Penguin Solutions, Inc. (PENG)

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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying consolidated financial statements and notes for the year ended August 30, 2024. This discussion contains forward looking statements that involve risks, uncertainties and other factors. Our actual results could differ materially from those contained in these forward-looking statements due to a number of risks, uncertainties and other factors, including those discussed below and elsewhere in this report. See also “Cautionary Note Regarding Forward-Looking Statements” and “PART I – Item 1A. Risk Factors.”

Our fiscal year is the 52- or 53-week period ending on the last Friday in August. Fiscal years 2024, 2023 and 2022 contained 53, 52 and 52 weeks, respectively. 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 ended on July 31 of each year. In connection with the completion of the divestiture of an 81% interest in SMART Brazil, we ceased consolidating the operations of SMART Brazil in our financial statements as of the November 29, 2023 disposal date. As a result, financial information for the first quarter of 2024 includes the four-month period for the SMART Brazil operations from August 1, 2023 to November 29, 2023. All tabular amounts are in thousands.

Overview

For an overview of our business, see “PART I – Item 1. Business.”

Divestiture of SMART Brazil

On November 29, 2023, we completed the divestiture of an 81% interest in SMART Brazil to Lexar Europe B.V., an affiliate of Shenzhen Longsys Electronics Co. Ltd.

Presentation of SMART Brazil as Discontinued Operations: In accordance with authoritative guidance under U.S. GAAP, we have presented the balance sheets, results of operations and cash flows of SMART Brazil operations in this Annual Report, including in the accompanying consolidated financial statements and notes, as discontinued operations for all periods presented. The SMART Brazil operations were previously reported as part of our Integrated Memory segment. Unless otherwise noted, discussion within this Annual Report relates solely to our continuing operations and excludes the SMART Brazil operations.

See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Divestiture of SMART Brazil.”

Acquisition of Stratus Technologies

On August 29, 2022, we completed the acquisition of Stratus Technologies. At the closing, we paid a cash purchase price of $225.0 million, subject to certain adjustments. In addition, the seller had the right to receive the Stratus Earnout based on the gross profit performance of the Stratus Technologies business during the first full 12 fiscal months following the closing. Throughout 2023, we adjusted the fair value of the Stratus Earnout by an aggregate of $29.0 million and, as of August 25, 2023, current liabilities included $50.0 million for the amount payable in connection with the Stratus Earnout. In the second quarter of 2024, we paid in full $50.0 million related to the Stratus Earnout.

See “PART II – Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Business Acquisitions – Stratus Technologies.”

Factors Affecting Our Operating Performance

Macro-Economic Demand Factors. Our business segments each have their own unique set of demand factors. Our Advanced Computing business is driven by demand for high-performance compute solutions across AI and machine learning initiatives, as well as traditional workload optimization and efficiency applications. Demand in our Integrated Memory segment 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,

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as well as emerging demand for higher density and greater bandwidth solutions for AI deployments. Finally, demand for our Optimized LED products is derived from targeted end-market applications, such as general high-power and mid-power lighting and specialty lighting, including video display and horticulture applications. We believe our diversified business segments may sometimes provide a natural hedge against downturns in any particular industry. However, broader macro-economic trends can adversely affect all three segments concurrently.

Shifts in the Mix and Timing of Our Revenue. Shifts in the mix of revenue from our operating segments, and in the timing of revenue, which can vary significantly from period to period, can impact our business and operating results, including gross and operating margins. For example, our Advanced Computing segment has shown solid growth, but is subject to variability in its sales and margin profile from period to period for reasons such as: recognition of revenue is sometimes tied to customer decisions as to the completion of delivery and system go-live events, sales can be affected by the timing of customer deployments or customer budget considerations and margin is driven by the extent to which higher margin software and managed services comprise Advanced Computing sales. 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 entering new business segments where, as we did with our Cree LED and Stratus Technologies acquisitions, 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 incur debt or raise capital through equity financings or may subject us to unforeseen liabilities or costs, 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, third-party wafers that we use in our memory and LED businesses and HPC and AI components for our Advanced Computing business. In our memory and LED businesses, we have adopted a “Fab-Light” business model to reduce our capital expenditures and operating expenses, while affording greater flexibility in adapting to shifts in demand and other market trends. Our Fab-Light business model contributed 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 recent global semiconductor shortage has adversely affected our operating results. In addition, in our Advanced Computing business, where we source components from third parties, the high demand for and limited supply of AI components globally, as well as any delays in the production of such components, continues to affect our sourcing of these components and the timing of deployments. In particular, we continue to experience extended lead times for certain components that are incorporated into our overall solutions, which impacts how quickly we are able to ramp existing and new customer projects. 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 may continue to be adversely affected.

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Results of Operations

(1)Summations of percentages may not compute precisely due to rounding.

Net Sales, Cost of Sales and Gross Profit

Net sales decreased by $270.5 million, or 18.8%, in 2024 compared to the prior year, primarily due to lower sales and weakness in our Advanced Computing and Integrated Memory segments, partially offset by moderate growth in our Optimized LED segment. Advanced Computing net sales decreased by $195.2 million, or 26.0%, primarily related to lower hardware sales year over year due to the unpredictable nature of large project engagements, which may not occur with the same frequency or scale each year. Integrated Memory net sales decreased by $86.8 million, or 19.6%, primarily due to lower sales volumes of Flash and DRAM products to our OEM customers, driven by macroeconomic environment challenges. Optimized LED net sales increased by $11.5 million, or 4.6%, primarily due to higher demand as channel partners addressed low inventory carrying levels.

Net sales increased by $45.4 million, or 3.3%, in 2023 compared to the prior year, due to strong performance in our Advanced Computing business, partially offset by weakness in both our Integrated Memory and Optimized LED segments. Advanced Computing net sales increased by $308.7 million, or 70.0%, primarily due to $172.7 million of revenue from our Stratus Technologies acquisition in August 2022, as well as higher volumes of sales in our Penguin Computing business. Optimized LED net sales decreased by $154.9 million, or 38.4%, primarily due to continued demand challenges in China. Integrated Memory sales decreased by $108.4 million, or 19.7%, primarily due to lower sales volume and pricing of DRAM products.

Cost of sales decreased by $196.1 million, or 19.1%, in 2024 compared to the prior year, primarily due to our Advanced Computing and Integrated Memory segments, which had lower material and production costs from lower sales, as well as lower personnel-related expenses mainly driven by cost reduction efforts. Cost of sales increased by $21.2 million, or 2.1%, in 2023 compared to the prior year, primarily due to the Stratus Technologies

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acquisition and from higher costs of materials and production costs due to higher sales for our Advanced Computing segment.

Gross margin increased to 29.1% in 2024 compared to 28.8% in 2023 primarily due to favorable mix from higher service revenue in our Advanced Computing segment. Gross margin increased to 28.8% in 2023 compared to 28.0% in 2022 primarily due to the inclusion of higher margin Stratus products, as well as process and efficiency improvements in the Integrated Memory and Advanced Computing segments compared to the prior year.

Non-GAAP Measure of Segment Operating Income

Below is a table of our operating income, measured on a non-GAAP basis, which Penguin Solutions management uses to supplement Penguin Solutions’ financial results under GAAP to analyze its operations and make decisions as to future operational plans and believes that this supplemental non-GAAP information is useful to investors in analyzing and assessing the company’s past and future operating performance. These non-GAAP measures exclude certain items, such as share-based compensation expense; amortization of acquisition-related intangible assets (consisting of amortization of developed technology, customer relationships, trademarks/trade names and backlog acquired in connection with business combinations); acquisition-related inventory adjustments; diligence, acquisition and integration expense; restructure charges; impairment of goodwill; changes in the fair value of contingent consideration; and other infrequent or unusual items. While amortization of acquisition-related intangible assets is excluded, the revenues from acquired companies is reflected in our non-GAAP measures and these intangible assets contribute to revenue generation. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Segment and Other Information.”

Non-GAAP financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP, as they exclude important information about our financial results, as noted above. The presentation of these adjusted amounts varies from amounts presented in accordance with GAAP and therefore may not be comparable to amounts reported by other companies.

Advanced Computing operating income decreased by $15.7 million, or 14.1%, in 2024 compared to the prior year primarily due to lower sales from our Penguin Computing business, partially offset by lower operating expenses, mainly driven by personnel-related expenses due to lower headcount and lower subcontract services. Advanced Computing operating income increased by $61.5 million, or 124.4%, in 2023 compared to the prior year primarily due to higher sales mainly due to the Stratus Technologies acquisition and gross margin expansion, partially offset by higher operating expenses due to the Stratus Technologies acquisition as well as personnel-related expenses due in part to increased headcount to support the revenue growth.

Integrated Memory operating income decreased by $51.2 million, or 69.6%, in 2024 compared to the prior year primarily due to lower sales and gross profit due to lower sales volumes of Flash and DRAM products. Integrated

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Memory operating income decreased by $5.2 million, or 6.6%, in 2023 compared to the prior year primarily due to lower sales, partially offset by a favorable product mix and lower personnel-related costs driven in part by cost containment actions.

Optimized LED operating loss improved by $7.4 million, or 153.0%, in 2024 primarily due to higher revenue from increased demand, better factory leverage and product mix and lower personnel-related expenses due to headcount reductions. Optimized LED operating income decreased by $54.0 million, or 109.8%, in 2023 compared to the prior year primarily due to lower sales from demand challenges in China, partially offset by lower personnel-related costs driven in part by cost reduction actions.

Operating and Non-operating (Income) Expense

Research and Development

Research and development expense decreased by $9.0 million, or 10.0%, in 2024 compared to the prior year, primarily due to lower personnel-related expenses mainly driven by headcount reductions, as well as lower subcontract services mainly driven by Advanced Computing.

Research and development expense increased by $13.1 million, or 16.9%, in 2023 compared to the prior year, primarily due to additional costs from the Stratus Technologies acquisition, offset by lower personnel-related expenses mainly driven by bonus and headcount reductions.

Selling, General and Administrative

Selling, general and administrative expense decreased by $26.8 million, or 10.3%, in 2024 compared to the prior year, primarily due to lower diligence, acquisition and integration expense, lower personnel-related expenses, mainly driven by headcount reductions, and lower amortization expense of intangible assets.

Selling, general and administrative expense increased by $55.9 million, or 27.3%, in 2023 compared to the prior year, primarily due to additional costs from the Stratus Technologies acquisition as well as higher diligence, acquisition and integration expense, partially offset by lower personnel-related expenses driven by bonus and headcount reductions.

Impairment of Goodwill

In the second quarter of 2023, we initiated a plan pursuant to which we intend to wind down manufacturing and discontinue the sale of certain legacy products offered through our Penguin Edge business by approximately the end of 2025. We recorded impairment charges of $19.1 million in 2023 to impair the carrying value of Penguin Edge goodwill. We currently anticipate that the remaining goodwill of the Penguin Edge reporting unit of $16.1 million as of August 30, 2024 may become further impaired in future periods. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Intangible Assets and Goodwill – Impairment of Penguin Edge Goodwill.”

Change in Fair Value of Contingent Consideration

Our acquisitions of Stratus Technologies in the first quarter of 2023 and our Optimized LED business in the third quarter of 2021 each included contingent consideration. We estimate the fair value of the contingent consideration as of the date of acquisition and subsequently recognize changes in the fair value in results of operations. During 2023 and 2022, we recorded charges of $29.0 million and $41.3 million, respectively, to adjust the fair value of the contingent consideration. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Business Acquisitions.”

Other Operating (Income) Expense

Other operating expense in 2024 and 2023 included restructure charges of $7.1 million and $7.0 million, respectively, primarily for employee severance costs and other benefits resulting from workforce reductions, the elimination of certain projects across our businesses and other costs associated with the wind down of our Penguin Edge business. We anticipate that such activities will continue into future quarters and anticipate recording additional restructure charges.

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Interest Expense, Net

Net interest expense decreased by $8.0 million, or 22.1%, in 2024 compared to the prior year, primarily due to higher interest income resulting from higher cash and investment balances, partially offset by higher interest expense from the Amended 2027 TLA (as defined below). Net interest expense increased by $12.1 million, or 49.6%, in 2023 compared to the prior year, primarily due to higher interest expense from the Amended 2027 TLA, partially offset by higher interest income resulting from higher cash and investment balances.

Other Non-operating (Income) Expense

Other non-operating (income) expense in 2024 and 2023 included losses of $22.8 million and $15.9 million, respectively, from the extinguishment or prepayment of debt. Other non-operating (income) expense in 2023 also included net gains of $3.0 million from the disposition of assets. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt.”

Income Tax Provision (Benefit)

Our provision for income taxes increased by $59.8 million in 2024, or 121.6%, compared to the prior year primarily due to a decrease in tax benefit for the 2023 U.S. federal and state valuation allowance release. Our provision for income taxes decreased by $67.3 million in 2023, or 372.2%, compared to the prior year primarily due to the tax benefit on the release of the U.S. federal and state valuation allowance in 2023, partially offset by tax add backs for nondeductible goodwill impairment in 2023 and additional uncertain tax positions recorded in 2023.

In 2024, our tax expense of $10.6 million and effective tax rate of (34.1)%, which was different from the U.S. statutory tax rate primarily due to losses, generated in a jurisdiction where no tax benefit can be recognized, and foreign withholding taxes, partially offset by benefits associated with decreases in reserves for uncertain tax provisions and U.S. federal and state tax credits.

In 2023, our tax benefit of $49.2 million and effective tax rate of 124.5%, which was different from the U.S. statutory tax rate primarily due to a release of the U.S. federal and state valuation allowance. The effective tax rate benefit from the valuation allowance release was offset with detriments associated with losses generated in jurisdictions with rates lower than the U.S. statutory tax rate, increases in reserves for uncertain tax provisions, foreign withholding taxes and goodwill impairment for financial reporting purposes with no tax basis.

In 2022, our tax expense of $18.1 million and effective tax rate of 42.5%, which was different from the U.S. statutory tax rate primarily due to losses generated in jurisdictions with rates lower than the U.S. statutory tax rate, nondeductible expenses and additional valuation allowance recorded against U.S. federal and state deferred tax assets.

We have operations in Malaysia, where we have tax incentive arrangements for our pioneer status activities and our global supply chain operations. The statutory tax rate for Malaysia is 24%. These arrangements are scheduled to expire in August 2028 and are subject to certain conditions, with which we have partially complied in 2024 and fully complied in 2023 and 2022. The impact of partial compliance is reflected within the 2024 income tax provision. Our effective income tax rate in the future may be higher depending on a combination of our overall and jurisdictional profitability, the expectation that future tax holidays will have tax rates greater than our prior approved tax holidays and the impact of the OECD’s Pillar Two model rules, which aims to implement a global minimum tax rate of 15%. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Income Taxes.”

Net Income (Loss) From Discontinued Operations

As discussed above, we have presented the results of SMART Brazil as discontinued operations in our consolidated statements of operations for all periods presented. As of August 25, 2023, SMART Brazil was classified as held for sale. Accordingly, in 2023 we evaluated the carrying value of the net assets of SMART Brazil (including $206.3 million recognized within shareholder’s equity related to the cumulative translation adjustment from SMART Brazil), estimated costs to sell and expected proceeds and concluded the net assets were impaired. As a result, we recognized an impairment charge of $153.0 million in 2023 to write down the carrying value of the net assets of SMART Brazil. In addition, we concluded that the outside basis of SMART Brazil inclusive of any withholding taxes should be recognized upon the classification as held for sale as of August 25, 2023. Accordingly, we recognized withholding taxes on the expected capital gain and deferred tax liabilities of $28.6

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million in 2023. In the first quarter of 2024, we completed the divestiture, and in connection therewith, recognized an additional loss of $8.9 million. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Divestiture of SMART Brazil.”

Liquidity and Capital Resources

As of August 30, 2024, we had cash, cash equivalents and short-term investments of $389.5 million, of which $299.1 million was held by subsidiaries outside of the United States. Our principal uses of cash and capital resources have been acquisitions, debt service requirements, capital expenditures, research and development expenditures and working capital requirements. We expect that future capital expenditures will focus on expanding our research and development activities, manufacturing equipment upgrades, acquisitions and IT infrastructure and software upgrades. Cash and cash equivalents generally consist of funds held in demand deposit accounts, money market funds and time deposits. We do not acquire investments for trading or speculative purposes.

We may from time to time seek additional equity or debt financing. Any future equity or debt financing may be dilutive to our existing investors and 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.

We expect that our existing cash and cash equivalents, short-term investments, borrowings available under our credit facilities and cash generated by operating activities will be sufficient to fund our operations for at least the next 12 months.

Credit Facility

On February 7, 2022, Penguin Solutions and SMART Modular Technologies, Inc. (collectively, the “Borrowers”) entered into a credit agreement (the “Original Credit Agreement”) with a syndicate of banks and Citizens Bank, N.A., as administrative agent that provided for (i) a term loan credit facility in an aggregate principal amount of $275.0 million (the “2027 TLA”) and (ii) a revolving credit facility in an aggregate principal amount of $250.0 million (the “2027 Revolver”), in each case, maturing on February 7, 2027. The Original Credit Agreement provides that up to $35.0 million of the 2027 Revolver is available for issuances of letters of credit. The Original Credit Agreement has subsequently been amended to, among other things, provide for incremental term loans in an aggregate amount of $300.0 million (together with the 2027 TLA, the “Amended 2027 TLA”), amend the First Lien Leverage Ratio (as defined in the Amended Credit Agreement) and increase the aggregate amount of unrestricted cash and permitted investments netted from the definitions of Consolidated First Lien Debt and Consolidated Net Debt. As of August 30, 2024, there was $300.0 million of aggregate principal amount outstanding under the Amended 2027 TLA and there were no amounts outstanding under the 2027 Revolver. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt – Credit Facility.”

Divestiture of SMART Brazil

In November 2023, we completed the divestiture of SMART Brazil. In connection with the divestiture, we sold an 81% interest and retained a 19% interest in SMART Brazil. At the closing of the transaction, we received cash of $143.0 million, net of tax, from the sale. In addition, we have the right to receive a deferred payment of $28.4 million in May 2025. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Divestiture of SMART Brazil.”

Preferred Share Investment

In July 2024, we entered into the SKT Purchase Agreement for the Investment, pursuant to which we agreed to sell to SK the CPS. The CPS will be convertible into ordinary shares at a conversion price of $32.81 per preferred share, subject to adjustment upon the occurrence of certain events, will have an initial liquidation preference of 1x and will only be redeemable at our option, subject to certain conditions. The holder of the CPS may convert such holder’s CPS into ordinary shares at any time, provided that the CPS may, at our option, automatically be converted into ordinary shares on any date following the second anniversary of the closing upon certain conditions. The CPS will entitle the holder to receive dividends of six percent per annum, cumulative, and payable quarterly in-kind or in cash at our option.

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The SKT Purchase Agreement may be terminated by either SK or us if the closing has not occurred by April 14, 2025, subject to extension to July 14, 2025 in the event certain approvals have not been obtained. The Investment is expected to close by the end of calendar 2024 or early in calendar 2025. Because the transaction is subject to regulatory clearances and approvals, there can be no assurance that the transaction will close in calendar 2024 or 2025, or at all.

See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Preferred Share Investment.”

Contractual Obligations

For information regarding our debt obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt.” For our operating lease obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Leases.” For our purchase obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Commitments and Contingencies.”

Cash Flows

Operating Activities: Cash flows from operating activities reflects net income, adjusted for certain non-cash items, including depreciation and amortization expense, share-based compensation, 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 from continuing operations in 2024 was $105.5 million, comprised primarily of a net loss of $41.8 million, adjusted for non-cash items of $121.6 million. Operating cash flows were favorably affected by a $25.7 million net change in our operating assets and liabilities, primarily from the effects of an increase of $54.3 million in accounts payable and accrued expenses and other liabilities and a decrease of $23.8 million inventories, partially offset by an increase of accounts receivable of $32.5 million and the payment of $29.0 million of contingent consideration, which related to our 2023 acquisition of Stratus Technologies. The increase in accounts payable and accrued expenses and other liabilities was primarily due to timing of payments, as well as higher deferred revenue resulting from amounts received from customers in advance of satisfying performance obligations.

Net cash provided by operating activities from continuing operations in 2023 was $63.7 million, comprised primarily of a net income of $9.7 million, adjusted for non-cash items of $119.3 million. Operating cash flows were adversely affected by a $65.4 million net change in our operating assets and liabilities, primarily from the effects of decreases of $256.1 million in accounts payable and accrued expenses and other liabilities and the payment of $73.7 million of contingent consideration, which related to our 2021 acquisition of the Optimized LED business, partially offset by the effect of decreases of $162.5 million in accounts receivable and $95.2 million in inventories. The decreases in both accounts payable and accrued expenses and inventories were primarily due to lower inventories in our Integrated Memory and Advanced Computing segments. The decrease in accounts receivable was primarily due to lower gross sales in our Integrated Memory segment.

Net cash provided by operating activities from continuing operations in 2022 was $38.9 million, resulting primarily from net income of $24.4 million, adjusted for non-cash items of $136.8 million. Operating cash flows were adversely affected by a $122.3 million net change in our operating assets and liabilities, primarily from the effects of an increase of $97.8 million in accounts receivable and a decrease of $44.9 million in accounts payable and accrued expenses and other liabilities, partially offset by a decrease of $30.7 million in inventories. The increase

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in accounts receivable was primarily due to higher gross sales primarily in our Integrated Memory and Advanced Computing segments. The decreases in both accounts payable and accrued expenses and in inventories were primarily due to lower inventories in our Integrated Memory and Advanced Computing segments.

Investing Activities: Net cash used for investing activities from continuing operations in 2024 consisted primarily of $19.4 million used for capital expenditures and deposits on equipment and $11.0 million of purchases of non-marketable investment securities, partially offset by net maturities of marketable investment securities of $19.9 million.

Net cash used for investing activities from continuing operations in 2023 was $281.2 million, consisted primarily of $213.1 million net cash used for the acquisition of Stratus Technologies, $39.4 million used for capital expenditures and deposits on equipment and $25.0 million used for the purchases of marketable investment securities.

Net cash used for investing activities from continuing operations in 2022 consisted primarily of $20.4 million used for capital expenditures and deposits on equipment.

Financing Activities: Net cash used for financing activities from continuing operations in 2024 was $209.5 million, consisting primarily of $351.3 million in principal repayment of debt, $21.3 million of payments to acquire ordinary shares, $21.0 million payment of contingent consideration related to our 2023 acquisition of Stratus Technologies and $16.3 million of payments to acquire capped calls in connection with the issuance of our 2030 Notes, partially offset by $192.7 million in net proceeds from the issuance of our 2030 Notes and $9.8 million in proceeds from the issuance of ordinary shares from our equity plans.

Net cash provided by financing activities from continuing operations in 2023 was $237.2 million, consisting primarily of $295.3 million in net proceeds from our term loan and $43.0 million in proceeds from the issuance of ordinary shares from our equity plans, partially offset by a $28.1 million payment of contingent consideration related to our 2021 acquisition of our Optimized LED business, $24.7 million of payments to acquire ordinary shares, $21.6 million in principal repayment of debt and $14.1 million payment of premium in connection with our convertible note exchange.

Net cash provided by financing activities from continuing operations in 2022 was $60.6 million, consisting primarily of $270.8 million in net proceeds from issuance of a term loan and $12.1 million in proceeds from the issuance of ordinary shares from our equity plans, partially offset by $126.7 million in principal repayment of debt, primarily the LED Purchase Price Note, $57.2 million of payments to acquire ordinary shares and $25.0 million in net repayments of borrowings under our line of credit.

Critical Accounting Estimates

The preparation of these financial statements and related disclosures in conformity with U.S. GAAP requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. We evaluate our estimates and judgments on an ongoing basis. Estimates and judgments are based on historical experience, forecasted events and various other assumptions that we believe to be reasonable under the circumstances; however, actual results could differ from those estimates. 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.

Our discussion of critical accounting estimates is intended to supplement our summary of significant accounting policies so that readers will have greater insight into the uncertainties involved in applying our critical accounting policies and estimates. For a summary of our significant accounting policies, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Significant Accounting Policies.”

Business Acquisitions: Accounting for acquisitions requires us to estimate the fair value of consideration paid and the individual assets and liabilities acquired, which involves a number of judgments, assumptions and estimates that could materially affect the amount and timing of costs recognized in subsequent periods. We typically obtain independent third-party valuation studies to assist in determining fair values, including assistance in determining future cash flows, discount rates and comparable market values. Items involving significant assumptions, estimates and judgments include the following:

•Fair value of consideration paid or transferred (including contingent consideration);

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•Inventory, including estimated future selling prices, timing of product sales and completion costs for work in process;

•Property, plant and equipment, including determination of values in a continued-use model;

•Intangible assets, including valuation methodology, estimates of future revenues and costs, profit allocation rates attributable to the acquired technology and discount rates;

•Debt and other liabilities, including discount rate and timing of payments; and

•Deferred taxes, including projections of future taxable income and tax rates.

The valuation of contingent consideration in connection with an acquisition may be inherently challenging due to the dependence on the occurrence of future events and complex payment provisions. Estimating the fair value of contingent consideration at an acquisition date and in subsequent periods involves significant judgments, including projecting future average selling prices, future sales volumes, manufacturing costs and gross margins. To project average selling prices and sales volumes, we review recent sales volumes, existing customer orders, current prices and other factors such as industry analyses of supply and demand, seasonal factors, general economic trends and other information. To project manufacturing costs, we must estimate future production levels and costs of production, including labor, materials and other overhead costs. Actual selling prices and sales volumes, as well as levels and costs of production, can often vary significantly from projected amounts.

Income Taxes: We are required to estimate our provision for income taxes and amounts ultimately payable or recoverable in numerous tax jurisdictions around the world. These estimates involve significant judgment and interpretations of regulations and are inherently complex. Resolution of income tax treatments in individual jurisdictions may not be known for many years after completion of the applicable year. We are also required to evaluate the realizability of our deferred tax assets on an ongoing basis in accordance with U.S. GAAP, which requires the assessment of our performance and other relevant factors. Realization of deferred tax assets is dependent on our ability to generate future taxable income. Our income tax provision or benefit is dependent, in part, on our ability to forecast future taxable income in various jurisdictions. Such forecasts are inherently difficult and involve significant judgments including, among others, projecting future average selling prices and sales volumes, manufacturing and overhead costs and other factors that significantly impact our analyses of the amount of net deferred tax assets that are more likely than not to be realized.

Inventories: Inventories are stated at the lower of cost or net realizable value. In our Optimized LED segment, cost is determined on a first-in, first-out basis. For all other segments, inventory value is determined on a specific identification basis for material and an allocation of labor and manufacturing overhead. At each balance sheet date, we evaluate ending inventories for excess quantities and obsolescence, including analyses of sales levels by product family, historical demand and forecasted demand in relation to inventory on hand, competitiveness of product offerings, market conditions and product life cycles. From time to time, our customers may request that we purchase and maintain significant inventory of raw materials for specific programs. Such inventory purchases are evaluated for excess quantities and potential obsolescence and could result in a provision at the time of purchase or subsequent to purchase. Inventory levels may fluctuate based on inventory held under service arrangements. Our provision for excess and obsolete inventory are also impacted by our arrangements with our customers and/or suppliers, including our ability or inability to resell such inventory to them.

Goodwill and Intangible Assets: We test goodwill for impairment in our fourth quarter each year, or more frequently if indicators of an impairment exist, to determine whether it is more likely than not that the fair value of the reporting unit with goodwill is less than its carrying value. For reporting units for which we conclude that it is more likely than not that the fair value is more than its carrying value, goodwill is considered not impaired and we are not required to perform the goodwill impairment test. Qualitative factors considered in this assessment include industry and market considerations, overall financial performance and other relevant events and factors affecting the fair value of the reporting unit. For reporting units for which this assessment concludes that it is more likely than not that the fair value is below the carrying value, goodwill is tested for impairment by determining the fair value of the reporting unit and comparing it to the carrying value of the net assets assigned to the reporting unit. If the fair value of the reporting unit exceeds its carrying value, goodwill is considered not impaired. If the carrying value of the reporting unit exceeds its fair value, we would record an impairment loss up to the difference between the carrying value and implied fair value.

Determining when to test for impairment, the reporting units, the assets and liabilities of the reporting unit and the fair value of the reporting unit requires significant judgment and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue growth rates, forecasted manufacturing costs, budgets and other expenses developed as part of our long-range planning process. We test the reasonableness

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of the output of our long-range planning process by calculating an implied value per share and comparing that to current share prices, analysts’ consensus pricing and management’s expectations. These estimates and assumptions are used to calculate projected future cash flows for the reporting unit, which are discounted using a risk-adjusted rate to estimate a fair value. We base fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates.

We test other identified intangible assets with definite useful lives when events and circumstances indicate the carrying value may not be recoverable by comparing the carrying amount to the sum of undiscounted cash flows expected to be generated by the asset. Estimating fair values involves significant assumptions, including future sales prices, sales volumes, costs and discount rates.

Revenue Recognition: We recognize revenue based on the transfer of control of goods and services and apply the following five-step approach: (1) identification of a contract with a customer, (2) identification of the performance obligations in the contract, (3) determination of the transaction price, (4) allocation of the transaction price to the performance obligations in the contract and (5) recognition of revenue as performance obligations are satisfied.

Applying the five-step approach in determining whether to recognize revenue at a point in time or over time requires significant judgement. A portion of our revenue is from sales of customized product which, in some cases, are non-cancellable and/or non-refundable. Significant judgement is required to determine when control passes to the customer and whether and when our performance obligations have been satisfied. This determination can significantly affect the timing of recognizing revenue.

Product Revenue: Product revenue is generally recognized when control of the promised goods is transferred to customers. Contracts with customers are generally short-term in duration at fixed, negotiated prices with payment generally due shortly after delivery. We estimate a liability for returns using the expected value method based on historical rates of return. In addition, we generally offer price protection to our distributors, which is a form of variable consideration that decreases the transaction price. We use the expected value method, based on historical price adjustments and current pricing trends, to estimate the amount of revenue recognized from sales to distributors. Differences between the estimated and actual amounts are recognized as adjustments to revenue.

Noncancellable, nonrefundable customized product sales are recognized over time on a cost incurred basis. In connection with these arrangements, customers obtain control and benefit from products as they are completed. The terms for these arrangements provide us with a legally enforceable right to receive payment, including a reasonable profit margin upon customer cancellation, for performance completed to date. Accordingly, we recognize revenue over time as we complete the manufacture of these products.

A portion of our revenue is derived from the sale of customized products. In certain cases, we recognize revenue when control of the underlying assets passes to the customer when the customer is able to direct the use of, and obtain substantially all of the remaining benefit from, the assets; the customer has the significant risks and rewards associated with ownership of the assets; and we have a present right to payment. Under the terms of these arrangements, we cannot repurpose products without the customer’s consent and accordingly, we recognize revenue at the point in time when products are completed and made available to the customer.

Service Revenue: Our service revenue is derived from professional services and supply chain services. Professional services include solution design, system installation, software automation and managed support services related to HPC and storage systems. Supply chain services includes procurement, logistics, inventory management, temporary warehousing, kitting and packaging. While we take title to inventory under such arrangements, control of such inventory does not transfer to us as we do not, at any point, have the ability to direct the use, and thereby obtain the benefits, of the inventory. Service revenue also includes extended warranty, on-site services and subscriptions to our HPC environment.

Agent Services: We provide certain services on an agent basis, whereby we procure product, materials and services on behalf of our customers and then resell such product, materials or services to our customers. Gross amounts invoiced to customers in connection with these agent services include amounts related to the services performed by us in addition to the cost of the product, materials and services procured. However, only the amount related to the agent component is recognized as revenue in our results of operations. We generally recognize revenue for these procurement, logistics and inventory management services upon the completion and/or acceptance of such services, which typically occurs at the time of shipment of product to the customer. Amounts

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we invoice to customers for the cost of product, materials and services performed, which remain unpaid as of the end of a reporting period, are included in accounts receivable. Additionally, the cost of product and materials procured for customers under these agent services, which remain on hand as of the end of a reporting period, are included in inventories. Amounts in accounts receivable and inventories impact the determination of cash flows from operating activities.

Determining whether we are the principal or agent in these transactions requires significant judgement. This determination affects the amount of revenue we recognize; a principal recognizes revenues at the gross amount received for the goods and services, while an agent recognizes revenue at the net amount. The impact of this determination significantly impact the amount of revenue and cost of sales we recognize.

Transaction Price: The transaction price is determined based on the consideration to which we will be entitled in exchange for transferring goods or services to the customer. We allocate the transaction price to each distinct product and service based on its relative standalone selling price. The standalone selling price for products primarily involves the cost to produce the deliverable plus the anticipated margin and for services is estimated based on our approved list price.

A portion of our service revenue is from professional services, including installation and other services and hardware and software related support. Each contract may contain multiple performance obligations, which requires the transaction price to be allocated to each performance obligation. We allocate the consideration to each performance obligation based on the relative selling price, determined as the best estimate of the price at which we would transact if it sold the deliverable regularly on a stand-alone basis.

Contract Costs: As a practical expedient, we recognize the incremental costs of obtaining a contract, specifically commission expenses, that have an amortization period of less than 12 months, as an expense when incurred. Additionally, we account for shipping and handling costs, if any, that occur after control transfers to the customer as a fulfillment activity. We record shipping and handling costs related to revenue transactions within cost of sales as a period cost.

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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying consolidated financial statements and notes for the year ended August 25, 2023. 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 years 2023, 2022 and 2021 each contained 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 amounts are in thousands.

Overview

For an overview of our business, see “PART I – Item 1. Business.”

Acquisition of Stratus Technologies

On August 29, 2022, we completed the acquisition of Storm Private Holdings I Ltd., a Cayman Islands exempted company (“Stratus Holding Company” and together with its subsidiaries, “Stratus Technologies”). At the closing, SGH paid a cash purchase price of $225 million, subject to certain adjustments. In addition, the seller has the right to receive, and SGH is obligated to pay, contingent consideration of up to $50 million (the “Stratus Earnout”) based on the gross profit performance of the Stratus business during the first full 12 fiscal months of Stratus following the closing of the acquisition. The Stratus Earnout is payable in cash, ordinary shares of SGH, or a mix of cash and SGH Shares, at SGH’s election. On June 28, 2023, we provided notice to the Stratus Seller of our election to settle the Stratus Earnout in cash. As of August 25, 2023, current liabilities include $50.0 million for the amount payable for the Stratus Earnout.

Stratus is a global leader in simplified, protected and autonomous computing platforms and services in the data center and at the Edge. For more than 40 years, Stratus has provided high-availability, fault-tolerant computing to Fortune 500 companies and small-to-medium sized businesses enabling them to securely and remotely run critical applications with minimal downtime. Stratus operates as part of SGH’s IPS segment.

See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Business Acquisitions – Stratus Technologies.”

Divestiture of SMART Brazil

On June 13, 2023, we entered into an agreement to sell an 81% interest in SMART Modular Technologies Brasil – Indústria e Comercio de Componentes Ltda. (“SMART Brazil”) to Lexar Europe B.V., an affiliate of Shenzhen Longsys Electronics Co. Ltd. for approximately $205 million. The transaction is expected to close at the end of calendar year 2023 or beginning of calendar year 2024, subject to required regulatory approvals and satisfaction of customary closing conditions.

SMART Brazil operates as a stand-alone business which assembles and tests modules for electronics manufacturers that sell devices to Brazilian consumers. In line with our strategic priorities, the majority divestiture of our standards-based, commodity module business in Brazil will enable us to focus on our strategy of delivering high-performance, high availability solutions to our enterprise customers. This transaction also strengthens our financial position, enabling us to increase our strategic investments into domestic research and development and U.S.-based production of advanced technologies.

Presentation of SMART Brazil as Discontinued Operations: In accordance with authoritative guidance under U.S. GAAP, we concluded that our SMART Brazil operations met held-for-sale and discontinued operations accounting criteria as of the end of fiscal year 2023. Accordingly, we have presented the balance sheets, results of operations and cash flows of SMART Brazil operations in this Annual Report on Form 10-K, including in the accompanying consolidated financial statements and notes, as discontinued operations for all periods presented. Our SMART Brazil operations were previously reported as part of our Memory Solutions segment. Unless otherwise noted, discussion within this Annual Report on Form 10-K relates solely to our continuing operations and excludes our SMART Brazil operations.

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See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Divestiture of SMART Brazil.”

Factors Affecting Our Operating Performance

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 entering new business segments where, as we did with our LED business and our recently acquired Stratus Technologies 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-Light” business model to reduce our capital expenditures and operating expenses, while affording greater flexibility in adapting to shifts in demand and other market trends. Our Fab-Light 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. In addition, the recent high demand for, and limited supply of, AI components globally, is affecting our sourcing of these components. 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.

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Results of Operations

(1)Summations of percentages may not compute precisely due to rounding.

Net Sales, Cost of Sales and Gross Profit

Net sales increased by $45.4 million, or 3.3%, in 2023 compared to the prior year, due to strong performance in our IPS business, partially offset by weakness in both our Memory and LED Solutions businesses. IPS net sales increased by $308.7 million, or 70.0%, primarily due to $172.7 million of revenue from our Stratus acquisition in August 2022, as well as higher volumes of sales in our Penguin Computing business. LED Solutions net sales decreased by $154.9 million, or 38.4%, primarily due to continued demand challenges in China. Memory Solutions sales decreased by $108.4 million, or 19.7%, primarily due to lower sales volume and pricing of DRAM products.

Net sales increased by $340.3 million, or 32.2%, in 2022 compared to the prior year, due to an increase of $178.6 million of revenue from our acquisition of the LED Business in March 2021 and to strong performance in our IPS and Memory Solutions businesses. IPS net sales increased by $96.2 million, or 27.9%, primarily due to higher volumes of sales in our Penguin Computing business. Memory Solutions sales increased by $65.5 million, or 13.5%, primarily due to a higher sales volume of DRAM products.

Cost of sales increased by $21.2 million, or 2.1%, in 2023 and by $187.3 million, or 22.9%, in 2022 compared to the prior respective years, primarily due to our acquisition of the Stratus Business and from higher costs of materials and production costs due to higher sales for our IPS segment.

Gross margin increased to 28.8% in 2023 compared to 28.0% in 2022 primarily due to inclusion of higher margin Stratus products, as well as process and efficiency improvements in the Memory Solutions and IPS segments compared to the prior year. Gross margin increased to 28.0% in 2022, compared to 22.5% in 2021 primarily due to the inclusion of higher margin LED Solutions products.

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Non-GAAP Measure of Segment Operating Income

Below is a table of our operating income, measured on a non-GAAP basis, which SGH management uses to supplement SGH’s financial results under GAAP to analyze its operations and make decisions as to future operational plans and believes that this supplemental non-GAAP information is useful to investors in analyzing and assessing the company’s past and future operating performance. These non-GAAP measures exclude certain items, such as share-based compensation expense, amortization of acquisition-related intangible assets (consisting of amortization of developed technology, customer relationships, trademarks/trade names and backlog acquired in connection with business combinations), acquisition-related inventory adjustments, acquisition-related expenses, restructure charges and integration expenses, changes in the fair value of contingent consideration and other infrequent or unusual items. While amortization of acquisition-related intangible assets is excluded, the revenues from acquired companies is reflected in our non-GAAP measures and these intangible assets contribute to revenue generation. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Segment and Other Information.”

Non-GAAP financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP, as they exclude important information about our financial results, as noted above. The presentation of these adjusted amounts varies from amounts presented in accordance with GAAP and therefore may not be comparable to amounts reported by other companies.

Memory Solutions operating income decreased by $5.2 million, or 6.6%, in 2023 compared to the prior year primarily due to lower sales, partially offset by a favorable product mix and lower personnel-related costs driven in part by cost containment actions. Memory Solutions operating income increased by $59.3 million, or 303.8%, in 2022 compared to the prior year primarily due to strong revenue growth and gross margin improvement driven by a favorable product mix, as well as lower personnel-related costs.

IPS operating income increased by $61.5 million, or 124.4%, in 2023 compared to the prior year primarily due to higher sales mainly due to the Stratus acquisition and gross margin expansion, partially offset by higher operating expenses due to the Stratus acquisition as well as personnel-related expenses due in part to increased headcount to support the revenue growth. IPS operating income increased by $19.8 million, or 66.7%, in 2022 compared to the prior year primarily due to strong revenue growth from Penguin Computing and gross margin improvement, partially offset by higher operating expenses mainly driven by personnel-related expenses due to increased headcount to support the revenue growth.

LED Solutions operating income decreased by $54.0 million, or 109.8%, in 2023 compared to the prior year primarily due to lower sales from demand challenges in China, partially offset by lower personnel-related costs driven in part by cost reduction actions. LED Solutions operating income increased by $14.8 million, or 43.3%, in 2022 compared to the prior year as 2022 included a full year of operations compared to half a year in 2021.

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Operating and Non-operating (Income) Expense

Research and Development

Research and development expense increased by $13.1 million, or 16.9%, in 2023 compared to the prior year, primarily due to additional costs from the Stratus acquisition, offset by lower personnel-related expenses mainly driven by bonus and headcount reductions.

Research and development expense increased by $17.5 million, or 29.3%, in 2022 compared to the prior year, primarily due to additional costs from the acquisition of the LED Business, which had a full year of operations compared to a half a year in 2021, as well as higher personnel-related expenses and depreciation.

Selling, General and Administrative

Selling, general and administrative expense increased by $55.9 million, or 27.3%, in 2023 compared to the prior year, primarily due to additional costs from the Stratus acquisition as well as higher acquisition and integration expenses, partially offset by lower personnel-related expenses driven by bonus and headcount reductions.

Selling, general and administrative expense increased by $46.7 million, or 29.5%, in 2022 compared to the prior year, primarily due to additional costs from the acquisition of the LED Business which had a full year of operations compared to a half a year in 2021, as well as higher personnel-related expenses, professional services and acquisition expenses.

Impairment of Goodwill

During the second quarter of 2023, we initiated a plan pursuant to which we intend to wind down manufacturing and discontinue the sale of certain legacy products offered through our Penguin Edge business by approximately the end of calendar 2024. We recorded impairment charges of $17.6 million and $1.5 million in the second and fourth quarters of 2023, respectively, to impair the carrying value of Penguin Edge goodwill. We currently anticipate that the remaining goodwill of the Penguin Edge reporting unit of $16.1 million as of August 25, 2023 may become further impaired in future periods. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Intangible Assets and Goodwill – Impairment of Penguin Edge Goodwill.”

Change in Fair Value of Contingent Consideration

Our acquisitions of Stratus Technologies in the first quarter of 2023 and our LED Business in the third quarter of 2021 each included contingent consideration. We estimate the fair value of the contingent consideration as of the date of acquisition and subsequently recognize changes in the fair value in results of operations. During 2023, we recorded charges of $29.0 million to adjust the fair value of the contingent consideration from our Stratus acquisition. During 2022 and the second half of 2021, we recorded charges of $41.3 million and $32.4 million, respectively, to adjust the value of the contingent consideration from our LED acquisition. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Business Acquisitions.”

Other Operating (Income) Expense

Other operating expense in 2023 included restructure charges of $7.0 million primarily for employee severance costs and other benefits resulting from workforce reductions, the elimination of certain projects across our businesses and other costs associated with the wind down of our Penguin Edge business. We anticipate that such activities will continue into future quarters and anticipate recording additional restructure charges.

Other Non-operating (Income) Expense

Other non-operating (income) expense in 2023 included losses of $15.9 million from the extinguishment of debt, partially offset by net gains of $3.0 million from the disposition of assets.

Income Tax Provision (Benefit)

Our provision for income taxes decreased by $67.3 million in 2023, or 372.2%, compared to the prior year primarily due to the tax benefit on the release of the U.S. federal and state valuation allowance in 2023 partially offset by tax addbacks for nondeductible goodwill impairment in 2023 and additional uncertain tax positions recorded in 2023. Our provision for income taxes increased by $8.4 million in 2022, or 86.5%, compared to the prior year primarily due to higher income in non-

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U.S. jurisdictions subject to tax and nondeductible expenses, partially offset by recording less valuation allowance expense in 2022 due to more income in the U.S. jurisdiction.

In 2023, our tax benefit of $49.2 million and effective tax rate of 124.5% was different from the U.S. statutory tax rate primarily due to a release of the U.S. federal and state valuation allowance. The effective tax rate benefit from the valuation allowance release was offset with detriments associated with losses generated in jurisdictions with rates lower than the U.S. statutory tax rate, increases in reserves for uncertain tax provisions, foreign withholding taxes and goodwill impairment for financial reporting purposes with no tax basis.

In 2022, our tax expense of $18.1 million and effective tax rate of 42.5% was different from the U.S. statutory tax rate primarily due to losses generated in jurisdictions with rates lower than the U.S. statutory tax rate, nondeductible expenses and additional valuation allowance recorded against U.S. federal and state deferred tax assets.

In 2021, our tax expense of $9.7 million and effective tax rate of (30.0)% was different from the U.S. statutory tax rate primarily due to losses generated in jurisdictions with rates lower than the U.S. statutory tax rate and additional valuation allowance recorded against US federal and state deferred tax assets.

We have operations in Malaysia, where we have tax incentive arrangements for our pioneer status activities and our global supply chain operations. The statutory tax rate for Malaysia is 24%. These Malaysia arrangements are scheduled to expire in August 2028 and are subject to certain conditions, for which we have complied in 2023, 2022 and 2021. In general, these future tax holidays will have tax rates greater than our prior approved tax holidays, and therefore we expect that our effective income tax rate in the future may be higher depending on a combination of our overall and jurisdictional profitability. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Income Taxes.”

Net Income (Loss) From Discontinued Operations

As discussed above, we have presented the results of our SMART Brazil activities as discontinued operations in our consolidated statements of operations for all periods presented.

As of August 25, 2023, our SMART Brazil operations were classified as held for sale. Accordingly, we evaluated the carrying value of the net assets of our SMART Brazil operations (including $206.3 million recognized within shareholder’s equity related to the cumulative translation adjustment from our SMART Brazil operations), estimated costs to sell and expected proceeds and concluded the net assets were impaired. As a result, we recognized an impairment charge of $153.0 million in 2023 to write down the carrying value of the net assets of our SMART Brazil operations. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Divestiture of SMART Brazil.”

Liquidity and Capital Resources

As of August 25, 2023, we had cash, cash equivalents and short-term investments of $390.8 million, of which $82.5 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 acquire investments for trading or speculative purposes.

We expect that our existing cash and cash equivalents, short-term investment, 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.

The transaction to sell an 81% interest in SMART Brazil is expected to close at the end of calendar 2023 or early 2024. Upon completion of the transaction, the purchaser will pay to us (i) an up front cash payment of $137.7 million on a cash-free, debt-free basis and subject to certain customary adjustments as set forth in the purchase agreement and (ii) a deferred

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cash purchase price of $28.4 million eighteen months following the closing. We expect to use the proceeds from the sale for general corporate purposes.

Credit Facility

On August 29, 2022, we amended our credit facility and borrowed an additional $300 million, which amount was added to our existing term loan. The incremental term loans are on the same terms as the term loans incurred under the original credit agreement. In addition, we amended certain covenants under the amended credit agreement. In the first quarter of 2023, we applied a portion of the proceeds of the incremental term loans to (i) finance a portion of the purchase price of the acquisition of Stratus Technologies and (ii) pay in full the $101.8 million outstanding under the LED Earnout Note. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt – Credit Facility.”

Contractual Obligations

For information regarding our debt obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt.” For our operating lease obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Leases.” For our purchase obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Commitments and Contingencies.”

Cash Flows

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 from continuing operations in 2023 was $63.7 million, comprised primarily of a net income of $9.7 million, adjusted for non-cash items of $119.3 million. Operating cash flows were adversely affected by a $65.4 million net change in our operating assets and liabilities, primarily from the effects of decreases of $256.1 million in accounts payable and accrued expenses and other liabilities and the payment of $73.7 million of contingent consideration related to our 2021 acquisition of the LED business, partially offset by the effect of decreases of $162.5 million in accounts receivable and $95.2 million in inventories. The decreases in both accounts payable and accrued expenses and inventories were primarily due to lower inventories in our Memory Solutions and IPS businesses. The decrease in accounts receivable was primarily due to lower gross sales in our Memory Solutions businesses.

Net cash provided by operating activities from continuing operations in 2022 was $38.9 million, resulting primarily from net income of $24.4 million, adjusted for non-cash items of $136.8 million. Operating cash flows were adversely affected by a $122.3 million net change in our operating assets and liabilities, primarily from the effects of an increase of $97.8 million in accounts receivable and a decrease of $44.9 million in accounts payable and accrued expenses and other liabilities, partially offset by a decrease of $30.7 million in inventories. The increase in accounts receivable was primarily due to higher gross sales, primarily in our Memory Solutions and IPS segments. The decreases in both accounts payable and accrued expenses and in inventories were primarily due to lower inventories in our Memory Solutions and IPS businesses.

Net cash provided by operating activities from continuing operations in 2021 was $122.8 million, comprised of a net loss of $42.0 million, adjusted for non-cash items of $104.5 million. Operating cash flows also benefited from a $60.3 million net change in our operating assets and liabilities, primarily from the effects of an increase of $192.5 million in accounts payable and accrued expenses and other liabilities and a decrease of $15.4 million in other assets, partially offset by increases of $99.9 million in inventories and $47.8 million in accounts receivable. The increases in accounts payable and accrued

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expenses and in inventories were primarily due to higher inventories among all business areas. The increase in accounts receivable was primarily due to higher gross sales primarily in our Memory Solutions and IPS segments.

Investing Activities: Net cash used in investing activities from continuing operations in 2023 was $281.2 million, consisting primarily of $213.1 million net cash used for the acquisition of Stratus, $39.4 million used for capital expenditures and deposits on equipment and $25.0 million used for the purchases of investment securities.

Net cash used in investing activities from continuing operations in 2022 consisted primarily of $20.4 million used for capital expenditures and deposits on equipment.

Net cash used in investing activities from continuing operations in 2021 consisted primarily of $35.7 million net cash used for the acquisition of the LED Business and $16.7 million used for capital expenditures and deposits on equipment.

Financing Activities: Net cash provided by financing activities from continuing operations in 2023 was $237.2 million, consisting primarily of $295.3 million in net proceeds from issuance of a term loan and $43.0 million in proceeds from the issuance of ordinary shares from our equity plans, partially offset by $28.1 million payment of contingent consideration related to our 2021 acquisition of our LED business, $24.7 million of payments to acquire ordinary shares (including $13.8 million under our share repurchase program and convertible note exchange), $21.6 million in principal repayment of debt and $14.1 million payment in premium in connection with our convertible note exchange.

Net cash provided by financing activities from continuing operations in 2022 was $60.6 million, consisting primarily of $270.8 million in net proceeds from issuance of a term loan and $12.1 million in proceeds from the issuance of ordinary shares from our equity plans, partially offset by $126.7 million in principal repayment of debt, primarily the LED Purchase Price Note, $57.2 million of payments to acquire ordinary shares (including $50.0 million under our share repurchase program) and $25.0 million in net repayments of borrowings under our line of credit.

Net cash used in financing activities from continuing operations in 2021 was $14.7 million, consisting primarily of $48.5 million used to repurchase our ordinary shares, partially offset by $25.0 million in net proceeds from borrowings under our line of credit and $14.9 million in proceeds from the issuance of ordinary shares.

Critical Accounting Estimates

The preparation of these financial statements and related disclosures in conformity with U.S. GAAP requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. We evaluate our estimates and judgments on an ongoing basis. Estimates and judgments are based on historical experience, forecasted events and various other assumptions that we believe to be reasonable under the circumstances; however, actual results could differ from those estimates. 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.

Our discussion of critical accounting estimates is intended to supplement our summary of significant accounting policies so that readers will have greater insight into the uncertainties involved in applying our critical accounting policies and estimates. For a summary of our significant accounting policies, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Significant Accounting Policies.”

Business Acquisitions: Accounting for acquisitions requires us to estimate the fair value of consideration paid and the individual assets and liabilities acquired, which involves a number of judgments, assumptions and estimates that could materially affect the amount and timing of costs recognized in subsequent periods. We typically obtain independent third-party valuation studies to assist in determining fair values, including assistance in determining future cash flows, discount rates and comparable market values. Items involving significant assumptions, estimates and judgments include the following:

•Fair value of consideration paid or transferred (including contingent consideration);

•Inventory, including estimated future selling prices, timing of product sales and completion costs for work in process;

•Property, plant and equipment, including determination of values in a continued-use model;

•Debt and other liabilities, including discount rate and timing of payments;

•Intangible assets, including valuation methodology, estimates of future revenues and costs, profit allocation rates attributable to the acquired technology and discount rates; and

•Deferred taxes, including projections of future taxable income and tax rates.

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The valuation of contingent consideration in connection with an acquisition may be inherently challenging due to the dependence on the occurrence of future events and complex payment provisions. Estimating the fair value of contingent consideration at an acquisition date and in subsequent periods involves significant judgments, including projecting future average selling prices, future sales volumes, manufacturing costs and gross margins. To project average selling prices and sales volumes, we review recent sales volumes, existing customer orders, current prices and other factors such as industry analyses of supply and demand, seasonal factors, general economic trends and other information. To project manufacturing costs, we must estimate future production levels and costs of production, including labor, materials and other overhead costs. Actual selling prices and sales volumes, as well as levels and costs of production, can often vary significantly from projected amounts.

Income Taxes: We are required to estimate our provision for income taxes and amounts ultimately payable or recoverable in numerous tax jurisdictions around the world. These estimates involve significant judgment and interpretations of regulations and are inherently complex. Resolution of income tax treatments in individual jurisdictions may not be known for many years after completion of the applicable year. We are also required to evaluate the realizability of our deferred tax assets on an ongoing basis in accordance with U.S. GAAP, which requires the assessment of our performance and other relevant factors. Realization of deferred tax assets is dependent on our ability to generate future taxable income. Our income tax provision or benefit is dependent, in part, on our ability to forecast future taxable income in various jurisdictions. Such forecasts are inherently difficult and involve significant judgments including, among others, projecting future average selling prices and sales volumes, manufacturing and overhead costs and other factors that significantly impact our analyses of the amount of net deferred tax assets that are more likely than not to be realized.

Inventories: Inventories are stated at the lower of cost or net realizable value. In our LED segment, cost is determined on a first-in, first-out method or average cost method. For all other segments, inventory value is determined on a specific identification basis for material and an allocation of labor and manufacturing overhead. At each balance sheet date, we evaluate ending inventories for excess quantities and obsolescence, including analyses of sales levels by product family, historical demand and forecasted demand in relation to inventory on hand, competitiveness of product offerings, market conditions and product life cycles. From time to time, our customers may request that we purchase and maintain significant inventory of raw materials for specific programs. Such inventory purchases are evaluated for excess quantities and potential obsolescence and could result in a provision at the time of purchase or subsequent to purchase. Inventory levels may fluctuate based on inventory held under service arrangements. Our provision for excess and obsolete inventory are also impacted by our arrangements with our customers and/or suppliers, including our ability or inability to resell such inventory to them.

Goodwill and Intangible Assets: We test goodwill for impairment in our fourth quarter each year, or more frequently if indicators of an impairment exist, to determine whether it is more likely than not that the fair value of the reporting unit with goodwill is less than its carrying value. For reporting units for which we conclude that it is more likely than not that the fair value is more than its carrying value, goodwill is considered not impaired and we are not required to perform the goodwill impairment test. Qualitative factors considered in this assessment include industry and market considerations, overall financial performance and other relevant events and factors affecting the fair value of the reporting unit. For reporting units for which this assessment concludes that it is more likely than not that the fair value is below the carrying value, goodwill is tested for impairment by determining the fair value of the reporting unit and comparing it to the carrying value of the net assets assigned to the reporting unit. If the fair value of the reporting unit exceeds its carrying value, goodwill is considered not impaired. If the carrying value of the reporting unit exceeds its fair value, we would record an impairment loss up to the difference between the carrying value and implied fair value.

Determining when to test for impairment, the reporting units, the assets and liabilities of the reporting unit and the fair value of the reporting unit requires significant judgment and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue growth rates, forecasted manufacturing costs, budgets and other expenses developed as part of our long-range planning process. We test the reasonableness of the output of our long-range planning process by calculating an implied value per share and comparing that to current share prices, analysts’ consensus pricing and management’s expectations. These estimates and assumptions are used to calculate projected future cash flows for the reporting unit, which are discounted using a risk-adjusted rate to estimate a fair value. We base fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates.

We test other identified intangible assets with definite useful lives when events and circumstances indicate the carrying value may not be recoverable by comparing the carrying amount to the sum of undiscounted cash flows expected to be generated by the asset. Estimating fair values involves significant assumptions, including future sales prices, sales volumes, costs and discount rates.

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Revenue Recognition: We recognize revenue based on the transfer of control of goods and services and apply the following five-step approach: (1) identification of a contract with a customer, (2) identification of the performance obligations in the contract, (3) determination of the transaction price, (4) allocation of the transaction price to the performance obligations in the contract and (5) recognition of revenue as performance obligations are satisfied.

Applying the five step approach in determining whether to recognize revenue at a point in time or over time requires significant judgement. A portion of our revenue is from sales of customized product which, in some cases, are non-cancellable and/or non-refundable. Significant judgement is required to determine when control passes to the customer and whether and when our performance obligations have been satisfied. This determination can significantly affect the timing of recognizing revenue.

Product Revenue: Product revenue is generally recognized when control of the promised goods is transferred to customers. Contracts with customers are generally short-term in duration at fixed, negotiated prices with payment generally due shortly after delivery. We estimate a liability for returns using the expected value method based on historical rates of return. In addition, we generally offer price protection to our distributors, which is a form of variable consideration that decreases the transaction price. We use the expected value method, based on historical price adjustments and current pricing trends, to estimate the amount of revenue recognized from sales to distributors. Differences between the estimated and actual amounts are recognized as adjustments to revenue.

Noncancellable, nonrefundable customized product sales are recognized over time on a cost incurred basis. In connection with these arrangements, customers obtain control and benefit from products as they are completed. The terms for these arrangements provide us with a legally enforceable right to receive payment, including a reasonable profit margin upon customer cancellation, for performance completed to date. Accordingly, we recognize revenue over time as we complete the manufacture of these products.

A portion of our revenue is derived from the sale of customized products. In certain cases, we recognize revenue when control of the underlying assets passes to the customer when the customer is able to direct the use of, and obtain substantially all of the remaining benefit from, the assets; the customer has the significant risks and rewards associated with ownership of the assets; and we have a present right to payment. Under the terms of these arrangements, we cannot repurpose products without the customer’s consent and accordingly, we recognize revenue at the point in time when products are completed and made available to the customer.

Service Revenue: Our service revenue is derived from professional services and supply chain services. Professional services include solution design, system installation, software automation and managed support services related to HPC and storage systems. Supply chain services includes procurement, logistics, inventory management, temporary warehousing, kitting and packaging. A portion of our product sales include extended warranty and on-site services, subscriptions to our HPC environment, professional services, software and related support.

Agent Services: We provide certain supply chain services on an agent basis, whereby we procure materials and services on behalf of our customers and then resell such materials or services to our customers. Gross amounts invoiced to customers in connection with these agent services include amounts related to the services performed by us in addition to the cost of the materials and services procured. However, only the amount related to the agent component is recognized as revenue in our results of operations. We generally recognize revenue for these procurement, logistics and inventory management services upon the completion of such services, which typically occurs at the time of shipment of product to the customer. Amounts we invoice to customers for the cost of materials and services performed, which remain unpaid as of the end of a reporting period, are included in accounts receivable. Additionally, the cost of materials procured for customers under these agent services, but which remain on hand as of the end of a reporting period, are included in inventories. Amounts in accounts receivable and inventories impact the determination of net cash provided by (used in) operations.

Determining whether we are the principal or agent in these transactions requires significant judgement. This determination affects the amount of revenue we recognize; a principal recognizes revenues at the gross amount received for the goods and services, while an agent recognizes revenue at the net amount. The impact of this determination significantly impact the amount of revenue and cost of sales we recognize.

Transaction Price: The transaction price is determined based on the consideration to which we will be entitled in exchange for transferring goods or services to the customer. We allocate the transaction price to each distinct product and service based on its relative standalone selling price. The standalone selling price for products primarily involves the cost to produce the deliverable plus the anticipated margin and for services is estimated based on our approved list price.

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A portion of our service revenue is from professional services, including installation and other services and hardware and software related support. Each contract may contain multiple performance obligations, which requires the transaction price to be allocated to each performance obligation. We allocate the consideration to each performance obligation based on the relative selling price, determined as the best estimate of the price at which we would transact if it sold the deliverable regularly on a stand-alone basis.

Contract Costs: As a practical expedient, we recognize the incremental costs of obtaining a contract, specifically commission expenses that have an amortization period of less than twelve months, as an expense when incurred. Additionally, we account for shipping and handling costs, if any, that occur after control transfers to the customer as a fulfillment activity. We record shipping and handling costs related to revenue transactions within cost of sales as a period cost.

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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the consolidated financial statements and accompanying notes for the year ended August 26, 2022. 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, 2021 and 2020 each contained 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 amounts are in thousands.

Overview

For an overview of our business, including a discussion of our acquisition of our LED Solutions business from Cree and effects on us of COVID-19, see “PART I – Item 1. Business – Overview.”

As a result of our recent acquisitions and heightened focus on operational excellence over the past several years, we grew our net sales by 21% to $1.8 billion in 2022 compared to $1.5 billion in 2021. Over the same period, our consolidated GAAP operating income was $114.5 million, $55.2 million and $41.3 million for 2022, 2021 and 2020, respectively. Our total non-GAAP segment operating income grew by 41.6% to $227.6 million, or 12.5% operating margin, in 2022, compared to $160.8 million, or 10.7% operating margin, in 2021. See “Non-GAAP Measures of Segment Operating Income” below for further details.

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 2022, primarily as a result of a full year of operating expenses for the LED Solutions business. We expect to continue to see increased operating expenses in 2023 as we record operating expenses for our Stratus acquisition and continue to increase our investment in new products and services for the IPS business.

Acquisition of Stratus Technologies

Subsequent to our fiscal year 2022, on August 29, 2022, we completed the acquisition of Storm Private Holdings I Ltd., a Cayman Islands exempted company (“Stratus Holding Company” and together with its subsidiaries, “Stratus Technologies”). At the closing, SGH paid a cash purchase price of $225 million, subject to certain adjustments. In addition, the seller has the right to receive, and SGH will be obligated to pay, contingent consideration (if any) of up to $50 million (the “Earn-Out”) based on the gross profit performance of the Stratus business during the first full 12 fiscal months of Stratus following the closing. The Earn-Out, if any, will be payable in cash, ordinary shares of SGH, or a mix of cash and SGH Shares, at SGH’s election.

Stratus is a global leader in simplified, protected, and autonomous computing platforms and services in the data center and at the Edge. For more than 40 years, Stratus has provided high-availability, fault-tolerant computing to Fortune 500 companies and small-to-medium sized businesses enabling them to securely and remotely run critical applications with minimal downtime.

Factors Affecting Our Operating Performance

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

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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 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-Light” 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-Light 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.

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Results of Operations

(1)Summations of percentages may not compute precisely due to rounding.

Net Sales, Cost of Sales and Gross Profit

Net sales increased by $318.2 million, or 21.2%, in 2022 compared to the prior year, due to an increase of $178.6 million of revenue from our recent acquisition of the LED Business in March 2021 and to strong performance in our IPS and Memory Solutions businesses. IPS net sales increased by $96.2 million, or 27.9%, primarily due to higher volumes of sales in our Penguin Computing business. Memory Solutions sales increased by $43.4 million, or 4.7%, primarily due to a 12.2% higher volume of Specialty DRAM products, partially offset by a 34.5% lower volume of mobile memory.

Net sales increased by $378.8 million, or 33.7%, in 2021 compared to the prior year, due to $224.6 million of revenue from our recent acquisition of the LED Business in March 2021 and to strong performance in our IPS and Memory Solutions businesses. IPS net sales increased by $79.6 million, or 30.0%, primarily due to higher volumes of sales in our Penguin Computing business. Memory Solutions sales increased by $74.6 million, or 8.7%, primarily due to a 24.7% higher volume of DRAM products and a 39.1% increase in average selling prices for mobile memory.

Cost of sales increased by $173.4 million, or 14.5%, in 2022, and by $286.8 million, or 31.7%, in 2021 compared to the prior respective years, primarily due to our acquisition of the LED Business and from higher costs of materials and production costs due to higher sales for our Memory Solutions and IPS segments.

Gross margin increased to 24.9% in 2022 compared to 20.5% in 2021 primarily due to inclusion of higher margin LED Solutions products, as well as process and efficiency improvement in the Memory Solutions and IPS segments compared to the prior year. Gross margin increased to 20.5% in 2021, compared to 19.3% in 2020 primarily due to the inclusion of higher margin LED Solutions products in the second half of the year.

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Non-GAAP Measure of Segment Operating Income

Below is a table of our operating income, measured on a non-GAAP basis, which SGH management uses to supplement SGH’s financial results under GAAP to analyze its operations and make decisions as to future operational plans, and believes that this supplemental non-GAAP information is useful to investors in analyzing and assessing the Company’s past and future operating performance. These non-GAAP measures exclude certain items, such as share-based compensation expense, amortization of acquisition-related intangible assets (consisting of amortization of developed technology, customer relationships, trademarks/trade names and backlog acquired in connection with business combinations), acquisition-related inventory adjustments, acquisition-related expenses, restructure charges and integration expenses, changes in the fair value of contingent consideration, and other infrequent or unusual items. While amortization of acquisition-related intangible assets is excluded, the revenues from acquired companies is reflected in our non-GAAP measures and these intangible assets contribute to revenue generation. See “PART II – Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Segment and Other Information.”

Non-GAAP financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP, as they exclude important information about our financial results, as noted above. The presentation of these adjusted amounts varies from amounts presented in accordance with GAAP and therefore may not be comparable to amounts reported by other companies.

Memory Solutions operating income increased by $28.1 million, or 30.6%, in 2022 compared to the prior year primarily due to higher sales, partially offset by an increase of $16.4 million in operating expenses, mainly driven by higher research and development expense due to lower Brazil financial credits. Memory Solutions operating income increased by $19.9 million, or 27.6%, in 2021 compared to the prior year primarily due to higher sales, as well as a decrease of $10.8 million in operating expenses mainly driven by lower research and development expense due to higher Brazil financial credits.

IPS operating income increased by $21.1 million, or 64.0%, in 2022 compared to the prior year primarily due to higher sales, partially offset by $6.7 million higher operating expenses mainly driven by personnel-related expenses due to increased headcount to support the revenue growth. IPS operating income increased by $20.6 million, or 166.4%, in 2021 compared to the prior year primarily due to higher sales, partially offset by $4.4 million higher operating expenses mainly driven by personnel-related expenses due to increased headcount to support the revenue growth.

LED Solutions operating income increased by $17.6 million, or 48.8%, in 2022 compared to the prior year as 2022 included a full year of operations compared to half a year in 2021. LED Solutions operating income of $36.1 million in 2021 was due to our acquisition of the LED Business in March 2021.

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Operating and Non-operating (Income) Expense

Research and Development

Research and development expense increased by $28.1 million, or 57.0%, in 2022 compared to the prior year, primarily due to $17.0 million additional costs from the acquisition of the LED Business, as well as a decrease of $12.8 million in the Brazil financial credits that are reflected as a reduction of research and development expenses. The credits result from amendments to the IT law implemented in April 2020. We expect research and development expense to increase in absolute dollars in 2023 as we include the operations for our Stratus acquisition and lower Brazil financial credits.

Research and development expense decreased by $2.8 million, or 5.3%, in 2021 compared to the prior year, primarily due to an increase of $23.6 million in the Brazil financial credits in 2021, which are reflected as a reduction of research and development expenses. The credits result from amendments to the IT law implemented in April 2020. The increase in credits is partially offset by $16.0 million additional costs from the acquisition of the LED Business as well as higher personnel-related expenses and depreciation.

Selling, General and Administrative

Selling, general and administrative expense increased by $48.5 million, or 28.3%, in 2022 compared to the prior year, primarily due to $26.0 million of additional costs from the acquisition of the LED Business as well as higher personnel-related expenses, professional services and acquisition expenses associated with the acquisition. We expect selling, general and administrative expense to increase in absolute dollars in 2023 as we include the operations for our Stratus acquisition.

Selling, general and administrative expense increased by $48.5 million, or 39.4%, in 2021 compared to the prior year, primarily due to $21.5 million of additional costs from the acquisition of the LED Business as well as $14.1 million of higher share-based compensation expense, personnel-related expenses, professional services and acquisition expenses associated with the acquisition.

Change in Fair Value of Contingent Consideration

Our acquisition of the LED Business included contingent consideration, for which we estimated the fair value as of the date of acquisition to be $28.1 million. During 2022 and the second half of 2021, we recorded charges of $41.3 million and $32.4 million, respectively, to adjust the value. The changes in fair value reflected new information about the probability and timing of meeting the conditions of the revenue and gross profit targets of the LED Business. Based on the revenue and gross profit performance of the LED Business in Cree’s first four full fiscal quarters following the closing, the final calculated value of the contingent consideration was $101.8 million. See further information in “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Business Acquisition – LED Business.”

Other Non-operating (Income) Expense

Other non-operating (income) and expense primarily reflected gains and losses from changes in currency exchange rates, a loss in 2020 from the remeasurement of our Capped Calls and losses in 2020 from the extinguishment of debt. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Other Non-operating (Income) Expense.”

Income Tax Provision

Our provision for income taxes increased by $4.4 million in 2022, or 28.7%, compared to the prior year primarily due to higher income in non-U.S. jurisdictions subject to tax, including foreign withholding taxes. Our provision for income taxes increased by $5.0 million in 2021, or 47.3%, compared to the prior year primarily due to higher income in non-U.S. jurisdictions subject to tax.

Effective February 2011, SMART Brazil began to participate in PADIS. This program is specifically designed to promote the development of the local semiconductor industry. The Brazilian government has approved multiple applications for different products by SMART Brazil for certain beneficial tax treatment under the PADIS incentive. This beneficial tax treatment includes a reduction in the Brazil statutory income tax rate from 34% to 9% on taxable income for the Brazilian semiconductor operations of SMART Brazil. We have operations in Malaysia, where we have tax incentive arrangements for our pioneer status activities and our global supply chain business. The statutory tax rate for Malaysia is 24%. These Malaysia arrangements are scheduled to expire in August 2028 and are subject to certain conditions, for which we have complied in 2022, 2021 and 2020. In general, these future tax holidays will have tax rates greater than our prior approved tax holidays,

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and therefore we expect that our effective income tax rate in the future may be higher depending on a combination of our overall and jurisdictional profitability. For additional information, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Income Taxes.”

Liquidity and Capital Resources

At August 26, 2022, we had cash and cash equivalents of $363.1 million, of which $188.8 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.

Credit Facility

In February 2022, we entered into a credit agreement (the “Credit Agreement”) with a syndicate of banks that provides for (i) a term loan credit facility in an aggregate principal amount of $275.0 million (the “2027 TLA”) and (ii) a revolving credit facility in an aggregate principal amount of $250.0 million (the “2027 Revolver,” and together with the 2027 TLA, the “Credit Facility”), in each case, maturing in February 2027 (subject to certain earlier “springing maturity” dates upon certain conditions specified in the Credit Agreement). The Credit Agreement provides that up to $35.0 million of the 2027 Revolver is available for issuances of letters of credit. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt.”

On August 29, 2022, we entered into an incremental Amendment to the Credit Agreement that provides for incremental term loans in an aggregate amount of $300 million, on the same terms as the 2027 TLA and also maturing in February 2027 (together with the Credit Facility, the “Amended Credit Facility”). With the funds from the Amended Credit Facility, we paid a cash purchase price of $225 million for the Stratus acquisition and also repaid in full the $101.8 million outstanding under the Earnout Note. For more information, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Subsequent Events.”

Contractual Obligations

For information regarding our debt obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt.” For our operating lease obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Leases.” For our purchase obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Commitments and Contingencies.”

Cash Flows

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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 2022 was $104.9 million, comprised primarily of net income of $68.6 million, adjusted for non-cash items of $158.0 million. Operating cash flows were also adversely affected by a $121.6 million net increase in our operating assets and liabilities, consisting primarily of an increase of $97.5 million in accounts receivable and a decrease of $61.7 million in accounts payable and accrued expenses and other liabilities, partially offset by a decrease of $39.7 million in inventories. The increase in accounts receivable was primarily due to higher gross sales in our Memory Solutions and IPS businesses. The decreases in both accounts payable and accrued expenses and inventories were primarily due to lower inventories in our Memory Solutions and IPS businesses.

Net cash provided by operating activities in 2021 was $153.4 million, resulting primarily from net income of $22.5 million, adjusted for non-cash items of $125.0 million. Operating cash flows also benefited from a $5.8 million net change in our operating assets and liabilities, consisting primarily of an increase of $208.1 million in accounts payable and accrued expenses and other liabilities, partially offset by increases of $137.9 million in inventories and $51.4 million in accounts receivable. The increases in accounts payable and accrued expenses and in inventories were primarily due to higher inventories among all business areas. The increase in accounts receivable was primarily due to higher gross sales primarily in our Memory Solutions and IPS segments.

Net cash provided by operating activities in 2020 was $87.2 million, comprised of a net loss of $1.1 million, adjusted for non-cash items of $78.0 million. Operating cash flows also benefited from a $10.3 million net change in our operating assets and liabilities, consisting primarily of an increase of $65.8 million in accounts payable and accrued expenses and other liabilities and a decrease of $10.8 million in other assets, partially offset by increases of $51.8 million in inventories and $12.3 million in accounts receivable. The increases in accounts payable and accrued expenses and in inventories were primarily due to the transition of manufacturing from contract manufacturers to the Company as well as higher purchases for certain programs. The increase in accounts receivable was primarily due to timing of sales.

Investing Activities: Net cash used in investing activities in 2022 was $39.0 million, consisting primarily of $38.2 million used for purchases of property and equipment. Net cash used in investing activities in 2021 consisted primarily of $47.6 million used for purchases of property and equipment and $35.7 million net cash used for the acquisition of the LED Business. Net cash used in investing activities in 2020 consisted primarily of purchases of property and equipment.

Financing Activities: Net cash provided by financing activities in 2022 was $73.9 million, consisting primarily of $278.7 million in net proceeds from issuance of a term loan and $12.1 million in proceeds from the issuance of ordinary shares from our equity plans, partially offset by $127.1 million in principal repayment of the LED Purchase Price Note, $57.2 million of payments to acquire ordinary shares (including $50.0 million under our share repurchase program) and $25.0 million in net repayments of borrowings under our line of credit. Net cash provided by financing activities in 2021 was $2.8 million, consisting primarily of $25.0 million in net proceeds from borrowings under our line of credit, $14.9 million in proceeds from the issuance of ordinary shares and $11.4 million in proceeds from the issuance of debt, partially offset by $48.5 million used to repurchase our ordinary shares. Net cash provided by financing activities in 2020 consisted primarily of $243.1 million proceeds from the issuance of our 2026 Notes and $5.5 million in proceeds from the issuance of ordinary shares, partially offset by $204.9 million in payments for the extinguishment of debt, $21.8 million for the purchase of our Capped Calls and payment of $8.5 million for debt.

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.

Business Acquisitions: Accounting for acquisitions requires us to estimate the fair value of consideration paid and the individual assets and liabilities acquired, which involves a number of judgments, assumptions and estimates that could materially affect the amount and timing of costs recognized in subsequent periods. We typically obtain independent third-

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party valuation studies to assist in determining fair values, including assistance in determining future cash flows, discount rates and comparable market values. Items involving significant assumptions, estimates and judgments include the following:

•Fair value of consideration paid or transferred (including contingent consideration);

•Inventory, including estimated future selling prices, timing of product sales and completion costs for work in process;

•Property, plant and equipment, including determination of values in a continued-use model;

•Debt and other liabilities, including discount rate and timing of payments;

•Intangible assets, including valuation methodology, estimates of future revenues and costs, profit allocation rates attributable to the acquired technology and discount rates; and

•Deferred taxes, including projections of future taxable income and tax rates.

The valuation of contingent consideration in connection with an acquisition may be inherently challenging due to the dependence on the occurrence of future events and complex payment provisions. Estimating the fair value of contingent consideration at an acquisition date and in subsequent periods involves significant judgments, including projecting future average selling prices, future sales volumes, manufacturing costs and gross margins. To project average selling prices and sales volumes, we review recent sales volumes, existing customer orders, current prices and other factors such as industry analyses of supply and demand, seasonal factors, general economic trends and other information. To project manufacturing costs, we must estimate future production levels and costs of production, including labor, materials and other overhead costs. Actual selling prices and sales volumes, as well as levels and costs of production, can often vary significantly from projected amounts.

Income Taxes: We are required to estimate our provision for income taxes and amounts ultimately payable or recoverable in numerous tax jurisdictions around the world. These estimates involve significant judgment and interpretations of regulations and are inherently complex. Resolution of income tax treatments in individual jurisdictions may not be known for many years after completion of the applicable year. We are also required to evaluate the realizability of our deferred tax assets on an ongoing basis in accordance with U.S. GAAP, which requires the assessment of our performance and other relevant factors. Realization of deferred tax assets is dependent on our ability to generate future taxable income. Our income tax provision or benefit is dependent, in part, on our ability to forecast future taxable income in various jurisdictions. Such forecasts are inherently difficult and involve significant judgments including, among others, projecting future average selling prices and sales volumes, manufacturing and overhead costs and other factors that significantly impact our analyses of the amount of net deferred tax assets that are more likely than not to be realized.

Inventories: Inventories are stated at the lower of cost or net realizable value. In our LED segment, cost is determined on a first-in, first-out method or average cost method. For all other segments, inventory value is determined on a specific identification basis for material and an allocation of labor and manufacturing overhead. At each balance sheet date, we evaluate ending inventories for excess quantities and obsolescence, including analyses of sales levels by product family, historical demand and forecasted demand in relation to inventory on hand, competitiveness of product offerings, market conditions and product life cycles. From time to time, our customers may request that we purchase and maintain significant inventory of raw materials for specific programs. Such inventory purchases are evaluated for excess quantities and potential obsolescence and could result in a provision at the time of purchase or subsequent to purchase. Inventory levels may fluctuate based on inventory held under service arrangements. Our provision for excess and obsolete inventory are also impacted by our arrangements with our customers and/or suppliers, including our ability or inability to resell such inventory to them.

Goodwill and Intangible Assets: We test goodwill for impairment in our fourth quarter each year, or more frequently if indicators of an impairment exist, to determine whether it is more likely than not that the fair value of the reporting unit with goodwill is less than its carrying value. For reporting units for which we conclude that it is more likely than not that the fair value is more than its carrying value, goodwill is considered not impaired and we are not required to perform the goodwill impairment test. Qualitative factors considered in this assessment include industry and market considerations, overall financial performance and other relevant events and factors affecting the fair value of the reporting unit. For reporting units for which this assessment concludes that it is more likely than not that the fair value is below the carrying value, goodwill is tested for impairment by determining the fair value of the reporting unit and comparing it to the carrying value of the net assets assigned to the reporting unit. If the fair value of the reporting unit exceeds its carrying value, goodwill is considered not impaired. If the carrying value of the reporting unit exceeds its fair value, we would record an impairment loss up to the difference between the carrying value and implied fair value.

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Determining when to test for impairment, the reporting units, the assets and liabilities of the reporting unit and the fair value of the reporting unit requires significant judgment and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue growth rates, forecasted manufacturing costs, budgets and other expenses developed as part of our long-range planning process. We test the reasonableness of the output of our long-range planning process by calculating an implied value per share and comparing that to current share prices, analysts’ consensus pricing and management’s expectations. These estimates and assumptions are used to calculate projected future cash flows for the reporting unit, which are discounted using a risk-adjusted rate to estimate a fair value. We base fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates.

We test other identified intangible assets with definite useful lives when events and circumstances indicate the carrying value may not be recoverable by comparing the carrying amount to the sum of undiscounted cash flows expected to be generated by the asset. Estimating fair values involves significant assumptions, including future sales prices, sales volumes, costs and discount rates.

Property and Equipment: We review the carrying value of property and equipment for impairment when events and circumstances indicate that the carrying value of an asset or group of assets may not be recoverable from the estimated future cash flows expected to result from its use and/or disposition. In cases where undiscounted expected future cash flows are less than the carrying value, an impairment loss is recognized equal to the amount by which the carrying value exceeds the estimated fair value of the assets. The estimate of future cash flows involves numerous assumptions which require significant judgment by us, including, but not limited to, future use of the asset(s) for our operations versus sale or disposal of the asset(s), future selling prices for our products and future production and sales volumes. In addition, significant judgment is required in determining the groups of assets for which impairment tests are separately performed.

Revenue Recognition: We recognize revenue based on the transfer of control of goods and services and apply the following five-step approach: (1) identification of a contract with a customer, (2) identification of the performance obligations in the contract, (3) determination of the transaction price, (4) allocation of the transaction price to the performance obligations in the contract and (5) recognition of revenue as performance obligations are satisfied.

Applying the five step approach in determining whether to recognize revenue at a point in time or over time requires significant judgement. A portion of our revenue is from sales of customized product which, in some cases, are non-cancellable and/or non-refundable. Significant judgement is required to determine when control passes to the customer and whether and when our performance obligations have been satisfied. This determination can significantly affect the timing of recognizing revenue.

Product Revenue: Product revenue is generally recognized at a point in time when control of the promised goods is transferred to customers. Contracts with customers are generally short-term in duration at fixed, negotiated prices with payment generally due shortly after delivery. We estimate a liability for returns using the expected value method based on historical rates of return. In addition, we generally offer price protection to our distributors, which is a form of variable consideration that decreases the transaction price. We use the expected value method, based on historical price adjustments and current pricing trends, to estimate the amount of revenue recognized from sales to distributors. Differences between the estimated and actual amounts are recognized as adjustments to revenue.

Non-cancellable, nonrefundable customized product sales are recognized over time on a cost incurred basis. In connection with these arrangements, customers obtain control and benefit from the services as they are performed. The terms for these arrangements provide us with a legally enforceable right to receive payment, including a reasonable profit margin upon customer cancellation, for performance completed to date. Accordingly, we recognize revenue over time as we complete the manufacture of these products.

A portion of our revenue is derived from the sale of customized products. In certain cases, we recognize revenue when control of the underlying assets passes to the customer when the customer is able to direct the use of, and obtain substantially all of the remaining benefit from, the assets; the customer has the significant risks and rewards associated with ownership of the assets; and we have a present right to payment. Under the terms of these arrangements, we cannot repurpose products without the customer’s consent and accordingly, we recognize revenue at the point in time when products are completed and made available to the customer.

Service Revenue: Our service revenue is derived from supply chain services as well as professional services. Supply chain services includes procurement, logistics, inventory management, temporary warehousing, kitting and packaging. Professional services include solution design, system installation, software automation and managed support services

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related to HPC and storage systems. A portion of our product sales include extended warranty and on-site services, subscriptions to our HPC environment, professional services, software and related support.

Agent Services: We provide certain supply chain services on an agent basis, whereby we procure materials on behalf of our customers and then resell such materials to our customers. Gross amounts invoiced to customers in connection with these agent services include amounts related to the services performed by us in addition to the cost of the materials procured. However, only the amount related to the agent component is recognized as revenue in our results of operations. We generally recognize revenue for these procurement, logistics and inventory management services upon the completion of such services, which typically occurs at the time of shipment of product to the customer. Amounts we invoice to customers for cost of materials related to services performed, which remain unpaid as of the end of a reporting period, are included in accounts receivable. Additionally, cost of materials procured for customers under these agent services, but which remain on hand as of the end of a reporting period, are included in inventories. Amounts in accounts receivable and inventories impact the determination of net cash provided by (or used in) operations.

Determining whether we are the principal or agent in these transactions requires significant judgement. This determination affects the amount of revenue we recognize; a principal recognizes revenues at the gross amount received for the goods and services, while an agent recognizes revenue at the net amount. The impact of this determination significantly impact the amount of revenue and cost of sales we recognize.

Transaction Price: The transaction price is determined based on the consideration to which we will be entitled in exchange for transferring goods or services to the customer. We allocate the transaction price to each distinct product and service based on its relative standalone selling price. The standalone selling price for products primarily involves the cost to produce the deliverable plus the anticipated margin and for services is estimated based on our approved list price.

A portion of our service revenue is from professional services, including installation and other services and hardware and software related support. Each contract may contain multiple performance obligations, which requires the transaction price to be allocated to each performance obligation. We allocate the consideration to each performance obligation based on the relative selling price, determined as the best estimate of the price at which we would transact if it sold the deliverable regularly on a stand-alone basis.

Contract Costs: As a practical expedient, we recognize the incremental costs of obtaining a contract, specifically commission expenses that have an amortization period of less than twelve months, as an expense when incurred. Additionally, we account for shipping and handling costs, if any, that occur after control transfers to the customer as a fulfillment activity. We record shipping and handling costs related to revenue transactions within cost of sales as a period cost.

Share-Based Compensation: Share-based compensation is estimated at the grant date based on the fair value of the award and is recognized as expense using the straight-line amortization method over the requisite service period. For performance-based share awards, the expense recognized is dependent on our assessment of the likelihood of the performance measure being achieved. We utilize forecasts of future performance to assess these probabilities and this assessment requires significant judgment.

Determining the appropriate fair-value model and calculating the fair value of share-based awards at the grant date requires significant judgment, including estimating share price volatility and expected option life. We develop these estimates based on historical data and market information which can change significantly over time. A small change in the estimates used can result in a relatively large change in the estimated valuation. We use the Black-Scholes option valuation model to value employee options and awards granted under our employee share purchase plan. We estimate share price volatility based on an average of historical volatility and the implied volatility derived from traded options on our shares.

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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the consolidated financial statements and accompanying notes 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 2021, 2020 and 2019 each contained 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

For an overview of our business, including a discussion of our acquisition of our LED Solutions business from Cree and effects on us of COVID-19, see “PART I – Item 1. Business – Overview.”

As a result of our recent acquisitions and heightened focus on operational excellence over the past several years, we grew our net sales by 34% to $1.5 billion in 2021 compared to $1.1 billion in 2020. Over the same period, our total segment operating income grew by 90.9% to $160.8 million, or 10.7% operating margin, in 2021, compared to $84.2 million, or 7.5% operating margin, in 2020. See table below in “Segment Operating Income” for further details.

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 experience the phase-out of certain Brazil financial tax credits, which result in an increase in operating expense in Memory Solutions.

Factors Affecting Our Operating Performance

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.

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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 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-Light” 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-Light 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

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Net Sales, Cost of Sales and Gross Profit

Net sales increased by $378.8 million, or 33.7%, in 2021 compared to the prior year, due to $224.6 million of revenue from our recent acquisition of the LED Business in March 2021 and to strong performance in our IPS and Memory Solutions businesses. IPS net sales increased by $79.6 million, or 30.0%, primarily due to higher volumes of sales in our Penguin Computing business. Memory Solutions sales increased by $74.6 million, or 8.7%, primarily due to a 24.7% higher volume of DRAM products and a 39.1% increase in average selling prices for mobile memory.

Net sales decreased by $89.6 million, or 7.4%, in 2020 compared to the prior year, primarily due to $138.2 million lower Memory Solutions revenue, partially offset by $48.6 million higher IPS revenue. The decrease in Memory Solutions sales was mainly due to lower DRAM and mobile memory product sales, primarily resulting from 32.8% and 36.5% lower average selling prices, respectively, partially offset by higher OEM Flash memory sales resulting from 74.8% higher average selling prices and product mix. IPS sales increased by 22.4% over the prior year, primarily as the result of our two acquisitions in July 2019, which contributed to sales for the full year in 2020, partially offset by lower Penguin revenue due to lower federal spending as a result of COVID-19.

Cost of sales increased by $286.8 million, or 31.7%, in 2021 compared to the prior year, primarily due to higher cost of materials and production costs, due to a higher level of sales for our Memory Solutions and IPS segments, and from our acquisition of the LED Business. Cost of sales decreased by $68.5 million, or 7.0%, in 2020 compared to the prior year, primarily due to lower cost of materials and production resulting from the lower level of overall sales, which was partially offset by higher materials and production costs related to the growth in the IPS segment resulting from acquisitions in 2019, for which there was a full year reflected for the first time in 2020. Included in the cost of sales changes was a favorable foreign exchange impact of $5.9 million and $4.5 million due to locally sourced cost of sales in Brazil in 2021 and 2020, respectively.

Gross margin increased to 20.5% in 2021 compared to 19.6% in 2020 primarily due to inclusion of higher margin LED Solutions products in the second half of the year, as well as process and efficiency improvement in the Memory Solutions and IPS segments compared to the prior year. Gross margin remained relatively flat at 19.3% in 2020, compared to 19.6% in 2019.

Segment Operating Income

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.

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Memory Solutions operating income increased by $19.8 million, or 27.6%, in 2021 compared to the prior year primarily due to higher sales, as well as a decrease of $10.8 million in operating expenses mainly driven by lower research and development expense due to Brazil financial credits. Memory Solutions operating income decreased by $37.4 million, or 34.3%, in 2020 compared to the prior year primarily due to lower sales, partially offset by a decrease of $11.3 million in operating expenses mainly driven by lower research and development expense due to Brazil financial credits and lower research & development spend, travel and personnel-related expenses, as well as favorable currency exchange rates.

IPS operating income increased by $20.6 million, or 166.4%, in 2021 compared to the prior year primarily due to higher sales, partially offset by $4.4 million higher operating expenses mainly driven by personnel-related expenses due to increased headcount to support the revenue growth. IPS operating income increased by $8.8 million, or 245.4%, in 2020 compared to the prior year primarily due to higher sales, partially offset by $23.5 million higher operating expenses due to the full year inclusion of the operations of companies acquired in 2019.

LED Solutions operating income of $36.1 million in 2021 was due to our acquisition of the LED Business in March 2021.

Operating and Non-operating (Income) Expense

Research and Development

Research and development expense decreased by $2.8 million, or 5.3%, in 2021 compared to the prior year, primarily due to an increase of $23.6 million in the Brazil financial credits that are reflected as a reduction of research and development expenses. The credits result from amendments to the IT law implemented in April 2020. The increase in credits is partially offset by $16.0 million additional costs from the acquisition of the LED Business, as well as higher personnel-related expenses and depreciation. In addition, research and development expense was favorably affected in 2021 by $2.7 million from the impact of currency exchange rates. We expect research and development expense to increase in absolute dollars in 2022 as we include the full year of operations for our LED Solutions segment and the effect of the end of the Brazil financial credits, currently scheduled to occur in January 2022.

Research and development expense increased by $4.1 million, or 8.6%, in 2020 compared to the prior year primarily due to $12.4 million higher costs from the addition of our IPS acquisitions in 2019, partially offset by $6.4 million of Brazil financial credits. In addition, research and development expense was unfavorably affected in 2020 by $2.2 million from the impact of currency exchange rates.

Selling, General and Administrative

Selling, general and administrative expense increased by $49.9 million, or 41.8%, in 2021 compared to the prior year, primarily due to $21.5 million of additional costs from the acquisition of the LED Business (including $1.0 million in intangible amortization expense) as well as $14.1 million of higher share-based compensation expense, personnel-related expenses, professional services and acquisition expenses associated with the acquisition. Included in the selling, general and administrative expense increase was a favorable foreign exchange impact of $1.2 million. 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.

Selling, general and administrative expense increased by $16.3 million, or 15.8%, in 2020 compared to the prior year, primarily due to $16.8 million of higher costs from the addition of our IPS acquisitions in 2019 (including intangible amortization expense) as well as integration expenses associated with the acquisitions. In addition, selling, general and administrative expense was favorably affected in 2020 by $1.5 million from the impact of currency exchange rates.

Change in Fair Value of 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 second half of 2021, we recorded charges of $32.4 million to adjust the value as of the date of acquisition to the fair value as of the end of 2021. The change in fair value reflected new information about the probability and timing of meeting the conditions of the revenue and gross profit targets of the LED Business. See further information in “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Business Acquisitions – LED Business.”

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Other Operating and Non-operating (Income) Expense

Other operating (income) expense in 2021 and 2020 primarily reflected restructuring activities in our IPS and Memory Solutions segments. Other non-operating (income) and expense primarily reflected gains and losses from changes in currency exchange rates, a loss in 2020 from the remeasurement of our Capped Calls and losses in 2020 from the extinguishment of debt. See “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Other Operating (Income) Expense” and “– Other Non-operating (Income) Expense.”

Income Tax Provision

Our provision for income taxes increased by $5.0 million in 2021, or 47.2%, compared to the prior year primarily due to higher income in non-U.S. jurisdictions subject to tax. Provision for income taxes decreased by $4.4 million in 2020, or 29.4%, compared to the prior year primarily due to lower income in non-U.S. jurisdictions subject to tax.

Effective February 1, 2011, SMART Brazil began to participate in PADIS. This program is specifically designed to promote the development of the local semiconductor industry. The Brazilian government has approved multiple applications for different products by SMART Brazil for certain beneficial tax treatment under the PADIS incentive. This beneficial tax treatment includes a reduction in the Brazil statutory income tax rate from 34% to 9% on taxable income for the Brazilian semiconductor operations of SMART Brazil. We have operations in Malaysia, where we have tax incentive arrangements for our pioneer status activities and our global supply chain business. The statutory tax rate for Malaysia is 24%. These Malaysia arrangements are scheduled to expire in August 2028 and are subject to certain conditions, for which we have complied in 2021, 2020 and 2019. In general, these future tax holidays will have tax rates greater than our prior approved tax holidays, and therefore we expect that our effective income tax rate in the future may be higher depending on a combination of our overall and jurisdictional profitability. For additional information, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Income Taxes.”

Liquidity and Capital Resources

At August 27, 2021, we had cash and cash equivalents of $223.0 million, of which $191.8 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.

For information regarding our debt obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Debt.” For our operating lease obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Leases.” For our purchase obligations, see “Item 8. Financial Statements and Supplementary Data – Notes to Consolidated Financial Statements – Commitments and Contingencies.”

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Cash Flows

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 2021 was $153.4 million, comprised primarily of net income of $22.5 million, adjusted for non-cash items of $132.6 million. Operating cash flows were also affected by a $1.7 million increase in our net operating assets and liabilities, consisting primarily of increases of $137.9 million in inventories, $51.4 million in accounts receivable and $17.5 million in other current assets, offset by the effects of an increase of $215.0 million in accounts payable and accrued expenses. The increase in both inventories and accounts payable and accrued expenses was primarily due to higher inventory along all business areas, and the increase in accounts receivable was primarily due to higher gross sales primarily in our Memory Solutions and IPS segments.

Net cash provided by operating activities in 2020 was $87.2 million, resulting primarily from a net loss of $1.1 million, adjusted for non-cash items of $83.1 million. Operating cash flows also benefitted from a $5.3 million change in our net operating assets and liabilities, consisting primarily of an increase of $70.6 million in accounts payable and accrued expenses, partially offset by an increase of $51.8 million in inventories and an increase of $12.3 million in accounts receivable. The increases in accounts payable and accrued expenses and in inventories were primarily due to the transition of manufacturing from contract manufacturers to the company as well as higher purchases for certain programs. The increase in accounts receivable was primarily due to timing of sales.

Net cash provided by operating activities in 2019 was $169.7 million, comprised of net income of $51.3 million, adjusted for non-cash items of $47.5 million. Operating cash flows also benefitted from a $70.8 million change in our operating assets and liabilities, consisting primarily of decreases of $102.1 million in inventories and $35.2 million in accounts receivable, partially offset by an increase of $64.2 million in accounts payable and accrued expenses. The decreases in inventories and accounts payable were primarily due to the reduction of inventory among all business areas as product lead times were reduced. The decrease in accounts receivable was primarily due to lower gross sales.

Investing Activities: Net cash used in investing activities in 2021 was $84.2 million, consisting primarily of $47.6 million used for purchases of property and equipment and $35.7 million net cash used for the acquisition of the LED Business. Net cash used in investing activities in 2020 consisted primarily of purchases of property and equipment. Net cash used in investing activities in 2019 consisted primarily of $76.1 million net cash used for acquisitions and $33.4 million used for purchases of property and equipment.

Financing Activities: Net cash provided by financing activities in 2021 was $2.8 million, consisting primarily of $25.0 million in net proceeds from borrowing under our line of credit, $14.9 million in proceeds from the issuance of ordinary shares and $11.4 million proceeds from issuance of debt, partially offset by $48.5 million used to repurchase our ordinary shares. Net cash provided by financing activities in 2020 consisted primarily of $243.1 million proceeds from the issuance of our convertible notes and $5.5 million in proceeds from the issuance of ordinary shares, partially offset by $204.9 million in payments for the extinguishment of debt, $21.8 million for the purchase of our Capped Calls and payment of $8.5 million for debt. Net cash provided by financing activities in 2019 was negligible.

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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.

Business Acquisitions: Accounting for acquisitions requires us to estimate the fair value of consideration paid and the individual assets and liabilities acquired, which involves a number of judgments, assumptions and estimates that could materially affect the amount and timing of costs recognized in subsequent periods. We typically obtain independent third-party valuation studies to assist in determining fair values, including assistance in determining future cash flows, discount rates and comparable market values. Items involving significant assumptions, estimates and judgments include the following:

The valuation of contingent consideration in connection with an acquisition may be inherently challenging due to the dependence on the occurrence of future events and complex payment provisions. Estimating the fair value of contingent consideration at an acquisition date and in subsequent periods involves significant judgments, including projecting future average selling prices, future sales volumes, manufacturing costs and gross margins. To project average selling prices and sales volumes, we review recent sales volumes, existing customer orders, current prices and other factors such as industry analyses of supply and demand, seasonal factors, general economic trends and other information. To project manufacturing costs, we must estimate future production levels and costs of production, including labor, materials and other overhead costs. Actual selling prices and sales volumes, as well as levels and costs of production, can often vary significantly from projected amounts.

Income Taxes: We are required to estimate our provision for income taxes and amounts ultimately payable or recoverable in numerous tax jurisdictions around the world. These estimates involve significant judgment and interpretations of regulations and are inherently complex. Resolution of income tax treatments in individual jurisdictions may not be known for many years after completion of the applicable year. We are also required to evaluate the realizability of our deferred tax assets on an ongoing basis in accordance with U.S. GAAP, which requires the assessment of our performance and other relevant factors. Realization of deferred tax assets is dependent on our ability to generate future taxable income. Our income tax provision or benefit is dependent, in part, on our ability to forecast future taxable income in these and other jurisdictions. Such forecasts are inherently difficult and involve significant judgments including, among others, projecting future average selling prices and sales volumes, manufacturing and overhead costs and other factors that significantly impact our analyses of the amount of net deferred tax assets that are more likely than not to be realized.

Inventories: Inventories are stated at the lower of cost or net realizable value. In our LED segment, cost is determined on a first-in, first-out method or average cost method. For all other segments, inventory value is determined on a specific identification basis for material and an allocation of labor and manufacturing overhead. At each balance sheet date, we evaluate ending inventories for excess quantities and obsolescence, including analyses of sales levels by product family, historical demand and forecasted demand in relation to inventory on hand, competitiveness of product offerings, market conditions and product life cycles. From time to time, our customers may request that we purchase and maintain significant inventory of raw materials for specific programs. Such inventory purchases are evaluated for excess quantities and potential obsolescence and could result in a provision at the time of purchase or subsequent to purchase. Inventory levels may fluctuate based on inventory held under service arrangements. Our provision for excess and obsolete inventory are also impacted by our arrangements with our customers and/or suppliers, including our ability or inability to resell such inventory to them.

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Goodwill and Intangible Assets: We test goodwill for impairment in our fourth quarter each year, or more frequently if indicators of an impairment exist, to determine whether it is more likely than not that the fair value of the reporting unit with goodwill is less than its carrying value. For reporting units for which we conclude that it is more likely than not that the fair value is more than its carrying value, goodwill is considered not impaired and we are not required to perform the goodwill impairment test. Qualitative factors considered in this assessment include industry and market considerations, overall financial performance and other relevant events and factors affecting the fair value of the reporting unit. For reporting units for which this assessment concludes that it is more likely than not that the fair value is below the carrying value, goodwill is tested for impairment by determining the fair value of the reporting unit and comparing it to the carrying value of the net assets assigned to the reporting unit. If the fair value of the reporting unit exceeds its carrying value, goodwill is considered not impaired. If the carrying value of the reporting unit exceeds its fair value, we would record an impairment loss up to the difference between the carrying value and implied fair value.

Determining when to test for impairment, the reporting units, the assets and liabilities of the reporting unit and the fair value of the reporting unit requires significant judgment and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue growth rates, forecasted manufacturing costs, budgets and other expenses developed as part of our long-range planning process. We test the reasonableness of the output of our long-range planning process by calculating an implied value per share and comparing that to current share prices, analysts’ consensus pricing and management’s expectations. These estimates and assumptions are used to calculate projected future cash flows for the reporting unit, which are discounted using a risk-adjusted rate to estimate a fair value. We base fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates.

We test other identified intangible assets with definite useful lives when events and circumstances indicate the carrying value may not be recoverable by comparing the carrying amount to the sum of undiscounted cash flows expected to be generated by the asset. Estimating fair values involves significant assumptions, including future sales prices, sales volumes, costs and discount rates.

Property and Equipment: We review the carrying value of property and equipment for impairment when events and circumstances indicate that the carrying value of an asset or group of assets may not be recoverable from the estimated future cash flows expected to result from its use and/or disposition. In cases where undiscounted expected future cash flows are less than the carrying value, an impairment loss is recognized equal to the amount by which the carrying value exceeds the estimated fair value of the assets. The estimate of future cash flows involves numerous assumptions which require significant judgment by us, including, but not limited to, future use of the asset(s) for our operations versus sale or disposal of the asset(s), future selling prices for our products and future production and sales volumes. In addition, significant judgment is required in determining the groups of assets for which impairment tests are separately performed.

Revenue Recognition: We recognize revenue based on the transfer of control of goods and services and apply the following five-step approach: (1) identification of a contract with a customer, (2) identification of the performance obligations in the contract, (3) determination of the transaction price, (4) allocation of the transaction price to the performance obligations in the contract and (5) recognition of revenue as performance obligations are satisfied.

Applying the five step approach in determining whether to recognize revenue at a point in time or over time requires significant judgement. A portion of our revenue is from sales of customized product which, in some cases, are non-cancellable and/or non-refundable. Significant judgement is required to determine when control passes to the customer and whether and when our performance obligations have been satisfied. This determination can significantly affect the timing of recognizing revenue.

Product revenue: Product revenue is generally recognized at a point in time when control of the promised goods is transferred to customers. Contracts with customers are generally short-term in duration at fixed, negotiated prices with payment generally due shortly after delivery. We estimate a liability for returns using the expected value method based on historical rates of return. In addition, we generally offer price protection to our distributors, which is a form of variable consideration that decreases the transaction price. We use the expected value method, based on historical price adjustments and current pricing trends, to estimate the amount of revenue recognized from sales to distributors. Differences between the estimated and actual amounts are recognized as adjustments to revenue.

Non-cancellable, nonrefundable customized product sales are recognized over time on a cost incurred basis. In connection with these arrangements, customers obtain control and benefit from the services as they are performed. The terms for these arrangements provide us with a legally enforceable right to receive payment, including a reasonable profit margin upon customer cancellation, for performance completed to date. Accordingly, we recognize revenue over time as we complete the manufacture of these products.

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A portion of our revenue is derived from the sale of customized products. In certain cases, we recognize revenue when control of the underlying assets pass to the customer when the customer is able to direct the use of, and obtain substantially all of the remaining benefit from, the assets; the customer has the significant risks and rewards associated with ownership of the assets; and we have a present right to payment. Under the terms of these arrangements, we cannot repurpose products without the customer’s consent and accordingly, we recognize revenue at the point in time when products are completed and made available to the customer.

Service revenue: Our service revenue is derived from supply chain services as well as professional services. Supply chain services includes procurement, logistics, inventory management, temporary warehousing, kitting and packaging. Professional services include solution design, system installation, software automation and managed support services related to HPC and storage systems. A portion of our product sales include extended warranty and on-site services, subscriptions to our HPC environment, professional services, software and related support.

Agent Services: We provide certain supply chain services on an agent basis, whereby we procure materials on behalf of our customers and then resell such materials to our customers. Gross amounts invoiced to customers in connection with these agent services include amounts related to the services performed by us in addition to the cost of the materials procured. However, only the amount related to the agent component is recognized as revenue in our results of operations. We generally recognize revenue for these procurement, logistics and inventory management services upon the completion of such services, which typically occurs at the time of shipment of product to the customer. Amounts we invoice to customers for cost of materials related to services performed, which remain unpaid as of the end of a reporting period, are included in accounts receivable. Additionally, cost of materials procured for customers under these agent services, but which remain on hand as of the end of a reporting period, are included in inventories. Amounts in accounts receivable and inventories impact the determination of net cash provided by (or used in) operations.

Determining whether we are the principal or agent in these transactions requires significant judgement. This determination affects the amount of revenue we recognize; a principal recognizes revenues at the gross amount received for the goods and services, while an agent recognizes revenue at the net amount. The impact of this determination significantly impact the amount of revenue and cost of sales we recognize.

Transaction Price: The transaction price is determined based on the consideration to which we will be entitled in exchange for transferring goods or services to the customer. We allocate the transaction price to each distinct product and service based on its relative standalone selling price. The standalone selling price for products primarily involves the cost to produce the deliverable plus the anticipated margin and for services is estimated based on our approved list price.

A portion of our service revenue is from professional consulting services, including installation and other services and hardware and software related support. Each contract may contain multiple performance obligations, which requires the transaction price to be allocated to each performance obligation. We allocate the consideration to each performance obligation based on the relative selling price, determined as the best estimate of the price at which we would transact if it sold the deliverable regularly on a stand-alone basis.

Contract Costs: As a practical expedient, we recognize the incremental costs of obtaining a contract, specifically commission expenses that have an amortization period of less than twelve months, as an expense when incurred. Additionally, we account for as an expense when incurred. Additionally, we account for shipping and handling costs, if any, that occur after control transfers to the customer as a fulfillment activity. We record shipping and handling costs related to revenue transactions within cost of sales as a period cost.

Share-Based Compensation: Share-based compensation is estimated at the grant date based on the fair value of the award and is recognized as expense using the straight-line amortization method over the requisite service period. For performance-based share awards, the expense recognized is dependent on our assessment of the likelihood of the performance measure being achieved. We utilize forecasts of future performance to assess these probabilities and this assessment requires significant judgment.

Determining the appropriate fair-value model and calculating the fair value of share-based awards at the grant date requires significant judgment, including estimating share price volatility and expected option life. We develop these estimates based on historical data and market information which can change significantly over time. A small change in the estimates used can result in a relatively large change in the estimated valuation. We use the Black-Scholes option valuation model to value employee options and awards granted under our employee share purchase plan. We estimate share price volatility based on an average of historical volatility and the implied volatility derived from traded options on our shares.

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