SMART GLOBAL HOLDINGS, INC. Management’s Discussion and Analysis of the Financial Position and Results of Operations (Form 10-Q)

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The following discussion and analysis should be read in conjunction with the
consolidated financial statements and accompanying notes included in our Annual
Report on Form 10-K for the year ended August 27, 2021. This discussion contains
forward-looking statements that involve risks and uncertainties. Our actual
results could differ materially from those contained in these forward-looking
statements due to a number of factors, including those discussed below and
elsewhere in this report. See also "Cautionary Note Regarding Forward-Looking
Statements."



Our fiscal year is the 52 or 53-week period ending on the last Friday in August.
Fiscal 2022 and 2021 each contain 52 weeks. All period references are to our
fiscal periods unless otherwise indicated. All financial information for our
subsidiaries in Brazil is included in our consolidated financial statements on a
one-month lag because their fiscal years end on July 31 of each year. All
tabular dollar amounts are in millions, except per share amounts.



Overview



Since our inception over 30 years ago, SGH has grown into a diversified group of
businesses focused on the design and manufacture of specialty solutions for the
computing, memory and LED markets. Our success is based on a customer-focused
approach characterized by a commitment to quality, advanced technical expertise,
quick time-to-market, build-to-order flexibility and excellence in customer
service.



At SGH, we strive to achieve long-term growth by investing in our people,
innovation, processes and new opportunities. Since the beginning of fiscal 2018,
we have accelerated our growth through the completion of five acquisitions. With
our most recent acquisition of the LED Business in 2021, we have organized the
Company into three lines of business: Memory Solutions, Intelligent Platform
Solutions ("IPS") and LED Solutions.



In addition to driving growth organically and through acquisitions, we use the SGH operating system to support and drive operational efficiency and performance.


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Our employees have always played a key role in our success. Today, SGH employs a diverse workforce of approximately 3,900 employees worldwide who are focused on innovation and customer satisfaction.


Acquisition of LED Business



In March 2021, we completed the acquisition of the LED business ("LED Business")
of Cree, Inc., a corporation now known as Wolfspeed, Inc. ("Cree"). The
acquisition of the LED Business, a leader in LED lighting technology, further
enhances our growth and diversification strategy and fits well with our other
specialty businesses in computing and memory. The purchase price for the LED
Business consisted of cash payments of $72.4 million, the issuance of an
unsecured promissory note issued in the amount of $125 million and the potential
for Cree to receive an earn-out payment of up to $125 million based on the
revenue and gross profit performance of the LED Business in the twelve-month
period ended in March 2022.



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COVID-19



The outbreak of coronavirus disease 2019 ("COVID-19") has resulted in
substantial loss of life, economic disruption and government intervention
worldwide. While we have not yet experienced significant disruptions of our
operations as a result of the COVID-19 pandemic, the pandemic resulted in
reduced sales volumes of certain product lines since early calendar 2020.
COVID-19 also disrupted our product development, marketing and corporate
development activities, and has more recently affected our supply chain. Our
recently acquired LED Business experienced similar impacts from the pandemic
from early in calendar 2020. If these conditions continue, or if we have an
outbreak in any of our facilities, sales volumes may be negatively impacted and
we may, among other issues, experience, in any or all product lines, delays in
product development, a decreased ability to support our customers, disruptions
in sales and manufacturing activities and overall reduced productivity each of
which could have a negative impact on our ability to meet customer commitments
and on our revenue and profitability. The reduction of investment in new
capacity due to the pandemic, coupled with strong demand to expand delivery and
logistics, internet and cloud services as well as a rebound in economic
conditions and general demand at a pace faster than expected, has resulted in
significant supply shortages that may impact our ability to manufacture products
for our customers and may result in rising prices of the materials we need to
manufacture our products. We may not be able to pass on these rising costs to
our customers which could result in a negative impact to our gross margins.
Furthermore, if there is a significant outbreak or if travel restrictions or
stay-at-home or work remote or from home conditions or other governmental or
voluntary restrictions relating to the COVID-19 pandemic significantly impact
our suppliers' ability to manufacture or deliver raw materials or provide key
components or services, we could experience more delays or reductions in our
ability to manufacture and ship products to our customers. While certain
segments of our customer base are experiencing strong demand, the pandemic may
negatively impact the demand for other segments for our customer base or those
customers' ability to manufacture their products, which could reduce their
demand for our products or services.



Factors affecting our operational performance



Our operating expenses have grown in recent periods as we drive innovation,
expand our products and services portfolio and invest in greater operational
capabilities to support our growth. Our total operating expenses grew in 2021,
primarily as a result of the addition of the LED Solutions business. We expect
to continue to see increased operating expenses in 2022 as we record a full year
of operating expenses for the LED Solutions business, continue to increase our
investment in new products and services for the IPS business and potentially
experience the phase-out of certain Brazil financial tax credits, which would
result in an increase in operating expense in Memory Solutions.



Macro-economic Demand Factors. Our business segments each have their own unique
set of demand factors. Demand in our Memory Solutions group is driven by
end-market demand from OEMs for customer-specific solutions in vertical markets
such as industrial, government, networking, high-performance compute and
enterprise storage, as well as from OEMs for memory modules used in desktop and
notebook computers, smartphones, IoT and SSD products in Brazil. In addition,
macro-economic factors specific to the Brazil economy affect this segment, given
our sales and operations in that market. Our IPS business is driven by demand
for high compute solutions across AI and machine learning initiatives, as well
as traditional workload optimization and efficiency applications. Finally,
demand for our LED products is derived from targeted end-market applications,
such as general high-power and mid-power lighting and specialty lighting, such
as video and horticulture applications. We believe our diversified business
segments may provide a natural hedge against downturns in any particular
industry although broader macro-economic trends, such as the COVID-19 pandemic,
can adversely affect all three segments concurrently.



Shifts in the Mix of Our Revenue. Shifts in the mix of revenue from our
operating segments, which can vary significantly from period to period, can
impact our business and operating results, including gross and operating
margins. For example, our Memory Solutions group, while not party to long-term
fixed purchasing commitments, has nonetheless historically seen relatively
stable demand and margins. By contrast, our IPS group has shown solid growth,
but is subject to greater variability in its sales and margin profile from
period to period, as recognition of revenue is tied to customer decisions as to
the completion of delivery and system go-live events, and margin is driven by
the extent to which higher margin software and managed services comprise IPS
sales. In addition, while we have experienced favorable demand and overall
margin uplift compared to the rest of our businesses from our LED Solutions
group to date, this group is the newest segment of our business, and we may be
subject to unforeseen changes in its business and operating results. Our
resource commitments and planning for each segment are relatively fixed in the
short term and, as such, variability in expected revenue mix will have direct
implications for our operating income and margins.



Our Ability to Identify, Complete and Successfully Integrate Acquisitions. A
substantial portion of our growth over the last several years has been driven by
acquisitions, and we intend to continue to use corporate development as an
engine for growth. Within our existing segments, we plan to pursue acquisitions
to expand features and functionality, expand into adjacent businesses and grow
our customer base and geographic footprint. From time to time, we may seek to
expand our addressable market by



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entering new business segments where, as we did with our LED Business, we
identify a business opportunity at scale with a path to being accretive to our
overall operations in the near term. If we are unable to identify and complete
attractive acquisitions, we may not be successful in growing our revenue and/or
expanding our margins. Any acquisitions we do complete may require us to raise
debt or equity financing or may subject us to unforeseen liabilities or
operational challenges that in turn impede our ability to realize the expected
returns on our investment.



Disruptions in Our Supply Chain May Adversely Affect Our Businesses. We depend
on third-party suppliers for key components of our products, such as commodity
DRAM components from offshore foundries that we use in our specialty memory
products and third-party wafers that we use in our memory and LED businesses. We
have adopted this "fab-lite" business model to reduce our capital expenditures
and operating expenses, while affording greater flexibility in adapting to
shifts in demand and other market trends. In recent periods, our fab-lite
business model has contributed significantly to margin expansion in our overall
business. However, our reliance on third-party manufacturers exposes us to risk
of supply chain disruption and lost business. For example, the current global
semiconductor shortage has adversely affected our operating results. If such
disruptions worsen or are prolonged, or if there is meaningful disruption in our
supply arrangement with any of our third-party suppliers, our operating results
and financial condition could be adversely affected.



Results of Operations



                                         November 26,       % of net        November 27,       % of net
Three months ended                           2021           sales (1)           2020           sales (1)

Net sales:
Memory Solutions                        $      239,401            50.9 %   $      225,823            77.4 %
Intelligent Platform Solutions                 118,654            25.2 %           65,874            22.6 %
LED Solutions                                  111,889            23.8 %                -               -
Total net sales                                469,944           100.0 %          291,697           100.0 %
Cost of sales                                  347,743            74.0 %          239,053            82.0 %
Gross profit                                   122,201            26.0 %           52,644            18.0 %

Operating expenses:
Research and development                        17,657             3.8 %            6,964             2.4 %
Selling, general and administrative             52,550            11.2 %           38,056            13.0 %
Change in fair value of contingent
consideration                                   17,200             3.7 %                -               -
Total operating expenses                        87,407            18.6 %           45,020            15.4 %
Operating income                                34,794             7.4 %            7,624             2.6 %

Non-operating (income) expense:
Interest expense, net                            5,106             1.1 %            3,154             1.1 %
Other non-operating (income) expense             1,235             0.3 %             (832 )          (0.3 )%
Total non-operating (income) expense             6,341             1.3 %            2,322             0.8 %
Income before taxes                             28,453             6.1 %            5,302             1.8 %

Income tax provision                             7,755             1.7 %            3,275             1.1 %
Net income                                      20,698             4.4 %            2,027             0.7 %
Net income attributable to
noncontrolling interest                            671             0.1 %                -               -
Net income attributable to SGH          $       20,027             4.3 %   $        2,027             0.7 %


(1) Summaries of percentages may not be calculated accurately due to rounding.

Net sales, Cost of sales and gross profit



Net sales increased by $178.2 million, or 61.1 %, in the first quarter of 2022
compared to same period in the prior year, primarily due to $111.9 million of
revenue in the first quarter of 2022 from our recent acquisition of the LED
Business and to strong performance in our IPS and Memory Solutions businesses.
IPS net sales increased by $52.8 million, or 80.1%, primarily due to higher
volumes of sales in our Penguin Computing business. Memory Solutions sales
increased by $13.6 million, or 6.0%, primarily due to a 13.5% higher volume of
DRAM products and a 34.0% increase in average selling prices for Brazil DRAM
products.





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Cost of sales increased by $108.7 million, or 45.5%, in the first quarter of
2022 compared to the same period in the prior year, primarily due to our
acquisition of the LED Business and from higher cost of materials and production
costs due to a higher level of sales for our IPS and Memory Solutions segments.



Gross profit margin increased to 26.0% in the first quarter of 2022 compared to
18.0% in the first quarter of 2021 primarily due to inclusion of higher margin
LED Solutions products in 2022 as well as process and efficiency improvement in
the Memory Solutions and IPS segments compared to the prior year.



Segment Operating Income



Three months ended                                   November 26, 2021         November 27, 2020

Segment operating income: (1)
Memory Solutions                                   $     36,670     15.3 %   $      20,861     9.2 %
Intelligent Platform Solutions                           14,180     12.0 %           2,881     4.4 %
LED Solutions                                            18,300     16.4 %               -       -
Total segment operating income                           69,150     14.7 %  

23,742 8.1%

Unallocated:

Share-based compensation expense                         (9,775 )                  (11,088 )
Amortization of acquisition-related intangibles          (6,343 )                   (3,413 )
Change in fair value of contingent consideration        (17,200 )                        -
Other                                                    (1,038 )                   (1,617 )
Total unallocated                                       (34,356 )                  (16,118 )
Consolidated operating income                      $     34,794              $       7,624

(1) The percentages represent segment operating income as a percentage of segment net income

    sales.




In the fourth quarter of 2021, we reorganized SGH into three business units:
Memory Solutions, Intelligent Platforms Solutions and LED Solutions. Two of our
previous segments, specialty memory products and Brazil products, have been
combined to become Memory Solutions. Intelligent Platform Solutions was formerly
referred to as specialty compute and storage solutions. All prior year
information in the table above has been revised to reflect the change to our
three reportable segments.



Memory Solutions operating income increased by $15.8 million, or 75.8%, in the
first quarter of 2022 compared to the same period in the prior year, primarily
due to higher sales and gross profit, partially offset by higher operating
expenses mainly driven by higher research and development expense due to less
Brazil financial credits.



IPS operating income increased by $11.3 million, or 392.2%, in the first quarter
of 2022 compared to same period in the prior year, primarily due to higher sales
and gross profit, partially offset by higher operating expenses mainly driven by
personnel-related expenses due to increased headcount to support the revenue
growth.


LED Solutions operating result of $ 18.3 million in the first quarter of 2022 was due to our acquisition of the LED business in March 2021.

Operating and non-operating expenses (income)


Research and Development



Research and development expense increased by $10.7 million, or 153.5%, in the
first quarter of 2022 compared to the same period in the prior year, primarily
due to additional costs from the acquisition of the LED Business as well as
lower Brazil financial credits. We expect research and development expense to
increase in absolute dollars in 2022 as compared to 2021 primarily because we
will include the full year of operations for our LED Solutions segment and may
include the effects of the termination of certain Brazil financial credits,
currently scheduled to occur in January 2022.



Selling, general and administrative expenses



Selling, general and administrative expense increased by $14.5 million, or
38.1%, in the first quarter of 2022 compared to the same period in the prior
year, primarily due to additional costs from the acquisition of the LED Business
as well as higher personnel-



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related expenses due to increased headcount, professional services and
acquisition expenses associated with the acquisition. We expect selling, general
and administrative expense to increase in absolute dollars in 2022 as we include
the full year of operations for our LED Solutions segment.



Change in the fair value of the contingent consideration



Our acquisition of the LED Business included contingent consideration, which we
estimated the fair value as of the date of acquisition to be $28.1 million.
During the first quarter of 2022, we recorded a charge of $17.2 million to
adjust the amount of contingent consideration to its fair value as of November
26, 2021. See "PART I. Financial Information - Item 1. Financial Statements -
Notes to Consolidated Financial Statements - Business Acquisition - LED
Business."



Other non-operating expenses (income)



Other non-operating (income) expense in the first quarters of 2022 and 2021
primarily reflected foreign currency (gains) and losses relate primarily to our
Brazil operating subsidiaries, as well as higher interest expense mainly due to
the seller note from the LED acquisition.



Income Tax Provision


Our provision for income taxes increased by $ 4.5 million in the first quarter of 2022 compared to the same period of the previous year, mainly due to higher incomes in non-we jurisdictions subject to tax.

Liquidity and capital resources



At November 26, 2021, we had cash and cash equivalents of $233.1 million, of
which $181.3 million was held outside of the United States. Our principal uses
of cash and capital resources have been acquisitions, debt service requirements
as described below, capital expenditures, research and development expenditures
and working capital requirements. We expect that future capital expenditures
will focus on expanding capacity of our operations, expanding our research and
development activities, manufacturing equipment upgrades, acquisitions and IT
infrastructure and software upgrades. Cash and cash equivalents consist of funds
held in demand deposit accounts and money market funds. We do not enter into
investments for trading or speculative purposes.



We expect that our existing cash and cash equivalents, borrowings available
under our credit facilities and cash generated by operating activities will be
sufficient to fund our operations for at least the next twelve months. We may
from time to time seek additional equity or debt financing. Any future equity
financing may be dilutive to our existing investors, and any future debt
financing may include debt service requirements and financial and other
restrictive covenants that may constrain our operations and growth strategies.
In the event that we seek additional financing, we may not be able to raise such
financing on terms acceptable to us or at all. If we are unable to raise
additional capital or generate cash flows necessary to expand our operations and
invest in continued product innovation, we may not be able to compete
successfully, which would harm our business, operations and financial condition.



In February 2020, we issued $250.0 million in aggregate principal amount of
2.25% convertible senior notes due 2026 (the "2026 Notes"). The initial
conversion rate of the 2026 Notes is 24.6252 ordinary shares per $1,000
principal amount of notes, which represents an initial conversion price of
approximately $40.61 per ordinary share. The closing price of our ordinary
shares exceeded 130% of the conversion price for our 2026 Notes for at least 20
trading days in the 30 consecutive trading days ended on November 26, 2021. As a
result, the 2026 Notes are convertible by holders through February 25, 2022.



For information regarding our debt obligations, see "PART I. Financial
Information - Item 1. Financial Statements - Notes to Consolidated Financial
Statements - Debt." For our operating lease obligations, see "PART I. Financial
Information - Item 1. Financial Statements - Notes to Consolidated Financial
Statements - Leases." For our purchase obligations, see "PART I. Financial
Information - Item 1. Financial Statements - Notes to Consolidated Financial
Statements - Commitments and Contingencies."





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Cash Flows



                                                         November 26,       November 27,
Three months ended                                           2021               2020

Net cash provided by operating activities               $       15,146     $       35,569
Net cash used for investing activities                         (13,377 )          (14,628 )
Net cash provided by (used for) financing activities            12,363               (378 )
Effect of changes in currency exchange rates                    (4,068 )           (7,277 )
Net increase in cash and cash equivalents               $       10,064     $       13,286




Operating Activities: Cash flows from operating activities reflects net income
adjusted for certain non-cash items, including depreciation and amortization
expense, share-based compensation, adjustments for changes in the fair value of
contingent consideration, gains and losses from investing or financing
activities and from the effects of changes in operating assets and liabilities.



Net cash provided by operating activities in the three months ended November 26,
2021 was $15.1 million, comprised primarily of net income of $20.7 million,
adjusted for non-cash items of $47.5 million. Operating cash flows were also
affected by a $53.1 million decrease in our net operating assets and
liabilities, consisting primarily of an increase of $36.1 million in accounts
receivable and a decrease of $53.8 million in accounts payable and accrued
expenses, offset by a decrease of $39.6 million in inventories. The decrease in
both inventories and accounts payable and accrued expenses was primarily due to
lower inventory primarily in our Memory Solutions and IPS segments, and the
increase in accounts receivable was primarily due to higher gross sales in the
same segments.



Net cash provided by operating activities in the three months ended November 27,
2020 was $35.6 million, comprised primarily of net income of $2.0 million,
adjusted for non-cash items of $23.3 million. Operating cash flows were also
affected by a $10.3 million increase in our net operating assets and
liabilities, consisting primarily of a decrease of $12.9 million in inventories
and an increase of $10.1 million in accounts payable and accrued expenses,
partially offset by an increase of $9.3 million in other current assets.



Investing Activities: Net cash used in investing activities in the first quarter
of 2022 was $13.4 million, consisting primarily of purchases of property and
equipment. Net cash used in investing activities during the three months ended
November 27, 2020 was $14.6 million consisting primarily of purchases of
property and equipment and deposits.



Financing Activities: Net cash provided by financing activities in the first
quarter of 2022 was $12.4 million, consisting primarily of $10.0 million in net
proceeds from borrowing under our line of credit, $5.0 million in proceeds from
issuance of ordinary shares from our equity plans, partially offset by $2.7
million for the repurchase of ordinary shares. Net cash used for financing
activities in the first quarter of 2021 was $0.4 million, consisting primarily
of $3.5 million for the repurchase of ordinary shares, partially offset by $3.1
million in proceeds from issuance of ordinary shares from our equity plans.



Critical Accounting Estimates



The preparation of financial statements and related disclosures in conformity
with accounting principles generally accepted in the United States of America
requires management to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues, expenses and related disclosures.
Estimates and judgments are based on historical experience, forecasted events
and various other assumptions that we believe to be reasonable under the
circumstances. We evaluate our estimates and judgments on an ongoing basis. Our
management believes the accounting policies below are critical in the portrayal
of our financial condition and results of operations and require management's
most difficult, subjective or complex judgments.



There have been no material changes to our critical accounting estimates from
those described in "PART II. Other Information - Item 7. Management's Discussion
and Analysis of Financial Condition and Results of Operations - Critical
Accounting Estimates" in our Annual Report on Form 10-K for the year ended
August 27, 2021.







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