Year-over-year tone shift - average net-tone change across Risk Factors and MD&A vs the prior 10-K.
Why YoY instead of absolute: the LM lexicon has ~6.6× more negative words than positive (legal/risk-disclosure language is heavy on hedging), so every 10-K reads bearish on raw tone. Year-over-year change strips that bias and surfaces the actual shift in management's framing.
Per-snippet highlights
Sentence-level sentiment highlighting with category and subcategory filters is coming once the snippet-scoring pipeline lands. For now, dig into the actual section text on the Sections tab.
Risk Factors (Item 1A)
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Item 1A. Risk Factors
RISK FACTORS
You should carefully consider the risks and uncertainties described below, as well as the other information in this Annual Report, including our consolidated financial statements and the related notes, and the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in evaluating our Company. The occurrence of any of the events or developments described below could materially and affect our business, financial condition, results of operations, and growth prospects.
Real-time Form 4 intelligence. Smarter insider tracking.
adversely
Additional risks and uncertainties not currently known to us or that we currently believe are not material may also impair our business, financial condition, results of operations, and growth prospects.
Risks Related to Our Business and Industry
Our quarterly results of operations have fluctuated and may continue to fluctuate. As a result, we may fail to meet or exceed the expectations of investors or securities analysts, which could cause our stock price to decline.
Our quarterly net sales and results of operations have fluctuated and may continue to fluctuate as a result of a variety of factors, many of which are outside our control. If our quarterly net sales, results of operations, or profitability fall below the consensus expectations of investors or securities analysts, our common stock price could decline, perhaps substantially.
Fluctuations in our results of operations may be due to a number of factors, including but not limited to:
• Demand for and market acceptance of our solutions;
• Our ability to develop and maintain relationships with productive independent integrators and incentivize them to continue to market, sell, install, and support our solutions;
• The ability of our contract manufacturers to continue to manufacture high-quality products and to supply sufficient products to meet our demand;
• The timing and success of future acquisitions, new product and service releases or upgrades by us, or our competitors;
• The strength of regional, national, and global economies;
• The strength of the U.S. dollar relative to other currencies and the impact this has on both our margins and the margins of our integrators and distributors and their ability to competitively sell our solutions to end consumers;
• The impact of harsh seasonal weather, natural disasters, or man made problems such as war or terrorism;
• Changes in our business and pricing policies, or those of our competitors;
• Competition, including entry into the industry by new competitors and new offerings by existing competitors;
• The impact of seasonality on our business and/or the business of integrators;
• A systemic impairment or failure of one or more of our solutions that erodes investor, integrator, and/or end-consumer confidence;
• Changes in applicable tax and tariff rates;
• Changes in interest rates;
• Inflationary pressures on costs and customer demand;
• Political or regulatory changes in the markets in which we operate, particularly current political tensions in Asia, Eastern Europe, and the Middle East;
• The cost and availability of raw materials or component parts used in our solutions;
• The cost and availability of third-party products that we distribute but do not manufacture;
• Aggressive business tactics by our competitors, including: selling at a discount, offering products on a bundled basis at no charge, extensive marketing efforts, and providing financing incentives;
• The amount and timing of expenditures, including those related to expanding our operations, increasing research and development, introducing new solutions or costs related to disputes and litigation;
• Temporary discounts or permanent changes in the price or payment terms for our solutions; and
• Our ability to retain key people given the decline in our stock price.
Due to the foregoing factors and other risks discussed herein, you should not rely on quarter-to-quarter comparisons of our results of operations as an indication of our future performance, nor should you consider any net sales growth or results of operations in any quarter to be indicative of our future performance.
If we are unable to manage our business growth and diverse and complex operations, our reputation in the market and our ability to generate net sales from new or existing integrators and end consumers may be harmed.
Because our operations are geographically diverse and complex, our personnel resources and infrastructure could become strained and our reputation in the market and our ability to successfully implement our business plan may be harmed. The growth in the size, complexity, and diverse nature of our business and the expansion of our product lines and customer base, including through additional acquisitions, have placed increased demands on our management and operations, and further growth, if any, may place additional strains on our resources. Our ability to effectively compete and to manage our operations may depend on, among other things:
• Maintaining institutional knowledge by retaining and expanding the core competencies critical to our operations in our senior management and key personnel;
• Increasing the productivity and efficiency of our existing employees and attracting new talent;
• Maintaining existing productive relationships and developing new productive relationships with independent contract manufacturers, integrators, and third-party products suppliers;
• Improving our operational, financial, and management controls; and
• Improving our information reporting systems and procedures.
If we do not manage the size, complexity, and diverse nature of our business effectively, we could experience delayed product releases and longer response times by our integrators in assisting our end consumers in implementing our solutions, and could lack adequate resources to support end consumers on an ongoing basis, any of which could harm our reputation in the market, our ability to successfully implement our business plan, and our ability to generate net sales from new or existing end consumers.
The markets in which we participate are highly competitive and many companies, including large technology companies, retailers, electronics distributors, broadband and security service providers, as well as other managed service providers, are actively targeting our markets. Our failure to differentiate ourselves and compete successfullyagainst these companies would make it difficult for us to add and retain end consumers, and our sales and profitability could be adversely affected.
The markets for our solutions are highly competitive and continually evolving. We face direct competition from companies that sell technology solutions to professional integrators, such as ADI, Crestron, and Savant. In addition, a number of technology companies, including industry leaders such as Amazon, Apple, Alphabet, Honeywell, Lutron, Sonos, and Samsung, offer devices with capabilities similar to many of our products and services and are engaged in ongoing development efforts to address even broader segments of various markets, including our core professionally installed electronics markets. These large technology companies already have broad customer awareness and sell a variety of devices for home and business, and end consumers may choose their offerings instead of ours, even if we offer differentiating features such as broader interoperability or remote management and control services, as well as superior products and services. Additionally, these and other companies may further expand into our industry by developing additional solutions or by acquiring other providers. Similarly, many managed service providers, such as cable TV, telephone and security companies, are offering products and services that may compete directly with our solutions, including remote management, automation, and control features. For example, Vivint and ADT have made significant efforts to market smart-home services that incorporate these companies’ traditional security offerings. These managed service providers have the advantage of leveraging their existing customer base, network of installation and support technicians, and name recognition to gain traction in our core markets. In addition, end consumers may prefer the monthly service fee with little to no upfront cost offered by some of these managed service providers over a larger upfront cost with little to no monthly service fees.
We expect increased competition from these large technology companies, retailers, managed service providers, and other companies. This increased competition could result in pricing pressure, reduced sales, lower margins, or the failure of
our solutions to achieve or maintain broad market acceptance. To remain competitive and maintain our position as a leading provider of professionally installed electronics solutions for connected homes and businesses, we will need to invest continuously in product and platform development, marketing, integrator service and support, and product-delivery infrastructure. We may not have sufficient resources to continue to make the investments in all areas needed to maintain our competitive position. In addition, many of our competitors have longer operating histories, greater name recognition, larger customer bases and significantly greater financial, technical, sales, marketing, and other resources than us, which may provide them with an advantage in developing, marketing or servicing new solutions. Increased competition could reduce our market share, net sales, and operating margins, increase our operating costs, harm our competitive position, or otherwise harm our business and results of operations.
In addition, we believe it is likely that some of our existing competitors will consolidate or be acquired. Some competitors may enter into new alliances with each other or may establish or strengthen cooperative relationships with systems integrators, distributors, third-party consulting firms, or other parties. Additional consolidations, acquisitions, alliances, or cooperative relationships, or new product introductions, could lead to pricing pressure, reduce our market share or result in a competitor with greater financial, technical, marketing, service, and other resources than ours, all of which may have a material adverse effect on our business, results of operations, and financial condition.
If we are unable to develop new solutions, sell our solutions into new markets or further penetrate our existing markets, or if we fail to make optimal strategic investment decisions, our net sales may not grow as expected or may decline.
Our ability to increase sales will largely depend on our ability to enhance and improve our solutions in response to evolving customer needs and emerging technological trends, to introduce new solutions in a timely manner, to sell into new markets, and to further penetrate existing markets. The success of any new or enhanced solution depends on several factors, including the timely completion, introduction, and market acceptance of enhanced or new solutions; the ability to attract, retain, and effectively train product development, sales, and marketing personnel (among others); the ability to retain and expand our offered third-party solutions; the ability to develop relationships with independent integrators; and the effectiveness of our marketing programs. Any new or enhanced solution we develop, distribute, or acquire may not be introduced in a timely or cost-effective manner and may not achieve the broad-market acceptance necessary to generate significant net sales. Any new markets into which we attempt to sell our solutions, including new vertical markets, new local distribution locations, and new countries or regions, may not be receptive. Our ability to further penetrate our existing markets depends on the quality of our solutions and our ability to design solutions to meet customer demand. Moreover, we are frequently required to enhance and update our solutions as a result of changing standards and technological developments, which makes it difficult to recover development costs and forces us to continually qualify new solutions with our end consumers and may render our solutions obsolete. In addition, we expect to derive an increasing portion of our net sales in the future from subscription-based solutions. This subscription model may give rise to risks that could harm our business. For example, we may be unable to predict subscription uptake, renewal or upgrade rates and the impact these rates may have on our future net sales and operating results. If we are unable to successfully develop, distribute, or acquire new solutions, or to enhance our existing solutions to meet customer requirements in a timely manner, our net sales may not grow as expected or may decline. Further, if we are unable to sell solutions into new markets or sell our solutions to additional end consumers in our existing markets, or to make optimal strategic decisions in selecting and executing on our acquisition opportunities, our net sales may not grow as expected or may decline.
End consumers may choose to adopt products that provide discrete functionality or Do-It-Yourself (“DIY”) solutions rather than adopt our professionally installed Do-It-For-Me (“DIFM”) solutions. If we are unable to increase market acceptance of the benefits of our professionally installed DIFM solutions, our net sales may stagnate or decline.
Many vendors have emerged, and may continue to emerge, to provide point products with advanced functionality for use in home and commercial applications, such as thermostats, lighting, power distribution units, doorbells, or surveillance systems that can be controlled by an application on a smartphone or control panel. We expect more consumer electronics and appliance products to be network aware and connected — each likely to have its own smart device (phone or tablet) application. Examples of DIY solutions include, but are not limited to, networking, remote monitoring, and audio and audiovisual distribution products that do not require professional assistance to deploy. End consumers may be attracted to the relatively low costs and ease of installation of these DIY products and the ability to expand solutions over time with minimal upfront costs, despite the disadvantages of this approach. While we have built our solutions to be flexible and in many cases support integration of third-party DIY products in our solutions, the adoption of these products may reduce the revenue we receive for each installation. It is therefore important that we provide attractive top-quality solutions in many
areas, such as networking, lighting, audio, video, thermostats, surveillance, security, power, and remote monitoring and management, and establish broad market awareness and acceptance of these DIFM solutions as well as the advantages of integrating them in a unified solution supported by a professional integrator. If a significant number of end consumers in our target markets choose to rely solely on the functionality included in DIY solutions rather than acquiring our unified solutions, then our business, financial condition, and results of operations may be harmed, and we may not be able to achieve sustained growth or our business may decline.
We have limited visibility regarding the end consumers who ultimately purchase our solutions, and we often rely on information from third-party distributors and integrators to help us manage our business. If we are unable to obtain timely or accurate information, our ability to quickly react to market changes and effectively manage our business may be harmed.
We sell our solutions primarily through independent businesses, including integrators, distributors, and other commercial partners (collectively “integrators”). These integrators work with end consumers to design, install, update, and maintain their systems. While we are able to track orders from integrators and have access to certain information about the configurations of our systems they install that we receive through our subscription and platform services such as OvrC and Control4, we also rely on these integrators to provide us with information about customer behavior, product and system feedback, customer demographics, buying patterns, and information about our competitors. We use this channel sell-through data, along with other metrics, to assess customer demand for our solutions, develop new solutions, adjust pricing, and make other strategic business decisions. Our channel sell-through data is subject to limitations due to collection methods and the third-party nature of the data and thus may not be complete or accurate. In addition, from time to time we collect information directly from end consumers through surveys and other methods, but the end consumers who choose to participate self-select and vary by geographic region and from period to period, which may impact the usefulness of the results. Customer information is further limited in certain of our business models where a large portion of solutions we sell may not be installed with our platforms and thus further limit our visibility into end consumer behavior, including local distribution and third-party products sales. If we do not receive customer information on a timely or accurate basis, or if we do not properly interpret this information, our ability to quickly react to market changes and effectively manage our business may be harmed.
In addition, because the production of certain of our products requires long lead times, we enter into agreements for the manufacture and purchase of certain of our products well in advance of the time in which those products will be sold. These contracts are based on our best estimates of our near-term product needs. If we underestimate customer demand, we may forego revenue opportunities, lose market share, and damage our relationships. Conversely, if we overestimate customer demand, we may purchase more inventory than we are able to sell at any given time, or at all. If we fail to accurately estimate demand for our solutions, we could have excess or obsolete inventory, resulting in a decline in the value of our inventory, which would increase our costs of net sales and reduce our liquidity. Our failure to accurately manage inventory relative to demand would adversely affect our results of operations.
Our growth strategy includes pursuing acquisitions, and our potential inability to identify goodopportunities and to successfully integrate newly acquired technologies, assets, businesses, or personnel may harm our financial results and ability to grow.
We believe part of our growth will be driven by additional acquisitions of other companies or their technologies, assets and businesses, but we may not be able to acquire the targeted technologies, assets and businesses we identify as desirable for a price we consider to be reasonable or at all. Recent acquisitions include Staub Electronics, LTD (“Staub”), Clare Controls, LLC (“Clare”), and Remote Maintenance Systems LP, doing business as Parasol (“Parasol”) in 2022; ANLA, LLC. (“Access Networks”) in 2021; and Control4 Corporation (“Control4”), Custom Plus Distributing, and MRI Premium Distributing Services in 2019. These acquisitions and any future acquisitions we evaluate and complete will give rise to risks, including:
• Incurring higher-than-anticipated capital expenditures and operating expenses;
• Failing to assimilate the operations and personnel, or failing to retain key personnel of the acquired company or business;
• Failing to integrate the acquired technologies into our solutions, or incurring significant expense to do so;
• Disrupting our ongoing business;
• Dissipating or diverting our management resources;
• Failing to maintain uniform standards, controls, and policies;
• Incurring significant costs and accounting charges;
• Impairing relationships with employees, integrators, distributors, partners, or end consumers;
• Finding that the acquired technology, assets or business does not further our business strategy, that we overpaid for the technology, assets or business, or that we may be required to write off acquired assets or investments partially or entirely;
• Failing to realize the expected synergies of the transaction;
• Being exposed to unforeseen liabilities and contingencies that were not identified and mitigated during diligence conducted prior to acquiring the company, including but not limited to the risk that the products or services of the acquired company violate third-party intellectual property rights or regulatory standards or contain other vulnerabilities;
• Requiring us to use equity capital or obtain additional debt to finance the acquisition, which may not be available on advantageous terms;
• To the extent that we pursue acquisitions in non-U.S. markets, becoming subject to new regulatory regimes in which we have limited experience;
• Being unable to generate sufficient net sales from acquisitions to offset the associated acquisition costs;
• Fully integrating acquired technology, assets, business, or personnel into our operations may take a significant amount of time and resources; and
• Acquisitions could include significant goodwill and intangible assets. The amortization of such intangible assets would reduce our profitability and there may be future impairment charges that would reduce our stated earnings.
In addition, we may pursue business opportunities that diverge from our current business model, including expanding our solutions into lines of business with which we have minimal experience, investing in new and unproven technologies, and expanding our existing sales channels or adding new sales channels. We can offer no assurance that any such new business opportunities will prove to be successful. Among other negative effects, our pursuit of such business opportunities could reduce operating margins and require more working capital, or may have a material adverse effect on our business, results of operations, and financial condition. Acquisitions also could impact our financial position and capital needs, or cause fluctuations in our quarterly and annual results of operations. To the extent we do not successfully avoid or overcome the risks or problems related to any such acquisitions, our results of operations and financial condition could be harmed.
Additionally, in recent years, a substantial number of special purpose acquisition companies (“SPACs”) have been formed. These SPACs may increase the competition for potential targets and as a result fewer attractive targets may be available at any given time, and it may require more time, effort and resources to identify suitable targets and consummate acquisitions.
We have entered into several strategic arrangements and intend to pursue additional strategic opportunities in the future. If the intended benefits from our strategic relationships are not realized, our results of operations may be harmed.
We are working to develop relationships with strategic partners to increase awareness of our solutions, offer products not currently included in our product portfolio, and attempt to reach markets we cannot currently address in a cost-effective manner. If these relationships do not develop in the manner we intend, our future growth could be impacted. Any loss of a major partner, distribution channel or other channel disruption could harm our results of operations and make us more dependent on alternate channels; damage our reputation; increase pricing and promotional pressures from other partners and distribution channels; increase our marketing costs; or harm buying and inventory patterns, payment terms, or other contractual terms.
Growth of our business may depend on market awareness and a strong brand, and any failure to develop, broaden, protect, and enhance market awareness of our solutions could hurt our ability to retain or attract integrators and/or end consumers.
Because of the competitive nature of the professionally installed electronics market, and other markets where we operate, we believe building and maintaining market awareness, brand recognition and goodwill is key to our success. Doing so will depend largely on our ability to continue to provide high-quality solutions, and we may not be able to do so effectively. We may choose to engage in broader marketing campaigns to further promote our brand, but this effort may not be successful. Our efforts in developing our brand may be affected by marketing efforts of our competitors, negative
publicity and social media commentary, and by our reliance on our independent integrators, distributors, and strategic partners to install our solutions and promote our brand effectively. In addition, these marketing efforts may not yield the results we anticipate and may prove more expensive than we currently anticipate, and our net sales may not increase sufficiently to offset these higher expenses. If we are unable to maintain and increase positive awareness of our brand in a cost-effective manner, it may have a material adverse effect on our business, results of operations, and financial condition.
We operate in an emerging and evolving market, which may develop more slowly or differently than we expect. If our core market does not grow as we expect, or if we cannot expand our solutions to meet the demands of this market, our net sales may suffer, we may incur operating losses, and our results of operations may be harmed.
The market for professionally installed electronics is evolving, and it is uncertain whether our solutions will achieve and sustain high levels of demand and market acceptance. Some integrators and/or end consumers may be reluctant to use our solutions for a number of reasons, including satisfaction with other solutions, cost concerns, and lack of awareness. Unified solutions such as ours have traditionally been luxury purchases for the high-end residential market, and are also popular in commercial markets, and while our solutions target luxury residential and commercial markets, we also have solutions that target middle- and entry-level homeowners and those who live in or operate multi-dwelling units. Our ability to expand the sales of our solutions to a broader customer base depends on several factors, including market awareness of our solutions; the timely completion, introduction and market acceptance of our solutions; our ability to respond effectively to trends in end consumer preferences and changing technology, the ability to attract, retain, and effectively train sales and marketing personnel; the effectiveness of our marketing programs; the ability to develop effective relationships with independent integrators and other strategic partners; the cost and functionality of our solutions; and the success of our competitors. If we are unsuccessful in developing and marketing our home-automation solutions to integrators and/or end consumers, or if they do not perceive or value the benefits of our solutions, the market for our solutions might not develop or might develop more slowly than we expect, either of which would harm our net sales and growth prospects.
Downturns in general economic and market conditions, including but not limited to downturns in housing and commercial real estate markets and reductions in consumer spending, may reduce demand for our solutions, which could harm our net sales, results of operations, financial condition, and cash flows.
Our net sales, results of operations, and cash flows depend on the overall demand for our solutions and the willingness of our sales channel to invest in marketing our solutions, both of which can be significantly reduced in economic environments characterized by market and interest rate volatility, decreased consumer confidence, high unemployment, declines in residential remodeling and housing starts, decreased demand for commercial real estate and associated renovations, fluctuating exchange rates, and diminished growth expectations in the U.S. economy and abroad. During periods of weak or unstable economic and market conditions, providers of discretionary products and services, such as our home automation and audiovisual solutions, are typically disproportionately affected. In addition, the number of independent integrators may decline, which may have a corresponding impact on our growth prospects. Moreover, many of our integrators are small and mid-size businesses that are more likely to be negatively impacted by downturns in general economic and market conditions. For example, during challenging economic times, end consumers and integrators may face issues in gaining timely access to sufficient credit, which could impair their ability to make timely payments. There is also an increased risk that an increased percentage of our integrators will file for bankruptcy protection or otherwise become insolvent, which may harm our reputation, net sales, profitability, and results of operations. We cannot predict the timing, strength, duration, or impact on our business of any economic slowdown, instability, or recovery, generally or within any geography or industry. Any downturns in the general economic conditions of the geographies and industries in which we operate, or any other factors negatively impacting housing markets or consumer spending, may have a material adverse effect on our business, results of operations, and financial condition.
We have credit exposure to our integrators.
Any adverse trends in our integrators’ businesses could cause us to suffer credit losses. As is customary in our industry, we extend credit to our integrators. Many of our integrators rely on us to provide their businesses with credit and to carry specified inventory to support their operations. We may be unable to collect on receivables if our integrators experience decreased demand for their products and services, do not manage their businesses adequately, or otherwise become less able to pay due to adverse economic conditions or refinancing events. While we evaluate our integrators’ qualifications for credit and monitor our extensions of credit, these efforts cannot prevent all credit losses, and increased credit losses would negatively impact our performance and financial position. In addition, for financial reporting purposes,
we establish reserves based on our historical experience of credit losses. To the extent that our credit losses exceed those reserves, our financial performance will be negatively impacted. If there is deterioration in the collectability of our receivables, or we fail to take other actions to adequately mitigate this credit risk, our earnings and cash flows could deteriorate. In addition, if we are unable or unwilling to extend credit to integrators, we may experience loss of contracts or business.
Extending credit to international integrators involves additional risks. It is more difficult to evaluate an integrator’s credit or obtain credit protections in our international operations. Also, credit cycles and collection periods are typically longer in our international operations. We are also subject to credit risk associated with integrator concentration. If one or more of our largest international integrators were to become bankrupt or insolvent, or otherwise were unable to pay for our solutions, due to conflict, financial sanctions or otherwise (such as the instability caused by the Russia/Ukraine or Israel/Hamas and Red Sea conflicts), we may incur significant write-offs of accounts that may have a material adverse effect on our business, financial condition, results of operations, and cash flows. As a result of these factors and other challenges in extending credit to international integrators, we generally face greater credit risk from sales internationally compared to domestic sales.
Our failure to raise additional capital or generate cash flows necessary to expand our operations, invest in new technologies and otherwise respond to business opportunities or unforeseen circumstances in the future could reduce our ability to compete successfully and harm our results of operations.
While we believe our existing cash and cash equivalents will be sufficient to meet our anticipated cash requirements for at least the next 12 months, at some point we may need to raise additional funds, and may not be able to obtain additional debt or equity financing on favorable terms, if at all. If we raise additional equity financing, our security holders may experience significant dilution of their ownership interests and the value of shares of our common stock could decline. If we engage in debt financing, we may be required to accept terms that restrict our ability to incur additional indebtedness, force us to maintain specified liquidity or other ratios or restrict our ability to pay dividends or make acquisitions. In addition, we may be subject to additional interest rate risk to the extent any new debt is subject to variable interest rates. If we need additional capital and cannot raise it on acceptable terms, we may not be able to, among other things:
• Develop and enhance our solutions;
• Expand our research and development, sales, and marketing organizations;
• Hire, train and retain employees;
• Respond to competitive pressures or unanticipated working capital requirements; or
• Pursue acquisition opportunities.
Our inability to do any of the foregoing could reduce our ability to compete successfully and harm our results of operations.
Risks Related to Our Manufacturing and Supply Chain
We currently rely on contract manufacturers to manufacture our products and on component vendors to supply parts used in our products. We also distribute products manufactured by other companies. Any disruption in our supply chain, or our failure to successfully manage our relationships with our suppliers or logistics partners, or existing tariff rates and other import/export regulations could harm our business.
Our reliance on contract manufacturers to produce many of our products reduces our control over the assembly process, exposing us to risks, including reduced control over quality assurance, production costs, and product supply. These risks are heightened because a significant portion of our net sales comes from proprietary products. While we aim to maintain redundancy throughout our supply chain, we rely on a limited number of contract manufacturers to manufacture most of our products and components, and in many cases one of these manufacturers is our only source for a particular product or product family. We also do business with a number of component vendors, and the parts they supply may not perform as expected. We also distribute products supplied by other companies. Most of our contract manufacturers and component vendors, and some of our distributed product suppliers, are located outside of the United States and may be subject to political, economic, social, regulatory, and legal uncertainties that may harm our relationships with them. In particular, potential political instability and tension in China, Taiwan, and Southeast Asia, where a concentration of our suppliers and manufacturing facilities are located, could expose us to supply disruptions, cost increases, and regulatory
changes. If we fail to manage our relationships with our suppliers or logistics partners effectively, or if our suppliers or logistics partners experience delays, disruptions, capacity constraints, shortage of raw materials or components, or quality control problems in their operations, our ability to ship products may be impaired and our competitive position and reputation could be harmed. In addition, any adverse change in our suppliers or logistics partners’ financial or business condition could disrupt our ability to supply quality products to our integrators and distributors. Such reliance increases our risks of various supply chain disruptions. For example, most of our United States shipping is supported by a single logistics partner. If we are required to change or replace suppliers or logistics partners, we may lose net sales, incur increased costs, or damage our relationships; or we might be unable to find a new contract manufacturer, component vendor, or supplier of similar distributed products on acceptable terms, or at all. In addition, qualifying a new supplier or logistics provider could be an expensive and lengthy process. If we experience increased demand that our suppliers are unable to fulfill, or if they are unable to provide us with adequate supplies of high-quality products for any reason, we could experience a delay in our order fulfillment, and it may have a material adverse effect on our business, results of operations, and financial condition.
Furthermore, we expect our suppliers, service providers, and other business partners to comply with all legal requirements relating to health and safety, labor relations, the environment, supply chain ethics, and transparency. If any of our suppliers engages in or is perceived to have engaged in legal or ethics violations, we may be unable to continue our relationship with that supplier. If we are required to find alternative sources of supply, qualification of alternative suppliers and the establishment of reliable supplies could result in delays and a possible loss of sales, which may have a material adverse effect on our business, results of operations, and financial condition. Furthermore, the actions of our suppliers could, in certain instances, result in reputational damage to us.
Even when we effectively manage our suppliers and logistics partners, forces outside our control may still disrupt our supply chain. Such factors may include catastrophic events such as the COVID-19 pandemic or semiconductor and chipset factory fires, raw material shortages and price volatility; and sanctions, war, or other geopolitical conflict. These types of events may cause global shortages of various raw materials or components, such as semiconductors, necessary to build our products and may disrupt our ability to fulfill demand for our products. For example, the conflict between Russia and Ukraine strains global production of neon and other inputs used in components of our products, and the conflict between Israel and Hamas could expand and impact oil prices or semiconductor supply. Metal price increases may impact the availability and cost of products containing a high percentage of metal content such as bulk wire, cables, racks, and mounts. In addition, due to recent shipping disruptions in the Red Sea and surrounding waterways caused by attacks on shipping vessels in response to the Israel/Hamas war, we have taken preventative measures to avoid this route for any transportation activity. These alternative routes have not yet affected any of our lead-times or costs but may do so in the future. Further, the earthquake affecting the western region of Japan has interrupted some passive and active component manufacturing locations. These manufacturing locations are now operational, however there may be some continued delays in component inventory shipments from the factory in this region.
Furthermore, there is currently significant uncertainty about the future political relationship between the United States and various other countries, including, but not limited to, China, the European Union, Canada, Vietnam, Russia, and Mexico, with respect to trade policies, treaties, import/export regulations and restrictions, trade embargoes, tariffs and customs duties, and taxes. In 2019, the U.S. administration imposed significant changes to U.S. trade policy with respect to China. Tariffs have subjected certain of our products manufactured overseas to additional import duties of up to 25%, and these tariffs may further increase in the future. The amount of the import tariff and the number and types of products subject to tariffs, trade embargoes and import/export regulations and restrictions have changed numerous times based on action by the U.S. administration, and may change again to our detriment depending on political shifts in the U.S. administration, and to the extent these changes increase our cost structure and we are not able to mitigate such cost increases, such changes may have a material adverse effect on our business, results of operations, and financial condition.
Separately, the U.S. Federal Communications Commission (“FCC”) and Congress have recently enacted restrictions regarding the authorization of new products from certain manufacturers of telecommunications, surveillance, and security products. We continue to address the risks related to these imposed and announced tariffs, as well as other regulations and restrictions which have affected, or have the potential to affect, at least some of our imports. To the extent additional regulations or restrictions are imposed on us, or prior authorizations for existing products are revoked for manufacturers that we use-- for example the manufacturer of our legacy surveillance solutions or any of our current surveillance manufacturers-- and we are unable to shift our production or otherwise reduce the impact before the imposition of any applicable restrictions or regulatory changes, our business, financial condition, cash flows, and results of operations could be adversely affected.
After Russia invaded Ukraine in February 2022, the United States and other countries imposed sanctions on Russia and we stopped selling products to our distributor in Russia.
Potential future changes to tariff and duty rates, trade embargoes, and import/export regulations and restrictions could similarly adversely affect our business. Potential future changes to tariff and duty rates, trade embargoes, and import/export regulations and restrictions could similarly adversely affect our business.
Risks Related to Our Products and Services
If we are unable to adapt to technological change and implement technological and aesthetic enhancements to our solutions, this could impair our ability to remain competitive.
The market for professionally installed electronics is characterized by rapid technological change, frequent introductions of new solutions, and evolving industry standards. We must continue to develop new products and services and enhance existing products and services to meet evolving customer needs, and respond to emerging technological trends, including Artificial Intelligence (“AI”). However, product development often requires significant lead-time and upfront investment and our ability to attract new consumers and increase net sales from existing consumers will depend in significant part on our ability to accurately anticipate changes in industry standards and to continue to appropriately fund development or acquisition efforts to introduce or enhance solutions in a timely basis to keep pace with technological developments. This is particularly important with respect to our user interface and other direct customer-interface products including touch screens, remotes, keypads, and televisions. Similarly, if any of our competitors implement new technologies, they may be able to provide more effective or lower-cost products, which could impact sales and decrease our market share. Any delay or failure in the introduction of new or enhanced solutions may have a material adverse effect on our business, results of operations, and financial condition.
Product quality issues and a higher-than-expected number of warranty claims or returns could harm our business and operating results.
Products we sell could contain defects in design or manufacturing. Defects could also occur in the products or components supplied to us. There can be no assurance we can detect and remedy all hardware and software defects, which could result in product recalls, product redesign efforts, loss of net sales, reputational damage, and significant warranty and other remediation expenses. There are several potential examples of product quality issues that could occur. Similar to other electronics, our products have a risk of overheating and causing fire in the course of usage or upon malfunction. We sell power-distribution products that may allow damage to connected devices upon malfunction. We sell a range of racks, mounts, brackets, and other products that support large amounts of weight, over 2,000 pounds in some instances, which may fail to support weight upon malfunction. Any of these defects could result in harm to property or personal injury, which could subject us to liability. If we determine a product does not meet product quality standards or may contain a defect, the launch of such product could be delayed. The costs associated with any protracteddelay necessary to remedy a quality issue or defect could be substantial.
We provide warranties on our products ranging from one-year to lifetime. In certain countries we may lengthen product warranties due to local laws and regulations. Material defects in our products could expose us to liability for damages and warranty claims in excess of our current reserves, and we could incur significant costs to correct any defects, warranty claims or other problems. In addition, if any of our product designs are defective or alleged to be defective, we may be required to participate in a recall campaign incurring unplanned expenses. Any negative publicity related to products’ perceived quality could affect our brand image and decrease customer confidence and demand, which could adversely affect our operating results and financial condition. Further, accidentaldamage coverage and extended warranties are regulated in the United States at the state level and are treated differently within each state. Additionally, outside the United States, regulations for extended warranties and accidentaldamage vary by country. Failure to correctly interpret regulations concerning extended warranties and accidentaldamage coverage or implement conformant policies may cause us to incur additional costs, fines, or subject us to additional regulatory requirements.
In addition to failures due to product defects, because our solutions are installed by independent integrators, if integrators do not install or maintain our solutions correctly or if the underlying network or infrastructure in a home or business is not sufficiently robust, our solutions may not function properly. Our end consumers generally judge our
performance through their interactions with our integrators and distributors, as well as their day-to-day interactions with the product and the mobile application. If the improper installation or maintenance of our solutions leads to service failures of a product or solution, we could experience harm to our branded reputation, claims by our end consumers, integrators, strategic partners, or developers and we may incur increased expense to remedy the problem, any of which may have a material adverse effect on our business, results of operations, and financial condition.
The performance of and demand for our solutions are impacted by factors outside of our sole control including compatibility and ease of integration with third-party products and services, as well as enabling technology, connectivity, software, and intellectual property that we do not own or control.
Our solutions are designed to interoperate with a wide range of other third-party products, including products in the areas of audio, video, lighting, temperature, power, networking, and security, and we benefit from our relationships with partners that allow our platforms, including OvrC and Control4, to integrate with, and provide features such as control and remote management to, thousands of third-party devices and services. If we do not support the continued integration of our solutions with third-party products and applications, including new and additional products, demand for our solutions could decline and we could lose sales. In addition, companies that provide certain point solutions have eliminated or restricted, and may in the future eliminate or restrict, our ability to integrate with, control, remotely manage, and otherwise be compatible with these products. As a result, we may not be successful in making our solutions compatible with these third-party products and applications or lose functionality in existing systems to the extent that they depend on the ability to integrate with third-party products, which could reduce demand for our solutions. In addition, if prospective consumers require customized features or functions that we do not or cannot offer, then the market for our solutions may be harmed.
Our solutions are deployed in many different locations and user environments. The ability of our solutions to operate effectively can be negatively impacted by many different elements unrelated to our solutions including the performance of enabling technology, integration services, intellectual property that we do not own or control, and the performance of integrators. For example, a user’s experience may suffer from an incorrectly deployed network or other key infrastructure such as cabling or wires. Such perceptions, even if incorrect, could harm our business and reputation.
The prices and costs of the products we manufacture or purchase may be subject to large and significant price fluctuations. We might not be able to pass cost increases through to our end consumers, and we may experience losses in a rising price environment. In addition, we might have to lower our prices in a declining price environment, which could also lead to losses.
We purchase and sell a wide variety of products, the price and availability of which may fluctuate, and which may be subject to large and significant price increases. Our business is exposed to these fluctuations, as well as to fluctuations in our costs for transportation and distribution. Changes in prices for the products that we purchase affect our net sales and cost of goods sold, as well as our working capital requirements, levels of debt, and financing costs. We might not always be able to reflect cost increases in our own pricing. Any inability to pass cost increases on to end consumers may adversely affect our business, financial condition, and results of operations. In addition, if market prices for the products we sell decline, we may realize reduced profitability levels from selling such products and lower revenues from sales of existing inventory stocks of such products.
If we fail to meet our service-level agreement commitments, we could be obligated to provide refunds of prepaid amounts or other credits, which would lower our revenue and harm our business, financial condition, and results of operations.
Certain of our products include service-level agreement commitments. If we are unable to meet the stated service-level commitments, including failure to meet the uptime and response time requirements under our customer agreements due to system failures, or other unforeseeable reasons, we could face terminations with refunds of prepaid amounts or other credits, which could significantly affect both our current and future revenue. Any service-level failures could also damage our reputation, which could also adversely affect our business, financial condition, and results of operations.
If we fail to successfully transform our operations to support the sale of software service solutions and to continue to develop competitive software service solutions, our business and prospects could be adversely affected.
Transforming our business to offer and support additional software service solutions requires considerable investment in our organization. Whether we will be successful and will accomplish our business and financial objectives is subject to risks and uncertainties, including but not limited to: customer demand, renewal rates, our ability to further develop and scale infrastructure, our ability to include functionality and usability in such offerings that address customer requirements, our ability and the ability of our partners to transition existing customer implementations and subscriptions to software services, and our costs. If we are unable to successfully establish these new offerings and navigate our business evolution, our business could be adversely affected.
Risks Related to Our Distribution Channels
We rely on our independent integrators to sell our solutions, and if our integrators fail to perform and grow their businesses, our ability to sell and distribute our solutions will be limited, and our results of operations may be harmed.
Most of our net sales are generated through the sales of our solutions by our authorized integrators. We have approximately 20,000 active integrators authorized to sell our solutions. Our integrators are independent businesses that voluntarily sell both our solutions and other companies’ products to end consumers. We provide our integrators with specific training programs to assist them in selling, installing, supporting, and servicing our solutions and the third-party solutions we distribute. We have observed, and expect to continue to observe, high volatility in the monthly, quarterly, and annual sales performance of individual integrators. Although we can make estimated forecasts of cumulative sales of large numbers of integrators, we cannot assure their accuracy collectively or individually. Accordingly, if our actual sales fall short of our expectations, we may not be able to reduce or slow our spending quickly enough to protect margins. In addition, we expect that our net sales, results of operations, and cash flows may continue to fluctuate on a quarterly basis. Therefore, period-to-period comparisons of our net sales, results of operations, and cash flows should not be relied upon as an indication of future performance.
Our independent integrators may be unsuccessful in marketing, selling, installing, and supporting our solutions. If we are unable to provide high-quality products in a timely manner at competitive prices and to develop and maintain effective sales incentive programs for our integrators, we may not be able to incentivize them to sell our solutions or the third-party solutions we distribute. Our integrators may also market, sell, and support products and services that are competitive with ours, and may devote more resources to the marketing, sales, and support of such competitive products. Our integrators may have incentives to promote our competitors’ products to the detriment of our own, or may cease selling our solutions altogether. Our agreements with our integrators typically do not specify how much product will be ordered on an ongoing basis and may generally be terminated without penalty for any reason by either party with advance notice. We cannot assure that we will retain agreements with these integrators, or that we will be able to secure additional or replacement integrators.
In addition, while we take certain steps to protect ourselves from liability for the actions of independent integrators, such as including contractual provisions limiting our liability with both end consumers and integrators, end consumers may seek recovery from us for damages caused by integrators in connection with product installations or servicing, or the failure of products to perform properly due to incorrect installations by integrators. In the event of litigation with respect to these matters, we cannot guarantee that our contractual protections will be enforced or that integrators will have the financial wherewithal or maintain insurance to meet their contractual obligations. Furthermore, integrators may initiate claimsagainst us related to any failure or perceived failure to operate our business in accordance with our contracts and the law. Integrators may engage in wrongdoing, including unethical or illegal acts and may use our name and brand in ways we do not authorize. Any such improper integrator behavior may harm our reputation or expose us to liability for their actions. If our sales partners engage in marketing practices that are not in compliance with local laws and regulations, we may be in breach of such laws and regulations, which may result in regulatory proceedings and potential penalties that could have a material adverse effect on our business. In addition, unauthorized activities in connection with sales efforts by our sales partners, including calling end consumers in violation of applicable regulations and fraudulentmisrepresentations, could subject us to governmental investigations and class action lawsuits for, among others, false advertising and deceptive trade practice damageclaims, against which we will be required to defend. Such defense efforts would be costly and time-consuming, and there can be no assurance that such defense efforts would be successful, all of which could negatively impact our business, results of operations, and financial condition.
Moreover, in order to continue our growth and expand our business, it is important that we continue to attract and add new integrators and ensure that most of our existing relationships remain productive. We must also work to expand our network of integrators to ensure we have sufficient geographic coverage and technical expertise to address new markets and technologies. If we are unable to attract, train, and retain integrators, if we saturate the available integrator pool, or if market or other forces cause the available pool of integrators to decline, it may be increasingly difficult to grow our business. It is important that we enhance our integrator footprint by broadening the expertise of our integrators, providing tools and training that enable our integrators to be more effective, and expanding our line of solutions that our integrators offer. If we are unable to expand our network of independent integrators, or maintain the relationships with our existing integrators, our business could be harmed.
Finally, we are dependent on a finite number of integrators, many of which are small businesses, to meet demand for our solutions. If our and their operations, infrastructure, and business processes fail to keep pace with our business and customer requirements, end consumers may experience disruptions in service or support or we may not scale the business efficiently, which could adversely affect our reputation and our net sales. There is no guarantee that we and our integrators will be able to continue to develop and expand our infrastructure and business processes at the pace necessary to scale the business, and our failure to do so may have an adverse effect on our business and brand identity.
Because we distribute a portion of our solutions through e-commerce platforms, our operations may be materially adversely affected by technological problems and failure to improve our platforms to meet customer needs.
A significant portion of our sales are transacted through e-commerce platforms including our website. Our integrators rely upon these sales platforms to conduct vital business activities including purchasing products, obtaining technical support and training, and learning about new products and services. Any failure of these platforms to operate reliably and meet customer needs may impact our business performance. For example, technological failures, both caused by us and those outside of our control, may result in platform downtime, and result in lost sales and customer loyalty. Additionally, if we do not continue to improve our e-commerce platforms to meet customer needs, we may also lose sales and customer loyalty. As we continue to improve customer experience and engage in strategic acquisitions, we have consolidated e-commerce platforms. Such platform consolidation presents risks for both technological disruptions and failure to meet customer needs, which may adversely affect our operations.
Because we distribute a portion of our solutions through highly dispersed brick-and-mortar locations across the United States and Canada, our operations may be materially adversely affected by inconsistent practices, and the operating results of individual branches may vary.
We operate a portion of our product-distribution business through a network of highly dispersed locations throughout the United States and Canada, supported by leadership located in central offices, with local branch management retaining responsibility for day-to-day operations and adherence to applicable local laws. Our operating structure could make it difficult for us to coordinate procedures across our operations. We may have difficulty attracting and retaining qualified local personnel. In addition, our branches may require significant oversight and coordination from headquarters to support their growth. Inconsistent implementation of corporate strategy and policies at the local level could materially and adversely affect our overall profitability, prospects, business, results of operations, financial condition, and cash flows. In addition, the operating results of an individual branch may differ from those of another branch for a variety of reasons, including market size, management practices, competitive landscape, regulatory requirements, and local economic conditions. As a result, certain of our branches may experience higher or lower levels of growth than other branches.
Risks Related to Laws and Regulations
Failure to comply with laws and regulations could harm our business.
We conduct our business in the United States and in various other countries. We are subject to regulation by various federal, state, local, and foreign governmental agencies, including, but not limited to, agencies and regulatory bodies, or authorities responsible for monitoring and enforcing product safety and consumer protection laws, data privacy and security laws and regulations, employment and labor laws, workplace safety laws and regulations, environmental laws and regulations, antitrust laws, federal securities laws, and tax laws and regulations.
Our global operations require us to import from and export to several countries, which increases the number of jurisdictions’ laws with which we must comply. We are also subject to anti-money-laundering laws such as the USA PATRIOT Act and may be subject to similar laws in other jurisdictions. Our platforms and solutions are subject to various export control and import laws and regulations, including the U.S. Export Administration Regulations, U.S. Customs’ regulations, and various economic and trade sanctions regulations administered by the U.S. Treasury Department’s Office of Foreign Assets Control, in part because our software contains encryption technologies. Exports of our platforms and solutions must be made in compliance with these laws and regulations. We may also be subject to import/export laws and regulations in other jurisdictions in which we conduct business. If we fail to comply with these laws and regulations, we and certain of our employees could be subject to substantial civil or criminalpenalties, including the possible loss of export or import privileges; fines, which may be imposed on us and responsible employees or managers; and, in extreme cases, the incarceration of responsible employees or managers. As a result, our access to technologies needed to improve our platforms and solutions may be impaired and the demand for our platforms and solutions outside of the United States may be limited. Any penalties, costs, and restrictions on export or import privileges could harm our results of operations. We maintain policies and procedures reasonably designed to ensure compliance with applicable trade accounting requirements, laws, and restrictions, including prohibiting the export, re-export or transfer of technology to companies on the Entity List maintained by the U.S. Department of Commerce’s Bureau of Industry and Security, as well as prohibiting the sale of our products in certain countries. However, due to the size of our global operations, we cannot ensure that our policies and procedures, including related safeguards, will effectively prevent violations, including the unauthorizeddiversion of products to countries or persons that are the target of Office of Foreign Assets Control sanctions; the export, re-export, or transfer of technology to companies on the Entity List; failure to comply with accounting rules related to import and export of products; appropriate import product classifications; or other trade accounting requirements, laws, and restrictions.
Moreover, if our service provider partners fail to obtain appropriate import, export, or re-export licenses or authorizations, we may also be adversely affected through reputational harm and penalties. Obtaining the necessary authorizations, including any required license, for a particular component or sale may be time-consuming, is not guaranteed and may result in the delay or loss of sales opportunities. In addition, changes in our platforms or solutions or changes in applicable export or import laws and regulations may create delays in the introduction and sale of our platforms and solutions in the United States and international markets, prevent our service provider partners from deploying our platforms and solutions, prevent us from importing or exporting components of some of our solutions, or, in some cases, prevent the export or import of our platforms and solutions to and from the United States and certain other countries, governments, or persons altogether.
Our integrators are required to abide by various national, state, and local regulatory requirements, including obtaining certifications and licenses in order to install and maintain certain products and technologies. For example, certain lighting products may only be installed by certified electricians. Home security and life safety products and services may require local and state licensure to distribute, install, and monitor; and local building codes may require such products to comply with an increasing and complex breadth of regulatory certifications. Other products, such as certain low-voltage products, may not require certifications or licenses in certain jurisdictions. National, state, or local regulatory requirements may change and require our integrators to obtain additional licenses, permits, and certifications to install our products. Such regulatory changes may make it more difficult and expensive for our integrators to install our products and therefore make it more difficult for us to sell our products. Additionally, the rapid evolution and increased adoption of AI technologies and our obligations to comply with emerging laws and regulations may require us to develop additional AI-specific governance programs.
Changes in applicable laws could result in increased regulatory requirements and compliance costs or the inability to import or export products or components from or to certain markets; which could harm our business, financial condition, cash flows, and results of operations. In certain jurisdictions, regulatory requirements may be more stringent than in the United States. Noncompliance with applicable regulations or requirements could subject us to whistleblower complaints, investigations, sanctions, settlements, mandatory product recalls, enforcement actions, disgorgement of profits, fines, damages, civil and criminalpenalties or injunctions, suspension or debarment from contracting with certain governments or other end consumers, the loss of export privileges, reputational harm, and other collateral consequences. In addition, responding to any action will likely result in a materially significant diversion of management’s attention and resources, and an increase in defense costs and other professional fees.
Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), we are required to adhere to certain reporting and other requirements regarding the use of certain minerals and derivative metals
(referred to as “conflict minerals,” regardless of their actual country of origin) in our products. Some of these metals are commonly used in electronic equipment and devices, including our products. These requirements require that we investigate, disclose, and report whether any such metals in our products originated from the Democratic Republic of Congo or adjoining countries. In addition, in June 2022, the import restrictions contained in the Uyghur Forced Labor Prevention Act (“UFLPA”) became effective. The UFLPA creates a rebuttable presumption that any goods mined, produced, or manufactured, wholly or in part in China’s Xinjiang Uyghur Autonomous Region (“XUAR”), or produced by a listed entity, were made with forced labor and would therefore not be entitled to entry at any U.S. port. Importers are required to present clear and convincing evidence that such goods are not made with forced labor. While we do not directly source any of our own raw conflict minerals or source any items from the XUAR or from listed parties, we have a complex supply chain, with numerous suppliers for the components and parts used in our products. As a result, we incur costs to comply with the diligence and disclosure requirements of the Dodd-Frank Act and the UFPLA. In addition, because our supply chain is so complex, we may not be able to sufficiently verify the origin of all relevant metals or other components and parts used in our products through our due diligence procedures. We may incur reputational damage if we determine that any of our products contain parts made with forced labor or minerals or derivative metals that are not conflict-free or if we are unable to sufficiently verify the source for all components and conflict minerals used in our products through the procedures we may implement. Furthermore, key components and parts that can be shown to be “conflict-free” and not sourced from XUAR or listed parties may not be available to us in sufficient quantity, or at all, or may only be available at significantly higher cost. If we are not able to meet customer requirements, end consumers may choose to disqualify us as a supplier. Any of these outcomes may negatively impact our business, results of operations, and financial condition.
Risks Related to Cybersecurity and Privacy
Failure to maintain the security of our information and technology networks, including information relating to our integrators, distributors, vendors, partners, end consumers, and employees, could adversely affect our business. In addition, if security breaches in connection with our products and services allow unauthorized third parties to obtain access to end consumers’ networks or appliances, our reputation, business, results of operations, and financial condition could be harmed.
The legal, regulatory, and contractual environment surrounding information security, privacy, and internet fraud is constantly evolving and companies that collect and retain information are under increasing attack by cyber criminals around the world. We are dependent on information technology networks and systems, including the Internet, to process, transmit, and store electronic information, and, in the normal course of our business, we collect and retain certain information, including financial and personally identifiable information, from and pertaining to our integrators, distributors, partners, end consumers, and employees. Data protection is important to us, and we devote significant resources addressing security vulnerabilities in our products and systems, and regularly engage with security experts to conduct penetration testing to help us uncovervulnerabilities. However, the policies and security measures we implement could prove to be inadequate and cannot guarantee our systems will be secure; and our information technology infrastructure may be vulnerable to cyberattacks, data security incidents, or other vulnerabilities. Cyberattacks are increasingly sophisticated, and often go undetected until after an attack. We may fail to identify new methods of attack or fail to invest sufficient resources in security measures. We have previously experienced non-material cyberattacks, and will certainly experience cyberattacks in the future, and we cannot be certain that advances in our cybersecurity capabilities or other developments will prevent compromises of the networks that access our products and services and data repositories.
Further, we have acquired companies over the years and may continue to do so in the future. While we make significant efforts to address any information technology security issues with respect to our acquisitions, we may still inherit such risks when we integrate acquired products and systems.
In addition, end consumers can use our tools for authorized, remote access to their systems, and certain of our employees and independent integrators can be provided access to monitor and update certain of our products and services remotely. Security breaches by third parties or by one of our integrators or employees, that allow unauthorized access to or control over our end consumers’ appliances or data through our products could harm our reputation, business, results of operations, and financial condition.
Any failure or perceived failure to maintain performance, reliability, security, and availability of systems or the actual or potential theft, loss, unauthorized use of our products or associated confidential information, including personally identifiable data of an integrator, distributor, partner, end consumer, and employee, could result in:
• Harm to our reputation or brand, which could lead some end consumers to stop using our products or services, reduce or delay future purchases of our products or services, use competing products or services, or adversely affect the overall market perception of the security of our services and home automation products generally;
• Individual and/or class action lawsuits, which could result in financial settlements or judgments against us and would cause us to incur legal costs;
• Legal or regulatory enforcement action, which could result in fines and/or penalties and would cause us to incur legal costs; and/or
• Additional costs associated with responding to the interruption or security breach, such as investigative and remediation costs, costs of providing notice to individuals and/or data owners, legal fees, costs of additional fraud-detection activities, or costs of prolonged system disruptions or shutdowns.
Any of these actions may have a material adverse effect on our business, results of operations, and financial condition.
Because we store, process, and use data, including personal information, we are subject to complex and evolving federal, state, and foreign laws and regulations regarding privacy, data protection and other matters. Many of these laws and regulations are subject to change and uncertain interpretation, and could result in investigations, claims, changes to our business practices, increased cost of operations, and declines in user growth, retention, or engagement, any of which could seriouslyharm our business.
Our products and services rely heavily on the collection, processing and use of information, including personal information. Because we store, process, and use certain types of data, we are subject to complex and evolving federal, state, and foreign laws and regulations regarding privacy and data protection. Both in the United States and abroad, these laws and regulations are constantly evolving. In the United States, in addition to certain regulations at the federal level, each state has its own statutory approach to privacy regulation. These laws are continuously changing, and the application and interpretation of these regulations are often uncertain, particularly in our rapidly evolving industry. Continually implementing up-to-date data security tools and procedures and maintaining privacy standards compliant with ever-changing privacy regulations in multiple jurisdictions is challenging. If we are found to have breached any consumer protection regulations, we may be subject to enforcement actions that require us to change our business practices in a manner which may negatively impact our net sales, as well as expose ourselves to litigation, investigation, fines, civil and/or criminalpenalties, and adverse publicity that could cause our end consumers to lose trust in us, negatively impacting our reputation and business in a manner that harms our financial position.
There is increased attention to and regulation of data protection and data privacy across the globe, including the Federal Trade Commission’s (“FTC”) active approach to enforcing data privacy in the United States, as well as the enactment of international privacy regulations such as the European Union’s General Data Protection Regulation (“GDPR”), the United Kingdom’s transposition of GDPR into its domestic laws following its withdrawal from the European Union, and China’s Personal Information Protection Law. In addition, many states have or will enact state-specific privacy regulations such as the California Consumer Privacy Act (“CCPA”) and the expanded California Privacy Rights Act (“CPRA”). In Europe, the GDPR introduced stringent requirements (which will continue to be interpreted in coming years), including how data may be transferred outside of the European Economic Area (“EEA”). Recent legal developments in Europe have created complexity and uncertainty regarding transfers of personal data from the EEA to the United States. For example, in July 2020, the European Court of Justice struck down a permitted personal data transfer mechanism between the EEA and the United States, invalidating the use of the EU-U.S. Privacy Shield Framework and amended the requirements of its standard contractual clauses (“SCCs”). SCCs remain a valid mechanism to transfer data from the EEA to the United States, and the EU in 2021 issued modernized standard contractual clauses and required entities subject to GDPR to adopt revised SCCs to remain compliant with GDPR. In 2023, European Commission adopted its adequacy decision for the EU-U.S. Data Privacy Framework. The adequacy decision concludes that the United States ensures an adequate level of protection for personal data transferred from the EU to U.S. companies participating in the EU-U.S. Data Privacy Framework. With all these changes, uncertainty remains as to what, if any, additional steps may be required to remain in compliance with the GDPR. These changes may lead to additional costs and increase our overall risk exposure. Penalties for non-compliance with either or both the GDPR or the U.K. GDPR are potentially significant and could harm our financial position.
We publicly post our privacy policies and practices concerning our processing, use, and disclosure of personal information. Statements we publish provide assurances about privacy and security that could subject us to regulatory action or other liabilities if: (a) such statements are found to be deceptive or misrepresentative of our practices, (b) we fail to take adequate measures to ensure that we adhere to applicable regulations, or (c) our third-party data processors fail to adequately protect personal information that they process on our behalf. While we select our third-party data processors carefully, we do not control their actions. Any problems experienced by these third parties, including those resulting from breakdowns or other disruptions in the services provided by such parties or cyberattacks and security breaches, could adversely affect our ability to conduct our business.
Risks Related to Intellectual Property
If we fail to protect our intellectual property and proprietary rights adequately, our business could be harmed.
We believe proprietary technology is essential to establishing and maintaining our leadership position. We seek to protect our intellectual property through our confidentiality, non-compete, non-solicitation, and nondisclosure agreements to maintain the confidentiality of our trade secrets, and by registering numerous patents, trademarks, and domain names in various justifications, as well as other measures, some of which may afford only limited protection. We rely on a combination of patent, trademark, trade secret, copyright, and other similar laws to protect our intellectual property. Our means of protecting our proprietary rights may not be adequate or our competitors may independently develop similar or superior technology, or design around our intellectual property. If we are unable to maintain the proprietary nature of our technologies, our business could be materially adversely affected.
As we rely in part on brand names and trademark protection to enforce our intellectual property rights, efforts by third parties to limit use of our brand names or trademarks, and barriers to the registration of brand names and trademarks in various countries, may restrict our ability to promote and maintain a cohesive brand throughout our key markets. There can also be no assurance that pending or future U.S. or foreign trademark applications will be approved in a timely manner or at all, or that such registrations will effectively protect our brand names and trademarks. In addition, we have not registered all our trademarks in all jurisdictions. Third parties may also oppose our trademark applications, or otherwise challenge our use of trademarks, or use our trademarks without permission and cause brand confusion in various markets. If our trademarks are successfullychallenged, or we are not able to successfullyenjoin others from using our trademarks, we could be forced to rebrand, which could result in loss of brand recognition and would require us to devote resources to advertising and marketing new brands.
In addition, the laws of some foreign countries do not protect our proprietary rights as extensively as the United States. Intellectual property protections may also be unavailable, limited, or difficult to obtain and enforce in some countries, which could make it easier for competitors to capture market share. For example, many foreign countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. Effective trade secret protection may also not be available in every country in which our products are available or where we have employees or independent contractors. In addition, any changes in, or unexpected interpretations of, the trade secret, intellectual property, or employment laws in any country in which we operate may compromise our ability to enforce our trade secret and other intellectual property rights.
To prevent substantial unauthorized use of our intellectual property rights, it may be necessary to prosecute actions for infringement and/or misappropriation of our proprietary rights against third parties. For example, we recently sued Josh.AI Inc. and AVA Inc. because we believe their products violated certain of our patents and they misappropriated certain trade secrets. This action, and other such actions could result in significant costs and diversion of our resources and management’s attention, and we cannot assure that we will be successful. Furthermore, many of our competitors can dedicate greater resources to enforce their intellectual property rights or contest infringementclaims than we can. Accordingly, despite our efforts, we may not be able to prevent third parties from knowingly or unknowinglyinfringing upon or misappropriating our intellectual property rights. If we are unable to protect our intellectual property rights, including aspects of our software and platform protected other than by patent rights, we will find ourselves at a competitive disadvantage to others who need not incur the additional expense, time, and effort required to create our platform and other innovative products that have made us successful.
Assertions by third parties that we are infringing their intellectual property could, regardless of merit, subject us to costly and time-consuming litigation and could further lead to expensive licenses or significant liabilities in the event of an adverse judgment.
Our industry is characterized by the existence of many patents, copyrights, trademarks, and trade secrets, and by frequent litigation based on infringementallegations or other violations of intellectual property rights. There may be third-party intellectual property rights, including issued or pending patents, that cover significant aspects of our technologies or business methods. As we face increasing competition and our public profile increases, the possibility of intellectual property rights claimsagainst us may increase. We have been subject to intellectual property litigation in the past and may be subject to similar litigation in the future. Given that some of our core product lines are, or integrate with, network-aware products, and because of the litigious environment for connectivity technologies, the risk that our solutions may be subject to these allegations may be exacerbated. Further, we may face exposure to third-party intellectual property infringement, misappropriation, or violation actions if we engage software engineers or other personnel who were previously engaged by competitors or other third parties and those personnel inadvertently or deliberately incorporate third-party proprietary technology into our products. A loss of key personnel or their work product in connection with such actions could hamper or prevent our ability to develop, market, and support potential products or enhancements, which could harm our business. Any intellectual property claims, with or without merit, could be time-consuming and expensive to settle or litigate.
We might not prevail in any intellectual property infringementlitigation given the complex legal and technical issues and inherent uncertainties. Defending such claims, regardless of merit, could be time-consuming and distracting to management, result in costlylitigation or settlement, cause development delays, or require us to enter into royalty or licensing agreements. In addition, we currently have a limited portfolio of issued patents compared to some competitors, and therefore may not be able to effectively utilize our intellectual property portfolio to assert defenses or counterclaims, or to negotiate cross-licenses in response to patent-infringementclaims or litigation. Further, litigation may involve patent-holding companies or other adverse patent owners who have no relevant products or revenues and against which our potential patents provide no deterrence, and many other potential litigants have the capability to dedicate greater resources to enforce their intellectual property rights and defendclaims. If our solutions exceed the scope of in-bound licenses or violate any third-party proprietary rights, we could be required to withdraw those solutions from the market, re-develop those solutions, or seek to obtain licenses from third parties, which might not be available on reasonable terms or at all. Any efforts to re-develop our solutions, obtain licenses from third parties on favorable terms or license a substitute technology might not be successful and, in any case, might substantially increase our costs and harm our business, financial condition, and results of operations. If we were compelled to withdraw any of our solutions from the market, it may have a material adverse effect on our business, results of operations, and financial condition. In the past, we have entered into settlement agreements relating to contractual claims and alleged patent infringements, which have included future royalty payments on certain products, the payment of a lump sum amount for alleged past damages, and/or the payment of a fixed amount in exchange for a covenant not to sue, and we may be required to do so again.
We have agreed to indemnify our independent integrators and other partners for certain intellectual property infringementclaims regarding our products and other materials we provide them. As a result, in the case of infringementclaimsagainst these partners, we could be required to indemnify them for losses. We expect some of our partners may seek indemnification from us in connection with infringementclaims. We evaluate each such request on a case-by-case basis, and may not succeed in refuting any such claim we believe to be unjustified. If a partner elects to invest resources in enforcing a claim for indemnification against us that we believe is unjustified, we could incur significant costs in disputing it. If we do not succeed in disputing it, we could face substantial liability.
The use of open-source software in our solutions may expose us to additional risks and harm our intellectual property.
Some of our solutions use or incorporate software subject to one or more open-source licenses. If we combine or link our proprietary software with certain open-source software and distribute or make available such software to third parties, we could, under the terms of the applicable open-source licenses, be required to disclose part or all of our proprietary software source code publicly, or to allow further modification and redistribution of such software on potentially unfavorable terms or at no cost. This could provide an advantage to our competitors or other entrants to the market, allow them to create similar products with lower development effort and time, and ultimately result in a loss of sales for us. We may also be required to spend time and effort to remediate such uses of open-source software. Open-source compliance problems can also result in damage to reputation, and challenges in recruitment or retention of engineering personnel.
The terms of many open-source licenses to which we are subject have not been interpreted by U.S. or foreign courts, and there is a risk those licenses could be construed in a manner that imposes unanticipated restrictions on our ability to commercialize our solutions. We could be required to seek licenses from third parties to continue offering our solutions, to redevelop our solutions, to discontinue sales of our solutions or to release our proprietary software code under the terms of an open-source license; any of which could harm our business. We may be subject to suits by parties claiming ownership of what we believe to be open-source software, or claiming non-compliance with the applicable open-source licensing terms. Any litigation could be costly for us to defend; have a material adverse effect on our business, results of operations, and financial condition; or require us to devote additional research and development resources to change our solutions.
We rely on the availability of third-party licenses and our inability to maintain those licenses could harm our business and results of operations.
We rely on third-party licensed technology, which we have incorporated into our products. Some of our agreements with our licensors may be terminated by them for convenience, or otherwise provide for a limited-term license. In addition, we may need to seek additional licenses for existing or new products, which may not be available on acceptable terms, or at all. The inability to obtain certain licenses or other rights, or to obtain them on favorable terms, or the need to engage in litigation regarding these matters, could result in our inability to include certain features in our products or delays in product releases, force us to acquire or develop alternative technology, which we may be unable to do in a commercially feasible manner or at all, and require us to use alternative technology of lower quality or performance standards. Any of the foregoing would disrupt the distribution and sale of our products and harm our business, results of operations, and financial condition.
Any errors or defects in third-party software could also result in errors or a failure of products. Moreover, the inclusion in our products of intellectual property licensed from third parties on a nonexclusive basis could limit our ability to protect our proprietary rights in our products. We cannot be certain our licensors will not infringe on third-party intellectual property rights or that our licensors will have sufficient rights to the licensed intellectual property in all jurisdictions in which we may sell our products, or that our remedies against our third-party software licensors in the event of such infringement will be sufficient.
Risks Related to Our International Operations
We are subject to a number of risks associated with international sales and operations.
International net sales accounted for 12.8% of our total net sales for fiscal year 2023, and that percentage may grow in the future. As a result, we must hire and train experienced personnel to staff and manage our foreign operations. To the extent that we experience difficulties in recruiting, training, managing, and retaining international integrators, distributors, and international staff, and specifically staff related to sales management and sales personnel, we may experience difficulties in productivity in foreign markets.
If we are not able to increase the sales of our solutions to consumers located outside of the United States, our results of operations or net sales growth may be harmed. In addition, in connection with our expansion into foreign markets, we receive currencies other than the U.S. dollar. Accordingly, changes in exchange rates, and particularly a strengthening of the U.S. dollar, will negatively affect our net sales as expressed in U.S. dollars. There is also a risk when we adjust local currency product pricing due to volatility or changes in foreign currency exchange rates that demand for our products will decrease, harming our ability to compete for customers in these geographies.
Conducting and launching operations on an international scale requires close coordination of activities across multiple jurisdictions and time zones and consumes significant management resources. Conducting international operations subjects us to risks that, generally, we do not face in the United States either at all or with the same degree of severity, including:
• Fluctuations in currency exchange rates;
• Changes in foreign regulatory requirements;
• Longer accounts receivable payment cycles and difficulties in collecting accounts receivable;
• Difficulties in managing and staffing international operations, which may result in higher personnel-related liabilities and expenses;
• Potentially adverse tax consequences, including the complexities of foreign value-added tax systems and restrictions on the repatriation of earnings;
• Localization of our solutions and other materials, including translation into foreign languages and associated expenses;
• Localization of applicable agreements under applicable foreign law and differing legal standards and risks;
• Burdens of complying with a wide variety of foreign laws and different legal standards, including laws and regulations related to import/export, privacy, the transfer of personal information across borders, data security, labor, and limitations on liability;
• Increased financial accounting and reporting burdens and complexities;
• Political, social, and economic instability abroad, war, terrorist attacks, and security concerns in general, including crime and cyber security; and
• Reduced or varied protection for intellectual property rights in some countries.
The impact of any one of these could harm our international business and, consequently, our results of operations generally. Moreover, operating in international markets also requires significant management attention and financial resources. We cannot be certain the investment and additional resources required in establishing, acquiring, or integrating operations and personnel in other countries will produce desired levels of net sales or profitability; and if we decide to open new international markets or change our go-to-markets structures, we will incur additional expenses with no guarantee the investment will be profitable.
Due to the global nature of our business, we could be harmed by violations of the U.S. Foreign Corrupt Practices Act, the U.K. Bribery Act or similar anti-corruption laws in other jurisdictions in which we operate, or various international trade and export laws.
The global nature of our business creates various domestic and local regulatory challenges, including compliance with applicable anti-corruption laws and regulations. Where they apply, the U.S. Foreign Corrupt Practices Act (“FCPA”), the U.K. Bribery Act 2010 (“U.K. Bribery Act”), and similar anti-corruption laws in other jurisdictions generally prohibit companies and their directors, officers, employees, and intermediaries from making improper payments to foreign government officials for the purpose of obtaining or retaining business or securing an improper business advantage. The U.K. Bribery Act and other anti-corruption laws that could apply to our business also prohibit non-governmental “commercial” bribery and accepting bribes. In addition, U.S.-listed companies are required to maintain records that accurately and fairly represent their transactions and to implement and enforce an adequate system of internal accounting controls.
Our global operations expose us to the risk of violating, or being accused of violating, anti-corruption laws and regulations. Our business requires us to import from and export to several countries, which exposes us to corruption risks, and we rely heavily on intermediaries to support our sales and marketing operations, including integrators and distributors, and we could potentially face liability if these intermediaries engage in misconduct related to our business. We also operate in areas of the world that have elevated corruption risks and, in certain circumstances, compliance with anti-corruption laws may conflict with local customs and practices. Although our policies and procedures prohibit bribery and we periodically train our employees and agents about these anti-corruption laws, we cannot assure compliance by our personnel or intermediaries with such anti-corruption laws. If we are found to be in violation of any applicable anti-corruption laws, this may expose us to reputational harm, investigation costs, or significant sanctions, including disgorgement of profits, injunctions, and suspension or debarment from government contracts, criminal or civil penalties, or other sanctions, which could harm our business.
The recent armed conflicts could harm our business.
In February 2022, armed conflictescalated between Russia and Ukraine. The sanctions against Russia announced by the United States and other countries following Russia’s invasion of Ukraine include restrictions on selling or importing goods, services or technology in or from affected regions; and travel bans and asset freezes impacting connected individuals and political, military, business and financial organizations in Russia; and such sanctions may be widened as the conflict continues. We continue to monitor developments in Ukraine, the related export controls and financial and economic sanctions, and Russia’s responsive restrictions. As a result, we have paused all sales of our product to companies in Russia and Belarus. Although we do not foresee direct material adverse effects upon our business, financial condition, or
results of operations as a result of developments in Ukraine and the consequent controls and sanctions, these factors may affect companies in many sectors and could lead to increased market volatility and uncertainty, which could affect us.
In October 2023, Hamas launched assaultsagainst Israeli citizens in Israel, and Israel subsequently responded aggressively with operations against Hamas inside the Gaza Strip. The Israel-Hamas War has caused substantial regional instability and world-wide concern and potential involvement. While we do not currently believe this conflict has caused a direct material adverse impact on our business, escalating tensions in the region, including conflicts in the Red Sea, may disrupt global markets and foreign interest rates, cause increased inflation in energy and logistics costs, and negatively impact our supply chain. These conflicts are highly unpredictable and have already resulted in significant volatility in oil and natural gas prices worldwide. The increased cost of oil, along with increased or prolonged periods of inflation, would likely increase our costs in the form of higher wages, and further inflation on supplies and equipment necessary to operate our business. One or more of our suppliers could be negatively affected by global economic instability, which could in turn, negatively impact our business, financial condition, or results of operations.
Risks Related to Our Indebtedness
Our substantial indebtedness could materially adversely affect our financial condition and our ability to operate our business, react to changes in the economy or industry or pay our debts and meet our obligations under our debt and could divert our cash flow from operations for debt payments.
On December 8, 2021, we entered into a new credit agreement (the “Credit Agreement”) with various financial institutions consisting of $465.0 million senior secured term loans (the “Term Loan”) maturing in 2028 and a $100.0 million senior secured revolving credit facility (the “Revolving Credit Facility”) maturing in 2026. As of December 8, 2021, the day we refinanced our prior credit agreement (the “Old Credit Agreement”) with proceeds of the Credit Agreement, our total term loan borrowings under our Credit Agreement were $465.0 million. On October 2, 2022, we entered into an Incremental Agreement (the “Incremental Agreement”) which amended the Credit Agreement to obtain incremental term loans in an aggregate principal amount of $55.0 million (the “Incremental Term Loan”). The Incremental Term Loan matures in 2025. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources” for further discussion. In addition, subject to restrictions in the agreements governing our credit facilities, we may incur additional debt.
Our substantial indebtedness could have negative consequences, including the following:
• It may be difficult for us to satisfy our obligations, including debt service requirements under our outstanding debt, resulting in possible defaults on and acceleration of such indebtedness;
• Our ability to obtain additional financing for working capital, capital expenditures, debt service requirements, acquisitions or other general corporate purposes may be impaired;
• A substantial portion of cash flow from operations may be dedicated to the payment of principal and interest on our debt, therefore reducing our ability to use our cash flow to fund our operations, capital expenditures, future business opportunities, acquisitions, and other purposes;
• We are more vulnerable to economic downturns and adverse industry conditions and our flexibility to plan for, or react to, changes in our business or industry is more limited;
• Our ability to capitalize on business opportunities and to react to competitive pressures, as compared to our competitors, may be compromised due to our high level of debt; and
• Our ability to borrow additional funds or to refinance debt may be limited.
Furthermore, our debt under our Credit Agreement bears interest at variable rates. Although we entered into an interest rate cap agreement that became effective in December 2022, a portion of our debt still bears interest under variable interest rates. As these rates increase as they did in 2023, our debt service obligations increase even though the amount borrowed remains the same, and our net income and cash flows, including cash available for servicing our indebtedness, correspondingly decrease. If interest rates continue t o increase, we will see a corresponding increase in these obligations. Accordingly, our ability to borrow additional funds may be reduced and risks related to our substantial indebtedness would intensify.
We and our subsidiaries may be able to incur substantial additional debt in the future. Although our Credit Agreement contains restrictions on the incurrence of additional debt, these restrictions are subject to multiple qualifications and
exceptions, and the debt incurred in compliance with these restrictions could be substantial. Additionally, we may successfully obtain waivers of these restrictions. These restrictions also do not prevent us from incurring obligations, such as trade payables, that do not constitute indebtedness as defined under our Credit Agreement. If we incur additional debt above the levels currently in effect, the risks associated with our leverage, including those described above, would increase.
Servicing our debt requires a significant amount of cash. Our ability to generate sufficient cash depends on numerous factors beyond our control, and we may be unable to generate sufficient cash flow to service our debt obligations.
Our business may not generate sufficient cash flow from operating activities to service our debt obligations. Our ability to make payments on and to refinance our debt and to fund planned capital expenditures depends on our ability to generate cash. To some extent, this is subject to general and regional economic, financial, competitive, legislative, regulatory, and other factors beyond our control. Like other companies, geopolitical unrest has resulted in longer supply chain lead times for certain products and materials. We have implemented strategies to mitigate these longer lead times for many of our products and materials, but there is no guarantee that our mitigation strategies will be successful and longer lead times could have a material impact on our liquidity and ability to service our debt.
If we are unable to generate sufficient cash flow from operations to service our debt and meet our other commitments, we may need to refinance all or a portion of our debt, sell material assets or operations, delay capital expenditures, or raise additional debt or equity capital. We may not be able to affect any of these actions on a timely basis, on commercially reasonable terms or at all, and these actions may not be sufficient to meet our capital requirements. In addition, the terms of our existing or future debt agreements may restrict us from pursuing any of these alternatives.
Restrictive covenants in our Credit Agreement governing our indebtedness may restrict our ability to pursue our business strategies, and failure to comply with any of these restrictions could result in acceleration of our debt.
The operating and financial restrictions and covenants in our Credit Agreement may materially adversely affect our ability to distribute monies to our stockholders, finance future operations or capital needs, or engage in other business activities. Such agreements limit our ability, among other things, to:
• Incur additional indebtedness and guarantee indebtedness;
• Pay dividends on or make distributions in respect of our common stock or make other restricted payments;
• Make loans and investments;
• Sell or otherwise dispose of assets;
• Incur liens;
• Consolidate, merge, sell, or otherwise dispose of all or substantially all of our assets;
• Enter into certain transactions with our affiliates; and
• Designate our subsidiaries as unrestricted subsidiaries.
In addition, our Credit Agreement covenants require us to maintain a specified first lien secured net leverage ratio when a certain percentage of our Revolving Credit Facility commitments are borrowed and outstanding as of the end of each fiscal quarter. The Revolving Credit Facility under our Credit Agreement is subject to a first lien secured net leverage ratio of 7.50 to 1:00, tested quarterly, if, and only if, the aggregate principal amount from the revolving facility, letters of credit (to the extent not cash collateralized or backstopped or, in the aggregate, not in excess of the greater of $10.0 million and the stated face amount of letters of credit outstanding on the initial closing date of the Credit Agreement) and swingline loans outstanding and/or issued, as applicable, exceed 35% of the total amount of the Revolving Credit Facility commitments on such date. In certain circumstances, our ability to meet this financial covenant may be affected by events beyond our control.
A breach of our Credit Agreement covenants could result in a default or an event of default under the Credit Agreement. Such a default or event of default might allow the creditors to accelerate all amounts outstanding under our Credit Agreement and might result in the acceleration of any other debt or the termination of other third-party contracts to which a cross-acceleration or cross-default provision applies. In addition, an event of default under our Credit Agreement would permit the lenders to terminate all commitments to extend further credit to us. Furthermore, we have pledged a significant portion of our assets as collateral to secure our debt, and if we were unable to repay the amounts due and payable, those creditors could proceed against the collateral. In the event our lenders accelerate the repayment of our borrowings, we and our subsidiaries may not have sufficient assets to repay that indebtedness.
As a result of all of these restrictions, we and/or our subsidiaries, as applicable, may be:
• Limited in how we conduct our business;
• Unable to raise additional debt or equity financing to operate during general economic or business downturns; or
• Unable to compete effectively or to take advantage of new business opportunities.
These restrictions might hinder our ability to service our indebtedness or grow in accordance with our business strategy.
Furthermore, the terms of any future indebtedness we may incur could have further additional restrictive covenants. We may not be able to maintain compliance with these covenants in the future, and in the event that we are not able to maintain compliance, we cannot assure you that we will be able to obtain waivers from the lenders or amend the covenants.
A downgrade in our credit ratings could increase our cost of funding and/or adversely affect our access to debt financing and working capital, as well as result in a loss of business and materially adversely affect our financial condition and results of operations.
Our credit ratings are important to our cost and availability of capital. The major rating agencies routinely evaluate our credit profile and assign credit ratings to us. This evaluation is based on a number of factors, which include financial strength, business and financial risk, as well as transparency with rating agencies, and timeliness of financial reporting. The addition of further leverage to our capital structure could result in a downgrade to our credit ratings in the future. As such, failure to maintain our current credit rating could adversely affect our cost of funding and our liquidity by limiting the access to capital markets or the availability of funding potential lenders. In addition, we purchase material and services from some suppliers on extended terms based on our overall credit rating. Negative changes in our credit rating may impact our suppliers’ willingness to extend terms and increase the cash requirements of the business.
Risks Related to Our Financial Statements
We may be subject to additional tax liabilities, which could materially adversely affect our financial condition, results of operations, or cash flows.
We are subject to income, sales, use, value added, franchise, tariffs, and other taxes in the United States and other countries in which we conduct business, which laws and rates vary greatly by jurisdiction. Certain jurisdictions in which we do not collect income, sales, use, value added, tariffs, or other taxes on our sales may assert that such taxes are applicable, which could result in tax assessments, penalties, and interest, and we may be required to collect such taxes in the future. Significant judgment is required in determining our worldwide provision for income taxes and evaluating our uncertain tax positions. These determinations are highly complex and require detailed analysis of the available information, applicable statutes and regulatory materials. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. Although we believe our tax estimates are reasonable, the final determination of tax audits and any related litigation could be different from our historical tax practices, provisions and accruals. If we receive an adverse ruling as a result of an audit, or we unilaterally determine that we have misinterpreted provisions of the tax regulations to which we are subject, our tax provision, results of operations, or cash flows could be harmed. In addition, liabilities associated with taxes are often subject to an extended or indefinite statute of limitations period. Therefore, we may be subject to additional tax liability (including penalties and interest) for any particular year for extended periods of time depending on the specific statute of limitations in the relevant jurisdiction.
We have a recent history of losses and expect to incur increased operating costs in the future, and we may not achieve or sustain profitability or current revenue growth.
We have recorded net losses this year and net losses and negative cash flows from our operations in the past. We expect our operating expenses to increase in the future as we expand our operations and execute our product roadmap and strategy. We also plan to make significant future expenditures related to the expansion of our business and our product offerings, including investments in:
• Research and development to continue to introduce innovative new products and enhance existing products;
• Sales and marketing to expand our brand awareness, promote new products, increase our customer base, and expand sales within our existing customer base; and
• Legal, accounting, information technology, and other administrative expenses to sustain our operations as a public company.
If our net sales do not continue to grow to offset any increased expenses, we may continue to record net losses. We may incur significant losses in the future for a number of reasons, including the other risks and uncertainties described herein. Additionally, we may encounter unforeseen operating or legal expenses, difficulties, complications, delays in manufacturing and selling our products, and other unknown factors that may result in losses in future periods. If these losses exceed our expectations or our net sales growth expectations are not met in future periods, our operating results could be adversely affected and our stock price could be harmed and we may need to increase our valuation allowance against our U.S. federal and state deferred tax assets again in the future and our stock price may fall.
We may be required to recognize an impairment of our goodwill and other identifiable intangible assets, which represent a significant portion of our total assets.
As of December 29, 2023, we had $592.4 million of goodwill and $505.1 million of unamortized identifiable intangible assets recorded on our balance sheet. Goodwill and identifiable indefinite lived intangible assets are tested on the first day of the fourth quarter of each year. Impairment may result from, among other things, deterioration in performance, adverse market conditions, adverse changes in applicable laws or regulations, including changes that restrict the activities of or affect the solutions we offer, challenges to the validity of certain registered intellectual property, reduced sales of certain products or services incorporating registered intellectual property, increased attrition, and a variety of other factors. The amount of any quantified impairment must be expensed immediately as a charge to results of operations. Depending on future circumstances, it is possible that we may never realize the full value of our intangible assets. An impairment of all or a part of our goodwill or other identifiable intangible assets may have a material adverse effect on our business, financial condition, and results of operations. See “Management’s Discussion and Analysis of Financial Conditions and Results of Operations” and Note 6 in our Notes to the Consolidated Financial Statements for further discussion of our goodwill and other intangible assets.
Changes in accounting standards issued by the Financial Accounting Standards Board (“FASB”), or other standard-setting bodies may adversely affect trends and comparability of our financial results.
We are required to prepare our financial statements in accordance with GAAP, which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the FASB and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment we apply to our financial statements and may result in significant changes to our results, disclosures, and supporting reporting systems. Such changes could result in a material adverse impact on our results of operations and financial condition.
Trends in research and development spending could adversely affect our growth potential, business, results of operations, financial condition, and/or cash flows.
Our business operates in competitive markets characterized by changing consumer preferences and rapid technological innovation. We have made and expect to continue to make significant investments in research and development and related product opportunities. For fiscal year 2023, we invested $66.6 million in research and development activities. High levels of investment in research and development could harm our results of operations, especially if not offset by corresponding future net sales increases. We believe we must continue to dedicate a significant amount of resources to our research and development efforts to maintain our competitive position. However, it is difficult to estimate when, if ever, we will generate significant net sales as a result of these investments which could adversely impact our operating results as well as our reputation.
We may be required to make payments under our contingent value rights agreement with certain former holders.
Subject to the terms and conditions of the Agreement and Plan of Merger dated June 19, 2017 (the “Merger Agreement”) by and among us, former holders of the Company (the “Former Holders”) and the other parties thereto, the Former Holders received non-transferable contingent value rights (“CVRs”), which collectively entitle the Former Holders
to receive from us, in certain circumstances, aggregate payments of up to $25 million. Each CVR gives a Former Holder the ability to earn cash payments based on the return of certain investment funds of H&F’s original investment achieving stated thresholds in relation to the proceeds received from disposition of H&F’s initial ownership units. The CVRs were issued at two thresholds. The first CVR is payable to the Former Holders when H&F’s return on investment grows to between 2.25 and 2.5 times H&F’s original investment. The second CVR is payable to the Former Holders when H&F’s return on investment grows to between 2.5 and 2.67 times H&F’s original investment. To the extent we are required to make a payment to the Former Holders under the Merger Agreement, our liquidity may be adversely affected. For additional information on our obligations under the Merger Agreement, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Contractual Obligations — Contingent Value Rights (“CVRs”)”.
Risks Related to Our Common Stock
We are controlled by Hellman & Friedman, LLC, whose interests may be different from the interests of other holders of our securities.
H&F owns a majority stake in the Company. As of December 29, 2023, certain investment funds advised by an affiliate of H&F owned approximat ely 72% of our total outstanding common stock, and had the ability to nominate members of our Board. As a result, H&F is able to control actions to be taken by us, including future issuances of our common stock or other securities, the payment of dividends, if any, on our common stock, amendments to our organizational documents and the approval of significant corporate transactions, including mergers, sales of substantially all of our assets, distributions of our assets, the incurrence of indebtedness, and any incurrence of liens on our assets.
The interests of H&F may be materially different from the interests of our other stakeholders. In addition, H&F may have an interest in pursuing acquisitions, divestitures, and other transactions that, in their judgment, could enhance their investment, even though such transactions might involve risks to you. For example, H&F may cause us to take actions or pursue strategies that could impact our ability to make payments under our Credit Agreement or cause a change of control. In addition, to the extent permitted by our Credit Agreement, H&F may cause us to pay dividends rather than make capital expenditures or repay debt. H&F is in the business of making investments in companies and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. Our amended and restated certificate of incorporation provides that H&F, its affiliates, and any director who is not employed by us (including any non-employee director who serves as one of our officers in both his director and officer capacities) or his or her affiliates does not have any duty to refrain from engaging, directly or indirectly, in the same business activities or similar business activities or lines of business in which we operate. H&F also may pursue acquisition opportunities that may be complementary to our business, and, as a result, those acquisition opportunities may not be available to us.
So long as H&F continues to own a significant amount of our outstanding common stock, even if such amount is less than 50%, they will continue to be able to strongly influence or effectively control our decisions and they will have the ability to nominate individuals to our Board pursuant to a stockholders’ agreement entered into by H&F and certain of our directors, officers, and other employees, in connection with the IPO. In addition, H&F is able to determine the outcome of all matters requiring stockholder approval and will be able to cause or prevent a change of control of our Company or a change in the composition of our Board and could preclude any unsolicited acquisition of our Company. The concentration of ownership could deprive you of an opportunity to receive a premium for your shares of common stock as part of a sale of our Company and ultimately might affect the market price of our common stock.
We are a “controlled company” within the meaning of the Nasdaq rules and the rules of the SEC. As a result, we will qualify for exemptions from certain corporate governance requirements that provide protection to stockholders of other companies.
H&F owns a majority of our outstanding common stock. As a result, we are a “controlled company” within the meaning of the corporate governance standards of Nasdaq. Under these rules, a company of which more than 50% of the voting power is held by an individual, group, or another company is a “controlled company” and may elect not to comply with certain corporate governance requirements, including:
• The requirement that a majority of our Board consist of “independent directors” as defined under the rules of the Nasdaq;
• The requirement that we have a compensation committee composed entirely of directors who meet the independence standards for compensation committee members with a written charter addressing the committee’s purpose and responsibilities; and
• The requirement that our director nominations be made, or recommended to our full Board, by our independent directors or by a nominations committee that consists entirely of independent directors and that we adopt a written charter or board resolution addressing the nominations process.
We do not currently utilize these exemptions. However, if we utilize any of these exemptions in the future, you will not have the same protections afforded to stockholders of companies that are subject to all of the corporate governance requirements of the Nasdaq.
Our stock price may change significantly, and purchasers of our common stock may not be able to resell shares of our common stock at or above the price they paid or at all, and they could lose all or part of their investment as a result.
The trading price of our common stock has been and is likely to continue to be volatile. The stock market has experienced extreme volatility. This volatility often has been unrelated or disproportionate to the operating performance of particular companies. Investors in our common stock may not be able to resell their shares at or above the purchase price due to multiple factors such as those listed in other portions of this “Risk Factors” section and the following:
• Actual or anticipated fluctuations in our quarterly financial and operating results;
• Introduction of new products, solutions, or services by us or our competitors;
• Our ability to integrate operations, technology, products, and services;
• Issuance of new or changed securities analysts’ reports or recommendations;
• Sales, or anticipated sales, of large blocks of our stock;
• Additions or departures of key personnel;
• Changing economic or overall market conditions;
• Industry developments; and
• Any default on our indebtedness.
These broad market and industry fluctuations may materially adversely affect the market price of our common stock, regardless of our actual operating performance. In addition, price volatility may be greater if the public float and trading volume of our common stock are low. Stock prices volatility also affect the impact we have with the authorized number of shares under our 2021 Equity Incentive Plan; a low stock price could require us to seek registration of additional shares to cover our obligations, which would dilute shares for our investors.
In the past, following periods of market volatility, stockholders have instituted securities class action litigation. If we were involved in securities litigation, it could have a substantial cost and divert resources and the attention of executive management from our business regardless of the outcome of such litigation.
As we realize the benefit of net operating losses and certain other tax benefits that arose prior to or in connection with our IPO, we are required to pay the TRA Participants equal to a significant portion of the benefit, which amounts could be material.
As further described in Note 13 in our Notes to the Consolidated Financial Statements , we expect to be able to utilize certain tax benefits that arose prior to or in connection with our IPO and are therefore attributable to the TRA Participants. These tax benefits will reduce the amount of tax we would otherwise be required to pay in the future.
We entered into a TRA with the TRA Participants which provides for the payment by us to the TRA Participants of 85% of the amount of cash savings, if any, in U.S. federal, state, and local income tax that we actually realize, or are deemed to realize (calculated using certain assumptions), as a result of utilizing such tax benefits subject to the TRA, including tax benefits attributable to payments under the TRA. We made payments, including accrued interest, pursuant to the TRA of $22.1 million and $10.5 million on January 12, 2024 and February 15, 2023, respectively. Future amounts and utilization of the tax benefits subject to the TRA, as well as the amount and timing of any payments under the TRA, will vary depending upon multiple factors, including the amount, character, and timing of our taxable income in the future. In addition, actual tax benefits realized by us may differ from the tax benefits calculated under the TRA as a result of the use of certain assumptions in the TRA, including an assumed state and local income tax rate to calculate tax benefits. We
expect that the additional payments we may make under the TRA will continue to be material. There may be a material negative effect on our liquidity if, as a result of timing discrepancies or otherwise, the payments under the TRA exceed the actual cash tax savings we realize in respect of the tax benefits subject to the TRA.
In certain cases, payments under the TRA may be accelerated and/or significantly exceed the actual cash savings we realize in respect of the tax benefits subject to the TRA.
The TRA provides that if we breach any of our material obligations under the TRA, whether as a result of a failure to make any payment when due, failure to honor any other material obligation required thereunder or by operation of law as a result of the rejection of the TRA in a case commenced under the federal bankruptcy laws or otherwise, upon the occurrence of certain bankruptcy or insolvency proceedings involving us, upon certain changes of control, or if, at any time, we elect an early termination of the TRA, our obligations under the TRA would be automatically accelerated and would be immediately due and payable, and such obligations would be calculated by reference to the value of all future payments that the TRA Participants would have been entitled to receive under the TRA using certain assumptions, including that we will have sufficient taxable income to fully utilize certain tax benefits subject to the TRA. Our ability to fully utilize certain tax benefits subject to the TRA will depend upon a number of factors, including the amount, character, and timing of our taxable income in the future. In periods prior to the occurrence of a change of control and absent circumstances requiring an early termination payment, we are only obligated to make payments under the TRA as and when we realize cash tax savings from the tax benefits subject to the TRA (calculated using certain assumptions contained therein). Accordingly, we will generally not be required (absent a change of control, material breach, or circumstances requiring an early termination payment) to make payments under the TRA for a taxable year in which we do not have taxable income because no cash tax savings will have been realized. In addition, recipients of payments under the TRA will not reimburse us for any payments previously made under the TRA if the tax attributes or our utilization of tax attributes underlying the relevant TRA payment are successfullychallenged by the Internal Revenue Service (“IRS”) (although any such detriment would be taken into account as an offset against future payments due to the relevant recipient under the TRA). However, unutilized deductions that do not result in realized benefits in a given tax year as a result of insufficient taxable income may be applied to taxable income in future years and accordingly would impact the amount of cash tax savings in such future years and the amount of corresponding payments under the TRA in such future years.
Accordingly, it is possible that the actual cash tax savings we realize may be significantly less than the corresponding TRA payments. There may be a material negative effect on our liquidity if the payments under the TRA exceed the actual cash tax savings we realize in respect of the tax benefits subject to the TRA. We may need to incur additional indebtedness to finance payments under the TRA to the extent our cash resources are insufficient to meet our obligations under the TRA as a result of timing discrepancies or otherwise, and these obligations could have the effect of delaying, deferring, or preventing certain mergers, asset sales, other form of business combinations or other changes of control.
We are a holding company with no operations and rely on our operating subsidiaries to provide us with funds necessary to meet our financial obligations.
We are a holding company with no material direct operations. Our principal assets are the equity interests of Snap One, LLC that we hold indirectly through our subsidiaries. Snap One, LLC, together with its subsidiaries, owns substantially all our operating assets. As a result, we are dependent on loans, dividends, and other payments from our subsidiaries to generate the funds necessary to meet our financial obligations. Our subsidiaries are legally distinct from us and may be prohibited or restricted from paying dividends or otherwise making funds available to us. If we are unable to obtain funds from our subsidiaries, we may be unable to meet our financial obligations.
We currently do not intend to declare dividends on our common stock in the foreseeable future and, as a result, your only opportunity to achieve a return on your investment is if the price of our common stock appreciates.
We currently do not expect to declare any dividends on our common stock in the foreseeable future. Instead, we anticipate that all our earnings in the foreseeable future will be used to provide working capital, to support our operations, and to finance the growth and development of our business. Any determination to declare or pay dividends in the future will be at our Board’s discretion, subject to applicable laws and dependent upon multiple factors, including our earnings, capital requirements, and overall financial condition. In addition, our ability to pay dividends on our common stock is currently limited by the covenants of our credit facilities and may be further restricted by the terms of any future debt or preferred securities. Accordingly, your only opportunity to achieve a return on your investment in our Company may be if
the market price of our common stock appreciates and you sell your shares at a profit. The market price for our common stock may never exceed, and may fall below, the price you pay for such common stock.
Future sales, or the perception of future sales, by us or our existing stockholders in the public market could cause the market price for our common stock to decline.
The sale of shares of our common stock in the public market, or the perception that such sales could occur, could harm the prevailing market price of shares of our common stock. These sales, or the possibility that these sales may occur, also might make it more difficult for us to sell equity securities in the future at a time and at a price that we deem appropriate.
As of December 29, 2023, our directors, officers, executives, and our majority stockholder, H&F, represented approximately 77% of our total outstanding shares of common stock. If these stockholders were to sell a significant amount of their stock, or are perceived by the market as intending to sell a significant amount of their stock, the mar ket price of our shares of common stock could drop significantly. The fact that a majority of our stock is owned by H&F could also make it more difficult for us to raise additional funds through future offerings of our shares of common stock or other securities.
Provisions in our organizational documents and Stockholders’ Agreement could delay or prevent a change of control.
Certain provisions of our amended and restated certificate of incorporation, amended and restated bylaws and Stockholders’ Agreement may have the effect of delaying or preventing a merger, acquisition, tender offer, takeover attempt, or other change-of-control transaction that a stockholder might consider to be in its best interest, including attempts that might result in a premium over the market price of our common stock.
These provisions provide for, among other things:
• The division of our Board into three classes, with directors in each class serving three-year terms and with terms of the directors of only one class expiring in any given year;
• That at any time when H&F and certain of its affiliates beneficially own, in the aggregate, less than 40% in voting power of the stock of our Company entitled to vote generally in the election of directors, directors may only be removed for cause, and only by the affirmative vote of the holders of at least two-thirds in voting power of all the then-outstanding shares of stock entitled to vote thereon, voting together as a single class;
• The ability of our Board to issue one or more series of preferred stock with voting or other rights or preferences that could have the effect of impeding the success of an attempt to acquire us or otherwise effect a change of control;
• Advance notice for nominations of directors by stockholders and for stockholders to include matters to be considered at stockholder meetings;
• The right of H&F and certain of its affiliates to nominate the majority of the members of our Board and the obligation of certain of our other pre-IPO stockholders to support such nominees;
• Certain limitations on convening special stockholder meetings; and
• That certain provisions of our amended and restated certificate of incorporation and amended and restated bylaws may be amended only by the affirmative vote of the holders of at least two-thirds in voting power of all the then-outstanding shares of our stock entitled to vote thereon, voting together as a single class, if H&F and certain of its affiliates beneficially own, in the aggregate, less than 40% in voting power of our stock entitled to vote generally in the election of directors.
These provisions could make it more difficult for a third-party to acquire us, even if the third-party’s offer may be considered beneficial by many of our stockholders. As a result, our stockholders may be limited in their ability to obtain a premium for their shares.
We are an “emerging growth company” and a “smaller reporting company” and the reduced disclosure requirements applicable to emerging growth companies or smaller reporting companies may make our common stock less attractive to investors.
We are an “emerging growth company,” as defined in the JOBS Act. We will remain an emerging growth company until the earliest to occur of: the last day of the fiscal year in which we have at least $1.235 billion in annual revenue; the
date we qualify as a “large accelerated filer,” with at least $700 million of equity securities held by non-affiliates; the issuance, in any three-year period, by us of more than $1.0 billion in non-convertible debt securities; or December 25, 2026, which is the last day of the fiscal year ending after the fifth anniversary of our IPO. For so long as we remain an emerging growth company, we are permitted by SEC rules and plan to rely on exemptions from certain disclosure requirements applicable to other SEC-registered public companies that are not emerging growth companies. These exemptions include not being required to comply with the requirement for an auditor attestation of the effectiveness of our internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act (“SOX”), not being required to comply with any requirement that may be adopted by the Public Company Accounting Oversight Board regarding a supplement to the auditor’s report providing additional information about the audit and the financial statements, reduced disclosure obligations regarding executive compensation, and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved.
Additionally, we are a “smaller reporting company” as defined in Item 10(f)(1) of Regulation S-K. Smaller reporting companies may take advantage of certain reduced disclosure obligations, including providing only two years of audited financial statements (although we have elected to provide three years of audited financial statements in this Annual Report). We will remain a smaller reporting company until the last day of the fiscal year in which (1) the market value of our common stock held by non-affiliates equals or exceeds $250 million as of the prior last business day of the most recently completed second fiscal quarter or (2) our annual revenues equaled or exceeded $100 million during such completed fiscal year and the market value of our common stock held by non-affiliates equals or exceeds $700 million as of the prior last business day of the most recently completed second fiscal quarter. Even after we no longer qualify as an emerging growth company, we may still qualify as a smaller reporting company, which would allow us to continue to take advantage of many of the same exemptions from disclosure requirements, including reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements.
As a result of our reduced disclosure obligations, the information we provide stockholders will be different than the information that is available with respect to other public companies and may make it more difficult to compare out disclosures to other public companies. In this Annual Report, we have not included all of the executive compensation-related information that would be required if we were not an emerging growth company. We cannot predict whether investors will find our common stock less attractive if we rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less-active trading market for our common stock and our stock price may be more volatile.
In addition, an emerging growth company can take advantage of an extended transition period for complying with new or revised accounting standards. This allows an emerging growth company to delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have elected to avail ourselves of this exemption from new or revised accounting standards and, therefore, we will not be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies. As a result, our financial statements may not be comparable to companies that comply with new or revised accounting pronouncements as of public company effective dates.
Our management team identified a material weakness in our internal controls over financial reporting, which, if not remediated appropriately or timely, could result in the loss of investor confidence and could negatively impact our stock price and financial condition.
As a public company, we are required to maintain internal controls over financial reporting and to report any material weaknesses in such internal controls. Section 404 of SOX requires that we evaluate and determine the effectiveness of our internal controls over financial reporting. Our internal controls over financial reporting will not prevent or detect all errors and fraud. Because of the inherent limitations in all control systems, no evaluation can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud will be detected.
In connection with the preparation of our consolidated financial statements as of December 25, 2020, and for the fiscal year then ended, we identified a material weakness in our internal controls over financial reporting. We did not design or maintain an effective control environment over certain information technology (“IT”) general controls or information systems and applications that are relevant to the preparation of our consolidated financial statements. Specifically, we did not design and maintain (i) program change management controls to ensure that IT program and data changes affecting
financial IT applications and underlying accounting records relevant to the preparation of our financial statements are identified, tested, authorized, and implemented appropriately, and (ii) access controls to ensure access to programs and data is authorized and entitlements and privileges are recertified on a periodic basis to validate that only authorized individuals have access to the Company’s data. As a result of the material weakness, our business process controls, both automated and manual, that are dependent on the affected IT general controls were also deemed ineffective because they could have been adversely impacted.
As further described in Management's Report on Internal Control over Financial Reporting, we have begun implementing a remediation plan to improve our internal control over financial reporting. To address this material weakness, we have hired personnel with public company experience and engaged external advisors to assist with evaluating and documenting the design and operating effectiveness of our internal controls over financial reporting and assisting with the remediation of deficiencies, including implementing new controls and processes. Additionally, the organization has focused resources on the consolidation of key financial systems and applications to support the standardization and enhancement of both information technology and business process controls. We intend to continue to take steps to remediate the material weakness through additional measures that include further evolving our accounting and business processes related to internal controls over financial reporting, including a plan to continue ongoing system enhancements.
We will not be able to fully remediate this material weakness until these steps have been completed and have been operating effectively for a sufficient period. Furthermore, we cannot assure you that the measures we have taken to date, and actions we may take in the future, will be sufficient to remediate the control deficiencies that led to this material weakness in our internal controls over financial reporting or that they will prevent or avoid potential future material weaknesses. Our current controls and any new controls we develop may become inadequate because of changes in conditions in our business. Further, additional weaknesses in our disclosure controls and internal controls over financial reporting may be discovered in the future. Any failure to develop or maintain effective controls or any difficulties encountered in their implementation or improvement could harm our operating results or cause us to fail to meet our reporting obligations and may result in a restatement of our annual or interim financial statements.
Our independent registered public accounting firm has not performed an evaluation of our internal controls over financial reporting in accordance with the SEC rules because no such evaluation has been required. Our independent registered public accounting firm is not expected to formally attest to the effectiveness of our internal controls over financial reporting until the Company ceases to be an emerging growth company and a smaller reporting company under applicable SEC rules. At such time, our independent registered public accounting firm may issue a report that is adverse in the event it is not satisfied with the level at which our internal controls over financial reporting is documented, designed, or operating. Any failure to implement and maintain effective internal controls over financial reporting also could adversely affect the results of periodic management evaluations and annual independent registered public accounting firm attestation reports regarding the effectiveness of our internal controls over financial reporting that we will eventually be required to include in our periodic reports filed with the SEC. Ineffective disclosure controls and procedures and internal controls over financial reporting could also cause investors to lose confidence in our reported financial and other information, which would likely have a negative effect on the trading price of our common stock. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the Nasdaq.
Our amended and restated certificate of incorporation provides, subject to limited exceptions, that the Court of Chancery of the State of Delaware and, to the extent enforceable, the federal district courts of the United States of America will be the sole and exclusive forums for certain stockholder litigation matters, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees.
Our amended and restated certificate of incorporation provides, subject to limited exceptions, that unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware shall, to the fullest extent permitted by law, be the sole and exclusive forum for any (i) derivative action or proceeding brought on behalf of our company, (ii) action asserting a claim of breach of a fiduciary duty owed by any director, officer, or other employee of our company to the Company or our stockholders, (iii) action asserting a claim against the Company or any director, officer or other employee of the Company arising pursuant to any provision of the Delaware General Corporation Law, (the “DGCL”), or our amended and restated certificate of incorporation or our amended and restated bylaws or as to which the DGCL confers jurisdiction on the Court of Chancery of the State of Delaware or (iv) action asserting a claim against the Company or any director, officer, or other employee of the Company governed by the internal affairs doctrine. These
provisions shall not apply to suits brought to enforce a duty or liability created by the Exchange Act or any other claim for which the federal courts have exclusive jurisdiction, and our stockholders cannot waive compliance with federal securities laws and the rules and regulations thereunder. Unless we consent in writing to the selection of an alternative forum, the federal district courts of the United States of America shall be the exclusive forum for the resolution of any complaint asserting a cause of action arising under the Securities Act. Any person or entity purchasing or otherwise acquiring any interest in shares of our capital stock shall be deemed to have notice of and consented to the forum provisions in our amended and restated bylaws.
These choice of forum provisions may limit a stockholder’s ability to bring a claim in a different judicial forum, including one that it may find favorable or convenient for disputes with us or any of our directors, officers, or other employees which may discourage lawsuits with respect to such claims.
Our Board is authorized to issue and designate shares of our preferred stock in additional series without stockholder approval.
Our certificate of incorporation authorizes our Board, without the approval of our stockholders, to issue 50 million shares of our preferred stock, subject to limitations prescribed by applicable law, rules and regulations and the provisions of our certificate of incorporation, as shares of preferred stock in series, to establish from time to time the number of shares to be included in each such series and to fix the designation, powers, preferences and rights of the shares of each such series and the qualifications, limitations, or restrictions thereof. The powers, preferences, and rights of these additional series of preferred stock may be senior to or on parity with our common stock, which may reduce its value.
Our stock repurchase program may not have an impact that is fully reflected in the current stock valuation.
Effective May 12, 2022, our Board authorized a $25.0 million share repurchase program, and as of December 29, 2023, we had approximately $21.9 million in remaining funds authorized under this program. The stock repurchase program was authorized to potentially offset dilution from equity issuances under our equity incentive plans and because our Board believes that, for reasons unrelated to our performance, the trading price of our common stock from time to time may not be reflective of the true value of the Company. The repurchase program was set to expire at the end of 2023, but was extended by the Board until the end of 2024. The Company is not obligated to acquire a specified number of shares and the program may be modified, suspended, or discontinued at any time at our Boards’ discretion. Stock repurchases may adversely affect the Company if the economy turns downward, as it could leave the Company limited in its ability to obtain cash necessary for ongoing operations or potential acquisition targets. In addition, any repurchase of stock may have no positive impact on our stock price. Further, as stock may be repurchased, given the volatility of our stock price, we may repurchase stock at prices which, in hindsight, are materially higher than the subsequent price of our stock.
Future acquisitions of technologies, assets or businesses that are paid for partially or entirely through the issuance of stock or stock rights could dilute the ownership of our existing stockholders.
In the past we have used our equity securities as part of the consideration for certain acquisitions, and in the future we expect that the consideration we might pay for acquisitions of technologies, assets or businesses could include stock, rights to purchase stock, cash, or some combination of the foregoing. If we issue stock or rights to purchase stock in connection with such future acquisitions, net income (loss) per share and then-existing holders of our common stock will experience dilution.
General Risks
Our business, results of operations, and financial condition have been adversely affected and could in the future be adversely affected by pandemics or other similar health crises.
The COVID-19 pandemic negatively impacted the global economy and global supply chains, and created significant disruption of global financial markets. While we are no longer experiencing any material impacts from COVID-19, new strains of COVID-19 or other viruses could emerge, causing authorities and businesses to take emergency measures to combat the spread of such viruses, including imposing lockdowns, shelter-in-place orders, quarantines, restrictions on travel and gatherings, and the shutdown of non-essential businesses. A pandemic and the associated responses to limit a potential pandemic could:
• Disrupt our hardware supply chain;
• Disrupt our ability to conduct product development activities and other activities necessary to improve products and bring new products to market;
• Disrupt and restrict our integrators’ ability to travel and to meet with residential and commercial end consumers who use our solutions;
• Cause cancellations or postponement of certain events;
• Cause temporary closures of our facilities, including manufacturing centers and critical product distribution locations, or the facilities of our service providers or suppliers; and
• Cause significant disruption of global financial markets, which may reduce our ability to access capital and which could negatively affect our liquidity in the future and impact our growth opportunities whether organically or through acquisitions.
Nearly all our operating cash is maintained in deposit accounts with various financial institutions and is not insured by the Federal Deposit Insurance Corporation.
The unexpectedfailure of several commercial banks last year, including First Republic Bank, Silicon Valley Bank, and Signature Bank, raised concerns about the stability of institutions with concentrated exposure to certain types of depositors in the same industry as well as those with large unrealized losses in their investment security holdings. While the Company does not have any direct exposure to any failed bank, nearly all our operating cash is maintained in deposit accounts at various financial institutions both in the United States of America and foreign countries. The majority of the Company’s funds held in the United States are with a single financial institution, which is among the largest in the United States. However, we may be subject to losses in excess of the Federal Depository Insurance Corporation insured limit in the event of a failure of this financial institution and the subsequent lack of intervention by the U.S. federal government. Additionally, if any of the institutions into which our funds are deposited experiences limited liquidity or otherwise defaults or does not perform its obligations to depositors, we may not be able to access those funds in a timely manner, or we may lose those funds, which could adversely affect our business, financial condition, or results of operations.
Risks associated with our labor force could have a significant adverse effect on our business.
We had approximately 1,610 full-time employees as of December 29, 2023 . Various international, federal and state labor laws govern our relationships with our employees and affect our operating costs. These laws include, but are not limited to, employee classifications as exempt or non-exempt, minimum wage requirements, unemployment tax rates, workers’ compensation rates, overtime, family leave, anti-discrimination laws, safety standards, payroll taxes, employment agreements, citizenship requirements, and other wage and benefit requirements for employees classified as non-exempt. As our employees may be paid at rates that relate to the applicable minimum wage, further increases in the minimum wage could increase our labor costs. Employees may make claimsagainst us under international, federal, or state laws, which could result in significant costs. Significant additional government regulations could materially affect our business, financial condition, and results of operations.
None of our U.S. employees is currently covered by collective bargaining or other similar labor agreements. However, if a large number of our U.S. employees were to unionize, our business could be negatively affected.
In addition, certain of our suppliers and logistics providers may have unionized work forces. Strikes, work stoppages or slowdowns could result in slowdowns or closures of facilities where the products we sell are manufactured or could affect the ability of our suppliers to deliver such products to us. Any interruption in the production or delivery of these products could delay or reduce availability of these products and increase our costs.
Given the complex nature of the technology on which our business is based and the speed with which such technology advances, our future success is dependent, in large part, upon our ability to attract and retain highly qualified executive, managerial, engineering, operations, and sales and marketing personnel. Competition for talented personnel is intense, and we cannot be certain that we can retain our executive, managerial, engineering, operations, and sales and marketing personnel, or that we can attract, assimilate, or retain such personnel in the future. Our inability to attract and retain such personnel may have a material adverse effect on our business, results of operations, and financial condition.
Increases in operating costs could adversely impact our business, financial position, results of operations, and cash flows.
Our financial performance is affected by the level of our operating expenses, such as wages and salaries, leases of distribution centers and sales and marketing offices, advertising and marketing, employee benefits, health care, insurance premiums, as well as various regulatory compliance costs, all of which may be subject to inflationary pressures. In particular, our financial performance is adversely affected by increases in these operating costs.
Our business is subject to the risks of earthquakes, hurricanes, fire, power outages, floods and other catastrophic events, and to interruption by man-made problems such as political unrest, information systems compromise, riots and terrorism.
A significant natural disaster, such as an earthquake, hurricane, fire, flood, pandemic, or a significant power outage could harm our business, results of operations, and financial condition. Natural disasters could affect our manufacturing vendors’ or logistics providers’ ability to perform services such as manufacturing products or assisting with shipments on a timely basis. In the event our manufacturing vendors’ information technology systems or manufacturing or logistics abilities are hindered, shipments could be delayed or cancelled, adversely affecting product deliveries, net sales and profitability, integrator and customer satisfaction, and our competitive standing. Further, if a natural disaster occurs in a region from which we derive a significant portion of our net sales, such as metropolitan areas in North America, end consumers in those regions may delay or forego purchases of our solutions from integrators, which may harm our results of operations for a particular period. All these risks may be exacerbated in the future due to climate change. In addition, acts of terrorism, including cyber terrorism or crime, acts of war, financial crises, trade friction or geopolitical and social turmoil in areas that serve as markets for our solutions, could cause disruptions in our business or the business of our manufacturers, logistics providers, integrators or the economy as a whole. These uncertainties may cause our end consumers to reduce discretionary spending and make it difficult for us to accurately plan future business activities. Given our typical concentration of sales at the end of each month and quarter, any disruption in the business of our manufacturers, logistics providers, integrators, and end consumers that impacts sales at the end of our quarter could have a greater impact on our quarterly results. All of these risks may be augmented if the disaster recovery plans for us and our suppliers and integrators prove to be inadequate. To the extent that any of the above results in delays or cancellations of orders, or delays in, or cancellations of the manufacture, deployment or shipment of our products, it may have a material adverse effect on our business, results of operations, and financial condition.
We will continue to incur increased costs as a result of operating as a publicly traded company, and our management will be required to devote substantial time to new compliance initiatives.
As a publicly traded company, we will continue to incur additional legal, accounting, and other expenses that we did not previously incur as a private company. These costs will increase after we are no longer an emerging growth company. Although we are currently unable to estimate these costs with any degree of certainty, they may be significant. In addition, SOX, the Dodd-Frank Wall Street Reform and Consumer Protection Act, and the rules of the SEC and Nasdaq have imposed various requirements on public companies. Our management and other personnel will need to devote a substantial amount of time to these compliance initiatives as well as investor relations. Moreover, these rules and regulations will increase our legal and financial compliance costs and will make some activities more time-consuming and costly. For example, we expect these rules and regulations to make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to incur additional costs to maintain the same or similar coverage.
If securities or industry analysts do not publish research or reports about our business, or publish negative reports about our business, our share price and trading volume could decline.
The trading market for our common stock depends in part on the research and reports that securities or industry analysts publish about our business. We do not have control over these analysts, activist investors, or those who short our stock. If one or more of the analysts who cover us, activist investors, or those who short our stock downgrade our shares, change their opinion of our shares, or publish negative or false reports for their own purposes, our share price will likely decline. If one or more of these analysts cease coverage of our Company or fail to regularly publish research or reports on us, we could lose visibility in the financial markets, which could cause our stock price or trading volume to decline.
MD&A (Item 7)
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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 our consolidated financial statements and the related notes thereto included elsewhere in this Annual Report. This discussion may contain forward-looking statements based upon current expectations that involve risks and uncertainties. Actual results could differ materially from those discussed in or implied by forward-looking statements due to various factors, including those discussed below and elsewhere in this Annual Report, particularly in the “Risk Factors” or in other sections of this Annual Report.
We operate on a 52-week or 53-week fiscal year ending on the last Friday of December each year. Our fiscal year is divided into four quarters of 13 weeks, each beginning on a Saturday and containing one 5-week period followed by two 4-week periods. When a 53-week fiscal year occurs, we report the additional week in the fourth fiscal quarter. References to fiscal year 2021 are to our 53-week fiscal year ended December 31, 2021 and references to fiscal year 2022 are to our 52-week fiscal year ended December 30, 2022. References to fiscal year 2023 are to our 52-week fiscal year ended December 29, 2023.
Overview
Snap One powers smart-living by enabling professional integrators to deliver seamless experiences in the connected homes and businesses where people live, work, and play. We offer an end-to-end product ecosystem delivered through our powerful distribution network and further bolstered by our value-added services and support solutions. We serve a loyal and growing network of professional do-it-for-me (“DIFM”) integrator customers. We provide integrators with a leading, comprehensive, proprietary and third-party suite of connected, infrastructure, entertainment, and software solutions that deliver exceptional smart-living experiences to the end consumer. Our product and service offerings encompass all the elements required by integrators to build integrated smart-living systems that are easy to install and simple to manage while creating a powerful and premium experience for the end consumer. Our technology and software solutions are designed to support the integrator throughout the project lifecycle, enhancing their operations and helping them to profitably grow their businesses.
We are vertically integrated with most of our Net Sales and Contribution Margin coming from our proprietary branded, internally developed products sold to DIFM integrators in home technology, security, and commercial markets. Our comprehensive suite of solutions allows integrators to find everything they need in one place and to deliver high-quality, reliable, and configurable systems to end consumers. We also offer subscription-based services for end consumers including Parasol, 4Sight, Control4 Connect, and Control4 Assist. We launched Control4 Connect and Control4 Assist in January 2024, and we believe these new services significantly enhance our software platform, providing a foundation from which to build future service innovations and offerings. We have carefully designed our software platforms to enhance the long-term satisfaction of the end consumer, drive recurring revenue and incremental profitability for Snap One and our partners, and align the industry in a way that focuses on the end consumer. We believe these service offerings establish Snap One as a leader in the industry as it evolves to manage increasingly complex technology and more demanding customer expectations.
Key Factors Affecting Our Performance
Our historical financial performance has been primarily driven by the following factors, and we also expect these factors to continue to be the primary drivers of our financial performance in the future.
Increased Average Spend per Integrator via Wallet Share Expansion . Increasing wallet share with integrators depends, in part, on our ability to continue expanding our omni-channel coverage, extending our product suite, bolstering our support services, and creating deeper integration across our products to compel integrators to use Snap One as their one-stop shop. Average wallet share with our integrators varies across DIFM markets, with particular strength in home
technology and demonstrated success in commercial markets. We believe we can increase our wallet share with existing integrators through the adoption of our ecosystems, new product innovation, and our compelling loyalty program.
DIFM Integrator Additions in Home Technology, Commercial, and Internationally . We are a market leader in our core domestic home technology market, and we believe our value proposition appeals to integrators in attractive adjacent markets. We are utilizing our proven strategy of acquiring integrators in the home technology market to attract integrators in commercial markets, where we are less penetrated but have displayed a track record of growth. We believe strategic investments in expanding our product portfolio, improvements in targeted sales and marketing, and new integrator onboarding initiatives will allow us to grow our network of integrators across these markets. We also believe there is a meaningful opportunity to expand our existing market share in non-U.S. markets. We plan to grow in these markets by investing in sales resources, broadening our available product portfolio, and strengthening our direct-to-integrator sales approach in certain targeted international markets.
Investments in Our Integrated Platform . Our end-to-end product and software ecosystem and workflow solutions create an integrated platform of leading offerings, which we believe drive significant value for our integrators and personalized, immersive experiences for end consumers. We believe we can extend the value of our integrated platform by delivering value-added services to integrators and end consumers on a subscription basis.
Omni-Channel Strategy Expansion. Our business model is built around an e-commerce centric, omni-channel go-to-market strategy. We provide a comprehensive e-commerce portal, which allows integrators to easily research products, design projects, receive training and certifications, order products, and solicit ongoing support. Our e-commerce portal is complemented by a growing network of 43 domestic local branches, two Canadian local branches, and six distribution centers as of December 29, 2023. The local branch presence is an important part of our strategy as it allows us to better serve integrators by providing same-day product availability when necessary, creating a site for relationship building with our support team, and for training and product demonstration sessions. We believe integrators value the relationships and support we can deliver at the local level, and this further increases their loyalty to our business across channels.
Strategic Acquisitions . In addition to our organic growth, we continue to grow our business through strategic acquisitions such as our acquisitions of Access Networks, Staub, Parasol, and Clare to better serve existing and new integrators, broaden our product categories, and extend the geographic reach of our omni-channel capabilities. We expect to continue to pursue disciplined, accretive acquisitions that enhance our products, software, and workflow solutions and expand into adjacent markets that allow us to better serve our integrator base.
Macroeconomic Factors
Throughout the COVID-19 pandemic, we supported professional integrators with their business challenges to allow them to continue to provide their customers the infrastructure and connectivity they needed. In the wake of the COVID-19 pandemic, in 2021 and 2022, global supply chain constraints resulted in component sourcing, shipping, and logistics challenges resulting in cost inflation; which in turn resulted in delayed product availability in some cases. Although many supply chain issues have stabilized, and we are no longer experiencing any material impacts from COVID-19, we expect that some impact, including potential delayed product availability, may continue for as long as the global supply chain is experiencing these residual effects. We continue to invest in supply chain initiatives to attempt to mitigate the impact of future disruptions.
In February 2022, Russian military forces launched a military action in Ukraine and continued conflict and disruption in the region is likely. Although the length, impact, and outcome of the ongoing military action is highly unpredictable, this conflict has caused some global supply chain disruption, including volatility in commodity prices and supply of energy resources, instability in financial markets, political and social instability, and increases in cyberattacks and cyber and corporate espionage. Further, the Israel-Hamas War has caused substantial regional instability and world-wide concern and may disrupt global markets and foreign interest rates, cause increased inflation in energy and logistics costs, and disrupt the supply chain. Due to recent shipping disruptions in the Red Sea and surrounding waterways caused by attacks on shipping vessels in response to the Israel-Hamas war, we have taken preventative measures to avoid this route for any transportation activity. These alternative routes have not yet materially affected any of our lead-times or costs. We are actively monitoring these situations and potential impacts on the Company, but to date we have not experienced any material in our infrastructure, supplies, technology systems, or networks needed to support our operations from these international .
For additional information of risks related to these and other macroeconomic factors, refer to “Risk Factors” included in this Form 10-K.
Key Metrics and Reconciliation of Non-GAAP Financial Data
In addition to the measures presented in our consolidated financial statements, we present the following key business metrics on a fiscal year basis to help us monitor the performance of our business, identify trends affecting our business, and assist us in making strategic decisions:
Domestic Integrator Net Sales, Transacting Domestic Integrators, Spend per Transacting Domestic Integrator
We define “Domestic Integrator Net Sales” as sales in the fiscal year period from professional DIFM integrator customers who transact with Snap One in the United States through a traditional integrator channel. Domestic Integrator Net Sales is presented as a component of our revenue disaggregation.
We define “Transacting Domestic Integrators” as a unique integrator business that transacted with Snap One domestically in a fiscal year period.
We calculate “Spend per Transacting Domestic Integrator” as Domestic Integrator Net Sales divided by Transacting Domestic Integrators.
We believe these metrics are useful measures for evaluating our performance on a fiscal year basis by providing insight into the expansion of our integrator network and our ability to further capture wallet share.
The following table presents a reconciliation of Domestic Integrator Net Sales, Transacting Domestic Integrators, and Spend per Transacting Domestic Integrator for the periods presented:
For the Years Ended
December 29, 2023
December 30, 2022 (a)
December 31, 2021 (a)
($ in thousands)
Domestic integrator net sales
Divided by:
Transacting domestic integrators (in thousands)
Spend per transacting domestic integrator
Year over year growth %
Transacting domestic integrators
Spend per transacting domestic integrator
(a) Certain amounts, including Access Networks net sales and transacting domestic integrators, which were excluded in our presentation of these numbers in our prior Annual Report for the year ended December 30, 2022, have been reclassified to conform to the current period presentation.
Adjusted EBITDA and Adjusted Net Income
We define “Adjusted EBITDA” as net loss, plus interest expense, income tax benefit, depreciation and amortization, other expense (income), net, further adjusted to exclude equity-based compensation, acquisition-related and integration-related costs, IPO costs and certain other non-recurring, non-core, infrequent or unusual charges as set forth in the reconciliation in this section below.
We define “Adjusted Net Income” as net loss, plus amortization, further adjusted to exclude equity-based compensation, acquisition-related and integration-related costs, IPO costs, (income) expense related to the interest rate cap and certain non-recurring, non-core, infrequent or unusual charges, including the estimated tax impacts of these adjustments, as set forth in the reconciliation in this section below.
Adjusted EBITDA and Adjusted Net Income are key measures used by management to understand and evaluate our financial performance and generate future operating plans. Management uses these key measures to make strategic decisions regarding the allocation of capital and to analyze investments in initiatives that are focused on cultivating new markets for our products and services. We believe Adjusted EBITDA and Adjusted Net Income are useful measurements for analysts, investors, and other interested parties to evaluate companies in our markets as they help identify underlying trends that could otherwise be masked by certain expenses that we do not consider indicative of our ongoing performance.
Adjusted EBITDA and Adjusted Net Income have limitations as analytical tools. These measures are not calculated in accordance with GAAP and should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with GAAP. In addition, Adjusted EBITDA and Adjusted Net Income may not be comparable to similarly titled metrics of other companies due to differences among the methods of calculation.
Certain prior period Adjusted EBITDA and Adjusted Net Income add-back amounts have been reclassified to conform to the current period presentation. These reclassifications had no effect on the previously reported Adjusted EBITDA and Adjusted Net Income totals.
The following table presents a reconciliation of net loss to Adjusted EBITDA for the periods presented:
For the Years Ended
December 29,
December 30,
December 31,
(in thousands)
Net loss
Interest expense
Income tax benefit
Depreciation and amortization
Other expense (income), net
Equity-based compensation
Loss on extinguishment of debt
Severance cost (a)
Compensation expense for payouts in lieu of TRA participation (b)
IT system transition costs (c)
Deferred acquisition payments (d)
Fair value adjustment to contingent value rights (e)
Fair value adjustment to contingent consideration (i)
Initial public offering costs (j)
Other professional services costs (k)
Other (l)
Income tax effect of adjustments (m)
Adjusted Net Income
(a) Severance cost associated with various restructuring actions such as warehouse relocation, departmental reorganization, and focused reduction in workforce.
(b) Represents expense, net of forfeitures, related to payments to certain pre-IPO owners in lieu of their participation in the Tax Receivable Agreement entered into on July 29, 2021 (“TRA”). Management does not believe such costs are indicative of our ongoing operations as they are one-time awards specific to the establishment of the TRA.
(c) Represents costs associated with the implementation of enterprise resource planning (“ERP”) systems, customer resource management systems, and business intelligence systems as part of our initiative to modernize our information technology (“IT”) infrastructure.
(d) Represents expenses incurred related to deferred payments to employees associated with historical acquisitions. The deferred payments are cash retention awards for key personnel from the acquired companies and are to be paid to employees through 2023. Management does not believe such costs are indicative of our ongoing operations as they are one-time awards specific to acquisitions and are incremental to our typical compensation costs incurred and we do not expect such costs to be reflective of future increases in base compensation expense.
(e) Represents noncash gains and losses recorded from fair value adjustments related to contingent value right (“CVR”) liabilities. Fair value adjustments related to CVR liabilities represent potential obligations to the prior sellers in conjunction with the acquisition of the Company by investment funds managed by Hellman & Friedman, LLC (“H&F”) in August 2017.
(f) Represents provision for credit losses on notes receivable related to the Company’s unsecured loan to Clare.
(g) Represents costs directly associated with acquisitions and acquisition-related integration activities. These costs also include certain restructuring costs (e.g., severance) and other third-party transaction advisory fees associated with planned and completed acquisitions.
(h) Represents an adjustment related to the fair value of deferred revenue related to the Control4 Corporation acquisition.
(i) Represents noncash adjustment to the fair value of contingent consideration related to the Access Networks acquisition.
(j) Represents expenses related to professional fees in connection with preparation for our IPO.
(k) Represents professional service fees associated with managements remediation of the material weakness that was disclosed as part of our initial Registration Statement, preparation for compliance with SOX, the implementation of new accounting standards, and accounting for non-recurring transactions.
(l) Represents non-recurring expenses related to consulting, restructuring, and other expenses which management believes are not representative of our operating performance.
(m) Represents the tax impacts with respect to each adjustment noted above after considering the impact of permanent differences using the statutory tax rate related to the applicable federal and foreign jurisdictions and the blended state tax rate.
Contribution Margin
We define “Contribution Margin” for a particular period as net sales, less cost of sales, exclusive of depreciation and amortization, divided by net sales. Management uses this key measure to understand and evaluate our financial performance and generate future operating plans, make strategic decisions regarding the allocation of capital, and analyze investments in initiatives focused on cultivating new markets for our products and services. We believe Contribution Margin is a useful measurement for analysts, investors, and other interested parties to evaluate companies in our markets as they help identify underlying trends that could otherwise be masked by certain expenses that we do not consider indicative of our ongoing performance.
Contribution Margin has limitations as an analytical tool. This measure is not calculated in accordance with GAAP and should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with GAAP. In addition, Contribution Margin may not be comparable to similarly titled metrics of other companies due to differences among the methods of calculation.
The following table presents the calculation of Contribution Margin:
For the Years Ended
December 29,
December 30,
December 31,
($ in thousands)
Net sales
Cost of sales, exclusive of depreciation and amortization (a)
Net sales less cost of sales, exclusive of depreciation and amortization
Contribution Margin
(a) Cost of sales for fiscal years 2023, 2022, and 2021 excludes depreciation and amortization of $61.1 million, $59.6 million, and $56.6 million, respectively.
Free Cash Flow
We define “Free Cash Flow” as net cash provided by (used in) operating activities less capital expenditures, which consist of purchases of property and equipment as well as purchases of information technology, software development, and leasehold improvements. Free Cash Flow is not a measure calculated in accordance with GAAP and should not be
considered in isolation from, or as a substitute for financial information prepared in accordance with GAAP. In addition, Free Cash Flow may not be comparable to similarly titled metrics of other companies due to differences among methods of calculation. Free Cash Flow provides useful information to investors and others in understanding and evaluating our ability to generate additional cash from our business in the same manner as our management and Board. Free Cash Flow may be affected in the near to medium term by the timing of capital investments (such as purchases of information technology and other equipment and leasehold improvements), fluctuations in our growth and the effect of such fluctuations on working capital and changes in our cash conversion cycle due to increases or decreases of vendor payment terms as well as inventory turnover.
The following table presents a reconciliation of net cash provided by (used in) operating activities to Free Cash Flow for the periods presented:
For the Years Ended
December 29,
December 30,
December 31,
(in thousands)
Net cash provided by (used in) operating activities
Purchases of property and equipment
Free Cash Flow
Basis of Presentation and Key Components of Results of Operations
Net Sales
We generate net sales by selling hardware products, primarily to our professional integrators, both with and without embedded software, which are then resold to end consumers, typically in the installation of an audio/video, IT, smart-home, or surveillance-related solution. We act both as a principal in selling proprietary products, and as an agent in selling certain third-party products through strategic partnerships with outside suppliers. In addition, we generate a small but growing percentage of our revenue through recurring revenue from subscription services associated with product sales including hosting services, technical support, and access to software updates and upgrades. Revenue is recognized when the integrator obtains control of the product, which typically occurs upon shipment, in an amount that reflects the consideration expected to be received in exchange for those products net of estimated discounts, rebates, returns, allowances, and any taxes collected and remitted to government authorities. Revenue allocated to subscription services is recognized over time as services are provided. See “ — Critical Accounting Estimates and Policies — Revenue Recognition.”
Cost of Sales, Exclusive of Depreciation and Amortization
Cost of sales, exclusive of depreciation and amortization, includes expenses related to production of proprietary finished goods, including raw materials and inbound freight, purchase costs for third-party products produced by strategic partners and sold by Snap One, rebates, inventory reserve adjustments, and employee costs related to assembly services. The components of our cost of sales, exclusive of depreciation and amortization may not be comparable to our peers. The changes in our cost of sales, exclusive of depreciation and amortization generally correspond with the changes in net sales and may be impacted by any significant fluctuations in the components of our cost of sales, exclusive of depreciation and amortization.
Selling, General, and Administrative Expenses
Selling, general, and administrative costs include payroll and related costs, occupancy costs, costs related to warehousing, distribution, outbound shipping to integrators, credit card processing fees, warranty, purchasing, advertising, research and development, non-income-based taxes, equity-based compensation, acquisition-related expenses, compensation expense for payouts in lieu of the TRA participation, provision for credit losses, and other corporate overhead costs.
Depreciation and Amortization
Depreciation expense is related to investments in property and equipment. Amortization expense consists of amortization of intangible assets originating from our acquisitions. Acquired intangible assets include developed technology, customer relationships, trademarks, and trade names.
Interest Expense
Interest expense includes interest expense on debt, including term loans and revolving credit facilities (each of which is described in more detail below under “— Liquidity and Capital Resources — Debt Obligations”), as well as the non-cash amortization of deferred financing costs.
Other Expense (Income), Net
Other expense (income), net, includes interest income, foreign currency remeasurement, TRA liability adjustments, interest rate cap expense, gains and losses on disposal of business, and transaction gains and losses.
Income Tax (Benefit) Expense
We are subject to U.S. federal, state, and local income taxes as well as foreign income taxes based on enacted tax rates in each jurisdiction, as adjusted for allowable credits and deductions. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. As a result, we recognize tax liabilities based on estimates of whether additional taxes will be due.
Results of Operations
The following table sets forth our results of operations and results of operations data expressed as a percentage of net sales for the periods presented. The period-to-period comparison of financial results is not necessarily indicative of future results.
For the Years Ended
December 29,
Net sales
December 30,
Net sales
December 31,
Net sales
($ in thousands)
Net sales
Costs and expenses:
Cost of sales, exclusive of depreciation and amortization
Selling, general, and administrative expenses
Depreciation and amortization
Total costs and expenses
Income from operations
Other expenses (income):
Interest expense
Loss on extinguishment of debt
Other expense (income), net
Total other expenses
Loss before income taxes
Income tax benefit
Net loss
Net loss attributable to noncontrolling interest
Net loss attributable to Company
Fiscal Year 2023 Compared to Fiscal Year 2022
Net Sales
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Net sales
Net sales decreased $62.8 million, or 5.6%, in fiscal year 2023, compared to fiscal year 2022. Of the 5.6% decrease in net sales from the prior fiscal year, we estimate that channel inventory destocking represented a significant portion of this year-over-year decrease. These decreases were partially offset by organic net sales growth, which primarily includes components such as the continued ramp of local branches opened in the past year and the cumulative impact of proprietary product price adjustments taken in the past year, partially offset by the year-over-year net change in backorder fulfillment.
Cost of Sales, Exclusive of Depreciation and Amortization
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Cost of sales, exclusive of depreciation and amortization
As a percentage of net sales
Cost of sales, exclusive of depreciation and amortization, decreased $69.0 million, or 10.1%, in fiscal year 2023, compared to fiscal year 2022, primarily driven by a decrease in net sales. As a percentage of net sales, cost of sales, exclusive of depreciation and amortization, decreased to 57.8% in the current fiscal year from 60.8% in the prior fiscal year. The decrease in cost of sales, exclusive of depreciation and amortization, as a percentage of net sales, was primarily due to the cumulative impact of price adjustments taken in the last twelve months and the execution of supply chain cost management initiatives which drove input cost efficiencies. This was partially offset by lower proprietary product mix in the period due to the year-over-year net change in backorder fulfillment and channel inventory destocking, as well as growth in third-party product sales, which was largely driven by new local branch openings, incremental brand assortment, and certain manufacturer promotions. The decrease in cost of sales, exclusive of depreciation and amortization, as a percentage of net sales resulted in a higher Contribution Margin of 42.2% for fiscal year 2023, compared to 39.3% for fiscal year 2022.
Selling, General, and Administrative (“SG&A”) Expenses
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Selling, general, and administrative expenses
As a percentage of net sales
Selling, general, and administrative expenses increased $5.5 million, or 1.6%, in fiscal year 2023, compared to fiscal year 2022. The increase in selling, general, and administrative expenses was attributable in part to a $6.9 million year-over-year change in fair value adjustments to contingent value rights, partially offset by a $5.9 million decrease in provisions for credit losses on notes receivable. Additional drivers of the increase include $2.0 million increase in severance costs and the costs associated with local branch openings in the last year.
As described in the notes to the reconciliation of net loss to Adjusted EBITDA and Adjusted Net Income, severance cost includes costs associated with various restructuring actions such as warehouse relocation, departmental reorganization, and focused workforce reduction. The cumulative impact of these actions resulted in an approximately 5% reduction in workforce in fiscal year 2023.
Depreciation and Amortization
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Depreciation and amortization
As a percentage of net sales
Depreciation and amortization expenses increased $1.5 million, or 2.6%, in fiscal year 2023, compared to fiscal year 2022. Depreciation expense increased primarily due to the build-out of our new corporate office in Lehi, UT, as well as the opening of new local branches in the last year.
Interest Expense
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Interest expense
As a percentage of net sales
Interest expense increased $22.4 million, or 62.6%, in fiscal year 2023, compared to fiscal year 2022. The increase was primarily driven by higher interest rates as well as higher average outstanding balances on our long-term debt in fiscal year 2023, compared to fiscal year 2022.
Other Expense, Net
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Other expense
As a percentage of net sales
Other expense did not change materially in fiscal year 2023, compared to fiscal year 2022, as the $1.6 million decrease in expense related to the interest rate cap was offset by a $1.7 million increase related to TRA adjustments.
Income Tax (Benefit) Expense
For the Years Ended
December 29,
December 30,
$ Change
% Change
($ in thousands)
Income tax benefit
As a percentage of net sales
Income tax benefit increased by $10.6 million, or 725.3%, in fiscal year 2023, compared to fiscal year 2022. The effective tax rate for fiscal year 2023 was a benefit of 36.0%, compared to 14.5% for fiscal year 2022. The change in the effective tax rate for fiscal year 2023, and the difference from the U.S. federal statutory rate of 21%, was primarily the result of research and development credits and changes to the valuation allowance, offset by nondeductible stock compensation and changes in uncertain tax positions.
Fiscal Year 2022 Compared to Fiscal Year 2021
The comparison of our fiscal year 2022 results with fiscal 2021 can be found under the heading “Fiscal Year 2022 Compared to Fiscal Year 2021” in the “Management’s Discussion and Analysis” section of the Company’s 2022 Annual Report on Form 10-K, filed with the SEC on March 15, 2023, as supplemented by the Form 10-K/A filed with the SEC on June 30, 2023 (together the Company’s “2022 Form 10-K”).
Liquidity and Capital Resources and Material Changes in Financial Position
Sources of Liquidity
Our primary sources of liquidity are net cash provided by operating activities and availability under our Credit Agreement. We assess our liquidity in terms of our ability to generate adequate amounts of cash to meet current and future needs. Our expected primary uses on a short-term and long-term basis are for working capital requirements, capital expenditures, geographic or service offering expansion, acquisitions, debt service requirements, and other general corporate purposes. Our primary working capital requirements are for the purchase of inventory, payroll, rent, other facility costs, distribution costs, and general and administrative costs. Our working capital requirements fluctuate during the year, driven primarily by seasonality and the timing of inventory purchases. Our capital expenditures are primarily related to infrastructure-related investments, including investments related to upgrading and maintaining our information technology systems, ongoing location improvements (joint design and manufacturing tooling), expenditures related to our distribution centers, and new local branch openings.
We have typically funded our operations and acquisitions primarily through internally generated cash on hand and our Credit Facilities. On July 30, 2021, we completed our IPO of 13.9 million shares of our common stock, and on August 18, 2021, we completed the sale of 1.2 million shares of additional common stock to the underwriters pursuant to their option to purchase additional shares, at an offering price of $18.00 per share. We raised net proceeds of $249.2 million through the IPO, after deducting underwriting discounts and other offering costs of $21.2 million.
Working Capital, Excluding Deferred Revenue
The following table summarizes our cash, cash equivalents, accounts receivable, and working capital, which we define as current assets minus current liabilities excluding deferred revenue, for the periods indicated:
December 29,
December 30,
(in thousands)
Cash and cash equivalents
Accounts receivable, net
Working capital, excluding deferred revenue
Our cash and cash equivalents as of December 29, 2023, are available for working capital purposes. We do not enter into investments for trading purposes, and our investment policy is to invest any excess cash in short-term, highly liquid investments that reduce the risk of principal loss; therefore, our cash and cash equivalents are held in demand deposit accounts that generate very low returns.
We believe our existing cash and cash equivalents, together with expected cash flow from operating activities, will be sufficient to fund our operations and capital expenditure requirements for the next 12 months. Beyond the next 12 months, our primary capital requirements consist of required principal and interest payments on long-term debt, TRA Payments, and lease payments under non-cancelable lease commitments, as further described in Notes 7, 13, and 15 in our Notes to the Consolidated Financial Statements . If cash provided by operating activities and borrowings under our Credit Agreement are not sufficient or available to meet our short and long-term capital requirements, then we may consider additional equity or debt financing in the future. There can be no assurance debt or equity financing will be available to us if we need it or, if available, that the terms will be satisfactory to us. Our sources of liquidity could be affected by factors described under “Risk Factors.”
Debt Obligations
On December 8, 2021, we entered into a credit agreement (the “Credit Agreement”) with various financial institutions and Morgan Stanley Senior Funding, Inc., as administrative agent (the “Administrative Agent”) consisting of a $465.0 million aggregate principal amount of senior secured term loans (the “Term Loan”) maturing in 2028 and a $100.0 million senior secured revolving credit facility (the “Revolving Credit Facility”) (which includes borrowing capacity available for letters of credit) maturing in 2026.
On October 2, 2022, we entered into an Incremental Agreement (the “Incremental Agreement”) with the lenders party thereto and the Administrative Agent to provide incremental term loans (the “Incremental Term Loans”) maturing in 2025 in an aggregate principal amount of $55.0 million. The Incremental Agreement amended the Credit Agreement (the Credit Agreement, as amended by the Incremental Agreement, is the “Amended Credit Agreement”).
We further amended the Credit Agreement on April 17, 2023 to replace the London InterBank Offered Rate (“LIBOR”) with the Secured Overnight Financing Rate (“SOFR”) as applicable. See Note 7 in our Notes to the Consolidated Financial Statements for additional information about this amendment.
Borrowings under the Term Loan will bear interest at a rate per annum equal to, at the Company’s option, either (1) an applicable margin plus a base rate determined by reference to the highest of (a) 0.5% per annum plus the federal funds effective rate, (b) the prime rate, and (c) the eurocurrency rate determined by reference to the cost of funds for U.S. dollar deposits (subsequently changed to the forward-looking term rate based on SOFR for rates initiated after the effective date of the Amendment to the Credit Agreement) for an interest period of one month adjusted for certain additional costs, plus 1.0%; provided that such rate is not lower than a floor of 1.5% or (2) an applicable margin plus a eurocurrency rate determined by reference to the cost of funds for U.S. dollar deposits (subsequently changed to the forward-looking term rate based on SOFR for rates initiated after the effective date of the Amendment to the Credit Agreement) for the interest period relevant to such borrowing adjusted for certain additional costs; provided that such rate is not lower than a floor of 0.5%.
Borrowings under the Incremental Term Loan will bear interest at a rate per annum equal to, at the Company’s option, either (1) an applicable margin plus a base rate determined by reference to the highest of (a) 0.5% per annum plus the federal funds effective rate, (b) the prime rate, and (c) the forward-looking term rate based on the SOFR for an interest period of one month plus 1.0%; provided that such rate is not lower than a floor of 1.0% or (2) an applicable margin plus a forward-looking rate based on SOFR for the interest period relevant to such borrowing provided that such rate is not lower than a floor of 0.5%.
Borrowings under the Revolving Credit Facility will bear interest at a rate per annum equal to an applicable margin based upon a leverage-based pricing grid, plus, at the Company’s option, either (1) a base rate determined by reference to the highest of (a) 0.5% per annum plus the federal funds effective rate, (b) the prime rate, and (c) the eurocurrency rate determined by reference to the cost of funds adjusted for certain additional costs (subsequently changed to the forward-looking term rate based on SOFR for rates initiated after the effective date of the Amendment to the Credit Agreement) for an interest period of one month, plus 1.0%; provided such rate is not lower than a floor of 1.0% or (2) a eurocurrency rate determined by reference to the applicable cost of funds for such borrowing adjusted for certain additional costs (subsequently changed to the forward-looking term rate based on SOFR for rates initiated after the effective date of the Amendment to the Credit Agreement); provided such rate is not lower than a floor of zero, subsequently changed to 0.5% based on SOFR for rates initiated after the effective date of the Amendment to the Credit Agreement.
The Term Loan amortizes in fixed equal quarterly installments in an amount equal to 1.0% per annum of the total aggregate principal amount thereof immediately after borrowing, with the balance due at maturity. We may voluntarily prepay loans or reduce commitments under the Credit Agreement, in whole or in part, subject to minimum amounts, with prior notice but without premium or penalty (subject to customary exceptions, including prepayments of the Term Loan in connection with a repricing transaction that is consummated prior to June 8, 2022). We may be required, with certain exceptions, to make mandatory payments under the Credit Agreement using a percentage of our annual excess cash flows or net proceeds from any non-ordinary course asset sales or certain debt issuances, if any.
In addition, the Revolving Credit Facility is subject to a first lien secured net leverage ratio of 7.50 to 1.00, tested quarterly if, and only if, the aggregate principal amount from the Revolving Credit Facility loans, letters of credit (to the extent not cash collateralized or backstopped or, in the aggregate, not in excess of the greater of $10.0 million and the stated face amount of letters of credit outstanding on the initial closing date of the Credit Agreement) and swingline loans outstanding and/or issued, as applicable, exceeds 35.0% of the total amount of the Revolving Credit Facility commitments.
As of December 29, 2023, we had no outstanding borrowings under the Revolving Credit Facility. As of December 30, 2022, we had $12.0 million in borrowings outstanding under the Revolving Credit Facility. As of December 29, 2023 and December 30, 2022, we had $4.9 million and $5.1 million of outstanding letters of credit, respectively. The amount
available under the Revolving Credit Facility was $95.1 million and $82.9 million as of December 29, 2023 and December 30, 2022, respectively.
On October 26, 2022, the Company entered into an interest rate cap agreement (LIBOR subsequently transitioned to SOFR) on the floating rate component of interest with Bank of America as the counterparty. The interest rate cap became effective December 31, 2022. The Company will pay a premium of $6.6 million at the maturity date of December 31, 2025. For the period ended December 29, 2023, the notional amount of the interest rate cap is $347.8 million of the Term Loan and has a strike rate of 4.8%, which effectively caps SOFR on the notional amount at 4.8%. See Note 7 in our Notes to the Consolidated Financial Statements .
The Company was in compliance with all debt covenants as of December 29, 2023 and December 30, 2022. For additional information on the Company’s debt arrangements, debt covenants, and default provisions, see Note 7 in our Notes to the Consolidated Financial Statements .
Historical Cash Flows
The following table sets forth our cash flows for fiscal years 2023, 2022 and 2021:
For the Years Ended
December 29, 2023
December 30, 2022
December 31, 2021
(in thousands)
Net cash provided by (used in) operating activities
Net cash used in investing activities
Net cash (used in) provided by financing activities
Operating Activities
Net cash provided by operating activities was $89.3 million in fiscal year 2023, compared to net cash used in operating activities of $23.1 million in fiscal year 2022, an increase of $112.4 million. The increase in net cash provided by operating activities during fiscal year 2023 was due to a $129.8 million net decrease in cash used for operating assets and liabilities. The improvement in cash provided was driven by a decrease in cash used for inventory and is consistent with our continued efforts to rebalance inventory levels. This was partially offset by an increased net loss of $12.7 million.
Investing Activities
Net cash used in investing activities was $22.8 million in fiscal year 2023, compared to $52.6 million in fiscal year 2022, a decrease of $29.8 million. The decrease in fiscal year 2023 was primarily driven by cash used in the prior fiscal year of $30.5 million to acquire Staub.
Financing Activities
Net cash used in financing activities was $26.4 million for fiscal year 2023, compared to net cash provided by financing activities of $57.5 million in fiscal year 2022, a decrease of $83.9 million. The decrease in net cash provided by financing activities for fiscal year 2023 was primarily due to cash provided by the Incremental Term Loans entered into during fiscal year 2022 of $55.0 million, and the decrease in cash flows related to our Revolving Credit Facility of $24.0 million as well as cash used to make the initial payment of $10.2 million related to the TRA in fiscal year 2023.
Fiscal 2022 Changes In Cash Flows
For the comparison of fiscal 2022 to fiscal 2021, refer to Part II, Item 7 "Management's discussion and analysis of financial condition and results of operations" of our 2022 Form 10-K under the subheading "Liquidity and Capital Resources - Historical Cash Flows.”
Off-Balance Sheet Arrangements
As of December 29, 2023 and December 30, 2022, we had off-balance sheet arrangements totaling $4.9 million and $5.1 million related to our outstanding letters of credit as further described in Note 7 in our Notes to the Consolidated Financial Statements .
Contractual Obligations
Debt Obligations
On August 4, 2021, we used a portion of the net proceeds from the IPO to repay a portion of the incremental term loan outstanding under the Old Credit Agreement totaling $215.9 million, plus accrued interest of $1.0 million. On December 8, 2021, we entered into our Credit Agreement with various financial institutions consisting of a $465.0 million Term Loan and our $100.0 million Revolving Credit Facility.
In connection with the closing of the Credit Agreement, we repaid in full approximately $451.4 million of borrowings, including accrued interest, under the Old Credit Agreement. The term loan and revolving credit facilities and related agreements and documents under the Old Credit Agreement were terminated upon the effectiveness of the Credit Agreement.
On October 2, 2022, we entered into an agreement to provide incremental term loans in an aggregate principal amount of $55.0 million. We used the proceeds from the Amended Credit Agreement to pay down the existing revolver balance, further increasing our liquidity and allowing for additional flexibility to invest in organic or inorganic growth or use for general corporate purposes.
On October 26, 2022, the Company entered into an interest rate cap agreement on the floating rate component of interest with Bank of America as the counterparty. The interest rate cap became effective December 31, 2022. The Company will pay a premium of $6.6 million at the maturity date of December 31, 2025.
See Note 7 in our Notes to the Consolidated Financial Statements for more information regarding our debt obligations.
Tax Receivable Agreement
On July 29, 2021, we executed the TRA with the TRA Participants. The TRA provides for the payment by us to the TRA Participants of 85% of the amount of cash savings, if any, in U.S. federal, state, and local income tax that we actually realize, or are deemed to realize (calculated using certain assumptions), as a result of the utilization of such tax benefits, including certain tax benefits attributable to payments under the TRA. The Company made payments, including accrued interest, pursuant to the TRA of $22.1 million and $10.5 million on January 12, 2024 and February 15, 2023, respectively . See Note 13 in our Notes to the Consolidated Financial Statements for more information regarding the TRA.
Contingent Value Rights (“CVRs”)
In connection with the acquisition of Snap One by H&F, we issued CVRs to the sellers. Each CVR gives the holder the ability to earn cash payments based on the return of H&F’s original investment achieving stated thresholds in relation to the proceeds received from disposition of H&F’s initial ownership units, which collectively entitle the sellers to receive from us, in certain circumstances, payments in an aggregate of up to $25.0 million. The CVRs were issued at two thresholds. The first CVR is payable to the holders when H&F’s return on investment grows to between 2.25 and 2.5 times H&F’s original investment. The second CVR is payable to the holders when H&F’s return on investment grows to between 2.5 and 2.67 times H&F’s original investment. Beginning on September 24, 2021, we have recorded CVR obligations at fair value utilizing the Monte Carlo simulation in an option-pricing framework. Adjustments to the fair value of CVR liabilities are included in selling, general, and administrative expenses in our consolidated statements of operations. See Note 8 in our Notes to the Consolidated Financial Statements for more information regarding CVRs.
Lease Commitments
The Company leases offices, warehouse space, and distribution centers. These leases are classified as operating leases with various expiration dates through 2033. See Note 15 in our Notes to the Consolidated Financial Statements for more information regarding Lease Commitments.
Seasonality
Our business experiences a moderate amount of seasonality. Sales activity is generally highest in the second quarter when our outdoor solutions, which include outdoor audio, video, surveillance, and access points, come into season. Sales continue to be strong in the third and fourth quarters due to end consumers’ desire to complete home projects prior to the holidays, followed by a modest slowdown in sales activity in the first quarter due to reduced integrator activity following the holiday season. Additionally, we generally experience a modest sales lift at the end of each calendar quarter as integrators seek to meet loyalty program spend thresholds.
Critical Accounting Estimates and Policies
Our accounting policies are more fully described in Note 2 in our Notes to the Consolidated Financial Statements . Our consolidated financial statements are prepared in accordance with GAAP. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, net sales, expenses, and related disclosures during the reported period. In accordance with GAAP, we base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions, and to the extent that there are differences between our estimates and actual results, our future financial statement presentation, financial condition, results of operations, and cash flows will be affected. Our most critical accounting estimates and policies are summarized below.
Revenue Recognition
We primarily enter into contracts with professional integrators to sell products and/or services. The professional integrators sell our products and/or services to end consumers to provide personalized connected systems. In certain instances, we sell specific products and/or services directly to end consumers. These contracts may result in arrangements to transfer multiple products and services and contain multiple performance obligations. Determining whether multiple products and services are considered distinct performance obligations that should be accounted for separately rather than as a combined performance obligation can require significant judgment.
For product sales, revenue is recognized when the integrator or, in the case of direct sales, consumer obtains control of the product, which occurs upon shipment, in an amount that reflects the consideration expected to be received in exchange for those products. For services, revenue is recognized ratably over the contract period as the integrator or customer receives such services on a consistent basis throughout the contract period. Technical support services represent a series of distinct performance obligations that have the same pattern of transfer to the integrator or customer, and thus are recognized as a single performance obligation ratably over the estimated life of the related product.
For contracts with multiple performance obligations, we allocate the contract’s transaction price to each performance obligation based on the relative standalone selling price (“SSP”). Judgment is required to determine the SSP for each distinct performance obligation that is not sold separately, including technical support, customer reward programs, unspecified software updates and upgrades, and hosting. In instances where SSP is not directly observable, the primary method used to estimate the SSP is the expected cost plus an estimated-margin approach, under which we forecast the expected costs of satisfying a performance obligation and then add an appropriate margin for that distinct service based on industry data, historical trends, and margins for similar services sold on a standalone basis.
Contracts with interdependent and highly interrelated hardware and software are accounted for as a single performance obligation with revenue recognized at the point in time when control is transferred to the integrator or consumer. In cases where there is more than one performance obligation, a portion of the transaction price is allocated based on a relative stand-alone selling price method. The allocated transaction price and corresponding revenue is deferred at the time of sale and recognized ratably over the estimated life of the related product as this method best depicts the progress towards the completion of the related performance obligation.
We offer certain subscription services where the integrator simultaneously receives and consumes the benefits provided by us throughout the subscription service period. There is a single performance obligation associated with the subscription services and the related revenue is deferred and recognized ratably over the contract period, which is typically one year, as this method best depicts the progress towards the completion of the related performance obligation.
We generate our revenue from the sale of products and services primarily as a principal, and for certain third-party product sales, as an agent. We have determined that we are the agent for such third-party product sales where the supplier is the party responsible for ensuring fulfillment of the orders, has the obligation to mitigate any issues the customers may have with the products, and has the discretion in establishing the price for the products. In such cases, we do not control the promised good before it is transferred. We record sales for which we act as an agent on a net basis.
We have various customer rewards programs (“marketing incentive programs”), which enable participants to earn points for qualifying rewards. The points are redeemed for rewards, including various prizes or product credits for future purchases. The marketing incentive programs provide the integrator or customer a material right and gives rise to a separate performance obligation. The related revenue and expense incurred are recognized at the time of redemption, expiration, or forfeiture, as that is the point at which the performance obligation related to this incentive program is satisfied.
Certain integrators or customers may receive cash-based incentives or credits (“volume rebates”) which are accounted for as variable consideration. We record reductions to revenue for integrator incentives at the time of the initial sale, which is based on estimates of the sales volume customers will reach during the measured period. Revenue is recognized net of estimated discounts, rebates, returns, allowances, and any taxes collected from integrators or customers, which are subsequently remitted to governmental authorities. We estimate the reduction to sales and cost of sales for returns based on current sales levels and historical return trends.
Share-Based Compensation
Former Parent Entity Incentive Plan — In October 2017, the Former Parent Entity approved the 2017 Plan pursuant to the Former Parent Entity’s partnership agreement (“Partnership Agreement”), which established the terms and provided for grants of certain incentive units to employees, officers, directors, consultants, and advisors of the Former Parent Entity containing service-based and/or market-based vesting criteria. Class B-1 Incentive Units (“B-1 Units”) issued under the 2017 Plan vest in installments over a five-year period, subject to the grantee’s continued employment or service. Class B-2 Incentive Units (“B-2 Units” and collectively with the B-1 Units, “Incentive Units”) issued under the 2017 Plan contain both service conditions consistent with the B-1 Units and market-based vesting conditions that require the achievement of a specified return hurdle to the controlling shareholders in order to vest.
The grant date fair value of all Incentive Units is estimated using the Black-Scholes option pricing model and is not remeasured. The pricing model requires assumptions, which include the expected holding period, the risk-free rate of return, the expected dividend yield, discount for lack of marketability and expected volatility of the units over the expected life, which significantly impacts the fair value. We account for forfeitures as they occur. In connection with the IPO, all Incentive Units were replaced with restricted stock awards or exchanged into shares of our common stock.
2021 Incentive Plan — Awards available for grant under the 2021 Incentive Plan include non-qualified and incentive stock options, restricted shares of our common stock, performance stock units, other equity-based awards tied to the value of our common stock, and cash-based awards. The fair value of restricted stock awards, restricted stock units, and performance stock units granted are based on the Company’s closing stock price on the date of grant. The Company also granted Time-based and Market-based options. The Company recognizes share-based compensation expense based on the fair value of the awards at the grant date. The Company utilized the Black-Scholes option pricing model to estimate the fair value of the Time-based options. The Company used a Monte Carlo simulation to estimate the fair value and derived service period of the Market-based options. Significant assumptions included in these models were the risk-free interest rate, the expected volatility, and the expected dividend yield. Volatility was estimated based on historical volatility of comparable companies. The average expected term for the Market-based options was derived based on an average of the outcomes of various scenarios performed under the Monte Carlo simulation. Both pricing models require various highly judgmental assumptions including volatility and expected option term. If any of the assumptions used in the models change significantly, stock-based compensation expense may differ materially in the future from that recorded in the current period. See Note 11 in our Notes to the Consolidated Financial Statements for more information regarding stock-based compensation.
Income Taxes
We estimate certain components of our provision for income taxes. Our estimates and judgments include, among other items, the calculations used to determine the deferred tax asset and liability balances, effective tax rates for state, local, and
foreign income taxes, uncertain tax positions, amounts deductible for tax purposes, and related reserves. We adjust our annual effective income tax rate as additional information on outcomes or events becomes available. Further, our assessment of uncertain tax positions requires judgments relating to the amounts, timing, and likelihood of resolution.
We account for income taxes under the liability method whereby deferred tax assets and liabilities are measured using enacted tax laws and rates expected to apply to taxable income in the years in which the assets and liabilities are expected to be recovered or settled. The effects on deferred tax assets and liabilities of subsequent changes in the tax laws and rates are recognized in income during the year the changes are enacted.
In assessing the realizability of deferred tax assets, we consider whether it is more-likely-than-not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies in making this assessment.
We follow the applicable authoritative guidance with respect to the accounting for uncertainty in income taxes recognized in our consolidated financial statements. It prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken, or expected to be taken, in a tax return. We record any interest and penalties associated as additional income tax expense in the consolidated statements of operations. See Note 12 in our Notes to the Consolidated Financial Statements for further information.
Tax Receivable Agreement
On July 29, 2021, we executed a TRA with the TRA Participants that provides for payment by the Company to the TRA Participants of 85% of the amount of cash savings, if any, in U.S. federal, state, and local income tax that the Company utilizes in the future from net operating losses and certain other tax benefits that arose prior to the IPO. We recognize this contingent liability in our consolidated financial statements when incurrence of the liability becomes probable and amounts are reasonably estimable. The TRA liability is an estimate and estimating the amount of payments that may be made under the TRA is by its nature imprecise, insofar as the calculation of amounts payable depends on a variety of factors. The amount and timing of any payments under the TRA will vary depending upon a number of factors, including the amount, character, and timing of the Company’s income. Subsequent changes to the measurement of the TRA liability are recognized in the statements of income as a component of other expense (income), net.
Business Combinations
All of our acquisitions have been accounted for under ASC 805, Business Combinations . Accordingly, the accounts of the acquired companies, after adjustments to reflect fair values assigned to assets and liabilities, have been included in the consolidated financial statements from their respective dates of acquisition. We record purchase price in excess of amounts allocated to identifiable assets and liabilities as goodwill. Goodwill includes, but is not limited to, the value of the workforce in place, ability to generate profits and cash flows, and an established going concern.
Customer relationships have been valued using the multi-period excess earnings method, a derivative of the income approach. The multi-period excess earnings method estimates the discounted net earnings attributable to the customer relationships that were acquired after considering items, such as possible customer attrition. Estimated useful lives were determined based on the length and trend of projected cash flows. The length of the projected cash flow period was determined based on the expected attrition of the customer relationships, which is based on our historical experience in renewing and extending similar customer relationships and future expectations for renewing and extending similar existing customer relationships. The useful life of the customer relationships intangible assets represents the number of years over which we expect the customer relationships to economically contribute to the business.
The trade names have been valued using the relief from royalty method under the income approach to estimate the cost savings that will accrue to us, which we would otherwise have to pay royalties or license fees on revenue earned through the use of the assets. Estimated useful lives were determined based on management’s estimate of the period the name will be in use.
Technology has been valued using the multi-period excess earnings method, a derivative of the income approach. The net earnings attributed to the existing technology considers items such as projected research and development costs expected to be incurred to maintain the technology. Estimated useful lives were determined based on the length and trend of projected cash flows after considering items such as the projected research and development expected to be incurred to maintain the technology.
Inventories
Inventory is stated at the lower of cost or net realizable value, cost being determined under the moving- average method of inventory, first-in, first-out (“FIFO”) basis of inventory, and specific-identification basis of inventory. Inventory costs include the net acquisition cost from the factory, the cost of transporting the product to our warehouses, and product assembly costs. Reserves for slow-moving and obsolete inventories are determined based on historical experience, inventory aging, and product demand. Our reserve estimates require us to make assumptions based on the current rate of sales, age, salability of inventory and profitability of inventory, all of which may be affected by changes in our product mix and consumer preferences. We do not believe there is a reasonable likelihood that there will be a material change in the assumptions we use to calculate our inventory reserves. However, if actual demand is lower than our forecasted demand, we could be required to write down the value of additional inventory, which would have a negative impact on our gross profit. We evaluate the adequacy of these reserves and make adjustments to reserves, as required.
Goodwill and Intangible Assets
Goodwill and identifiable indefinite lived intangible assets have historically been tested for impairment annually as of the beginning of the fourth quarter of each fiscal year, or more frequently upon the occurrence of certain events or substantive changes in circumstances that indicate impairment is more likely than not. We performed annual impairment tests for goodwill and indefinite lived intangible assets at September 30, 2023 and October 1, 2022 and concluded there was no impairment.
In assessing potential goodwill impairment, we may first assess qualitative factors to determine whether events or circumstances indicate it is more likely than not that the fair value of our net assets is less than the carrying amount of our single reporting unit. If the qualitative factors indicate it is more likely than not that the fair value of net assets is less than its carrying amount, we perform a quantitative impairment test. In the quantitative assessment, we compare the fair value of the reporting unit to its carrying value. We estimate the fair value of the reporting unit using generally accepted valuation techniques which include a weighted combination of income and market approaches. The income approach incorporates a discounted future cash flows analysis with key assumptions in the cash flow model for future net sales, operating costs, working capital changes, capital expenditures, and a discount rate that approximates our weighted-average cost of capital. The market approach considers our results of operations and information about our publicly traded competitors, such as earnings multiples, making adjustments to the selected competitors based on size, strengths and weaknesses, as well as publicly announced acquisition transactions.
Our valuation methodology for assessing impairment requires management to make judgments and assumptions based on historical experience and projections of future operating performance. If these assumptions differ materially from future results, we may record impairment charges in the future.
We review identifiable definite-lived intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. For fiscal years 2023, 2022 and 2021, we determined there were no indicators of impairment relating to identifiable definite lived intangible assets.
Warranties
We provide assurance-type warranties on most of our proprietary products covering periods that vary between one year and the lifetime of the product. The warranties cover products that are defective under normal conditions of use and are in-line with industry standards. We estimate the costs that may be incurred under these warranties and record the liability at the time product sales are recorded. The warranty liability is primarily based on historical failure rates and costs to repair or replace the product, including any necessary shipping costs.
Contingent Value Rights (“CVRs”)
In connection with the acquisition of Snap One by H&F, we issued CVRs to the sellers. Each CVR gives the holder the ability to earn cash payments based on the return of H&F’s original investment achieving stated thresholds in relation to the proceeds received from disposition of H&F’s initial ownership units. The CVRs were issued at two thresholds. The first CVR is payable to the holders when H&F’s return on investment grows to between 2.25 and 2.5 times H&F’s original investment. The second CVR is payable to the holders when H&F’s return on investment grows to between 2.5 and 2.67 times H&F’s original investment. We record CVR obligations at fair value utilizing the Monte Carlo simulation in an option-pricing framework, where a range of possible scenarios are simulated, in order to determine the fair value of the CVRs. Key inputs and assumptions using a Monte-Carlo simulation include the current stock price, probabilities of exit scenarios, risk-free interest rates, and equity volatility. The fair value estimate of the CVR is based, in part, on subjective assumptions and could differ materially in the future. Any future increase in the fair value of the CVR obligations, based on an increased likelihood that the underlying milestones will be achieved, and the associated payment or payments will, therefore, become due and payable, will result in a charge to selling, general, and administrative expenses in the period in which the increase is determined. Similarly, any future decrease in the fair value of the CVR obligations will result in a reduction in selling, general, and administrative expenses.
Recent Accounting Pronouncements
See Note 2 in our Notes to the Consolidated Financial Statements for information regarding recently issued accounting pronouncements.
Emerging Growth Company and Smaller Reporting Company Status
We qualify as an “emerging growth company” as defined in the Jumpstart Our Business Startups (“JOBS”) Act. An emerging growth company may take advantage of reduced reporting requirements not otherwise applicable to public companies. These provisions include, but are not limited to:
• Not being required to comply with the auditor attestation requirements on the effectiveness of our internal controls over financial reporting;
• Reduced disclosure obligations regarding executive compensation arrangements in our periodic reports, proxy statements and registration statements; and
• Exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved.
We may use these provisions until the last day of our fiscal year in which the fifth anniversary of the completion of our IPO occurs (which will be our 2026 fiscal year). However, if certain events occur prior to the end of such five-year period, including if we become a “large accelerated filer,” our annual gross revenues equal or exceed $1.235 billion, or we issue more than $1.0 billion of nonconvertible debt in any three-year period, we will cease to be an emerging growth company prior to the end of such five-year period.
Under the JOBS Act, emerging growth companies also can delay adopting new or revised accounting standards until such time as those standards would otherwise apply to private companies. We currently intend to take advantage of this exemption.
We are also a “smaller reporting company,” because the market value of our shares held by non-affiliates was less than $250 million as of the end of our most recently completed second fiscal quarter. We may continue to be a smaller reporting company if either (i) the market value of our shares held by non-affiliates is less than $250 million or (ii) our annual revenue was less than $100 million during the most recently completed fiscal year and the market value of our shares held by non-affiliates is less than $700 million. As a smaller reporting company, we are entitled to provide audited financial statements for just two fiscal years, in contrast with other reporting companies, which must provide audited financial statements for three fiscal years, although we have not elected to take advantage of this exemption in this Annual Report. If we are a smaller reporting company at the time we cease to be an emerging growth company, we may continue to rely on exemptions from certain disclosure requirements available to smaller reporting companies.
