Corsair Gaming, Inc. (CRSR) FY 2022 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
You should read the following discussion of our financial condition and results of operations in conjunction with the consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. The following discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from such forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Annual Report on Form 10-K, particularly in the section Item 1A, “Risk Factors” and below in Item 7A, “Quantitative and Qualitative Disclosures about Market Risk”.
Overview
We are a leading global provider and innovator of high-performance gear for gamers, streamers and content creators, many of which build their own PCs using our components. Our industry-leading gaming gear helps digital athletes, from casual gamers to committed professionals, perform at their peak across PC or console platforms, and streaming gear that enables streamers and content creators to produce studio-quality content to share with friends or to broadcast to millions of fans. Our PC components products offer our customers multiple options to build their customized gaming and workstation desktop PCs. Our solution is the most complete suite of gear that addresses the most critical components for both game performance and streaming. Our product offering is enhanced by our two proprietary software platforms: iCUE for gamers and the Elgato streaming suite for content creators, including our Stream Deck control software, which provide unified, intuitive performance, and aesthetic control and customization across their respective product families. We also offer digital services to enhance the customer experience by integrating esports, coaching, stream deck marketplace, customer care and extended warranty into our product offerings.
We group our products into two categories (operating segments):
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | Gamer and creator peripherals. Includes our high-performance gaming keyboards, mice, headsets, controllers, and streaming gear, which includes capture cards, Stream Decks, USB microphones, our Facecam streaming camera, studio accessories, and EpocCam software, as well as coaching and training services, among others. |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | Gaming components and systems. Includes our high-performance power supply units, or PSUs, cooling solutions, computer cases, and DRAM modules, as well as high-end prebuilt and custom-built gaming PCs and laptops, and gaming monitors, among others. |
We are committed to continuing to grow in our current markets as well as new markets by leading in the development of innovative technologies and by entering into new categories through organic growth or acquisition. In the last two years, we have entered into four new markets, namely the microphones and cameras markets for content creators, the gaming monitors market and prebuilt gaming laptops market for both gamers and content creators. We continue to expand our product portfolio and in 2022, we launched 125 new products. Our go-to-market model has continued to grow with an increased mix of direct-to-consumer sales representing 13.7%, 10.7%, and 8.6% of total our net revenue for the years ended December 31, 2022, 2021 and 2020, respectively. Since 2018, we have completed eight acquisitions, including our acquisition of 51% of the share capital of Elgato iDisplay Holding LTD. and its related companies (collectively, “iDisplay”), a leader in electronic development and design specializing in display technology, in January 2022. The iDisplay acquisition allows us to direct the development and integration of iDisplay’s display-based touch-screen technologies into our products for creators, gamers and streamers. iDisplay’s results of operations are fully consolidated with Corsair with effect from January 1, 2022.
Our net revenue was $1,375.1 million, $1,904.1 million, and $1,702.4 million for the years ended December 31, 2022, 2021, and 2020, respectively. We had net income (loss) of $ (54.4) million, $101.0 million, and $103.2 million for the years ended December 31, 2022, 2021, and 2020, respectively. Net cash provided by operating activities was $66.4 million, $20.2 million, and $169.0 million for the years ended December 31, 2022, 2021, and 2020, respectively.
In the fourth quarter of 2022, we issued 5,045,455 shares of common stock at a price of $16.50 per share in a registered underwritten public offering pursuant to our effective shelf registration statement on Form S-3, filed with the SEC on July 22, 2022 and declared effective on August 1, 2022 (“2022 Shelf Registration Statement”). We received total net proceeds of approximately $81.0 million, after deducting underwriting discounts, commission and offering expense.
Further information on our industry, our market opportunity and competitive strengths is presented in Part I, Item 1, “Business” of this Annual Report on Form 10-K.
Key Factors Affecting Our Business
Our results of operations and financial condition are affected by numerous factors, including those discussed in the section titled “Risk Factors” in Part I, Item 1A of this Annual Report on Form 10-K and those described below.
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Impact of Macroeconomic Conditions. Our business and financial performance are significantly impacted by worldwide economic conditions. Global macroeconomic challenges, such as the effects of the ongoing war between Russia and Ukraine, the COVID-19 pandemic, supply chain constraints, market uncertainty, volatility in exchange rates, inflationary trends and evolving dynamics in the global trade environment, have impacted our business and financial performance. Throughout 2022, these conditions adversely impacted our net revenue and resulted in higher cost of sales due to increased shipping and production costs. Such conditions also resulted in excess inventory in our distribution channels that led to us recognizing higher inventory impairment related charges in 2022 in order to rationalize our inventory levels to align with the reduced revenue in the period. These market dynamics, which we expect will continue in the short-term, have created new and different demand dynamics in our markets and have had significant impacts on our financial results.
Starting in early 2020, due to the COVID-19 pandemic, we experienced an increase in demand for our gear as more people were under shelter-in-place restrictions, which limited people’s access to alternative forms of entertainment and social interaction, and thus increased the demand for home entertainment and connecting with others through content creation. In contrast, as shelter-in-place and other similar restrictions were eased beginning in 2021, many consumers returned to other alternative forms of entertainment and interaction. This in turn resulted in a decline in demand for our products since the second half of 2021.
In February 2022, Russia invaded Ukraine resulting in, among other things, broad economic sanctions being imposed on Russia, which has further increased existing global supply chain, logistics, and inflationary challenges. Although our business in Russia and Ukraine was not material to our results, we believe the war has degraded the consumer sentiment in Europe and coupled with the unexpected worldwide inflationary pressures and the negative impacts from the strengthening of the U.S. dollar, has dampened consumer spending, which contributed in part to the decrease in our net revenue in 2022, compared to 2021.
We have experienced and may in the future continue to experience supply chain challenges, including longer production and shipping times, and increased shipping and logistics costs, each of which has negatively impacted our gross margins, as well as the need to purchase long-lead time items ahead of demand due to supply constraints.
In addition, we are exposed to fluctuations in foreign currency exchange rates. Some of our international sales are denominated in foreign currencies and any unfavorable movement in the exchange rate between U.S. dollars and the currencies in which we conduct sales in foreign countries may negatively impact our revenue. For example, our net revenue for the year ended December 31, 2022 was in part negatively impacted by the strengthening of the U.S. dollar against the Euro and the British Pound. In addition, we generally pay our employees located outside the United States in the local currency, with a significant portion of those payments being made in Taiwan dollars and Euros, and such expenses were positively impacted in 2022 by the strengthening of the U.S. dollar against these currencies. As a result of our foreign sales and operations, we have other expenses, assets and liabilities that are denominated in foreign currencies, in particular the Chinese Yuan, Euro and British Pound.
The extent of the impact of macroeconomic conditions, the COVID-19 pandemic, and geopolitical tensions on our business, sales, results of operations, cash flows and financial condition will depend on future developments, which are not within our control and are highly uncertain and cannot be predicted. We will continue to evaluate these risks and uncertainties and further our mitigation plans.
Impact of Industry Trends. Our results of operations and financial condition are impacted by industry trends in the gaming market, including:
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | Increasing gaming engagement. We believe that gaming’s increasing time share of global entertainment consumption will drive continued growth in spending on both games and gaming gear. Gaming continues to become increasingly social and streaming viewership is more widely adopted along with increasing numbers of content creators. This trend, which has accelerated in the past few years experienced a setback in 2022 primarily due to challenging macroeconomic conditions and the ongoing war between Russia and Ukraine. Nonetheless, we have seen some recovery in the fourth quarter of 2022. Accordingly, we believe that the acceleration trend will resume in 2023 and that we are well positioned to serve the streaming market with best-in-class tools for content creation. |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| • | Introduction of new high-performance computing hardware and sophisticated games. We believe that the introduction of more powerful CPUs and GPUs that place increased demands on other system components, such as memory, power supply or cooling, has a significant effect on increasing the demand for our gear. The shortage of reasonably priced GPUs since the second half of 2021 had a negative impact to our gaming component revenue. Starting from the third quarter of 2022, we saw the availability of reasonably priced GPUs begin to normalize and bring along some positive effects to the market. In addition, we believe that our business success depends in part on the introduction and success of games with sophisticated graphics that place increasing demands on system processing speed and capacity and therefore require more powerful CPUs or GPUs, which in turn drives demand for our high-performance gaming components and systems, such as PSUs and cooling solutions, and our gaming PC memory. As a result, our operating results may be materially affected |
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| Column 1 | Column 2 | Column 3 |
|---|---|---|
| by the timing of, and the rate at which computer hardware companies introduce, new and enhanced CPUs and GPUs, the timing of, and rate at which computer game companies and developers introduce, sophisticated new and improved games that require increasingly high levels of system and graphics processing power, and whether these new products and games are widely accepted by gamers. |
Impact of Product Mix. Our gamer and creator peripherals segment has a higher gross margin than our gaming components and systems segment. As a result, our overall gross margin is affected by changes in product mix. External factors can have an impact on our product mix, such as popular game releases that can increase sales of peripherals and availability of new CPUs and GPUs that can impact component sales. In addition, within our gamer and creator peripherals and gaming components and systems segments, gross margin varies between products, and significant shifts in product mix within either segment may also significantly impact our overall gross margin.
Impact of Customer Concentration. We operate a global sales network that consists primarily of retailers (including e-retailers), as well as distributors we use to access certain retailers. Further, a limited number of retailers and distributors represent a significant portion of our net revenue, with e-retailer Amazon accounting for 26.0%, 26.7%, and 24.6% of our net revenue for 2022, 2021, and 2020, respectively, and sales to our ten largest customers accounting for approximately 52.3%, 51.7%, and 52.7% of our net revenue for the same periods, respectively. Our customers typically do not enter into long-term agreements to purchase our gear but instead enter into purchase orders with us. As a result of this concentration and the lack of long-term agreements with our customers, a primary driver of our net revenue and operating performance is maintaining good relationships with these retailers and distributors. To help maintain good relationships, we implement initiatives such as our updated packaging design which helps e-retailers such as Amazon process our packages more efficiently. Further, given our global operations, a significant percentage of our expenses relate to shipping costs. Our ability to effectively optimize these shipping expenses, for example utilizing expensive shipping options such as air freight for smaller packages and more urgent deliveries and more cost-efficient options, such as train or boat, for other shipments, has an impact on our expenses and results of operations.
Impact of New Product Introductions. Gamers demand new technology and product features, and we expect our ability to accurately anticipate and meet these demands will be one of the main drivers for any future sales growth and market share expansion. We believe our net revenue was favorably impacted by the release of 125 new products in 2022. While we intend to continue to develop and release new products, there can be no assurance that our new product introductions will have a favorable impact on our operating results or that customers will choose our new gear over those of our competitors.
Impact of Seasonal Sales Trends. We have experienced and expect to continue to experience seasonal fluctuations in sales due to the buying patterns of our customers and spending patterns of gamers. Our net revenue has generally been lower in the first and second calendar quarters due to lower consumer demand following the fourth quarter holiday season and because of the decline in sales that typically occurs in anticipation of the introduction of new or enhanced CPUs, GPUs, and other computer hardware products, which usually take place in the second calendar quarter, and which tend to drive sales in the following two quarters. Further, our net revenue tends to be higher in the third and fourth calendar quarters due to seasonal sales such as “Black Friday” and “Cyber Monday” as well as “Singles Day” in China, as retailers tend to make purchases in advance of these sales. Our sales also tend to be higher in the fourth quarter due to the introduction of new consoles and high-profile games in connection with the holiday season. As a consequence of seasonality, our net revenue for the second calendar quarter is generally the lowest of the year followed by the first calendar quarter. Historical seasonal patterns may not continue in the future and have been impacted, most recently in 2020 and 2021, and may be further impacted in the future, by supply constraints, GPU shortages, shifts in customer behavior and the continuing impacts of the COVID-19 pandemic.
Impact of Fluctuations in Integrated Circuits Pricing. Integrated circuits, or ICs, account for most of the cost of producing our high-performance memory products. IC prices are subject to pricing fluctuations which can affect the average sales prices of memory modules, and thus impact our net revenue, and can have an effect on gross margins. The impact on net revenues can be significant as our high-performance memory products, included within our gaming components and systems segment, represent a significant portion of our net revenue.
Components of our Operating Results
Net Revenue
We generate materially all of our net revenue from the sale of gamer and creator peripherals and gaming components and systems to retailers, including online retailers, gamers and distributors worldwide. Our revenue is recognized net of allowances for returns, discounts, sales incentives and any taxes collected from customers.
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Cost of Revenue
Cost of revenue consists of product costs, including costs of contract manufacturers, inbound freight costs from manufacturers to our distribution hubs as well as inter-hub shipments, cost of materials and overhead, duties and tariffs, warranty replacement cost to process and rework returned items, depreciation of tooling equipment, warehousing costs, excess and obsolete inventory write-downs, and certain allocated costs related to facilities and information technology, or IT, and personnel-related expenses and other operating expenses related to supply chain logistics.
Operating Expenses
Operating expenses consist of sales, general and administrative expenses and product development expenses.
Sales, general and administrative. Sales, general and administrative, or SG&A expenses represent the largest component of our operating expenses and consist of distribution costs, sales, marketing and other general and administrative costs. Distribution costs include outbound freight and the costs to operate our distribution hubs. Sales and marketing costs relate to the costs to operate our global sales force that works in conjunction with our channel partners, gaming team and event sponsorships, advertising and marketing promotions of our products and services, costs of maintaining our web store and credit card processing fees related to sales on our webstore, personnel-related cost and allocated overhead costs. General and administrative costs consist primarily of personnel-related expenses for our finance, legal, human resources, IT and administrative personnel, as well as the costs of professional services related to these functions and allocated overhead costs.
Product development. Product development costs are generally expensed as incurred. Product development costs consist primarily of the costs associated with the design and testing of new products and improvements to existing products. These costs relate primarily to compensation of personnel and consultants involved with product design, definition, compatibility testing and qualification, as well as depreciation costs of equipment used, prototype material costs and allocated overhead costs.
Interest Expense, Net
Interest expense, net consists of interest associated with our debt financing arrangements, including our revolving line of credit, amortization of debt issuance costs and debt discounts, loss from debt extinguishment, consisting of the write-off of unamortized debt discount and fees associated with the prepayment of our term loans, and the change in fair value of our interest rate cap contracts. Interest income earned on our cash and cash equivalents balance are included within interest expense, net as an offset to interest expense.
Other (Expense) Income, Net
Other (expense) income, net consists primarily of our foreign currency exchange gains and losses relating to transactions and remeasurement of asset and liability balances denominated in foreign currencies, net fair value gains and losses from our foreign currency forward contracts and impairment loss on available-for-sale security.
Income Tax (Expense) Benefit
We are subject to income taxes in the United States and foreign jurisdictions in which we do business. These foreign jurisdictions have statutory tax rates different from those in the United States. Accordingly, our effective tax rates will vary depending on the relative proportion of foreign to United States income, the utilization of foreign tax credits and changes in tax laws. Deferred tax assets are reduced through the establishment of a valuation allowance, if, based upon available evidence, it is determined that it is more likely than not that the deferred tax assets will not be realized.
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the tax and financial reporting bases of our assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in future years in which those temporary differences are expected to be recovered or settled.
Net Income Attributable to Noncontrolling Interest
Net income attributable to noncontrolling interest represents the share of the net income of iDisplay attributable to the 49% ownership interest of iDisplay we did not acquire.
Results of Operations
In this section, we discuss the results of our operations for the year ended December 31, 2022, compared to the year ended December 31, 2021. For a discussion of the year ended December 31, 2021 compared to the year ended December 31, 2020, please
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refer to Part II, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K filed with the SEC on March 1, 2022.
The following tables set forth the components of our consolidated statements of operations, in dollars and as a percentage of total net revenue, for each of the periods presented.
| Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| (in thousands) | ||||||||
| Net revenue | $ | 1,375,098 | $ | 1,904,060 | ||||
| Cost of revenue | 1,078,466 | 1,390,206 | ||||||
| Gross profit | 296,632 | 513,854 | ||||||
| Operating expenses: | ||||||||
| Sales, general and administrative | 284,932 | 315,672 | ||||||
| Product development | 66,493 | 60,288 | ||||||
| Total operating expenses | 351,425 | 375,960 | ||||||
| Operating income (loss) | (54,793 | ) | 137,894 | |||||
| Other (expense) income: | ||||||||
| Interest expense, net | (9,186 | ) | (17,673 | ) | ||||
| Other (expense) income, net | 213 | (5,661 | ) | |||||
| Total other expense, net | (8,973 | ) | (23,334 | ) | ||||
| Income (loss) before income taxes | (63,766 | ) | 114,560 | |||||
| Income tax benefit (expense) | 9,820 | (13,600 | ) | |||||
| Net income (loss) | (53,946 | ) | 100,960 | |||||
| Less: Net income attributable to noncontrolling interest | 442 | — | ||||||
| Net income (loss) attributable to Corsair Gaming, Inc. | $ | (54,388 | ) | $ | 100,960 |
| Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| Net revenue | 100.0 | % | 100.0 | % | ||||
| Cost of revenue | 78.4 | 73.0 | ||||||
| Gross profit | 21.6 | 27.0 | ||||||
| Operating expenses: | ||||||||
| Sales, general and administrative | 20.7 | 16.6 | ||||||
| Product development | 4.8 | 3.2 | ||||||
| Total operating expenses | 25.5 | 19.7 | ||||||
| Operating income | (3.9 | ) | 7.2 | |||||
| Other (expense) income: | ||||||||
| Interest expense, net | (0.7 | ) | (0.9 | ) | ||||
| Other (expense) income, net | 0.0 | (0.3 | ) | |||||
| Total other expense, net | (0.7 | ) | (1.2 | ) | ||||
| Income (loss) before income taxes | (4.6 | ) | 6.0 | |||||
| Income tax benefit (expense) | 0.7 | (0.7 | ) | |||||
| Net income (loss) | (3.9 | ) | 5.3 | |||||
| Less: Net income attributable to noncontrolling interest | 0.0 | — | ||||||
| Net income (loss) attributable to Corsair Gaming, Inc. | (3.9 | )% | 5.3 | % |
Comparison of Years Ended December 31, 2022 and 2021
Net Revenue
| Year Ended December 31, | |||||||
|---|---|---|---|---|---|---|---|
| 2022 | 2021 | ||||||
| (in thousands) | |||||||
| Net revenue | $ | 1,375,098 | $ | 1,904,060 |
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Net revenue decreased $529.0 million, or 27.8%, in 2022 as compared to 2021. The decrease was primarily due to deteriorated macroeconomic conditions in 2022, including the adverse impacts from the war between Russia and Ukraine, inflationary trends and volatility in exchange rates, which resulted in a decline in the demand for most of our products, particularly in the Europe and Middle East Region. The decrease in 2022 net revenue was also in part due to a slow-down in demand as a result of more entertainment options becoming available due to the easing of the COVID-19 shelter-in-place restrictions, starting in the second half of 2021.
Gross Profit and Gross Margin
| Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| (in thousands, except percentages) | ||||||||
| Gross profit | $ | 296,632 | $ | 513,854 | ||||
| Gross margin | 21.6 | % | 27.0 | % |
Gross margin decreased to 21.6% in 2022 from 27.0% in 2021. This decrease was primarily attributable to an unfavorable shift towards a higher mix of net revenue from our lower margin gaming components and systems segment, an increase in inventory impairment and related charges in 2022 due to the inventory rationalization plan to align our inventory balance with the revenue level in 2022, increased promotional activity and logistics costs and increased amortization of intangible assets from the iDisplay acquisition.
Sales, General and Administrative (SG&A)
| Year Ended December 31, | |||||||
|---|---|---|---|---|---|---|---|
| 2022 | 2021 | ||||||
| (in thousands) | |||||||
| Sales, general and administrative | $ | 284,932 | $ | 315,672 |
SG&A expenses decreased $30.7 million, or 9.7%, in 2022 as compared to 2021. The decrease was primarily due to an $18.6 million decrease in distribution costs, including outbound freight costs, that was primarily driven by decreased sales volume, a $4.2 million decrease in personnel-related costs mainly due to lower bonus expense, and a $6.7 million decrease in marketing and advertising expenses.
Product Development
| Year Ended December 31, | |||||||
|---|---|---|---|---|---|---|---|
| 2022 | 2021 | ||||||
| (in thousands) | |||||||
| Product development | $ | 66,493 | $ | 60,288 |
Product development expenses increased $6.2 million, or 10.3%, in 2022 as compared to 2021. The increase was primarily due to a $3.8 million increase in amortization of intangible assets acquired in the iDisplay acquisition and a $1.9 million increase in allocation of facility-related costs and corporate IT-related costs.
Interest Expense, Net and Other (Expense) Income, Net
| Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| (in thousands) | ||||||||
| Interest expense, net | $ | (9,186 | ) | $ | (17,673 | ) | ||
| Other (expense) income, net | 213 | (5,661 | ) |
Interest expense, net decreased $8.5 million, or 48.0%, in 2022 as compared to 2021. The decrease in interest expense, net was primarily due to a lower principal balance on our Term Loan (defined below) executed in September 2021 which replaced our First Lien Term Loan (defined below) and lower average interest rate in 2022 compared to 2021. In addition, interest expense, net decreased in 2022 as compared to 2021 due to a $4.9 million loss on debt extinguishment in 2021, whereas there was no such loss in 2022.
Other (expense) income, net relates primarily to the gains and losses resulting from the impact of foreign exchange rate changes on our cash, accounts receivable and intercompany balances denominated in currencies other than the functional currencies in our subsidiaries, as well as the net fair value gain and loss related to our foreign currency forward contracts. Our foreign currency exposure is primarily driven by fluctuations in the foreign currency exchanges rates of the Euro, British Pound and the Chinese Yuan.
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The change in other income (expense), net in 2022 as compared to 2021 was primarily due to the impact from the strengthening of the U.S. dollar against the Euro, British Pound and the Chinese Yuan, which was offset partially by the impairment loss incurred in 2022 on our available-for-sale security.
Income Tax (Expense) Benefit
| Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| (in thousands, except percentages) | ||||||||
| Income (Loss) Before Income Taxes | $ | (63,766 | ) | $ | 114,560 | |||
| Income Tax (Expense) Benefit | 9,820 | (13,600 | ) | |||||
| Effective Tax Rate | 15.4 | % | 11.9 | % |
We are subject to income taxes in the United States and foreign jurisdictions in which we do business. These foreign jurisdictions have statutory tax rates different from those in the United States. Accordingly, our effective tax rates will vary depending on the relative proportion of foreign to United States income, the utilization of net operating loss and tax credit carry forwards, changes in geographic mix of income and expense, and changes in management’s assessment of matters such as the ability to realize deferred tax assets, and changes in tax laws.
Our effective tax rates were tax benefit of 15.4% and tax expense of 11.9% for 2022 and 2021, respectively. The change in effective tax rate for 2022 as compared to 2021 was primarily due to a decrease in tax benefit recorded in 2022 related to excess tax benefits from stock-based compensation because of a lower volume of options exercised by employees due to the decline in our stock price in 2022, a change in the mix of income and losses in the various tax jurisdictions in which we operate, and the release of valuation allowance against California deferred tax assets in 2021.
Segment Results
Segment Net Revenue
The following table sets forth our net revenue by segment expressed both in dollars (thousands) and as a percentage of net revenue:
| Year Ended December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||||||||||
| Gamer and Creator Peripherals Segment | $ | 437,817 | 31.8 | % | $ | 647,202 | 34.0 | % | ||||||||
| Gaming Components and Systems Segment | ||||||||||||||||
| Memory Products | 504,589 | 36.7 | 612,964 | 32.2 | ||||||||||||
| Other Component Products | 432,692 | 31.5 | 643,894 | 33.8 | ||||||||||||
| 937,281 | 68.2 | 1,256,858 | 66.0 | |||||||||||||
| Total Net Revenue | $ | 1,375,098 | 100.0 | % | $ | 1,904,060 | 100.0 | % |
Gamer and Creator Peripherals Segment
Net revenue of the gamer and creator peripherals segment decreased $209.4 million, or 32.4%, in 2022 as compared to 2021. The decrease was primarily due to the decline in consumer demand in Europe due to the war between Russia and Ukraine, inflationary economic pressures and currency pressure from the strengthening of the U.S. dollar against the Euro and British Pound, causing some of our products to be more expensive in Europe. The decrease was also partly due to the easing of COVID-19 shelter-in-place restrictions resulting in more entertainment options becoming available, starting in the second half of 2021.
Gaming Components and Systems Segment
Net revenue of the gaming components and systems segment decreased $319.6 million, or 25.4%, in 2022 as compared to 2021. The decrease was primarily driven by the decline in consumer demand in Europe due to the war between Russia and Ukraine and inflationary economic pressures. In addition, the decrease in 2022 net revenue was also attributable to the shortage of reasonably priced GPUs which curtailed the demand for new PC builds and its components, as well as supply and logistics constraints caused by the COVID-19 pandemic. The availability of reasonably priced GPUs began to normalize in the third quarter of 2022 and together with the new technology platforms launched by Nvidia, AMD and Intel during such period, led to an increase in demand for our components and systems products in the second half of 2022.
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Segment Gross Profit and Gross Margin
The following table sets forth our gross profit expressed in dollars (thousands) and gross margin (which we define as gross profit as a percentage of net revenue) by segment:
| Year Ended December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||||||||||
| Gamer and Creator Peripherals Segment | $ | 125,079 | 28.6 | % | $ | 224,920 | 34.8 | % | ||||||||
| Gaming Components and Systems Segment | ||||||||||||||||
| Memory Products | 75,236 | 14.9 | 108,901 | 17.8 | ||||||||||||
| Other Component Products | 96,317 | 22.3 | 180,033 | 28.0 | ||||||||||||
| 171,553 | 18.3 | 288,934 | 23.0 | |||||||||||||
| Total Gross Profit | $ | 296,632 | 21.6 | % | $ | 513,854 | 27.0 | % |
Gamer and Creator Peripherals Segment
The gross margin of the gamer and creator peripherals segment decreased 6.2% in 2022 as compared to 2021, primarily attributable to an increase in inventory impairment and related charges in 2022 due to the inventory rationalization plan to align our inventory balance with our revenue in 2022, as well as increased logistics costs and promotional activity, and increased amortization of intangible assets from the iDisplay acquisition.
Gaming Components and Systems Segment
The gross margin of the gaming components and systems segment decreased 4.7% in 2022 as compared to 2021, primarily attributable to product mix, an increase in inventory impairment and related charges in 2022 due to the inventory rationalization plan to align our inventory balance with our revenue in 2022, as well as increased logistics costs and promotional activity.
As risks and uncertainties related to macroeconomic conditions and the COVID-19 pandemic continue to evolve, our revenue and gross margin for both segments may continue to be negatively impacted.
Liquidity and Capital Resources
Overview
Our principal sources of liquidity have been the payments received from customers purchasing our products, the borrowings under our Credit Agreement (defined below) and the net proceeds we received from our underwritten public offerings.
On September 29, 2022, one of our subsidiaries entered into an accounts receivable Factoring Agreement with a third-party financial institution, or the Factor. Pursuant to the terms of the arrangement, we sell certain of our customer receivables on a non-recourse basis to the Factor. Our obligations to the Factor, related to advances from the Factor, are secured by certain assets of our subsidiary. The cost of factoring is not expected to have a material effect to our overall liquidity, financial condition or results of operations.
Our principal uses of cash generally will include purchases of inventory, payroll and other operating expenses related to the development and marketing of our products, capital expenditure, repayments of debt and related interest, income tax payments, future investments in business and technology, and selective mergers and acquisitions.
As of December 31, 2022, we had cash and restricted cash, in aggregate of $154.1 million, including $15.6 million held by our foreign subsidiaries. Amounts held outside of the United States are generally utilized to support our non-U.S. liquidity needs. Repatriations of amounts held outside the United States generally will not be taxable from a U.S. federal tax perspective but may be subject to state income or foreign withholding tax. We do not expect restrictions or potential taxes incurred on repatriation of amounts held outside of the United States to have a material effect on our overall liquidity, financial condition or results of operations.
We believe that the anticipated cash flows from operations based on our current business outlook, combined with our current levels of cash balances at December 31, 2022, supplemented with the borrowings under our Revolving Credit Facility will be sufficient to fund our principal uses of cash for at least the next twelve months. In the longer term, liquidity will depend to a great extent on our future revenues and our ability to appropriately manage our costs based on the demand for our products. We may require additional funding and need or choose to raise the required funds through borrowings or public or private sales of debt or equity securities. The sale of additional equity would result in additional dilution to our stockholders. The incurrence of debt financing would result in debt service obligations and the instruments governing such debt could provide for operating and financial covenants that would restrict our operations. There can be no assurance that any such equity or debt financing will be available on favorable terms, or
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at all. Our liquidity is subject to various risks including the risks identified in the section titled “Risk Factors” in Item 1A and market risks identified in the section titled “Quantitative and Qualitative Disclosures about Market Risk” in Item 7A, each of which is incorporated herein by reference.
Liquidity
The following table summarizes our cash flows for the periods indicated (in thousands):
| Year Ended December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| Net cash provided by (used in): | ||||||||
| Operating activities | $ | 66,389 | $ | 20,192 | ||||
| Investing activities | (47,034 | ) | (20,541 | ) | ||||
| Financing activities | 72,609 | (65,404 | ) |
Cash Flows from Operating Activities
Net cash provided by operating activities for 2022 was $66.4 million and consisted of non-cash adjustments of $58.8 million and a net cash inflow of $61.5 million from changes in our net operating assets and liabilities, offset partially by a net loss of $53.9 million. The non-cash adjustments consisted primarily of amortization of intangibles and depreciation and stock-based compensation expense, which were partially offset by changes in deferred income taxes. The net cash inflow from changes in our net operating assets and liabilities was primarily related to a decrease in inventory purchases and decrease in account receivables. These cash inflows were partially offset by a decrease in accounts payable mainly due to timing of payments and purchases as well as a decrease in the accrual for sales returns, customer incentives, freight costs and bonus expenses.
Net cash provided by operating activities for 2021 was $20.2 million and consisted of net income of $101.0 million and non-cash adjustments of $60.0 million, offset partially by a net use of cash of $140.8 million from changes in our net operating assets and liabilities. The non-cash adjustments consisted primarily of amortization of intangibles and depreciation, stock-based compensation expense, loss on debt extinguishment and amortization of debt issuance costs, which were partially offset by changes in deferred income taxes. The net cash outflow from changes in our net operating assets and liabilities was primarily related to increases in inventory purchases and income tax prepayment for our Hong Kong subsidiary, as well as a decrease in accounts payable mainly due to timing of payments and purchases. These cash outflows were partially offset by increases in the accrual for sales returns and customer incentives, income tax payable and bonus accrual.
Cash Flows from Investing Activities
Cash used in investing activities was $47.0 million for 2022 and consisted of $26.3 million capital expenditure including renovation and furnishing of our new headquarters in Milpitas, California, as well as purchases of equipment and software, $19.5 million for the iDisplay acquisition (net of cash acquired), and $1.0 million for the investment in an available-for-sale convertible note.
Cash used in investing activities was $20.5 million for 2021 and consisted of $11.0 million for the purchase of capital equipment and software, $4.7 million for the payment of deferred and contingent consideration primarily related to the Origin business acquisition, and $4.8 million for acquisitions of immaterial businesses.
Cash Flows from Financing Activities
Net cash provided by financing activities was $72.6 million for 2022 and consisted primarily of $81.7 million net proceeds from the issuance of common stock in connection with our underwritten public offering in the fourth quarter of 2022 pursuant to the 2022 Shelf Registration Statement, and $7.0 million proceeds received from the issuance of shares through our employee equity incentive plans. These cash inflows were partially offset by $9.5 million repayment of debt and debt issuance costs, $4.3 million payment of dividends to noncontrolling interest, $1.5 million payment of taxes related to net share settlement of equity awards and $0.4 million for the payment of contingent consideration. During 2022, we also borrowed $701.5 million from our revolving credit facility to fund our operations, and the full amount was repaid in 2022.
Net cash used in financing activities was $65.4 million for 2021 and consisted primarily of $328.2 million repayments of debt and $0.4 million payment of taxes related to net share settlement of equity awards. These cash outflows were partially offset by $248.5 million net proceeds from our new Term Loan executed in September 2021 and $14.9 million proceeds received from the issuance of shares through our employee equity incentive plans. During 2021, we also borrowed $63.5 million from our revolving credit facility to fund our operations and the full amount was repaid in 2021.
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Capital Resources
Credit Agreement (Term Loan and Revolving Credit Facility)
On September 3, 2021, we refinanced the First Lien Credit and Guaranty Agreement with a new Credit Agreement (“Credit Agreement”). The new Credit Agreement provides for a total commitment of $350.0 million, consisting of a $100.0 million revolving credit facility (“Revolving Credit Facility”) and a $250.0 million term loan facility (“Term Loan”). The net proceeds from borrowings under the Term Loan of $248.5 million (net of $1.5 million of debt discount) were used to repay all amounts outstanding under the First Lien Term Loan on September 3, 2021.
The Credit Agreement is available for a period of five years, maturing September 2026, and provides for additional incremental facilities up to a maximum aggregate principal amount of $250.0 million, subject to the satisfaction of certain conditions. We may prepay the Term Loan and the Revolving Facility at any time without premium or penalty.
The Term Loan and Revolving Credit Facility under the Credit Agreement will each bear interest at our election, either (a) LIBOR plus a percentage spread (ranging from 1.25% to 2.0%) based on our total net leverage ratio, or (b) the base rate (described in the Credit Agreement as the greatest of (i) the prime rate, (ii) the federal funds rate plus 0.50% and (iii) one-month LIBOR plus 1.0%) plus a percentage spread (ranging from 0.25% to 1.0%) based on our total net leverage ratio.
Our obligations under the Credit Agreement are guaranteed by substantially all of our U.S. subsidiaries and secured by a security interest in substantially all assets of the Company and the guarantor subsidiaries, subject to certain exceptions detailed in the Credit Agreement and related ancillary documentation.
On June 30, 2022, we entered into a First Amendment of the Credit Agreement (“First Amendment”) which, among other changes, resulted in the Bloomberg Short-Term Bank Yield Index rate (“BSBY”) being utilized as a replacement rate for LIBOR. Consequently, following the First Amendment, the Term Loan and Revolving Facility will each bear interest at our election at either (a) BSBY plus a percentage spread (ranging from 1.25% to 2.25%) based on our total net leverage ratio, or (b) the base rate (as described in the Credit Agreement) as the greatest of (i) the prime rate, (ii) the federal funds rate plus 0.50% and (iii) one-month BSBY plus 1.0%) plus a percentage spread (ranging from 0.25% to 1.25%) based on our total net leverage ratio. In addition, pursuant to the First Amendment, the maximum permitted Consolidated Total Net Leverage Ratio (as defined in the Credit Agreement) was also amended to increase to 3.50 to 1.0 between the quarters ending September 30, 2022 through and including March 31, 2023, and such ratio will revert to 3.00 to 1.00 from the quarter ended June 30, 2023 and each quarter thereafter; provided, that upon the occurrence of a Qualified Acquisition (as defined in the Credit Agreement), such ratio can be increased to 3.50 to 1.0 temporarily provided all the requirements set forth in the Credit Agreement are met.
On September 29, 2022, we entered into an accounts receivable Factoring Agreement with the Factor. In connection with the Factoring Agreement, we also entered into (i) a Second Amendment (“Second Amendment”) to the Credit Agreement to permit the transactions contemplated by the Factoring Agreement and (ii) an Assignment of Factoring Proceeds and Intercreditor Agreement with the Factor and the administrative agent under the Credit Agreement to establish the respective rights of the Factor and the Credit Agreement Agent in and to the related factoring collateral.
On November 28, 2022, we entered into a Third Amendment (“Third Amendment”) to the Credit Agreement which provides for, among other things: (i) a decrease in the required minimum Consolidated Interest Coverage Ratio (as defined in the Credit Agreement) to 2.50 to 1.00 for the quarters ending on and after March 31, 2023 through and including December 31, 2023; (ii) an increase in the maximum permitted Consolidated Total Net Leverage Ratio (as defined in the Credit Agreement) to 3.75 to 1.00 for the quarters ending December 31, 2022 and March 31, 2023, stepping down to 3.50 to 1.00 for the quarter ending June 30, 2023, and 3.25 to 1.00 for the quarters ending September 30, 2023 and December 31, 2023; and (iii) a modified pricing grid providing for an increased margin (ranging from (x) 1.50% per annum to 3.25% per annum for loans bearing interest at the Bloomberg Short-Term
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Bank Yield (BSBY) rate, and (y) 0.50% per annum to 2.25% per annum for loans bearing interest at the base rate, in each case depending on our Consolidated Total Net Leverage Ratio) for the period of December 31, 2022 through December 31, 2023.
As of December 31, 2022, we were not in default under the Credit Agreement, and the total principal outstanding of the Term Loan was $240 million and the available and uncommitted capacity under the Revolving Credit Facility was $100 million.
Contractual Cash and Other Obligations
The following table summarizes our contractual cash and other obligations as of December 31, 2022 (in thousands):
| Payments Due by Period | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Total | Less than 1 Year | 1-3 Years | 3-5 Years | More than 5 Years | |||||||||||||||
| Debt principal and interest payments (1) | $ | 289,303 | $ | 23,457 | $ | 50,298 | $ | 215,548 | $ | — | |||||||||
| Inventory-related purchase obligations (2) | 103,401 | 103,365 | 36 | — | — | ||||||||||||||
| Operating lease obligations (3) | 67,723 | 12,824 | 19,290 | 12,015 | 23,594 | ||||||||||||||
| Other purchase obligations (4) | 12,786 | 10,547 | 2,239 | — | — | ||||||||||||||
| Contingent consideration in connection with a business acquisition | 954 | 954 | — | — | — | ||||||||||||||
| Total | $ | 474,167 | $ | 151,147 | $ | 71,863 | $ | 227,563 | $ | 23,594 |
| Column 1 | Column 2 |
|---|---|
| (1) | Amounts represent the principal cash payments as of December 31, 2022, of our Term Loan based on the repayment schedule according to the Credit Agreement and the expected interest payments associated with the Term Loan. See Note 8 “Debt” to our consolidated financial statements for more information. |
| Column 1 | Column 2 |
|---|---|
| (2) | Amounts represent an estimate of purchase obligations related to inventory. |
| Column 1 | Column 2 |
|---|---|
| (3) | Amounts represent contractual obligations from our operating leases for offices and warehouse spaces. |
| Column 1 | Column 2 |
|---|---|
| (4) | Amounts represent non-cancelable obligations related to capital expenditures, software licenses, marketing and other activities. |
As of December 31, 2022, we had $2.6 million in non-current income tax payable, including interest and penalties, related to our income tax liability for uncertain tax positions. At this time, we are unable to make a reasonably reliable estimate of the timing of payments in individual years in connection with these tax liabilities; therefore, such amounts are not included in the contractual cash obligation table above.
Critical Accounting Polices and Estimates
A critical accounting policy is defined as one that has both a material impact on our financial condition and results of operations and requires us to make difficult, complex and/or subjective judgments, often as a result of the need to make estimates about matters that are inherently uncertain. Our consolidated financial statements are prepared in accordance with U.S. Generally Accepted Accounting Principles (“GAAP”), which requires us to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities at the date of the consolidated financial statements, as well as the reported amounts of revenue and expenses during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe to be applicable and evaluate them on an ongoing basis to ensure they remain reasonable under current conditions. Actual results may differ significantly from those estimates, which could have a material impact on our business, results of operations, and financial condition.
We believe the accounting policies below are critical in the portrayal of our financial condition and results of operations, and involve management’s most difficult, subjective, or complex judgments.
Revenue Recognition and Accruals for Product Returns and Customer Incentive Programs
We offer product return rights and customer incentive programs. Customer incentive programs include special pricing arrangements, promotions, rebates and volume-based incentives.
Rights of return vary by customer and range from the right to return products to limited stock rotation rights allowing the exchange of a percentage of the customer’s quarterly purchases. Estimates of expected future product returns qualify as variable consideration and are recorded as a reduction of the transaction price of the contract at the time of sale based on historical return rates. Return rates are influenced by product life cycle status, new product introductions, market acceptance of products, sales levels, the type of customer, seasonality, product quality issues, competitive pressures, published return policy, and other unforeseen global factors. Return rates can fluctuate over time but are sufficiently predictable to allow us to estimate expected future product returns.
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Customer incentive programs are considered variable consideration, which we estimate and record as a reduction to revenue at the time of sale. Significant management judgments and estimates must be used to determine the cost of these programs to be included in the transaction price in any accounting period including a reduction for the estimate of amounts that ultimately will not be claimed for certain customer incentive programs. We use the expected value method to arrive at the amount of variable consideration. The Company constrains variable consideration until the likelihood of a significant revenue reversal is not probable. The accrual estimates are based on actual sales data, historical experience, forecasted incentives, anticipated volume of future purchases, and inventory levels in the channel.
Recent Accounting Pronouncements
Refer to Note 2 to the consolidated financial statements included in this Annual Report on Form 10-K for recent accounting pronouncements adopted and to be adopted.