UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

The number of Common Shares of the registrant outstanding as of November 4, 2016August 1, 2017 was 23,398,724.23,391,662.

Index

AGILYSYS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

AGILYSYS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

AGILYSYS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(Unaudited)

Agilysys is a leading technology company that provides innovative software and services for point-of-sale (POS), reservation and table management, property management (PMS), inventory and procurement, workforce management, analytics, document management, and mobile and wireless solutions and servicesexclusively to the hospitality industry.  Our solutionsproducts and services allow property managersoperators to betterstreamline operations, improve efficiency and understand customer needs across their properties to deliver a superior overall guest experience. The result is improved guest loyalty, growth in wallet share and increased revenue as they connect interact and transact with their customersguests based upon a single integrated view of individual preferences and enhance their customer relationships by streamlining operations, improving efficiency, increasing guest recruitment and wallet share, and enhancing the overall guest experience.interactions. We serve four major market sectors: Gaming, both corporate and tribal; Hotels, Resorts and Cruise; Corporate Foodservice Management; and Restaurants, Universities, Stadia and Healthcare. A significant portion of our consolidated revenue is derived from contract support, maintenance and subscription services.

We operate throughoutAgilysys operates across North America, Europe, Asia-Pacific, and Asia,India with corporate services located in Alpharetta, GA. For more information, visit www.agilysys.com.

The accompanying unaudited Condensed Consolidated Financial Statements include our accounts consolidated with our wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. Our fiscal year ends on March 31st. References to a particular year refer to the fiscal year ending in March of that year. For example, fiscal 20172018 refers to the fiscal year ending March 31, 2017.2018.

Our unaudited interim financial statements are prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information, the instructions to the Quarterly Report on Form 10-Q (Quarterly Report) under the Securities Exchange Act of 1934, as amended (the Exchange Act), and Rule 10-01 of Regulation S-X under the Exchange Act. Certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations relating to interim financial statements.

The Condensed Consolidated Balance Sheet as of SeptemberJune 30, 2016,2017, as well as the Condensed Consolidated Statements of Operations, Condensed Consolidated Statements of Comprehensive Loss, and the Condensed Consolidated Statements of Cash Flow for the three and six months ended SeptemberJune 30, 20162017 and 2015,2016, are unaudited. However, these financial statements have been prepared on the same basis as those in the audited annual financial statements. In the opinion of management, all adjustments of a recurring nature necessary to fairly state the results of operations, financial position, and cash flows have been made.

In August 2016,January 2017, the FASB issuedFinancial Accounting Standards Update (ASU) 2016-15, “StatementBoard ("FASB") issued ASU No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of Cash Flowsa Business, and ASU No. 2017-04, Intangibles- Goodwill and Other (Topic 230): Classification of Certain Cash Receipts and Cash Payments."350) - Simplifying the Test for Goodwill Impairment. ASU 2016-15No. 2017-01 clarifies the classificationdefinition of receiptsa business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. The definition of a business affects many areas of accounting including acquisitions, disposals, goodwill, and payments in the statement of cash flows. ASU 2016-15 providesconsolidation. The guidance related to (1) debt prepayment or debt extinguishment costs, (2) settlement and payment of zero coupon debt instruments, (3) contingent consideration, (4) proceeds from settlement of insurance claims, (5) proceeds from settlement of corporate and bank owned life insurance policies, (6) distributions from equity method investees, (7) cash receipts from beneficial interests obtained by a transferor, and (8) general guidelines for cash receipts and payments that have more than one aspect of classification. ASU 2016-15 is effective for annual periods beginning after December 15, 2017, including interim periods within those periods. Early adoption is permitted. WeWhile we are evaluatingstill assessing the impact of this standard, we do not believe that the adoptingadoption of this guidance will have a material impact on futureour consolidated financial statementsstatements. ASU No. 2017-04 eliminates Step 2 of the goodwill impairment test and disclosures.requires a goodwill impairment to be measured as the amount by which a reporting unit’s carrying amount exceeds its fair value, not to exceed the carrying amount of its goodwill. The ASU is effective for annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. While we are still assessing the impact of this standard, we do not believe that the adoption of this guidance will have a material impact on our consolidated financial statements.

In MarchOctober 2016, the FASB issued ASU 2016-09, ImprovementsNo. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory, which requires entities to Employee Share-Based Payment Accounting. The amendments in this update involve several aspects of accounting for share-based payment transactions, includingrecognize the income tax consequences classification of awards, and classification onan intra-entity transfer of an asset other than inventory when the statement of cash flows. For public business entities, the amendments in this update aretransfer occurs. The new guidance is effective for annual reporting periods beginning after December 15, 2016, and interim periods within those2017. Early adoption is permitted as of the beginning of an annual periods.reporting period. The new standard must be adopted using a modified retrospective transition method, with the cumulative effect recognized as of the date of initial adoption. We are evaluatingcurrently reviewing this standard to assess the impact of adopting this guidance on our future consolidated financial statements.

In March 2016, the FASB issued ASU 2016-08, Revenue from Contracts with Customers.No. 2016-09, Compensation-Stock Compensation (Topic 718), which amends the accounting for stock-based compensation. The amendmentsguidance requires excess tax benefits and deficiencies to be recognized as a component of income tax expense rather than of stockholders’ equity and also allows an entity to make an accounting policy election to either estimate expected forfeitures or to account for them as they occur. ASU No. 2016-09 is effective for annual reporting periods beginning after December 15, 2016. The Company adopted the ASU in this update clarify the implementation guidancequarter ended June 30, 2017, which is the first quarter for our annual period beginning April 1, 2017.  The following summarizes the effects of the adoption on principals versus agent considerations in FASB ASC 606. The effective date and transition requirements for the amendments in this update are the same as the effective date and transition requirements of ASU 2014-09 described below. We are evaluating the impact of adopting this guidance on ourCompany's unaudited condensed consolidated financial statements.statements:

In February 2016, the FASB issued ASU No. 2016-02, Leases. The amendments in this update include a new FASB ASC Topic 842,Leases (Topic 842), which supersedes Topic 840. The core principle of Topic 842 is that a lessee shouldwill require lessees to recognize the assets and liabilities that arisefor leases with lease terms of more than 12 months. Consistent with current GAAP, the recognition, measurement, and presentation of expenses and cash flows arising from leases. For public business entities,a lease by a lessee primarily will depend on its classification as a finance or operating lease. However, unlike current GAAP, which requires only capital leases to be recognized on the amendments in this update arebalance sheet, the new guidance will require both types of leases to be recognized on the balance sheet. The new guidance is effective for fiscal yearsall periods beginning after December 15, 2018 including interim periods within those fiscal years. Early application is permitted for all entities as of the beginning of interim or annual reporting periods. Weand we are currently evaluating the impacteffects that the adoption of adopting this guidanceASU No. 2016-02 will have on our consolidated financial statements.statements, but anticipate that the new guidance will materially impact our consolidated financial statements given the significance of our leases.

In May 2014, the FASB issued Accounting Standards Update (ASU)ASU No. 2014-09, Revenue from Contracts with Customers which converges(Topic 606). ASU No. 2014-09 supersedes the FASBrevenue recognition requirements in Topic 605, Revenue Recognition, and most industry-specific revenue recognition guidance throughout the InternationalIndustry Topics of the Accounting Standards Board standard onCodification. Additionally, this update supersedes some cost guidance included in Subtopic 605-35, Revenue Recognition-Construction-Type and Production-Type Contracts. The core principle of the guidance is that an entity should recognize revenue recognition. Areas of revenue recognition that will be affected include, but are not limited to depict the transfer of control, variablepromised goods or services to customers in an amount that reflects the consideration allocation of transfer pricing, licenses, time value of money, contract coststo which the entity expects to be entitled in exchange for those goods or services. As originally issued, this guidance was effective for interim and disclosures.annual reporting periods beginning after December 15, 2016, and early adoption was not permitted. In AugustJuly 2015, the FASB amendeddeferred the effective date by one year, to interim and early adoption is permitted only for fiscal yearsannual reporting periods beginning after December 15, 2017. The standard allows entities to apply the standard retrospectively to each prior reporting period presented (“full retrospective adoption”) or retrospectively with the cumulative effect of initially applying the standard recognized at the date of initial application (“modified retrospective adoption”). We plan to adopt ASU No. 2014-09 on its effective date for us beginning April 1, 2018 and we are still evaluating both options and their effect on our financial statements and business.

We expect to identify similar performance obligations under ASC 606 as compared with deliverables and separate units of account previously identified. As a result, we expect the timing of our revenue to occur in similar periods but we are still evaluating this theory especially with respect to multiple service contracts. We are assessing the new standard’s requirement to apply a single method to measure progress towards satisfaction of performance obligations recognized over time in our contracts that contain multiple services. We are evaluating our multiple service contracts to determine if the services are a single performance obligation under this new standard requiring a single method of measurement. We are assessing the new standards requirement to allocate the transaction prices of our contracts based on the relative stand-alone selling price of each our performance obligations. We are evaluating the stand-alone selling prices for our performance obligations. We are also assessing the new standard’s requirement to capitalize costs associated with obtaining customer contracts, including commission payments, which are currently expensed as incurred for all commissions earned subsequent to the year ended March 31, 2016. We are currently evaluating the impactperiod over which to amortize these capitalized costs and the applicability of the practical expediency exception which permits the continuation of expensing these costs for amortization periods of one year or less. In addition, for sales transactions that have been billed, but for which the adoptionrecognition of revenue has been deferred and the related account receivable has not been collected, we currently do not recognize deferred revenue or the related accounts receivable on our consolidated balance sheet. Under the new standard, we will record accounts receivable and related contract liabilities for non-cancelable contracts with customers when the right to consideration is unconditional, which we currently expect will result in increases in accounts receivable and contract liabilities (currently presented as deferred revenue) on our consolidated balance sheet, compared to our current presentation. We are continuing to review the impacts of adopting ASU No. 2014-09 will have onto our consolidated financial statements or related disclosures.

Management continually evaluates the potential impact, if any, of all recent accounting pronouncements on our consolidated financial statements or related disclosures and, if significant, makes the appropriate disclosures required by such new accounting pronouncements.

The following table summarizes our remaining estimated amortization expense relating to in service intangible assets and software development costs.

Capitalized software development costs that arefor software internally developed to be sold, leased, or otherwise marketed, are carried on our balance sheet at net realizablecarrying value, net of accumulated amortization. We capitalized approximately $3.4$2.8 million and $2.6$2.9 million during the three months ended SeptemberJune 30, 2017 and 2016, and 2015, and $6.7 million and $7.1 million during the six months ended September 30, 2016 and 2015.respectively.

Additional information related to the Condensed Consolidated Balance Sheets is as follows:

On January 12, 2015, an involuntary bankruptcy petition was filed against Caesars Entertainment Operating Company, Inc. (Caesars) under Chapter 11 of the U.S. Bankruptcy Code. On January 15, 2015, Caesars and certain of its affiliates filed a voluntary bankruptcy petition under Chapter 11. Those cases have been consolidated in the United States Bankruptcy Court for the Northern District of Illinois. At March 31, 2015, our accounts receivable owing by Caesars and its affiliates who have filed a bankruptcy petition totaled approximately $3.2 million, including both pre- and post-petition claims. As of May 26, 2015, we filed a proof of claim with the Bankruptcy Court identifying approximately $0.7 million of pre-petition claims. In January 2016, we filed an amended proof of claim with the Bankruptcy Court identifying approximately $0.2 million of pre-petition claim in addition to those filed on May 26, 2015. As of SeptemberJune 30, 2016,2017, approximately $0.7 million of pre-petition claims remain outstanding.

The following table compares our income tax benefit and effective tax rates for the three months ended SeptemberJune 30, 20162017 and 2015:2016:

For the three and six months ended SeptemberJune 30, 2017, the effective tax rate was different than the statutory rate due primarily to the recognition of net operating losses as deferred tax assets, which were offset by increases in the valuation allowance, certain foreign and state tax effects, and other U.S. permanent book to tax differences.

For the three months ended June 30, 2016, the effective tax rate was different than the statutory rate due primarily to the recognition of net operating losses as deferred tax assets, which were offset by increases in the valuation allowance, foreign and state taxes, and other U.S. permanent bookan adjustment to tax differences.

We have recorded a valuation allowance offsetting substantially all of our deferred tax assets. The ultimate realization of deferred tax assets depends on the generation of future taxable income during the periods in which those temporary differences are deductible. Because of our losses in prior periods, management believes that it is more-likely-than-not that we will not realize the benefits of these deductible differences. The amount of valuation allowance, however, could be reduced in the near term. The exact timing will be based on the level of profitability we achieve. We expect a full release of the valuation allowance associated with deferred tax assets in Hong Kong. We expect that the release of the valuation allowance will be recorded as an income tax benefit at the time of release increasing our reported net income. Our recorded tax rate may increase in subsequent periods following a valuation allowance release. Any valuation allowance release will not affect the amount of cash paid for income taxes.

Agilysys is the subject of various threatened or pending legal actions and contingencies in the normal course of conducting its business. We provide for costs related to these matters when a loss is probable and the amount can be reasonably estimated. The effect of the outcome of these matters on our future results of operations and liquidity cannot be predicted because any such effect depends on future results of operations and the amount or timing of the resolution of such matters. While it is not possible to predict with certainty, management believes that the ultimate resolution of such individual or aggregated matters will not have a material adverse effect on our consolidated financial position, results of operations, or cash flows.

On April 6, 2012, Ameranth, Inc. filed a complaint against us for patent infringement in the United States District Court for the Southern District of California. The complaint alleges, among other things, that point-of-sale and property management and other hospitality information technology products, software, components and/or systems sold by us infringe three patents owned by Ameranth purporting to cover generation and synchronization of menus, including restaurant menus, event tickets, and other products across fixed, wireless and/or internet platforms as well as synchronization of hospitality information and hospitality software applications across fixed, wireless and internet platforms. The complaint seeks monetary damages, injunctive relief, costs and attorneys' fees. At this time, we are not able to predict the outcome of this lawsuit, or any possible monetary exposure associated with the lawsuit.  However, we dispute the allegations of wrongdoing and are vigorously defending ourselves in this matter.

The following data shows the amounts used in computing (loss) earningsloss per share and the effect on incomeearnings and the weighted average number of shares of dilutive potential common shares.

Diluted earnings (loss) earnings per share includes the effect of all potentially dilutive securities on earnings per share. We have stock options, stock-settled appreciation rights (SSARs)("SSARs"), unvested restricted shares and unvested restrictedperformance shares that are potentially dilutive securities. When a loss is reported, the denominator of diluted (loss) earnings per share cannot be adjusted for the dilutive impact of share-based compensation awards because doing so would be anti-dilutive. In addition, when a net loss is reported, adjusting the denominator of diluted earnings per share would also be anti-dilutive to the loss per share, even if the entity has net income after adjusting for a discontinued operation. Therefore, for the three months and six months ended September 30, 2016 and 2015,all periods presented, basic weighted-average shares outstanding were used in calculating the diluted net loss per share.

We have a shareholder-approved 2011 Plan, 2006 Stock Incentive Plan (the 2006 Plan) and a 2000 Stock Incentive Plan that still havehas vested awards outstanding. Awards are no longer being granted from thesethis incentive plans.plan.

We may distribute authorized but unissued shares or treasury shares to satisfy share option and appreciation right exercises or restricted share and performance share awards.

We record compensation expense related to stock options, SSARs, restricted shares, and performance shares granted to certain employees and non-employee directors based on the fair value of the awards on the grant date. The fair value of restricted share and performance share awards is based on the closing price of our common shares on the grant date. The fair value of stock option and SSARs awards is estimated on the grant date using the Black-Scholes-Merton option pricing model, which includes assumptions regarding the risk-free interest rate, dividend yield, life of the award, and the volatility of our common shares.

SSARs are rights granted to an employee to receive value equal to the difference in the price of our common shares on the date of the grant and on the date of exercise. This value is settled in common shares of Agilysys.

The following table summarizes the activity during the sixthree months ended SeptemberJune 30, 20162017 for the performance shares awarded under the 20112016 Plan:

We estimate the fair value of financial instruments using available market information and generally accepted valuation methodologies. We assess the inputs used to measure fair value using a three-tier hierarchy. The hierarchy indicates the extent to which pricing inputs used in measuring fair value are observable in the market. Level 1 inputs include unadjusted quoted prices for identical assets or liabilities and are the most observable. Level 2 inputs include unadjusted quoted prices for similar assets and liabilities that are either directly or indirectly observable, or other observable inputs such as interest rates, foreign currency exchange rates, commodity rates, and yield curves. Level 3 inputs are not observable in the market and include our own judgments about the assumptions market participants would use in pricing the asset or liability. The use of observable and unobservable inputs is reflected in the hierarchy assessment disclosed in the tables below.

 

The following tables present information about our financial assets and liabilities measured at fair value on a recurring basis and indicate the fair value hierarchy of the valuation techniques utilized to determine such fair value:

The recorded value of the corporate-owned life insurance policies is adjusted to the cash surrender value of the policies obtained from the third party life insurance providers, which are not observable in the market, and therefore, are classified within Level 3 of the fair value hierarchy. Changes in the cash surrender value of these policies are recorded within “Other expenses (income) expense,, net” in the Condensed Consolidated Statements of Operations.

The following table presents a summary of changes in the fair value of the Level 3 assets:

The following tables present a summary of changes in the fair value of the Level 3 liabilities:

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

In “Management’s Discussion and Analysis of Financial Condition and Results of Operations” (“MD&A”), management explains the general financial condition and results of operations for Agilysys and subsidiaries including:

—    what factors affect our business;

—    what our earnings and costs were;

—    why those earnings and costs were different from the year before;

—    where the earnings came from;

—    how our financial condition was affected; and

—    where the cash will come from to fund future operations.

The MD&A analyzes changes in specific line items in the Condensed Consolidated Statements of Operations and Condensed Consolidated Statements of Cash Flows and provides information that management believes is important to assessing and understanding our consolidated financial condition and results of operations. This Quarterly Report on Form 10-Q updates information included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2016,2017, filed with the Securities and Exchange Commission (SEC). This discussion should be read in conjunction with the Condensed Consolidated Financial Statements and related Notes that appear in Item 1 of this Quarterly Report as well as our Annual Report for the year ended March 31, 2016.2017. Information provided in the MD&A may include forward-looking statements that involve risks and uncertainties. Many factors could cause actual results to be materially different from those contained in the forward-looking statements. See “Forward-Looking Information” on page 3025 of this Quarterly Report, Item 1A "Risk Factors" in Part II of this Quarterly Report, and Item 1A “Risk Factors” in Part I of our Annual Report for the fiscal year ended March 31, 20162017 for additional information concerning these items. Management believes that this information, discussion, and disclosure is important in making decisions about investing in Agilysys.

Overview

Agilysys is a leading technology company that provides innovative software and services for point-of-sale (POS), reservation and table management, property management (PMS), inventory and procurement, workforce management, analytics, document management, and mobile and wireless solutions and servicesexclusively to the hospitality industry.  Our solutionsproducts and services allow property managersoperators to betterstreamline operations, improve efficiency and understand customer needs across their properties to deliver a superior overall guest experience. The result is improved guest loyalty, growth in wallet share and increased revenue as they connect interact and transact with their customersguests based upon a single integrated view of indivudal preferences and enhance their customer relationships by streamlining operations, improving efficiency, increasing guest recruitment and wallet share, and enhancing the overall guest experience. Agilysys servesinteractions.  We serve four major market sectors: Gaming, both corporate and tribal; Hotels, Resorts and Cruise; Corporate Foodservice Management; and Restaurants, Universities, Stadia and Healthcare. A significant portion of our consolidated revenue is derived from contract support, maintenance and subscription services.

Agilysys operates extensively throughoutacross North America, Europe, Asia, and Asia,India with corporate services located in Alpharetta, GA. For more information, visit www.agilysys.com.

Our top priority is increasingto increase shareholder value by improving operating and financial performance and profitabilityprofitably growing the business through superior products and services.  To that end, we expect to invest a certain portion of our cash on hand to fund enhancements to existing software products, to develop and market new software products, to fund enhancements to existing software products,and to expand our customer breadth, both vertically and geographically.

Our strategic plan specifically focuses on:

The primary objective of our ongoing strategic planning process is to create shareholder value by exploitingcapitalizing on growth opportunities, turning profitable and strengthening our competitive position within the specific technology solutions and in the end markets

As required by the SEC, we separately present revenue earned as products revenue, support, maintenance and subscription services revenue or professional services revenue in our Condensed Consolidated Statements of Operations. In addition to the SEC requirements, we may, at times, also refer to revenue as defined below. The terminology, definitions, and applications of terms we use to describe our revenue may be different from those used by other companies and caution should be used when comparing these financial measures to those of other companies. We use the following terms to describe revenue:

The following table presents the percentage relationship of our Condensed Consolidated Statement of Operations line items to our consolidated net revenues for the periods presented:

Operating expenses, excluding the charges for asset write-offs and other fair value adjustments, legal settlements, and restructuring, severance and other charges, remained consistentincreased $1.4 million, or 7.4%, during the secondfirst quarter of fiscal 20172018 compared with the secondfirst quarter of fiscal 2016.2017.

  

For the three months ended SeptemberJune 30, 2017, the effective tax rate was different than the statutory rate due primarily to the recognition of net operating losses as deferred tax assets, which were offset by increases in the valuation allowance, certain foreign and state tax effects, and other U.S. permanent book to tax differences.

For the three months ended June 30, 2016, the effective tax rate was different than the statutory rate due primarily to the recognition of net operating losses as deferred tax assets, which were offset by increases in the valuation allowance, certain foreign and state taxes, and other U.S. permanent book to tax differences.

Although the timing and outcome of tax settlements are uncertain, it is reasonably possible that during the next 12 months a reduction in unrecognized tax benefits may occur in the range of zero to $0.1 million of tax and zero to $0.1 million of interest based on the outcome of tax examinations and as a result of the expiration of various statutes of limitations. We are routinely audited; due to the ongoing nature of current examinations in multiple jurisdictions, other changes could occur in the amount of gross unrecognized tax benefits during the next 12 months which cannot be estimated at this time.

We have recorded a valuation allowance offsetting substantially all of our deferred tax assets. The ultimate realization of deferred tax assets depends on the generation of future taxable income during the periods in which those temporary differences are deductible. Because of our losses in prior periods, management believes that it is more-likely-than-not that we will not realize the benefits of these deductible differences. The amount of valuation allowance, however, could be reduced in the near term. The exact timing will be based on the level of profitability we achieve. We expect a full release of the valuation allowance associated with deferred tax assets in Hong Kong. We expect that the release of the valuation allowance will be recorded as an income tax benefit at the time of release increasing our reported net income. Our recorded tax rate may increase in subsequent periods following a valuation allowance release. Any valuation allowance release will not affect the amount of cash paid for income taxes.