with whom we do business to provide a reasonable level of reliability and security. Despite available
security measures and other precautions, the infrastructure and transmission methods used by our products and services may be vulnerable
to interception, attack or other disruptive problems.
If a cyberattack or other security incident were to allow unauthorized
access to or modification of our customers’ data or our own data, whether due to a failure with our systems or related systems operated
by third parties, we could suffer damage to our brand and reputation. The costs we would incur to address and fix these incidents could
significantly increase our expenses. These types of security incidents could also lead to lawsuits, regulatory investigations and increased
legal liability, including in some cases contractual costs related to customer notification and fraud monitoring. Further, as regulatory
focus on privacy and data security issues continues to increase and worldwide laws and regulations concerning the protection of information
become more complex, the potential risks and costs of compliance to our business will intensify.
If software that we incorporate into our products were to become
unavailable or no longer available on commercially reasonable terms, it could adversely affect sales of our products, which could disrupt
our business and harm our financial results.
Certain of our products contain software developed and maintained by
third-party software vendors or which are available through the “open source” software community. We also expect that we may
incorporate software from third-party vendors and open source software in our future products. Our business would be disrupted if this
software, or functional equivalents of this software, were either no longer available to us or no longer offered to us on commercially
reasonable terms. In either case, we would be required to either redesign our products to function with alternate third-party software
or open source software, or develop these components ourselves, which would result in increased costs and could result in delays in our
product shipments. Furthermore, we might be forced to limit the features available in our current or future product offerings.
Our products may contain undetected software or hardware errors
or defects that could lead to an increase in our costs, reduce our net revenue or damage our reputation.
We currently offer warranties ranging from one to five years on each
of our products. Our products could contain undetected software or hardware errors or defects. If there is a product failure, we might
have to replace all affected products, or we might have to refund the purchase price for the units. Regardless of the amount of testing
we undertake, some errors might be discovered only after a product has been installed and used by customers. Any errors discovered after
commercial release could result in financial losses and claims against us. Significant product warranty claims against us could harm our
business, reputation and financial results and cause the market price of our common stock to decline.
We may not be able to adequately protect or enforce our intellectual
property rights, which could harm our competitive position or require us to incur significant expenses to enforce our rights.
We rely primarily on a combination of laws, such as patent, copyright,
trademark and trade secret laws, and contractual restrictions, such as confidentiality agreements and licenses, to establish and protect
our proprietary rights. Despite any precautions that we have taken:
Also, the laws of some of the countries in which we market and manufacture
our products offer little or no effective protection of our proprietary technology. Reverse engineering, unauthorized copying or other
misappropriation of our proprietary technology could enable third parties to benefit from our technology without paying us for it. Consequently,
we may be unable to prevent our proprietary technology from being exploited by others in the U.S. or abroad, which could require costly
efforts to protect our technology. Policing the unauthorized use of our technology, trademarks and other proprietary rights is expensive,
difficult and, in some cases, impracticable. Litigation may be necessary in the future to enforce or defend our intellectual property
rights, to protect our trade secrets or to determine the validity and scope of the proprietary rights of others. Such litigation could
result in substantial costs and diversion of management resources, either of which could harm our business. Accordingly, despite our efforts,
we may not be able to prevent third parties from infringing upon or misappropriating our intellectual property, which may harm our business,
financial condition and results of operations.
The impact of natural disasters and other business interruptions
could negatively impact our supply chain and customers resulting in an adverse impact to our revenues and profitability.
Certain of our components and other materials used in producing our
products are from regions susceptible to natural disasters. A natural disaster could damage equipment and inventory at our suppliers’
facilities, adversely affecting our supply chain. If we are unable to obtain these materials, we could experience a disruption to our
supply chain that would hinder our ability to produce our products in a timely manner, or cause us to seek other sources of supply, which
may be more costly or which we may not be able to procure on a timely basis. In addition, our customers may not follow their normal purchasing
patterns or temporarily cease purchasing from us due to impacts to their businesses in the region, creating unexpected fluctuations or
decreases in our revenues and profitability. Natural disasters in other parts of the world on which our operations are reliant also could
have material adverse impacts on our business.
In addition, our operations and those of our suppliers are vulnerable
to interruption by fire, earthquake, power loss, telecommunications failure, cybersecurity breaches, IT systems failure, terrorist attacks
and other events beyond our control. A substantial portion of our facilities, including our corporate headquarters and other critical
business operations, are located near major earthquake faults and, therefore, may be more susceptible to damage if an earthquake occurs.
We do not carry earthquake insurance for direct earthquake-related losses. If a business interruption occurs, whether due to a natural
disaster or otherwise, our business could be materially and adversely affected.
Risk Related to Liquidity and Capital Resources
We have a history of losses.
We have historically incurred net losses. There can be no assurance
that we will generate net profits in future periods. Further, there can be no assurance that we will be cash flow positive in future
periods. In the event that we fail to achieve profitability in future periods, the value of our common stock may decline. In
addition, if we are unable to achieve or maintain positive cash flows, we would be required to seek additional funding, which may not
be available on favorable terms, if at all.
We may need additional capital and it may not be available on
acceptable terms, or at all.
To remain competitive, we must continue to make significant investments
to operate our business and develop our products. Our future capital requirements will depend on many factors, including the timing and
amount of our net revenue, research and development expenditures, expenses associated with any strategic partnerships or acquisitions
and infrastructure investments, and expenses related to litigation, each of which could negatively affect our ability to generate additional
cash from operations. If cash generated from operations is insufficient to satisfy our working capital requirements, we may need to raise
additional capital. Looking ahead at long-term needs, we may need to raise additional funds for a number of purposes, including, but not
limited to:
· to fund working capital requirements;
· to update, enhance or expand the range of products we offer;
· to refinance existing indebtedness;
· to increase our sales and marketing activities; or
We may seek additional capital from public or private offerings of
our capital stock, borrowings under our existing or future credit lines or other sources. If we issue equity or debt securities to raise
additional funds, our existing stockholders may experience dilution, and the new equity or debt securities may have rights, preferences
and privileges senior to those of our existing stockholders. In addition, if we raise additional funds through collaborations, licensing,
joint ventures, or other similar arrangements, it may be necessary to relinquish valuable rights to our potential future products or proprietary
technologies, or grant licenses on terms that are not favorable to us. There can be no assurance that we will be able to raise any needed
capital on terms acceptable to us, if at all. If we are unable to secure additional financing in sufficient amounts or on favorable terms,
we may not be able to develop or enhance our products, take advantage of future opportunities, respond to competition or continue to operate
our business.
The terms of our Senior Credit Facilities may restrict our financial
and operational flexibility and, in certain cases, our ability to operate.
The terms of our Senior Credit Facilities restrict, among other things,
our ability to incur liens, incur indebtedness, dispose of assets, make investments, make certain restricted payments, merge or consolidate
and enter into certain speculative hedging arrangements. Further, we are currently and may in the future be required to maintain specified
financial ratios, including pursuant to a maximum leverage ratio, a minimum fixed charge coverage ratio or a minimum liquidity test. Our
ability to meet those financial ratios and tests can be affected by events beyond our control, and there can be no assurance that we will
meet those tests. Pursuant to our amended credit agreement and the related loan and security agreement, we have pledged substantially
all of our assets to our senior lender, SVB.
Risks Related to International Operations
Rising concern regarding international tariffs could
materially and adversely affect our business and results of operations.
The current political landscape has introduced significant
uncertainty with respect to future trade regulations and existing international trade agreements, as shown by the U.S.-initiated renegotiation
of the North America Free Trade Agreement, Brexit in Europe, and the current war between Ukraine and Russia. This uncertainty includes
the possibility of imposing tariffs or penalties on products manufactured outside the U.S., including the US government’s institution
of a 25% tariff on a range of products from China and subsequent tariffs imposed by the U.S. as well as tariffs imposed by trading partners
on U.S. goods, the potential for increased trade barriers between the U.K. and the European Union, and export controls or other retaliatory
actions against, or restrictions on doing business with Russia, as well as any resulting disruption, instability or volatility in the
global markets and industries resulting from such conflict. The institution of trade tariffs both globally and between the U.S. and China
specifically, carries the risk of negatively affecting the overall economic conditions of both China and the U.S., which could have a
negative impact on us.
We cannot predict whether, and to what extent, there may
be changes to international trade agreements or whether quotas, duties, tariffs, exchange controls or other restrictions on our products
will be changed or imposed. If we are unable to source our products from the countries where we wish to purchase them, either because
of regulatory changes or for any other reason, or if the cost of doing so increases, it could have a material adverse effect on our business,
financial condition and results of operations. Furthermore, imposition of tariffs may result in local sourcing initiatives, or other developments
that make it more difficult to sell our products in foreign countries, which would negatively impact our business and operating results.
We face risks associated with our international operations that
could impair our ability to grow our revenues abroad as well as our overall financial condition.
We believe that our future growth is dependent in part upon our ability
to increase sales in international markets. These sales are subject to a variety of risks, including geopolitical events, fluctuations
in currency exchange rates, tariffs, import restrictions and other trade barriers, unexpected changes in regulatory requirements, longer
accounts receivable payment cycles, potentially adverse tax consequences, and export license requirements. In addition, we are subject
to the risks inherent in conducting business internationally, including political and economic instability and unexpected changes in diplomatic
and trade relationships. In many markets where we operate, business and cultural norms are different than those in the U.S., and practices
that may violate laws and regulations applicable to us such as the Foreign Corrupt Practices Act (the “FCPA”) unfortunately
are more commonplace. Although we have implemented policies and procedures with the intention of ensuring compliance with these laws and
regulations, our employees, contractors and agents, as well as distributors and resellers involved in our international sales, may take
actions in violation of our policies. Many of our vendors and strategic business allies also have international operations and are subject
to the risks described above. Even if we are able to successfully manage the risks of international operations, our business may be adversely
affected if one or more of our business partners are not able to successfully manage these risks. There can be no assurance that one or
more of these factors will not have a material adverse effect on our business strategy and financial condition.
Foreign currency exchange rates may adversely affect our results.
We are exposed to market risk primarily related to foreign currencies
and interest rates. In particular, we are exposed to changes in the value of the U.S. dollar versus the local currency in which our products
are sold and our services are purchased, including devaluation and revaluation of local currencies. Accordingly, fluctuations in foreign
currency rates could adversely affect our revenues.
In particular, the uncertainty with respect to the ability of certain
European countries to continue to service their sovereign debt obligations and the related European financial restructuring efforts may
cause the value of the Euro and other European currencies to fluctuate. If the value of European currencies, including the Euro,
deteriorates, thus reducing the purchasing power of European customers, our sales could be adversely affected.
Risks Related to Regulatory Compliance and Legal Matters
Our inability to obtain appropriate industry certifications or
approvals from governmental regulatory bodies could impede our ability to grow revenues in our wireless products.
The sale of our wireless products in some geographical markets
is sometimes dependent on the ability to gain certifications and/or approvals by relevant governmental bodies. In addition, many of our
products are certified as meeting various industry quality and/or compatibility standards. Failure to obtain these certifications
or approvals, or delays in receiving any needed certifications or approvals, could impact our ability to compete effectively or at all
in these markets and could have an adverse impact on our revenues.
Our failure to comply effectively with regulatory laws pertaining
to our foreign operations could have a material adverse effect on our revenues and profitability.
We are required to comply with U.S. government export regulations in
the sale of our products to foreign customers, including requirements to properly classify and screen our products against a denied parties
list prior to shipment. We are also required to comply with the provisions of the FCPA and all other anti-corruption laws, such as the
U.K. Anti-Bribery Act, of all other countries in which we do business, directly or indirectly, including compliance with the anti-bribery
prohibitions and the accounting and recordkeeping requirements of these laws. Violations of the FCPA or other similar laws could trigger
sanctions, including ineligibility for U.S. government insurance and financing, as well as large fines. Failure to comply with the aforementioned
regulations could also affect our decision to sell our products in international jurisdictions, which could have a material adverse effect
on our revenues and profitability.
Our failure to comply effectively with the requirements of applicable
environmental legislation and regulation could have a material adverse effect on our revenues and profitability.
Certain states and countries have passed regulations relating to chemical
substances in electronic products and requiring electronic products to use environmentally friendly components. For example, the European
Union has the Waste Electrical and Electronic Equipment Directive, the Restrictions of Hazardous Substances Directive, and the Regulation
on Registration, Evaluation, Authorization and Restriction of Chemicals. In the future, China and other countries including the U.S. are
expected to adopt further environmental compliance programs. In order to comply with these regulations, we may need to redesign our products
to use different components, which may be more expensive, if they are available at all. If we fail to comply with these regulations, we
may not be able to sell our products in jurisdictions where these regulations apply, which could have a material adverse effect on our
revenues and profitability.
Current or future litigation could adversely affect us.
We are subject to a wide range of claims and lawsuits in the course
of our business. Any lawsuit may involve complex questions of fact and law and may require the expenditure of significant funds and the
diversion of other resources. The results of litigation are inherently uncertain, and adverse outcomes are possible.
In particular, litigation regarding intellectual property rights occurs
frequently in our industry. The results of litigation are inherently uncertain, and adverse outcomes are possible. Adverse outcomes may
have a material adverse effect on our business, financial condition or results of operations.
There is a risk that other third parties could claim that our products,
or our customers’ products, infringe on their intellectual property rights or that we have misappropriated their intellectual property.
In addition, software, business processes and other property rights in our industry might be increasingly subject to third-party infringement
claims as the number of competitors grows and the functionality of products in different industry segments overlaps. Other parties might
currently have, or might eventually be issued, patents that pertain to the proprietary rights we use. Any of these third parties might
make a claim of infringement against us. The results of litigation are inherently uncertain, and adverse outcomes are possible.
Responding to any infringement claim, regardless of its validity, could:
· be time-consuming, costly and/or result in litigation;
· divert management’s time and attention from developing our business;
· require us to stop selling or to redesign certain of our products; or
· require us to satisfy indemnification obligations to our customers.
If any of these occur, our business, financial condition
or results of operations could be adversely affected
General Risk Factors
If we are unable to attract, retain or motivate key senior management
and technical personnel, it could seriously harm our business.
Our financial performance depends substantially on the performance
of our executive officers and of key engineers, marketing and sales employees. We are particularly dependent upon our technical personnel,
due to the specialized technical nature of our business. If we were to lose the services of our executive officers or any of our key personnel
and were not able to find replacements in a timely manner, our business could be disrupted, other key personnel might decide to leave,
and we might incur increased operating expenses associated with finding and compensating replacements.
Our quarterly operating results may fluctuate, which could cause
the market price of our common stock to decline.
We have experienced, and expect to continue to experience, significant
fluctuations in net revenue, expenses and operating results from quarter to quarter. We therefore believe that quarter to quarter comparisons
of our operating results are not a good indication of our future performance, and you should not rely on them to predict our future operating
or financial performance or the future performance of the market price of our common stock. A high percentage of our operating expenses
are relatively fixed and are based on our forecast of future revenue. If we were to experience an unexpected reduction in net revenue
in a quarter, we would likely be unable to adjust our short-term expenditures significantly. If this were to occur, our operating results
for that fiscal quarter would be harmed. In addition, if our operating results in future fiscal quarters were to fall below the expectations
of equity analysts and investors, the market price of our common stock would likely fall.
The market price of our common stock may be volatile based on
a number of factors, many of which are not under our control.
The market price of our common stock has been highly volatile. The
market price of our common stock could be subject to wide fluctuations in response to a variety of factors, many of which are out of our
control, including:
· adverse changes in domestic or global economic, market and other conditions;
· new products or services offered by our competitors;
· actual or anticipated variations in quarterly operating results;
· changes in financial estimates by securities analysts;
· announcements of technological innovations;
· additions or departures of key personnel;
· increased competition from industry consolidation;
· mergers and acquisitions; and
In addition, the Nasdaq Capital Market often experiences price and
volume fluctuations. These fluctuations often have been unrelated or disproportionate to the operating performance of companies listed
on the Nasdaq Capital Market.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
The following table presents details regarding our leased facilities:
Locations Primary Use Approximate Square Footage
Vancouver, British Columbia, Canada Engineering 12,000
Hyderabad, India Engineering 18,000
Illmenau, Germany Engineering, sales and marketing 7,500
Taiwan Engineering, sales and marketing 5,500
Shanghai, China Sales and marketing 1,000
We believe our existing facilities are adequate to meet our needs.
If additional space is needed in the future, we believe that suitable space will be available on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4. MINE SAFETY DISCLOSURES
None.
PART II
Common Stock
Our common stock is traded on the Nasdaq Capital Market under the symbol
“LTRX.” The number of holders of record of our common stock as of August 25, 2022 was approximately 29.
Dividend Policy
We have never declared or paid cash dividends on our common stock.
We do not anticipate paying any cash dividends on our common stock in the foreseeable future, and we intend to retain any future earnings
for use in the expansion of our business and for general corporate purposes. Any future decision to declare or pay dividends will be made
by our board of directors in its sole discretion and will depend upon our financial condition, operating results, capital requirements
and other factors that our board of directors deems appropriate at the time of its decision.
Issuer Repurchases
We did not repurchase any shares of our common stock during the fourth
quarter of fiscal 2022.
ITEM 6. RESERVED
You should read the following discussion and analysis in conjunction
with our consolidated financial statements and the accompanying notes thereto included in Part II, Item 8 of this Report. This discussion
and analysis contains forward-looking statements that are based on our management’s current beliefs and assumptions, which statements
are subject to substantial risks and uncertainties. Our actual results may differ materially from those expressed or implied by these
forward-looking statements as a result of many factors, including those discussed in “Risk Factors” included in Part I, Item
1A of this Report. Please also see “Cautionary Note Regarding Forward Looking Statements” at the beginning of this Report.
Overview
Lantronix, Inc. is a global Industrial and Enterprise internet of things
(“IoT”) provider of solutions that target diversified verticals ranging from Smart Cities, Utilities and Healthcare to Enterprise,
Intelligent Transportation, and Industrial Automation. Building on a long history of connectivity and video processing competence, target
applications include Video Surveillance, Traffic management, Infotainment systems, Robotics, Edge Computing and Remote Environment Management
(“REM”).
We conduct our business globally and manage our sales teams by three
geographic regions: the Americas; Europe, Middle East, and Africa (“EMEA”); and Asia Pacific Japan (“APJ”).
References to “fiscal 2022” refer to the fiscal year ended
June 30, 2022 and references to “fiscal 2021” refer to the fiscal year ended June 30, 2021.
Products and Solutions
To more closely align the categorization of our product lines with
how we position them in the marketplace, we have re-organized our products and solutions. We now organize our products and solutions into
three product lines: Embedded IoT Solutions, IoT System Solutions, and Software & Services. Until this recent change, we had
organized our products and solutions into three different product lines: IoT, REM and Other. Going forward, we do not plan to disclose
our net revenue by the old categorizations. Refer to “Products and Solutions” included in Part I, Item 1 of this Report, which
is incorporated herein by reference, for further discussion.
Recent Developments
Acquisition
On August 2, 2021 we acquired the Transition Networks and Net2Edge
businesses (the “TN Companies”) from Communication Systems, Inc. (“CSI”) for an aggregate purchase price of approximately
$30,651,000, which includes earnout payments of up to $7,000,000 depending on the achievement of certain revenue targets for the TN Companies.
The TN Companies provide us with complementary IoT connectivity products and capabilities, including switching, Power over Ethernet (“PoE”)
and media conversion and adapter products. In connection with the closing of the acquisition, we entered into new loan agreements with
Silicon Valley Bank (“SVB”) which included (i) a new term loan of $17,500,000 with an available revolving credit facility
of up to $2,500,000 and (ii) a second term loan of $12,000,000. In January 2022, we repaid the $12,000,000 second term loan.
Refer to Notes 3 and 5 of Notes to Consolidated Financial
Statements included in Part II, Item 8 of this Report, which are incorporated herein by reference, for additional discussions regarding
the August 2021 acquisition of the TN Companies and related financing arrangements, respectively.
Underwritten Offering
On November 18, 2021, we entered into an underwriting agreement (the
“Underwriting Agreement”) with TL Investment GmbH (“TL Investment”) and Canaccord Genuity LLC, as representative
of the several underwriters named therein (together, the “Underwriters”), relating to the Company’s offer and sale of
4,700,000 shares (the “Firm Shares”) of our common stock at an initial price to the public of $7.50 per share. In addition,
TL Investment granted the Underwriters a 30-day option to purchase up to an additional 705,000 shares (the “Option Shares”)
of our common stock held by TL Investment at the public offering price, less the underwriting discounts. On November 18, 2021, the Underwriters
exercised their option to purchase the Option Shares from TL Investment in full. On November 22, 2021, we issued and delivered the Firm
Shares and TL Investment delivered the Option Shares.
Net proceeds to Lantronix from the offering of the Firm Shares, after
deducting the underwriting discount and offering expenses, were approximately $32,600,000.
COVID-19 Update
Since the outbreak of the COVID-19 pandemic, we have taken measures
to protect the health and safety of our employees and comply with applicable local directives. Most of our employees transitioned to remote
working arrangements commencing in March 2020, and many continue to primarily work remotely as of the date hereof. We continue to monitor
the implications of the COVID-19 pandemic on our business, as well as our customers’ and suppliers’ businesses, including
the emergence of new strains of the virus, current or future government-imposed shutdowns, and the impact of ongoing vaccination efforts.
Our efforts to support customer engagement through industry events,
trade shows and business travel also continue to be adversely affected. Prolonged shutdowns, or additional future shutdowns and other
restrictions instituted by federal, state and local governments, may lead to a reduction in revenue during the coming quarters. To mitigate
potential revenue declines, we continue to adjust our go-to-market approach by adding more distributors and value-added resellers, who