Washington, D.C. 20549
Super Micro Computer, Inc.
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”filer,” “smaller reporting company,” and “smaller reporting“emerging growth company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b12b-2 of the Exchange Act) Yes ¨☐ No x☒
SUPER MICRO COMPUTER, INC.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended that involve risks and uncertainties. These statements relate to future events or our future financial performance. In some cases, you can identify forward-looking statements by terminology including “would,” “could,” “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “probable of achievement,” or “continue,” the negative of these terms or other comparable terminology. In evaluating these statements, you should specifically consider various factors, including the risks described below, under “ItemPart I, Item 1A, Risk“Risk Factors”, and in other parts of this Form 10-K as well as in our other filings with the SEC.Securities and Exchange Commission (the "SEC"). Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and trends discussed in this Annual Report on Form 10-K may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements.
We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. We cannot guarantee future results, levels of activity, performance or achievements.Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.
PART I
Item 1. Business
OverviewOur Company
We are a global leader inSilicon Valley-based provider of accelerated compute platforms that are application-optimized high performance high efficiencyand high-efficiency server technology and innovation. We develop and provide end-to-end green computing solutions to thestorage systems for a variety of markets, including enterprise data centers, cloud computing, data center, enterpriseartificial intelligence (“AI”), 5G and edge computing. Our Total IT big data, high performance computing, or HPC, and Internet of Things, or IoT,/ embedded markets. OurSolutions include complete servers, storage systems, modular blade servers, blades, workstations, full rack scale solutions, range from complete server, storage, blade and workstations to full racks, networking devices, server sub-systems, server management software and technologysecurity software. We also provide global support and services.services to help our customers install, upgrade and maintain their computing infrastructure. We offer our customers a high degree of flexibility and customization by providing what we believe to be the industry’s broadesta broad array of server models and configurations from which they can choose the optimal solution which fitsbest solutions to fit their computing needs. Our server and storage systems, subsystemssub-systems and accessories are architecturally designed to provide high levels of reliability, quality, configurability, and scalability, thereby enabling our customers to benefit from improvements in compute performance, density, thermal management and power efficiency which lead to lower overall total cost of ownership.scalability.
We perform the majority of our research and development efforts in-house, which increases the efficiency of communication and collaboration between design teams, streamlines the development process and reduces time-to-market. We have developed a set of design principles which allow us to aggregate individual industry standard components and materials to develop proprietary products, such as serverboards, chassis, power supplies, networking and storage devices. This building block approach allows us to provide a broad range of SKUs, and enables us to build and deliver application-optimized solutions based upon customers’ requirements. As of June 30, 2016, we offered over 4,950 SKUs, including SKUs for server and storage systems, serverboards, chassis, power supplies and other system accessories.
We conduct our operations principally from our Silicon Valley headquarters in California and subsidiaries in Taiwan and the Netherlands. We sell our server systems and server subsystems and accessories through our direct sales force as well as through distributors, including value added resellers and system integrators, and OEMs. During fiscal year 2016, our products were purchased by over 800 customers in 100 countries. We commenced operations in 1993 and have been profitable every year since inception. For fiscal years 2016, 2015 and 2014, our net sales were $2,215.6 million, $1,991.2 million and $1,467.2 million, respectively, and our net income was $72.0 million, $101.9 million and $54.2 million, respectively.
The Super Micro Solution
We develop and manufacture high performance server solutions based upon an innovative, modular and open architecture. Our primary competitive advantages arise from how we use our integrated internal research and development organization coupled with our deep understanding of complex computing requirements to develop the intellectual property used in our server solutions. These competitive advantages have enabled us to develop a set of design principles and performance specifications that meet industry standard Server System Infrastructure, or SSI, requirements and also incorporate the advanced
functionality and capabilities required by our customers. We believe that our approach provides us with greater flexibility to quickly and efficiently develop new server solutions that are optimized for our customers' specific application requirements. Our modular architectural approach has allowed us to offer our customers what we believe to be the industry’s largest array of server systems and subsystems and accessories with performance optimized for their unique applications.
Flexible and Customizable Server Solutions
We provide flexible and customizable server solutions to address the specific application needs of our customers. Our design principles allow us to aggregate industry standard components and materials to develop optimized server subsystems and accessories, such as serverboards, chassis and power supplies to deliver a broad range of products with superior features. We believe this building block approach allows us to provide a broad range of optimized solution SKUs.
Rapid Time-to-Market
We are able to reduce the design and development time required to incorporate the latest technologies into the next generation application optimized server solutions. Our in-house design competencies, design control of the design ofover many of the components used within our server and storage systems, and our building block architectureServer Building Block Solutions® (an innovative, modular and open architecture) enable us to rapidly develop, build and test our compute platforms along with our server and storage systems, subsystemssub-systems and accessories with unique configurations. As a result, when new technologies are brought to market, we are generally able to quickly design, integrate and assemble a broad portfolio of solutions with little need to re-engineer other portions of our solution. Our efficient design capabilities allow us to offer our customers server solutions incorporating the latest technology with a better price-to-performance ratio.by leveraging common building blocks across product lines. We work closely with the leading microprocessor, graphics processing units (“GPU”), memory, disk/flash, and interconnect vendors and other hardware and software suppliers to coordinate the design of our new productsproducts' design with their product release schedules, thereby enhancingschedules. This enhances our ability to rapidly introduce new products incorporating the latest technology.technology rapidly. We seek to be the first to market with products incorporating new technologies and to offer the broadest selection of products using those technologies to our customers.
Improved Power Efficiency and Thermal Management
We leverage advanced technology and system design expertise toTo reduce the power consumptionhigh cost of our server, blade, workstation and storage systems. We believe that we are an industry leader in power saving technology. Our server solutions include many design innovationsoperating datacenters, IT managers increasingly turn to optimize power consumption and manage heat dissipation. We have designed flexible power management systems which customize or eliminate components in an effort to reduce overall power consumption. We have developed proprietary power supplies that can be integrated across a wide rangesuppliers of server system form factors which can significantly enhance power efficiency. We have also developed technologieshigh-performance products that are specifically designedalso cost-effective, energy-efficient, and green. Our resource saving architecture supports our efforts to lead in green IT innovation. This architecture disaggregates CPU and memory, which enables each resource to be refreshed independently, thereby allowing data centers to significantly reduce the effects of heat dissipation from our servers. Our thermal management technology allows our products to achieve a better price-to-performance ratio while minimizing energyboth refresh cycle costs and reducing the risk of server malfunction caused by overheating. We have also developed power management softwaree-waste. In addition, we offer product lines that controls power consumption of server clusters by policy-based administration.
High Density Servers
Our servers are designed to enable customersshare common computing resources, thereby saving both valuable space and power as compared to maximize computinggeneral-purpose rackmount servers. We believe our approach of leveraging an overall architecture that balances data center power while minimizingrequirements, cooling, shared resources and refresh cycles helps the physical space utilized. We offer server systems with up to four times the densityenvironment and provides total cost of conventional solutions, which allows our customers to efficiently deploy our server systems in scale-out configurations. Through our industry leading technology, we can offer significantly more memory, hard disk drive storage and expansion slots than traditional server systems with a comparable server form factor. For example, our FatTwin solutions contain eight or four full feature DP hot-pluggable compute nodes with NVMe support in a 4U server. The 8-node configuration provides high density and computing power for those compute-demanding applications, while the 4-node configuration offers up to 8 hot-pluggable 3.5" HDDs per U for those applications that require high storage capacity within a compact setting. This high density design is well suitedownership (“TCO”) savings for our customers.
SMCI | 2023 Form 10-K | 1
We conduct our operations principally from our Silicon Valley headquarters, Taiwan and Netherlands facilities. Our sales and marketing activities operate through a combination of our direct sales force and indirect sales channel partners. We work with distributors, value-added resellers, system integrators, and original equipment manufacturers ("OEMs") to market and sell our optimized solutions to their end customers that require highly space efficient solutions.in our indirect sales channels.
Strategy
Our objective is to be the world’s leading provider of application optimized, high performancesolutions using accelerated compute platforms that are application-optimized offering high-performance server, storage and networking solutions worldwide.networking. Achieving this objective requires continuous development and innovation of our solutionsTotal IT Solutions with better price performanceprice-performance and architectural advantages compared with both our prior generation of solutions and thewith solutions ofoffered by our competitors as well as solutions which expand the breadth of our coverage of data center needs. We believe that many of these product innovations are gaining momentum based on the strong year-over-year revenue growth across these next-generation products. We believe thatcompetitors. Through our strategy, and our abilitywe seek to innovate and execute may enable us to maintain or improve our relative competitive position in many of our product areas and improve our competitive position in others while providingpursue markets that provide us with severaladditional long-term growth opportunities. Key elements of our strategy include:include executing upon the following:
A Strong Internal Research and Development and Internal Manufacturing Capability
Maintain Our Time-to-Market Advantage
We believe oneare continually investing in our engineering organization. As of our major competitive advantages is our ability to rapidly incorporate the latest computing innovations into our products. We intend to maintain our time-to-market advantage by continuing our investmentJune 30, 2023, we had over 2,400 employees in our research and development effortsorganization. These resources, along with our understanding of complex computing and storage requirements, enable us to rapidly developdeliver product innovation featuring advanced functionality and capabilities required by our customers. Also, substantially all of our servers are tested and assembled in our facilities, and more than half of our final server and storage production is completed in San Jose, California. Our engineering aptitude, coupled with our internal manufacturing capability, enables rapid prototyping and product roll-out, contributing to a high level of responsiveness to our customers.
Introducing More Innovative Products, Faster
We seek to sustain advantages in both time-to-market and breadth of products incorporating the latest technological innovations, such as new proprietary server,processors, advancements in storage and networking solutions based on industry standard components. We plan to continue to work closely with technology partners such as Intel Coporation ("Intel"), Advanced Micro Devices, Inc. ("AMD") and Nvidia Corporation ("Nvidia"), among others, to develop products that are compatible with the latest generation of industry standardevolving I/O technologies. We believeseek these efforts will allowadvantages by leveraging our in-house design capabilities and our Building Block Solutions ® architecture. This allows us to continue to offer products that lead in price for performance as each generation of computing innovations becomes available.
Expand Our Product Offerings
We plan to increase the numbercustomers a broad choice of products to match their target application requirements. In fiscal year 2023, we announced more than 50 products supporting Intel’s new Sapphire Rapids data center CPU. During the second half of fiscal year 2023, our product portfolio was enhanced to support AMD’s Genoa data center CPU. In March 2023, we released a high-density petascale class all-flash NVMe server family supporting next-generation EDSFF form factor, including the E3.S and E1.S devices. Also in server, storageMarch 2023, we unveiled comprehensive portfolio of GPU systems including servers in 8U, 6U, 5U, 4U, 2U, and networking solutions that we offer to our customers. We plan to continue to improve the energy efficiency of our products by enhancing our ability to deliver improved power and thermal management capabilities,1U form factors, as well as serversworkstations that support the full range of new NVIDIA H100 GPUs.
Capitalizing on New Applications and subsystemsTechnologies
In addition to serving traditional needs for server and accessoriesstorage systems, we have devoted, and will continue to devote, substantial resources to developing systems that can operatesupport emerging and growing applications including AI, cloud computing, 5G/edge computing, storage and others. We believe there are significant opportunities for us in increasingly dense environments.each of these rapidly developing markets due to stringent design requirements for these applications that often require the use of the latest technologies, allowing us to leverage our capabilities in product innovation, superior time-to-market, and portfolio breadth.
Enhance OurDriving Software Management Solutionsand Services Sales to our Global Enterprise Customers
We have introducedseek to grow our global enterprise revenue by bolstering and expanding our software management products and support services. These software products and services are required for large scale deployments, help meet service level agreements and address uptime requirements. In addition to our internal software development efforts, we also plan to continue developing additional server, storageintegrate and networking management software capabilities as well as partner with certainexternal software suppliers for software solutions that are integrated with our server productsvendors to enable our customers to simplify and automate the deployment, configuration and monitoring of our servers.meet customer requirements.
Expand Our Service & Support Offerings
We intend to continue to expand our customer service and support offerings and enable our customers to purchase service and support together with our complete server systems as total solution packages around the world. Our service and support is designed to help our customers improve uptime, reduce costs and enhance the productivity of their investment in our products. We believe that continued enhancement of these offerings will support the continued growth of our business and increase our penetration with enterprise customers.
Further OptimizeLeveraging Our Global Operating Structure
We plan to continue to increase our overseasworldwide manufacturing capacity and logistics capabilitiesabilities in the Netherlands andUnited States, Taiwan and continue our effort toward optimizing the efficiency of our global tax structure by expanding our reach geographically in orderNetherlands to more efficiently serve our customers and lower our overall manufacturing and tax costs.
SMCI | 2023 Form 10-K | 2
Deepen Our Relationships with Suppliers and Manufacturers
Our efficient supply chain and combined internal and outsourced manufacturing allow us to build systems to order that are customized, while minimizing costs. We plan to continue leveraging our relationships with suppliers and contract manufacturers in order to maintain and improve our cost structure as we benefit from economies of scale. We intend to continue to source non-core products from external suppliers. We also believe that as our solutions continue to gain greater market acceptance, we will generate growing and recurring business for our suppliers and contract manufacturers. We believe this increased volume will enable us to receive better pricing. We believe that a highly disciplined approach to cost control is critical to success in our industry. For example, we continue to maintain our warehousing capacity in Asia through our relationship with Ablecom Technology, Inc. ("Ablecom"), one of our major contract manufacturers and a related party, so that we continue to deliver products to our customers in Asia and elsewhere more quickly and in higher volumes.
Products and Services
We offer a broad range of application optimizedaccelerated compute platforms that are application-optimized server solutions, including storage, rackmount and blade server systemsservers, storage, and subsystems and accessories, which customers can usebe used to build complete server and storage systems. These Total IT Solutions and products are designed to serve a variety of markets, such as enterprise data centers, cloud computing, AI and 5G/edge computing. The percentage of our net sales represented by sales of server and storage systems increased to 92.2% in fiscal year 2023 compared to 85.9% in fiscal year 2022 and 78.4% in fiscal year 2021, and the percentage of our net sales represented by sales of subsystems and accessories was7.8%in fiscal year 2023, 14.1% in fiscal year 2022 and 21.6% in fiscal year 2021. During fiscal year 2023, we experienced increased revenue from server and storage systems, particularly from our large enterprise and datacenter customers. The year-over-year increase in net sales of server and storage systems and corresponding decrease in net sales of subsystems and accessories was primarily due to our emphasis on selling full systems and servers which require utilization of the subcomponents. We complement our accelerated compute platforms inclusive of server and storage system offerings with software management/security solutions, global services and support, the revenue for which is included in our server and storage systems revenue.
Server and Storage Systems
We sell accelerated compute platforms comprised of a combination of server and storage systems in rackmount, standalone tower, blade, Twinmulti-node and multi-nodeembedded form factors. Asfactors, which support single, dual, and multiprocessor architectures. Our key product lines include:
•SuperBlade® and MicroBlade™® system families designed to share common computing resources, thereby saving space and power over standard rackmount servers;
•SuperStorage systems that provide high-density storage while leveraging an efficient use of June 30, 2016, we offered over 1,200 different server systems. A summarypower to achieve performance-per-watt savings;
•Twin family of some of ourmulti-node server systems are listed below:designed for density, performance, and power efficiency;
4•Ultra Server systems for demanding enterprise workloads;
•GPU or Accelerated systems for rapidly growing AI markets;
Our GPU/Xeon Phi optimized•Data Center Optimized server systems in 1U, 2U, 4U, 7Uthat deliver increased scalability and blade platforms achieve higher parallel processing capabilityperformance-per-watt with Intel's Many Integrated Core, or MIC, architecture based on Xeon Phian improved thermal architecture;
•Embedded (5G/IoT/Edge) systems optimized for evolving networks and are designed to provide high performance in calculation intensive applications.intelligent management of connected devices; and
Our IoT/embedded•MicroCloud server systems are compact, smart, and secure products that reside on the edge of the network, connecting smart sensors and devices to the cloud over wireless or local networks (ex. LAN, WiFi, 3G, Zigbee and RF). These server systems are built on open architecture to ensure interoperability between systems, for ease of services deployment, and enable a broad ecosystem of solution providers. The IoT/embedded server systems enable users to securely aggregate, share, and filter data for analysis. These server systems help ensure that data generated by devices can travel securely and safely from the edge to the cloud and back - without replacing existing infrastructure.
Our MicroCloud server systems are highdeliver node density multi-node UP servers with up to 24 hot-pluggable nodes in a compact 3U form factor. MicroCloud integrates advanced technologies within a compact functional design to deliver high performance in environments with space and power limitations. These combined features provide a cost-effective solution for IT professionals implementing new hosting architectures for SMB and Public/Private Cloud Computing applications.constraints.
Our SuperBlades and MicroBlades are designedIn addition to share a common computing infrastructure, thereby saving additional space and power. We believe that our SuperBlade and MicroBlade server systems provide industry leading density, memory expandability, reliability, price-to-performance per square foot and energy saving server solutions for dedicated hosting, web front end, cloud computing services, content delivery and social networking.
Our SuperStorage solutions in 2U, 3U and 4Uaccelerated compute platforms provide high density storage solutions while leveraging high efficiency power to maximize performance-per watt savings to reduce total cost of ownership, or TCO, for enterprise Data Centers, Big Data and other high performance applications. For example,business, we introduced over 50 new All-Flash NVME systems that deliver better performance and efficiency than traditional storage solutions, and our Simply Double SuperStorage systems that include twice the number of hot-swap bays as 2U industry standard systems, offer up to twice the storage capacity and IOPs in the same amount of space.
Our Twin architecture series of server systems including 1U and 2U Twin, 2U Twin², 1U and 2U TwinPro and 4U FatTwin are optimized for density, performance and efficiency for customers' storage, HPC and cloud computing requirements.
Our Ultra Server systems in 1U and 2U platforms are designed to deliver performance, flexibility, scalability, and serviceability that are ideal for demanding enterprise workloads. They allow enterprise IT professionals the ability to easily qualify a single server platform that can easily be reconfigured for varieties of applications, to reduce qualification time and to manage the need for excessive spares inventories.
Our Data Center Optimized (DCO) server systems deliver superior performance-per-watt to optimize data center TCO with an improved thermal architecture utilizing power efficient components and offset processors to help eliminate CPU preheating and support a 5+ year product life cycle.
Our internally developed switch products 1G/10G/40G/100G Ethernet, InfiniBand and Omni Path switches for rack-mount servers not only help us to offer more complete solutions for our customers, but also generate additional revenues.
Our SuperRack server solutions offer a wide range of flexible accessory options including front, rear and side expansion units to provide modular solutions for system configuration. Data center, HPC computing and server farm customers can use us as a one-stop shop for all of their IT hardware needs. Our SuperRack offers easy installation and rear access with no obstructions for hot-swap devices, user-friendly cabling and cable identification, and effortless integration of our high density server, storage and blade systems.
Server Software Management Solutions
Our remote system management solutions, such as our Server Management suite, or SSM, including Supermicro Power Management software, or SPM, Supermicro Command Manager, or SCM, Supermicro Update Manager, or SUM, and SuperDoctor 5, or SD5, have been designed for server farm or data centers' system administration and management. These remote management software utilities provide the ability to manage large-scale servers and storage in an organization’s IT infrastructure. SPM is designed specifically for HPC/Data Center cluster deployment and management. We have also partnered with certain software suppliers for software solutions that are integrated with our server systems.
Server Subsystems and Accessories
We believe we offer the largestlarge array of modular server subsystems and accessories, or building blocks in the industry that are sold off-the-shelf or built-to-order.such as server boards, chassis, power supplies and other accessories. These componentssubsystems are the foundation of our serverplatform solutions and span product offerings from the entry-level single and dual processordual-processor server segment to the high-end multi-processormultiprocessor market. The majority of the subsystems and accessories we sell individually are optimizeddesigned to work together to improve performance and are ultimately integrated into complete server and storage systems.
ServerboardsServer Software Management Solutions
We design our serverboards with the latest chipset, networking technologies and infrastructure software. Each serverboard is designed and optimized to adhere to specific physical, electrical and design requirements in order to work with certain combinations of chassis and power supplies and achieve maximum functionality. For our rackmount server systems, we not only adhere to SSI specifications, but our customized specifications provide an advanced set of features that increase the functionality and flexibility of our products. As of June 30, 2016, we offered more than 600 SKUs for serverboards.
Chassis and Power Supplies
Our chassis areopen industry-standard remote system management solutions, such as our Server Management suite, including Supermicro Server Manager (“SSM”), Supermicro Power Management software (“SPM”), Supermicro Update Manager (“SUM”), SuperCloud Composer and SuperDoctor 5, have been designed to efficiently house our servers while maintaining interoperability, adhering to industry standards and increasing output efficiency through power supply design. We believe that our latest generation of power supplies achieves the maximum power efficiency available in the industry. Our power design technology reduces power consumption by increasing power efficiency to greater than 96%, which we believe is among the most efficient available in the industry. Our server chassis come with hot-plug, heavy-duty fans, fan speed control and an advanced air shroud design to maximize airflow redundancy. Our Powerstick design provides the slim form factor of a redundant power supply that increases system computing and storage density across our multiple product lines. As of June 30, 2016, we offered more than 550 SKUs for chassis and power supplies.help manage large-scale heterogeneous data center environments.
SMCI | 2023 Form 10-K | 3
As part of our server component offerings, we also offer other system accessories that our customers may require or that we use to build our server solutions. These other products include, among others, microprocessors, memory and disk drives that generally are third party developed and manufactured products that we resell without modification. As of June 30, 2016, we offered more than 2,600 SKUs for other system accessories.
Supermicro Global Services
The Supermicro Global Services is comprised of customerWe provide global service and support services and hardware enhanced services. Our customer support organization provides ongoing maintenance and technical support for our products through our website and 24-hour continuous direct phone based support. Our hardware enhanced services organization provides help desk services and product on-site support for our server systems. Both customer support services and hardware enhanced services develop and implement services solutionsofferings for our direct and OEM customers as well asand our distributors. Service is provided to our customersindirect sales channel partners directly or through approved distributors and third-party partners. Our services include server and storage system integration, configuration and software upgrades and updates. We also identify service requirements, create and execute project plans, conduct verification testing and training and provide technical documentation.
SupportGlobal Services:Our customer support services offer market competitive warranties, generally from one (1) to three (3) years, and warranty upgrade options for products sold by our direct sales team and approved distributors.
Hardware Enhanced Services: Our strategic direct and OEM customers may purchase a variety of on-site support service plans. We offer several levels of on-site support thatOur service plans vary depending on specific services, response times, coverage hours and duration, repair priority levels, spare parts requirements, logistics, data privacy and security needs. Our Global Services team provides help desk services includeand on-site product support for our server system integration, configuration and software upgradesstorage systems.
Support Services: Our customer support services offer competitive market warranties, generally from one-to-three years, and updates. We also perform the planning, identify service requirements, createwarranty extension options for products sold by our direct sales team and execute the project plan, conduct verification testing, trainingapproved indirect sales channel partners. Our customer support team provides ongoing maintenance and provide technical documentation.support for our products through our website and 24-hour continuous direct phone-based support.
Research and Development
Our products incorporate over 23 years of research and development experience. We perform the majoritymost of our research and development effortsactivities in-house in the United States at our facilities in San Jose, California, and in Taiwan, increasing the communication and collaboration between design teams to streamline the development process and reducingreduce time-to-market. We believe that the combination of our focus on internal research and development activities, our close working relationships with customers and vendors and our modular design approach allows us to decrease time-to-market. We continue to invest in reducing our design and manufacturing costs and improving the performance, cost effectivenesscost-effectiveness and thermalpower- and space efficiencyspace-efficiency of our solutions.Total IT Solutions.
Over the years, ourOur research and development team has focusedteams focus on the development of new and enhanced products that can support emerging protocolstechnological and engineering innovations while continuing to accommodate legacy technologies.achieving high overall system performance. Much of our research and development activity is focused onrelates to the new product cycles of leading processor vendors. We work closely with Intel, AMDNVIDIA and NVIDIAAMD, among others, to develop products that are compatible with the latest generation of industry standardindustry-standard technologies under development. Our collaborative approach with the processorthese vendors allows us to coordinate the design of our new products with their product release schedules, thereby enhancing our ability to rapidly introduce new products incorporating the latest technology. We work closely with their respective development teams to optimizeenhance system performance and reduce system levelsystem-level issues. Similarly, we work very closely with our customers to identify their needs and develop our new product plans accordingly.
We believe that the combinationCustomers
During each of our focus on internal research and development activities, our close working relationships with customers and vendors and our modular design approach allow us to minimize time-to-market. Our latest introductions include our Simply Double storage portfolio of 2U 24 3.5" and 2U 48 2.5" drive servers. Ultra server design in 1U and 2U configurations, supporting up to 44 cores and 160W CPUs, 3TB of DDR4 memory in 24 DIMMs, 24 NVMe and 8 PCI-e 3.0 can be optimized for varieties of applications. MicroBlade design, a powerful and flexible extreme-density 3U/6U all-in-one total system, features 14/28 hot-swappable MicroBlade Modules supporting 112 ultra-low power Atom, or 56 UP or 28 DP Xeon processors with up to 4HDDs/SSDs. This architecture is an optimized, unified microserver, networking, storage, and remote management for cloud computing, dedicated hosting, web front end, content delivery and social networking applications.
As of June 30, 2016, we had 1,086 employees and 7 engineering consultants dedicated to research and development. Our total research and development expenses were $124.0 million, $100.3 million, and $84.3 million for fiscal years 2016, 20152023, 2022 and 2014, respectively.
Customers
For fiscal year 2016, our products were purchased by2021, we sold to over 8001,000 direct customers most of which are distributors, in over 100 countries. In addition, over the three years ended June 30, 2023, we have sold to thousands of end users through our indirect sales channel. These customers represent a diverse set of market verticals including enterprise data centers, cloud computing, AI, 5G and edge computing markets. In each of fiscal years 20162023, 2022 and 2015, sales to SoftLayer, a division of IBM Corporation, represented 10.9% and 10.1%, respectively, of our total net sales. No2021, no customer represented greater than 10% of our total net sales for fiscal year 2014.sales.
Sales and Marketing
Our sales and marketing program is focused onactivities are conducted through a combination of our direct sales force and our indirect sales channels. Aschannel partners. Our direct sales force is primarily focused on selling Total IT Solutions, including management software and global services to large scale cloud, enterprise and OEM customers. In addition, we are planning to offer optimized products with our command-center-based services, starting with a comprehensive product auto-configurator. The command center is the foundation of June 30, 2016, our salesexpanding B2C and marketing organization consisted of 311 employees and 37 independent sales representatives in 18 locations worldwide.B2B programs.
We work with distributors, includingvalue-added resellers, and system integrators, and OEMs to market and sell customizedour optimized solutions to their end customers. We provide sales and marketing assistance and training to our distributorsindirect sales channel partners and OEMs, who in turn provide service and support to end customers. We intend to leverage our relationships in our indirect sales channel and with key distributors andour OEMs to penetrate select industry segments where our products can provide a superior alternativebetter alternatives to existing solutions. For a group of customers who do not normally purchase through distributors or OEMs, we have a direct sales approach.
SMCI | 2023 Form 10-K | 4
We maintain close contact with our distributorsindirect sales channel partners and end customers. We often collaborate during the sales process with our distributorsindirect sales channel partners and the end customer’s technical point of contactstaff to help determine the optimal system configuration for the customer’s needs. Our interaction with distributorsour indirect sales channel partners and end customers allows us to monitor customer requirements and develop new products to better meet end customertheir needs.
International Sales
Our global sales efforts are supported both by our international offices in the Netherlands, Taiwan, South Korea, United Kingdom, China and Japan as well as by our United States based sales team. Product fulfillment and first level support for our international customers are provided by our distributors, OEMs and Supermicro Global Services. Our internationalServices and through our indirect sales efforts are supported both by our international offices in the Netherlands, Taiwan, Chinachannel and Japan as well as by our United States sales organization.OEMs. Sales to customers located outside of the United States represented 36.9%32.1%, 41.7%41.6% and 44.8%40.7% of net sales in fiscal years 2016, 20152023, 2022 and 2014,2021, respectively. Our long-lived assets located outside of the United States represented 24.0%, 23.8% and 27.9% of total long-lived assets in fiscal years 2016, 2015 and 2014, respectively. See Note 14 of Notes to our Consolidated Financial Statements in Item 8 of this Form 10-K for a summary of international sales and long-lived assets.
Marketing
Our marketing programs are designed to create a global awareness and branding for our company and products, as well as an understanding of the significant value we bring to customers. These programs also inform existing and potential customers, the trade press, distributorsmarket analysts, indirect sales channel partners and OEMs about the strong capabilities and benefits of using our products and solutions. Our marketing efforts support the sale and distribution of our products through both direct sales and distributionindirect channels. We rely on a variety of marketing vehicles, including advertising, public relations, web, social media, participation in industry trade shows and conferences to help gain market acceptance. We provide funds for cooperative marketing to our distributors.indirect sales channel partners to extend the reach of our marketing efforts. We also work closely withactively utilize our suppliers’ cooperative marketing programs and jointly benefit from markettheir marketing development funds that our distributors and suppliers make available.to which we are entitled.
Intellectual Property
We seek to protect our intellectual property rights with a combination of patents, trademark, copyright,trademarks, copyrights, trade secret laws, and disclosure restrictions. We rely primarily on trade secrets, technical know-how, and other unpatented proprietary information relating to our design and product development activities. We also enter into confidentiality and proprietary rights agreements with our employees, consultants, and other third parties and control access to our designs, documentation and other proprietary information.
Manufacturing and Quality Control
We manufacture the majority of our systems at our San Jose, California headquarters. We believe we are the only major server, storage and accelerated compute platform vendor that designs, develops, and manufactures a significant portion of their systems in the United States. Global assembly, test and quality control of our servers are performed at our manufacturing facilities in San Jose, California, Taiwan and the Netherlands. Each of our facilities Quality and Environmental Management System has been certified according to ISO 9001, ISO 14001 and/or ISO 13485 standards. Our suppliers and contract manufacturers are required to support the same standards to maintain consistent product and service quality and continuous improvement of quality and environmental performance.
We use several third partythird-party suppliers and contract manufacturers for materials and sub-assemblies, such as serverboards, chassis, disk drives, power supplies, fans and computer processors.sub-assemblies. We believe that selectively using outsourced manufacturing services allows us to focus on our core competencies in product design and development and increases our operational flexibility. We believe our manufacturing strategy allows us to adjust manufacturing capacity in response to changes in customer demand and to rapidly introduce new products to the market. We use Ablecom Technology, Inc. (“Ablecom”) and its affiliate Compuware Technology, Inc. ("Compuware"), both of which are related parties, for contract design and manufacturing coordination support. We work with Ablecom to optimize modular designs for our chassis and certain of ourseveral other components. Ablecom also coordinates the manufacturing of chassis for us. In addition to providing a largerlarge volume of contract manufacturing services forto us, Ablecom continues to warehouse for us a number ofwarehouses multiple components and subassemblies manufactured by multiplevarious suppliers prior tobefore shipment to our facilities in the United States, Europe and Asia.
Assembly, test and quality control We also have a series of our servers are performed at our manufacturing facilities in San Jose, California, the Netherlands and Taiwan. Each of our facilities has been certified by Quality / Environmental Management System or, Q/EMS, according to ISO 9001 and ISO 14001 standards. Our suppliers and contract manufacturers are required to support the same standards in order to maintain consistentagreements with Compuware, including multiple product development, production and service qualityagreements, product manufacturing agreements and continuous improvement of qualitylease agreements for office space. See Part II, Item 8, Note 9, “Related Party Transactions,” to the consolidated financial statements and environmental performances.Part III, Item 13, “Certain Relationships and Related Transactions and Director Independence.”
We seek to maintain sufficient inventory such that most of the orders we receive can be filled within 14 days. SMCI | 2023 Form 10-K | 5
We monitor our inventory on a continuous basis in ordercontinuously to be able to meet customer ordersdelivery requirements and to avoid inventory obsolescence. Due to our modularbuilding-block designs, our inventory can generally be used with multiple different products, furtherlowering working capital requirements and reducing the risk of inventory write-downs.
Competition
The market for our products is highly competitive, rapidly evolving and subject to new technological developments, changing customer needs and new product introductions. In particular, in recent years the market has been subject to substantial change. We compete primarily with large vendors of X86x86-based general purpose servers and components. In addition, we also compete with a number of smaller vendors whothat specialize in the sale of server components and systems. Over the last couple ofIn recent years, we have experienced increased competition from Original Design Manufacturers, or ODMs, whooriginal design manufacturers ("ODMs”) that benefit from their scale and very low costlow-cost manufacturing and are increasingly offering their own branded products. We believe our principal competitors include:
•Global technology vendors, such as Cisco, Dell, Inc., Hewlett-Packard Enterprise, Lenovo, and Cisco;Lenovo;
Original Design Manufacturers, or •ODMs, such as Foxconn, Quanta Computer, Inc.and Wiwynn Corporation; and
•OEMs, such as Inspur.
The principal competitive factors in our market include the following:
first•First to market with new emerging technologies;
flexible and customizable products to fit customers’ objectives;
high•High product performance, efficiency and reliability;
early•Early identification of emerging opportunities;
•Cost-effectiveness;
cost-effectiveness;
interoperability•Interoperability of products;
scalability;•Scalability; and
localized•Localized and responsive customer support on a worldwide basis.
We believe that we compete favorably with respect to most of these factors. However, most of our competitors have longer operating histories, significantly greater resources, and greater name recognition.recognition and deeper market penetration. They may be able to devote greater resources to the development, promotion and sale of their products than we can, which could allow them to respond more quickly to new technologies and changes in customer needs. In addition, it is possible that new competitors could emerge and acquire significant market share. See Part I, Item 1A, "Risk Factors" risk titled “The market in which we participate is highly competitive, and if we do not compete effectively, we may not be able to increase our market penetration, grow our net sales or improve our gross margins.”
EmployeesGovernment Regulation
Our worldwide business activities subject us to various federal, state, local, and foreign laws in the countries in which we operate, and our Total IT Solutions are subject to laws and regulations affecting their sale. To date, costs and accruals incurred to comply with these governmental regulations, including environmental regulations, have not been material to our capital expenditures, results of operations, and competitive position. Although there is no assurance that existing or future governmental laws and regulations, including environmental regulations, applicable to our operations or Total IT Solutions will not have a material adverse effect on our capital expenditures, results of operations, and competitive position, we do not currently anticipate material increases in expenditures for compliance with government regulations.
Human Capital Resources and Management
Mission, Culture, and Engagement
“The key to success in technology is designing a company around people committed to work that they love,” said Charles Liang, Supermicro Founder, President, Chief Executive Officer, and Chairman of the Board. We aim to attract, develop, and retain a high performing and engaged global workforce.
As of June 30, 2016,2023, we employed 2,6555,126 full time employees, and 44 consultants, consisting of 1,0862,448 employees in research and development, 311585 employees in sales and marketing, 251465 employees in general and administrative and 1,0071,628 employees in manufacturing. Of these employees, 1,7802,291 employees are based in our Silicon ValleySan Jose facilities. We consider our highly qualified and motivated employees to be a key factor in our business success. Our employees are not represented by any collective bargaining organization, and we have never experienced a work stoppage.
SMCI | 2023 Form 10-K | 6
We are committed to protecting the environment through our “We Keep IT Green” initiative as a first to market innovator in high-performance, high-efficiency server, storage, networking and management total solutions. We recognize the critical importance of talent and culture to our success and ability to fulfill this vision.
We encourage opportunities for growth and conduct regular performance reviews that set clear expectations to motivate employees and align their performance with company objectives. Supermicro Portal, our internal intranet, was created to keep employees informed about key changes to our business and company-wide resources.
Diversity, Equity, Inclusion, and Belonging
We strive to create a culture that promotes diversity, equity, inclusion, and belonging to boost team dynamics, productivity, and innovation within the organization. Employees should be treated fairly and respectfully despite differences and should feel accepted in the workplace to contribute their perspective and be valued. We are committed to increasing diversity in our workforce at all levels and regularly monitor our recruitment process with an aim to improve the diversity of our workforce and candidate pool.
Talent Development, Acquisition, Retention and Rewards
Talent Strategy
Our talent strategy focuses on attracting skilled, engaged employees who contribute the talent and skills critical to our innovative and forward-looking workforce. Our recruiting process actively sources talent supporting our ability to hire candidates with professional qualifications and potential. We identify opportunities through tracking and analyzing data from various sources such as annual performance reviews to assess our progress in ensuring critical talent are in critical roles.
It is our policy to ensure equal employment opportunity for all applicants and employees without regard to prohibited considerations of race, color, religion, sex (including pregnancy, gender identity and sexual orientation), national origin, age, disability or genetic information, marital status or any other classification protected by applicable local, state or federal laws. All employees receive training in the prevention of sexual harassment and abusive conduct in the workplace.
Total Rewards Program
Our total rewards program is designed to attract and reward talented individuals who possess the skills necessary to support our business objectives, assist in the achievement of our strategic goals and create long-term value for our stockholders. We provide employees with compensation packages that include base salary, incentive bonus programs, and long-term equity awards, including restricted stock units and options, tied to the value of our stock price. We believe that our relationsa compensation program with both short-term and long-term awards provides fair and competitive compensation and aligns employee and stockholder interests, including by incentivizing business and individual performance (pay for performance), motivating based on long-term company performance and integrating compensation with our business plans. In addition to cash and equity compensation, we also offer U.S. employees benefits such as life and health (medical, dental & vision) insurance, paid time off, sick leave, holiday pay, and a 401(k) plan. Outside of the U.S., we provide benefits based on local requirements and needs.
Health,Safety & Wellness
Throughout our history, we have maintained our commitment to providing a safe workplace that protects against and limits personal injury and environmental harm. We follow international standards and regulations for product safety and security. Our health and safety programs emphasize personal accountability, professional conduct, and regulatory compliance, while our culture fosters a sense of proactivity, caution, and communication. In the development of our products, we define and perform various tests to ensure Product Safety and Security. We evaluate risks using both government-required procedures and best practices to ensure we understand residual risk and appropriately protect our employees. We engage in proactive efforts to prevent occupational illnesses and injuries which allows us to maintain a safe, healthy, and secure workplace. We have a Safety Committee, which is designed to promote communications regarding health, safety, and emergency response procedures and to help implement improvements to our work areas and practices.
SMCI | 2023 Form 10-K | 7
We are good.committed to complying with applicable laws, including those associated with labor and employment, across all areas of our operations. In addition, we abide by global standards, irrespective of legal requirements, regarding the treatment of workers such as those detailed by the Responsible Business Alliance. These include prevention of excessive working hours and unfair wages, controls to prohibit child labor and human trafficking and bolstering workplace health and safety measures.
Board Oversight of Human Capital Management
Our Board of Directors, as a part of its overall responsibility to provide oversight, has purview over matters related to human capital management. Our Compensation Committee provides oversight of various matters related to human capital management, such as incentive compensation plans and equity compensation plans and the administration of such plans, compensation matters outside of the ordinary course, and compensation policies.
Corporate Information
We were founded in and maintain our worldwide headquarters and the majority of our employees in San Jose, California. We are one of the largest employers in the City of San Jose and an active member of the San Jose and Silicon Valley community.
We were incorporated in California in September 1993. We reincorporated in Delaware in March 2007. Our common stock is listed on The NASDAQthe Nasdaq Global Select Market under the symbol "SMCI."“SMCI.” Our principal executive offices are located at 980 Rock Avenue, San Jose, CACalifornia 95131, and our telephone number is (408) 503-8000. Our website address is www.supermicro.com.
Financial Information about Segments and Geographic Areas
Please see Part II, Item 8, Note 14, “Segment Reporting” to the consolidated financial statements in this Annual Report for information regarding segment reporting and Part II, Item 8, Note 3, “Revenue - Disaggregation of Revenue” to the consolidated financial statements in this Annual Report for information regarding our net sales by geographic region. See Part I, Item 1A, “Risk Factors” for further information on risks associated with our international operations.
Working Capital
We focus considerable attention on managing our inventories and other working capital related items. We manage inventories by communicating with our customers and partners and using our industry experience to forecast demand. We place manufacturing orders for our products that are based on forecasted demand. We generally maintain substantial inventories of our products because the computer server industry is characterized by short lead-time orders and quick delivery schedules. Additionally, during the fiscal year 2023, the computer server industry experienced global supply chain shortage, which requires us to carry more inventories to fulfill our customers and partners’ demands and backlogs.
Available Information
Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to reports filed or furnished pursuant to Sections 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended or the Exchange Act,(the “Exchange Act”), are available free of charge, on or through our website at www.supermicro.com as soon as reasonably practicable after we electronically file such reports with, or furnish those reports to, the Securities and Exchange Commission or the SEC. Information contained on our website is not incorporated by reference in, or made part of, this Annual Report on Form 10-K or our other filings with, or reports furnished to, the SEC. The SEC also maintains a website that contains our SEC filings. The address of the site is www.sec.gov. Further, a copy of this Annual Report on
SMCI | 2023 Form 10-K is located at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549. Information on the operation of the Public Reference Room can be obtained by calling the SEC at 1-800-SEC-0330.| 8
Item 1A.Risk Factors
The risks and uncertainties described below are not the only ones facing us. Other events that we do not currently anticipate or that we currently deem immaterial also may affect our business, financial condition, results of operations, cash flows, other key metrics and the trading price of our common stock.
Risk Factor Summary
Operational and Execution Risks
•Adverse economic conditions may harm our business.
•Recent events in eastern Europe and the Taiwan Strait present challenges and risks to us, and no assurances can be given that current or future developments would not have a material adverse effect on our business, results of operations and financial condition.
•Our quarterly operating results have fluctuated and will likely fluctuate in the future.
•Our revenue and margins for a particular period are difficult to predict, and a shortfall in revenue or decline in margins may harm our operating results.
•As we increasingly target larger customers and larger sales opportunities, our customer base may become more concentrated, our cost of sales may increase, our margins may be lower, our borrowings may be higher with effects on our cash flow, we are exposed to inventory risks,and our sales may be less predictable.
•If we fail to meet any publicly announced financial guidance or other expectations about our business, it could cause our stock to decline in value.
•We may be unable to secure additional financing on favorable terms, or at all, which in turn could impair the rate of our growth.
•Increases in average selling prices for our Total IT Solutions have historically significantly contributed to increases in net sales in some of the periods covered. Such prices are subject to decline if customers do not continue to purchase our latest generation products or additional components, which could harm our results of operations.
•Our cost structure and ability to deliver server solutions to customers in a timely manner may be adversely affected by volatility of the market for core components and certain materials for our products.
•We may lose sales or incur unexpected expenses relating to insufficient, excess or obsolete inventory.
•Difficulties we encounter relating to automating internal controls utilizing our ERP systems or integrating processes that occur in other IT applications could adversely impact our controls environment.
•System security violations, data protection breaches, cyber-attacks and other related cyber-security issues could disrupt our internal operations or compromise the security of our products, and any such disruption could reduce our expected revenues, increase our expenses, damage our reputation and adversely affect our stock price.
•Any failure to adequately expand or retain our sales force will impede our growth.
•Conflicts of interest may arise with Ablecom and Compuware, and they may adversely affect our operations.
•Our reliance on Ablecom could be subject to risks associated with our reliance on a limited source of contract manufacturing services and inventory warehousing.
•If negative publicity arises with respect to us, our employees, our third-party service providers or our partners, our business and operating results could be adversely affected, regardless of whether the negative publicity is true.
•If we lose Charles Liang, our President, Chief Executive Officer and Chairman, or any other key employee, we may not be able to implement our business strategy in a timely manner.
•Our direct sales efforts may create confusion for our end customers and harm our relationships in our indirect sales channel and with our OEMs.
•If we are unable to attract and integrate additional key employees in a manner that enables us to scale our business and operations effectively, or if we do not maintain competitive compensation policies to retain our employees, our ability to operate effectively and efficiently could be limited.
Strategic and Industry Risks
•If we do not successfully manage the expansion of our international manufacturing capacity and business operations, our business could be harmed.
•We may not be able to successfully manage our business for growth and expansion.
•Our growth into markets outside the United States exposes us to risks inherent in international business operations.
•We depend upon the development of new products & enhancements to existing products. If we fail to predict or respond to emerging technological trends & our customers’ changing needs, our operating results and market share may suffer.
SMCI | 2023 Form 10-K | 9
•The market in which we participate is highly competitive.
•Industry consolidation may lead to increased competition and may harm our operating results.
•We must work closely with our suppliers to make timely new product introductions.
•Our suppliers’ failure to improve the functionality and performance of materials and key components for our products may impair or delay our ability to deliver innovative products to our customers.
•We rely on a limited number of suppliers for certain components used to manufacture our products.
•We rely on indirect sales channels and any disruption in these channels could adversely affect our sales.
•Our failure to deliver high quality server and storage solutions could damage our reputation and diminish demand for our products.
•Our results of operations may be subject to fluctuations based upon our investment in corporate ventures.
Legal and Regulatory Risks
•Because our products and services may store, process and use data, some of which contains personal information, we are subject to complex and evolving laws and regulations regarding privacy, data protection and other matters.
•Our operations could involve the use of regulated materials, and we must comply with environmental, health and safety laws and regulations, which can be expensive.
•If we are unable to maintain effective internal control over financial reporting, investors may lose confidence in the accuracy and completeness of our financial reports and the market price of our common stock may decrease.
•Failure to comply with the U.S. Foreign Corrupt Practices Act, other applicable anti-corruption and anti-bribery laws, and applicable trade control laws could subject us to penalties and other adverse consequences.
•Any failure to protect our intellectual property could impair our brand and our competitiveness.
•Resolution of claims that we have violated or may violate the intellectual property rights of others could require us to indemnify others or pay significant royalties to third parties.
•Provisions of our governance documents and Delaware law might discourage, delay or prevent a change of control of our company or changes in our management.
Financial Risks
•Our R&D expenditures, as a percentage of our net sales, are considerably higher than many of our competitors.
•Our future effective income tax rates could be affected by changes in the relative mix of our operations and income among different geographic regions and by changes in domestic and foreign income tax laws.
•Backlog does not provide a substantial portion of our net sales in any quarter.
Risks Related to Owning our Common Stock
•The trading price of our common stock is likely to be volatile.
•Future sales of shares by existing stockholders, including any shares that have vested or may in the future vest under the 2021 CEO Performance Award, could cause our stock price to decline.
•The concentration of our capital stock ownership with insiders likely limits your ability to influence corporate matters.
•We do not expect to pay any cash dividends for the foreseeable future.
General Risks
•Our Businessproducts may not be viewed as supporting climate change mitigation in the IT sector.
•Our business and Industryoperations may be impacted by natural disaster events, including those brought on by climate change.
•The use of AI by our workforce may present risks to our business.
•Expectations relating to environmental, social and governance considerations expose us to potential liabilities, reputational harm and other unforeseen adverse effects on our business.
SMCI | 2023 Form 10-K | 10
Operational and Execution Risks
Adverse economic conditions may harm our business.
Our business depends on the overall demand for accelerated compute platforms. Global financial developments and downturns seemingly unrelated to us or our industry may harm us. If economic conditions, including inflation, increased interest rates, economic output and currency exchange rates, in these markets and other key potential markets for our Total IT Solutions remain uncertain or further deteriorate, including as a result of the downturn in the global economy, the Russia-Ukraine conflict and related sanctions and trade restrictions, the effects of the COVID-19 pandemic or other reasons, customers may delay or reduce their spending. General economic weakness may also lead to longer collection cycles for payments due from our customers, an increase in customer bad debt, and impairment of investments. Furthermore, continued weakness and uncertainty in worldwide credit markets may harm our customers’ available budgetary spending, which could lead to cancellations or delays in planned purchases of our Total IT Solutions. If our customers or potential customers experience economic hardship, this could reduce the demand for our Total IT Solutions, delay and lengthen sales cycles, increase requests for customer credit which may increase our risks in the event customers do not pay or make timely payment, lower prices for our Total IT Solutions, and lead to slower growth or even a decline in our revenues, operating results and cash flows.
Inflation in the U.S. has recently increased at a rate not seen in several decades, which may result in decreased demand for our Total IT Solutions, increases in our operating costs including our labor costs, constrained credit and liquidity, reduced spending and volatility in financial markets. Inflation may continue to increase, both in the U.S. and globally, which could increase our operating costs and reduce demand for our Total IT Solutions. The Federal Reserve has significantly raised, and may again raise, interest rates in response to concerns over inflation risk, which may increase our own borrowing costs and/or reduce our clients’ access to debt financing, reduce technology expenditures and demand for our Total IT Solutions.
Recent events in eastern Europe and the Taiwan strait present challenges and risks to us, and no assurances can be given that current or future developments will not have a material adverse effect on our business, results of operations and financial condition.
The crisis in eastern Europe continues to pose challenges to global companies, including us, which have customers in the impacted regions. The U.S. and other global governments have placed restrictions on how companies may transact with businesses in these regions, particularly Russia, Belarus and restricted areas in Ukraine. Because of these restrictions and the growing logistical and other challenges, we have paused sales to Russia, Belarus and the restricted areas in Ukraine. This decision, which is in line with the approach of other global technology companies, helps us comply with our obligations under the various requirements in the U.S. and around the world. While it is difficult to estimate the impact on our business and financial position of both (i) our pause in sales to Russia, Belarus and the restricted areas in Ukraine and the current or future sanctions and (ii) tensions in the Taiwan strait, our pause in sales and these sanctions and continuing rising tensions could have adverse impacts on us in future periods, although they have not been material to date. For example, with respect to Russia, Belarus and the restricted areas in Ukraine, we did not, prior to the imposition of restrictions, make a material portion of our sales or acquire a material portion of our parts or components directly from impacted regions; however, our suppliers and their suppliers may acquire raw materials for parts or components from the impacted regions. Supply disruptions may make it harder for them to find favorable pricing and reliable sources for materials they need, which may put further upward pressure on their costs and increasing the risks that our costs may increase and that it may be more difficult, or we may be unable, to acquire materials needed. In addition, the crises may further exacerbate inflationary pressures that have indirect impacts on our business, such as further increasing our logistics costs from rising fuel prices and/or continuing to increase our compensation expense. In addition, no assurances can be given that additional developments in the impacted regions, and responses thereto from the U.S. and other global governments, would not have a material adverse effect on our business, results of operations and financial condition.
Our quarterly operating results have fluctuated and will likely fluctuate in the future, which could cause rapid declines in our stock price.
As our business continues to grow, we
We believe that our quarterly operating results will continue to be subject to greater fluctuation due to various factors, many of which are beyond our control. Factors that may affect quarterly operating results include:
•Fluctuations in demand for our products, in part due to changes in the future include:global economic environment;
•Fluctuations based upon seasonality, with the quarters ending March 31 and September 30 typically being weaker;
SMCI | 2023 Form 10-K | 11
•Continuing lingering effects from the COVID-19 pandemic, the occurrence of other global pandemics, and other events that impact the global economy or one or more sectors thereof, such as the global economic downturn and recent events in eastern Europe;
•The ability of our customers and suppliers to obtain financing or fund capital expenditures;
•Fluctuations in the timing and size of large customer orders, as larger customersincluding with respect to changes in sales and larger orders become an increasing percentageimplementation cycles of our net sales;products into our customers’ spending plans and associated revenue;
•Variability of our margins based on our manufacturing capacity utilization, the mix of server and storage systems, subsystems and accessories we sell and the percentage of our sales to internet data center, cloud computing customers or certain geographical regions;
•Fluctuations in availability and costs associated with key components, particularly semiconductors, memory, storage solutions, and other materials needed to satisfy customer requirements;
•The timing of the introduction of new products by leading microprocessor vendors and other suppliers;
•The introduction and market acceptance of new technologies and products, and our success in emergent and rapidly evolving markets (such as AI), and incorporating emerging technologies in our products, as well as the adoption of new standards;
Fluctuations based upon changes in demand for and cost of storage solutions as such solutions become an increasing percentage of our net sales;
•Changes in our product pricing policies, including those made in response to new product announcements and pricing changesfluctuations in availability and costs of our competitors;key components;
•Mix of whether customer purchases are of fullpartially or fully integrated systems or subsystems and accessories and whether made directly or through our indirect sales channels;channel partners;
•The effect of mergers and acquisitions among our competitors, suppliers, customers, or partners;
•General economic conditions in our geographic markets;
•Geopolitical tensions, including trade wars, tariffs and/or sanctions in our geographic markets; and
•Impact of regulatory changes on our cost of doing business.
Accordingly, it is difficult
In addition, customers may hesitate to accurately forecastpurchase, or not continue to purchase, our products based upon past unwarranted reports about security risks associated with the use of our products. Accordingly, our growth and results of operations may fluctuate on a quarterly basis. If we fail to meet expectations of investors or analysts, our stock price may fall rapidly and without notice. Furthermore, the fluctuation of quarterly operating results may render less meaningful period-to-period comparisons of our operating results, and you should not rely upon them as an indication of future performance.
Our revenue and margins for a particular period are difficult to predict, and a shortfall in revenue or decline in margins may harm our operating results.
As a result of a variety of factors discussed in this Annual Report, our revenue and margins for a particular quarter are difficult to predict, especially in light of a challenging and inconsistent global macroeconomic environment, lingering impacts of the COVID-19 pandemic, the global economic downturn, recent events in eastern Europe, volatility in emergent and rapidly evolving markets (such as AI), steps we are taking in response thereto, increased competition, the effects of the ongoing trade disputes between the United States and China and related market uncertainty. Our revenue may grow at a slower rate than in past periods or decline. Our ability to meet financial expectations could also be adversely affected if the nonlinear sales pattern seen in some of our past quarters recurs in future periods.
The timing of large orders can also have a significant effect on our business and operating results from quarter to quarter. From time to time, we receive large orders that have a significant effect on our operating results in the period in which the order is recognized as revenue. For instance, our larger customers may seek to fulfill all or substantially all of their requirements in a single or a few orders, and not make another significant purchase for a substantial period of time. The timing of such orders is difficult to predict, and the timing of revenue recognition from such orders may affect period to period changes in revenue. When we issue credit in connection with large orders, in the event customers to do not pay or make timely payment our ability to collect amounts owed to us creates risk. We have in the past, and may continue in the future, on a case by case basis, take steps to mitigate collection risks, such as seeking third party insurance with respect to credit issued and taking a security interest in goods we have sold to customers pending collection of any credit given. However, we cannot assure that such measures will be effective to collect on all or part of any such credit issued. As a result, our operating results could vary materially from quarter to quarter based on the receipt of such orders and their ultimate recognition as revenue.
We plan our operating expense levels based primarily on forecasted revenue levels. These expenses and the impact of long-term commitments are relatively fixed in the short term. A shortfall in revenue could lead to operating results being below expectations because we may not be able to quickly reduce these fixed expenses in response to short-term business changes. Any of the above factors could have a material adverse impact on our operations and financial results.
SMCI | 2023 Form 10-K | 12
As we increasingly target larger customers and larger sales opportunities, our customer base may become more concentrated, our cost of sales may increase, our margins may be lower, our borrowings to fund purchases of key components may be higher, we are exposed to inventory risks and increased credit risks, and our sales may be less predictable.
As our business continues to grow, weWe have become increasingly dependent upon larger sales to maintaingrow our rate of growth.business. In particular, in recent years, we have completed larger sales to leading cloud computing andinternet data center companies. One of ourand cloud customers, large enterprise customers and OEMs. While no single customer accounted for 10.9%10% or more of ournet sales in any of fiscal years 2023, 2022 or 2021, we may have customers account for 10% or more of net sales in the fiscal year ended June 30, 2016. Asfuture. If customers buy our products in greater volumes and their business becomes a larger percentage of our net sales, we may grow increasingly dependent on those customers to maintain our growth. If our largest customers do not purchase our products, or we are unable to supply such customers with products, at the levels, in the timeframes or within the geographies that we expect, including as a result of the global economic downturn, lingering impacts of the COVID-19 pandemic, or recent events in eastern Europe on their or our businesses, our ability to maintain or grow our net sales will be adversely affected.
Increased sales to larger customers may also cause fluctuations in results of operations. Large orders are generally subject to intense competition and pricing pressure which can have an adverse impact on our margins and results of operations. Likewise, larger customers may seek to fulfill all or substantially all of their requirements in a single or a few orders, and not make another significant purchase for a substantial period of time. Accordingly, a significant increase in revenue during the period in which we recognize the revenue from a large customer may be followed by a period of time during which the customer purchases noneeither does not purchase any products or fewonly a small number of our products.
Additionally, as we and our partners focus increasingly on selling to larger customers and attracting larger orders, we expect greater costs of sales. Our sales cycle may become longer, and more expensive, as larger customers typically spend more time negotiating contracts than smaller customers. LargerSuch larger orders may require greater commitments of working capital, which may require increased borrowings under our credit facilities to fund purchases of key components (such as CPUs, memory, SSDs and GPUs) necessary for such orders, which could adversely affect our cash flow and expose us to the risk of holding excess and obsolete inventory, if there are delays or cancellations. Furthermore, larger customers also often seek greater levels of support in the implementation and use of our server solutions. An actual or perceived inability to meet customer support demands may adversely affect our relationship with such customers, which may affect the likelihood of future purchases of our products. Larger customers may also request larger amounts of credit or longer payment terms, which, if granted, increases our risks in the event customers to do not pay or make timely payment, which risk is exacerbated in the event our payment terms with major suppliers of necessary components for such orders do not match the payment terms of our customers.
As a result of the above factors, our quarter-to-quarter results of operations may be subject to greater fluctuation and our stock price may be adversely affected.
We maySMCI | 2023 Form 10-K | 13
If we fail to meet any publicly announced financial guidance or other expectations about our business, which wouldit could cause our stock to decline in value.
We typicallygenerally provide forward looking financial guidance when we announce our financial results fromfor the prior quarter. WeNo assurances can be given that we will continue to provide forward looking financial guidance, and if we do issue forward looking guidance, the uncertainties related to these items could cause us to revise such guidance. If issued, we undertake no obligation to update suchany forward-looking guidance at any time. Frequently inIn the past, our financial results have failed to meet the guidance we provided. There are a number of reasons why we have at times failed to meet guidance in the past and might fail again in the future, including, but not limited to, the factors described in these Risk Factors.
We may be unable to secure additional financing on favorable terms, or at all, which in turn could impair the rate of our growth.
We had net income of $640.0 million, $285.2 million and $111.9 million in fiscal years 2023, 2022 and 2021, respectively. We believe that our current cash, cash equivalents, borrowing capacity available from our credit facilities and internally generated cash flows will be sufficient to support our operating businesses and maturing debt and interest payments for the 12 months following the issuance of the financial statements included in this Annual Report. Nevertheless, we intend to continue to grow our business, which could require additional capital. Since our initial public offering, we have funded our growth primarily through the cash raised from our operations and credit facilities with banking institutions. We may need to expand our existing credit facilities, enter into new credit facilities or engage in equity, debt or other type of financings to secure additional capital to continue or increase our rate of growth. If we raise additional capital through future issuances of equity or convertible debt securities, our existing stockholders could suffer significant dilution, and any new equity securities we may issue could have rights, preferences and privileges superior to those holders of our common stock. Any credit facility or debt financing that we secure in the future could involve restrictive covenants relating to our capital raising activities and other financial and operational matters, which could make it more difficult for us to raise additional capital and to pursue our growth strategies. If we are unable to favorably assesssecure additional funding on favorable terms, or at all, when we seek it, we may not be able to continue the effectivenessrate of our internal control over financial reporting, or if our independent auditors are unable to provide an unqualified attestation report on our internal control over financial reporting, our stock price couldgrowth. In addition, no assurances can be adversely affected.
In November 2015, our management determined, and the Audit Committee of our Board of Directors concurred,given that a material weakness existed in our internal control over financial reporting related to the revenue recognition of contracts with extended product warranties. We identified errors related to revenue recognized prior to meeting the U.S. GAAP revenue
recognition criteria that impacted prior periods, including fiscal years 2013, 2014 and 2015 which were corrected in the three months ended September 30, 2015. We have improved our controls on revenue recognition of contracts with extended product warranties and remediated this material weakness as of June 30, 2016. While we have put controls in place to remediate the material weakness, we cannot assure that there will not be additional material weaknesses or significant deficienciesevent that we or our independent registered public accounting firm may identify. If we identifysecure such issuesfinancing that the proceeds thereof will be used effectively or if we are unable to produce accurate and timely financial statements, our stock price may be adversely affected and we may be unable to maintain compliance with Nasdaq listing requirements.
Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, our management is required to report on the effectiveness of our internal control over financial reporting in our annual reports. In addition, our independent auditors must attest to and report on the effectiveness of our internal control over financial reporting. The rules governing the standards that must be met for management to assess our internal control over financial reporting are complex, and require significant documentation, testing and possible remediation. As a result, our efforts to comply with Section 404 have required the commitment of significant managerial and financial resources. As we are committed to maintaining high standards of public disclosure, our efforts to comply with Section 404 are ongoing, and we are continuously in the process of reviewing, documenting and testing our internal control over financial reporting, which will result in continued commitment of significant financial and managerial resources. Although we strive to maintain effective internal controls over financial reporting in order to prevent and detect material misstatements in our annual and quarterly financial statements and prevent fraud, we cannot assure that such efforts will be effective. If we fail to maintain effective internal controls in future periods, our operating results, financial position and stock price could be adversely affected.growth.
Increases in average selling prices for our server solutions have significantly contributed to our increases in net sales.sales in some of the periods covered by this Annual Report. Such prices are subject to decline if customers do not continue to purchase our latest generation products or additional components, which could harm our results of operations.
Increases in average selling prices for our server solutions have significantly contributed to our increases in net sales.sales in some of the periods covered by this Annual Report. The market for key components became, and continues to be, more volatile during the global economic downturn, the COVID-19 pandemic and lingering effects thereof, and recent events in eastern Europe. As with most electronics basedelectronics-based products, average selling prices of serversserver and storage products are typically are highest at the time of introduction of new products, which utilize the latest technology, and tend to decrease over time as such products become commoditized and are ultimately replaced by even newer generation products. As our business continues to grow, we may increasingly be subject to this industry risk. We cannot predict the timing or amount of any decline in the average selling prices of our server solutions that we may experience in the future.future, which may be exacerbated by the global economic downturn, lingering effects from the COVID-19 pandemic, and recent events in eastern Europe. In some instances, our agreements with our distributorsindirect sales channel partners limit our ability to reduce prices unless we make such price reductions available to them, or price protect their inventory. If we are unable to either (i) decrease the average per unit manufacturing costs faster than the rate at which average selling prices continue to decline or (ii) increase the average selling prices at the same pace at which average per unit manufacturing costs increase, our business, financial condition and results of operations will be harmed. In addition, our average selling prices have increased rapidly in recent periods as we have sold more products including additional components such as more memory and hard disk drive capacity. There is no assurance that our average selling prices will continue to increase and may decline due to decreased demand for, or lower prices of, the additional components that we sell with our server solutions.
SMCI | 2023 Form 10-K | 14
Our cost structure and ability to deliver server solutions to customers in a timely manner may be adversely affected by volatility of the market for core components and certain materials for our products.
Prices of certain materials and core components utilized in the manufacture of our server and storage solutions, such as GPUs, serverboards, chassis, central processing units, or CPUs, memory, and hard drives and SSDs, represent a significant portion of our cost of sales. We generallyWhile we have increased our purchases of certain critical materials and core components in response to the supply and demand uncertainties, we do not enter intohave long-term supply contracts for theseall critical materials and core components, but instead often purchase these materials and components on a purchase order basis. Prices and availability of these core components and materials are volatile, and, as a result, it is difficult to predict expense levels and operating results. In addition, if our business growth renders it necessary or appropriate to transition to longer term contracts with materials and core component suppliers, our costs may increase, and our gross margins could correspondingly decrease.
Because we often acquire materials and corekey components on an as needed basis, we may be limited in our ability to effectively and efficiently respond to customer orders because of the then-current availability or the terms and pricing of these materials and core components.key components, particularly for GPUs during periods of growth of new emerging markets (such as for AI). Our industry has experienced materials shortages and delivery delays in the past, including as a result of increased demand during periods of growth of new emerging markets (such as for AI), the negative impact of COVID-19, the global economic downturn and recent events in eastern Europe on global supply chains, and we may experience shortages or delays of critical materials or increased logistics costs to obtain necessary materials in a timely manner in the future. The COVID-19 pandemic, other macroeconomic factors exacerbated by the COVID-19 pandemic, lingering effects from the COVID-19 pandemic, and other factors, have in the past resulted in, and may in future result in additional shortages of key semiconductors. From time to time, we have been forced to delay the introduction of certain of our products or the fulfillment of customer orders as a result of shortages of materials and core components. For example, we were unable to fulfill certain orders in fiscal year 2010 due to componentkey components, which can adversely impact our revenue. If shortages, and our net sales were adversely impacted in fiscal year 2013 and 2012 by disk drive shortages resulting from flooding in Thailand. If shortagessupply or demand imbalances or delays arise, the prices of these materials and corekey components may increase or the materials and corekey components may not be available at all. In addition, in the event of shortages, some of our larger competitors may have greater abilities to obtain materials and corekey components due to their larger purchasing power. We may not be able to secure enough core
key components or materials at reasonable prices or of acceptable quality to build new products to meet customer demand, which could adversely affect our business, results of operations and financial results.condition. In addition, from time to time, we have accepted customer orders with various types of component pricing protection. Such arrangements have increased our exposure to component pricing fluctuations and have adversely affected our financial results in certain quarters.
If we were to lose any of our current supply or contract manufacturing relationships, the process of identifying and qualifying a new supplier or contract manufacturer who will meetmeets our quality and delivery requirements, and who will appropriately safeguard our intellectual property, may require a significant investment of time and resources, adversely affecting our ability to satisfy customer purchase orders and delaying our ability to rapidly introduce new products to market. Similarly, if any of our suppliers were to cancel, materially change contracts or commitments to us or fail to meet the quality or delivery requirements needed to satisfy customer demand for our products, whether due to shortages or other reasons, our reputation and relationships with customers could be damaged. We could lose orders, be unable to develop or sell some products cost-effectively or on a timely basis, if at all, and have significantly decreased revenues, margins and earnings, which would have a material adverse effect on our business.business, results of operations and financial condition.
We may incur additional expenses and suffer lower margins if our expectations regarding long term hard disk drive commitments prove incorrect.SMCI | 2023 Form 10-K | 15
Notwithstanding our general practice of not entering into long term supply contracts, as a result of severe flooding in Thailand during the first quarter of fiscal year 2012, we have entered into purchase agreements with selected suppliers of hard disk drives in order to ensure continuity of supply for these components. The hard disk drive purchase commitments totaled approximately $110.5 million as of June 30, 2016, a decrease from $185.7 million as of June 30, 2015 and will be paid through December 2016. Higher costs compared to the lower selling prices for these components incurred under these agreements contributed to our lower gross profit in fiscal year 2013 and if a similar event occurs in the future, our gross profit will likely be impacted. Our existing and any other similar future supply commitments that we may enter into expose us to risk for lower margins or loss on disposal of such inventory if our expectations of customer demand are incorrect and the market price of the material or component inventory decline. Likewise if we fail to enter into commitments we may be exposed to limited availability of supply or higher inventory costs which could result in lower net sales and adversely impact gross margin and net income.
We may lose sales or incur unexpected expenses relating to insufficient, excess or obsolete inventory.
As a result of our strategy to provideTo offer greater choicechoices and customizationoptimization of our products to benefit our customers, we are required to maintain a high level of inventory. If we fail to maintain sufficient inventory, we may not be able to meet demand for our products on a timely basis, and our sales may suffer. If we overestimate customer demand for our products, we could experience excess inventory of our products and be unable to sell those products at a reasonable price, or at all. As a result, we may need to record higher inventory reserves. In addition, from time to time we assume greater inventory risk in connection with the purchase or manufacture of more specialized components in connection with higher volume sales opportunities. In the past, we have taken certain actions including our increased purchase of certain critical materials and components as a part of our response planning for various uncertainties and risks, such as those related to the COVID-19 pandemic and lingering effects therefrom. Specifically, we sought to actively manage our supply chain for potential risks of shortage by first building inventories of critical components required for our motherboards and other system printed circuit boards and continued to add to our inventories of key components such as CPUs, memory, SSDs and to a lesser extent GPUs such that customer orders can be fulfilled as they are received. We may continue to take similar actions in the future based upon our assessment of uncertainties and risks. Nevertheless, no assurances can be given that any such efforts will be successful to manage inventory, and we could be exposed to risks of insufficient, excess, or obsolete inventory. We have from time to time experienced inventory write downs associated with higher volume sales that were not completed as anticipated. We expect that we will experience such write downs from time to timetime-to-time in the future related to existing and future commitments. If we are later ablecommitments, and potentially related to sell inventory with respect to which we have taken a reserve at a profit, it may increase the quarterly variances in our operating results. Additionally, the rapid paceany proactive purchase of innovation in our industry could render significant portionscertain critical materials and components as part of our existing inventory obsolete. Certain of our distributorsplanning for uncertainties and OEMs have rights to return products, limited to purchases over a specified period of time, generally within 60 to 90 days of the purchase, or to products in the distributor's or OEM's inventory at certain times, such as termination of the agreement or product obsolescence. Any returns under these arrangements could result in additional obsolete inventory. In addition, server systems, subsystems and accessories that have been customized and later returned by those of our customers and partners who have return rights or stock rotation rights may be unusable for other purposes or may require reformation at additional cost to be made ready for sale to other customers.risks. Excess or obsolete inventory levels for these or other reasons could result in unexpected expenses or increases in our reserves against potential future charges which would adversely affect our business, results of operations and financial results. For additional information regarding customer return rights, see “Management's Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies-Inventory Valuation.”condition.
We mayDifficulties we encounter difficulties withrelating to automating internal controls utilizing our ERP systems.systems or integrating processes that occur in other IT applications could adversely impact our controls environment.
WeMany companies have implementedexperienced challenges with their ERP systems that have had a new enterprise resource planning, or ERP, system and have commenced using the new system in the United States in July 2015 and in Taiwan and the Netherlands in January 2016.negative effect on their business. We have incurred and expect to continue to incur additional expenses related to our implementationERP systems, particularly as we continue to further enhance and develop our ERP system. Many companies have experienced delays and difficulties with the implementation of new or changed ERP systems that have had a negative effect on their business.them including by automating certain internal controls. Any future disruptions, delays or deficiencies in the design and implementation ofrelating to automating internal controls utilizing our ERP system could resultsystems or integrating processes that occur in potentially much higher costs than we currently anticipate andother IT applications could adversely affect our ability to
provide services, fulfill contractual obligations, file reports with the SEC in a timely manner, and/or otherwise operate our business, ordeliver accurate financial statements and otherwise impact our controls environment. Any of these consequences could have an adverse effect on our business, results of operations and financial condition.
System security risks,violations, data protection breaches, cyber-attacksand other related cyber-security issues could disrupt our internal operations or interfere withcompromise the security of our products, and any such disruption could reduce our expected revenues, increase our expenses, damage our reputation and adversely affect our stock price.
ExperiencedMalicious computer programmers and hackers may be able to penetrate our network and misappropriate or compromise our confidential information or that of third parties, create system disruptions or cause shutdowns. Computer programmers and hackers also may be able to develop and deploy viruses, worms and other malicious software programs that attack our products or otherwise exploit any security vulnerabilities of our products. While we employ a number of protective measures, including firewalls, anti-virus and endpoint detection and response technologies, regular annual training of employees with respect to cyber-security, these measures may fail to prevent or detect attacks on our systems. While there have been unauthorized intrusions into our network in the past, none of these intrusions, individually or in the aggregate, had a material adverse effect on our business, operations, or products. We have taken steps to enhance the security of our network and computer systems and we provide regular updates to our Board at our quarterly meetings with respect to cyber-security matters. Despite these efforts, we may experience future intrusions, which could adversely affect our business, operations, or products. In addition, our hardware and software or third partythird-party components and software that we utilize in our products may contain defects in design or manufacture, including “bugs” and other problems that could unexpectedly interfere with the operation or security of the products. The costs to us to eliminate or alleviatemitigate cyber or other security problems, bugs, viruses, worms, malicious software programs and security vulnerabilities could be significant and, if our efforts to address these problems are not successful, this could result in interruptions, delays, cessation of service and loss of existing or potential customers that may impede our sales, manufacturing, distribution or other critical functions. Any claim that our products or systems are subject to a cyber-security risk, whether valid or not, could damage our reputation and adversely impact our revenues and results of operations.
SMCI | 2023 Form 10-K | 16
We manage and store various proprietary information and sensitive or confidential data relating to our business as well as information from our suppliers and customers. Breaches of our or any of our third party suppliers’ security measures or the accidental loss, inadvertent disclosure or unapproved dissemination of proprietary information or sensitive or confidential data about us or our customers or suppliers, including the potential loss or disclosure of such information or data as a result of fraud, trickery or other forms of deception, could expose us or our customers or suppliers to a risk of loss or misuse of this information, result in litigation and potential liability for us, damage our brand and reputation or otherwise harm our business.
To the extent we experience cyber-security incidents in the future, our relationships with our customers and suppliers may be materially impacted, our brand and reputation may be harmed and we could incur substantial costs in responding to and remediating the incidents and in resolving any investigations or disputes that may arise with respect to them, any of which would cause our business, operations, or products to be adversely affected. In addition, the cost and operational consequences of implementing and adding further data protection measures could be significant.
If we do not successfully manage the expansion of our international manufacturing operations, our business could be harmed.
Since inception we have conducted a substantial majority of our manufacturing operations in San Jose. We are continuing to work on increasing our utilization of manufacturing operations in Taiwan and in the Netherlands. The commencement or scaling of new manufacturing operations in new locations, particularly in other jurisdictions, entails additional risks and challenges. Difficulties associated with our implementation of a new global operating structure adversely impacted our results of operations and tax expenses in the quarter ended June 30, 2016. If we are unable to successfully ramp up these operations we may incur unanticipated costs, difficulties in making timely delivery of products or suffer other business disruptions which could adversely impact our results of operations.
We may not be able to successfully manage our planned growth and expansion.
Over time we expect to continue to make investments to pursue new customers and expand our product offerings to grow our business rapidly. We expect that our annual operating expenses will continue to increase as we invest in sales and marketing, research and development, manufacturing and production infrastructure, and strengthen customer service and support resources for our customers. Our failure to expand operational and financial systems timely or efficiently could result in additional operating inefficiencies, which could increase our costs and expenses more than we had planned and prevent us from successfully executing our business plan. We may not be able to offset the costs of operation expansion by leveraging the economies of scale from our growth in negotiations with our suppliers and contract manufacturers. Additionally, if we increase our operating expenses in anticipation of the growth of our business and this growth does not meet our expectations, our financial results will be negatively impacted.
If our business grows, we will have to manage additional product design projects, materials procurement processes, and sales efforts and marketing for an increasing number of SKUs, as well as expand the number and scope of our relationships with suppliers, distributors and end customers. If we fail to manage these additional responsibilities and relationships successfully, we may incur significant costs, which may negatively impact our operating results. Additionally, in our efforts to be first to market with new products with innovative functionality and features, we may devote significant research and development resources to products and product features for which a market does not develop quickly, or at all. If we are not able to predict market trends accurately, we may not benefit from such research and development activities, and our results of operations may suffer.
Our future effective income tax rates could be affected by changes in the relative mix of our operations and income among different geographic regions and by proposed and enacted United States federal income tax legislation, which could affect our future operating results, financial condition and cash flows.
We seek to structure our worldwide operations to take advantage of certain international tax planning opportunities and incentives. Our future effective income tax rates could be adversely affected if tax authorities challenge our international tax structure or if the relative mix of our United States and international income changes for any reason, or if United States or international tax laws were to change in the future. In particular, a substantial portion of our revenue is generated from customers located outside the United States Foreign withholding taxes and United States income taxes have not been provided on undistributed earnings for certain non-United States subsidiaries, because such earnings are intended to be indefinitely reinvested in the operations of those subsidiaries. In the past, the administration has considered initiatives which could substantially reduce our ability to defer United States taxes including: limitations on deferral of United States taxation of foreign earnings eliminate utilization or substantially reduce our ability to claim foreign tax credits, and eliminate various tax deductions until foreign earnings are repatriated to the United States. If any of these proposals are constituted into law, they could have a negative impact on our financial position and results of operations. We cannot assure you that we will be able to lower our effective tax rate as a result of these activities nor that such rate will not increase in the future.
The market in which we participate is highly competitive, and if we do not compete effectively, we may not be able to increase our market penetration, grow our net sales or improve our gross margins.
The market for server solutions is intensely competitive and rapidly changing. Barriers to entry in our market are relatively low and we expect increased challenges from existing as well as new competitors. Some of our principal competitors offer server solutions at a lower price, which has resulted in pricing pressures on sales of our server solutions. We expect further downward pricing pressure from our competitors and expect that we will have to price some of our server solutions aggressively to increase our market share with respect to those products or geographies, particularly for internet data center customers and other large sale opportunities. If we are unable to maintain the margins on our server solutions, our operating results could be negatively impacted. In addition, if we do not develop new innovative server solutions, or enhance the reliability, performance, efficiency and other features of our existing server solutions, our customers may turn to our competitors for alternatives. In addition, pricing pressures and increased competition generally may also result in reduced sales, less efficient utilization of our manufacturing operations, lower margins or the failure of our products to achieve or maintain widespread market acceptance, any of which could have a material adverse effect on our business, results of operations and financial condition.
Our principal competitors include global technology companies such as Dell, Inc., Hewlett-Packard Enterprise, Lenovo and Cisco. In addition, we also compete with a number of other vendors who also sell application optimized servers, contract manufacturers and original design manufacturers, or ODMs, such as Quanta Computer Incorporated. ODMs sell server solutions marketed or sold under a third party brand.
Many of our competitors enjoy substantial competitive advantages, such as:
Greater name recognition and deeper market penetration;
Longer operating histories;
Larger sales and marketing organizations and research and development teams and budgets;
More established relationships with customers, contract manufacturers and suppliers and better channels to reach larger customer bases and larger sales volume allowing for better costs;
Larger customer service and support organizations with greater geographic scope;
A broader and more diversified array of products and services; and
Substantially greater financial, technical and other resources.
Some of our current or potential ODM competitors are also currently or have in the past been suppliers to us. As a result, they may possess sensitive knowledge or experience which may be used against us competitively and/or which may require us to alter our supply arrangements or sources in a way which could adversely impact our cost of sales or results of operations.
Our competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards or customer requirements. Competitors may seek to copy our innovations and use cost advantages from greater size to compete aggressively with us on price. Certain customers are also current or prospective competitors and as a result, assistance that we provide to them as customers may ultimately result in increased competitive pressure against us.
Furthermore, because of these advantages, even if our application optimized server solutions are more effective than the products that our competitors offer, potential customers might accept competitive products in lieu of purchasing our products. The challenges we face from larger competitors will become even greater if consolidation or collaboration between or among our competitors occurs in our industry. Also initiatives like the Open Compute Project, or OCP, a project to establish more industry standard data center configurations, could have the impact of supporting an approach which is less favorable to the flexibility and customization that we offer. These changes could have a significant impact on the market and impact our results of operations. For all of these reasons, we may not be able to compete successfully against our current or future competitors, and if we do not compete effectively, our ability to increase our net sales may be impaired.
Any failure to adequately expand or retain our sales force will impede our growth.
We expect that our direct sales force will continue to grow as larger customers increasingly require a direct sales approach. Competition for direct sales personnel with the advanced sales skills and technical knowledge we need is intense.intense, and we face significant competition for direct sales personnel from our competitors. Our ability to grow our revenue in the future will depend, in large part, on our success in recruiting, training, retaining and successfully managing sufficient qualified direct sales personnel. We have traditionally experienced much greater turnover in our sales and marketing personnel as compared to other departments and other companies. New hires require significant training and may take six months or longer before they reach full productivity. Our recent hires and planned hires may not become as productive as we would like, and we may be unable to hire sufficient numbers of qualified individuals in the future in the markets where we do business.business, and individuals we hire may not perform pursuant to our expectations in the event of inadequate supervision. If we are unable to hire, develop and retain sufficient numbers of productive sales personnel, our customer relationships and resulting sales of our server solutions will suffer.
We must work closely with our suppliers to make timely new product introductions.
We rely on our close working relationships with our suppliers, including Intel, AMD and Nvidia, to anticipate and deliver new products on a timely basis when new generation materials and core components are made available. Intel, AMD and Nvidia are the only suppliers of the microprocessors we use in our server systems. If we are not able to maintain our relationships with our suppliers or continue to leverage their research and development capabilities to develop new technologies desired by our customers, our ability to quickly offer advanced technology and product innovations to our customers would be impaired. We have no long term agreements that obligate our suppliers to continue to work with us or to supply us with products.
Our suppliers’ failure to improve the functionality and performance of materials and core components for our products may impair or delay our ability to deliver innovative products to our customers.
We need our material and core component suppliers, such as Intel, AMD and Nvidia, to provide us with core components that are innovative, reliable and attractive to our customers. Due to the pace of innovation in our industry, many of our customers may delay or reduce purchase decisions until they believe that they are receiving best of breed products that will not be rendered obsolete by an impending technological development. Accordingly, demand for new server systems that incorporate new products and features is significantly impacted by our suppliers’ new product introduction schedules and the functionality, performance and reliability of those new products. If our materials and core component suppliers fail to deliver new and improved materials and core components for our products, we may not be able to satisfy customer demand for our products in a timely manner, or at all. If our suppliers’ components do not function properly, we may incur additional costs and our relationships with our customers may be adversely affected.
As our business grows, we expect that we may be exposed to greater customer credit risks.
Historically, we have offered limited credit terms to our customers. As our customer base expands, as our orders increase in size, and as we obtain more direct customers, we expect to offer increased credit terms and flexible payment programs to our customers. Doing so may subject us to increased credit risk, higher accounts receivable with longer days outstanding, and increases in charges or reserves, which could have a material adverse effect on our business, results of operations and financial condition.
We rely on indirect sales channels for a significant percentage of our revenue and any disruption in these channels could adversely affect our sales.
Sales of our products through third party distributors and resellers accounted for 44.8%, 50.3% and 54.1% of our net sales in fiscal years 2016, 2015 and 2014, respectively. We depend on our distributors to assist us in promoting market acceptance of our products and anticipate that a significant portion of our revenues will continue to result from sales through indirect channels. To maintain and potentially increase our revenue and profitability, we will have to successfully preserve and
expand our existing distribution relationships as well as develop new distribution relationships. Our distributors also sell products offered by our competitors and may elect to focus their efforts on these sales. If our competitors offer our distributors more favorable terms or have more products available to meet the needs of their customers, or utilize the leverage of broader product lines sold through the distributors, those distributors may de-emphasize or decline to carry our products. In addition, our distributors’ order decision-making process is complex and involves several factors, including end customer demand, warehouse allocation and marketing resources, which can make it difficult to accurately predict total sales for the quarter until late in the quarter. We also do not control the pricing or discounts offered by distributors to end customers. To maintain our participation in distributors’ marketing programs, in the past we have provided cooperative marketing arrangements or made short-term pricing concessions.
The discontinuation of cooperative marketing arrangements or pricing concessions could have a negative effect on our business. Our distributors could also modify their business practices, such as payment terms, inventory levels or order patterns. If we are unable to maintain successful relationships with distributors or expand our distribution channels or we experience unexpected changes in payment terms, inventory levels or other practices by our distributors, our business will suffer.
Our direct sales efforts may create confusion for our end customers and harm our relationships with our distributors and OEMs.
We expect our direct sales force to continue to grow as our business grows. As our direct sales force becomes larger, our direct sales efforts may lead to conflicts with our distributors and OEMs, who may view our direct sales efforts as undermining their efforts to sell our products. If a distributor or OEM deems our direct sales efforts to be inappropriate, the distributor or OEM may not effectively market our products, may emphasize alternative products from competitors, or may seek to terminate our business relationship. Disruptions in our distribution channels could cause our revenues to decrease or fail to grow as expected. Our failure to implement an effective direct sales strategy that maintains and expands our relationships with our distributors and OEMs could lead to a decline in sales and adversely affect our results of operations.
Our research and development expenditures, as a percentage of our net sales, are considerably higher than many of our competitors and our earnings will depend upon maintaining revenues and margins that offset these expenditures.
Our strategy is to focus on being consistently rapid-to-market with flexible and customizable server systems that take advantage of our own internal development and the latest technologies offered by microprocessor manufacturers and other component vendors. Consistent with this strategy, we spend higher amounts, as a percentage of revenues, on research and development costs than many of our competitors. If we cannot sell our products in sufficient volume and with adequate gross margins to compensate for such investment in research and development, our earnings may be materially and adversely affected.
Our failure to deliver high quality server solutions could damage our reputation and diminish demand for our products.
Our server solutions are critical to our customers’ business operations. Our customers require our server solutions to perform at a high level, contain valuable features and be extremely reliable. The design of our server solutions is sophisticated and complex, and the process for manufacturing, assembling and testing our server solutions is challenging. Occasionally, our design or manufacturing processes may fail to deliver products of the quality that our customers require. For example, in the past a vendor provided us with a defective capacitor that failed under certain heavy use applications. As a result, our product needed to be repaired. Though the vendor agreed to pay for a large percentage of the costs of the repairs, we incurred costs in connection with the recall and diverted resources from other projects.
New flaws or limitations in our server solutions may be detected in the future. Part of our strategy is to bring new products to market quickly, and first-generation products may have a higher likelihood of containing undetected flaws. If our customers discover defects or other performance problems with our products, our customers’ businesses, and our reputation, may be damaged. Customers may elect to delay or withhold payment for defective or underperforming server solutions, request remedial action, terminate contracts for untimely delivery, or elect not to order additional server solutions, which could result in an increase in our provision for doubtful accounts, an increase in collection cycles for accounts receivable or subject us to the expense and risk of litigation. We may incur expense in recalling, refurbishing or repairing defective server solutions. If we do not properly address customer concerns about our products, our reputation and relationships with our customers may be harmed. For all of these reasons, customer dissatisfaction with the quality of our products could substantially impair our ability to grow our business.
Conflicts of interest may arise between us andwith Ablecom and those conflictsCompuware, and they may adversely affect our operations.
We use Ablecom, a related party, for contract design and manufacturing coordination support.support and warehousing, and Compuware, also a related party and an affiliate of Ablecom, for distribution, contract manufacturing and warehousing. We work with Ablecom to optimize modular designs for our chassis and certain of other components. We outsource to Compuware a portion of our design activities and a significant part of our manufacturing of subassemblies, particularly power supplies. Our purchases of products from Ablecom and Compuware represented 12.8%6.6%, 13.6%8.3% and 16.3%7.8% of our cost of sales for fiscal years 2016, 20152023, 2022 and 2014,2021, respectively. Ablecom’sAblecom and Compuware’s sales to us constitute a substantial majority of Ablecom’s and Compuware’s net sales. Ablecom isand Compuware are both privately held Taiwan-based companies. In addition, we have entered into a privately-held Taiwan-based company.distribution agreement with Compuware, under which we have appointed Compuware as a nonexclusive distributor of our products in Taiwan, China and Australia. Each of Ablecom and Compuware are also developing campuses in close proximity to the campus we are developing in Malaysia to expand our manufacturing.
Steve Liang, Ablecom’s Chief Executive Officer and largest shareholder, is the brother of Charles Liang, our President, Chief Executive Officer and Chairman of the Board.our Board of Directors (the “Board”). Steve Liang owned no shares of our common stock as of June 30, 2023, 2022 or 2021. Charles Liang and his spouse, Chiu-Chu (Sara)Sara Liu, Liang, our Co-Founder, Senior Vice President of Operations, Treasurer and director,Director, jointly ownowned approximately 10.5% of Ablecom’s outstanding commoncapital stock, while Mr. Steve Liang and other family members own 36.0%owned approximately 28.8% of Ablecom’s outstanding common stock. Mr. and Mrs.stock as of June 30, 2023. Bill Liang, a brother of both Charles Liang as directors, officers and significant stockholdersSteve Liang, is a member of the Company, haveBoard of Directors of Ablecom as well.
In October 2018, our Chief Executive Officer, Charles Liang, personally borrowed approximately $12.9 million from Chien-Tsun Chang, the spouse of Steve Liang. The loan is unsecured, has no maturity date and bore interest at 0.8% per month for the first six months, increased to 0.85% per month through February 28, 2020, and reduced to 0.25% effective March 1, 2020. The loan was originally made at Mr. Liang's request to provide funds to repay margin loans to two financial institutions, which loans had been secured by shares of our common stock that he held. The lenders called the loans in October 2018, following the suspension of our common stock from trading on NASDAQ in August 2018 and the decline in the market price of our common stock in October 2018. As of June 30, 2023, the amount due on the unsecured loan (including principal and accrued interest) was approximately $16.0 million.
SMCI | 2023 Form 10-K | 17
Bill Liang is also the Chief Executive Officer of Compuware, a member of Compuware’s Board of Directors and a holder of a significant equity interest in Compuware. Steve Liang is also a member of Compuware’s Board of Directors and is an equity holder of Compuware.
Mr. Charles Liang is our Chief Executive Officer and Chairman of the Board, is a significant stockholder of our company, and has considerable influence over the management of our business relationships. Accordingly, we may be disadvantaged by theirthe economic interests of Mr. Charles Liang and his spouse, Ms. Sara Liu, as stockholders of Ablecom and theirMr. Charles Liang's personal relationship with Ablecom’s Chief Executive Officer and Compuware's Chief Executive Officer. We may not negotiate or enforce contractual terms as aggressively with Ablecom or Compuware as we might with an unrelated party, and the commercial terms of our agreements may be less favorable than we might obtain in negotiations with third parties. If our business dealings with Ablecom or Compuware are not as favorable to us as arms-length transactions, our results of operations may be harmed.
If Steve Liang ceases to have significant influence over Ablecom or if those of our stockholders who hold sharesCompuware are acquired or sold, new ownership could reassess the business and strategy of Ablecom cease to haveor Compuware, and as a significant amount of the outstanding shares of Ablecom,result, our supply chain could be disrupted or the terms and conditions of our agreements with Ablecom or Compuware may not be as favorable as those in our existing contracts.change. As a result, our operations could be negatively impacted or costs could increase, andeither of which could adversely affect our margins and results of operations.
Our relationship with Ablecom may allow us to benefit from favorable pricing which may result in reported results more favorable than we might report in the absence of our relationship.
Although we generally re-negotiate the price of products that we purchase from Ablecom on a quarterly basis, pursuant to our agreements with Ablecom either party may re-negotiate the price of products for each order. As a result of our relationship with Ablecom, it is possible that Ablecom may in the future sell products to us at a price lower than we could obtain from an unrelated third party supplier. This may result in future reporting of gross profit as a percentage of net sales that is in excess of what we might have obtained absent our relationship with Ablecom.
Our reliance on Ablecom could be subject to risks associated with our reliance on a limited source of contract manufacturing services and inventory warehousing.
We plan to continue to maintain our manufacturing relationship with Ablecom in Asia. In order to provide a larger volume of contract manufacturing services for us, we anticipate that Ablecom will continue to warehouse for us an increasing number of components and subassemblies manufactured by multiple suppliers prior to shipment to our facilities in the United States and Europe. We also anticipate that we will continue to lease office space from Ablecom in Taiwan to support theour research and development efforts we are undertaking and continue toefforts. We operate a joint management company with Ablecom to manage the common areas shared by us and Ablecom for our separately constructed manufacturing facilities in Taiwan.
If we orour commercial relationship with Ablecom fail to manage the contract manufacturing services and warehouse operations in Asia,deteriorates, we may experience delays in our ability to fulfill customer orders. Similarly, if Ablecom’s facility in Asia is subject to damage, destruction or other disruptions, our inventory may be damaged or destroyed, and we may be unable to find adequate alternative providers of contract manufacturing services in the time that we or our customers require. We could lose orders and be unable to develop or sell some products cost-effectively or on a timely basis, if at all.
Currently, we purchase contract manufacturing services primarily for our chassis and power supply products from Ablecom. If our commercial relationship with Ablecom were to deteriorate or terminate, establishing direct relationships with those entities supplying Ablecom with key materials for our products or identifying and negotiating agreements with alternative providers of warehouse and contract manufacturing services might take a considerable amount of time and require a significant investment of resources. Pursuant to our agreements with Ablecom and subject to certain exceptions, Ablecom has the exclusive right to be our supplier of the specific products developed under such agreements. As a result, if we are unable to obtain such products from Ablecom on terms acceptable to us, we may need to discontinue a product or develop substitute products, identify a new supplier, change our design and acquire new tooling, all of which could result in delays in our product availability and increased costs. If we need to use other suppliers, we may not be able to establish business arrangements that are, individually or in the aggregate, as favorable as the
terms and conditions we have established with Ablecom. If any of these things should occur, our net sales, margins and earnings could significantly decrease, which would have a material adverse effect on our business, results of operations and financial condition.
SMCI | 2023 Form 10-K | 18
If negative publicity arises with respect to us, our employees, our third-party service providers or our partners, our business and operating results could be adversely affected, regardless of whether the negative publicity is true.
Negative publicity about our company or our products, even if inaccurate or untrue, could adversely affect our reputation and the confidence in our products, which could harm our business and operating results. For example, in October 2018, a news article was published alleging that malicious hardware chips were implanted on our motherboards during the manufacturing process at the facilities of a contract manufacturer in China. We undertook a thorough investigation of this claim with the assistance of a leading, independent third-party investigations firm wherein we tested a representative sample of our motherboards, including the specific type of motherboard depicted in the news article and motherboards purchased by companies referenced in the article, as well as more recently manufactured motherboards. After completing these examinations as well as a range of functional tests, the investigations firm reported that it had found no evidence of malicious hardware on our motherboards. In addition, neither the publisher of the news article nor any of our customers have ever provided a single example of any such altered motherboard. However, despite repeated denials of any tampering by our customers and us, and the announcement of the results of this independent investigation, the publication of this false allegation in 2018 had a substantial negative impact on the trading price of our common stock and our reputation. The October 2018 news article, the follow up news article published in January 2021, and any similar future article making similar false allegations, may continue to have a negative impact in the future.
Harm to our reputation can also arise from many other sources, including employee misconduct, which we have experienced in the past, and misconduct by our partners, consultants and outsourced service providers. Additionally, negative publicity with respect to our partners or service providers could also affect our business and operating results to the extent that we rely on these partners or if our customers or prospective customers associate our company with these partners.
If we lose Charles Liang, our President, Chief Executive Officer and Chairman, or any other key employee or are unable to attract additional key employees, we may not be able to implement our business strategy in a timely manner.
Our future success depends in large part upon the continued service of our current executive management team and other key employees. In particular, Charles Liang, our President, Chief Executive Officer and Chairman of the Board, is critical to the overall management of our company as well as to our strategic direction. Mr. Liang co-founded our company and has been our Chief Executive Officer since our inception. His experience in leading our business and his personal involvement in key relationships with suppliers, customers and strategic partners are extremely valuable to our company. We currently do not have a succession plan for the replacement of Mr. Liang if it were to become necessary. Additionally, we are particularly dependent on the continued service of our existing research and development personnel because of the complexity of our products and technologies. Our employment arrangements with our executives and employees do not require them to provide services to us for any specific length of time, and they can terminate their employment with us at any time, with or without notice, without penalty. The loss of services of any of these executives or of one or more other key members of our team could seriously harm our business.
Our direct sales efforts may create confusion for our end customers and harm our relationships in our indirect sales channel and with our OEMs.
We expect our direct sales force to continue to grow as our business grows. As our direct sales force becomes larger, our direct sales efforts may lead to conflicts in our indirect sales channel and with our OEMs, who may view our direct sales efforts as undermining their efforts to sell our products. If an indirect sales channel partner or OEM deems our direct sales efforts to be inappropriate, they may not effectively market our products, may emphasize alternative products from competitors, or may seek to terminate our business relationship. Disruptions in our indirect channels could cause our revenues to decrease or fail to grow as expected. Our failure to implement an effective direct sales strategy that maintains and expands our relationships in our indirect sales channel and with our OEMs could lead to a decline in sales, harm relationshipsand adversely affect our business, results of operations and financial condition.
SMCI | 2023 Form 10-K | 19
If we are unable to attract and integrate additional key employees in a manner that enables us to scale our business and operations effectively, or if we do not maintain competitive compensation policies to retain our employees, our ability to operate effectively and efficiently could be limited.
To execute our growth plan, we must attract additional highly qualified personnel, including additional engineers and executive staff. Competition for qualified personnel is intense, especially in Silicon Valley, where we are headquartered. We have experienced and may continue to experience difficulty in hiring and retaining highly skilled employees with appropriate qualifications. If we are unable to attract and integrate additional key employees in a manner that enables us to scale our business and operations effectively, or if we do not maintain competitive compensation policies to retain our employees, our ability to operate effectively and efficiently could be limited.
Strategic and Industry Risks
If we do not successfully manage the expansion of our international manufacturing capacity and business operations, our business could be harmed.
Since inception, we have conducted a majority of our manufacturing operations in San Jose, California. We continue to increase our manufacturing capacity in Taiwan and in the Netherlands and have sought to accelerate manufacturing in Taiwan in order to better diversify our geographical manufacturing concentration. In order to continue to successfully increase our operations in Taiwan, we must efficiently manage our Taiwan operations from our headquarters in San Jose, California and continue to develop a strong local management team.
We are also pursuing an expansion of our manufacturing operations into Malaysia. During the second quarter of fiscal year 2023, we entered into a letter of understanding to acquire land in Malaysia. A definitive agreement to acquire such land, subject to various conditions, was subsequently executed in January 2023. We are obtaining early access to such land prior to acquisition, and we anticipate significant capital expenditures will be required for such initiative. To the extent we are unable to recoup expenditures made during our period of early access to such land and we are subsequently unable to complete the acquisition of the land, we could be materially and adversely affected. Furthermore, if we are unable to successfully ramp up our international manufacturing capacity in Taiwan, the Netherlands, Malaysia, or any other jurisdictions we pursue, including the associated construction, increased logistics and warehousing, we may incur unanticipated costs, difficulties in making timely delivery of products or suffer other business disruptions which could adversely impact our results of operations.
We may not be able to successfully manage our business for growth and expansion.
We expect to continue to make investments to pursue new customers, expand our product and service offerings to grow our business, and pursue new business markets and opportunities. We also expect that our annual operating expenses will continue to increase as we invest in sales and marketing, research and development, manufacturing and production infrastructure, software and product service offerings, strengthen customer service and support resources for our customers, and pursue new business markets and opportunities. Our failure to expand operational and financial or internal control systems timely or efficiently could result in additional operating inefficiencies, which could increase our costs and expenses more than we had planned and prevent us from successfully executing our business plan. We may not be able to offset the costs of operation expansion by leveraging the economies of scale from our growth in negotiations with our suppliers and contract manufacturers. Additionally, if we increase our operating expenses in anticipation of the growth of our business and this growth does not meet our expectations, our financial results will be negatively impacted. There are also no assurances that investments we make to pursue new business markets and opportunities (such as ecommerce in B2B and B2C markets and data center offerings) will be successful or profitable, given the investment costs necessary to pursue these markets and opportunities, which includes investments in technology, people, time, and other overhead costs.
As our business continues to grows, we will have to manage additional product design projects, materials procurement processes and sales efforts and marketing for an increasing number of SKUs, provide and update an increasing amount of software utilized in our hardware offerings, provide more sophisticated product service offerings to support our customers, expand the number and scope of our relationships with suppliers, distributors and end customers, and (for new business markets and opportunities we pursue) manage different and increasingly complex regulatory landscapes they are subject to. If we fail to manage these additional responsibilities and relationships successfully, we may incur significant costs, which may negatively impact our operating results. Additionally, in our efforts to be first to market with new products with innovative functionality and features, we may devote significant research and development resources to products and product features for which a market does not develop quickly, or at all. If we are not able to predict market trends accurately, we may not benefit from such research and development activities, and our results of operations may suffer.
SMCI | 2023 Form 10-K | 20
Managing our business for long-term growth also requires us to successfully manage our employee headcount. We must continue to hire, train and manage new employees as needed. If our new hires perform poorly, or if we are unsuccessful in hiring, training, managing and integrating these new employees, or if we are not successful in retaining our employees, our business may be harmed. A growth in headcount would continue to increase our cost base, which would make it more difficult for us to offset any future revenue shortfalls by offsetting expense reductions in the short term. If we fail to successfully manage our growth, we will be unable to execute our business plan.
Our growth into markets outside the United States exposes us to risks inherent in international business operations.
We market and sell our systems and componentssubsystems and accessories both domesticallyinside and outside the United States. We intend to expand our international sales efforts, especially into Asia, and we are expanding our business operations in Europe and Asia, particularly in Taiwan, Malaysia, the Netherlands China and Japan. In particular, we have made, and continue to make, substantial investments for the purchase of land and the development of new facilities in Taiwan and Malaysia to accommodate our expected growth. growth and the migration of a substantial portion of our contract manufacturing operations.
Our international expansion efforts may not be successful. Our international operations expose us to risks and challenges that we would otherwise not face if we conducted our business only in the United States, such as:
•Heightened price sensitivity from customers in emerging markets;
•Our ability to establish local manufacturing, support and service functions, and to form channel relationships with value added resellers in non-United States markets;
•Localization of our systems and components, including translation into foreign languages and the associated expenses;
•Compliance with multiple, conflicting and changing governmental laws and regulations;
foreign•Foreign currency fluctuations;fluctuations and inflation;
•Limited visibility into sales of our products by our distributors;channel partners;
•Greater concentration of competitors in some foreign markets than in the United States;
•Laws favoring local competitors;
•Weaker legal protections of intellectual property rights and mechanisms for enforcing those rights;
•Market disruptions created by world events, such as the global economic downturn and recent events in eastern Europe, or by other public health crises in regions outside the United States, such as Avianavian flu, SARS and other diseases;
•Import and export tariffs;
•Difficulties in staffing and the costs of managing foreign operations, including challenges presented by relationships with workers’ councils and labor unions; and
•Changing regional economic and political conditions.
These factors could limit our future international sales or otherwise adversely impact our operations or our results of operations.
We depend upon the development of new products and enhancements to our existing products, and if we fail to predict or respond to emerging technological trends and our customers’ changing needs, our operating results and market share may suffer.
The markets for our products are characterized by rapidly changing technology, evolving industry standards, new product introductions, and evolving methods of operations. While our revenues increased in fiscal year 2023, the global economic downturn may affect customer purchasing trends, and our operating results depend on our ability to develop and introduce new products into existing and emerging markets (such as AI) and to reduce the production costs of existing products. If our customers do not purchase our products, our business will be harmed.
SMCI | 2023 Form 10-K | 21
The process of developing products incorporating new technologies is complex and uncertain, and if we fail to accurately predict customers’ changing needs and emerging technological trends our business could be harmed. We must commit significant resources, including the investments we have been making in our strategic priorities to developing new products before knowing whether our investments will result in products and services the market will accept. If the industry does not evolve as we believe it will, or if our strategy for addressing this evolution is not successful, many of our strategic initiatives and investments may be of no or limited value. Also, suppliers of our key components may introduce new technologies that are critical to the functionality of our products at a slower rate than their competition, which could adversely impact our ability to timely develop and provide competitive offerings to our customers. Similarly, our business could be harmed if we fail to develop, or fail to develop in a timely fashion, offerings to address other transitions, or if the offerings addressing these other transitions that ultimately succeed are based on technology, or an approach to technology, different from ours. In addition, our business could be adversely affected in periods surrounding our new product introductions if customers delay purchasing decisions to qualify or otherwise evaluate the new product offerings.
Furthermore, we may not execute successfully on our vision or strategy because of challenges with regard to product planning and timing, technical hurdles that we fail to overcome in a timely fashion, or a lack of appropriate resources. This could result in competitors, some of which may also be our suppliers, providing those solutions before we do and loss of market share, revenue, and earnings. The success of new products depends on several factors, including proper new product and service definition, component costs, timely completion and introduction of these products, differentiation of new products from those of our competitors, market acceptance of these products, and providing appropriate support of these products. There can be no assurance that we will successfully identify new product opportunities, develop and bring new products to market in a timely manner, or achieve market acceptance of our products or that products and technologies developed by others will not render our products or technologies obsolete or noncompetitive. The products and technologies in our other product categories and key priority and growth areas may not prove to have the market success we anticipate, and we may not successfully identify and invest in other emerging or new products.
The market in which we participate is highly competitive, and if we do not compete effectively, we may not be able to increase our market penetration, grow our net sales or improve our gross margins.
The market for server and storage solutions is intensely competitive and rapidly changing. The market continues to evolve with the growth of public cloud shifting server and storage purchasing from traditional data centers to lower margin public cloud vendors. Barriers to entry in our market are relatively low and we expect increased challenges from existing as well as new competitors. Some of our principal competitors offer server solutions at a lower price, which has resulted in pricing pressures on sales of our server solutions. We expect further downward pricing pressure from our competitors and expect that we will have to price some of our server and storage solutions aggressively to increase our market share with respect to those products or geographies, particularly for internet data center and cloud customers and other large sale opportunities. If we are unable to maintain the margins on our server and storage solutions, our operating results could be negatively impacted. In addition, if we do not develop new innovative solutions, or enhance the reliability, performance, efficiency and other features of our existing server and storage solutions, our customers may turn to our competitors for alternatives. In addition, pricing pressures and increased competition generally may also result in reduced sales, less efficient utilization of our manufacturing operations, lower margins or the failure of our products to achieve or maintain widespread market acceptance, any of which could have a material adverse effect on our business, results of operations and financial condition.
Our principal competitors include global technology companies such as Cisco, Dell, Hewlett-Packard Enterprise and Lenovo. In addition, we also compete with a number of other vendors who also sell application optimized servers, contract manufacturers/OEMs and ODMs, such as Foxconn, Inspur, Quanta Computer and Wiwynn Corporation. ODMs sell server solutions marketed or sold under a third-party brand.
SMCI | 2023 Form 10-K | 22
Many of our competitors enjoy substantial competitive advantages, such as:
•Greater name recognition and deeper market penetration;
•Longer operating histories;
•Larger sales and marketing organizations and research and development teams and budgets;
•More established relationships with customers, contract manufacturers and suppliers and better channels to reach larger customer bases and larger sales volume allowing for better costs;
•Larger customer service and support organizations with greater geographic scope;
•A broader and more diversified array of products and services; and
•Substantially greater financial, technical and other resources.
Some of our current or potential ODM competitors are also currently or have in the past entered into pleabeen suppliers to us. As a result, they may possess sensitive knowledge or experience which may be used against us competitively and/or which may require us to alter our supply arrangements or sources in a way which could adversely impact our cost of sales or results of operations.
Our competitors may be able to respond more quickly and settlementeffectively than we can to new or changing opportunities, technologies, standards or customer requirements. Competitors may seek to copy our innovations and use cost advantages from greater size to compete aggressively with us on price. Certain customers are also current or prospective competitors and as a result, assistance that we provide to them as customers may ultimately result in increased competitive pressure against us. Furthermore, because of these advantages, even if our application optimized server and storage solutions are more effective than the products that our competitors offer, potential customers might accept competitive products in lieu of purchasing our products. The challenges we face from larger competitors will become even greater if consolidation or collaboration between or among our competitors occurs in our industry. Also, initiatives to establish more industry standard data center configurations, could have the impact of supporting an approach which is less favorable to the flexibility and customization that we offer. These changes could have a significant impact on the market and impact our results of operations. For all of these reasons, we may not be able to compete successfully against our current or future competitors, and if we do not compete effectively, our ability to increase our net sales may be impaired.
Industry consolidation may lead to increased competition and may harm our operating results.
There has been a trend toward consolidation in our industry. We expect this trend to continue as companies attempt to strengthen or hold their market positions in an evolving industry and as companies are acquired or are unable to continue operations. Companies that are suppliers in some areas of our business may acquire or form alliances with our competitors, thereby reducing their business with us. We believe that industry consolidation may result in stronger competitors that are more likely to compete as sole-source vendors for customers. Additionally, at times in the past, our competitors have acquired certain customers of ours and terminated our business relationships with such customers. As such, acquisitions by our competitors could also lead to more variability in our operating results and could have a material adverse effect on our business, operating results, and financial condition.
We must work closely with our suppliers to make timely new product introductions.
We rely on our close working relationships with our suppliers, including Intel, AMD and NVIDIA, to anticipate and deliver new products on a timely basis when new generation materials and key components are made available. If we are not able to maintain our relationships with our suppliers or continue to leverage their research and development capabilities to develop new technologies desired by our customers, our ability to quickly offer advanced technology and product innovations to our customers would be impaired. We have no long-term agreements that obligate our suppliers to continue to work with us or to supply us with products.
SMCI | 2023 Form 10-K | 23
Our suppliers’ failure to improve the functionality and performance of materials and key components for our products may impair or delay our ability to deliver innovative products to our customers.
We need our material and key component suppliers, such as Intel, AMD and NVIDIA, to provide us with components that are innovative, reliable and attractive to our customers. Due to the pace of innovation in our industry, many of our customers may delay or reduce purchase decisions until they believe that they are receiving best of breed products that will not be rendered obsolete by an impending technological development. Accordingly, demand for new server and storage systems that incorporate new products and features is significantly impacted by our suppliers’ new product introduction schedules and the functionality, performance and reliability of those new products. If our materials and key component suppliers fail to deliver new and improved materials and components for our products, we may not be able to satisfy customer demand for our products in a timely manner, or at all. If our suppliers’ components do not function properly, we may incur additional costs and our relationships with our customers may be adversely affected.
We rely on a limited number of suppliers for certain components used to manufacture our products.
Certain components used in the manufacture of our products are available from a limited number of suppliers. Shortages could occur in these essential materials due to an interruption of supply, including interruptions on the global supply chain (such as did occur in connection with the COVID-19 pandemic, the global economic downturn, and recent events in eastern Europe) or increased demand in the industry (such as did occur due to volatility in emergent and rapidly evolving markets, including AI). Similar future events may cause additional interruptions on the global supply chain. Two of our suppliers accounted for 13.5% and 30.7% of total purchases for the fiscal year ended June 30, 2023. The same two suppliers accounted for 18.1% and 11.4% of total purchases for the fiscal year ended June 30, 2022. The same two suppliers accounted for 20.3% and 11.8% of total purchases for the fiscal years ended June 30, 2021. Ablecom and Compuware, related parties, accounted for6.6%, 8.3% and 7.8% of our total cost of sales for the fiscal years ended June 30, 2023, 2022 and 2021, respectively. If any of our largest suppliers discontinue their operations or if our relationships with them are adversely impacted, we could experience a material adverse effect on our business, results of operations and financial condition. See also “— Our cost structure and ability to deliver server solutions to customers in a timely manner may be adversely affected by volatility of the market for core components and certain materials for our products.”
We rely on indirect sales channels and any disruption in these channels could adversely affect our sales.
We depend on our indirect sales channel partners to assist us in promoting market acceptance of our products. To maintain and potentially increase our revenue and profitability, we will have to successfully preserve and expand our existing distribution relationships as well as develop new channel relationships. Our indirect sales channel partners also sell products offered by our competitors and may elect to focus their efforts on these sales. If our competitors offer our indirect sales channel more favorable terms or have more products available to meet the needs of their customers, or utilize the leverage of broader product lines sold through the indirect sales channel, those channel partners may de-emphasize or decline to carry our products. In addition, the order decision-making process in our indirect sales channel is complex and involves several factors, including end customer demand, warehouse allocation and marketing resources, which can make it difficult to accurately predict total sales for the quarter until late in the quarter. We also do not control the pricing or discounts offered by our indirect sales channel partners to the end customers. To maintain our participation in the marketing programs of our indirect sales channel partners, we have provided and expect to continue to offer cooperative marketing arrangements and offer short-term pricing concessions.
The discontinuation of cooperative marketing arrangements or pricing concessions could have a negative effect on our business, results of operations and financial condition. Our indirect sales channel partners could also modify their business practices, such as payment terms, inventory levels or order patterns. If we are unable to maintain successful relationships in our indirect sales channel or expand our channel or we experience unexpected changes in payment terms, inventory levels or other practices in our indirect sales channel, our business will suffer.
SMCI | 2023 Form 10-K | 24
Our failure to deliver high quality server and storage solutions could damage our reputation and diminish demand for our products.
Our server and storage solutions are critical to our customers’ business operations. Our customers require our server and storage solutions to perform at a high level, contain valuable features and be extremely reliable. The design of our server and storage solutions is sophisticated and complex, and the process for manufacturing, assembling and testing our server solutions is challenging. Occasionally, our design or manufacturing processes may fail to deliver products of the quality that our customers require. For example, in the past certain vendors have provided us with defective components that failed under certain applications. As a result, our products needed to be repaired and we incurred costs in connection with the recall and diverted resources from other projects.
New flaws or limitations in our server and storage solutions may be detected in the future. Part of our strategy is to bring new products to market quickly, and first-generation products may have a higher likelihood of containing undetected flaws. If our customers discover defects or other performance problems with our products, our customers’ businesses, and our reputation, may be damaged. Customers may elect to delay or withhold payment for defective or underperforming server and storage solutions, request remedial action, terminate contracts for untimely delivery, or elect not to order additional products, which could result in a decrease in revenue, an increase in our provision for doubtful accounts or in collection cycles for accounts receivable or subject us to the expense and risk of litigation. We may incur expense in recalling, refurbishing or repairing defective server and storage solutions sold to our customers or remaining in our inventory. If we do not properly address customer concerns about our products, our reputation and relationships with our customers may be harmed. For all of these reasons, customer dissatisfaction with the quality of our products could substantially impair our ability to grow our business.
Our results of operations may be subject to fluctuations based upon our investment in corporate ventures.
We have a 30% minority interest in a China corporate venture that was established to market and sell corporate venture branded systems in China based upon products and technology we supply. We record earnings and losses from the corporate venture using the equity method of accounting. Our loss exposure is limited to the remainder of our equity investment in the corporate venture which as of June 30, 2023 and 2022 was $2.0 million and $5.3 million, respectively. We currently do not intend to make any additional investment in this corporate venture. See Part II, Item 8, Note 9, “Related Party Transactions” to the consolidated financial statements in this Annual Report. We may make investments in other corporate ventures. We do not control this corporate venture and any fluctuation in the results of operations of the corporate venture or any other similar transaction that we may enter into in the future could adversely impact, or result in fluctuations in, our results of operations.
In June 2020, the third-party parent company that controls our corporate venture was placed on a U.S. government export control list, along with several related entities. In addition, the United States has further prohibitions on conducting business with certain entities in China and continued to impose additional tariffs. If economic conditions or trade disputes, including trade restrictions and tariffs such as those between the United States and China, in the areas in which we market and sell our products and other key potential markets for our products continue to remain uncertain or deteriorate, it may further affect the value of our investment in the corporate venture.
Legal and Regulatory Risks
Because our products and services may store, process and use data, some of which contains personal information, we are subject to complex and evolving domestic and international laws and regulations regarding privacy, data protection and other matters, which are subject to change.
Because our products and services store, process and use data, some of which contains personal information, we are subject to complex and evolving domestic and international laws and regulations regarding privacy, data protection, rights of publicity, content, protection of minors and consumer protection. Many of these laws and regulations, which can be particularly restrictive outside of the U.S., are subject to change and uncertain interpretation. Even our inadvertent failure to comply with such laws and regulations could result in investigations, claims, damages to our reputation, changes to our business practices, increased cost of operations and declines in user growth, retention or engagement, any of which could materially adversely affect our business, results of operations and financial condition. Costs to comply with and implement these privacy-related and data protection measures could be significant.
SMCI | 2023 Form 10-K | 25
Global privacy legislation, enforcement, and policy activity for privacy and data protection are rapidly expanding and creating a complex regulatory compliance environment. Costs to comply with and implement these privacy-related and data protection measures could be significant. For example, the EU General Data Protection Regulation 2016/679 (“GDPR”), and further amendments and interpretations thereof, impose stringent EU data protection requirements on companies established in the European Union or companies that offer goods or services to, or monitor the behavior of, individuals in the European Union. The GDPR establishes a robust framework of data subjects’ rights and imposes onerous accountability obligations on companies, including certain data transfer and security mechanisms. Noncompliance with the GDPR can trigger steep fines of up to the greater of 20 million euros or four percent of annual global revenue.
Jurisdictions outside of the European Union are also considering and/or enacting comprehensive data protection legislation. For example, on July 8, 2019, Brazil enacted the General Data Protection Law, or the LGPD, and on June 5, 2020, Japan passed amendments to its Act on the Protection of Personal Information, or the APPI. Both laws broadly regulate the processing of personal information in a manner comparable to the GDPR, and violators of the LGPD and APPI face substantial penalties. We also continue to see jurisdictions, such as Russia, imposing data localization laws, which under Russian laws require personal information of Russian citizens to be, among other data processing operations, initially collected, stored, and modified in Russia. Similarly, on November 1, 2021, China’s Personal Information Protection law came into effect, which places restrictions on the transfer of personal information to third parties within China or overseas. These regulations may deter customers from using services such as ours, and may inhibit our ability to expand into those markets or prohibit us from continuing to offer services in those markets without significant financial burden.
In addition, numerous states in the U.S. are also expanding data protection through legislation. For example, California’s Consumer Privacy Act (“CCPA”) gives California residents expanded privacy rights and protections and provides for civil penalties for violations and a private right of action for data breaches. Further, California voters approved the ballot initiative known as the California Privacy Rights Act of 2020 (“CPRA”), enforcement of which began on July 1, 2023. The CPRA significantly expands privacy rights for California consumers and creates additional obligations on businesses, which could subject us to additional compliance costs as well as potential fines, individual claims and commercial liabilities. The CPRA also establishes the California Privacy Protection Agency, which has the power to implement and enforce the CCPA and CPRA through administrative actions, including administrative fines. The effects of the CCPA and the CPRA are potentially significant and may require us to modify our data collection or processing practices and policies and to incur substantial costs and expenses in an effort to comply and increase our potential exposure to regulatory enforcement and/or litigation.
Other U.S. states have also enacted data privacy laws that began to take effect in 2023 and impose similar privacy obligations to the CCPA and CPRA. We anticipate that more states may enact legislation similar to these laws, by providing consumers with new privacy rights and increasing the privacy and security obligations of entities handling certain personal information of such consumers. The CCPA continues to prompt a number of proposals for new federal and state-level privacy legislation. Such proposed legislation, if enacted, may add additional complexity, variation in requirements, restrictions and potential legal risk, require additional investment of resources in compliance programs, impact strategies and the availability of previously useful data and could result in increased compliance costs and/or changes in business practices and policies.
We have developed and implemented policies and procedures to address applicable data privacy and protection law requirements. However, because the interpretation and application of many privacy and data protection laws, commercial frameworks, and standards are uncertain, it is possible that these laws, frameworks, and standards may be interpreted and applied in a manner that is inconsistent with our existing data protection practices. If so, we and our customers are at risk of enforcement actions taken by data protection authorities or litigation from consumer advocacy groups acting on behalf of data subjects. In addition to the possibility of fines, lawsuits, breach of contract claims, and other claims and penalties, we could be required to fundamentally change our business activities and practices or modify our solutions, which could materially adversely affect our business, results of operations and financial condition.
SMCI | 2023 Form 10-K | 26
Our operations could involve the use of regulated materials, and we must comply with environmental, health and safety laws and regulations, which can be expensive, and may affect our business, results of operations and financial condition.
We are subject to federal, state and local regulations relating to violationsthe use, handling, storage, disposal and human exposure to materials, including hazardous and toxic materials. If we were to violate or become liable under environmental, health and safety laws in the future as a result of exportour inability to obtain permits, human error, accident, equipment failure or other causes, we could be subject to fines, costs or civil or criminal sanctions, face third-party property damage or personal injury claims or be required to incur substantial investigation or remediation costs, any of which could have a material adverse effect on business, results of operations and financial condition.
We also face increasing complexity in our product design as we adjust to new requirements relating to the materials composition, energy efficiency and recyclability of our products, including EU eco-design requirements for servers and data storage products (Commission Regulation (EU) 2019/424). We are also subject to laws and regulations providing consumer warnings, such as California’s “Proposition 65” which requires warnings for certain chemicals deemed by the State of California to be dangerous. We expect that our operations will be affected by other new environmental laws and regulations on an ongoing basis that will likely result in additional costs and could require that we change the design and/or manufacturing of products, and could have a material adverse effect on business, results of operations or financial condition.
We are also subject to the Section 1502 of the Dodd Frank Act concerning the supply of certain minerals coming from the conflict zones in and around the Democratic Republic of Congo and adhere to broader industry best practices to source minerals responsibly from all Conflict-Affected and High-Risk Areas (CAHRA). These requirements and best practices can affect the cost and ease of sourcing minerals used in the manufacture of electronics.
If we are unable to maintain effective internal control over financial reporting, investors may lose confidence in the accuracy and related laws;completeness of our financial reports and the market price of our common stock may decrease.
As a public company, we are required to maintain internal control over financial reporting and to report any material weaknesses in such internal controls. Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, requires that we evaluate and determine the effectiveness of our internal control over financial reporting and provide a management report and attestation from our independent registered public accountant on our internal control over financial reporting. Both our evaluation and the external attestation have and will continue to increase our and our independent public accountant costs and expenses.
In the past, we have had one or more material weaknesses, which we have remediated. If we identify one or more material weaknesses in our internal control over financial reporting, we will be unable to assert that our internal controls are effective, which could cause our stock price to decline. A “material weakness” is a deficiency, or a combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis.
If we have material weaknesses in our internal control over financial reporting, we may not detect errors on a timely basis and our financial statements may be materially misstated. If we identify material weaknesses in our internal control over financial reporting, if we are unable to comply with the requirements of Section 404 in a timely manner, if we are unable to assert that our internal control over financial reporting is effective or if our independent registered public accounting firm is unable to attest that our internal control over financial reporting is effective, investors may lose confidence in the accuracy and completeness of our financial reports and the market price of our common stock could decrease. We could also become subject to stockholder or other third-party litigation as well as investigations by the stock exchange on which our securities are listed, the SEC or other regulatory authorities, which could require additional financial and management resources and could result in fines, penalties, trading suspensions or other remedies.
SMCI | 2023 Form 10-K | 27
Failure to comply with the U.S. Foreign Corrupt Practices Act, other applicable anti-corruption and anti-bribery laws, and applicable trade control laws could subject us to penalties and other adverse consequences.
We manufacture and sell our products in several countries outside of the United States, both to direct and OEM customers as well as through our indirect sales channel. Our operations are subject to the U.S. Foreign Corrupt Practices Act (the “FCPA”) as well as the anti-corruption and anti-bribery laws in the countries where we do business. The FCPA prohibits covered parties from offering, promising, authorizing or giving anything of value, directly or indirectly, to a “foreign government official” with the intent of improperly influencing the official’s act or decision, inducing the official to act or refrain from acting in violation of lawful duty or obtaining or retaining an improper business advantage. The FCPA also requires publicly traded companies to maintain records that accurately and fairly represent their transactions, and to have an adequate system of internal accounting controls. In addition, other applicable anti-corruption laws prohibit bribery of domestic government officials, and some laws that may apply to our operations prohibit commercial bribery, including giving or receiving improper payments to or from non-government parties, as well as so-called “facilitation” payments.
In addition, we are subject to U.S. and other applicable trade control regulations that restrict with whom we may transact business, including the trade sanctions enforced by the U.S. Treasury, Office of Foreign Assets Control. If we fail to comply with laws and regulations restricting dealings with sanctioned countries or companies and/or persons on restricted lists, we may be subject to future civil or criminal penalties, which may have a material adverse effect on our business or ability to do business outside the United States.
In 2006, we entered into certain plea and settlement agreement with government agencies relating to export control and related law violations for activities that occurred in the 2001 to 2003 time frame. We believe we are currently in compliance in all material respects with applicable export related laws and regulations. However, if our export compliance program is not effective, or if we are subject to any future claims regarding violation of export control and economic sanctions laws, we could be subject to civil or criminal penalties, which could lead to a material fine or other sanctions, including loss of export privileges, that may have a material adverse effect on our business, financial condition, results of operation and future prospects. In addition, these plea and settlement agreements and anypenalties. Any future violations could have an adverse impact on our ability to sell our products to United States federal, state and local government and related entities. We have business relationships with companies in China and elsewhere in eastern Europe who have been, or may in the future be, added to the restricted party list. We take steps to minimize business disruption when these situations arise; however, we may be required to terminate or modify such relationships if our activities are prohibited by U.S. laws. Further, our association with these parties could subject us to greater scrutiny or reputational harm among current or prospective customers, partners, suppliers, investors, other parties doing business with us or using our products, or the general public. The United States and other countries continually update their lists of export-controlled items and technologies, and may impose new or more-restrictive export requirements on our products in the future. As a result of regulatory changes, we may be required to obtain licenses or other authorizations to continue supporting existing customers or to supply existing products to new customers in China, eastern Europe and elsewhere. Further escalations in trade restrictions or hostilities, particularly between the United States and China, could impede our ability to sell or support our products. We do not sell products or provide services to the Russian Federal Security Service (the “FSB”). We had last recorded revenue from Russia on February 23, 2022.
In addition, while we have implemented policies, internal controls and other measures reasonably designed to promote compliance with applicable anti-corruption and anti-bribery laws and regulations, and certain safeguards designed to ensure compliance with U.S. trade control laws, our employees or agents have in the past engaged and may in the future engage in improper conduct for which we could be held responsible. If we, or our employees or agents acting on our behalf, are found to have engaged in practices that violate these laws and regulations, we could suffer severe fines and penalties, profit disgorgement, injunctions on future conduct, securities litigation, bans on transacting government business and other consequences that may have a material adverse effect on our business, results of operations and financial condition. In addition, our brand and reputation, our sales activities or our stock price could be adversely affected if we become the subject of any negative publicity related to actual or potential violations of anti-corruption, anti-bribery or trade control laws and regulations.
Any failure to protect our intellectual property rights, trade secrets and technical know-how could impair our brand and our competitiveness.
Our ability to prevent competitors from gaining access to our technology is essential to our success. If we fail to protect our intellectual property rights adequately, we may lose an important advantage in the markets in which we compete. Trademark, patent, copyright and trade secret laws in the United States and other jurisdictions as well as our internal confidentiality procedures and contractual provisions are the core of our efforts to protect our proprietary technology and our brand. Our patents and other intellectual property rights may be challenged by others or invalidated through administrative process or litigation, and we may initiate claims or litigation against third parties for infringement of our proprietary rights. Such administrative proceedings and litigation are inherently uncertain and divert resources that could be put towards other business priorities. We may not be able to obtain a favorable outcome and may spend considerable resources in our efforts to defend and protect our intellectual property.
18SMCI | 2023 Form 10-K | 28
Furthermore, legal standards relating to the validity, enforceability and scope of protection of intellectual property rights are uncertain. Effective patent, trademark, copyright and trade secret protection may not be available to us in every country in which our products are available. The laws of some foreign countries may not be as protective of intellectual property rights as those in the United States, and mechanisms for enforcement of intellectual property rights may be inadequate.
Accordingly, despite our efforts, we may be unable to prevent third parties from infringing upon or misappropriating our intellectual property and using our technology for their competitive advantage. Any such infringement or misappropriation could have a material adverse effect on our business, results of operations and financial condition.
Resolution of claims that we have violated or may violate the intellectual property rights of others could require us to indemnify our customers, resellersindirect sales channel partners or vendors, redesign our products, or pay significant royalties to third parties, and materially harm our business.
Our industry is marked by a large number of patents, copyrights, trade secrets and trademarks and by frequent litigation based on allegations of infringement or other violation of intellectual property rights. Our primary competitors have substantially greater numbers of issued patents than we have which may position us less favorably in the event of any claims or litigation with them. Other third-partiesthird parties have in the past sent us correspondence regarding their intellectual property or filed claims that our products infringe or violate third parties’ intellectual property rights. In addition, increasingly non-operating companies are purchasing patents and bringing claims against technology companies. We have been subject to several such claims and may be subject to such claims in the future.
Successful intellectual property claims against us from others could result in significant financial liability or prevent us from operating our business or portions of our business as we currently conduct it or as we may later conduct it. In addition, resolution of claims may require us to redesign our technology to obtain licenses to use intellectual property belonging to third parties, which we may not be able to obtain on reasonable terms, to cease using the technology covered by those rights, and to indemnify our customers, resellersindirect sales channel partners or vendors. Any claim, regardless of its merits, could be expensive and time consuming to defend against, and divert the attention of our technical and management resources.
Provisions of our certificate of incorporation and bylaws and Delaware law might discourage, delay or prevent a change of control of our company or changes in our management and, as a result, depress the trading price of our common stock.
Our certificate of incorporation and bylaws contain provisions that could discourage, delay or prevent a change in control of our company or changes in our management that the stockholders of our company may deem advantageous. These provisions:
•Establish a classified Board of Directors so that not all members of our Board are generally elected at one time;
•Require super-majority voting to amend some provisions in our certificate of incorporation and bylaws;
•Authorize the issuance of “blank check” preferred stock that our Board could issue to increase the number of outstanding shares and to discourage a takeover attempt;
•Limit the ability of our stockholders to call special meetings of stockholders;
•Prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders;
•Provide that our Board is expressly authorized to adopt, alter or repeal our bylaws; and
•Establish advance notice requirements for nominations for election to our Board or for proposing matters that can be acted upon by stockholders at stockholder meetings.
In addition, we are subject to Section 203 of the Delaware General Corporation Law, which, subject to some exceptions, prohibits “business combinations” between a Delaware corporation and an “interested stockholder,” which is generally defined as a stockholder who becomes a beneficial owner of 15% or more of a Delaware corporation’s voting stock for a three-year period following the date that the stockholder became an interested stockholder. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests.
These anti-takeover defenses could discourage, delay or prevent a transaction involving a change in control of our company. These provisions could also discourage proxy contests and make it more difficult for stockholders to elect directors of their choosing and cause us to take corporate actions other than those stockholders desire.
SMCI | 2023 Form 10-K | 29
Financial Risks
Our research and development expenditures, as a percentage of our net sales, are considerably higher than many of our competitors and our earnings will depend upon maintaining revenues and margins that offset these expenditures.
One of our key strategies is to focus on being consistently first-to-market with flexible and application optimized server and storage systems that take advantage of our own internal development and the latest technologies offered by microprocessor manufacturers and other component vendors. Consistent with this strategy, we believe we spend higher amounts, as a percentage of revenues, on research and development costs than many of our competitors. If we lose Charles Liang,cannot sell our President, Chief Executive Officerproducts in sufficient volume and Chairman, or any other key employee or are unablewith adequate gross margins to attract additional key employees, wecompensate for such investment in research and development, our earnings may not be able to implement our business strategy in a timely manner.materially and adversely affected.
Our future success dependseffective income tax rates could be affected by changes in large part upon the continued servicerelative mix of our executive management teamoperations and other key employees. In particular, Charles Liang,income among different geographic regions and by changes in domestic and foreign income tax laws, which could affect our President, Chief Executive Officerfuture operating results, financial condition and Chairman of the Board, is critical to the overall management of our company as well as to the development of our culture and our strategic direction. Mr. Liang co-founded our company and has been our Chief Executive Officer since our inception. His experience in running our business and his personal involvement in key relationships with suppliers, customers and strategic partners are extremely valuablecash flows.
We receive significant tax benefits from sales to our company. We currently do not have a succession plan for the replacement of Mr. Liang if it were to become necessary. Additionally, wenon-U.S. customers. These benefits are particularly dependent on the continued service of ourcontingent upon existing researchtax laws and development personnel because of the complexity of our products and technologies. Our employment arrangements with our executives and employees do not require them to provide services to us for any specific length of time, and they can terminate their employment with us at any time, with or without notice, without penalty. The loss of services of any of these executives or of one or more other key members of our team could seriously harm our business.
To execute our growth plan, we must attract additional highly qualified personnel, including additional engineers and executive staff. Competition for qualified personnel is intense, especially in Silicon Valley, where we are headquartered. We have experiencedregulations in the pastU.S. and may continue to experience difficulty in hiringthe countries in which our international operations are located. Future changes in domestic or international tax laws and retaining highly skilled employees with appropriate qualifications. In particular,regulations or a change in how we are currently working to add personnel inmanage our finance, accounting and general administration departments, which have historically had limited budgets and staffing. If we are unable to attract and integrate additional key employees in a manner that enables us to scale our business andinternational operations effectively, or if we do not maintain competitive compensation policies to retain our employees,could adversely affect our ability to operate effectivelycontinue realizing these tax benefits.
Many countries around the world are beginning to implement legislation and efficientlyother guidance to align their international tax rules with the Organization for Economic Co-operation and Development’s Base Erosion and Profit Shifting recommendations and related action plans that aim to standardize and modernize global corporate tax policy, including changes to cross-border tax, transfer-pricing documentation rules and nexus-based tax incentive practices. As a result, many of these changes, if enacted, could increase our worldwide effective tax rate and harm our operating results, financial condition, and cash flows.
Our effective tax rate could also be limited.adversely affected by changes in tax laws and regulations and interpretations of such laws and regulations, which in turn would negatively impact our earnings and cash and cash equivalent balances we currently maintain. Additionally, our effective tax rate could also be adversely affected if there is a change in international operations, our tax structure and how our operations are managed and structured, and as a result, we could experience harm to our operating results and financial condition.
Backlog does not provide a substantial portion of our net sales in any quarter.
OurWhile we had greater than normal backlog during certain periods of fiscal year 2023, historically, our net sales are difficult to forecast because we do not have sufficient backlog of unfilled orders or sufficient recurring revenue to meet our quarterly net sales targets at the beginning of a quarter. Rather, a majority of our net sales in any quarter depend upon customer orders that we receive and fulfill in that quarter. Because our expense levels are based in part on our expectations as to future net sales and to a large extent are fixed in the short term, we might be unable to adjust spending in time to compensate for any
shortfall in net sales. Accordingly, any significant shortfall of revenues in relation to our expectations would harm our operating results.
Our business and operations are especially subject to the risks of earthquakes and other natural catastrophic events.
Our corporate headquarters, including our most significant research and development and manufacturing operations, are located in the Silicon Valley area of Northern California, a region known for seismic activity. We have also established significant manufacturing and research and development operations in Taiwan which is also subject to seismic activity risks. We do not currently have a comprehensive disaster recovery program and as a result, a significant natural disaster, such as an earthquake, could have a material adverse impact on our business, operating results, and financial condition. Although we are in the process of preparing such a program, there is no assurance that it will be effective in the event of such a disaster.
Our operations involve the use of hazardous and toxic materials, and we must comply with environmental laws and regulations, which can be expensive, and may affect our business and operating results.
We are subject to federal, state and local regulations relating to the use, handling, storage, disposal and human exposure to hazardous and toxic materials. If we were to violate or become liable under environmental laws in the future as a result of our inability to obtain permits, human error, accident, equipment failure or other causes, we could be subject to fines, costs, or civil or criminal sanctions, face third party property damage or personal injury claims or be required to incur substantial investigation or remediation costs, which could be material, or experience disruptions in our operations, any of which could have a material adverse effect on our business. In addition, environmental laws could become more stringent over time imposing greater compliance costs and increasing risks and penalties associated with violations, which could harm our business.
We also face increasing complexity in our product design as we adjust to new and future requirements relating to the materials composition of our products, including the restrictions on lead and other hazardous substances applicable to specified electronic products placed on the market in the European Union (Restriction on the Use of Hazardous Substances Directive 2002/95/EC, also known as the RoHS Directive). We are also subject to laws and regulations such as California’s “Proposition 65” which requires that clear and reasonable warnings be given to consumers who are exposed to certain chemicals deemed by the State of California to be dangerous, such as lead. We expect that our operations will be affected by other new environmental laws and regulations on an ongoing basis. Although we cannot predict the ultimate impact of any such new laws and regulations, they will likely result in additional costs, and could require that we change the design and/or manufacturing of our products, any of which could have a material adverse effect on our business.
We are also subject to the regulations concerning the supply of minerals coming from the conflict zones in and around the Democratic Republic of Congo. This newer United States legislation includes disclosure requirements regarding the use of conflict minerals mined from the Democratic Republic of Congo and adjoining countries and procedures regarding a manufacturer’s efforts to prevent the sourcing of such conflict minerals. The implementation of these requirements could affect the sourcing and availability of minerals used in the manufacture of semiconductor or other devices. As a result, there may only be a limited pool of suppliers who provide conflict-free metals, and we cannot assure you that we will be able to obtain products in sufficient quantities or at competitive prices.
Risks Related to Owning Our Stock
The trading price of our common stock is likely to be volatile, and you might not be able to sell your shares at or above the price at which you purchased the shares.
The trading prices of technology company securities historically have been highly volatile. In addition, the global markets have been volatile, and experienced volatility as a result of matters such as the COVID-19 pandemic, the global economic downturn and recent events in eastern Europe. The trading price of our common stock has been and is likely to continue to be subject to wide fluctuations. Factors, in addition to those outlined elsewhere in this filing, that may affect the trading price of our common stock include:
•Actual or anticipated variations in our operating results, including failure to achieve previously provided guidance;
SMCI | 2023 Form 10-K | 30
•Announcements of technological innovations, new products or product enhancements, strategic alliances or significant agreements by us or by our competitors;
•Changes in recommendations by any securities analysts that elect to follow our common stock;
•The financial projections we may provide to the public, any changes in these projections or our failure to meet these projections;
•False or misleading press releases or articles regarding our company or our products;
•The loss of a key customer;
•The loss of key personnel;
•Technological advancements rendering our products less valuable;
•Lawsuits filed against us;
•Changes in operating performance and stock market valuations of other companies that sell similar products;
•Price and volume fluctuations in the overall stock market;
•Market conditions in our industry, the industries of our customers and the economy as a whole; and
•Other events or factors, including those resulting from war, incidents of terrorism, political instability, pandemics or responses to these events.
Future sales of shares by existing stockholders, including any shares that have vested or may in the future vest under the 2021 CEO Performance Award, could cause our stock price to decline.
Attempts by existing stockholders to sell substantial amounts of our common stock in the public market could cause the trading price of our common stock to decline significantly. All of our shares are eligible for sale in the public market, including shares held by directors, executive officers and other affiliates, sales of which are subject to volume limitations and other requirements under Rule 144 under the Securities Act. In addition, shares subject to outstanding options and reserved for future issuance under our stock option plans, including those underlying the 2021 CEO Performance Award that have vested or vest in the future, are eligible for sale in the public market to the extent permitted by the provisions of various vesting agreements. See “Item 11. Executive Compensation – Compensation Discussion and Analysis (“CD&A”) – Fiscal Year 2023 CEO Compensation – Discussion and Analysis of 2021 CEO Performance Award.” If these additional shares are sold, or if it is perceived that they will be sold in the public market, the trading price of our common stock could decline.
If securities analystsFurthermore, additional tranches of the 2021 CEO Performance Award may vest, subject to the achievement of specified annualized revenue milestones (the “Annualized Revenue Milestones”) and a matching stock price milestone, and if such additional tranches do vest, they would be subject to the risks discussed above. In connection therewith, the Company has determined that the Annualized Revenue Milestones that have not publish research or reports about our business or if they downgrade our stock,yet been achieved are “probable of achievement,” for purposes of determining whether to recognize expense associated with the price of our stock could decline.
The researchapplicable tranche. Such determination is based upon management’s subjective judgment and reportsis not a guarantee that industry or financial analysts publish about us or our business likely have an effect on the trading price of our common stock. If an industry analyst decides not to cover our company, or if an industry analyst decides to cease covering our company at some pointit will be achieved. See Note 10, Stock-based Compensation and Stockholders’ Equity in the future, we could lose visibility in the market, which in turn could cause our stock priceNotes to decline. If an industry analyst downgrades our stock, our stock price would likely decline rapidly in response.Consolidated Financial Statements.
The concentration of our capital stock ownership with insiders will likely limitlimits your ability to influence corporate matters.
As of August 18, 2016,July 31, 2023, our executive officers, directors, current five percent or greater stockholders and affiliated entities together beneficially owned 44.4%42.3% of our common stock, net of treasury stock. As a result, these stockholders, acting together, will have significant influence over all matters that require approval by our stockholders, including the election of directors and approval of significant corporate transactions. Corporate action might be taken even if other stockholders oppose them. This concentration of ownership might also have the effect of delaying or preventing a change of control of our company that other stockholders may view as beneficial.
Provisions of our certificate of incorporation and bylaws and Delaware law might discourage, delay or prevent a change of control of our company or changes in our management and, as a result, depress the trading price of our common stock.
Our certificate of incorporation and bylaws contain provisions that could discourage, delay or prevent a change in control of our company or changes in our management that the stockholders of our company may deem advantageous. These provisions:
establish a classified board of directors so that not all members of our board are elected at one time;
require super-majority voting to amend some provisions in our certificate of incorporation and bylaws;
authorize the issuance of “blank check” preferred stock that our board could issue to increase the number of outstanding shares and to discourage a takeover attempt;
limit the ability of our stockholders to call special meetings of stockholders;
prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders;
provide that the board of directors is expressly authorized to adopt, or to alter or repeal our bylaws; and
establish advance notice requirements for nominations for election to our board or for proposing matters that can be acted upon by stockholders at stockholder meetings.
In addition, we are subject to Section 203 of the Delaware General Corporation Law, which, subject to some exceptions, prohibits “business combinations” between a Delaware corporation and an “interested stockholder,” which is
generally defined as a stockholder who becomes a beneficial owner of 15% or more of a Delaware corporation’s voting stock for a three-year period following the date that the stockholder became an interested stockholder. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests.
These anti-takeover defenses could discourage, delay or prevent a transaction involving a change in control of our company. These provisions could also discourage proxy contests and make it more difficult for stockholders to elect directors of their choosing and cause us to take corporate actions other than those stockholders desire.
We do not expect to pay any cash dividends for the foreseeable future.
We do not anticipate that we will pay any cash dividends to holders of our common stock in the foreseeable future. In addition, under the terms of the credit agreement with Bank of America, dated April 19, 2018, we cannot pay any dividends, with limited exceptions. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investment. Investors seeking cash dividends in the foreseeable future should not purchase our common stock.
SMCI | 2023 Form 10-K | 31
General Risks
Our products may not be viewed as supporting climate change mitigation in the IT sector.
Our ability to create energy saving products will be a part of climate change mitigation, and we believe one of the keys to our business success. In addition, climate change reporting and product certification are increasingly sought by customers and regulators. If we do not satisfy customer requirements for products that help mitigate climate change, and document how they contribute to such change, it could have a material adverse impact on our business, operating results, and financial conditions.
Our business and operations may be impacted by natural disaster events, including those brought on by climate change.
Land, sea and air routes between economic centers are subject to weather events exacerbated by climate change and can disrupt commercial activity. Our most significant business offices, research and development, and manufacturing locations, are in the San Jose, California area and in Taiwan. We are also in the process of developing manufacturing operations in Malaysia. Each region is subject to climate change events and known for earthquakes. While we have adopted a business continuity plan and are taking steps to further diversify our manufacturing locations, there is no certainty it will be effective for significant natural disasters, which could have a material adverse impact on business, operating results, and financial condition.
The use of AI by our workforce may present risks to our business.
Our workforce may use AI tools on an unauthorized basis which poses additional risks relating to the protection of data, including the potential exposure of our proprietary confidential information to unauthorized recipients and the misuse of our or third-party intellectual property. Use of AI technology by our workforce may result in allegations or claims against us related to violation of third-party intellectual property rights, unauthorized access to or use of proprietary information and failure to comply with open source software requirements. AI technology may also produce inaccurate responses that could lead to errors in our decision-making, solution development or other business activities, which could have a negative impact on our business, operating results and financial condition. Our ability to mitigate these risks will depend on our continued effective training, monitoring and enforcement of appropriate policies and procedures governing the use of AI technology, and compliance by our workforce.
Expectations relating to environmental, social and governance considerations expose us to potential liabilities, reputational harm and other unforeseen adverse effects on our business.
Many governments, regulators, investors, employees, customers and other stakeholders are increasingly focused on environmental, social and governance considerations relating to businesses, including climate change and greenhouse gas emissions, human capital and diversity, equity and inclusion. We make statements about our environmental, social and governance goals and initiatives through information provided on our website, press statements and other communications Responding to these environmental, social and governance considerations and implementation of these goals and initiatives involves risks and uncertainties and requires ongoing investments. The success of our goals and initiatives may be impacted by factors that are outside our control. In addition, some stakeholders may disagree with our goals and initiatives and the focus and views of stakeholders may change and evolve over time and vary depending on the jurisdictions in which we operate. Any failure, or perceived failure, by us to achieve our goals, further our initiatives, adhere to our public statements, comply with federal, state or international environmental, social and governance laws and regulations, or meet evolving and varied stakeholder expectations and views could materially adversely affect our business, reputation, results of operations, financial position and stock price.
Item 1B. Unresolved Staff Comments
Not applicable. None.
Item 2. Properties
SMCI | 2023 Form 10-K | 32
As of June 30, 2023, we owned approximately 2,273,000 square feet and leased approximately 720,000 square feet of office and manufacturing space. Our long-lived assets located outside of the United States represented36.8%, 36.8% and 34.4% of total value of long-lived assets in fiscal years 2023, 2022 and 2021, respectively. See Part II, Item 8, Note 14, “Segment Reporting” to the consolidated financial statements in this Annual Report for a summary of long-lived assets by geographic region.
Our principal executive offices, research and development center and production operations are located in San Jose, California where we own approximately 1,046,0001,307,000 square feet of office and manufacturing space which is subject to existing term loans and revolving line of credit with $63.1 million remaining outstanding as of June 30, 2016.space. We lease approximately 247,0005,000 square feet of warehouseoffice space in Fremont, CaliforniaJersey City, New Jersey under a lease that expires in 2020,July 2025, lease approximately 46,000 square feet of office space in San Jose, California under two leases, which expire at various dates through 2017, anda lease that expires in January 2028, lease approximately 5,000246,000 square feet of officewarehouse space in Jersey City, New JerseyFremont, California under a lease that expires in 2020.July 2025, lease approximately 28,000 square feet of warehouse space in Milpitas, California under a lease that expires in March 2027. Subsequent to June 30, 2023, we entered into a five year lease for an additional approximate 124,000 square feet of warehouse space in San Jose, California. Our European headquarters for manufacturing and service operations is located in Den Bosch, the Netherlands where we own approximately 12,000 square feet of office and we lease approximately 151,000203,000 square feet of office and manufacturing space under five leases, which expire at various dates through 2025.in June 2026. In Asia, our manufacturing facilities are located in Taoyuan County, Taiwan where we own approximately 211,000954,000 square feet of office and manufacturing space on 7.06.77 acres of land. These manufacturing facilities are subject to anpledged as security under the existing term loanloans with $20.4$38.2 million remaining outstanding as of June 30, 2016.2023. Our research and development center, and service operations, and warehouse space in Asia are located in an approximately 76,000118,000 square feet facility in Taipei and Hsinchu, Taiwan under sevenfourteen leases that expire at various dates ranging from January 2024 through 2018. We leaseFebruary 2026and an approximately 3,00042,000 square feet of office spacefacility in Shanghai and Beijing, ChinaTaoyuan, Taiwan under twothree leases that expire at various dates through 2018, for sales and service operations. In addition, we lease approximately 2,000 square feet of office space in Japan under one lease, which expires in 2018.December 2023.
Additionally, we own 36 acres of land in San Jose, California on which we planthat would allow us to develop and construct a total of five multi-function buildings that will serve asexpand our Green Computing Park. We remodeled one exiting warehouse with approximately 312,000 square feet of storage space and completed the construction of aour third new manufacturing and warehouse building with approximately 182,000209,000 square feet of manufacturing space in August 2015.June 2021. In fiscal year 2016,2023, we continued to engage several contractors for the development and construction of improvements on the property. We plan to complete the construction of a second new manufacturing and warehouse building in the fourth quarter of fiscal year 2017. We financed this development through our operating cash flows and additional borrowings from banks. ReferSee Part II, Item 8, Note 7, “Short-term and Long-term Debt” to Note 7the consolidated financial statements in this Annual Report for a discussion of our company's debt.
During the Company’s short-term and long-term obligations.second quarter of fiscal year 2023, we entered into a letter of understanding to acquire land in Malaysia to be used to expand our manufacturing operations. A definitive agreement to acquire such land, subject to various conditions, was subsequently executed in January 2023. We are obtaining early access to such land prior to acquisition.
We believe that our existing properties, including both owned and leased, are in good condition and are suitable for the conduct of our business.
Item 3. Legal Proceedings
From timeThe information required by this item is incorporated herein by reference to time, we have been involvedthe information set forth under the caption “Litigation and Claims” in variousPart II, Item 8, Note 12 “Commitments and Contingencies” of our notes to the consolidated financial statements included in this Annual Report.
Due to the inherent uncertainties of legal proceedings, arising fromwe cannot predict the normal courseoutcome of business activities. We defend ourselves vigorously against any such claims. In management's opinion, the resolution of any pending mattersthese proceedings at this time, and we can give no assurance that they will not have a material adverse effect on our consolidated financial condition,position or results of operations or liquidity.
Item 4. Mine Safety Disclosures
Not applicable.
SMCI | 2023 Form 10-K | 33
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
OurWe became a public company in March 2007, prior to which there was no public market for our common stock. On January 14, 2020, our common stock tradeswas relisted on Thethe NASDAQ Global Select Market under the symbol “SMCI”“SMCI". The following table sets forth for the periods indicated the high and low sale prices of our common stock as reported by The NASDAQ Global Select Market.
|
| | | | | | | |
| High | | Low |
Fiscal Year 2015: | | | |
First Quarter | $ | 29.42 |
| | $ | 24.17 |
|
Second Quarter | $ | 36.53 |
| | $ | 22.85 |
|
Third Quarter | $ | 41.13 |
| | $ | 32.76 |
|
Fourth Quarter | $ | 37.77 |
| | $ | 28.77 |
|
| High | | Low |
Fiscal Year 2016: | | | |
First Quarter | $ | 30.25 |
| | $ | 24.24 |
|
Second Quarter | $ | 31.82 |
| | $ | 22.32 |
|
Third Quarter | $ | 34.08 |
| | $ | 21.52 |
|
Fourth Quarter | $ | 34.49 |
| | $ | 23.78 |
|
Holders
As of August 18, 2016,July 31, 2023, there were 2620 registered stockholders of record of our common stock. Because most of our shares are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of beneficial stockholders represented by these holders of record.
Dividend Policy
We have never declared or paid cash dividends on our capital stock. We intend to retain any future earnings and do not expect to pay any dividends in the foreseeable future. Under the terms of the credit agreement with Bank of America, as amended, we may not pay any dividends.
Equity Compensation Plan
Please see Part III, Item 12, “Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters”of this reportAnnual Report for disclosure relating to our equity compensation plans.
Stock Performance Graph
This performance graph shall not be deemed “soliciting material” or to be "filed" with the SEC for purposes of Section 18 of the Exchange Act, or otherwise subject to the liabilities under that Section, and shall not be deemed to be incorporated by reference into any filing of Super Micro Computer, Inc. under the Securities Act of 1933, as amended, or the Exchange Act.
The following graph compares our cumulative five-year total stockholder return on our common stock with the cumulative return of the NASDAQNasdaq Computer Index and the NASDAQNasdaq Composite Index, which both include our common stock, for the comparable period.
Index. The graph reflects an investment of $100 (with reinvestment of all dividends, if any) in our common stock, the NASDAQNasdaq Computer Index and the NASDAQNasdaq Composite Index on June 30, 20112018, and itsour relative performance tracked through June 30, 2016.2023. The stockholder return shown on the graph below is not necessarily indicative of future performance, and we do not make or endorse any predictions as to future stockholder returns.
SMCI | 2023 Form 10-K | 34
|
| | | | | | | | | | | | | | | | | | |
| | 6/30/2011 | | 6/30/2012 | | 6/30/2013 | | 6/30/2014 | | 6/30/2015 | | 6/30/2016 |
Super Micro Computer, Inc. | | 100.00 |
| | 98.57 |
| | 66.13 |
| | 157.05 |
| | 183.84 |
| | 154.44 |
|
NASDAQ Composite Index | | 100.00 |
| | 105.82 |
| | 122.71 |
| | 158.94 |
| | 179.80 |
| | 174.60 |
|
NASDAQ Computer Index | | 100.00 |
| | 113.27 |
| | 115.80 |
| | 161.05 |
| | 178.46 |
| | 180.97 |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | 6/30/2018 | | 6/30/2019 | | 6/30/2020 | | 6/30/2021 | | 6/30/2022 | | 6/30/2023 |
Super Micro Computer, Inc. | | 100.00 | | | 81.82 | | | 120.04 | | | 148.75 | | | 170.61 | | | 1,053.91 | |
Nasdaq Composite Index | | 100.00 | | | 106.60 | | | 133.93 | | | 193.12 | | | 146.85 | | | 183.59 | |
Nasdaq Computer Index | | 100.00 | | | 108.22 | | | 155.03 | | | 233.08 | | | 190.10 | | | 260.87 | |
Recent Sales of Unregistered Securities
None.
Issuer Purchases of Equity Securities
None.During the three months ended June 30, 2023, we did not repurchase any shares of our common stock:
Item 6. Selected Financial Data
The following selected consolidated financial data is qualified by reference to, and should be read in conjunction with, our Consolidated Financial Statements and notes thereto in Part II, Item 8 and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7, of this Annual Report on Form 10-K. Our historical results are not necessarily indicative of the results to be expected in any future period.
|
| | | | | | | | | | | | | | | | | | | |
| Fiscal Years Ended June 30, |
| 2016 | | 2015 | | 2014 | | 2013 | | 2012 |
| (in thousands, except per share data) |
Consolidated Statements of Operations Data: | | | | | | | | | |
Net sales | $ | 2,215,573 |
| | $ | 1,991,155 |
| | $ | 1,467,202 |
| | $ | 1,162,561 |
| | $ | 1,013,874 |
|
Cost of sales | 1,884,048 |
| | 1,670,924 |
| | 1,241,657 |
| | 1,002,508 |
| | 848,457 |
|
Gross profit | 331,525 |
| | 320,231 |
| | 225,545 |
| | 160,053 |
| | 165,417 |
|
Operating expenses: | | | | | | | | | |
Research and development | 123,994 |
| | 100,257 |
| | 84,257 |
| | 75,208 |
| | 64,223 |
|
Sales and marketing | 62,841 |
| | 48,851 |
| | 38,012 |
| | 33,785 |
| | 33,308 |
|
General and administrative | 37,840 |
| | 24,377 |
| | 23,017 |
| | 23,902 |
| | 21,872 |
|
Total operating expenses | 224,675 |
| | 173,485 |
| | 145,286 |
| | 132,895 |
| | 119,403 |
|
Income from operations | 106,850 |
| | 146,746 |
| | 80,259 |
| | 27,158 |
| | 46,014 |
|
Interest and other income, net | 171 |
| | 115 |
| | 92 |
| | 48 |
| | 54 |
|
Interest expense | (1,594 | ) | | (965 | ) | | (757 | ) | | (610 | ) | | (717 | ) |
Income before income tax provision | 105,427 |
| | 145,896 |
| | 79,594 |
| | 26,596 |
| | 45,351 |
|
Income tax provision | 33,406 |
| | 44,033 |
| | 25,437 |
| | 5,317 |
| | 15,498 |
|
Net income | $ | 72,021 |
| | $ | 101,863 |
| | $ | 54,157 |
| | $ | 21,279 |
| | $ | 29,853 |
|
Net income per share: | | | | | | | | | |
Basic | $ | 1.50 |
| | $ | 2.19 |
| | $ | 1.24 |
| | $ | 0.50 |
| | $ | 0.72 |
|
Diluted | $ | 1.39 |
| | $ | 2.03 |
| | $ | 1.16 |
| | $ | 0.48 |
| | $ | 0.67 |
|
Shares used in per share calculation: | | | | | | | | | |
Basic | 47,917 |
| | 46,434 |
| | 43,599 |
| | 41,992 |
| | 40,890 |
|
Diluted | 51,836 |
| | 50,094 |
| | 46,512 |
| | 43,907 |
| | 44,152 |
|
| | | | | | | | | |
Stock-based compensation: | | | | | | | | | |
Cost of sales | $ | 1,098 |
| | $ | 901 |
| | $ | 941 |
| | $ | 953 |
| | $ | 783 |
|
Research and development | 10,178 |
| | 8,643 |
| | 6,783 |
| | 6,527 |
| | 5,542 |
|
Sales and marketing | 1,841 |
| | 1,553 |
| | 1,260 |
| | 1,541 |
| | 1,469 |
|
General and administrative | 3,014 |
| | 2,602 |
| | 2,078 |
| | 2,340 |
| | 2,458 |
|
Total stock-based compensation | $ | 16,131 |
| | $ | 13,699 |
| | $ | 11,062 |
| | $ | 11,361 |
| | $ | 10,252 |
|
__________________________
|
| | | | | | | | | | | | | | | | | | | |
| As of June 30, |
| 2016 | | 2015 | | 2014 | | 2013 | | 2012 |
| (in thousands) |
Consolidated Balance Sheet Data: | | | | | | | | | |
Cash and cash equivalents | $ | 180,964 |
| | $ | 95,442 |
| | $ | 96,872 |
| | $ | 93,038 |
| | $ | 80,826 |
|
Working capital | 574,384 |
| | 460,308 |
| | 343,195 |
| | 281,528 |
| | 261,404 |
|
Total assets | 1,165,600 |
| | 1,089,809 |
| | 796,325 |
| | 632,257 |
| | 589,103 |
|
Long-term obligations, net of current portion(1) | 80,603 |
| | 16,617 |
| | 16,208 |
| | 16,869 |
| | 30,244 |
|
Total stockholders’ equity | 721,379 |
| | 619,085 |
| | 469,231 |
| | 373,724 |
| | 338,351 |
|
__________________________
| | | | | | | | | | | | | | | | | | | | | | | |
(1)Period | $40.0 million, $0.9 million, $3.7 million, $6.5 million and $9.3 million Total Number of our long-term obligations, netShares Purchased | | Average Price Paid per Share | | Total Number of current portion consistedShares Purchased as Part of revolving linesPublicly Announced Plans or Programs | | Approximate Dollar Value of credit and term loans atShares that May Yet Be Purchased under the Plans or Programs (1) |
Month 1 (April 1, 2023 to April 30, 2023) | — | | | $ | — | | | — | | | $50.0 Million |
Month 2 (May 1, 2023 to May 31, 2023) | — | | | $ | — | | | — | | | $50.0 Million |
Month 3 (June 1, 2023 to June 30, 2016, 2015, 2014, 2013 and 2012, respectively.2023) | — | | | $ | — | | | — | | | $50.0 Million |
Total | — | | | $ | — | | | — | | | |
(1)On August 3, 2022, after the expiration of a prior share repurchase program on July 31, 2022, a duly authorized subcommittee of our Board approved a new share repurchase program to repurchase shares of our common stock for up to $200 million at prevailing prices in the open market. The share repurchase program is effective until January 31, 2024 or until the maximum amount of common stock is repurchased, whichever occurs first. As of June 30, 2023, $50 million remained available under the program.
25SMCI | 2023 Form 10-K | 35
Item 6. [Reserved]
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with the consolidated financial statements and related notes which appear elsewhere in this Annual Report on Form 10-K.Report. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed below and elsewhere in this Annual Report, on Form 10-K, particularly under the heading “Risk"Risk Factors.”"
Overview
We are a global leader inSilicon Valley-based provider of accelerated compute platforms that are application-optimized high performance high efficiencyand high-efficiency server technology and innovation. We develop and provide end-to-end green computing solutions to thestorage systems for a variety of markets, including enterprise data centers, cloud computing, data center, enterpriseAI, 5G and edge computing. Our Total IT big data, HPC and IoT/embedded markets. OurSolutions include complete servers, storage systems, modular blade servers, blades, workstations, full rack-scale solutions, range from complete server, storage, blade and workstations to full racks, networking devices, server sub-systems, server management software and technologysecurity software. We also provide global support and services. For fiscal years 2016, 2015services to help our customers install, upgrade and 2014, our net sales were $2,215.6 million, $1,991.2 million and $1,467.2 million, respectively. The increase in our net sales in fiscal year 2016 compared with fiscal year 2015 was primarily due to increased sales of our server systems optimized for OEM/direct customers and cloud/internet data center computing. For fiscal years 2016, 2015 and 2014, net sales of application optimized servers were $1,525.6 million, $1,213.6 million and $740.8 million, respectively, and net sales of subsystems and accessories were $690.0 million, $777.5 million and $726.4 million, respectively. In fiscal year 2016, we experienced strong growth in sales of our complete systems including ultra, data center optimized servers, Twin family of servers, storage and IoT/embedded servers. The percentage of our net sales represented by sales of complete server systems increased to 68.9% in fiscal year 2016 from 60.9% in fiscal year 2015.maintain their computing infrastructure.
We commenced operations in 1993 and have been profitable every year since inception. For fiscal years 2016, 20152023, 2022 and 2014,2021, our net income was $72.0$640.0 million, $101.9$285.2 million and $54.2$111.9 million, respectively. Our decrease in net income in fiscal year 2016 was primarily attributable to higher operating expenses from headcount increase to support our business growth and the recording of a $9.3 million out-of-period adjustment relating to extended warranty revenue in the three months ended September 30, 2015. The deferred revenue for the extended warranty will be recognized ratably through fiscal year 2019. The impact on net income from this out-of-period adjustment was $5.9 million pertaining to prior periods through June 30, 2015.
We sell our server systems and server subsystems and accessories through our direct sales force as well as through distributors and OEMs. For fiscal years 2016, 2015 and 2014, we derived 55.2%, 49.7%, 45.9%, respectively, of our net sales from products sold to OEMs/direct customers and 44.8%, 50.3% and 54.1%, respectively, of our net sales from products sold to distributors. Sales to Softlayer, a division of IBM Corporation, represented 10.9% and 10.1% of our net sales in fiscal years 2016 and 2015, respectively. None of our customers accounted for 10% or more of our net sales in fiscal year 2014. For fiscal years 2016, 2015 and 2014, we derived 63.1%, 58.3% and 55.2%, respectively, of our net sales from customers in the United States.
We perform the majority of our research and development efforts in-house. For fiscal years 2016, 2015 and 2014, research and development expenses represented 5.6%, 5.0% and 5.7% of our net sales, respectively.
We use several suppliers and contract manufacturers to design and manufacture components in accordance with our specifications, with most final assembly and testing performed at our manufacturing facility in San Jose, California. During fiscal year 2016, we have continued to increase manufacturing and service operations in Taiwan and the Netherlands primarily to support our Asian and European customers and have continued to work on improving our utilization of our overseas manufacturing capacity. One of our key suppliers is Ablecom, a related party, which supplies us with contract design and manufacturing support. For fiscal years 2016, 2015 and 2014, our purchases from Ablecom represented 12.8%, 13.6% and 16.3% of our cost of sales, respectively. Ablecom’s sales to us constitute a substantial majority of Ablecom’s net sales. We continue to maintain our manufacturing relationship with Ablecom in Asia in an effort to reduce our cost of sales. In addition to providing a large volume of contract manufacturing services for us, Ablecom continues to warehouse for us a number of components and subassemblies manufactured by multiple suppliers prior to shipment to our facilities in the United States and Europe. We typically negotiate the price of products that we purchase from Ablecom on a quarterly basis; however, either party may re-negotiate the price of products with each order. As a result of our relationship with Ablecom, it is possible that Ablecom may in the future sell products to us at a price higher or lower than we could obtain from an unrelated third party supplier. This may result in our future reporting of gross profit as a percentage of net sales that is less than or in excess of what we might have obtained absent our relationship with Ablecom.
In order to continue to increase our net sales and profits, we believe that we must continue to develop flexible and customizableapplication optimized server and storage solutions and be among the first to market with new features and products. We must also continue to expand our software and customer service and support offerings, particularly as we increasingly focus on larger enterprise sales.customers. Additionally, we must focus on development of our sales partners and distribution channels to further expand our market share. We measure our financial success based on various indicators, including growth in net sales, gross profit as a percentage of net sales,margin and operating income as a percentage of net sales, levels of inventory, and days sales outstanding, or DSOs. In connection with these efforts, we monitor daily and weekly sales and shipment reports.margin. Among the key non-financial indicators of our success is our ability to rapidly introduce new products and deliver the latest application optimizedapplication-optimized server and storage solutions. In this regard, we work closely with microprocessor and other key component vendors to take advantage of new technologies as they are introduced. Historically, our ability to introduce new products rapidly has allowed us to benefit from technology transitions such as the introduction of new microprocessors and storage technologies, and as a result, we monitor the product introduction cycles of Intel AMDCorporation, NVIDIA Corporation, Advanced Micro Devices, Inc., Samsung Electronics Company Limited, Micron Technology, Inc. and Nvidiaothers closely and carefully. This also impacts our research and development expenditures.expenditures as we continue to invest more in our current and future product development efforts.
Other COVID-19 Pandemic Impact
Our business and financial outlook have experienced, and may continue to face, challenges due to adverse macroeconomic conditions and uncertainties. These factors encompass labor shortages, disruptions in the supply chain, inflation, higher interest rates, and fluctuations in capital markets. The global business landscape encountered widespread disruption as a consequence of the COVID-19 pandemic, which commenced in early 2020. The extent of its direct or indirect impact on general market conditions, as well as our business, results of operations, cash flows, and financial condition, is contingent upon uncertain future developments, including the emergence of new variants.
We remain committed to continuously assessing the nature and extent of the impact of general macroeconomic conditions and the ongoing COVID-19 pandemic on our business. For a more comprehensive discussion, please refer to the "Risk Factors" included in Part I, Item 1A of this Annual Report on Form 10-K.
Financial Highlights
The following is a summary of other financial highlights of fiscal years 2023 and 2022:
•Net sales increased by 37.1% in fiscal year 2016:2023 as compared to fiscal year 2022.
•Gross margin increased to 18.0% in fiscal year 2023 from 15.4% in fiscal year 2022, primarily due to product and customer mix and decreased logistic costs.
•Operating expenses increased by 12.3% in fiscal year 2023 as compared to fiscal year 2022, primarily due to the increase in personnel expenses as a result of salary increases, equity grants and a higher headcount.
SMCI | 2023 Form 10-K | 37
•Net cash provided by (used in) operating activities was $107.5 million, $(44.6) million and $6.5income increased to $640.0 million in fiscal year 2016, 20152023 as compared to $285.2 million in fiscal year 2022, which was primarily due to the higher net sales and 2014, respectively. lower operating expenses as a percentage of revenues in fiscal year 2023 as compared to fiscal year 2022.
•Our cash and cash equivalents together with our investments, were $183.7$440.5 million and $267.4 million at the end of fiscal year 2016, compared with $98.1 million at the end ofyears 2023 and 2022, respectively. In fiscal year 2015. The increase in our2023, we generated net cash and cash equivalents, together with our investments at the end of fiscal year 2016 was$172.4 million, comprised of $663.6 million provided by operating activities primarily due to $107.5increased net income, $448.3 million used in financing activities primarily due to repayment of debt and stock repurchase, and $39.5 million cash provided by our operatingused in investing activities and $12.2primarily due to $36.8 million of proceeds from the exercise of stock options, partially offset by $34.1 million ofin purchases of property and equipment, of which $16.7 million was related to property and equipment of manufacturing buildings at our Green Computing Park in San Jose, California, and $3.4 million was related to the implementation of a new ERP system for the United States headquarters and our subsidiaries.equipment.
Days sales outstanding in accounts receivable (“DSO”) at the end of fiscal year 2016 was 50 days, compared with 48 days at the end of fiscal year 2015.
Our inventory balance was $449.0 million at the end of fiscal year 2016, compared with $463.5 million at the end of fiscal year 2015. Days sales of inventory (“DSI”) at the end of fiscal year 2016 was 87 days, compared with 84 days at the end of fiscal year 2015.
Our purchase commitments with contract manufacturers and suppliers were $334.0 million at the end of fiscal year 2016 and $378.3 million at the end of fiscal year 2015. Included in the non-cancellable commitments are hard disk drive purchase commitments totaling approximately $110.5 million, which have terms expiring through December 2016. See Note 12 of Notes to our Consolidated Financial Statements in Item 8 of this Form 10-K for a discussion of purchase commitments.
Fiscal Year
Our fiscal year ends on June 30. References to fiscal year 2016, for example, refer to the fiscal year ended June 30, 2016.
Revenues and Expenses
Net sales. Net sales consist of sales of our server solutions, including server systems, subsystems and accessories. The main factors which impact our net sales are unit volumes shipped and average selling prices. The prices for server systems range widely depending upon the configuration, and the prices for our subsystems and accessories vary based on the type. As with most electronics-based products, average selling prices typically are highest at the time of introduction of new products which utilize the latest technology and tend to decrease over time as such products mature in the market and are replaced by next generation products.
Cost of sales. Cost of sales primarily consists of the costs to manufacture our products, including the costs of materials, contract manufacturing, shipping, personnel and related expenses including stock based compensation, equipment and facility expenses, warranty costs and inventory excess and obsolete provisions. The primary factors that impact our cost of sales are the mix of products sold and cost of materials, which include raw material costs, shipping costs and salary and benefits related to production. Cost of sales as a percentage of net sales may increase over time if decreases in average selling prices are not offset by corresponding decreases in our costs. Our cost of sales, as a percentage of net sales, is generally lower
on server systems than on subsystems and accessories, but generally higher in the case of sales of server systems to internet data system customers. Our cost of sales as a percentage of net sales is also impacted by the extent to which we are able to efficiently utilize our expanding manufacturing capacity. Because we generally do not have long-term fixed supply agreements, our cost of sales is subject to change based on market conditions.
Research and development expenses. Research and development expenses consist of the personnel and related expenses including stock based compensation of our research and development teams, and materials and supplies, consulting services, third party testing services and equipment and facility expenses related to our research and development activities. All research and development costs are expensed as incurred. We occasionally receive non-recurring engineering, or NRE, funding from certain suppliers and customers. Under these programs, we are reimbursed for certain research and development costs that we incur as part of the joint development of our products and those of our suppliers and customers. These amounts offset a portion of the related research and development expenses and have the effect of reducing our reported research and development expenses.
Sales and marketing expenses. Sales and marketing expenses consist primarily of salaries, stock based compensation and incentive bonuses for our sales and marketing personnel, costs for tradeshows, independent sales representative fees and marketing programs. From time to time, we receive cooperative marketing funding from certain suppliers. Under these programs, we are reimbursed for certain marketing costs that we incur as part of the joint promotion of our products and those of our suppliers. These amounts offset a portion of the related expenses and have the effect of reducing our reported sales and marketing expenses. Similarly, we from time to time offer our distributors cooperative marketing funding. To the extent the funding is not recorded as contra-revenue, it has the effect of increasing our expenses. The timing, magnitude and estimated usage of our programs and those of our suppliers can result in significant variations in reported sales and marketing expenses from period to period. Spending on cooperative marketing, either by us or our suppliers, typically increases in connection with significant product releases by us or our suppliers.
General and administrative expenses. General and administrative expenses consist primarily of general corporate costs, including personnel expenses, financial reporting, corporate governance and compliance and outside legal, audit and tax fees.
Interest and other income, net. Interest and other income, net consist primarily of interest earned on our investment and cash balances.
Interest expense. Interest expense represents interest expense on our term loans and lines of credit.
Income tax provision. Our income tax provision is based on our taxable income generated in the jurisdictions in which we operate, primarily the United States, Taiwan and the Netherlands. Our effective tax rate differs from the statutory rate primarily due to research and development tax credits and the domestic production activities deduction which were partially offset by the impact of state taxes, stock option expenses and unrecognized tax benefits. A reconciliation of the federal statutory income tax rate to our effective tax rate is set forth in Note 11 of Notes to Consolidated Financial Statements.
Critical Accounting Policies and Estimates
General
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amount of assets, liabilities, revenuesnet sales and expenses. We evaluate our estimates on an on-going basis including those related to allowances for doubtful accounts and sales returns, inventory valuations, income taxes, warranty obligations, stock-based compensation and impairment of short-term and long-term investments. We base our estimatesbased on a) historical experience, and on various otherb) assumptions that we believe to be reasonable under the circumstances and are not readily apparent from other sources, the results of which form the basis for making the judgments we make about the carrying values of assets and liabilities that are not readily apparent from other sources.liabilities. Because these estimates can vary depending on the situation, actual results may differ from the estimates. Making estimates and judgments about future events is inherently unpredictable and is subject to significant uncertainties, some of which are beyond our control. Should any of these estimates and assumptions change or prove to have been incorrect, it could have a material impact on our results of operations, financial position and statement of cash flows. These estimates and judgements have not fluctuated significantly for the fiscal year ended June 30, 2023 compared to prior fiscal years.
We believeA summary of significant accounting policies is included in Part II, Item 8, Note 1, “Organization and Summary of Significant Accounting Policies” in our notes to the consolidated financial statements in this Annual Report. Management believes the following are ourthe most critical accounting policies as they require our moreand reflect the significant judgmentsestimates and assumptions used in the preparation of ourthe consolidated financial statements.
Revenue recognition. We recognizeRecognition
The most critical accounting policy estimate and judgments required in applying ASC 606, Revenue Recognition of Contracts from Customers, and our revenue from sales of products when persuasive evidence of an arrangement exists, shipment has occurred and title has transferred,recognition policy relate to the sales price is fixed or determinable, collectiondetermination of the resulting receivable is reasonably assured,transaction price, distinct performance obligations and all significant obligations have been met. Generally this occurs at the time of shipment when risk of loss and title has passed to the customer if all other revenue recognition criteria have been met. Our standard
arrangement with our customers includes a signed purchase order or contract, 30 to 60 days payment terms, Ex-works terms, except for a few customers who have free-on-board destination terms, for which revenue is recognized when the products arrive at the destination if all other revenue recognition criteria have been met. We also have a few customers who have acceptance provisions for which revenue is recognized when customers provide the necessary acceptance. We generally do not provide for non-warranty rights of return except for products which have “Out-of-box” failure, where customers could return these products for credit within 30 days of receiving the items. Certain distributors and OEMs customers are also permitted to return products in unopened boxes, limited to purchases over a specified period of time, generally within 60 to 90 daysevaluation of the purchase,standalone selling price (the “SSP”) for each performance obligation.
We generate revenues from the sale of server and storage systems, subsystems, accessories, services, server software management solutions, and support services. Many of our customer contracts include multiple performance obligations. Judgment is required in determining whether each performance obligation within a customer contract is distinct. This assessment involves subjective determinations and requires management to make judgments about the individual promised goods or to products inservices and whether such goods or services are separable from the distributor’s or OEM’s inventory at certain times (such as the terminationother aspects of the agreement or product obsolescence). Tocontractual relationship.
As part of determining the transaction price in contracts with customers, we may be required to estimate variable consideration when determining the amount of revenue to recognize. We estimate reserves for future sales returns we regularlybased on a review of our history of actual returns. Based upon historical experience, a refund liability is recorded at the time of sale for estimated product returns and an asset is recognized for each majorthe amount expected to be recorded in inventory upon product line.return, less the expected recovery costs. We also communicate regularly with our distributors to gather information about endestimate the costs of customer satisfaction, and to determinedistributor programs and incentive offerings such as price protection, customer rebates, as well as the volumeestimated costs of inventory incooperative marketing arrangements where the channel. Reserves for future returns are adjusted as necessary, based on returns experience, returns expectations and communication with our distributors.
Probabilityfair value of collection is assessed on a customer-by-customer basis. Customers are subjected to a credit review process that evaluates the customers’ financial position and ability to pay. If it is determinedbenefit derived from the outset of an arrangement that collectioncosts cannot be reasonably estimated. Any provision is not probable based upon the review process, the customers are required to pay cash in advance of shipment. We also make estimates of the uncollectibility of accounts receivables, analyzing accounts receivable and historical bad debts, customer concentration, customer-credit-worthiness, current economic trends and changes in customer payment terms to evaluate the adequacy of the allowance for doubtful accounts. On a quarterly basis, we evaluate aged items in the accounts receivable aging report and provide an allowance in an amount we deem adequate for doubtful accounts. If a major customer's creditworthiness deteriorates, if actual defaults are higher than our historical experience, or if other circumstances arise, our estimates of the recoverability of amounts due to us could be overstated, and additional allowances could be required, which could have an adverse impact on our reported operating expenses. We provide for price protection to certain distributors. We assess the market competition and product technology obsolescence, and make price adjustments based on our judgment. Upon each announcement of price reductions, the accrual for price protection is calculated based on our distributors’ inventory on hand. Such reserves are recorded as a reduction toof revenue at the time we reduceof sale based on an evaluation of the product prices.contract terms and historical experience.
Multiple-element arrangements. Our multiple-element product offerings include server systems with embedded software and support, which are considered separate units of accounting.SMCI | 2023 Form 10-K | 38
We allocate revenue to each element in a multiple-element arrangement based upon their relative selling price. When applying the relative selling price method, we determine the sellingtransaction price for each deliverable using vendor-specific objective evidence (“VSOE”)customer contract to each performance obligation based on the relative SSP for each performance obligation within each contract. We recognize the amount of sellingtransaction price if it exists, or third-party evidence (“TPE”) of selling price. If neither VSOE nor TPE of selling price exist for a deliverable, we use our best estimate of selling price for that deliverable. Revenue allocated to each elementperformance obligation within a customer contract as revenue at the time the respective performance obligation is then recognized when allsatisfied by transferring control of the revenue recognition criteria are metpromised good or service to a customer. Determining the relative SSP for each element.
contracts that contain multiple performance obligations requires significant judgement. We determine VSOEstandalone selling prices based on its normal pricing and discounting practices for the specific product or service when sold separately. In determining VSOE, we require that a substantial majority of the selling prices for a product or service fall within a reasonably narrow pricing range.
In most instances, we are not able to establish VSOE for all deliverables in an arrangement with multiple elements. This may be due to the infrequently selling each element separately, not pricing products within a narrow range, or only having a limited sales history. When VSOE cannot be established, we attempt to establish the selling price for each element based on TPE. TPE is determined based on competitor prices for similar deliverables when sold separately. Generally, our product solutions differ from that of our peers and contain a significant level of customization and differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, we are unable to reliably determine what similar competitor products’ selling prices are on a stand-alone basis. Therefore, we are typically unable to determine TPE.
When we are unable to establish selling price using VSOE or TPE, we use estimated selling price (“ESP”) in our allocation of the arrangement consideration. The objective of ESP is to determine the price at which the performance obligation is sold separately. If the standalone selling price is not observable through past transactions, we would transact a sale ifapply judgment to estimate the productSSP. For substantially all performance obligations, we are able to establish the SSP based on the observable prices of products or service wereservices sold separately in comparable circumstances to similar customers. We typically establish an SSP range for our products and services, which is reassessed on a stand-alone basis. ESP is generally used for offerings that are not typically sold on a stand-aloneperiodic basis or when facts and circumstances change. SSP for new or highly customized offerings.
We determine ESP for a product by considering multiple factors including, but not limitedour products and services can evolve over time due to changes in our pricing practices, internally approved pricing guidelines with respect to geographies, customer types,type, internal costs, and gross margin objectives and pricing practices. The determination of ESP is made through consultation with and approvalfor the related performance obligations which can also be influenced by our management.
We regularly review VSOE, TPE and ESP, as well as the establishment and updates of these estimates. There was no material impact on revenues during fiscal year 2016 nor do we expect a material impact in the near term fromintense competition, changes in VSOE, TPE or ESP.demand for our products and services, economic and other factors.
Services revenue. Services revenue mainly consists of extended warranty and on-site services. Extended warranty and on-site servicesInventories
Inventories are offered as part of multiple-element arrangements. Revenue related to extended warranty and on-site services is deferred and recognized ratably over the contractual period. These service contracts are typically one to five years in length. Service revenue has been less than 10% of net sales for all periods presented and is not separately disclosed.
Product warranties. We offer product warranties ranging from 15 to 39 months against any defective product. We accrue for estimated returns of defective productsstated at the time revenue is recognized, based on historical warranty experience and recent trends. We monitor warranty obligations and may make revisions to our warranty reserve if actual costs of product repair and replacement are significantly higher or lower than estimated. Accruals for anticipated future warranty costs are charged to cost of sales and included in accrued liabilities. The liability for product warranties was $5.8 million as of June 30, 2016, compared with $7.7 million as of June 30, 2015. The provision for warranty reserve was $17.5 million, $15.8 million and $14.2 million in fiscal years 2016, 2015 and 2014, respectively. The change in estimated liability for pre-existing warranties was $(2.1) million, $(0.2) million and $0.4 million in fiscal years 2016, 2015 and 2014, respectively. As a result of our increase in cost of servicing warranty claims from our increase in net sales in fiscal year 2016 and 2015, the provision for warranty reserve increased $1.7 million and $1.6 million in fiscal years 2016 and 2015, respectively. If in future periods, we experience or anticipate an increase or decrease in warranty claims as a result of new product introductions or change in unit volumes compared with our historical experience, or if the cost of servicing warranty claims is greater or lesser than expected, we intend to adjust our estimates accordingly.
Inventory valuation. Inventory is valued at the lower of cost, using weighted average cost method, or market.net realizable value. Net realizable value is the estimated selling price of our products in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. Inventories consist of purchased parts and raw materials (principally electronic components), work in process (principally products being assembled) and finished goods. We evaluate inventory on a quarterly basis for lower of cost or marketnet realizable value and excess and obsolescence and, as necessary, write down the valuation of unitsinventories based upon the number of units that are unlikely to be sold. This evaluation takes into account matters including expected demand, historicalour inventory aging, forecasted usage and sales, anticipated salesselling price, product obsolescence and other factors. If actual future demand for our productsOnce inventory is less than currently forecasted, additional inventory adjustments may be required. Once a reserve is established, itwritten down, its new value is maintained until the product to which it relates is sold or scrapped. If
We receive various rebate incentives from certain suppliers based on our contractual arrangements, including volume-based rebates. The rebates earned are recognized as a unit that has been written down is subsequently sold,reduction of cost of inventories and reduce the cost associated withof sales in the revenue from this unitperiod when the related inventory is reducedsold. We determine the volume-based rebates to be recognized in the extentcost of sales on a first-in, first-out basis.
Income Taxes
As part of the write down, resultingprocess of preparing our consolidated financial statements, we are required to estimate our taxes in an increaseeach of the jurisdictions in gross profit.which we operate. We monitor the extent to which previously written down inventory is sold at amounts greater or less than carrying value, and based on this analysis, adjust our estimate for determining future write downs. If in future periods, we experience or anticipate a change in recovery rate comparedactual current tax exposure together with our historical experience, our gross margin would be affected. Our provision for inventory was $9.3 million, $5.9 million and $2.3 million in fiscal years 2016, 2015 and 2014, respectively.
Accounting for income taxes. We account for income taxes under an asset and liability approach. Deferred income taxes reflect the impact ofassessing temporary differences between assetsresulting from differing treatment of items, such as accruals and liabilities recognizedallowances not currently deductible for financial reporting purposes and such amounts recognized for income tax reporting purposes, net of operating loss carry-forwards and other tax credits measured by applying currently enacted tax laws. Valuation allowances are provided when necessary to reducepurposes. These differences result in deferred tax assets, which are included in our consolidated balance sheets. In general, deferred tax assets represent future tax benefits to an amount thatbe received when certain expenses previously recognized in our consolidated statements of income become deductible expenses under applicable income tax laws, or when loss or credit carryforwards are utilized. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. We continue to assess the need for a valuation allowance on the deferred tax assets by evaluating both positive and negative evidence that may exist. Any adjustment to the valuation allowance on deferred tax assets would be recorded in the consolidated statements of income for the period that the adjustment is determined to be realized.required.
We recognize the tax liabilityliabilities for uncertain income tax positions on the income tax return based on athe two-step process. The first step is to determine whether it is more likely than not that each income tax position would be sustained upon examination by the tax authority.audit. The second step is to estimate and measure the tax benefit as the amount that has a greater than 50% likelihood of being realized upon ultimate settlement with the tax authority. Estimating these amounts requires us to determine the probability of various possible outcomes. We evaluate these uncertain tax positions on a quarterly basis. This evaluation is based on the consideration of several factors, including changes in facts or circumstances, changes in applicable tax law, settlement of issues under audit and new exposures. If we later determine that our exposure is lower or that the liability is not sufficient to cover our revised expectations, we adjust the liability and effectreflect a related changecharge in our tax provision during the period in which we make such a determination. See Note 11 of Notes to Consolidated Financial Statements for the impact on our consolidated financial statements.
Stock-based compensation. SMCI | 2023 Form 10-K | 39
Stock-Based Compensation
We measure and recognize compensation expense for all share-based awards made to employees and non-employee members of our Board of Directorsnon-employees, including employee stock options, and restricted stock units.units ("RSUs") and performance-based restricted stock units (“PRSUs”). We are required to estimaterecognize the grant date fair value of all share-based awards over the requisite service period and account for forfeitures as they occur. Stock option and RSU awards are recognized to expense on a straight-line basis over the requisite service period. PRSU awards are recognized to expense using an accelerated method only when it is probable that a performance condition is met during the vesting period. If it is not probable, no expense is recognized and the previously recognized expense is reversed. We base initial accrual of compensation expense on the dateestimated number of grant. The value of awardsPRSUs that are ultimatelyexpected to vest over the requisite service period. That estimate is revised if subsequent information indicates that the actual number of PRSUs is likely to differ from previous estimates. The cumulative effect on current and prior periods of a change in the estimated number of PRSUs expected to vest is recognized as anin stock-based compensation expense overin the period of the change. Previously recognized compensation expense is not reversed if vested stock options, RSUs or PRSUs for which the requisite service periods. has been rendered and the performance condition has been met expire unexercised or are not settled.
The fair value of our restricted stock unitsRSUs and PRSUs is based on the closing market price of our common stock on the date of grant. We estimatedestimate the fair value of stock options granted using a Black-Scholes option-pricing model and a single option award approach.pricing model. This model requires us to make estimates and assumptions with respect to the expected term of the option and the expected volatility of the price of our common
stock and the expected forfeiture rate. The fair value is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period.
stock. The expected term represents the period that our stock-based awards are expected to be outstanding and was determined based on a combination of our peer group and our historical experience. The expected volatility is based on a combinationthe historical volatility of our impliedcommon stock. The assumptions used to determine the fair value of the option awards represent management’s best estimates. These estimates involve inherent uncertainties and historical volatility. In addition, forfeituresthe application of share-based awardsmanagement’s judgment. Our use of the Black-Scholes option-pricing model requires the input of highly subjective assumptions. If factors change and different assumptions are estimatedused, our stock-based compensation expense could be materially different in the future.
Results of Operations
The following table presents certain items of our consolidated statements of operations expressed as a percentage of revenue.
| | | | | | | | | | | | | | | | | |
| Years Ended June 30, |
| 2023 | | 2022 | | 2021 |
Net sales | 100.0 | % | | 100.0 | % | | 100.0 | % |
Cost of sales | 82.0 | % | | 84.6 | % | | 85.0 | % |
Gross profit | 18.0 | % | | 15.4 | % | | 15.0 | % |
Operating expenses: | | | | | |
Research and development | 4.3 | % | | 5.2 | % | | 6.3 | % |
Sales and marketing | 1.6 | % | | 1.7 | % | | 2.4 | % |
General and administrative | 1.4 | % | | 2.0 | % | | 2.8 | % |
Total operating expenses | 7.3 | % | | 8.9 | % | | 11.5 | % |
Income from operations | 10.7 | % | | 6.5 | % | | 3.5 | % |
Other income (expense), net | 0.1 | % | | 0.2 | % | | (0.1) | % |
Interest expense | (0.1) | % | | (0.1) | % | | (0.1) | % |
Income before income tax provision | 10.7 | % | | 6.6 | % | | 3.3 | % |
Income tax provision | (1.6) | % | | (1.0) | % | | (0.2) | % |
Share of (loss) income from equity investee, net of taxes | (0.1) | % | | — | % | | — | % |
Net income | 9.0 | % | | 5.6 | % | | 3.1 | % |
SMCI | 2023 Form 10-K | 40
Net Sales
Net sales consist of sales of our server and storage solutions, including systems and related services and subsystems and accessories. The main factors that impact net sales of our server and storage systems are the number of compute nodes sold and the average selling prices per node. The main factors that impact net sales of our subsystems and accessories are units shipped and the average selling price per unit. The prices for our server and storage systems range widely depending upon the configuration, including the number of compute nodes in a server system as well as the level of integration of key components such as SSDs and memory. The prices for our subsystems and accessories can also vary widely based on whether a customer is purchasing power supplies, server boards, chassis or other accessories.
A compute node is an independent hardware configuration within a server system capable of having its own CPU, memory and storage and that is capable of running its own instance of a non-virtualized operating system. The number of compute nodes sold, which can vary by product, is an important metric we use to track our business. Measuring volume using compute nodes enables more consistent measurement across different server form factors and across different vendors. As with most electronics-based product life cycles, average selling prices typically are highest at the time of grantintroduction of new products that utilize the latest technology and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. We use historical datatend to estimate pre-vesting option and restricted stock unit forfeitures and record stock-based compensation expense only for those awards that are expected to vest.
Compensation expense for options and restricted stock units granted to employees was $16.1 million, $13.7 million and $11.1 million for fiscal years 2016, 2015 and 2014, respectively. As of June 30, 2016, the total unrecognized compensation cost, adjusted for estimated forfeitures, related to unvested stock options and restricted stock units to employees and non-employee members of our Board of Directors, was $37.5 million, which is expected to be recognizeddecrease over time as an expense over a weighted-average period of approximately 2.29 years. See Note 10 of Notes to our Consolidated Financial Statements for additional information.
Variable interest entities. We have concluded that Ablecom is a variable interest entity in accordance with applicable accounting standards and guidance; however, we are not the primary beneficiary of Ablecom and therefore, we do not consolidate Ablecom. In performing our analysis, we considered our explicit arrangements with Ablecom including the supplier and distributor arrangements. Also, as a result of the substantial related party relationship between the two companies, we considered whether any implicit arrangements exist that would cause us to protect those related parties’ interests in Ablecom from suffering losses. We determined that no implicit arrangements exist with Ablecom or its shareholders. Such an arrangement would be inconsistent with the fiduciary duty that we have towards our stockholders who do not own shares in Ablecom.
We and Ablecom jointly established Super Micro Asia Science and Technology Park, Inc. ("Management Company") in Taiwan to manage the common areas shared by us and Ablecom for our separately constructed manufacturing facilities. Each company contributed $168,000 and own 50% of the Management Company. Although the operations of the Management Company are independent of us, through governance rights, we have the ability to direct the Management Company's business strategies. Therefore, we have concluded that the Management Company is a variable interest entity of us as we are the primary beneficiary of the Management Company. As of June 30, 2016, the accounts of the Management Company have been consolidated with our accounts, and a noncontrolling interest has been recorded for Ablecom's interestssuch products mature in the net assetsmarket and operations of the Management Company. In fiscal years 2016, 2015are replaced by next generation products. Additionally, in order to remain competitive throughout all industry cycles, we actively change our selling price per unit in response to changes in costs for key components such as CPU/GPU, memory and 2014, $20,000, $(11,000) and $(6,000) of net income (loss) attributable to Ablecom's interest was included in our general and administrative expenses in the consolidated statements of operations, respectively.storage.
Results of Operations
Net Sales
The following table presents net sales by product type for fiscal years 2016, 20152023, 2022 and 20142021 (dollars in millions):
| | | | | | | | | | | | | | | | | | Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change | | 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
| 2016 | | 2015 | | 2014 | | $ | | % | | $ | | % | |
Server systems | $ | 1,525.6 |
| | $ | 1,213.6 |
| | $ | 740.8 |
| | $ | 312.0 |
| | 25.7 | % | | $ | 472.8 |
| | 63.8 | % | |
Server and storage systems | | Server and storage systems | $ | 6,569.8 | | | $ | 4,463.8 | | | $ | 2,790.3 | | | $ | 2,106.0 | | | 47.2 | % | | $ | 1,673.5 | | | 60.0 | % |
Percentage of total net sales | 68.9 | % | | 60.9 | % | | 50.5 | % | | | | | | | | | Percentage of total net sales | 92.2 | % | | 85.9 | % | | 78.4 | % | |
Subsystems and accessories | 690.0 |
| | 777.5 |
| | 726.4 |
| | (87.5 | ) | | (11.3 | )% | | 51.1 |
| | 7.0 | % | Subsystems and accessories | 553.7 | | | 732.3 | | | 767.1 | | | (178.6) | | | (24.4) | % | | (34.8) | | | (4.5) | % |
Percentage of total net sales | 31.1 | % | | 39.1 | % | | 49.5 | % | | | | | | | | | Percentage of total net sales | 7.8 | % | | 14.1 | % | | 21.6 | % | |
Total net sales | $ | 2,215.6 |
| | $ | 1,991.2 |
| | $ | 1,467.2 |
| | $ | 224.4 |
| | 11.3 | % | | $ | 524.0 |
| | 35.7 | % | Total net sales | $ | 7,123.5 | | | $ | 5,196.1 | | | $ | 3,557.4 | | | $ | 1,927.4 | | | 37.1 | % | | $ | 1,638.7 | | | 46.1 | % |
The following table presents unit sales and average selling price by product type for fiscal years 2016, 2015 and 2014 (units in thousands): |
| | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change |
| 2016 | | 2015 | | 2014 | | % | | % |
Server systems: | | | | | | | | | |
Unit sales | 357 |
| | 314 |
| | 262 |
| | 13.7 | % | | 19.8 | % |
Average selling price | $ | 4,273 |
| | $ | 3,865 |
| | $ | 2,827 |
| | 10.6 | % | | 36.7 | % |
Subsystems and accessories: | | | | | | | | | |
Unit sales | 4,125 |
| | 4,733 |
| | 4,458 |
| | (12.8 | )% | | 6.2 | % |
Average selling price | $ | 167 |
| | $ | 164 |
| | $ | 163 |
| | 1.8 | % | | 0.6 | % |
Fiscal Year 2016 compared2023 Compared with Fiscal Year 20152022
During fiscal year 2023 we experienced increased revenue from server and storage systems, particularly from our large enterprise and datacenter customers. The year-over-year increase in our net sales in fiscal year 2016 compared with fiscal year 2015of server and storage systems was primarily due to continued increased salesthe strong demands from such customers for GPU, high performance computing (“HPC”), and rack-scale solutions which are generally more complex and of our products optimized for OEM/direct customers and cloud/internet data center computing who increasingly are purchasing complete server systems from us offsethigher value, resulting in part by a $9.3 million out-of-period adjustment relating to extended warranty revenue which was recognized in the three prior fiscal year period ended June 30, 2015 and deferred in the three months ended September 30, 2015. The year-over-year growth in net sales of our server systems in fiscal year 2016 was due primarily to an increase in theof average selling price of our server systems and to a lesser extent an increase in the unit volumes of server systems. The average selling prices of our server systems increased primarily due to higher sales of our complete server systems which offer higher density computing and more memory and hard disk drive capacity. The increase in the sales of these complete systems include our ultra, data center optimized servers, Twin family of servers, storage and IoT/embedded servers.
prices. The year-over-year decrease in net sales and unit sales of our subsystems and accessories in fiscal year 2016 was primarily due to a lower sales of hard disk drivesour emphasis on selling full systems and memory bundled with ourservers. Our services and software revenue, included in server solutions to our distributors and system integrators as we are continuing to promote our sales of complete serverstorage systems to our OEM and direct customers.revenue, increased by $28.0 million year-over-year.
Fiscal Year 2015 compared2022 Compared with Fiscal Year 20142021
The increase in our net sales inDuring fiscal year 2015 compared with fiscal year 2014 was primarily due to continued2022 we experienced increased sales ofrevenue from server and storage systems, particularly from our products optimized for OEM, internet data center cloud computinglarge enterprise and enterprise verticals.datacenter customers. The year-over-year growthincrease in net sales of our server and storage systems in fiscal year 2015 was due primarily to an increase in the average selling price of our server systems and to a lesser extent an increase in unit volumes of server systems. The average selling prices of our server systems increased primarily due to an increase inof average selling prices per compute node by approximately 32% as well as an increase of our complete server systems which offer higher density computing and more memory and hard disk drive capacity. The increaseapproximately 23% in the salesnumber of these complete systems include our storage servers and our Twin familyunits of servers and to a lesser extent our GPU/Xeon Phi servers. Net sales also increased as a result of an increase in customers purchasing our software and service together with our complete systems as total solution packages.
compute nodes sold. The year-over-year growthdecrease in net sales and unit sales of our subsystems and accessories in fiscal year 2015 was primarily due to a higher sales of hard disk drivesour emphasis on selling full systems and memory bundled with ourservers. Our services and software revenue, included in server solutions to our distributors and system integrators who increasingly are purchasing additional accessories from us and completing the final assembly themselves.storage systems revenue, increased by $2.5 million year-over-year.
The following table presents the percentages of net sales from products sold to distributors and OEMs and direct customers for fiscal years 2016, 2015 and 2014:
SMCI | 2023 Form 10-K | 41
|
| | | | | | | | | | | | | | |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change |
| 2016 | | 2015 | | 2014 | | % | | % |
Distributors | 44.8 | % | | 50.3 | % | | 54.1 | % | | (5.5 | )% | | (3.8 | )% |
OEMs and direct customers | 55.2 | % | | 49.7 | % | | 45.9 | % | | 5.5 | % | | 3.8 | % |
Total net sales | 100.0 | % | | 100.0 | % | | 100.0 | % | | | | |
The following table presents percentages of net sales by geographic region for fiscal years 2016, 20152023, 2022 and 2014:2021 (dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
United States | $ | 4,834.1 | | | $ | 3,035.5 | | | $ | 2,107.9 | | | $ | 1,798.6 | | | 59.3 | % | | $ | 927.6 | | | 44.0 | % |
Percentage of total net sales | 67.9 | % | | 58.4 | % | | 59.3 | % | | | | | | | | |
Asia | 1,050.8 | | | 1,139.9 | | | 699.7 | | | (89.1) | | | (7.8) | % | | 440.2 | | | 62.9 | % |
Percentage of total net sales | 14.7 | % | | 21.9 | % | | 19.7 | % | | | | | | | | |
Europe | 1,003.1 | | | 825.2 | | | 614.8 | | | 177.9 | | | 21.6 | % | | 210.4 | | | 34.2 | % |
Percentage of total net sales | 14.1 | % | | 15.9 | % | | 17.3 | % | | | | | | | | |
Others | 235.5 | | | 195.5 | | | 135.0 | | | 40.0 | | | 20.5 | % | | 60.5 | | | 44.8 | % |
Percentage of total net sales | 3.3 | % | | 3.7 | % | | 3.7 | % | | | | | | | | |
Total net sales | $ | 7,123.5 | | | $ | 5,196.1 | | | $ | 3,557.4 | | | $ | 1,927.4 | | | 37.1 | % | | $ | 1,638.7 | | | 46.1 | % |
|
| | | | | | | | | | | | | | |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change |
| 2016 | | 2015 | | 2014 | | % | | % |
United States | 63.1 | % | | 58.3 | % | | 55.2 | % | | 4.8 | % | | 3.1 | % |
Europe | 17.4 | % | | 19.0 | % | | 21.6 | % | | (1.6 | )% | | (2.6 | )% |
Asia | 14.6 | % | | 16.4 | % | | 20.4 | % | | (1.8 | )% | | (4.0 | )% |
Others | 4.9 | % | | 6.3 | % | | 2.8 | % | | (1.4 | )% | | 3.5 | % |
Total net sales | 100.0 | % | | 100.0 | % | | 100.0 | % | | | | |
Fiscal Year 2023 Compared with Fiscal Year 2022
The year-over-year increase in overall net sales is the result of increased selling prices and units shipped of product sold especially to large enterprise and datacenter customers. The United States experienced the highest percentage growth among all regions. This is due to increased demand from datacenter customers in the United States for GPU, high performance computing (“HPC”), and rack-scale solutions. The year-over-year decrease in Asia is mainly due to economic slowdown in China and Japan during fiscal year 2023 which heavily reduced the sales activities in that region.
Fiscal Year 2022 Compared with Fiscal Year 2021
The year-over-year increase in overall net sales is the result of increased selling prices and quantities of product shipments. Asia experienced the highest percentage growth among all regions. China, Japan and Korea exceeded the overall regional average of growth, which was the primary driver of the increases in net sales in Asia. Russia experienced a year over year decrease due to the conflict in that region, which decrease had an immaterial impact on our overall performance.
Cost of Sales and Gross Margin
Cost of sales primarily consists of the costs to manufacture our products, including the costs of materials, contract manufacturing, shipping, personnel expenses, including salaries, benefits, stock-based compensation and incentive bonuses, equipment and facility expenses, warranty costs and inventory excess and obsolescence provisions. The primary factors that impact our cost of sales are the mix of products sold and cost of materials, which include purchased parts and material costs, shipping costs, salary and benefits and overhead costs related to production as well as economies of scale gained from higher production volume in our facilities. Cost of sales as a percentage of net sales may increase or decrease over time if the changes in average selling prices are not matched by corresponding changes in our costs. Our cost of sales as a percentage of net sales is also impacted by the extent to which we are able to efficiently utilize our expanding manufacturing capacity. Because we generally do not have long-term fixed supply agreements, our cost of sales is subject to frequent change based on the availability of materials and other market conditions.
We use several suppliers and contract manufacturers to design and manufacture subsystems in accordance with our specifications, with most final assembly and testing performed at our manufacturing facilities in the same region where our products are sold. We work with Ablecom, one of our key contract manufacturers and also a related party, to optimize modular designs for our chassis and certain other components. We also outsource to Compuware, also a related party, a portion of our design activities and a significant part of the manufacturing of components, particularly power supplies. Our purchases of products from Ablecom and Compuware combined represented 6.6%, 8.3% and 7.8% of our cost of sales for fiscal years 2023, 2022 and 2021, respectively. For further details on our dealings with related parties, see Part II, Item 8, Note 9, “Related Party Transactions.”
SMCI | 2023 Form 10-K | 42
Cost of sales and gross margin for fiscal years 2016, 20152023, 2022 and 2014,2021, are as follows (dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
Cost of sales | $ | 5,840.5 | | | $ | 4,396.1 | | | $ | 3,022.9 | | | $ | 1,444.4 | | | 32.9 | % | | $ | 1,373.2 | | | 45.4 | % |
Gross profit | 1,283.0 | | | 800.0 | | | 534.5 | | | 483.0 | | | 60.4 | % | | 265.5 | | | 49.7 | % |
Gross margin | 18.0 | % | | 15.4 | % | | 15.0 | % | | | | 2.6 | % | | | | 0.4 | % |
|
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change |
| 2016 | | 2015 | | 2014 | | $ | | % | | $ | | % |
Total cost of sales | $ | 1,884.0 |
| | $ | 1,670.9 |
| | $ | 1,241.7 |
| | $ | 213.1 |
| | 12.8 | % | | $ | 429.3 |
| | 34.6 | % |
Total gross profit | 331.5 |
| | 320.2 |
| | 225.5 |
| | 11.3 |
| | 3.5 | % | | 94.7 |
| | 42.0 | % |
Total gross margin | 15.0 | % | | 16.1 | % | | 15.4 | % | | | | (1.1 | )% | | | | 0.7 | % |
Fiscal Year 2016 compared2023 Compared with Fiscal Year 20152022
The year-over-year increase in absolute dollars of cost of sales in fiscal year 2016 compared to fiscal year 2015 was primarily attributableattributed to the increase in net sales, an increase of $3.4$1,379.6 million in provision for inventory reservecosts of materials and an increase of $1.7 million in provision for warranty reserve. In fiscal year 2016, we recorded a $9.3 million expense, net of recovery, or 0.4% of net sales,contract manufacturing expenses primarily related to the inventory provision as compared to $5.9increased shipments of our products and solutions, a $59.2 million or 0.3% of net sales, in fiscal year 2015. The increase in the inventory provision was primarily dueoverhead costs which includes labor costs attributed to higherincrease of operation activities, a $36.6 million increase in inventory reserves, for specific products.
In fiscal year 2016, we recordedand a $17.5$13.6 million expense, or 0.8% of net sales, related to the provision for warranty reserve as compared to a $15.8 million expense, or 0.8% of net sales, in fiscal year 2015. The increase in the provision for warranty reserve was primarily due to higher cost of servicing warranty claims from higher net sales in fiscal year 2016. If in future periods we experience or anticipate an increase or decrease in warranty claims as a result of new product introductions or change in unit volumes compared with our historical experience, or if the cost of servicing warranty claims is greater or lesser than expected, our gross margin would be affected.
The year-over-year decrease in the gross margin percentage in fiscal year 2016 compared to fiscal year 2015 was primarily due to significant lower gross margins from sales of our subsystem and accessories, lower utilization of manufacturing capacity and the recording of a $9.3 million out-of-period adjustment relating to extended warranty revenue which was recognized in the three fiscal year period ended June 30, 2015, offset in part by higher sales of our complete server systems such as storage servers which have a higher gross margin. Gross margin percentage for fiscal year 2016 would have been 15.3% without this out-of-period adjustment.
Fiscal Year 2015 compared with Fiscal Year 2014
The year-over-year increase in absolute dollars ofother cost of sales partially offset by a $44.6 million decrease in fiscal year 2015 comparedfreight charges due to fiscal year 2014 was primarily attributablea reduced need to the increase in net sales, an increase of $3.7 million in provision for inventory reserve and an increase of $1.6 million in provision for warranty reserve. In fiscal year 2015, we recorded a $5.9 million expense, net of recovery, or 0.3% of net sales, relatedexpedite shipments due to the inventory provision as compared to $2.3 million, or 0.2% of net sales, in fiscal year 2014. The increasedisruptions in the inventory provision was primarily due to higher inventory reserves for specific products.supply chain caused by the COVID-19 pandemic.
In fiscal year 2015, we recorded a $15.8 million expense, or 0.8% of net sales, related to the provision for warranty reserve as compared to a $14.2 million expense, or 1.0% of net sales, in fiscal year 2014. The increase in the provision for warranty reserve was primarily due to higher cost of servicing warranty claims from higher net sales in fiscal year 2015.
The year-over-year increase in the gross margin percentage in fiscal year 2015 compared to fiscal year 2014 was primarily due to favorable product and customer mix and lower other cost of goods sold as a percentage of sales, based on higher volumes.
Fiscal Year 2022 Compared with Fiscal Year 2021
The year-over-year increase in cost of sales was primarily attributed to an increase of $1,262.6 million in costs resultingof materials and contract manufacturing expenses primarily related to the increase in net sales volume, a $54.9 million increase in freight charges, a $23.6 million increase in overhead costs, a $18.9 million increase due to lower cost recovery of cost paid in prior periods, a $8.3 million increase in excess and obsolete inventory charges and a $4.9 million increase in other cost of sales.
The year-over-year increase in the gross margin percentage was primarily due to sales prices increases, product and customer mix and higher capitalization of manufacturing overhead due to higher inventory levels, offset by higher costs from freight, overhead, other cost of sales, excess and obsolete inventory charges, and lower recovery of costs from prior periods. Since the start of the COVID-19 pandemic, we have experienced an increase in costs of sales, logistics costs as well as direct labor costs as we incentivized our employees. This increase in costs negatively impacts our gross margin, and we expect these higher costs to continue for the mixduration of complete server system sales with higher margin, the increased scale of our business and higher utilization of our manufacturing facilities in Taiwan, offset by higher sales to internet data center customers, which generally have a lower gross margin.COVID-19 pandemic.
Operating Expenses
Research and development expenses consist of personnel expenses, including salaries, benefits, stock-based compensation and incentive bonuses, and related expenses for our research and development personnel, as well as product development costs such as materials and supplies, consulting services, third-party testing services and equipment and facility expenses related to our research and development activities. All research and development costs are expensed as incurred. We occasionally receive non-recurring engineering ("NRE") funding from certain suppliers and customers for joint development. Under these arrangements, we are reimbursed for certain research and development costs that we incur as part of the joint development efforts with our suppliers and customers. These amounts offset a portion of the related research and development expenses and have the effect of reducing our reported research and development expenses.
Sales and marketing expenses consist primarily of personnel expenses, including salaries, benefits, stock-based compensation and incentive bonuses, and related expenses for our sales and marketing personnel, cost for tradeshows, independent sales representative fees and marketing programs. From time to time, we receive marketing development funding from certain suppliers. Under these arrangements, we are reimbursed for certain marketing costs that we incur as part of the joint promotion of our products and those of our suppliers. These amounts offset a portion of the related expenses and have the effect of reducing our reported sales and marketing expenses. The timing, magnitude and estimated usage of these programs can result in significant variations in reported sales and marketing expenses from period to period. Spending on cooperative marketing, reimbursed by our suppliers, typically increases in connection with new product releases by our suppliers.
SMCI | 2023 Form 10-K | 43
General and administrative expenses consist primarily of general corporate costs, including personnel expenses such as salaries, benefits, stock-based compensation and incentive bonuses, and related expenses for our general and administrative personnel, financial reporting, information technology, corporate governance and compliance, outside legal, audit, tax fees, insurance and bad debt reserves on accounts receivable.
Operating expenses for fiscal years 2016, 20152023, 2022 and 20142021 are as follows (dollars in millions):
| | | Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change | | Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| 2016 | | 2015 | | 2014 | | $ | | % | | $ | | % | | 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
Research and development | $ | 124.0 |
| | $ | 100.3 |
| | $ | 84.3 |
| | $ | 23.7 |
| | 23.7 | % | | $ | 16.0 |
| | 19.0 | % | Research and development | $ | 307.3 | | | $ | 272.3 | | | $ | 224.4 | | | $ | 35.0 | | | 12.9 | % | | $ | 47.9 | | | 21.3 | % |
Percentage of total net sales | 5.6 | % | | 5.0 | % | | 5.7 | % | | | | | | | | | Percentage of total net sales | 4.3 | % | | 5.2 | % | | 6.3 | % | |
Sales and marketing | 62.8 |
| | 48.9 |
| | 38.0 |
| | 14.0 |
| | 28.6 | % | | 10.8 |
| | 28.5 | % | Sales and marketing | 115.0 | | | 90.1 | | | 85.7 | | | 24.9 | | | 27.6 | % | | 4.4 | | | 5.1 | % |
Percentage of total net sales | 2.8 | % | | 2.5 | % | | 2.6 | % | | | | | | | | | Percentage of total net sales | 1.6 | % | | 1.7 | % | | 2.4 | % | |
General and administrative | 37.8 |
| | 24.4 |
| | 23.0 |
| | 13.5 |
| | 55.2 | % | | 1.4 |
| | 5.9 | % | General and administrative | 99.6 | | | 102.4 | | | 100.5 | | | (2.8) | | | (2.7) | % | | 1.9 | | | 1.9 | % |
Percentage of total net sales | 1.7 | % | | 1.2 | % | | 1.6 | % | | | | | | | | | Percentage of total net sales | 1.4 | % | | 2.0 | % | | 2.8 | % | |
Total operating expenses | 224.7 |
| | $ | 173.5 |
| | $ | 145.3 |
| | $ | 51.2 |
| | 29.5 | % | | $ | 28.2 |
| | 19.4 | % | Total operating expenses | $ | 521.9 | | | $ | 464.8 | | | $ | 410.6 | | | 57.1 | | | 12.3 | % | | 54.2 | | | 13.2 | % |
Percentage of total net sales | 10.1 | % | | 8.7 | % | | 9.9 | % | | | | | | | | | |
|
Research and development expenses. ResearchFiscal Year 2023 Compared with Fiscal Year 2022
The year-over-year increase in research and development expenses increasedwas primarily driven by $23.7a $43.5 million or 23.7%increase in fiscal year 2016 comparedcompensation expenses due to fiscal year 2015. Researchsalary increases, higher headcount and the cost of equity awards as we expanded our workforce and invested in key talent, and a $2.6 million increase in product development costs to support the development of next generation products and technologies, offset by a $11.1 million increase in research and development expenses were 5.6%credits received from certain suppliers and 5.0% of net sales for fiscal year 2016 and 2015, respectively. customers.
The year-over-year increase in absolute dollarssales and marketing expenses was primarily driven primarily by ana $23.8 million increase of $17.3 million in compensation expenses due to salary increases, higher headcount and benefits including stock-based compensation expense,the cost of equity awards and a $4.6 million increase in travel and trade show expenses to drive new sales opportunities for our products and customer support, offset by a $3.5 million increase in marketing development funds received.
The year-over-year decrease in general and administrative expenses was primarily due to a $5.2 million decrease in professional fees and other, a $2.0 million decrease in litigation settlement expenses relating to a derivative lawsuit, partially offset by an increase of $4.4 million in developmentcompensation expenses for prototype materials and no value added tax refundassociated with the cost of $2.8 million onequity awards.
Fiscal Year 2022 Compared with Fiscal Year 2021
The year-over-year increase in research and development expenses which we receivedwas primarily due to a $40.8 million increase in fiscal year 2015.
Researchpersonnel expenses due to salary increases and a higher headcount, $3.7 million lower research and development expenses increased by $16.0 million, or 19.0% in fiscal year 2015 compared to fiscal year 2014. Research and development expenses were 5.0% and 5.7% of net sales for fiscal year 2015 and 2014, respectively. The increase in absolute dollars was driven primarily by an increase of $18.1 million in compensation and benefits including stock-based compensation expense, an increase of $1.7 million in development expenses for prototype materials, partially offset by $3.2 million in non-recurring engineering fundingcredits from certain suppliers and customers towards our development efforts and a $2.8$3.4 million value added tax refund on researchincrease in product development costs.
The year-over-year increase in sales and development expenses. The decrease as a percentage of net salesmarketing expenses was primarily due to thea $9.6 million increase in net sales in fiscal year 2015.
Research and developmentpersonnel expenses include stock-based compensation expense of $10.2 million, $8.6 million and $6.8 million for fiscal year 2016, 2015 and 2014, respectively.
Our compensation and benefit expense in research and development continuesdue to increase resulting from annual salary increases and growth in research and development personnel related to expanded product development initiatives in the United States and in Taiwan. We continue to believe that focused investments in research and development are critical to our future growth and competitive position in the marketplace. Our investments in this area will directly relate to enhancement of our current product line, development of new products that achieve market acceptance, and our ability to meet an expanding range of customer requirements. As such, we expect to continue to spend on current and future product development efforts.
Sales and marketing expenses. Sales and marketing expenses increaseda higher headcount, offset by $14.0a $5.7 million or 28.6% in fiscal year 2016 compared to fiscal year 2015. Sales and marketing expenses were 2.8% and 2.5% of net sales for fiscal year 2016 and 2015, respectively. The increase in absolute dollarsmarketing development funds received and a $0.5 million increase in advertising and other expenses.
The year-over-year increase in general and administrative expenses was primarily due to ana $4.1 million increase in legal and litigation settlement expenses and $6.6 million increase in personnel and other expenses due to salary increases and a higher headcount offset by decrease of $8.0$1.5 million in compensationprofessional fees driven by lower expenses incurred to remediate the causes that led to the delay in filing our periodic reports with the SEC and benefits including stock based compensation, resulting primarily from growth in sales and marketing personnel, an increasethe associated restatement of $3.6 million in advertising, marketing promotional and trade show expenses,our previously issued financial statements and a $7.3 million decrease of $1.1 million in marketing cooperative fundingexpense from certain suppliers.special performance awards.
Sales and marketing expenses increased by $10.8 million, or 28.5% in fiscal year 2015 compared to fiscal year 2014. Sales and marketing expenses were 2.5% and 2.6% of net sales for fiscal year 2015 and 2014, respectively. The increase in absolute dollars was primarily due to an increase of $7.8 million in compensation and benefits resulting primarily from growth in sales and marketing personnel and an increase of $2.9 million in advertising, marketing promotional and trade show expenses. The decrease as a percentage of net sales was primarily due to the increase in net sales in fiscal year 2015.
Sales and marketing expenses include stock-based compensation expense of $1.8 million, $1.6 million and $1.3 million for fiscal year 2016, 2015 and 2014, respectively.
General and administrative expenses. General and administrative expenses increased by $13.5 million, or 55.2% in fiscal year 2016 compared to fiscal year 2015. General and administrative expenses were 1.7% and 1.2% of net sales for fiscal year 2016 and 2015, respectively. The increase in absolute dollars was primarily due to an increase of $7.6 million in compensation and benefits including stock-based compensation expense, an increase of $4.1 million in legal, audit and accounting expenses and an increase of $1.0 million in bad debt expenses.
General and administrative expenses increased by $1.4 million, or 5.9% in fiscal year 2015 compared to fiscal year 2014. General and administrative expenses were 1.2% and 1.6% of net sales for fiscal year 2015 and 2014, respectively. The increase in absolute dollars was primarily due to an increase of $2.3 million in compensation and benefits including stock-based compensation expense, a decrease of $0.7 million in miscellaneous income relating to the settlement of our outstanding accounts payable with one vendor in the prior year offset in part by an increase of $1.1 million in foreign currency transaction gain and a decrease of $1.0 million in bad debt expenses. The decrease as a percentage of net sales was primarily due to the increase in net sales in fiscal year 2015.
General and administrative expenses include stock-based compensation expense of $3.0 million, $2.6 million and $2.1 million for fiscal year 2016, 2015 and 2014, respectively.
Interest and Other Expense,Income (Expense), Net
Other income (expense), net consists primarily of interest earned on our investment and cash balances and foreign exchange gains and losses.
Interest expense represents interest expense on our term loans and lines of credit.
SMCI | 2023 Form 10-K | 44
Interest and other expense,income (expense), net for fiscal year 2016, 2015years 2023, 2022 and 20142021 are as follows (dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
Other income (expense), net | $ | 3.6 | | | $ | 8.1 | | | $ | (2.8) | | | $ | (4.5) | | | (55.6) | % | | $ | 10.9 | | | (389.3) | % |
Interest expense | (10.5) | | | (6.4) | | | (2.5) | | | (4.1) | | | 64.1 | % | | (3.9) | | | 156.0 | % |
Interest and other income (expense), net | $ | (6.9) | | | $ | 1.7 | | | $ | (5.3) | | | $ | (8.6) | | | (505.9) | % | | $ | 7.0 | | | (132.1) | % |
|
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change |
| 2016 | | 2015 | | 2014 | | $ | | % | | $ | | % |
Interest and other income, net | $ | 0.2 |
| | $ | 0.1 |
| | $ | 0.1 |
| | $ | 0.1 |
| | 48.7 | % | | $ | — |
| | 25.0 | % |
Interest expense | (1.6 | ) | | (1.0 | ) | | (0.8 | ) | | (0.6 | ) | | 65.2 | % | | (0.2 | ) | | 27.5 | % |
Interest and other expense, net | $ | (1.4 | ) | | $ | (0.9 | ) | | $ | (0.7 | ) | | $ | (0.6 | ) | | 67.4 | % | | $ | (0.2 | ) | | 27.8 | % |
Fiscal Year 2023 Compared with Fiscal Year 2022
Interest
The change of $8.6 million in interest and other income (expense), net was primarily attributable to a $4.5 million decrease in foreign exchange gain due to unfavorable currency fluctuations primarily related to our borrowing facilities in Taiwan and a $4.1 million increase in interest expense net. Interestdue to increase in interest rates on our outstanding loan balances.
Fiscal Year 2022 Compared with Fiscal Year 2021
The change of $7.0 million in interest and other expense,income (expense), net increased by $0.6was primarily attributable to a $10.9 million increase in fiscal year 2016 compared to fiscal year 2015 and increased by $0.2 million in fiscal year 2015 compared to fiscal year 2014. The increases were primarilyforeign exchange gain due to higherfavorable currency fluctuations primarily related to our borrowing facilities in Taiwan offset by a $3.9 million increase in interest expense on debt.due to increase in loan balances and interest rates.
Provision for Income Taxes
Our income tax provision is based on our taxable income generated in the jurisdictions in which we operate, which primarily include the United States, Taiwan, and the Netherlands. Our effective tax rate differs from the statutory rate primarily due to research and development tax credits, certain non-deductible expenses, tax benefits from foreign derived intangible income and stock-based compensation. A reconciliation of the federal statutory income tax rate to our effective tax rate is set forth in Part II, Item 8, Note 11, “Income Taxes” to the consolidated financial statements in this Annual Report.
Provision for income taxes and effective tax rates for fiscal years 2016, 20152023, 2022 and 20142021 are as follows (dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
Income tax provision | $ | 110.7 | | | $ | 52.9 | | | $ | 6.9 | | | $ | 57.8 | | | 109.3 | % | | $ | 46.0 | | | 666.7 | % |
| | | | | | | | | | | | | |
| | | | | | | | | | | | | |
| | | | | | | | | | | | | |
Percentage of total net sales | 1.6 | % | | 1.0 | % | | 0.2 | % | | | | | | | | |
Effective tax rate | 14.7 | % | | 15.7 | % | | 5.8 | % | | | | | | | | |
|
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2016 over 2015 Change | | 2015 over 2014 Change |
| 2016 | | 2015 | | 2014 | | $ | | % | | $ | | % |
Provision for Income Taxes | $ | 33.4 |
| | $ | 44.0 |
| | $ | 25.4 |
| | $ | (10.6 | ) | | (24.1 | )% | | $ | 18.6 |
| | 73.1 | % |
Percentage of total net sales | 1.5 | % | | 2.2 | % | | 1.7 | % | | | | | | | | |
Effective tax rate | 31.7 | % | | 30.2 | % | | 32.0 | % | | | | | | | | |
Fiscal Year 2023 Compared with Fiscal Year 2022
Provision for income taxes. Provision for income
The year-over-year decrease in the effective tax rate is attributable to higher tax deductions from disqualified disposition of stock-based compensation, an increase in the R&D tax credit, and an increase in foreign-derived income. As a result of these favorable elements which were partially offset by certain unfavorable items including an increase in state taxes, the total effective tax rate decreased by $10.6 million, or 24.1%1%, declining from 15.7% in the fiscal year 2016 comparedended June 30, 2022, to 14.7% in the fiscal year 2015. ended June 30, 2023.
Fiscal Year 2022 Compared with Fiscal Year 2021
The year-over-year increase in the effective tax rate was 31.7%primarily due to a significant increase in revenue and 30.2%income before tax. Total effective tax rate increased by 9.5% from 5.8% for the fiscal year ended June 30, 2021 to 15.7% for the fiscal year ended June 30, 2022. This increase was driven by a 15.4% increase in the overall effective tax rate. R&D credit reduced the effective tax rate by 3.5% and foreign derived income reduced the effective tax rate by 1.4%.
Share of Income (Loss) from Equity Investee, Net of Taxes
Share of income from equity investee, net of taxes represents our share of income (loss) from the Corporate Venture in which we have a 30% ownership.
SMCI | 2023 Form 10-K | 45
Share of income (loss) from equity investee, net of taxes for fiscal years 20162023, 2022 and 2015, respectively. 2021 are as follows (dollars in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2023 over 2022 Change | | 2022 over 2021 Change |
| 2023 | | 2022 | | 2021 | | $ | | % | | $ | | % |
Share of income (loss) from equity investee, net of taxes | $ | (3.6) | | | $ | 1.2 | | | $ | 0.2 | | | $ | (4.8) | | | (400.0) | % | | $ | 1.0 | | | (500.0) | % |
Percentage of total net sales | — | % | | — | % | | — | % | | | | | | | | |
Fiscal Year 2023 Compared with Fiscal Year 2022
The lowerperiod-over-period decrease of $4.8 million in share of income tax provision for fiscal year 2016from equity investee, net of taxes was primarily attributable to our lower operating income. The effective tax rate for fiscal year 2016 was higher primarily due to the lower foreign rate benefits and foreign unrecognized tax benefits offset in partnet income recognized by the Corporate Venture.
Fiscal Year 2022 Compared with Fiscal Year 2021
The period-over-period increase of $1.0 million in federal research and development credit as a resultshare of the enactmentincome from equity investee, net of the Protecting Americans from Tax Hikes ("PATH") Act of 2015.
Provision for income taxes increased by $18.6 million, or 73.1% in fiscal year 2015 compared to fiscal year 2014. The effective tax rate was 30.2% and 32.0% for fiscal year 2015 and 2014, respectively. The higher income tax provision for fiscal year 2015 was primarily attributable to our higher operating income. The effective tax rate for fiscal year 2015 was lower primarily due to more net income recognized by the release of unrecognized tax benefits due to the lapse of statute of limitations, reinstatement of the UnitedCorporate Venture.
States federal research and development tax credits, higher income taxed by foreign jurisdictions with lower tax rates and lower add back for stock compensation expenses.
Liquidity and Capital Resources
Since our inception, weWe have financed our growth primarily with funds generated from operations, and from the proceeds of our initial public offering. Inin addition we have, from time to time, utilizedutilizing borrowing facilities, particularly in relation to an increase in the need for working capital due to longer supply chain manufacturing and delivery times as well as the financing of real property acquisitions.acquisitions and funds received from the exercise of employee stock options. Our cash and cash equivalents and short-term investments were $181.0$440.5 million and $95.5$267.4 million as of June 30, 20162023 and 2015,2022, respectively. Our cash in foreign locations was $46.5$192.3 million and $26.3$169.5 million as of June 30, 2023 and 2022, respectively.
Amounts held outside of the U.S. are generally utilized to support non-U.S. liquidity needs. Repatriations generally will not be taxable from a U.S. federal tax perspective but may be subject to state income or foreign withholding tax. Where local restrictions prevent an efficient intercompany transfer of funds, our intent is to keep cash balances outside of the U.S. and to meet liquidity needs through operating cash flows, external borrowings, or both. We do not expect restrictions or potential taxes incurred on repatriation of amounts held outside of the U.S. to have a material effect on our overall liquidity, financial condition or results of operations.
We believe that our current cash, cash equivalents, borrowing capacity available from our credit facilities and internally generated cash flows will be sufficient to support our operating businesses and maturing debt and interest payments for the 12 months following the issuance of these consolidated financial statements. On June 17, 2023, the Company through the Taiwan subsidiary, entered into a Notification and Confirmation pursuant to which the Taiwan subsidiary and E.SUN Bank agreed to drawdowns of up to US$30 million for an import o/a financing loan with a tenor of 120 days (the “2023 Import O/A Loan”). We continue to evaluate financing options that may be required to support the growth of our business, if it occurs more rapidly than anticipated.
On January 29, 2021, a duly authorized subcommittee of the Board of Directors approved the Prior Repurchase Program, which permitted us to repurchase up to an aggregate of $200.0 million of our common stock at market prices. The program was effective until the earlier of July 31, 2022 or the date when the maximum amount of common stock is repurchased. We had $150.0 million of remaining availability under the Prior Repurchase Program as of June 30, 2022, and such program subsequently expired on July 31, 2022.
On August 3, 2022, after the expiration of the Prior Share Repurchase Program on July 31, 2022, a duly authorized subcommittee of our Board approved a new share repurchase program to repurchase shares of our common stock for up to $200 million at prevailing prices in the open market. The share repurchase program is effective until January 31, 2024 or until the maximum amount of common stock is repurchased, whichever occurs first. We repurchased 1,553,350 shares of common stock for $150 million during the fiscal year ended June 30, 20162023 under this program and 2015, respectively. It is management's intention to reinvest the undistributed foreign earnings indefinitelyhad $50.0 million of remaining availability as of June 30, 2023.
SMCI | 2023 Form 10-K | 46
Our key cash flow metrics were as follows (dollars in foreign operations.millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Years Ended June 30, | | 2023 over 2022 | | 2022 over 2021 | | |
| 2023 | | 2022 | | 2021 | | | | |
Net cash provided by (used in) operating activities | $ | 663.6 | | | $ | (440.8) | | | $ | 123.0 | | | $ | 1,104.4 | | | $ | (563.8) | | | |
Net cash used in investing activities | $ | (39.5) | | | $ | (46.3) | | | $ | (58.0) | | | $ | 6.8 | | | $ | 11.7 | | | |
Net cash (used in) provided by financing activities | $ | (448.3) | | | $ | 522.9 | | | $ | (44.4) | | | $ | (971.2) | | | $ | 567.3 | | | |
Net increase in cash, cash equivalents and restricted cash | $ | 172.4 | | | $ | 35.1 | | | $ | 21.1 | | | $ | 137.3 | | | $ | 14.0 | | | |
Operating Activities. Net cash provided by (used in) operating activities was $107.5 million, $(44.6) million and $6.5 million for fiscal years 2016, 2015 and 2014, respectively.Activities
Net cash provided by our operating activities increased by $1,104.4 million for fiscal year 2016 was primarily due2023 as compared to our net income of $72.0 million, a decrease in accounts receivable of $32.4 million, an increase in other long term liabilities of $24.9 million, stock-based compensation expense of $16.1 million, depreciation expense of $13.3 million, provision for inventory of $9.3 million and an increase in accrued liabilities of $9.0 million, which were partially offset by a decrease in accounts payable of $54.3 million and an increase in prepaid expenses and other assets of $8.2 million.
Net cash used in our operating activities for fiscal year 20152022. The increase was primarily due to an increase in inventorynet cash provided from net working capital of $153.6$796.7 million, and an increase in accounts receivable of $110.2a $354.8 million which were partially offset by our net income of $101.9 million, an increase in accounts payable of $75.5 million, stock-based compensation expense of $13.7 million, an increase in net income taxes payabledue to the increase in sales of $12.0our products and solutions, a $21.6 million increase in stock-based compensation expense as a result of an increase in accrued liabilitiesthe cost of $9.6equity awards, a $11.1 million depreciation expensedecrease in unrealized gain due to currency fluctuation, and a $6.4 million increase in other non-cash items. These changes are offset by an increase of $8.1$86.2 million in deferred income taxes primarily due to increase in capitalized research and provision for inventory of $5.9 million.development costs.
Net cash provided by our operating activities decreased by $563.8 million for fiscal year 2014 was primarily due2022 as compared to our net income of $54.2 million, an increase in accounts payable of $46.3 million, stock-based compensation expense of $11.1 million, an increase in net income taxes payable of $10.9 million, depreciation expense of $6.4 million and an increase in accrued liabilities of $3.3 million, provision for inventory of $2.3 million, which were partially offset by an increase in accounts receivable of $64.9 million, an increase in inventory of $63.9 million and the excess tax benefits from stock-based compensation of $3.0 million.
The decrease for fiscal year 2016 in accounts receivable was primarily due to lower sales volume in the fourth quarter of fiscal year 2016.2021. The decrease for fiscal year 2016 in inventory and accounts payable was primarily due to anticipated lower sales volume in the first quarter of fiscal year 2017. We anticipate that accounts receivable, inventory and accounts payable will increase to the extent we continue to grow our product lines and our business in fiscal year 2016.
The increase for fiscal year 2014 and 2015 in accounts receivable was primarily due to an increase in net cash required for net working capital of $739.6 million to meet customer demand, support expected business growth and mitigate supply chain risk as a result of the COVID-19 pandemic environment and a $16.2 million decrease in unrealized gain and loss. These decreases are partially offset by increases in provision for excess and obsolete inventories of $8.3 million, depreciation and amortization expense of $4.3 million, stock-based compensation expense of $4.3 million and net income of $173.3 million. Since the beginning of the COVID-19 pandemic and the accompanying supply chain disruptions our sales latemanagement decided to increase our holdings of all components of our inventory (finished goods, work in the fourth quarter. Theprocess and purchased parts and raw materials). This decision reflected our belief that we had opportunities to increase for fiscal year 2014 and 2015 in inventory and accounts payable was primarily due to higher purchases to support the anticipated level of growth in our net sales in fiscal year 2015.if we could mitigate the risk of being unable to satisfy customer demand because of these supply chain disruptions, including longer lead times. We expect disruption of the supply chain and longer lead times to continue for the foreseeable future and therefore expect to continue to carry larger amounts of inventory than we would if the supply chain were functioning more normally and predictably.
Investing activities. Activities
Net cash used in our investing activities was $35.1$39.5 million, $36.2$46.3 million and $40.2$58.0 million for fiscal years 2016, 20152023, 2022 and 2014, respectively. In fiscal year 2016, of the net cash used2021, respectively, as we invested in our investing activities, $34.1 million was related to the purchase of property, plant and equipment, of which $16.7 million was related to property and equipment of manufacturing buildings at our Green Computing Park in San Jose California,to expand our manufacturing capacity and $3.4 million was related to the implementation of a new ERP system for the United States headquartersoffice, expanded our Bade Facility in Taiwan and our subsidiaries. We plan to continue the development and construction of improvements to our properties through fiscal year 2017. We anticipate investing approximately $17.0 million through April 2017 to complete the construction of a second manufacturing facility and the remodel of our office building. We plan to finance this development through our operating cash flows and additional borrowings from banks.
In fiscal year 2015, the $35.1 million included in net cash used in our investing activities was related to the purchasemade purchases of property, plant and equipment including $21.8 million related to the development and construction of improvements to our first manufacturing building and warehouse at our Green Computing Park in San Jose, California, which was completed in August 2015 and $4.8 million related to the implementation of a new ERP system.equipment.
Financing Activities
In fiscal year 2014, the $40.6 million included in netNet cash used in our investing activities was related to the purchase of property, plant and equipment including $30.2 million related to the real property purchased in San Jose, California in October 2013, offset in part by the termination of the certificates of deposits for $0.4 million, which were pledged as security for a value added tax examination required by tax authorities of Taiwan.
Financing activities. Net cash provided by our financing activities was $13.1 million, $80.1 million and $37.2increased by $971.2 million for fiscal years 2016, 2015 and 2014, respectively. Inyear 2023 as compared to fiscal year 2016, we borrowed2022 primarily due to repurchases of our common stock for $150.0 million reflecting our commitment to return value to our shareholders and repayment of net borrowings of $813.2 million. Net cash used in financing activities increased by $567.3 million for fiscal year 2022 as compared to fiscal year 2021 primarily due to an additional $34.2 million under our revolving linesincrease of credit from Bank of America and CTBC Bank and repaid $34.1$446.2 million in loans. Further, we received $12.2 million related to the proceeds from the exerciseborrowings net of repayment, offset by a $130.0 million decrease in stock optionsrepurchases.
Other Factors Affecting Liquidity and Capital Resources
Refer to Part II, Item 8, Note 7, “Short-term and Long-term Debt” in our notes to consolidated financial statements in this Annual Report on Form 10-K for further information on our outstanding debt.
SMCI | 2023 Form 10-K | 47
Capital Expenditure Requirements
We anticipate our capital expenditures in fiscal year 2016.
In2024 will be in range of $105.0 million to $115.0 million, relating primarily to costs associated with our manufacturing capabilities, including tooling for new products, new information technology investments, and facilities upgrades. During the second quarter of fiscal year 2015,2023, we borrowed an additional $84.9 million underentered into a letter of understanding to acquire land in Malaysia to expand our revolving line of credit from Bank of America and CTBC Bank and repaid $36.0 millionmanufacturing operations. A definitive agreement to acquire such land, subject to various conditions, was subsequently executed in loans. Further, we received $23.3 million relatedJanuary 2023. We are obtaining early access to such land prior to the proceeds from the exercise of stock optionsacquisition, and we anticipate additional capital expenditures in fiscal year 2015.2024 of $75.0 million (included in the above range) for such initiative. In addition, we will continue to evaluate new business opportunities and new markets. As a result, our future growth within the existing business or new opportunities and markets may dictate the need for additional facilities and capital expenditures to support that growth. We evaluate capital expenditure projects based on a variety of factors, including expected strategic impacts (such as forecasted impact on revenue growth, productivity, expenses, service levels and customer retention) and our expected return on investment.
In fiscal year 2014, we received $23.9 million relatedWe intend to the proceeds from the exercise of stock options. We withheld shares and paid the minimum tax withholding for restricted stock awards of $0.7 millioncontinue to focus our capital expenditures in fiscal year 2014. Further, we borrowed an additional $6.8 million under2024 to support the line of credit from Bank of America, borrowed $7.0 million from the CTBC Bank secured term loan, and borrowed $3.5 milliongrowth of our CTBC Bank revolving line of credit and repaid $6.3 million in loans in fiscal year 2014.
In fiscal year 2016, 2015 and 2014, $2.9 million, $8.1 million and $3.0 million was related to the excess tax benefits from stock-based compensation, respectively. We expect the net cash provided by financing activities will increase throughout fiscal year 2017 as we intend to obtain additional financing from banks for our working capital requirements.
We expect to experience continued growth in our working capital requirements and capital expenditures as we continue to expand our business.operations. Our long-term future capital requirements will depend on many factors including our level of revenues,growth rate, the timing and extent of spending to support our product development efforts, the expansion of sales and marketing activities, the timing of our introductionsintroduction of new products, the costs to ensure access to adequate manufacturing capacity and the continuing market acceptance ofenhanced software and services offerings and investments in our products. We intend to fund this continued expansion through cash generated by operations and by drawing on the revolving credit facility or through other debt financing. However we cannot be certain whether such financing will be available on commercially reasonable or otherwise favorable terms or that such financing will be available at all. We anticipate that working capital and capital expenditures will constitute a material use of our cash resources. We have sufficient cash on hand to continue to operate for at least the next 12 months.
Other factors affecting liquidity and capital resources
Activities under Revolving Lines of Credit and Term Loans
Bank of America
In June 2015, we entered into an amendment to our existing credit agreement with Bank of America, which provided for (i) a $65.0 million revolving line of credit facility and (ii) a five-year $14.0 million term loan facility. The term loan is secured by three buildings located in San Jose, California and the principal and interest are payable monthly through September 30, 2016 with an interest rate at the LIBOR rate plus 1.50% per annum. In May 2016, we extended the revolving line of credit to mature on June 30, 2016.
In June 2016, we entered into a new credit agreement with Bank of America, which provided for (i) a $55.0 million revolving line of credit facility including a $5.0 million letter of credit sublimit that matures on June 30, 2017 and (ii) a five-year $50.0 million term loan facility. This revolving line of credit facility replaces the existing revolving line of credit facility with Bank of America. This additional term loan is secured by seven buildings located in San Jose, California and property, plant and equipment and inventory in those buildings. The principal and interest of the term loan are payable monthly through June 30, 2021 with an interest rate at the LIBOR rate plus 1.25% per annum.
The interest rate for the revolving line of credit under the above credit agreements with Bank of America is at the LIBOR rate plus 1.25% per annum. The LIBOR rate was 0.46% at June 30, 2016. The letter of credit is charged at 1.25% per annum. In July 2016, we received $50.0 million term loan proceeds from Bank of America under the new credit agreement with interest rate at 1.71% per annum and paid down the outstanding amounts under the revolving line of credit with Bank of America. As of June 30, 2016, we have reclassified $50.0 million of our line of credit to long-term loan.
In June 2016, we also entered into a separate credit agreement with Bank of America, which provided for a revolving line of credit of $10.0 million for our Taiwan subsidiary that matures on June 30, 2017. The interest rate of the revolving line of credit is equal to a minimum of 0.9% per annum plus the lender's cost of fund.
As of June 30, 2016 and 2015, the total outstanding borrowings under the Bank of America term loan was $0.9 million and $3.7 million, respectively. The total outstanding borrowings under the Bank of America lines of credit was $62.2 million and $59.7 million as of June 30, 2016 and 2015, respectively. The interest rates for these loans ranged from 1.02% to 1.96% per annum at June 30, 2016 and 0.79% to 1.68% per annum at June 30, 2015, respectively. As of June 30, 2016, the unused revolving lines of credit and term loan amount under Bank of America under the new credit agreements were $2.8 million and $50.0 million, respectively.
CTBC Bank
In November 2015, we entered into an amendment to the existing credit agreement with CTBC Bank Co., Ltd ("CTBC Bank") that provides for (i) a 12-month NTD$700 million or $22.0 million U.S. dollar equivalent term loan secured by the land and building located in Bade, Taiwan with an interest rate equal to the lender's established NTD interest rate plus 0.25% per annum which is adjusted monthly and (ii) a 12-month revolving line of credit up to 80.0% of eligible accounts receivable in an aggregate amount of up to $17.0 million with an interest rate equal to the lender's established USD interest rate plus 0.30% per annum which is adjusted monthly. The total borrowings allowed under the credit agreement are capped at NT$1.0 billion or $30.3 million U.S. dollar equivalent. In January 2016, we extended the revolving line of credit to mature on March 31, 2016.
In April 2016, we entered into a new credit agreement with CTBC Bank that provides for (i) a 12-month NTD$700.0 million or $21.6 million U.S. dollar equivalent term loan facility secured by the land and building located in Bade, Taiwan with an interest rate equal to the lender's established NTD interest rate plus 0.25% per annum which is adjusted monthly. This term loan facility also includes a 12-month customs bond up to NTD$100.0 million or $3.1 million U.S. dollar equivalent with an annual fee equal to 0.5% per annum, and (ii) a 12-month revolving line of credit up to 80.0% of eligible accounts receivable in an aggregate amount of up to $40.0 million with an interest rate equal to the lender's established USD interest rate plus 0.30% per annum which is adjusted monthly. The total borrowings allowed under the credit agreement are capped at $40.0 million. The credit agreement matures on March 31, 2017.
The total outstanding borrowings under the CTBC Bank term loan was denominated in Taiwanese dollars and was translated into U.S. dollars of $20.4 million and $21.3 million as of June 30, 2016 and 2015, respectively. At June 30, 2016 and 2015, the total outstanding borrowings under the CTBC Bank revolving line of credit was $10.1 million and $9.7 million, respectively, in U.S. dollars. The interest rate for these loans were ranged from 0.90% and 1.25% at June 30, 2016 and 0.82% and 1.16% per annum at June 30, 2015. At June 30, 2016, available for future borrowing under this credit agreement was $9.5 million.
Covenant Compliance
The new credit agreement with Bank of America contain customary representations and warranties and customary affirmative and negative covenants applicable to usoffice facilities and our subsidiaries. The new credit agreement contain certain financial covenants, including the following:IT system infrastructure.
Not to incur on a consolidated basis, a net loss before taxes and extraordinary items for any two consecutive fiscal quarters;
The Consolidated Leverage Ratio, as defined in the agreement, as of the end of any fiscal quarter, measured for the most recently completed twelve (12) months of the Company, shall not be greater than 2.00;
The domestic unencumbered liquid assets, as defined in the agreement, maintained in accounts within the United States shall have an aggregate market value of not less than $30,000,000, measured quarterly as of the last day of each fiscal quarter.
As of June 30, 2016, our total assets of $934.6 million collateralized the line of credit with Bank of America under the new credit agreement which represent the total assets of the United States headquarter company, except for seven buildings located in San Jose, California and property, plant and equipment and inventory in those buildings. As of June 30, 2016, total assets collateralizing the term loan with Bank of America were $59.3 million. As of June 30, 2016, we were in compliance with all financial covenants associated with the term loan and lines of credit with Bank of America under the new credit agreement.
As of June 30, 2016, the net book value of land and building located in Bade, Taiwan collateralizing the term loan with CTBC Bank was $26.8 million. There are no financial covenants associated with the term loan with CTBC Bank.
Contract Manufacturers
In fiscal year 2016, we paid our contract manufacturers within 40 to 74 days of invoice and Ablecom between 48 to 90 days of invoice. Ablecom is one of our major contract manufacturers and a related party. As of June 30, 2016 and 2015 amounts owed to Ablecom by us were approximately $39.2 million and $59.0 million, respectively.
Share Repurchase Program
In July 2016, our Board of Directors adopted a program to repurchase from time to time at management’s discretion up to $100,000,000 of our common stock in the open market or in private transactions during the next twelve months at prevailing market prices. Repurchases will be made under the program using our own cash resources. This share repurchase program does not obligate us to acquire any particular amount of common stock, and it may be suspended at any time at our discretion. In July 2016, we purchased 513,194 shares of our common stock in the open market at a weighted average price of $19.97 per share for approximately $10.3 million.
Contractual Obligations
The following table describes our contractualOur estimated future obligations as of June 30, 2016:2023, include both current and long term obligations. For our long-term debt as noted in Part II, Item 8, Note 7, “Short-term and Long-term Debt”, we have a current obligation of $170.1 million and a long-term obligation of $120.2 million. Under our operating leases as noted in Part II, Item 8, Note 8, "Leases", we have a current obligation of $7.8 million and a long-term obligation of $12.2 million. As noted in Part II, Item 8, Note 12, "Commitments and Contingencies", we have current obligations related to noncancelable purchase commitments of $2.3 billion.
|
| | | | | | | | | | | | | | | | | | | |
| Payments Due by Period |
| Less Than 1 Year | | 1 to 3 Years | | 3 to 5 Years | | More Than 5 Years | | Total |
| (in thousands) |
Operating leases | $ | 4,271 |
| | $ | 7,622 |
| | $ | 5,399 |
| | $ | 2,631 |
| | $ | 19,923 |
|
Capital leases, including interest | 261 |
| | 429 |
| | 132 |
| | — |
| | 822 |
|
Debt, including interest (1) | 54,370 |
| | 21,041 |
| | 20,358 |
| | — |
| | 95,769 |
|
Purchase commitments (2) | 334,010 |
| | — |
| | — |
| | — |
| | 334,010 |
|
Total (3) | $ | 392,912 |
| | $ | 29,092 |
| | $ | 25,889 |
| | $ | 2,631 |
| | $ | 450,524 |
|
__________________________
| |
(1) | Amount reflects total anticipated cash payments, including anticipated interest payments based on the interest rate at June 30, 2016. |
| |
(2) | Amount reflects total gross purchase commitments under our manufacturing arrangements with third-party contract manufacturers or vendors. Our purchase obligations included $110.5 million of hard disk drive purchase commitments at June 30, 2016, which will be paid through December 2016. See Note 12 of Notes to our Consolidated Financial Statements in Item 8 of this Form 10-K for a discussion of purchase commitments. |
| |
(3) | The table above excludes liabilities for deferred revenue of $35.4 million and unrecognized tax benefits and related interest and penalties accrual of $16.1 million. We have not provided a detailed estimate of the payment timing of unrecognized tax benefits due to the uncertainty of when the related tax settlements will become due. See Note 11 of Notes to our Consolidated Financial Statements in Item 8 of this Form 10-K for a discussion of income taxes. |
We expecthave not provided a detailed estimate of the payment timing of unrecognized tax benefits due to fund our remaining contractual obligations from our ongoing operations and existing cash and cash equivalents on hand.the uncertainty of
when the related tax settlements will become due. See Part II, Item 8, Note 11, “Income Taxes” to the consolidated financial statements in this Annual Report for a discussion of income taxes.
Recently Issued
Recent Accounting Pronouncements
In May 2014,For a description of recent accounting pronouncements, including the Financialexpected dates of adoption and estimated effects, if any, on our consolidated financial statements, see Part II, Item 8, Note 1, “Organization and Summary of Significant Accounting Standards Board ("FASB") issued new accounting guidance related to revenue recognition. This new standard replaces all current U.S. GAAP guidance on revenue, eliminates all industry-specific guidance and provides a unified model in determining when and how revenue is recognized. The core principle is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Further, in March 2016, the FASB issued an amendmentPolicies” to the accounting guidance related to revenue from contracts with customers - principal versus agent considerations. In April 2016, the FASB issued an amendment to the accounting guidance related to revenue from contracts with customers - identifying performance obligations and licensing. This guidance can be applied either retrospectively or as a cumulative-effect adjustment as of the date of adoption. Early adoption is permitted for annual periods beginning after December 15, 2016. The new standard is effective for us on July 1, 2018. We are currently evaluating the timing of ourconsolidated financial statements in this Annual Report.
39SMCI | 2023 Form 10-K | 48
The primary objectives of our investment activities are to preserve principal, provide liquidity and maximize income without significantly increasing the risk. Some of the securities we invest in are subject to market risk. This means that a change in prevailing interest rates may cause the fair value of the investment to fluctuate. To minimize this risk, we maintain our portfolio of cash equivalents and short-term investments in money market funds and certificates of deposit. Our long-term investments includeinvestment in an auction rate securities, which havesecurity has been classified as long-termnon-current due to the lack of a liquid market for these securities. Since our results of operations are not dependent on investments, the risk associated with fluctuating interest rates is limited to our investment portfolio, and we believe that a 10% change in interest rates would not have a significant impact on our results of operations. As of June 30, 2016,2023, our investments were in money market funds, certificates of deposits and auction rate securities.