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DZS (DZSI)

Filed: 3 May 22, 4:17pm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2022

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from to

000-32743

(Commission File Number)

 

DZS INC.

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

22-3509099

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

 

 

 

5700 Tennyson Parkway, Suite 400

Plano, Texas

 

75024

(Address of principal executive offices)

 

(Zip code)

 

(469) 327-1531

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

 

 

 

Common stock, $0.001 par value

DZSI

The Nasdaq Stock Market LLC

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in rule 12b-2 of the Exchange Act.

 

Large accelerated filer

 

Accelerated filer

Non-accelerated filer

 

Smaller reporting company

 

 

 

Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes☐ No

 

As of April 27, 2022, there were 27,616,165 shares outstanding of the registrant’s common stock, $0.001 par value.

 

 

 

 

 


TABLE OF CONTENTS

 

 

 

Page

PART I. FINANCIAL INFORMATION

 

 

 

Item 1.

Financial Statements

3

 

Unaudited Condensed Consolidated Balance Sheets

3

 

Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss)

4

 

Unaudited Condensed Consolidated Statements of Stockholders' Equity

5

 

Unaudited Condensed Consolidated Statements of Cash Flows

6

 

Notes to Unaudited Condensed Consolidated Financial Statements

7

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

18

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

25

Item 4.

Controls and Procedures

25

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

27

Item 1A.

Risk Factors

27

Item 5.

Other Information

27

Item 6.

Exhibits

27

 

Signatures

29

 

 

 

2


 

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

DZS INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Balance Sheets

(In thousands, except par value)

 

 

 

March 31,
2022

 

 

December 31,
2021

 

Assets

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

Cash and cash equivalents

 

$

34,160

 

 

$

46,666

 

Restricted cash

 

 

6,343

 

 

 

6,808

 

Accounts receivable - trade, net of allowance for doubtful accounts of
     $
17,058 as of March 31, 2022 and $17,735 as of December 31, 2021

 

 

82,607

 

 

 

86,114

 

Other receivables

 

 

9,898

 

 

 

10,621

 

Inventories

 

 

66,459

 

 

 

56,893

 

Contract assets

 

 

902

 

 

 

2,184

 

Prepaid expenses and other current assets

 

 

13,039

 

 

 

5,690

 

Total current assets

 

 

213,408

 

 

 

214,976

 

Property, plant and equipment, net

 

 

10,277

 

 

 

9,842

 

Right-of-use assets from operating leases

 

 

11,751

 

 

 

12,640

 

Goodwill

 

 

6,145

 

 

 

6,145

 

Intangible assets, net

 

 

4,820

 

 

 

5,115

 

Other assets

 

 

9,904

 

 

 

8,950

 

Total assets

 

$

256,305

 

 

$

257,668

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

Accounts payable - trade

 

$

63,774

 

 

$

64,258

 

Contract liabilities

 

 

7,103

 

 

 

6,091

 

Operating lease liabilities

 

 

3,927

 

 

 

4,097

 

Accrued and other liabilities

 

 

16,832

 

 

 

16,032

 

Total current liabilities

 

 

91,636

 

 

 

90,478

 

Long-term debt

 

 

 

 

 

 

Contract liabilities - non-current

 

 

2,881

 

 

 

3,044

 

Operating lease liabilities - non-current

 

 

11,029

 

 

 

12,103

 

Pension liabilities

 

 

16,106

 

 

 

16,527

 

Other long-term liabilities

 

 

3,704

 

 

 

3,609

 

Total liabilities

 

 

125,356

 

 

 

125,761

 

Commitments and contingencies (Note 13)

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

Common stock, 36,000 shares authorized, 27,603 and 27,505 shares issued and outstanding as of March 31, 2022 and December 31, 2021, respectively, at $0.001 par value

 

 

27

 

 

 

27

 

Additional paid-in capital

 

 

226,163

 

 

 

223,336

 

Accumulated other comprehensive loss

 

 

(4,793

)

 

 

(4,457

)

Accumulated deficit

 

 

(90,448

)

 

 

(86,999

)

Total stockholders’ equity

 

 

130,949

 

 

 

131,907

 

Total liabilities and stockholders’ equity

 

$

256,305

 

 

$

257,668

 

See accompanying notes to unaudited condensed consolidated financial statements.

3


 

DZS INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss)

(In thousands, except per share data)

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2022

 

 

2021

 

Net revenue

 

$

77,040

 

 

$

81,031

 

Cost of revenue

 

 

50,215

 

 

 

52,936

 

Gross profit

 

 

26,825

 

 

 

28,095

 

Operating expenses:

 

 

 

 

 

 

Research and product development

 

 

11,844

 

 

 

11,119

 

Selling, marketing, general and administrative

 

 

17,742

 

 

 

31,824

 

Restructuring and other charges

 

 

436

 

 

 

6,252

 

Impairment of long-lived assets

 

 

 

 

 

1,735

 

Amortization of intangible assets

 

 

294

 

 

 

262

 

Total operating expenses

 

 

30,316

 

 

 

51,192

 

Operating loss

 

 

(3,491

)

 

 

(23,097

)

Interest income

 

 

37

 

 

 

42

 

Interest expense

 

 

(127

)

 

 

(249

)

Other income (expense), net

 

 

(800

)

 

 

972

 

Loss before income taxes

 

 

(4,381

)

 

 

(22,332

)

Income tax provision (benefit)

 

 

(1,333

)

 

 

893

 

Net loss

 

 

(3,048

)

 

 

(23,225

)

 

 

 

 

 

 

 

Foreign currency translation adjustments

 

 

(268

)

 

 

(2,270

)

Actuarial loss

 

 

 

 

 

(28

)

Comprehensive loss

 

$

(3,316

)

 

$

(25,523

)

Net loss per share

 

 

 

 

 

 

Basic

 

$

(0.11

)

 

$

(0.92

)

Diluted

 

$

(0.11

)

 

$

(0.92

)

Weighted average shares outstanding

 

 

 

 

 

 

Basic

 

 

27,530

 

 

 

25,252

 

Diluted

 

 

27,530

 

 

 

25,252

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

4


 

DZS INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Statements of Stockholders' Equity

(In thousands)

 

 

 

Common stock

 

 

Additional
paid-in

 

 

Accumulated
other
comprehensive

 

 

Accumulated

 

 

Total
stockholders'

 

 

 

Shares

 

 

Amount

 

 

capital

 

 

loss

 

 

deficit

 

 

equity

 

For the three-months ended
   March 31, 2022:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance as of December 31, 2021

 

 

27,505

 

 

$

27

 

 

$

223,336

 

 

$

(4,457

)

 

$

(86,999

)

 

$

131,907

 

Cumulative effect of ASC 326 adoption

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(401

)

 

 

(401

)

Exercise of stock awards and
   employee stock plan purchases

 

 

98

 

 

 

 

 

 

156

 

 

 

 

 

 

 

 

 

156

 

Stock-based compensation

 

 

 

 

 

 

 

 

2,671

 

 

 

 

 

 

 

 

 

2,671

 

Net income loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(3,048

)

 

 

(3,048

)

Subsidiary dissolution

 

 

 

 

 

 

 

 

 

 

 

(68

)

 

 

 

 

 

(68

)

Other comprehensive loss

 

 

 

 

 

 

 

 

 

 

 

(268

)

 

 

 

 

 

(268

)

Balance as of March 31, 2022

 

 

27,603

 

 

$

27

 

 

$

226,163

 

 

$

(4,793

)

 

$

(90,448

)

 

$

130,949

 

 

For the three-months ended
   March 31, 2021:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance as of December 31, 2020

 

 

21,958

 

 

$

22

 

 

$

147,997

 

 

$

(2,124

)

 

$

(52,316

)

 

$

93,579

 

Issuance of common stock in public
   offering, net of issuance costs

 

 

4,600

 

 

 

5

 

 

 

59,520

 

 

 

 

 

 

 

 

 

59,525

 

Exercise of stock awards and
   employee stock plan purchases

 

 

325

 

 

 

 

 

 

2,569

 

 

 

 

 

 

 

 

 

2,569

 

Stock-based compensation

 

 

 

 

 

 

 

 

1,352

 

 

 

 

 

 

 

 

 

1,352

 

Net income loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(23,225

)

 

 

(23,225

)

Other comprehensive loss

 

 

 

 

 

 

 

 

 

 

 

(2,298

)

 

 

 

 

 

(2,298

)

Balance as of March 31, 2021

 

 

26,883

 

 

$

27

 

 

$

211,438

 

 

$

(4,422

)

 

$

(75,541

)

 

$

131,502

 

See accompanying notes to unaudited condensed consolidated financial statements.

5


 

DZS INC. AND SUBSIDIARIES

Unaudited Condensed Consolidated Statements of Cash Flows

(In thousands)

 

 

 

Three months ended

 

 

 

March 31,

 

 

 

2022

 

 

2021

 

Cash flows from operating activities:

 

 

 

 

 

 

Net loss

 

$

(3,048

)

 

$

(23,225

)

Adjustments to reconcile net income (loss) to net cash
  provided by (used in) operating activities:

 

 

 

 

 

 

Depreciation and amortization

 

 

1,081

 

 

 

1,265

 

Impairment of long-lived assets and non-cash restructuring

 

 

 

 

 

4,443

 

Amortization of deferred financing costs

 

 

 

 

 

12

 

Stock-based compensation

 

 

2,671

 

 

 

1,352

 

Provision for inventory write-down

 

 

705

 

 

 

666

 

Bad debt expense, net of recoveries

 

 

(752

)

 

 

14,228

 

Provision for sales returns

 

 

1,448

 

 

 

239

 

Provision for warranty

 

 

121

 

 

 

269

 

Unrealized loss (gain) on foreign currency transactions

 

 

874

 

 

 

(883

)

Subsidiary dissolution

 

 

(68

)

 

 

 

Deferred taxes

 

 

 

 

 

(134

)

Changes in operating assets and liabilities:

 

 

 

 

 

 

Accounts receivable

 

 

2,761

 

 

 

(846

)

Other receivable

 

 

126

 

 

 

(2,678

)

Inventories

 

 

(10,931

)

 

 

(3,239

)

Contract assets

 

 

1,261

 

 

 

(267

)

Prepaid expenses and other assets

 

 

(7,577

)

 

 

(1,186

)

Accounts payable

 

 

1,586

 

 

 

3,539

 

Contract liabilities

 

 

(1,446

)

 

 

32

 

Accrued and other liabilities

 

 

456

 

 

 

(523

)

Net cash used in operating activities

 

 

(10,732

)

 

 

(6,936

)

Cash flows from investing activities:

 

 

 

 

 

 

Purchases of property, plant and equipment

 

 

(1,317

)

 

 

(1,266

)

Acquisition of business, net of cash acquired

 

 

 

 

 

(4,258

)

Net cash used in investing activities

 

 

(1,317

)

 

 

(5,524

)

Cash flows from financing activities:

 

 

 

 

 

 

Proceeds from issuance of common stock in public offerings, net of issuance costs

 

 

 

 

 

59,525

 

Repayments of short-term borrowings and line of credit

 

 

 

 

 

(11,494

)

Repayments of related party term loan

 

 

 

 

 

(29,298

)

Payments for debt issue costs

 

 

(178

)

 

 

 

Proceeds from exercise of stock awards and employee stock plan purchases

 

 

156

 

 

 

2,569

 

Net cash provided by (used in) financing activities

 

 

(22

)

 

 

21,302

 

Effect of exchange rate changes on cash, cash equivalents and restricted cash

 

 

(903

)

 

 

404

 

Net increase in cash, cash equivalents and restricted cash

 

 

(12,974

)

 

 

9,246

 

Cash, cash equivalents and restricted cash at beginning of period

 

 

53,639

 

 

 

54,587

 

Cash, cash equivalents and restricted cash at end of period

 

$

40,665

 

 

$

63,833

 

 

 

 

 

 

 

 

Reconciliation of cash, cash equivalents and restricted cash to statement of
   financial position

 

 

 

 

 

 

Cash and cash equivalents

 

$

34,160

 

 

$

56,818

 

Restricted cash

 

 

6,343

 

 

 

6,848

 

Long-term restricted cash

 

 

162

 

 

 

167

 

 

 

$

40,665

 

 

$

63,833

 

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

 

Cash paid during the period for:

 

 

 

 

 

 

Interest - bank and trade facilities

 

$

36

 

 

$

83

 

Interest - related party

 

 

 

 

 

94

 

Income taxes

 

$

283

 

 

$

1,206

 

See accompanying notes to unaudited condensed consolidated financial statements.

6


 

Notes to Unaudited Condensed Consolidated Financial Statements

(1) Organization and Summary of Significant Accounting Policies

(a) Description of Business

DZS Inc. (referred to, collectively with its subsidiaries, as “DZS” or the “Company”) is a global provider of leading-edge access, 5G transport, and enterprise communications platforms that enable the emerging hyper-connected, hyper-broadband world. The Company provides a wide array of reliable, cost-effective networking technologies, including broadband access, Ethernet switching, mobile backhaul, Passive Optical LAN and software-defined networks, to a diverse customer base.

DZS was incorporated under the laws of the state of Delaware in June 1999. The Company is headquartered in Plano, Texas with flexible in-house production facilities in Seminole, Florida, and contract manufacturers located in China, India, Korea and Vietnam. The Company also maintains offices to provide sales and customer support at global locations.

(b) Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. GAAP for interim financial information and with the instructions to Form 10-Q and Article 3 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. These financial statements include the accounts of the Company and its wholly owned subsidiaries. These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements of the Company and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021 filed with the Securities and Exchange Commission (“SEC”) on March 9, 2022. For a complete description of what the Company believes to be the critical accounting policies and estimates used in the preparation of its unaudited condensed consolidated financial statements, refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.

All intercompany transactions and balances have been eliminated in consolidation. Certain prior-year amounts have been reclassified to conform to the current-quarter presentation. The unaudited condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) that, in the opinion of management, are necessary for a fair presentation of the results for the interim periods presented. The results of operations for the current interim period are not necessarily indicative of results to be expected for the current year or any other period.

(c) Risks and Uncertainties

The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with U.S. GAAP, assuming the Company will continue as a going concern.

The COVID-19 pandemic continued to adversely affect significant portions of our business and our financial condition and results of operations in the first quarter of 2022. The emergence of the Omicron variant in late 2021 with a resulting increase in COVID cases in early 2022 resulted in re-implementation of various measures, including travel bans and restrictions, limitations on public and private gatherings, business closures or operating restrictions, social distancing, and shelter-in-place orders. The health effects of the pandemic and the above measures taken in response thereto have had an effect on the global economy in general and have materially impacted and will likely continue to impact the Company’s financial condition, results of operations and cash flows. Given the ongoing and dynamic nature of the virus and its variants, and the worldwide response related thereto, it is difficult to predict the full impact of the COVID-19 pandemic on our business.

We have experienced and continue to experience disruptions in our supply chain due to the pandemic, which has also impacted and may adversely impact our operations (including, without limitation, logistical and other operational costs) and the operations of some of our key suppliers. Supply chain pricing, freight and logistics costs, product and component availability, and extended lead-times became a challenge in 2021 and continue into 2022 as the world economy recovers from the COVID-19 pandemic. As we continue to incur elevated costs for components and expedite fees, our supply chain and operations teams continue to focus on managing through a constrained environment, thereby enabling DZS to maximize shipments despite elongated lead times. We remain cautious about continued supply chain headwinds that challenge the industry and anticipate a constrained supply chain environment to persist throughout 2022.

For additional risks to the corporation related to the COVID-19 pandemic, see Item 1A, Risk Factors of our 2021 Form 10-K.

(d) Use of Estimates

The preparation of the unaudited condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited condensed consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates.

7


 

(e) Disaggregation of Revenue

The following table presents revenues by source (in thousands):

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Products

 

$

72,462

 

 

$

76,252

 

Services and other

 

 

4,578

 

 

 

4,779

 

Total

 

$

77,040

 

 

$

81,031

 

The following table present revenues by geographical concentration (in thousands):

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Americas

 

$

23,061

 

 

$

20,169

 

Europe, Middle East, Africa

 

 

18,649

 

 

 

17,918

 

Asia

 

 

35,330

 

 

 

42,944

 

Total

 

$

77,040

 

 

$

81,031

 

 

(f) Concentration of Risk

Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash, cash equivalents and restricted cash, accounts receivables, and contract assets. Cash, cash equivalents and restricted cash consist of financial deposits and money market accounts that are principally held with various domestic and international financial institutions with high credit standing.

The Company’s customers include competitive and incumbent local exchange carriers, competitive access providers, internet service providers, wireless carriers and resellers serving these markets. The Company performs ongoing credit evaluations of its customers and generally does not require collateral. Allowances are maintained for potential doubtful accounts based upon the expected collectability of accounts receivable using historical loss rates adjusted for customer-specific factors and current economic conditions. The Company performs periodic assessments of its customers’ liquidity and financial condition through analysis of information obtained from credit rating agencies, financial statement review and historical and current collection trends.

Activity under the Company’s allowance for doubtful accounts is comprised as follows (in thousands):

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Balance at beginning of period

 

$

17,735

 

 

$

3,954

 

Charged to expense, net of recoveries

 

 

(752

)

 

 

14,228

 

Utilization/write offs/exchange rate differences

 

 

 

 

 

(94

)

Cumulative effect of ASC 326 adoption

 

 

401

 

 

 

 

Foreign exchange impact

 

 

(326

)

 

 

(148

)

Balance at end of period

 

$

17,058

 

 

$

17,940

 

For the three months ended March 31, 2022, 2 customers accounted for 13% and 12% of net revenue, respectively. For the three months ended March 31, 2021, 2 customers accounted for 18% and 10% of net revenue, respectively.

As of March 31, 2022, 0 customers represented more than 10% of net accounts receivable. As of December 31, 2021, 2 customers represented 26% and 10% of net accounts receivable, respectively.

As of March 31, 2022, and December 31, 2021, net accounts receivables from customers in countries other than the United States represented 77% and 79%, respectively.

In 2017, the Company entered into an agreement with a customer in India to supply product for a state sponsored broadband project. The Company substantially completed its obligations under the agreement in 2018. The Company billed the customer, which is a state government sponsored entity, approximately $59.0 million and collected payments of approximately $41.7 million by December 31, 2020. In late March 2021, the customer’s state government parent experienced difficulty passing a budget impacting the ability of the customer to make remaining agreed-upon payments to us. In light of this development, the Company recorded an allowance that covered the entire balance unpaid by the customer. Subsequent to March 2021, the Company recovered approximately $1.9 million of accounts receivable related to the customer. As of March 31, 2022 the Company has a recorded allowance for doubtful accounts of $14.8 million related to this receivable. The Company will continue to pursue collection of the entire outstanding balance and any amounts collected will be recognized in the period which they are received. In the event the Company’s efforts to collect from this customer prove unsuccessful, DZS may seek payment through other means, including through legal action.

8


 

 

(g) Business Combinations

The Company allocates the fair value of purchase consideration to the tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the fair value of purchase consideration over the fair values of these identifiable assets and liabilities is recorded as goodwill. When determining the fair values of assets acquired and liabilities assumed, management makes significant estimates and assumptions, especially with respect to intangible assets and certain tangible assets such as inventory.

Critical estimates in valuing certain tangible and intangible assets include but are not limited to future expected cash flows from the underlying assets and discount rates. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates.

Assets acquired and liabilities assumed are generally measured at their acquisition-date fair values. If the initial accounting for a business combination is incomplete by the end of the reporting period in which the combination occurs, the Company reports provisional amounts for the items for which the accounting is incomplete. Those provisional amounts are adjusted during the measurement period (which cannot exceed one year from the acquisition date), or additional assets or liabilities are recognized, to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the amounts recognized as of that date.

When the consideration transferred by the Company in a business combination includes a contingent consideration arrangement, the contingent consideration is measured at its acquisition-date fair value and included as part of the total consideration transferred in a business combination. Changes in fair value of the contingent consideration that qualify as measurement period adjustments are made retrospectively, with corresponding adjustments against goodwill. Changes in the fair value of the contingent consideration that do not qualify as measurement period adjustments are made in the current period, with corresponding adjustments recognized in earnings.

(h) Restructuring and Other Charges

Restructuring and other charges primarily consists of severance and other termination benefits and non-cash impairment charges related to right-of-use assets from operating leases related to the restructuring activities in Hanover, Germany and Ottawa, Canada. The Company recognizes contractual termination benefits when it is probable that employees will be entitled to benefits and the amount can be reasonably estimated. The Company recognizes one-time employee termination benefits when (i) management commits to a plan of termination, (ii) the plan identifies the number of employees to be terminated, their job classifications or functions and their locations, and the expected completion date, (iii) the plan establishes the terms of the benefit arrangement in sufficient detail to enable employees to determine the type and amount of benefits they will receive, and (iv) actions required to complete the plan indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn. These charges are included in restructuring and other charges in the unaudited condensed consolidated statement of comprehensive income (loss).

(i) Recent Accounting Pronouncements

In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires the Company to measure and recognize expected credit losses for financial assets held and not accounted for at fair value through net income. In November 2018, April 2019 and May 2019, the FASB issued ASU No. 2018-19, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, ASU No. 2019-04, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, and ASU No. 2019-05, Financial Instruments - Credit Losses (Topic 326): Targeted Transition Relief, which provided additional implementation guidance on the previously issued ASU. The Company adopted the updated guidance on January 1, 2022, utilizing the modified retrospective transition method and recorded a cumulative-effect adjustment of $0.4 million to retained earnings.

In March 2020, the FASB issued ASU No. 2020-04 (Topic 848), Reference Rate Reform - Facilitation of the Effects of Reference Rate Reform on Financial Reporting, which provides temporary optional expedients and exceptions to the existing guidance on contract modifications and hedge accounting to ease the financial reporting burdens related to the expected market transition from the London Interbank Offered Rate (LIBOR) and other interbank offered rates to alternative reference rates, such as the Secured Overnight Financing Rate. The standard was effective upon issuance and may generally be applied through December 31, 2022, to any new or amended contracts, hedging relationships, and other transactions that reference LIBOR. The ASU is not expected to have a material impact on our consolidated financial statements.

9


 

(2) Business Combinations

Optelian Acquisition

On February 5, 2021, the Company acquired Optelian Access Networks Corporation (“Optelian”), a corporation incorporated under the laws of Canada and registered extra-provincially in the Province of Ontario, pursuant to an acquisition agreement whereby the Company purchased all the outstanding shares of Optelian (the “Optelian Acquisition”). Following the closing of the Optelian Acquisition, Optelian became the Company’s wholly owned subsidiary.

Optelian was a leading optical networking solution provider. This acquisition introduced the “O-Series” to the DZS portfolio of carrier grade optical networking products with 100 gigabits per second (Gig) and above capability, expanding the DZS product portfolio by providing environmentally hardened, high capacity, and flexible solutions at the network edge.

The purchase price of $7.5 million included cash paid to the shareholders and option holders of Optelian, cash paid to retire Optelian's outstanding debt on the date of acquisition, and contingent payments to shareholders.

The payment to shareholders and option holders includes a $0.3 million holdback and $1.9 million contingent consideration based on a certain percentage of future revenue of certain Optelian products through the end of 2023. We completed the purchase price allocation for Optelian acquisition in 2021. The purchase price allocation resulted in the recognition of goodwill of approximately $1.9 million, which primarily related to the expected synergies from combining operations.

RIFT Acquisition

On March 3, 2021, the Company acquired substantially all of the assets of RIFT, Inc., a network automation solutions company, and all the outstanding shares of RIFT.IO India Private Limited, a wholly owned subsidiary of RIFT, Inc. (collectively “RIFT”). RIFT developed a carrier-grade RIFT.ware software platform that simplifies the deployment of any slice, service, or application on any cloud. The total purchase consideration was $0.5 million, including a $0.2 million holdback that was released in April of 2021 following the fulfillment of certain requirements in the purchase agreement. We completed the purchase price allocation for RIFT acquisition in 2021. The purchase price allocation resulted in the recognition of goodwill of approximately $0.2 million, which primarily related to the expected synergies from combining operations.

(3) Fair Value Measurement

The Company utilizes a fair value hierarchy that is intended to increase consistency and comparability in fair value measurements and related disclosures. The fair value hierarchy is based on inputs to valuation techniques that are used to measure fair value that are either observable or unobservable. Observable inputs reflect assumptions market participants would use in pricing an asset or liability based on market data obtained from independent sources while unobservable inputs reflect a reporting entity’s pricing based upon their own market assumptions. The fair value hierarchy consists of the following three levels:

 

Level 1

 

Inputs are quoted prices in active markets for identical assets or liabilities.

 

 

 

Level 2

 

Inputs are quoted prices for similar assets or liabilities in an active market, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable and market-corroborated inputs which are derived principally from or corroborated by observable market data.

 

 

 

Level 3

 

Inputs are derived from valuation techniques in which one or more significant inputs or value drivers are unobservable

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis:

The carrying values of financial instruments such as cash and cash equivalents, restricted cash, accounts and other receivables, accounts payable and accrued liabilities approximate their fair values based on their short-term nature.

The Company classifies its contingent liability from Optelian acquisition within Level 3 as it includes inputs not observable in the market. The Company estimates the fair value of contingent consideration as the present value of the expected contingent payments, determined using the revenue forecast for certain Optelian products through the end of 2023. The fair value of contingent liability is generally sensitive to changes in the revenue forecast. As of March 31, 2022 and December 31, 2021, the Company’s Level 3 contingent liability was $2.2 million and $2.1 million, respectively. During the three months ended March 31, 2022, the Company recorded $0.1 million expense related to the change in fair value of the Company’s contingent liability. The change in fair value is included in selling, marketing, general and administrative expenses on the unaudited condensed consolidated statement of comprehensive income (loss).

10


 

(4) Cash, Cash Equivalents and Restricted Cash

As of March 31, 2022 and December 31, 2021, the Company's cash, cash equivalents and restricted cash consisted of financial deposits. Cash, cash equivalents and restricted cash held within the U.S. totaled $8.7 million and $22.3 million as of March 31, 2022 and December 31, 2021, respectively. Cash, cash equivalents and restricted cash held within the U.S. are held at FDIC insured depository institutions. Cash, cash equivalents and restricted cash held outside the U.S. totaled $32.0 million and $31.3 million as of March 31, 2022 and December 31, 2021, respectively. Restricted cash consisted primarily of cash collateral for performance bonds and warranty bonds. Long-term restricted cash was $0.2 million as of March 31, 2022 and December 31, 2021 and is included in other assets on the unaudited condensed consolidated balance sheets.

(5) Balance Sheet Details

Balance sheet detail as of March 31, 2022 and December 31, 2021 is as follows (in thousands):

Inventories

 

 

March 31, 2022

 

 

December 31, 2021

 

Raw materials

 

$

45,527

 

 

$

34,512

 

Work in process

 

 

1,216

 

 

 

1,427

 

Finished goods

 

 

19,716

 

 

 

20,954

 

Total inventories

 

$

66,459

 

 

$

56,893

 

Inventories are stated at the lower of cost or net realizable value, with cost being computed based on an adjusted standard basis, which approximates actual cost on an average or first-in, first-out basis.

Property, plant and equipment

 

 

March 31, 2022

 

 

December 31, 2021

 

Property, plant and equipment, net:

 

 

 

 

 

 

Machinery and equipment

 

$

17,090

 

 

$

14,278

 

Leasehold improvements

 

 

5,251

 

 

 

5,219

 

Computers and software

 

 

3,278

 

 

 

3,217

 

Furniture and fixtures

 

 

1,726

 

 

 

1,771

 

Construction in progress and other

 

 

1,052

 

 

 

2,937

 

 

 

 

28,397

 

 

 

27,422

 

Less: accumulated depreciation and amortization

 

 

(17,971

)

 

 

(17,394

)

Less: government grants

 

 

(149

)

 

 

(186

)

Total property, plant and equipment, net

 

$

10,277

 

 

$

9,842

 

Depreciation expense associated with property, plant and equipment was $0.8 million and $0.9 million for the three months ended March 31, 2022 and 2021, respectively.

The Company receives grants from certain foreign government entities mainly to support capital expenditures in the region. Such grants are deferred and are generally refundable to the extent the Company does not utilize the funds for qualifying expenditures. Once earned, the Company records the grants as a contra amount to the assets and amortizes such amount over the useful lives of the related assets as a reduction to depreciation expense.

Warranties

The Company accrues warranty costs based on historical trends for the expected material and labor costs to provide warranty services. The Company's standard warranty period is one year from the date of shipment with the ability for customers to purchase an extended warranty of up to five years from the date of shipment. The following table summarizes the activity related to the product warranty liability:

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Balance at beginning of period

 

$

1,981

 

 

$

1,522

 

Charged to cost of revenue

 

 

121

 

 

 

269

 

Claims and settlements

 

 

(149

)

 

 

(267

)

Foreign exchange impact

 

 

(17

)

 

 

56

 

Balance at end of period

 

$

1,936

 

 

$

1,580

 

 

11


 

Contract Balances

The Company records contract assets when it has a right to consideration and records accounts receivable when it has an unconditional right to consideration. Contract liabilities consist of cash payments received (or unconditional rights to receive cash) in advance of fulfilling performance obligations. The majority of the Company's performance obligations in its contracts with customers relate to contracts with duration of less than one year.

The opening and closing balances of current and long-term contract assets and contract liabilities related to contracts with customers are as follows:

 

 

Contract
assets

 

 

Contract
liabilities

 

December 31, 2021

 

$

2,184

 

 

$

9,135

 

March 31, 2022

 

 

902

 

 

 

9,984

 

Increase (decrease)

 

$

(1,282

)

 

$

849

 

The decrease in contract assets during the three months ended March 31, 2022 was primarily due to invoicing that occurred in 2022 from unbilled balances reflected as contract assets as of December 31, 2021.

The increase in contract liabilities during the three months ended March 31, 2022 was primarily due to amounts being invoiced for certain customers that have not yet met the revenue recognition criteria. The amount of revenue recognized in the three months ended March 31, 2022 that was included in the prior period contract liability balance was $2.4 million. This revenue consists of services provided to customers who had been invoiced prior to the current year. We expect to recognize approximately 71% of outstanding contract liabilities as revenue over the next 12 months and the remainder thereafter.

The balance of contract cost deferred as of March 31, 2022 and December 31, 2021 was $0.6 million and $0.8 million, respectively. During the three months ended March 31, 2022, the Company recorded $0.2 million in amortization related to contract cost deferred as of December 31, 2021.

(6) Goodwill and Intangible Assets

The following table summarizes the activity related to goodwill (in thousands):

 

 

March 31,

 

 

 

2022

 

 

2021

 

Balance at beginning of period, gross

 

$

7,148

 

 

$

4,980

 

Accumulated impairment at beginning of period

 

 

(1,003

)

 

 

(1,003

)

Goodwill from acquisitions

 

 

 

 

 

1,698

 

Balance at end of period

 

$

6,145

 

 

$

5,675

 

Intangible assets consisted of the following (in thousands):

 

 

March 31, 2022

 

 

 

Gross Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net

 

Developed technology

 

$

5,007

 

 

$

(3,559

)

 

$

1,448

 

Customer relationships

 

 

5,730

 

 

 

(3,041

)

 

 

2,689

 

In-process research and development

 

 

890

 

 

 

(207

)

 

 

683

 

Total intangible assets, net

 

$

11,627

 

 

$

(6,807

)

 

$

4,820

 

 

 

 

December 31, 2021

 

 

 

Gross Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net

 

Developed technology

 

$

5,007

 

 

$

(3,464

)

 

$

1,543

 

Customer relationships

 

 

5,730

 

 

 

(2,886

)

 

 

2,844

 

In-process research and development

 

 

890

 

 

 

(162

)

 

 

728

 

Total intangible assets, net

 

$

11,627

 

 

$

(6,512

)

 

$

5,115

 

 

12


 

Amortization expense associated with intangible assets for the three months ended March 31, 2022 and 2021 was $0.3 million and $0.4 million, respectively.

The following table presents the future amortization expense of the Company’s intangible assets as of March 31, 2022 (in thousands):

Remainder of 2022

 

$

883

 

2023

 

 

1,177

 

2024

 

 

1,177

 

2025

 

 

1,177

 

2026

 

 

406

 

Total

 

$

4,820

 

 

(7) Debt

The Company had 0 debt obligations as of March 31, 2022 and December 31, 2021. During the first half of 2021, the Company paid off the outstanding balance of debt with related parties, foreign banks and other lending institutions. The Company has no contractual principal payments due in the next five years.

Bank and Trade Facilities - Foreign Operations

During prior periods, certain of the Company's foreign subsidiaries entered into financing arrangements with foreign banks and other lending institutions consisting primarily of revolving lines of credit, trade facilities, term loans and export development loans. During 2021, the Company paid the entire outstanding balance under such financing arrangements.

Related Party Debt

During prior periods, certain of the Company's subsidiaries entered into term loan arrangements with DASAN Networks, Inc. (“DNI”), a related party as discussed in Note 10. During 2021, the entire outstanding balance on these term loans was repaid.

JPMorgan Credit Facility

On February 9, 2022, the Company entered into a Credit Agreement with the Company, as borrower, certain subsidiaries of the Company, as guarantors, the lenders party thereto and JPMorgan Chase Bank, N.A., as administrative agent. The Credit Agreement provides for revolving loans in an aggregate principal amount of up to $30 million, up to $15 million of which is available for letters of credit. The Credit Agreement matures on February 9, 2024. The maximum amount that the Company can borrow under the Credit Agreement is subject to a borrowing base, which is based on a percentage of eligible accounts receivable and eligible inventory, subject to reserves and other adjustments, plus $10 million.

Loans under the Credit Agreement bear interest at the Company’s option at (i) the prime rate plus 2.00%, (ii) the adjusted term SOFR rate plus 2.90% or (iii) the adjusted daily simple SOFR rate plus 2.90%. The Company pays a per annum fee of 2.90% on all letters of credit issued under the Credit Agreement, and a commitment fee of 0.25% per annum on the unused revolving credit availability under the Credit Agreement.

As of March 31, 2022, there was 0 amount outstanding under the revolving credit facility. The Company was in compliance with all debt covenants as of March 31, 2022.

(8) Employee Benefit Plans

Defined Contribution Plans

The Company maintains a 401(k) plan for its employees in the US whereby eligible employees may contribute up to a specified percentage of their earnings, on a pretax basis, subject to the maximum amount permitted by the Internal Revenue Code. Under the 401(k) plan, the Company made discretionary contributions to the plan in 2021. For the three months ended March 31, 2022 and 2021, the Company recorded an expense of $0.2 million and $0.1 million, respectively.

The Company maintains a defined contribution plan for its employees in Korea. Under the defined contribution plan, the Company contributes the equivalent of 8.3% of an employee's gross salary into the plan. For the three months ended March 31, 2022 and 2021, the Company recorded an expense of $0.3 million.

13


 

Defined Benefit Plans

The Company sponsors defined benefit plans for its employees in Germany and Japan. Defined benefit plans provide pension benefits based on compensation and years of service. The Germany plans were frozen as of September 30, 2003 and have not been offered to new employees after that date. The Company has recorded the underfunded status as of March 31, 2022 and December 31, 2021 as a long-term liability on the unaudited condensed consolidated balance sheets. The accumulated benefit obligation for the plans in Germany and Japan was $16.1 million and $16.5 million as of March 31, 2022 and December 31, 2021, respectively. Periodic benefit costs for the three months ended March 31, 2022 and 2021 were $0.1 million.

The Company holds life insurance contracts, with the Company as beneficiary, in the amount of $2.8 million as of March 31, 2022 and $2.9 million as of December 31, 2021, respectively, related to individuals under the pension plans. The Company records these insurance contracts based on their cash surrender value at the balance sheet dates. These insurance contracts are classified as other assets on the Company’s unaudited condensed consolidated balance sheet. The Company intends to use any proceeds from these policies to fund the pension plans. However, since the Company is the beneficiary on these policies, these assets have not been designated pension plan assets.

(9) Restructuring and Other Charges

In 2021, the Company made the strategic decision to relocate manufacturing functions of DZS GmbH and Optelian to Seminole, Florida and to transition the above subsidiaries to sales and research and development centers. The Company incurred approximately $12.7 million of restructuring and other charges since the beginning of its restructuring activities in the first quarter of 2021. For the three months ended March 31, 2022, the Company recorded $0.4 million of restructuring related costs, consisting primarily of logistics costs and professional services related to legal and accounting support. For the three months ended March 31, 2021, the Company recorded $6.3 million of restructuring related costs, consisting primarily of severance and other termination related benefits of $3.5 million, an impairment of long-lived assets charge of $2.7 million primarily related to right-of-use assets from operating leases, and $0.1 million of other charges. The Company paid in full its liability related to termination benefits as of March 31, 2022.

(10) Related Party Transactions

Related Party Debt and Guarantees

The following table sets forth payment guarantees of the Company's obligations as of March 31, 2022 that have been provided by DNI. DNI owns approximately 36.6% of the outstanding shares of the Company's common stock. The amount guaranteed exceeds the principal amounts of outstanding obligations due to collateral requirements by the banks.

Guarantor

 

Amount Guaranteed
(in thousands)

 

 

Description of Obligations Guaranteed

Dasan Networks, Inc.

 

$

4,375

 

 

Payment guarantee to Industrial Bank of Korea

Dasan Networks, Inc.

 

 

1,486

 

 

Payment guarantee to Shinhan Bank

 

 

$

5,861

 

 

 

Other Related Party Transactions

Sales, cost of revenue, research and product development, selling, marketing, general and administrative, interest expense and other expenses to and from related parties were as follows (in thousands) for the three months ended March 31, 2022 and 2021:

 

 

 

Three Months Ended March 31, 2022

 

Counterparty

 

Sales

 

 

Cost of
revenue

 

 

Research
and product
development

 

 

Selling,
marketing,
general and
administrative

 

 

Interest
expense

 

 

Other
expenses

 

Dasan Networks, Inc.

 

$

198

 

 

$

177

 

 

$

90

 

 

$

317

 

 

 

 

 

$

17

 

DS Commerce, Inc.

 

 

 

 

 

11

 

 

 

1

 

 

 

11

 

 

 

 

 

 

 

 

 

$

198

 

 

$

188

 

 

$

91

 

 

$

328

 

 

$

 

 

$

17

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended March 31, 2021

 

Counterparty

 

Sales

 

 

Cost of
revenue

 

 

Research
and product
development

 

 

Selling,
marketing,
general and
administrative

 

 

Interest
expense

 

 

Other
expenses

 

Dasan Networks, Inc.

 

$

1,770

 

 

$

1,655

 

 

$

261

 

 

$

402

 

 

$

132

 

 

$

85

 

Dasan Invest Co., Ltd.

 

 

 

 

 

10

 

 

 

46

 

 

 

18

 

 

 

 

 

 

 

 

 

$

1,770

 

 

$

1,665

 

 

$

307

 

 

$

420

 

 

$

132

 

 

$

85

 

 

14


 

 

The Company has entered into sales agreements with DNI to sell certain services and finished goods produced by the Company. The Company also has an agreement with DNI in which DNI acts as a sales channel to third party customers. The above transactions are included in sales and cost of revenue on the unaudited condensed consolidated statement of comprehensive income (loss). Sales to DNI are recorded net of royalty fees for a sales channel arrangement.

DNS Korea had two separate lease agreements with DNI related to the lease of office space and warehouse facilities. In the first quarter of 2022, DNI sold the above facilities to the unrelated third party, and the respective leases were reassigned to the new landlord. Operating lease cost related to the DNI leases totaled $0.2 million and $0.5 million for three months ended March 31, 2022 and 2021, respectively. Operating lease expense is allocated between cost of revenue, research and product development, and selling, marketing, general and administrative expenses on the unaudited condensed consolidated statement of comprehensive income (loss). Deposits for the DNI leases were included in other assets on the consolidated balance sheets as of December 31, 2021.

DNS Korea had an agreement with Dasan Invest Co., Ltd. to provide IT services for the Company. The agreement was terminated in the fourth quarter of 2021 and the new agreement was signed with DS Commerce, Inc. Both entities have an affiliation with DZS board members. The expense related to the above IT services is allocated between cost of revenue, research and product development, and selling, marketing, general and administrative expenses on the unaudited condensed consolidated statement of comprehensive income (loss).

Interest expense represents interest paid to DNI for the related party debt. Refer to Note 7 Debt for further information.

Other expenses represent charges from DNI for its payment guarantees relating to the Company's borrowings. The Company pays DNI a guarantee fee which is calculated as 0.9% of the guaranteed amount. Refer to the table above for further information about obligations guaranteed by DNI.

Balances of Receivables and Payables with Related Parties

Balances of receivables and payables arising from sales and purchases of goods and services with related parties as of March 31, 2022 and December 31, 2021 were included in the following balance sheet captions on the unaudited condensed consolidated balance sheets, as follows (in thousands):

 

 

As of March 31, 2022

 

Counterparty

 

Account
receivables

 

 

Other
receivables

 

 

Other assets

 

 

Accounts
payable

 

Dasan Networks, Inc.

 

$

207

 

 

$

368

 

 

$

 

 

$

202

 

DS Commerce, Inc.

 

 

 

 

 

 

 

 

 

 

 

25

 

 

 

$

207

 

 

$

368

 

 

$

 

 

$

227

 

 

 

 

As of December 31, 2021

 

Counterparty

 

Account
receivables

 

 

Other
receivables

 

 

Other assets

 

 

Accounts
payable

 

Dasan Networks, Inc.

 

$

181

 

 

$

215

 

 

$

691

 

 

$

785

 

DS Commerce, Inc.

 

 

 

 

 

 

 

 

 

 

 

46

 

 

 

$

181

 

 

$

215

 

 

$

691

 

 

$

831

 

 

(11) Net Income (Loss) Per Share

Basic net income (loss) per share is computed by dividing the net income (loss) for the period by the weighted average number of shares of common stock outstanding during the period. The calculation of diluted net income (loss) per share gives effect to common stock equivalents; however, potential common stock equivalents are excluded if their effect is antidilutive. Potential common stock equivalents are composed of incremental shares of common stock issuable upon the exercise of stock options and the vesting of restricted stock units. In periods when a net loss is reported, all common stock equivalents are excluded from the calculation because they would have an anti-dilutive effect, meaning the loss per share would be reduced. Therefore, in periods when a loss is reported, basic and dilutive loss per share are the same.

15


 

The following table is a reconciliation of the numerator and denominator in the basic and diluted net income (loss) per share calculation (in thousands, except per share data) for the three months ended March 31, 2022 and 2021:

 

 

Three months ended March 31

 

 

 

2022

 

 

2021

 

Net income (loss)

 

$

(3,048

)

 

$

(23,225

)

Weighted average number of shares outstanding:

 

 

 

 

 

 

Basic

 

 

27,530

 

 

 

25,252

 

Effect of dilutive securities:

 

 

 

 

 

 

Stock options, restricted stock units and share awards

 

 

 

 

 

 

Diluted

 

$

27,530

 

 

$

25,252

 

Net income (loss) per share:

 

 

 

 

 

 

Basic

 

$

(0.11

)

 

$

(0.92

)

Diluted

 

$

(0.11

)

 

$

(0.92

)

The following table sets forth potential common stock that is not included in the diluted net income (loss) per share calculation above because their effect would be anti-dilutive for the periods indicated (in thousands):

 

 

 

Three months ended March 31,

 

 

 

2022

 

 

2021

 

Outstanding stock options

 

 

939

 

 

 

628

 

Unvested restricted stock units

 

 

278

 

 

 

197

 

 

(12) Leases

The Company leases certain properties and buildings (including manufacturing facilities, warehouses, and office spaces) and equipment under various arrangements which provide the right to use the underlying asset and require lease payments for the lease term. The Company’s lease portfolio consists of operating leases which expire at various dates through 2028.

Assets and liabilities related to operating leases are included in the consolidated balance sheets as right-of-use assets from operating leases, operating lease liabilities - current and operating lease liabilities - non-current. The Company recognizes minimum rental expense on a straight-line basis based on the fixed components of a lease arrangement. The Company amortizes this expense over the term of the lease beginning with the date of initial possession, which is the date the lessor makes an underlying asset available for use. For the three months ended March 31, 2022 and 2021, the Company recognized lease expense of $1.2 million and $1.6 million, respectively.

The following table presents the maturity of the Company’s operating lease liabilities as of March 31, 2022 (in thousands):

Remainder of 2022

 

$

3,572

 

2023

 

 

4,380

 

2024

 

 

3,825

 

2025

 

 

2,550

 

2026

 

 

1,666

 

Thereafter

 

 

830

 

Total operating lease payments

 

 

16,823

 

Less: imputed interest

 

 

(1,867

)

Total operating lease liabilities

 

$

14,956

 

 

(13) Commitments and Contingencies

Performance Bonds

In the normal course of operations, from time to time, the Company arranges for the issuance of various types of performance bonds, such as performance, warranty, and bid bonds, in the form of bank guarantees or surety bonds. These instruments are arrangements under which the financial institution or surety provides a financial guarantee that the Company will perform in accordance with contractual or legal obligations. As of March 31, 2022, the Company had $8.0 million of performance bonds in the form of bank guarantees or surety bonds guaranteed by third parties.

Trade Compliance Matter

During the first quarter of 2022, the Company received a notice letter from the Office of the Commissioner of Customs of the India Department of Revenue (the “Notice”) claiming the Company had mis-declared and wrongly classified certain products

16


 

imported to India by the Company at the time of clearance of customs. The Notice claims that due to such mis-declaration and wrong classification of the imported products, the Company and its contract manufacturer in India underpaid duties approximating $3.9 million related to such products. The Company intends to vigorously defend itself in this matter. As we have not yet received the full contents of the Notice, we are unable to estimate a potential loss related to this matter, if any, which could range up to the full amount of the unpaid duties, plus penalties and interest.

In addition to the Notice discussed above, from time to time, the Company is subject to various legal proceedings, claims and litigation arising in the ordinary course of business. While the outcome of these matters is currently not determinable, the Company records an accrual for legal contingencies that it has determined to be probable to the extent that the amount of the loss can be reasonably estimated. The Company does not expect that the ultimate costs to resolve these matters will have a material adverse effect on its consolidated financial position, results of operations or cash flows. However, litigation is subject to inherent uncertainties, and unfavorable rulings could occur. If an unfavorable ruling were to occur, there exists the possibility of a material adverse impact on the results of operations and cash flows of the reporting period in which the ruling occurs, or future periods.

(14) Income Taxes

Income tax benefit for the three months ended March 31, 2022 was approximately $1.3 million on pre-tax loss of $4.4 million. Income tax expense for the three months ended March 31, 2021 was approximately $0.9 million on pre-tax loss of $22.3 million.

As of March 31, 2022, the income tax rate varied from the United States statutory income tax rate primarily due to valuation allowances in North America, EMEA and Asia, as well as foreign and state income tax rate differentials.

The total amount of unrecognized tax benefits, including interest and penalties, as of March 31, 2022 was $4.2 million. There were 0 significant changes to unrecognized tax benefits during the three months ended March 31, 2022. The Company does not anticipate any significant changes with respect to unrecognized tax benefits within the next twelve months.

(15) Enterprise-Wide Information

The Company is a global provider of ultra-broadband network access solutions and communications platforms deployed by advanced Tier 1, national and regional service providers and enterprise customers. There are no segment managers who are held accountable for operations, operating results and plans for levels or components below the Company unit level. Accordingly, the Company is considered to be in a single operating segment. The Company’s chief operating decision maker is the Company’s Chief Executive Officer, who reviews financial information presented on a consolidated basis accompanied with disaggregated revenues by geographic region for purposes of making operating decisions and assessing financial performance.

The Company attributes revenue from customers to individual countries based on location shipped. Refer to Note 1(e) Disaggregation of Revenue for the required disclosures on geographical concentrations and revenues by source.

The Company's property, plant and equipment, net of accumulated depreciation, were located in the following geographical areas (in thousands) as of March 31, 2022 and December 31, 2021:

 

 

March 31, 2022

 

 

December 31, 2021

 

United States

 

$

6,826

 

 

$

6,105

 

Korea

 

 

2,169

 

 

 

2,367

 

Japan

 

 

736

 

 

 

799

 

Canada

 

 

270

 

 

 

280

 

Germany

 

 

185

 

 

 

210

 

Other

 

 

91

 

 

 

81

 

 

 

$

10,277

 

 

$

9,842

 

 

(16) Subsequent Events

On April 29, 2022, the Company entered an Asset Purchase Agreement to acquire certain assets and liabilities of Adaptive Spectrum and Signal Alignment, Incorporated (“ASSIA”) a software quality-of-experience innovator. These assets include the CloudCheck® Wi-Fi experience management and Expresse® access network optimization software platforms and the acquisition will expand DZS’ footprint into approximately 50 service providers including many Tier I marquee operators in North America, Europe and Asia. The transaction is expected to close in the second quarter of 2022, subject to satisfaction of closing conditions, including receipt of ASSIA shareholder approval.

17


 

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

As used in this Quarterly Report on Form 10-Q, unless the context suggests otherwise, the terms “DZS,” the “Company” “we,” “our” and “us” refer to DZS Inc. and its subsidiaries.

Forward-Looking Statements

This Quarterly Report on Form 10-Q, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933 (the “Securities Act”) and the Securities Exchange Act of 1934 (the “Exchange Act”). These statements are based on current expectations, estimates, forecasts, and projections about the industries in which we operate, and reflect the beliefs and assumptions of our management as of the date hereof.

We use words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “forecast,” “goal,” “intend,” “may,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would,” variations of such words, and similar expressions to identify forward-looking statements. In addition, statements that refer to projections of earnings, revenue, costs or other financial items in future periods; anticipated growth and trends in our business, industry or key markets; cost synergies, growth opportunities and other potential financial and operating benefits of our acquisitions; future growth and revenues from our products; our ability to access capital to fund our future operations; future economic conditions and performance; the impact of the global outbreak of COVID-19, also known as the coronavirus; the impact of interest rate and foreign currency fluctuations; anticipated performance of products or services; competition; plans, objectives and strategies for future operations, including our pursuit or strategic acquisitions and our continued investment in research and development; other characterizations of future events or circumstances; and all other statements that are not statements of historical fact, are forward-looking statements within the meaning of the Securities Act and the Exchange Act. Although we believe that the assumptions underlying the forward-looking statements are reasonable, we can give no assurance that our expectations will be attained. Readers are cautioned not to place undue reliance on such forward-looking statements, which are being made as of the date of this Quarterly Report on Form 10-Q. Except as required by law, we undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

Factors which could have a material adverse effect on our operations and future prospects or which could cause actual results to differ materially from our expectations include factors discussed in Part I, Item 1A “Risk Factors” of our Annual Report on Form 10-K, as well as factors described from time to time in our future reports filed with the U.S. Securities and Exchange Commission (the “SEC”).

OVERVIEW

We are a global provider of leading-edge access, 5G transport, and enterprise communications platforms that enable the emerging hyper-connected, hyper-broadband world. We provide a wide array of reliable, cost-effective networking technologies, including broadband access, Ethernet switching, mobile backhaul, Passive Optical LAN and software-defined networks, to a diverse customer base.

We research, develop, test, sell, manufacture and support platforms in the areas of mobile transport and fixed broadband access, as discussed below. We have extensive regional development and support centers around the world to support our customer needs.

Our solutions and platforms portfolio include products in Broadband Connectivity, Connected Home & Business, Mobile & Optical Edge, and Cloud Software.

Broadband Connectivity. Our DZS Velocity portfolio offers a variety of solutions for carriers and service providers to connect residential and business customers, either using high-speed fiber or leveraging their existing deployed copper networks to offer broadband services to customer premises. Once our broadband access products are deployed, the service provider can offer voice, high-definition and ultra-high-definition video, highspeed internet access and business class services to their customers. In addition, the switching and routing products we provide in this space offer a high-performance and manageable solution that bridges the gap from carrier access technologies to the core network. XCelerate by DZS increases the velocity with which service providers can leap to multi-gigabit services at scale by enabling rapid transition from Gigabit Ethernet Passive Optical Network (“GPON”) to 10 Gigabit Symmetrical Passive Optical Network (“XGS-PON”) and Gigabit Ethernet to 10 Gigabit Ethernet via any service port across a range of existing DZS Velocity chassis and 10 gig optimized stackable fixed form factor units.
Connected Home & Business. Our DZS Helix connected premises product portfolio offer a large collection of smart gateway platforms for any fiber to the “x” (“FTTx”) deployment. DZS Smart Gateway platforms are designed for high bandwidth services being deployed to the home or business. Our connected premises portfolio

18


 

consists of indoor/outdoor optical network terminal (“ONT”) gateways delivering best-in-class data throughout to support the most demanding FTTx applications. The product feature set gives service providers an elegant migration path from legacy to soft switch architectures without replacing ONTs.
Mobile & Optical Edge. Our DZS Chronos portfolio provides a robust, manageable and scalable solution for mobile operators that enable them to upgrade their mobile fronthaul/midhaul/backhaul (“xHaul”) systems and migrate to fifth generation wireless technologies (“5G”) and beyond. DZS Chronos provides a full range of 5G-ready xHaul solutions that are open, software-defined, and field proven. Our mobile xHaul products may be collocated at the radio access node base station and can aggregate multiple radio access node base stations into a single backhaul for delivery of mobile traffic to the radio access node network controller. Our products support pure Ethernet switching as well as layer 3 IP and Multiprotocol Label Switching (“MPLS”), and we interoperate with other vendors in these networks.
Cloud Software. Our DZS Cloud platform accelerates our software capabilities specifically in the areas of network orchestration, application slicing, automation, analytics, and service assurance. We offer a commercial, carrier-grade network-slicing enabled orchestration platform complementing our position with physical network devices supporting Open RAN (“O-RAN”) and 4G/5G networks. Communications service providers are implementing software defined networking (“SDN”) and network functions virtualization (“NFV”) architectures to reduce reliance on proprietary systems and hardware, which increase service agility, flexibility, and deployment of new network services while lowering costs.

Our key financial objectives include the following:

Increasing revenue while continuing to carefully control costs;
Continuing investments in strategic research and product development activities that will provide the maximum potential return on investment; and
Minimizing consumption of our cash and cash equivalents.

RESULTS OF OPERATIONS

The table below presents the unaudited condensed consolidated statement of (loss) income with year-over-year changes (in thousands except percent change).

 

 

Three months ended March 31,

 

 

 

 

 

 

2022

 

 

2021

 

 

% change

 

 

 

 

 

 

 

 

 

 

 

Net revenue

 

$

77,040

 

 

$

81,031

 

 

 

-4.9

%

Cost of revenue

 

 

50,215

 

 

 

52,936

 

 

 

-5.1

%

Gross profit

 

 

26,825

 

 

 

28,095

 

 

 

-4.5

%

Operating expenses:

 

 

 

 

 

 

 

 

 

Research and product development

 

 

11,844

 

 

 

11,119

 

 

 

6.5

%

Selling, marketing, general and administrative

 

 

17,742

 

 

 

31,824

 

 

 

-44.2

%

Restructuring and other charges

 

 

436

 

 

 

6,252

 

 

 

-93.0

%

Impairment of long-lived assets

 

 

 

 

 

1,735

 

 

 

-100.0

%

Amortization of intangible assets

 

 

294

 

 

 

262

 

 

 

12.2

%

Total operating expenses

 

 

30,316

 

 

 

51,192

 

 

 

-40.8

%

Operating loss

 

 

(3,491

)

 

 

(23,097

)

 

 

-84.9

%

Interest income

 

 

37

 

 

 

42

 

 

 

-11.9

%

Interest expense

 

 

(127

)

 

 

(249

)

 

 

-49.0

%

Other income (expense), net

 

 

(800

)

 

 

972

 

 

 

-182.3

%

Loss before income taxes

 

 

(4,381

)

 

 

(22,332

)

 

 

-80.4

%

Income tax provision (benefit)

 

 

(1,333

)

 

 

893

 

 

 

-249.3

%

Net loss

 

$

(3,048

)

 

$

(23,225

)

 

 

-86.9

%

 

19


 

The table below presents the unaudited condensed consolidated statement of (loss) income as a percentage of total net revenue for the periods indicated.

 

 

Three months ended March 31,

 

 

 

2022

 

 

2021

 

Net revenue

 

 

100

%

 

 

100

%

Cost of revenue

 

 

65

%

 

 

65

%

Gross profit

 

 

35

%

 

 

35

%

Operating expenses:

 

 

 

 

 

 

Research and product development

 

 

15

%

 

 

14

%

Selling, marketing, general and administrative

 

 

23

%

 

 

39

%

Restructuring and other charges

 

 

1

%

 

 

8

%

Impairment of long-lived assets

 

 

 

 

 

2

%

Amortization of intangible assets

 

 

1

%

 

 

1

%

Total operating expenses

 

 

40

%

 

 

64

%

Operating income (loss)

 

 

(5

)%

 

 

(29

)%

Interest income

 

 

 

 

 

 

Interest expense

 

 

 

 

 

 

Other income (expense), net

 

 

(1

)%

 

 

1

%

Income (loss) before income taxes

 

 

(6

)%

 

 

(28

)%

Income tax provision (benefit)

 

 

(2

)%

 

 

1

%

Net income (loss)

 

 

(4

)%

 

 

(29

)%

Net Revenue

The following table presents our revenues by source (in millions):

 

 

Three months ended March 31,

 

 

 

2022

 

 

2021

 

 

% change

 

Products

 

$

72.4

 

 

$

76.2

 

 

 

(5.0

)%

Services and other

 

 

4.6

 

 

 

4.8

 

 

 

(4.2

)%

Total

 

$

77.0

 

 

$

81.0

 

 

 

(4.9

)%

For the three months ended March 31, 2022, product revenue decreased by 5.0% or $3.8 million to $72.4 million from $76.2 million in the same period last year. The decrease in product revenue during the period was primarily attributable to the supply chain disruptions aggravated by the Covid-19 Omicron variant surge and lower spending levels from our major customers in Asia. Service revenue represents revenue from maintenance and other services associated with product shipments. The decrease in service revenue was primarily due to the decreased product sales.

The following table presents our revenues by geographical concentration (in millions):

 

 

Three months ended March 31,

 

 

 

2022

 

 

2021

 

 

% change

 

Americas

 

$

23.1

 

 

$

20.2

 

 

 

14.4

%

Europe, Middle East, Africa

 

 

18.6

 

 

 

17.9

 

 

 

3.9

%

Asia

 

 

35.3

 

 

 

42.9

 

 

 

(17.7

)%

Total

 

$

77.0

 

 

$

81.0

 

 

 

(4.9

)%

Our geographic diversification reflects the combination of market demand, a strategic focus on capturing market share through new customer wins and new product introductions.

From a geographical perspective, the decrease in net revenue for the three months ended March 31, 2022 was attributable to decreased revenue in Asia primarily attributable to the supply chain disruptions and lower spending levels from our major customers in Asia. Revenue in Americas and EMEA increased primarily due to the market share gains and new customers.

For the three months ended March 31, 2022, two customers accounted for 13% and 12% of net revenue, respectively. For the three months ended March 31, 2021, two customers accounted for 18% and 10% of net revenue, respectively.

We anticipate that our results of operations in any given period may depend to a large extent on sales to a small number of large customers. As a result, our revenue for any quarter may be subject to significant volatility based upon changes in orders from one or a small number of key customers.

20


 

Cost of Revenue and Gross Profit

Total cost of revenue decreased 5.1% to $50.2 million for the three months ended March 31, 2022, compared to $52.9 million for the three months ended March 31, 2021. Total cost of revenue was 65.2% of net revenue for the three months ended March 31, 2022, compared to 65.3% of net revenue for the three months ended March 31, 2021, which resulted in an increase in gross profit percentage to 34.8% for the three months ended March 31, 2022 from 34.7% for the three months ended March 31, 2021. The decrease in total cost of revenue was primarily due to the change in number and mix of products sold, including the geographic mix of those sales.

Operating Expenses

Research and Product Development Expenses: Research and product development expenses include personnel costs, outside contractor and consulting services, depreciation on lab equipment, costs of prototypes and overhead allocations.

Research and product development expenses increased by 6.5% to $11.8 million for the three months ended March 31, 2022 compared to $11.2 million for the three months ended March 31, 2021. The increase in research and product development expenses was primarily due to strategic hiring decisions in research, development, and product line management with the intent to accelerate growth and capture market share.

We intend to continue to invest in research and product development to attain our strategic product development objectives, while seeking to manage the associated costs through expense controls.

Selling, Marketing, General and Administrative Expenses: Selling, marketing, general and administrative expenses include personnel costs for sales, marketing, administration, finance, information technology, human resources and general management as well as legal and accounting expenses, rent, utilities, trade show expenses and related travel costs.

Selling, marketing, general and administrative expenses decreased by 44.2% to $17.7 million for the three months ended March 31, 2022 compared to $31.8 million for the three months ended March 31, 2021. The decrease was primarily due to $14.2 million of bad debt expense recorded in the first quarter of 2021 for one customer in India. Refer to Note 1, in the Notes to Unaudited Condensed Consolidated Financial Statements, for further information on the bad debt expense. The above impact was partially offset by strategic hiring decisions across sales and administration with the intent to accelerate growth and capture market share.

Restructuring and Other Charges: Restructuring and other charges for the three months ended March 31, 2022 and 2021 relate primarily to the strategic decision to transition DZS GmbH and Optelian to sales and research and development centers. For the three months ended March 31, 2022, the Company incurred restructuring and other charges of approximately $0.4 million, consisting primarily of logistics costs and professional services related to legal and accounting support. For the three months ended March 31, 2021, the Company incurred restructuring and other charges of approximately $6.3 million, consisting primarily of severance and other termination related benefits of $3.5 million, an impairment of long-lived assets charge of $2.7 million primarily related to right-of-use assets from operating leases, and $0.1 million of other charges. See Note 9 Restructuring and Other Charges of the Notes to Unaudited Condensed Consolidated Financial Statements, for further information.

Impairment of Long-lived Assets: Impairment of long-lived assets for the three months ended March 31, 2021 was $1.7 million for the right-of use assets from operating leases related to completion of the headquarters relocation to Plano, Texas. No impairment was recorded during the three months ended March 31, 2022.

Other Income (Expense), net: Other income (expense) relates mainly to realized and unrealized foreign exchange gains and losses. Other expense, net was $0.8 million for the three months ended March 31, 2022 compared to other income, net of $1.0 million for the three months ended March 31, 2021. The increase in other expense, net was due to foreign currency exchange losses recorded during the first quarter of 2022.

Income Tax Provision: Income tax benefit for the three months ended March 31, 2022 was $1.3 million on a pre-tax loss of $4.4 million. Income tax expense for the three months ended March 31, 2021 was approximately $0.9 million on pre-tax loss of $22.3 million. As of March 31, 2022, the income tax rate varied from the United States statutory income tax rate primarily due to valuation allowances in North America, EMEA and Asia, as well as foreign and state income tax rate differentials.

NON-GAAP FINANCIAL MEASURES

In managing our business and assessing our financial performance, we supplement the information provided by our U.S. GAAP results with adjusted earnings before stock-based compensation, interest, taxes, and depreciation, or Adjusted EBITDA, a non-U.S. GAAP financial measure. We define Adjusted EBITDA as net income (loss) plus (i) interest expense, net, (ii) provision (benefit) for taxes, (iii) depreciation and amortization, (iv) stock-based compensation, and (v) the impact of material transactions or events that we believe are not indicative of our core operating performance, such as acquisition costs, impairment of goodwill, intangibles or long-lived assets, loss on debt extinguishment, restructuring and other charges,

21


 

including termination related benefits, headquarters and facilities relocation, executive transition, and bad debt expense primarily related to a large customer in India, any of which may or may not be recurring in nature. We believe that the presentation of Adjusted EBITDA enhances the usefulness of our financial information by presenting a measure that management uses internally to monitor and evaluate our operating performance and to evaluate the effectiveness of our business strategies. We believe Adjusted EBITDA also assists investors and analysts in comparing our performance across reporting periods on a consistent basis because it excludes the impact of items that we do not believe reflect our core operating performance.

Adjusted EBITDA has limitations as an analytical tool. Some of these limitations are:

Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual requirements;
Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;
Adjusted EBITDA does not reflect the interest expense, or the cash requirements necessary to service interest or principal payments, on our debts;
Although depreciation and amortization are non-cash expenses, the assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements;
Non-cash compensation is and will remain a key element of our overall long-term incentive compensation package, although we exclude it as an expense when evaluating our ongoing operating performance for a particular period; and
Other companies in our industry may calculate Adjusted EBITDA and similar measures differently than we do, limiting its usefulness as a comparative measure.

Because of these limitations, Adjusted EBITDA should not be considered in isolation or as a substitute for net income (loss) or any other performance measures calculated in accordance with U.S. GAAP or as a measure of liquidity. Management understands these limitations and compensates for these limitations by relying primarily on our U.S. GAAP results and using Adjusted EBITDA only as a supplemental measure.

Set forth below is a reconciliation of net income (loss) to Adjusted EBITDA, which we consider to be the most directly comparable U.S. GAAP financial measure to Adjusted EBITDA (in thousands):

 

 

Three months ended March 31,

 

 

 

2022

 

 

2021

 

Net income (loss)

 

$

(3,048

)

 

$

(23,225

)

Add (deduct):

 

 

 

 

 

 

Interest expense, net

 

 

90

 

 

 

207

 

Income tax provision (benefit)

 

 

(1,333

)

 

 

893

 

Depreciation and amortization

 

 

1,081

 

 

 

1,265

 

Stock-based compensation

 

 

2,671

 

 

 

1,352

 

Headquarters and facilities relocation

 

 

 

 

 

1,920

 

Restructuring and other charges

 

 

436

 

 

 

6,252

 

Acquisition costs

 

 

51

 

 

 

643

 

Executive transition

 

 

247

 

 

 

71

 

Bad debt expense, net of recoveries*

 

 

(1,227

)

 

 

14,206

 

Adjusted EBITDA

 

$

(1,032

)

 

$

3,584

 

* See Note 1 of the Notes to Unaudited Condensed Consolidated Financial Statements for further information.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

For a complete description of what we believe to be the critical accounting policies and estimates used in the preparation of our unaudited condensed consolidated financial statements, refer to Note 1 Organization and Summary of Significant Accounting Policies in the Notes to our Audited Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2021, as supplemented by Note 1 Organization and Summary of Significant Accounting Policies of the Notes to Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.

LIQUIDITY AND CAPITAL RESOURCES

Our operations are financed through a combination of our existing cash, cash equivalents, available credit facilities, and sales of equity and debt instruments, based on our operating requirements and market conditions.

22


 

The following table summarizes the information regarding our cash and cash equivalents and working capital (in thousands):

 

 

March 31, 2022

 

 

December 31, 2021

 

Cash and cash equivalents

 

$

34,160

 

 

$

46,666

 

Working capital

 

 

121,772

 

 

 

124,498

 

The Company had a net loss of $3.0 million and $23.2 million for the three months March 31, 2022 and 2021, respectively.

As of March 31, 2022, we had working capital of $121.8 million. As of March 31, 2022, we had $34.2 million in unrestricted cash and cash equivalents, which included $31.0 million in cash balances held by our international subsidiaries.

We continue to focus on cost management, operating efficiency and efficient discretionary spending. In addition, if necessary, we may sell assets or issue debt or equity securities. We may also rationalize the number of products we sell, adjust our manufacturing footprint, and reduce our operations in low margin regions, including reductions in headcount. Based on our current plans and current business conditions, we believe that these measures along with our existing cash and cash equivalents will be sufficient to satisfy our anticipated cash requirements for at least the next 12 months from the date of this Quarterly Report on Form 10-Q.

The following table presents a summary of our cash flow activity for the periods set forth below (in thousands):

 

 

Three months ended March 31,

 

 

 

2022

 

 

2021

 

Consolidated Statements of Cash Flows Data

 

 

 

 

 

 

Net cash used in operating activities

 

$

(10,732

)

 

$

(6,936

)

Net cash used in investing activities

 

 

(1,317

)

 

 

(5,524

)

Net cash provided by (used in) financing activities

 

 

(22

)

 

 

21,302

 

      Effect of exchange rate changes on cash, cash equivalents and restricted cash

 

 

(903

)

 

 

404

 

Net increase in cash, cash equivalents and restricted cash

 

 

(12,974

)

 

 

9,246

 

Cash, cash equivalents and restricted cash at beginning of period

 

 

53,639

 

 

 

54,587

 

Cash, cash equivalents and restricted cash at end of period

 

$

40,665

 

 

$

63,833

 

Operating Activities

Net cash used in operating activities increased by $3.8 million to $10.7 million for the three months ended March 31, 2022 from net cash used in operating activities of $6.9 million for the three months ended March 31, 2021. The increase in cash used in operating activities was primarily due to an increase in inventory purchases in anticipation of increased shipments later in the year and as a mitigation against long lead times.

Investing Activities

Net cash used in investing activities decreased by $4.2 million to $1.3 million for the three months ended March 31, 2022 from $5.5 million for the three months ended March 31, 2021. This decrease was primarily due to cash used in the Optelian and RIFT acquisitions in the first quarter of 2021.

Financing Activities

Net cash used in financing activities totaled $0.1 million for the three months ended March 31, 2022 and consisted primarily of payment of debt issuance cost partially offset by proceeds from exercise of stock awards. This is in comparison to cash provided by financing activities of $21.3 million for the three months ended March 31, 2021 which consisted primarily of proceeds from the equity offering and exercise of stock awards offset by repayments of our short-term borrowings and related party term loan.

Cash Management

Our primary source of liquidity comes from our cash, cash equivalents and restricted cash, which totaled $40.5 million at March 31, 2022. Our cash, cash equivalents and restricted cash as of March 31, 2022 included $32.0 million held by our international subsidiaries.

Debt Facilities

On February 9, 2022, the Company entered into a Credit Agreement with the Company, as borrower, certain subsidiaries of the Company, as guarantors, the lenders party thereto and JPMorgan Chase Bank, N.A., as administrative agent. The Credit Agreement provides for revolving loans in an aggregate principal amount of up to $30 million, up to $15 million of which is available for letters of credit. The Credit Agreement matures on February 9, 2024. The maximum amount that the Company can borrow under the Credit Agreement is subject to a borrowing base, which is based on a percentage of eligible accounts receivable and eligible inventory, subject to reserves and other adjustments, plus $10 million.

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As of March 31, 2022, there was no amount outstanding under the revolving credit facility. The Company was in compliance with all debt covenants as of March 31, 2022.

Future Cash Requirements and Funding Sources

Our fixed commitments for cash expenditures consist primarily of payments under operating leases, and inventory purchase commitments.

From time to time, we may provide or commit to extend credit or credit support to our customers. This financing may include extending the terms for product payments to customers. Any extension of financing to our customers will limit the capital that we have available for other uses.

Our accounts receivable, while not considered a primary source of liquidity, represent a concentration of credit risk because a significant portion of the accounts receivable balance at any point in time typically consists of a relatively small number of customer account balances. As of March 31, 2022 no customers represented more than 10% of net accounts receivable. Net receivables from customers in countries other than the United States represented 77%. We do not currently have any material commitments for capital expenditures, or any other material commitments aside from operating leases for our facilities, and inventory purchase commitments.

U.S. Income Tax Changes

Effective January 1, 2022, the Tax Cuts and Jobs Act (TCJA) eliminates the option to immediately deduct research and development expenditures and requires taxpayers to capitalize and amortize these costs pursuant to IRC Section 174. Although Congress is considering legislation that would defer or repeal this provision, we have no assurance this will be enacted. If this provision of the TCJA is not repealed or otherwise modified, it is expected to negatively impact our operating cash flows in 2022 and future years.

Operating Leases

Future minimum operating lease obligations include primarily payments for our office locations and manufacturing, research and development locations, which expire at various dates through 2028. See Note 12 Leases of the Notes to Unaudited Condensed Consolidated Financial Statements for further information regarding our operating leases.

Purchase Commitments

We may have short term purchase commitments related to the purchase orders for products and services, within the normal course of business. These arrangements typically have cancellation provisions that allow us to cancel with little to no penalty.

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in interest rates and foreign currency exchange risks. We do not hold or issue financial instruments for trading purposes.

Interest Rate Risk

We had unrestricted cash and cash equivalents of $34.2 million and $46.7 million at March 31, 2022 and December 31, 2021, respectively. We do not have material exposure to market risk with respect to investments, as our investments consist primarily of highly liquid investments purchased with original maturities of three months or less.

Our exposure to interest rate risk also includes the amount of interest we must pay on our borrowings under our Revolving Credit Agreement. The Loan under the Credit Agreement bears interest at the Company’s option at (i) the prime rate plus 2.00%, (ii) the adjusted term SOFR rate plus 2.90% or (iii) the adjusted daily simple SOFR rate plus 2.90%. As of March 31, 2022, there was no amount outstanding under the revolving credit facility.

Foreign Currency Exchange Risk

We have foreign currency risks related to certain of our foreign subsidiaries, primarily in Korea, Japan, and Germany. International net revenues and operating expense are typically denominated in the local currency of each country and result from transactions by our operations in these countries. The local currencies of these foreign subsidiaries are the South Korean Won ("KRW"), Japanese Yen ("JPY"), and Euro ("EUR), respectively. Fluctuations in foreign currencies create volatility in our reported results of operations. If the U.S. Dollar ("USD") had appreciated or depreciated by 10% relative to KRW, JPY, and EUR, our operating income for the first three months of 2022 would have decreased or increased by approximately $0.5 million, respectively.

Foreign exchange rate fluctuations may also adversely impact our financial position as the assets and liabilities of our foreign operations are translated into USD in preparing our unaudited condensed consolidated balance sheets. The effect of foreign exchange rate fluctuations on our consolidated financial position for the three months ended March 31, 2022 was a net translation loss of $0.3 million. This loss is recognized as an adjustment to stockholders’ equity through accumulated other comprehensive loss. If USD had appreciated or depreciated by 10% relative to KRW, JPY, and EUR, our net assets as of March 31, 2022 would have decreased or increased by approximately $2.5 million, respectively.

We have certain assets and liabilities, primarily inter-company loans, that are denominated in currencies other than the relevant entity’s functional currency. Our intercompany loans are primarily denominated in USD and EUR. Changes in the functional currency value of these balances create fluctuations in our reported consolidated financial position, cash flows and results of operations. Transaction gains and losses on these foreign currency denominated assets and liabilities are recognized each period within “Other income (expense), net” in our unaudited condensed consolidated statement of comprehensive income (loss). During the three months ended March 31, 2022, we recognized approximately $0.5 million of expense related to the intercompany loans denominated in foreign currencies. If USD had appreciated or depreciated by 10% relative to EUR, our net income for the first three months of 2022 would have decreased or increased by approximately $2.0 million, respectively.

Item 4. Controls and Procedures

Disclosure Controls and Procedures

We are required to maintain disclosure controls and procedures designed to provide reasonable assurance of achieving the objective that information required to be disclosed in our reports filed or submitted pursuant to the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow for timely decisions regarding required disclosures. Our disclosure controls and procedures include those components of our internal control over financial reporting intended to provide reasonable assurance that transactions are recorded as necessary to permit preparation of financials in accordance with U.S. GAAP. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As required by Rule 13a-15(b) under the Exchange Act, we conducted an evaluation of the effectiveness of our disclosure controls and procedures as of March 31, 2022, the end of the period covered by this Quarterly Report on Form 10-Q. The evaluation was done under the supervision and with the participation of management, including our principal executive officer and principal financial officer. In the course of the evaluation of our disclosure controls and procedures, our principal executive officer and principal financial officer concluded our disclosure controls and procedures were effective as of March 31, 2022.

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Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting that occurred during our last fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

 

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PART II. OTHER INFORMATION

In addition to the Notice discussed in Note 13 of the Notes to Unaudited Condensed Consolidated Financial Statements, from time to time, the Company is subject to various legal proceedings, claims and litigation arising in the ordinary course of business. While the outcome of these matters is currently not determinable, the Company does not expect that the ultimate costs to resolve these matters will have a material adverse effect on the unaudited condensed consolidated financial position or results of operations. However, litigation is subject to inherent uncertainties, and unfavorable rulings could occur. If an unfavorable ruling were to occur, there exists the possibility of a material adverse impact on the financial position, results of operations and cash flows of the period in which the ruling occurs, or future periods.

Item 1A. Risk Factors

A list of factors that could materially affect our business, financial condition or operating results is described in Part I, Item 1A, “Risk Factors” in the 2021 Form 10-K. There have been no material changes to our risk factors from those disclosed in Part I, Item 1A, “Risk Factors” in the 2021 Form 10-K.

Item 5. Other Information

None.

Item 6. Exhibits

The exhibits required to be filed with this quarterly report on Form 10-Q are listed in the Exhibit Index attached hereto and are incorporated herein by reference.

 

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EXHIBIT INDEX

 

Exhibit

Number

 

Description

 

 

 

 3.1

 

Restated Certificate of Incorporation of DASAN Zhone Solutions, Inc. (incorporated by reference to Exhibit 3.1 to the Company’s Annual Report on Form 10-K filed with the SEC on September 27, 2017).

 

 

 

 3.2

 

Certificate of Amendment to the Restated Certificate of Incorporation of DZS Inc. (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed with the SEC on August 27, 2020).

 

 

 

 3.3

 

Amended and Restated Bylaws of DZS Inc. (incorporated by reference to Exhibit 3.2 to the Company’s Annual Report on Form 10-K filed with the SEC on March 11, 2021).

 

 

 

10.23

 

Credit Agreement, dated as of February 9, 2022, among DZS Inc., as Borrower, the other Loan Parties party thereto, the Lenders from time to time parties thereto and JPMorgan Chase Bank, N.A., as Administrative Agent (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the SEC on February 10, 2022).

 

 

 

 31.1*

 

Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a)

 

 

 

 31.2*

 

Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a)

 

 

 

 32.1*

 

Section 1350 Certification of Chief Executive Officer and Chief Financial Officer

 

 

 

101.INS

 

Inline XBRL Instance Document – the instance document does not appear in the Interactive Data File because XBRL tags are embedded within the Inline XBRL document

 

 

 

101.SCH

 

Inline XBRL Taxonomy Extension Schema

 

 

 

101.CAL

 

Inline XBRL Taxonomy Extension Calculation Linkbase

 

 

 

101.DEF

 

Inline XBRL Taxonomy Extension Definition Linkbase

 

 

 

101.LAB

 

Inline XBRL Taxonomy Extension Labels Linkbase

 

 

 

101.PRE

 

Inline XBRL Taxonomy Extension Presentation Linkbase

 

 

 

104

 

Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101)

 

 

 

*

 

Filed herewith.

+

 

Indicates management contract or compensatory plan, contract or arrangement.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

DZS INC.

 

 

 

Date: May 3, 2022

 

 

 

 

By:

 

/s/ Charles Daniel Vogt

 

Name:

 

Charles Daniel Vogt

 

Title:

 

President and Chief Executive Officer

 

 

 

 

 

By:

 

/s/ Misty Kawecki

 

Name:

 

Misty Kawecki

 

Title:

 

Chief Financial Officer

 

 

 

(Principal Financial and

 

 

 

Accounting Officer)

 

 

 

 

 

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