COMMVAULT SYSTEMS INC (CVLT) FY 2023 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis along with our consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K. The statements in this discussion regarding our expectations of our future performance, liquidity and capital resources, and other non-historical statements are forward-looking statements. These forward-looking statements are subject to numerous risks and uncertainties, including, but not limited to, the risks and uncertainties described under “Risk Factors” and elsewhere in this Annual Report on Form 10-K. Our actual results may differ materially from those contained in or implied by any forward-looking statements. For discussion comparing the period ended March 31, 2022 to March 31, 2021, please refer to our Annual Report on Form 10-K, filed with the SEC on May 6, 2022.

Overview

Incorporated in Delaware in 1996, Commvault Systems, Inc. provides its customers with a data protection platform that helps them secure, defend and recover their most precious asset, their data. We provide these products and services for their data across the following environments: on-premises, hybrid, or multi-cloud. Our data protection offerings are delivered via self-managed software, software-as-a-service (SaaS), integrated appliances, or managed by partners. Customers use our technology to protect themselves from threats like ransomware and recover their data.

Industry

The industry in which we currently operate continues to go through accelerating changes as the result of compounding data growth and the introduction of new technologies. We are continuing to pursue an aggressive product development program in both data and information management solutions. Our data protection solutions include not only traditional backup, but also new innovations in de-duplication, data movement, virtualization, snap-based backups and enterprise reporting. Our information management innovations are primarily in the areas of archiving, eDiscovery, records management, governance, operational reporting and compliance. We remain focused on both the data and information management trends in the marketplace and, in fact, a material portion of our existing research and development expenses are utilized toward the development of such new technologies.

Given the nature of the industry in which we operate, our software applications are subject to obsolescence. We continually develop and introduce updates to our existing software applications in order to keep pace with evolving industry technologies. In addition, we must address evolving industry standards, changing customer requirements and competitive software applications that may render our existing software applications obsolete.

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Sources of Revenues

We derive a significant portion of our total revenues from sales of licenses of our software applications. We do not customize our software for a specific end-user customer. We sell our software applications to end-user customers both directly through our sales force and indirectly through our global network of value-added reseller partners, systems integrators, corporate resellers and original equipment manufacturers. Our software and products revenue was 45% of our total revenues for fiscal 2023, 46% in fiscal 2022 and 45% in fiscal 2021.

We continue to focus on subscription and other recurring revenue arrangements and continue to generate revenue from the renewals of subscription licenses sold in prior years. Any of our pricing models (capacity, instance based, etc.) can be sold via a subscription arrangement. In these arrangements, the customer has the right to use the software over a designated period of time. The capacity of the license is fixed and the customer has made an unconditional commitment to pay. Software revenue in these arrangements is generally recognized when the software is delivered. During the fiscal year ended March 31, 2023, approximately 79% of software license revenue was sold under a subscription model. Software license revenue sold under a subscription model was 69% and 59% in the fiscal years ended March 31, 2022 and 2021, respectively. We also sell to some customers, primarily managed service providers, via utility, or pay-as-you-go models. In these arrangements, there is no minimum commitment and actual usage is regularly measured and billed. Revenue in these utility arrangements is recognized as the software is used.

Our total software and products revenue in any particular period is, to a certain extent, dependent upon our ability to generate revenues from large customer software and products deals, which we refer to as larger deal transactions. Larger deal transactions (transactions greater than $0.1 million of software and product revenue) represented approximately 73% of our software and products revenue in fiscal 2023, 72% in fiscal 2022 and 69% in fiscal 2021.

Software and products revenue generated through indirect distribution channels accounted for approximately 90% of total software and products revenue in recent fiscal years. Software and products revenue generated through direct distribution channels accounted for approximately 10% of total software and products revenue in recent fiscal years. Deals initiated by our direct sales force are sometimes transacted through indirect channels based on end-user customer requirements and vice versa, which are not always in our control and can cause this overall percentage split to vary from fiscal year to fiscal year. As such, there may be fluctuations in the dollars and percentage of software and products revenue generated through our direct distribution channels from time to time. We believe that the growth of our software and products revenue, derived from both our indirect channel partners and direct sales force, are key attributes to our long-term growth strategy. We intend to continue to invest in both our channel relationships and direct sales force in the future, but we continue to expect more revenue to be generated through indirect distribution channels over the long term. The failure of our indirect distribution channels or our direct sales force to effectively sell our software applications could have a material adverse effect on our revenues and results of operations.

We have a non-exclusive distribution agreement with Arrow pursuant to which Arrow's primary role is to enable a more efficient and effective distribution channel for our products and services by managing our reseller partners and leveraging their own industry experience. We generated 37% of our total revenues through Arrow in both fiscal 2023 and fiscal 2022, and 36% of our total revenues in fiscal 2021. If Arrow were to discontinue or reduce the sales of our products or if our agreement with Arrow was terminated, and if we were unable to take back the management of our reseller channel or find another distributor to replace Arrow, there could be a material adverse effect on our future business.

Our services revenue was 55% of our total revenues for fiscal 2023, 54% in fiscal 2022 and 55% in fiscal 2021. Our services revenue is made up of fees from the delivery of customer support, SaaS, and other professional services, which are typically sold in connection with the sale of our software applications. Customer support agreements provide technical support and unspecified software updates on a when-and-if-available basis for an annual fee based on licenses purchased and the level of service subscribed. Metallic, our SaaS solution, allows customers to use hosted software over the contract period without taking possession of the software. Revenue related to Metallic is generally recognized ratably over the contract term as services revenue. Other professional services include consulting, assessment and design services, implementation and post-deployment services and training, all of which to date have predominantly been sold in connection with the sale of software applications.

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Most of our customer support agreements related to perpetual licenses are for a one-year term. As the end of the annual period approaches, we pursue the renewal of the agreement with the customer. Historically, maintenance renewals have represented a significant portion of our total revenue. Because of this characteristic of our business, if our customers choose not to renew their maintenance and support agreements with us on beneficial terms, or at all, our business, operating results and financial condition could be harmed.

The gross margin of our services revenue was 72% for fiscal 2023, 76% for fiscal 2022 and 79% for fiscal 2021. Overall, our services revenue has lower gross margins than our software and products revenue. The gross margin of our software and products revenue was 96% for both fiscal 2023 and fiscal 2022, and 92% for fiscal 2021. The increase in gross margin percentage of software and products is a result of reduced sales of hardware associated with our appliance as well as reduced software royalties associated with sales of HyperScale appliances and software. With the launch of HyperScale X in the second half of fiscal 2021, we now typically sell software to a third party that sells an integrated appliance to end user customers. As a result, our hardware revenues and cost of sales have been decreasing.

Description of Costs and Expenses

Our cost of revenues is as follows:

•Cost of Software and Products Revenue, consists primarily of the cost of third-party royalties and other costs such as media, manuals, translation and distribution costs, and hardware associated with our appliances; and

•Cost of Services Revenue, consists of salary and employee benefit costs in providing customer support and other professional services as well as third-party hosting fees related to our as-a-service offerings.

Our operating expenses are as follows:

•Sales and Marketing, consists primarily of salaries, commissions, employee benefits, stock-based compensation and other direct and indirect business expenses, including travel and related expenses, sales promotion expenses, public relations expenses and costs for marketing materials and other marketing events (such as trade shows and advertising);

•Research and Development, which is primarily the expense of developing new software applications and modifying existing software applications, consists principally of salaries, stock-based compensation and benefits for research and development personnel and related expenses; contract labor expense and consulting fees as well as other expenses associated with the design, certification and testing of our software applications; and legal costs associated with the patent registration of such software applications;

•General and Administrative, consists primarily of salaries, stock-based compensation and benefits for our executive, accounting, human resources, legal, information systems and other administrative personnel. Also included in this category are other general corporate expenses, such as outside legal and accounting services, compliance costs and insurance; and

•Depreciation and Amortization, consists of depreciation expense primarily for our owned corporate campus headquarters location, computer equipment we use for information services and in our development and test labs and amortization of intangible assets.

Foreign Currency Exchange Rates’ Impact on Results of Operations

Sales outside the United States were 47% of our total revenue for fiscal 2023 and 48% for both fiscal 2022 and fiscal 2021. The income statements of our non-U.S. operations are translated into U.S. dollars at the average exchange rates for each applicable month in a period. To the extent the U.S. dollar weakens against foreign currencies, the translation of these foreign currency denominated transactions generally results in increased revenue, operating expenses and income from operations for our non-U.S. operations. Similarly, our revenue, operating expenses and net income will generally decrease for our non-U.S. operations if the U.S. dollar strengthens against foreign currencies.

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Using the average foreign currency exchange rates from fiscal 2022, our software and products revenue would have been higher by $15.1 million, our services revenue would have been higher by $19.7 million, our cost of sales would have been higher by $4.2 million and our operating expenses would have been higher by $18.6 million from non-U.S. operations for fiscal 2023.

In addition, we are exposed to risks of foreign currency fluctuation primarily from cash balances, accounts receivables and intercompany accounts denominated in foreign currencies and are subject to the resulting transaction gains and losses, which are recorded as a component of general and administrative expenses. We recognized net foreign currency transaction losses of $1.2 million in fiscal 2023, insignificant losses in fiscal 2022 and losses of $1.9 million in fiscal 2021.

Critical Accounting Policies

In presenting our consolidated financial statements in conformity with U.S. generally accepted accounting principles ("GAAP"), we are required to make estimates and judgments that affect the amounts reported therein. Some of the estimates and assumptions we are required to make relate to matters that are inherently uncertain as they pertain to future events. We base these estimates on historical experience and on various other assumptions that we believe to be reasonable and appropriate. Actual results may differ significantly from these estimates. To the extent that there are material differences between these estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows may be affected.

In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management’s judgment in its application, while in other cases, significant judgment is required in selecting among available alternative accounting standards that allow different accounting treatment for similar transactions. We consider these policies requiring significant management judgment to be critical accounting policies. The following is a description of these critical accounting policies.

Revenue Recognition

We account for revenue in accordance with ASC 606, Revenue from Contracts with Customers. Our revenue recognition policies require us to make significant judgments and estimates. In applying our revenue recognition policy, we must determine which portions of our revenue are recognized currently (generally software and products revenue) and which portions must be deferred and recognized in future periods (generally services revenue). We analyze various factors including, but not limited to, the selling price of undelivered services when sold on a stand-alone basis, our pricing policies, the credit-worthiness of our customers, and contractual terms and conditions in helping us to make such judgments about revenue recognition. Changes in judgment on any of these factors could materially impact the timing and amount of revenue recognized in a given period. We record revenue net of sales tax.

We derive revenue from two primary sources: software and products, and services. Software and products revenue includes our software and integrated appliances that combine our software with hardware. Services include customer support (software updates and technical support), consulting, assessment and design services, installation services, customer education and as-a-service, which is branded as Metallic.

We sell both perpetual and term-based licenses of our software. We refer to our term-based software licenses as subscription arrangements. We do not customize our software and installation services are not required. The software is delivered before related services are provided and is functional without professional services, updates and technical support. We have concluded that our software licenses (both perpetual and subscription) are functional intellectual property that is distinct, as the user can benefit from the software on its own. Software revenue for both perpetual and subscription licenses is typically recognized when the software is delivered and/or made available for download as this is the point the user of the software can direct the use of, and obtain substantially all of the remaining benefits from, the functional intellectual property. We do not recognize software revenue related to the renewal of subscription software licenses earlier than the beginning of the new subscription period.

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We also offer appliances that integrate our software with hardware and address a wide-range of business needs and use cases, ranging from support for remote or branch offices with limited IT staff up to large corporate data centers. We typically offer appliances via a software only model in which we sell software to a third party, which assembles an integrated appliance that is sold to end user customers. As a result, the revenue and costs associated with hardware are usually not included in our financial statements.

Services revenue includes revenue from customer support, SaaS, and other professional services. Customer support includes software updates on a when-and-if-available basis, telephone support, integrated web-based support and bug fixes or patches. We sell our customer support contracts as a percentage of net software purchases the support is related to. Customer support revenue is recognized ratably over the term of the customer support agreement, which is typically one year on our perpetual licenses. The term of our subscription arrangements is typically three years but can range between one and five years.

Commvault's SaaS offerings, which are branded as Metallic, allow customers to use hosted software over the contract period without taking possession of the software. Revenue related to Metallic is generally recognized ratably over the contract term as services revenue.

Our other professional services include consulting, assessment and design services, installation services and customer education. Customer education services include courses taught by our instructors or third-party contractors. Revenue related to other professional services and customer education services is typically recognized as the services are performed.

Most of our contracts with customers contain multiple performance obligations. For these contracts, we account for individual performance obligations separately if they are distinct. The transaction price is allocated to the separate performance obligations on a relative standalone selling price basis. Standalone selling prices of software and appliances are typically estimated using the residual approach. Standalone selling prices of services are typically estimated based on observable transactions when these services are sold on a standalone basis.

Our typical performance obligations include the following:

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Accounting for Income Taxes

Under ASC 740, deferred income taxes arise from temporary differences between the tax basis of assets and liabilities and their reported amounts. Valuation allowances are established when, in our judgment, it is more likely than not that deferred tax assets will not be realized. In assessing the need for a valuation allowance, we weigh the available positive and negative evidence, including historical levels of pre-tax income, legislative developments, expectations and risks associated with estimates of future pre-tax income, and prudent and feasible tax planning strategies. We believe that it is more likely than not that we will not realize the benefits of our gross deferred tax assets and therefore have recorded a valuation allowance to reduce the carrying value of these gross deferred tax assets, net of the impact of the reversal of taxable temporary differences, to zero. The valuation allowance is material to our financial statements. In the future, changes to our estimates regarding the realizability of our gross deferred tax assets could materially impact our results of operations.

We conduct business globally and as a result, file income tax returns in the United States and in various state and foreign jurisdictions. In the normal course of business, we are subject to examination by taxing authorities throughout the world, including such major jurisdictions as the United States, Australia, Canada, Germany, Netherlands and United Kingdom.

Goodwill

We test goodwill for impairment at least annually, on January 1, by performing a quantitative assessment of whether the fair value of each reporting unit or asset exceeds its carrying amount. We have one reporting unit. Goodwill is tested at this reporting unit level. This requires us to assess and make judgments regarding a variety of factors which impact the fair value of the reporting unit or asset being tested, including business plans, anticipated future cash flows, economic projections and other market data. Because there are inherent uncertainties involved in these factors, significant differences between these estimates and actual results could result in future impairment charges and could materially impact our future financial results. During the fourth quarter of fiscal 2023, we completed the annual impairment test for goodwill and determined that it had not been impaired as of the test date, January 1, 2023.

Results of Operations

Fiscal year ended March 31, 2023 compared to fiscal year ended March 31, 2022

Revenues (in millions)

- Total revenues increased $15.0 million, or 2% as a result of the following:

•An increase in services revenue driven by the year over year increase in revenue from Metallic as-a-service arrangements.

•Software and products revenue represented 45% of our total revenues in fiscal 2023 and 46% of our total revenues in fiscal 2022.

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•Services revenue represented 55% of our total revenues in fiscal 2023 and 54% of our total revenues in fiscal 2022.

•Using the average foreign currency exchange rates from the fiscal year ended March 31, 2022, our total revenues would have increased 6% compared to the fiscal year ended March 31, 2022.

Software and products revenue decreased $1.4 million, primarily due to:

•The impact of the year over year strengthening of the U.S. dollar, particularly as compared to the Euro and British Pound. Using the average foreign currency exchange rates from the fiscal year ended March 31, 2022, our software and products revenue would have increased 4% compared to the fiscal year ended March 31, 2022.

•The foreign currency impact was partially offset by an increase of $3.2 million, or 1%, in larger deal transactions (deals greater than $0.1 million in software and products revenue). Larger deal transactions represented approximately 73% of our software and products revenue in fiscal 2023 and 72% of our software and products revenue in fiscal 2022.

•The average dollar amount of larger deal transactions was approximately $345 thousand in fiscal 2023 and approximately $320 thousand in fiscal 2022. There were 750 larger deal revenue transactions in fiscal 2023 compared to 799 deals in fiscal 2022.

•The increase in larger deal transaction revenue was partially offset by a decrease of $4.6 million in transactions less than $0.1 million.

- Services revenue increased $16.4 million, or 4%, primarily due to:

•An increase in other services revenue, driven primarily by the year over year increase in revenue from Metallic as-a-service arrangements, partially offset by a decrease in revenue from customer support agreements.

•Using the average foreign currency exchange rates from the fiscal year ended March 31, 2022, our services revenue would have increased 9% compared to the fiscal year ended March 31, 2022.

We track software and products revenue on a geographic basis. Our International region encompasses Europe, Middle East, Africa, Australia, India, Japan, Southeast Asia, and China. Our Americas region includes the United States, Canada, and Latin America. Americas and International represented 60% and 40% of total software and products revenue, respectively, for the fiscal year ended March 31, 2023. Software and products revenue was flat year over year in the Americas and decreased 1% in International.

▪The decrease in International software and products revenue was primarily due to the year over year strengthening of the U.S. dollar, particularly as compared to the Euro and British Pound. Using the average foreign currency exchange rates from the fiscal year ended March 31, 2022, our International revenue would have increased 10% compared to the fiscal year ended March 31, 2022.

Our software and products revenue in International is subject to changes in foreign exchange rates as further discussed above in the “Foreign Currency Exchange Rates’ Impact on Results of Operations” section.

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Cost of Revenues and Gross Margin ($ in millions)

- Total cost of revenues increased $21.5 million and represented 17% and 15% of our total revenues in fiscal 2023 and fiscal 2022, respectively.

- Cost of software and products revenue increased $0.6 million and represented 4% of software and products revenue in both fiscal 2023 and fiscal 2022.

- Cost of services revenue increased $20.9 million and represented 28% of our services revenue in fiscal 2023 compared to 24% in fiscal 2022. The increase in cost of services revenue primarily related to an increase in the cost of infrastructure related to Metallic as-a-service offerings as they continue to scale.

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Operating Expenses ($ in millions)

–Sales and marketing expenses decreased $0.8 million, primarily due to a decrease in employee compensation and sales commissions relative to the prior year period partially offset by increases in stock compensation and travel expenses.

- Research and development expenses decreased $11.8 million, or 8%, due to decreases in employee compensation and related expenses, including a $5.3 million decrease in stock-based compensation, and the completion of payments related to key employees of Hedvig, Inc., which ended in the fourth quarter of fiscal 2022. Investing in research and development has been a priority for Commvault, and we anticipate continued spending related to the development of our data protection software applications.

- General and administrative expenses increased $1.2 million, or 1%, primarily due to increases in employee compensation and related expenses compared to prior year, partially offset by a $0.9 million decrease in stock-based compensation.

- Restructuring: Our restructuring plan, initiated in the fourth quarter of fiscal 2022, is aimed to increase efficiency in our sales, marketing and distribution functions as well as reduce costs across all functional areas. The plan also included a reorganization to combine our EMEA and APJ field organizations into our International region. Restructuring expenses were $15.5 million and $6.2 million for the years ended March 31, 2023 and 2022, respectively. These restructuring charges relate primarily to severance and related costs associated with headcount reductions. These charges include $2.6 million in fiscal 2023 and $1.7 million in fiscal 2022 of stock-based compensation related to modifications of existing awards granted to certain employees included in the restructuring. We cannot guarantee the restructuring program will achieve its intended result. Risks associated with this restructuring program also include additional unexpected costs, adverse effects on employee morale and the failure to meet operational and growth targets due to the loss of key employees, any of which may impair our ability to achieve anticipated results of operations or otherwise harm our business.

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- Depreciation and amortization expense decreased $0.4 million, from $9.7 million in fiscal 2022 to $9.3 million in fiscal 2023, driven by the reclassification of our owned corporate headquarters as assets held for sale.

- Impairment charges: During the fourth quarter of fiscal 2023, we entered into an agreement to sell our owned corporate headquarters in Tinton Falls, New Jersey. The property was reclassified as assets held for sale and the previous carrying amount was written down to its estimated fair value, less estimated costs to sell, resulting in a noncash impairment charge of $53.5 million.

Interest Income

Interest income increased $0.6 million, from $0.7 million in fiscal 2022 to $1.3 million in fiscal 2023 primarily as a result of an increase in long term receivables that include a financing component.

Interest Expense

Interest expense increased $0.4 million as a result of entering into a revolving credit facility in late fiscal 2022.

Income Tax Expense

Income tax expense was $20.4 million in fiscal 2023 compared to expense of $9.8 million in fiscal 2022. The income tax expense for the year ended March 31, 2023 relates primarily to current U.S. and foreign taxes. The increase in income tax expense relative to the prior year relates primarily to current federal and state taxes driven by the effects of capitalization and amortization of research and development expenses starting in fiscal year 2023 as required by the 2017 Tax Cuts and Jobs Act. Given we have recorded a valuation allowance against our deferred tax assets, there is no corresponding deferred tax benefit related to the current tax expense associated with the capitalization of research and development expenses.

Liquidity and Capital Resources

As of March 31, 2023, our cash balance was $287.8 million. The amount of cash and cash equivalents held outside of the United States by our foreign legal entities was approximately $183.3 million. In recent fiscal years, our principal source of liquidity has been cash provided by operations. These balances are dispersed across approximately 35 international locations around the world. We believe that such dispersion meets the current and anticipated future liquidity needs of our foreign legal entities. In the event we need to repatriate funds from outside of the United States, such repatriation would likely be subject to restrictions by local laws and/or tax consequences including foreign withholding taxes.

On December 13, 2021, we entered into a five-year $100 million senior secured revolving credit facility (the “Credit Facility”) with JPMorgan Chase Bank, N.A.. The Credit Facility is available for share repurchases, general corporate purposes, and letters of credit. The Credit Facility contains financial maintenance covenants including a leverage ratio and interest coverage ratio. The Credit Facility also contains certain customary events of default which would permit the lender to, among other things, declare all loans then outstanding to be immediately due and payable if such default is not cured within applicable grace periods. The Credit Facility also limits our ability to incur certain additional indebtedness, create or permit liens on assets, make acquisitions, make investments, loans or advances, sell or transfer assets, pay dividends or distributions, and engage in certain transactions with foreign affiliates. Outstanding borrowings under the Credit Facility accrue interest at an annual rate equal to Secured Overnight Financing Rate plus 1.25% subject to increases based on our actual leverage. The unused balance on the Credit Facility is also subject to a 0.25% annual interest charge subject to increases based on our actual leverage. As of March 31, 2023, there were no borrowings under the Credit Facility and we were in compliance with all covenants.

During the year ended March 31, 2023, we repurchased $150.9 million of common stock, or approximately 2.5 million shares. On April 20, 2023, the Board of Directors approved an increase in our share repurchase program so that $250.0 million was available. The Board's authorization has no expiration date. While we are not obligated to, our current practice is to repurchase shares using at least 75% of free cash flow (operating cash flow less capital expenditures).

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A summary of the cash used for the stock repurchase program consists of the following:

Our summarized cash flow information is as follows (in thousands):

- Net cash provided by operating activities was impacted by:

•Fiscal 2023: net loss adjusted for the impact of non-cash charges, including the impairment of our owned corporate headquarters, and increases in deferred revenue partially offset by decreases in accrued expenses.

•Fiscal 2022: net income adjusted for the impact of non-cash charges and increases in deferred revenue and accrued expenses, partially offset by increases in accounts receivable and deferred commissions.

- Net cash used in investing activities was impacted by:

•Fiscal 2023: $3.2 million of capital expenditures and $2.1 million for the purchase of equity securities.

•Fiscal 2022: $16.9 million used for the acquisition of TrapX, $3.9 million of capital expenditures and $4.1 million for the purchase of equity securities partially offset by proceeds of $0.5 million related to the sale of an equity investment.

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- Net cash used in financing activities was impacted by:

•Fiscal 2023: $150.9 million used to repurchase shares of our common stock under our repurchase program, $0.1 million of debt issuance costs paid partially offset by $15.4 million of proceeds from the exercise of stock options and the Employee Stock Purchase Plan.

•Fiscal 2022: $305.2 million used to repurchase shares of our common stock under our repurchase program, $0.6 million of debt issuance costs paid partially offset by $29.7 million of proceeds from the exercise of stock options and the Employee Stock Purchase Plan.

Working capital increased $50.8 million from $90.0 million as of March 31, 2022 to $140.8 million as of March 31, 2023. The increase in working capital is primarily due to the reclassification of our owned corporate headquarters as assets held for sale.

We believe that our existing cash, cash equivalents and our cash from operations will be sufficient to meet our anticipated cash needs for working capital, income taxes, capital expenditures and potential stock repurchases for at least the next twelve months. We may seek additional funding through public or private financings or other arrangements during this period. Adequate funds may not be available when needed or may not be available on terms favorable to us, or at all. If additional funds are raised by issuing equity securities, dilution to existing stockholders will result. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operational flexibility, and would also require us to fund additional interest expense. If funding is insufficient at any time in the future, we may be unable to develop or enhance our products or services, take advantage of business opportunities or respond to competitive pressures, any of which could have a material adverse effect on our business, financial condition and results of operations.

Summary Disclosures about Contractual Obligations and Commercial Commitments

Our material capital commitments consist of obligations under facilities and operating leases. Some of these leases have free or escalating rent payment provisions. Refer to the notes to the consolidated financial statements for further discussion on operating leases.

We have certain software royalty commitments associated with the shipment and licensing of certain products. Royalty expense is generally based on a fixed cost per unit shipped or a fixed fee for unlimited units shipped over a designated period. Royalty expense, included in cost of software and products revenues, was $9.3 million in fiscal 2023 and $11.2 million in fiscal 2022.

We offer a 90-day limited product warranty for our software. To date, costs relating to this product warranty have not been material.

Off-Balance Sheet Arrangements

As of March 31, 2023, we did not have off-balance sheet financing arrangements, including any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities.

Indemnifications

Certain of our software licensing agreements contain certain provisions that indemnify our customers from any claim, suit or proceeding arising from alleged or actual intellectual property infringement. These provisions continue in perpetuity along with our software licensing and as-a-service agreements. We have never incurred a liability relating to one of these indemnification provisions in the past and we believe that the likelihood of any future payout relating to these provisions is remote. Therefore, we have not recorded a liability during any period related to these indemnification provisions.

Impact of Recently Issued Accounting Standards

See Note 2 of the notes to the consolidated financial statements for a discussion of the impact of recently issued accounting standards.

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