Our discussion and analysis of financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States of America ("GAAP"). The preparation of these financial statements requires management to make estimates and assumptions that may affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues, costs and expenses during the reporting periods. Actual results could differ materially from these estimates. The critical accounting policies listed below involve our more significant accounting judgments and estimates that are used in the preparation of the consolidated financial statements. These policies are described in greater detail in Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") under Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year endedFebruary 29, 2020 , as filed with theU.S. Securities and Exchange Commission onMay 5, 2020 , and include the following areas: • Revenue recognition; • Allowance for doubtful accounts; • Inventory write-downs; •Goodwill and long-lived assets; • Patent litigation and other contingencies; and • Deferred income tax assets and uncertain tax positions. RESULTS OF OPERATIONS OUR COMPANY We are a telematics pioneer leading transformation in a mobile connected economy. We help reinvent businesses and improve lives around the globe with technology solutions that streamline complex Internet of Things ("IoT") developments through wireless connectivity solutions and derived data intelligence. Our software applications, scalable cloud services, and intelligent devices collect and assess business-critical data from mobile assets and their contents. Historically, we had two reportable segments, Software & Subscription Services and Telematics Systems. During the first quarter of fiscal 2021, our interim President and Chief Executive Officer,who is our new Chief Operating Decision Maker ("CODM"), realigned our operational structure into three reportable segments: Software & Subscriptions Services, Telematics Products and LoJackU.S. SVR Products. Our organizational structure is based on a number of factors that our CEO, the CODM, uses to evaluate and operate the business, which include, but are not limited to, customer base, homogeneity of products, and technology within these three segments. A description of the reportable business segments is provided below.
SOFTWARE & SUBSCRIPTION SERVICES
Our Software & Subscription Services segment offers cloud-based application enablement and telematics service platforms that facilitate integration of our own applications, as well as those of third parties, through open Application Programming Interfaces ("APIs") to deliver full-featured mobile IoT solutions to a wide range of customers and markets. Our scalable proprietary applications and other subscription services enable rapid and cost-effective development of high-value solutions for customers all around the globe.
TELEMATICS PRODUCTS
Our Telematics Products segment offers a series of advanced telematics products for the broader connected vehicle marketplace, which enable customers to optimize their operations by collecting, monitoring and effectively reporting business-critical information and desired intelligence from high-value remote and mobile assets. Our telematics products include asset tracking units, mobile telematics devices, mobile gateways, and routers. These wireless networking devices underpin a wide range of solutions, and are ideal for applications demanding secure, reliable and business-critical communications.
LOJACK
Our LoJackU.S. SVR Products segment offers a series of security and protection products and services for tracking and recovering vehicles. Our Stolen Vehicle Recovery (SVR) solution is the only one directly integrated with law enforcement that has a 90%+ recovery rate and over$1 billion worth of recoveries in theU.S. alone. 25
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Adjusted EBITDA
In addition to ourU.S. GAAP results, we present Adjusted EBITDA as a supplemental non-GAAP measure of our performance. A non-GAAP financial measure is defined as a numerical measure of a company's financial performance that excludes or includes amounts to be different than the most directly comparable measure calculated and presented in accordance with generally accepted accounting principles in the statements of comprehensive income (loss), balance sheets or statements of cash flows. We define Adjusted EBITDA as Earnings Before Investment Income, Interest Expenses, Taxes, Depreciation, Amortization, stock-based compensation, acquisition and integration expenses, non-cash costs and expenses arising from purchase accounting adjustments, litigation provision, gain from legal settlement and certain other adjustments. Our interim CEO, the CODM, uses Adjusted EBITDA to evaluate and monitor segment performance. We believe this non-GAAP financial information provides additional insight into our ongoing performance and have therefore chosen to provide this information to investors for a more consistent basis of comparison to help investors evaluate our results of ongoing operations and enable more meaningful period-to-period comparisons. Pursuant to the rule and regulations of theU.S. Securities and Exchange Commission regarding the use of non-GAAP financial measures, we have provided a reconciliation of non-GAAP financial measures to the most directly comparable financial measure. See Note 16 to the accompanying condensed consolidated financial statements for additional information related to Adjusted EBITDA by reportable segments and reconciliation to net loss. Recent Developments InDecember 2019 , a strain of coronavirus entitled COVID-19 emerged inChina and spread to other countries including tothe United States . InMarch 2020 , theWorld Health Organization declared COVID-19 to be a public health pandemic of international concern, which has resulted in travel restrictions and in some cases, prohibitions of non-essential activities, disruption and shutdown of businesses and greater uncertainty in global financial markets. Inthe United States and other geographies in which we and our customers, partners and service providers operate, the health concerns as well as political or governmental developments in response to COVID-19 could result in economic, social or labor instability or prolonged contractions in certain end markets which could slow the sales process, result in customers not purchasing or renewing on contracts or failing to make payments. These events could have a material adverse effect on the business and results of operations and financial condition. Our business and operating results depend on telematics product sales, device installations and related subscription-based services. The outbreak has limited our ability to install devices in the three months endedMay 31, 2020 . The effect of the outbreak may continue to impact our operating results depending on the severity of the pandemic and the actions taken or to be taken by governments and private businesses in relation to its containment. We have adopted several measures in response to the COVID-19 outbreak, including instructing employees to work from home, implementing certain cost and cash flow control measures to address potential declines in billings and cash collections from customers, shifting the manner in which we engage with customers and restricting non-critical business travel by our employees. As a result of the work and travel restrictions, substantially all of our sales and installation services activities are being conducted or managed remotely.
OPERATING RESULTS
Three months endedMay 31, 2020 compared to three months endedMay 31, 2019 : Revenue by Segment Three Months Ended May 31, 2020 2019 (In thousands) $ % of Revenue $ % of Revenue $ Change % Change Segment Software & Subscription Services$ 28,029 34.9 %$ 25,511 28.6 %$ 2,518 9.9 % Telematics Products 45,539 56.8 % 51,198 57.5 % (5,659 ) (11.1 %) LoJack U.S. SVR Products 6,647 8.3 % 12,361 13.9 % (5,714 ) (46.2 %) Total$ 80,215 100.0 %$ 89,070 100.0 %$ (8,855 ) (9.9 %) Software & Subscription Services revenue increased by$2.5 million or 9.9% for the three months endedMay 31, 2020 compared to the same period last year. The increase was primarily due to revenue growth in fleet management and the acquired businesses such as Synovia and LoJack Mexico, but partially offset by decrease in revenue due to decline in device installation for business such asItaly as a result of COVID-19 pandemic. 26 -------------------------------------------------------------------------------- Telematics Products revenue decreased by$5.7 million or 11.1% for the three months endedMay 31, 2020 compared to the same period last year. The decrease was attributable to reduced sale volume due to a decline in customer demand attributed to the COVID-19 outbreak in theU.S. inFebruary 2020 . The decrease in telematics products and OEM/Network products was primarily driven by a decline in demand for a portion of our smaller customers adversely impacted by market condition prompted by the pandemic. We expect this decline to be temporary and to be offset by customer demands in the second half of fiscal 2021 as the 3G network sunset becomes more imminent and the effects of COVID-19 pandemic diminishes. LoJackU.S. SVR Products revenue decreased by$5.7 million or 46.2% for the three months endedMay 31, 2020 compared to the same period last year. The decrease was due to a decline in customer demand attributed to the COVID-19 outbreak in theU.S. inFebruary 2020 as well as a technology transition from proprietary radio frequency technology to GPS-based telematics solutions. We expect this decline to continue but to be partially offset over time by revenues growth in our telematics solutions, such as SureDrive and LotSmart within our Software & Subscription Services segment. Gross Profit by Segment Three Months Ended May 31, 2020 2019 (In thousands) $ % of Revenue $ % of Revenue $ Change % Change Segment Software & Subscription Services$ 13,815 49.3 %$ 10,400 40.8 %$ 3,415 32.8 % Telematics Products 15,120 33.2 % 20,044 39.1 % (4,924 ) (24.6 %) LoJack U.S. SVR Products 2,118 31.9 % 4,967 40.2 % (2,849 ) (57.4 %) Gross profit$ 31,053 38.7 %$ 35,411 39.8 %$ (4,358 ) (12.3 %) Consolidated gross profit decreased by$4.4 million or 12.3% for the three months endedMay 31, 2020 compared to the same period last year. Consolidated gross margin decreased by 110 basis for the three months endedMay 31, 2020 compared to the same period last year. Both declines in consolidated gross profit and in consolidated gross margin were due to lower revenue in our Telematics Products and LoJackU.S. SVR Products businesses as a result of the COVID-19 pandemic and partially offset by continued growth in Software & Subscription Services as described above. Cost of revenues above excludes the restructuring related costs, which is shown separately in the operating expenses in our condensed consolidation statement of comprehensive income (loss). Operating Expenses Three Months Ended May 31, 2020 2019 (In thousands) $ % of Revenue $ % of Revenue $ Change % Change Research and development$ 6,324 7.9 %$ 6,886 7.7 %$ (562 ) (8.2 %) Selling and marketing 12,886 16.1 % 14,647 16.4 % (1,761 ) (12.0 %) General and administrative 13,669 17.0 % 17,484 19.6 % (3,815 ) (21.8 %) Intangible asset amortization 1,892 2.4 % 3,040 3.4 % (1,148 ) (37.8 %) Restructuring 1,908 2.4 % - 0.0 % 1,908 100.0 % Impairment loss 4,289 5.3 % - 0.0 % 4,289 100.0 % Total$ 40,968 51.1 %$ 42,057 47.1 %$ (1,089 ) (2.6 %) Consolidated research and development expense decreased by$0.6 million or 8.2% for the three months endedMay 31, 2020 compared to the same period last year as we implemented certain cost containment measures in connection with the COVID-19 outbreak. We will continue to invest in research and development of new products and technologies to be sold through theU.S. and international sales channels as market conditions improve. Consolidated selling and marketing expense decreased by$1.8 million or 12.0% for the three months endedMay 31, 2020 compared to the same period last year. The decrease was primarily driven by lower tradeshow and related travel and advertising expenses due to the COVID-19 pandemic coupled with lower sales commissions due to lower sales volume as described above. We will invest in additional headcounts in sales and marketing as we gain greater visibility into customer demand as the effects of the COVID-19 pandemic diminishes. 27 -------------------------------------------------------------------------------- Consolidated general and administrative expenses decreased by$3.8 million or 21.8% for the three months endedMay 31, 2020 compared to the same period last year. The decrease was primarily driven by lower professional fees related to certain non-recurring legal matters and acquisitions in fiscal 2020 and reduced expenses as we further integrate the acquired businesses. As described in Note 8 to the accompanying condensed consolidated financial statements, during fiscal 2019, we commenced a plan to capture certain synergies and cost savings related to streamlining our global operations and sales organization as well as rationalize certain leased properties that are partially vacant. We incurred additional charges for this initiative during the three months endedMay 31, 2020 , which was primarily personnel related. Restructuring costs are shown separately in the operating expenses in our condensed consolidated statement of comprehensive income (loss). Amortization of intangibles decreased by$1.1 million or 37.8% for the three months endedMay 31, 2020 compared to the same period last year due to reduced amortization as a result of the intangible assets impairment loss recorded in fiscal 2020. InFebruary 2020 , we determined that the prolonged secular decline in revenues from our legacy LoJack US SVR Products coupled with the slower than anticipated market penetration of our telematics solutions in theU.S. automotive dealership channel represented determinate indications of impairment. These factors were further exacerbated by the immediate unfavorable impact that the COVID-19 pandemic has had on the automotive end markets since over the past four months. As a result, we updated our assessment of the carrying amount of goodwill and long-lived assets supporting these products. The total impairment loss we recorded for the three months endedMay 31, 2020 was$4.3 million , which was primarily attributable to partial write-offs of intangible assets for LoJackU.S. dealer relationships and goodwill (see Notes 1 and 4 in the accompanying financial statements). Any deterioration in future operating cash flows of this reporting unit may result in further impairment of goodwill and other long-lived assets, including intangible assets.
Non-operating Income (Expense), Net
Investment income decreased by$2.1 million to$18 thousand for the three months endedMay 31, 2020 from$2.1 million for the three months endedMay 31, 2019 . The decrease was primarily due to a decrease in investment income on Rabbi Trust assets that serve to informally fund our non-qualified deferred compensation plan during the period and lower investment income due to decreased investments in various cash equivalent as a result of the repayment of our 2020 Convertible Notes and operating cash flows. Interest expense decreased by$1.4 million to$4.1 million for the three months endedMay 31, 2020 from$5.5 million for the three months endedMay 31, 2019 primarily due to lower stated interest expense, amortization of debt discount and issue costs that resulted from the repurchase of approximately$94.9 million in aggregate principal amount of the 2020 Convertible Notes last year. Other non-operating loss decreased by$0.2 million to$0.2 million for the three months endedMay 31, 2020 from$0.4 million for the three months endedMay 31, 2019 due to change in foreign currency exchange rates.
Overall Profitability Measures
Net Income (Loss):
GAAP-basis net loss in the three months endedMay 31, 2020 was$14.4 million as compared to a net loss of$8.7 million in the three months endedMay 31, 2019 . The$5.7 million increase in the net loss is due to the impairment loss of$4.3 million and$4.4 million decrease in gross profit during the quarter and partially offset by lower operating expenses as described above. Adjusted EBITDA: Three Months Ended May 31, (In thousands) 2020 2019 $ Change % Change Segment Software & Subscription Services$ 6,354 $ 2,374 $ 3,980 167.6 % Telematics Products 3,123 7,863 (4,740 ) (60.3 %) LoJack U.S. SVR Products (1,573 ) (870 ) (703 ) 80.8 % Corporate Expenses (1,397 ) (1,798 ) 401 (22.3 %) Total Adjusted EBITDA$ 6,507 $ 7,569 $ (1,062 ) (14.0 %) Adjusted EBITDA for Software & Subscription Services increased by$4.0 million compared to the same period last year primarily due to higher gross profit and lower operating expenses as we further integrate the acquired businesses. Adjusted EBITDA for Telematics Products and LoJackU.S. SVR Products in the three months endedMay 31, 2020 decreased by$4.7 million and$0.7 million compared to the same period last year, respectively. The declines in both segments were primarily due to a decline in revenue resulting from decreased sales volume partially offset by operating expense savings as we implemented certain cost containment measures in connection with the COVID-19 pandemic as described above. Adjusted EBITDA for Corporate Expenses decreased due to lower legal expenses.
See Note 16 for information related to Adjusted EBITDA by reportable segments and a reconciliation to GAAP-basis net income (loss).
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Income Tax Provision
We evaluate our estimated annual effective tax rate ("ETR") on a quarterly basis based on current and forecasted operating results. The relationship between our income tax provision or benefit and our pretax book income or loss can vary significantly from period to period considering, among other factors, the overall level of pretax book income or loss and changes in the blend of jurisdictional income or loss that is taxed at different rates. Consequently, our ETR may fluctuate significantly period to period and may make quarterly comparisons less than meaningful. An income tax expense of$0.2 million was recorded for the three months endedMay 31, 2020 , compared to an income tax benefit of$2.3 million in the same period last year. The$2.5 million increase in tax expense for the three months endedMay 31, 2020 , compared with the same period in 2019, was primarily driven by a pre-tax loss in the current period which did not result in an income tax benefit due to the recording of a valuation allowance against net deferred tax assets.
LIQUIDITY AND CAPITAL RESOURCES
Consistent with fiscal 2020, our primary recurring cash needs have been for working capital purposes and capital expenditures. We have historically funded our principal business activities through cash flows generated from operations. As we continue to grow our customer base and increase our revenues, there will be a need for working capital in the future. Our immediate sources of liquidity are cash and cash equivalents, and our revolving credit facility. As ofMay 31, 2020 , we have$104.1 million of cash and cash equivalents and$30 million available under our revolving credit facility. Additionally, we expect to continue to finance our operations with cash on hand and cash generated from operations. OnMarch 30, 2018 , we entered into a revolving credit facility withJPMorgan Chase Bank, N.A . that provided for borrowings of up to$50 million . OnMarch 27, 2020 , we entered into an amendment of the revolving credit facility to extend the term toMarch 30, 2022 . Borrowings under this revolving credit facility bear interest at either a Prime or LIBOR-based variable rate as selected by us on a periodic basis. This revolving credit facility contains financial covenants that require us to maintain a minimum level of earnings before interest, income taxes, depreciation, amortization and other noncash charges (EBITDA) and minimum debt coverage ratios. InMay 2020 , we borrowed$20 million under the revolving credit facility. We are a defendant in various legal proceedings, including the Omega patent infringement claim, involving intellectual property claims and contract disputes in which the final resolutions have not been determined at this time. In connection with these matters, we may be required to enter into license agreements or other settlement arrangements that require us to make significant payments in the future. While it is not feasible to predict with certainty the outcome of these legal proceedings, based on currently available information, we believe that the ultimate resolution of these matters would not have a material adverse effect on our condensed consolidated results of operations, financial condition and cash flows.
See Note 17, Legal Proceedings, of the Notes to Unaudited Condensed Consolidated Financial Statements for additional information on legal proceedings.
Cash flows from operating activities
Cash flows from operating activities consist of net income (loss) adjusted for certain non-cash items, including depreciation, intangible asset amortization, stock-based compensation expense, amortization of discount and debt issue costs, deferred income taxes, impairment loss and equity in net loss of affiliate, and the effect of changes in components of working capital. Our cash flow from operating activities are attributable to our net income (loss) as well as how well we manage our working capital, which is dictated by the volume of products we purchase from our manufacturers or suppliers and then sell to our customers along with the payment and collection terms that we negotiate with them. We purchase a majority of our products from significant suppliers located inAsia , that generally provide us 60-day payment terms for products purchased. We are currently reliant upon these suppliers for products. Although we believe that we can obtain products from other sources, the loss of a significant supplier could have a material impact on our financial condition and results of operations as the products that are being purchased may not be available on similar terms from another supplier. Our significant customers are located inthe United States and certain foreign countries. We believe that our relationships with our key customers are very good and that these customers are in good financial condition. We generally grant credit to our customers based on their financial viability and our historical collection experience with them. We typically require payment from them within 30 to 45 days of our invoice date with a few exceptions that extend the credit terms up to 90 days. For the three months endedMay 31, 2020 , net cash provided by operating activities was$5.9 million and net loss was$14.4 million . Our non-cash expenses, comprised principally of depreciation, intangible asset amortization, stock-based compensation expense, amortization of debt discount and issue costs, and deferred income taxes totaled$19.1 million . These non-cash expenses are partially offset by non-cash revenues of$1.7 million related to the Synovia revenue assignment arrangements. Changes in operating assets and liabilities generated in a$3.0 million cash inflow, primarily driven by changes in working capital including a decrease in accounts receivable and inventory, and an increase in accounts payable. 29
-------------------------------------------------------------------------------- For the three months endedMay 31, 2019 , net cash used in operating activities was$5.6 million and net loss was$8.7 million . Our non-cash expenses, comprised principally of depreciation, intangible asset amortization, stock-based compensation expense, amortization of debt discount and issue costs and deferred income taxes totaled$10.4 million . Changes in operating assets and liabilities, net of the effects of our acquisitions, resulted in a$7.3 million cash outflow, primarily driven by changes in working capital including decreases in accounts payable and an increase in inventory, but partially offset by a decrease in accounts receivable.
Cash flow from investing activities
For the three months endedMay 31, 2020 and 2019, our net cash used in investing activities was$3.1 million and$60.8 million , respectively. In each of these periods, our primary investing activities consisted of the purchase and sale of marketable securities in accordance with our corporate investment policy as well as capital expenditures. During the three months endedMay 31, 2019 , we also acquired Synovia and LoJack Mexico for$48.4 million and$14.7 million , net of cash acquired, respectively.
We expect that we will make additional capital expenditures in the future, including the devices that we lease to customers on the Synovia subscription agreements in order to support the future growth of our business.
Cash flow from financing activities
For the three months endedMay 31, 2020 and 2019, our net cash used in financing activities was$7.7 million and$0.1 million , respectively. In each of these periods, we have payments for taxes related to the net share settlement of vested equity awards and the proceeds from the exercise of stock options and contributions to our employee stock purchase plan. During the three months endedMay 31, 2020 , we repaid our 2020 Convertible Notes of$27.6 million and borrowed$20.0 million from our revolving credit facility. We continue to monitor the impact of COVID-19 on our operating results and liquidity as we believe the pandemic may have an unfavorable impact on our financial condition and results of operations. We have implemented certain cost containment and cash flow control measures especially in areas such as personnel, travel and other discretionary spend. As ofMay 31, 2020 , we had cash and cash equivalents of$104 million and$30 million available under our existing revolving credit facility. Accordingly, we believe that our existing cash and cash equivalents, funds anticipated to be generated from our operations and available borrowing on our revolving credit facility will be sufficient to meet our working capital needs for at least the next 12 months.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of
the
Contractual Cash Obligations
During the first quarter of fiscal 2021, there were no significant changes to our estimates of future payments under our fixed contractual obligations and commitments as presented in Part II, Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, included in our Annual Report on Form 10-K for our fiscal year endedFebruary 29, 2020 as filed with theSecurities and Exchange Commission onMay 5, 2020 .
FORWARD LOOKING STATEMENTS
Forward looking statements in this Form 10-Q which include, without limitation, statements relating to our plans, strategies, objectives, expectations, intentions, projections and other information regarding future performance, are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The words "may", "will", "could", "plans", "intends", "seeks", "believes", "anticipates", "expects", "estimates", "judgment", "goal", and variations of these words and similar expressions, are intended to identify forward-looking statements. These forward-looking statements reflect our current views with respect to future events and financial performance and are subject to certain risks and uncertainties that are difficult to predict, including, without limitation, product demand, competitive pressures and pricing declines in our markets, the timing of customer approvals of new product designs, intellectual property infringement claims, interruption or failure of our Internet-based systems used to wirelessly configure and communicate with the tracking and monitoring devices that we sell, the phased implementation of our ERP system, the effect of tariffs on exports fromChina , and other countries, and other risks and uncertainties that are set forth in Part I, Item 1A of the Annual Report on Form 10-K for the fiscal year endedFebruary 29, 2020 as filed with theU.S. Securities and Exchange Commission onMay 5, 2020 . Such risks and uncertainties could cause actual results to differ materially from historical or anticipated results. Although we believe the expectations reflected in such forward-looking statements are based upon reasonable assumptions, we can give no assurance that our expectations will be attained. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. 30
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