NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except per share data)
A.Description of Business
Mercury Systems, Inc. is a technology company that delivers commercial innovation to rapidly transform the global aerospace and defense industry. Headquartered in Andover, Massachusetts, the Company's end-to-end processing platform enables a broad range of aerospace and defense programs, optimized for mission success in some of the most challenging and demanding environments. Processing technologies that comprise the Company's platform include signal solutions, display, software applications, networking, storage and secure processing. The Company's innovative solutions are mission-ready, trusted and secure, software-defined and open and modular (the Company's differentiators), to meet customers’ most-pressing high-tech needs, including those specific to the defense community.
On February 28, 2022, the Company amended its existing revolving credit facility (the "Revolver") to increase and extend the borrowing capacity to a $1,100,000, 5-year revolving credit line, with the maturity extended to February 28, 2027. As of July 1, 2022, there was $451,500 of outstanding borrowings on the Revolver. See Note M in the accompanying consolidated financial statements for further discussion of the Revolver.
On November 29, 2021, the Company acquired Atlanta Micro, Inc. ("Atlanta Micro") for a purchase price of $90,000, subject to net working capital and net debt adjustments. Based in Norcross, Georgia, Atlanta Micro is a leading designer and manufacturer of high-performance RF modules and components, including advanced monolithic microwave integrated circuits ("MMICs") which are critical for high-speed data acquisition applications including electronic warfare, radar and weapons. The Company funded the acquisition through its Revolver.
On September 27, 2021, the Company signed a definitive agreement to acquire Avalex Technologies (“Avalex”) for a purchase price of $155,000, subject to net working capital and net debt adjustments. On November 5, 2021, the transaction
closed and the Company acquired Avalex. Based in Gulf Breeze, Florida, Avalex is a provider of mission-critical avionics, including rugged displays, integrated communications management systems, digital video recorders and warning systems. The Company funded the acquisition with its Revolver.
On May 27, 2021, the Company acquired Pentek for a purchase price of $65,000, prior to net working capital and net debt adjustments. Based in Upper Saddle River, New Jersey, Pentek is a leading designer and manufacturer of ruggedized, high-performance, commercial off-the-shelf ("COTS") software-defined radio and data acquisition boards, recording systems and subsystems for high-end commercial and defense applications. The acquisition and associated transaction expenses were funded through a combination of cash on hand and Mercury's existing revolving credit facility (the "Revolver").
On December 30, 2020, the Company acquired Physical Optics Corporation ("POC") for a purchase price of $310,000, prior to net working capital and net debt adjustments. Based in Torrance, California, POC more than doubles Mercury's global avionics business and expands its collective footprint in the platform and mission management market. The Company funded the acquisition through a combination of cash on hand and its existing Revolver.
For further details on the acquisitions, see Note C to the consolidated financial statements.
B.Summary of Significant Accounting Policies
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated.
BASIS OF PRESENTATION
The Company's fiscal year is the 52-week or 53-week period ending on the Friday closest to the last day in June. All references to fiscal 2022 are to the 52-week period from July 3, 2021 to July 1, 2022. All references to fiscal 2021 are to the 52-week period from July 4, 2020 to July 2, 2021. All references to fiscal 2020 are to the 53-week period from July 1, 2019 to July 3, 2020. There have been no reclassifications of prior comparable periods due to this change.
USE OF ESTIMATES
The preparation of financial statements in conformity with Generally Accepted Accounting Principles (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.
BUSINESS COMBINATIONS
The Company utilizes the acquisition method of accounting under ASC 805, Business Combinations, (“ASC 805”), for all transactions and events in which it obtains control over one or more other businesses, to recognize the fair value of all assets and liabilities acquired, even if less than one hundred percent ownership is acquired, and in establishing the acquisition date fair value as of the measurement date for all assets and liabilities assumed. The Company also utilizes ASC 805 for the initial recognition and measurement, subsequent measurement and accounting and disclosure of assets and liabilities arising from contingencies in business combinations. Other estimates include:
•estimated step-ups for fixed assets and inventory;
•estimated fair values of intangible assets; and
•estimated income tax assets and liabilities assumed from the acquiree.
While the Company uses its best estimates and assumptions as part of the purchase price allocation process to accurately value assets acquired and liabilities assumed at the business acquisition date, the estimates and assumptions are inherently uncertain and subject to refinement. As a result, during the purchase price allocation period, which is generally one year from the business acquisition date, the Company records adjustments to the assets acquired and liabilities assumed, with the corresponding offset to goodwill. For changes in the valuation of intangible assets between the preliminary and final purchase price allocation, the related amortization is adjusted in the period it occurs. Subsequent to the purchase price allocation period, any adjustment to assets acquired or liabilities assumed is included in operating results in the period in which the adjustment is determined.
LEASES
The Company has arrangements involving the lease of facilities, machinery and equipment. Under ASC 842, Leases, (“ASC 842”), at inception of the arrangement, the Company determines whether the contract is or contains a lease and whether the lease should be classified as an operating or a financing lease. This determination, among other considerations, involves an assessment of whether the Company can control the underlying asset and have the right to obtain substantially all of the economic benefits or outputs from the asset.
The Company recognizes ROU assets and lease liabilities as of the lease commencement date based on the net present value of the future minimum lease payments over the lease term. ASC 842 requires lessees to use the rate implicit in the lease unless it is not readily determinable and then it may use its incremental borrowing rate (“IBR”) to discount the future minimum lease payments. Most of the Company's lease arrangements do not provide an implicit rate; therefore, the Company uses its IBR to discount the future minimum lease payments. The Company determines its IBR with its credit rating and current economic information available as of the commencement date, as well as the identified lease term. During the assessment of the lease term, the Company considers its renewal options and extensions within the arrangements and the Company includes these options when it is reasonably certain to extend the term of the lease.
The Company has lease arrangements with both lease and non-lease components. Consideration is allocated to lease and non-lease components based on estimated standalone prices. The Company has elected to exclude non-lease components from the calculation of its ROU assets and lease liabilities. In the Company's adoption of ASC 842, leases with an initial term of 12 months or less will not result in recognition of a ROU asset and a lease liability and will be expensed as incurred over the lease term. Leases of this nature were immaterial to the Company’s consolidated financial statements.
The Company has lease arrangements that contain incentives for tenant improvements as well as fixed rent escalation clauses. For contracts with tenant improvement incentives that are determined to be a leasehold improvement that will be owned by the lessee and the Company is reasonably certain to exercise, it records a reduction to the lease liability and amortizes the incentive over the identified term of the lease as a reduction to rent expense. The Company records rental expense on a straight-line basis over the identified lease term on contracts with rent escalation clauses.
Finance leases are not material to the Company's consolidated financial statements and the Company is not a lessor in any material lease arrangements. There are no material restrictions, covenants, sale and leaseback transactions, variable lease payments or residual value guarantees in the Company's lease arrangements. Operating leases are included in Operating lease right-of-use assets, net, Accrued expenses and Operating lease liabilities in the Company's Consolidated Balance Sheets. The standard had no impact on the Company's Consolidated Statements of Operations and Comprehensive Income or Consolidated Statements of Cash Flows. See Note J to the consolidated financial statements for more information regarding our obligations under leases.
REVENUE RECOGNITION
The Company recognizes revenue in accordance with the five step model set forth by ASC 606, Revenue from Contracts with Customers, (“ASC 606”), which involves identification of the contract(s), identification of performance obligations in the
contract, determination of the transaction price, allocation of the transaction price to the previously identified performance obligations and revenue recognition as the performance obligations are satisfied.
During step one of the five step model, the Company considers whether contracts should be combined or segmented, and based on this assessment, the Company combines closely related contracts when all the applicable criteria are met. The combination of two or more contracts requires judgment in determining whether the intent of entering into the contracts was effectively to enter into a single contract, which should be combined to reflect an overall profit rate. Similarly, the Company may separate an arrangement, which may consist of a single contract or group of contracts, with varying rates of profitability, only if the applicable criteria are met. Judgment also is involved in determining whether a single contract or group of contracts may be segmented based on how the arrangement and the related performance criteria were negotiated. The conclusion to combine a group of contracts or segment a contract could change the amount of revenue and gross profit recorded in a given period.
A performance obligation is a promise in a contract to transfer a distinct good or service to the customer. A contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue as the performance obligation is satisfied. Certain contracts with customers require the Company to perform tests of its products prior to shipment to ensure their performance complies with the Company’s published product specifications and, on occasion, with additional customer-requested specifications. In these cases, the Company conducts such tests and, if they are completed successfully, includes a written confirmation with each order shipped. As a result, at the time of each product shipment, the Company believes that no further customer testing requirements exist and that there is no uncertainty of acceptance by its customer. The Company's contracts with customers generally do not include a right of return relative to delivered products. In certain cases, contracts are modified to account for changes in the contract specifications or requirements. In most instances, contract modifications are accounted for as part of the existing contract. Certain contracts with customers have options for the customer to acquire additional goods or services. In most cases the pricing of these options are reflective of the standalone selling price of the good or service. These options do not provide the customer with a material right and are accounted for only when the customer exercises the option to purchase the additional goods or services. If the option on the customer contract was not indicative of the standalone selling price of the good or service, the material right would be accounted for as a separate performance obligation.
The Company is a leading technology company serving the aerospace and defense industry, positioned at the intersection of high-tech and defense. Revenues are derived from the sales of products that are grouped into one of the following three categories: (i) components; (ii) modules and sub-assemblies; and (iii) integrated subsystems. The Company also generates revenues from the performance of services, including systems engineering support, consulting, maintenance and other support, testing and installation. Each promised good or service within a contract is accounted for separately under the guidance of ASC 606 if they are distinct. Promised goods or services not meeting the criteria for being a distinct performance obligation are bundled into a single performance obligation with other goods or services that together meet the criteria for being distinct. The appropriate allocation of the transaction price and recognition of revenue is then determined for the bundled performance obligation.
Once the Company identifies the performance obligations, the Company then determines the transaction price, which includes estimating the amount of variable consideration to be included in the transaction price, if any. Variable consideration typically arises due to volume discounts, or other provisions that can either decrease or increase the transaction price. To the extent the transaction price includes variable consideration, the Company estimates the amount of variable consideration that should be included in the transaction price utilizing either the expected value method or the most likely amount method depending on the method the Company expects to better predict the amount of consideration to which it will be entitled. The determination of the estimates for variable consideration require judgment, and are based on past history with similar contracts and anticipated performance. Further, variable consideration is only included in the determination of the transaction price if it is probable that a significant reversal in the amount of revenue recognized will not occur. There are no constraints on the variable consideration recorded.
For contracts with multiple performance obligations, the transaction price is allocated to each performance obligation using the standalone selling price of each distinct good or service in the contract. Standalone selling prices of the Company’s goods and services are generally not directly observable. Accordingly, the primary method used to estimate standalone selling price is the expected cost plus a margin approach, under which the Company estimates the expected costs of satisfying a performance obligation and then adds an appropriate margin for that distinct good or service. The objective of the expected cost plus a margin approach is to determine the price at which the Company would transact if the product or service were sold by the Company on a standalone basis. The Company's determination of the expected cost plus a margin approach involves the consideration of several factors based on the specific facts and circumstances of each contract. Specifically, the Company considers the cost to produce the deliverable, the anticipated margin on that deliverable, the selling price and profit margin for similar parts, the Company’s ongoing pricing strategy and policies, often based on the price list established and updated by management on a regular basis, the value of any enhancements that have been built into the deliverable and the characteristics of the varying markets in which the deliverable is sold.
The Company analyzes the standalone selling prices used in its allocation of transaction price on contracts at least annually. Standalone selling prices will be analyzed on a more frequent basis if a significant change in the Company’s business necessitates a more frequent analysis or if the Company experiences significant variances in its selling prices.
The Company engages in over time contracts for development, production and service activities and recognizes revenue for performance obligations over time. These over time contracts involve the design, development, manufacture, or modification of complex modules and sub-assemblies or integrated subsystems and related services. Revenue is recognized over time, given: (i) the Company’s performance creates or enhances an asset that the customer controls as the asset is created or enhanced; or (ii) the Company’s performance creates an asset with no alternative use to the Company and (iii) the Company has an enforceable right to payment for performance completed to date. The Company considers the nature of these contracts and the types of products and services provided when determining the proper accounting for a particular contract. These contracts include both fixed-price and cost reimbursable contracts. The Company’s cost reimbursable contracts typically include cost-plus fixed fee and time and material (“T&M”) contracts.
For contracts recognized over time, the Company typically leverages the input method, using a cost-to-cost measure of progress. The Company believes that this method represents the most faithful depiction of the Company’s performance because it directly measures value transferred to the customer. Contract estimates and estimates of any variable consideration are based on various assumptions to project the outcome of future events that may span several years. These assumptions include: the amount of time to complete the contract, including the assessment of the nature and complexity of the work to be performed; the cost and availability of materials; the availability of subcontractor services and materials; and the availability and timing of funding from the customer. The Company bears the risk of changes in estimates to complete on a fixed-price contract which may cause profit levels to vary from period to period. For cost reimbursable contracts, the Company is reimbursed periodically for allowable costs and is paid a portion of the fee based on contract progress. In the limited instances where the Company enters into T&M contracts, revenue recognized reflects the number of direct labor hours expended in the performance of a contract multiplied by the contract billing rate, as well as reimbursement of other direct billable costs. For T&M contracts, the Company recognizes revenue in the amount for which the Company has a right to invoice the customer based on the control transferred to the customer. For over time contracts, the Company recognizes anticipated contract losses as soon as they become known and estimable.
Accounting for over time contracts requires significant judgment relative to estimating total contract revenues and costs, in particular, assumptions relative to the amount of time to complete the contract, including the assessment of the nature and complexity of the work to be performed. The Company’s estimates are based upon the professional knowledge and experience of its engineers, program managers and other personnel, who review each over time contract monthly to assess the contract’s schedule, performance, technical matters and estimated cost at completion. Changes in estimates are applied retrospectively and when adjustments in estimated contract costs are identified, such revisions may result in current period adjustments to earnings applicable to performance in prior periods.
Total revenue recognized under over time contracts over time was 55%, 42% and 27% of revenues in the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020, respectively.
Revenue recognized at a point in time generally relates to contracts that include a combination of components, modules and sub-assemblies, integrated subsystems and related system integration or other services. Contracts with distinct performance obligations recognized at a point in time, with or without an allocation of the transaction price, totaled 45%, 58% and 73% of revenues in the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020, respectively. Revenue is recognized at a point in time for these products and services (versus over time recognition) due to the following: (i) customers are only able to consume the benefits provided by the Company upon completion of the product or service; (ii) customers do not control the product or service prior to completion; and (iii) the Company does not have an enforceable right to payment at all times for performance completed to date. Accordingly, there is little judgment in determining when control of the good or service transfers to the customer, and revenue is recognized upon shipment (for goods) or completion (for services).
The Company generally does not provide its customers with rights of product return other than those related to assurance warranty provisions that permit repair or replacement of defective goods over a period of 12 to 36 months. The Company accrues for anticipated warranty costs upon product shipment. The Company does not consider activities related to such assurance warranties, if any, to be a separate performance obligation. The Company does offer separately priced extended warranties which generally range from 12 to 36 months that are treated as separate performance obligations. The transaction price allocated to extended warranties is recognized over time in proportion to the costs expected to be incurred in satisfying the obligations under the contract.
On over time contracts, the portion of the payments retained by the customer is not considered a significant financing component because payment is received as progress is made. Many of the Company's over time contracts have milestone payments, which align the payment schedule with the progress towards completion on the performance obligation. On certain contracts, the Company may be entitled to receive an advance payment, which is not considered a significant financing
component because it is used to facilitate inventory demands at the onset of a contract and to safeguard the Company from the failure of the other party to abide by some or all of their obligations under the contract.
All revenues are reported net of government assessed taxes (e.g., sales taxes or value-added taxes).
COSTS TO OBTAIN AND FULFILL A CONTRACT
The Company expenses sales commissions as incurred for contracts where the amortization period would have been one year or less. The Company had $1,503 and $1,098 of deferred sales commissions for contracts where the amortization period is greater than one year as of July 1, 2022 and July 2, 2021, respectively. Prior to fiscal 2021, the Company had not deferred sales commissions for contracts where the amortization period was greater than one year because such amounts were not deemed significant.
The Company has elected to treat shipping and handling activities performed after the customer has obtained control of the related goods as a fulfillment cost. Such costs are accrued for in conjunction with the recording of revenue for the goods and are classified as cost of revenues.
CONTRACT BALANCES
Contract balances result from the timing of revenue recognized, billings and cash collections and the generation of contract assets and liabilities. Contract assets represent revenue recognized in excess of amounts invoiced to the customer and the right to payment is not subject to the passage of time. Instead, while the Company has an enforceable right to payment as progress is made over performance obligations, billings to customers are generally predicated on (i) completion of defined milestones, (ii) monthly costs incurred or (iii) final delivery of goods or services. Contract assets are presented as Unbilled receivables and costs in excess of billings on the Company’s Consolidated Balance Sheets. Contract liabilities consist of deferred product revenue, billings in excess of revenues, deferred service revenue and customer advances. Deferred product revenue represents amounts that have been invoiced to customers, but are not yet recognizable as revenue because the Company has not satisfied its performance obligations under the contract. Billings in excess of revenues represents milestone billing contracts where the billings of the contract exceed recognized revenues. Deferred service revenue primarily represents amounts invoiced to customers for annual maintenance contracts or extended warranty contracts, which are recognized over time in proportion to the costs expected to be incurred in satisfying the obligations under the contract. Customer advances represent deposits received from customers on an order. Contract liabilities are included in deferred revenue as well as other non-current liabilities on the Company’s Consolidated Balance Sheets. Contract balances are reported in a net position on a contract-by-contract basis.
The contract asset balances were $303,356 and $162,921 as of July 1, 2022 and July 2, 2021, respectively. The contract asset balance increased due to growth in revenue recognized under over time contracts as well as industry-wide award delays and supply chain constraints impacting the timing of billing events and cash conversion during the fiscal year ended July 1, 2022. The contract liability balances were $15,966 and $35,201 as July 1, 2022 and July 2, 2021, respectively. The decrease was due to recognition of revenue across multiple programs.
Revenue recognized during fiscal 2022 that was included in the contract liability balance at July 2, 2021 was $25,137.
REMAINING PERFORMANCE OBLIGATIONS
The Company includes in its computation of remaining performance obligations customer orders for which it has accepted signed sales orders. The definition of remaining performance obligations excludes those contracts that provide the customer with the right to cancel or terminate the order with no substantial penalty, even if the Company’s historical experience indicates the likelihood of cancellation or termination is remote. As of July 1, 2022, the aggregate amount of the transaction price allocated to remaining performance obligations was $542,146. The Company expects to recognize approximately 58% of its remaining performance obligations as revenue in the next 12 months and the balance thereafter.
CASH AND CASH EQUIVALENTS
Cash equivalents, consisting of highly liquid money market funds and U.S. government and U.S. government agency issues with original maturities of 90 days or less at the date of purchase, are carried at fair market value which approximates cost.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company measures at fair value certain financial assets and liabilities, including cash equivalents, restricted cash and contingent consideration. ASC 820, Fair Value Measurement and Disclosures, specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs have created the following fair-value hierarchy:
Level 1—Quoted prices for identical instruments in active markets;
Level 2—Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets; and
Level 3—Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
CONCENTRATION OF CREDIT RISK
Financial instruments that potentially expose the Company to concentrations of credit risk consist principally of cash, cash equivalents and accounts receivable. The Company places its cash and cash equivalents with financial institutions of high credit quality. As of July 1, 2022 and July 2, 2021, the Company had $65,654 and $113,839, respectively, of cash and cash equivalents on deposit or invested with its financial and lending institutions.
The Company provides credit to customers in the normal course of business. The Company performs ongoing credit evaluations of its customers’ financial condition and limits the amount of credit extended when deemed necessary. As of July 1, 2022, five customers accounted for 45% of the Company's accounts receivable, unbilled receivables and costs in excess of billings. As of July 2, 2021, five customers accounted for 60% of the Company’s accounts receivable, unbilled receivables and costs in excess of billings.
The Company maintains an allowance for credit losses to provide for the estimated amount of receivables that will not be fully collected. The allowance is based on the assessment of the following factors: customer creditworthiness; historical payment experience; age of outstanding receivables; and any applicable collateral.
INVENTORY
Inventory is stated at the lower of cost (first-in, first-out) or net realizable value, and consists of materials, labor and overhead. On a quarterly basis, the Company evaluates inventory for net realizable value. Once an item is written down, the value becomes the new inventory cost basis. The Company reduces the value of inventory for excess and obsolete inventory, consisting of on-hand and non-cancelable on-order inventory in excess of estimated usage. The excess and obsolete inventory evaluation is based upon assumptions about future demand, product mix and possible alternative uses.
SEGMENT INFORMATION
The Company uses the management approach for segment disclosure, which designates the internal organization that is used by management for making operating decisions and assessing performance as the source of its reportable segments. The Company manages its business on the basis of one reportable segment, as a leading technology company serving the aerospace and defense industry, positioned at the intersection of high-tech and defense.
GOODWILL AND INTANGIBLE ASSETS
Goodwill is the amount by which the purchase price of a business acquisition exceeds the fair values of the net identifiable assets on the date of purchase (see Note G). In accordance with the requirements of Intangibles-Goodwill and Other (“ASC 350”) Goodwill is not amortized. Goodwill is assessed for impairment at least annually, on a reporting unit basis, or when events and circumstances occur indicating that the recorded goodwill may be impaired. If the book value of a reporting unit exceeds its fair value, the implied fair value of goodwill is compared with the carrying amount of goodwill. If the carrying amount of goodwill exceeds the implied fair value, an impairment loss is recorded in an amount equal to that excess.
Intangible assets result from the Company’s various business acquisitions (see Note H) and certain licensed technologies, and consist of identifiable intangible assets, including completed technology, licensing agreements, patents, customer relationships, trademarks, backlog and non-compete agreements. Intangible assets are reported at cost, net of accumulated amortization and are either amortized on a straight-line basis over their estimated useful lives of up to 12.5 years or over the period the economic benefits of the intangible asset are consumed.
LONG-LIVED ASSETS
Long-lived assets primarily include property and equipment, intangible assets and ROU assets. The Company regularly evaluates its long-lived assets for events and circumstances that indicate a potential impairment in accordance with ASC 360, Property, Plant and Equipment (“ASC 360”). The Company reviews long-lived assets for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable or that the useful lives of these assets are no longer appropriate. Each impairment test is based on a comparison of the estimated undiscounted cash flows of the asset as compared to the recorded value of the asset. If impairment is indicated, the asset is written down to its estimated fair value.
Property and equipment are the long-lived, physical assets of the Company acquired for use in the Company’s normal business operations and are not intended for resale by the Company. These assets are recorded at cost. Renewals and betterments that increase the useful lives of the assets are capitalized. Repair and maintenance expenditures that increase the efficiency of the assets are expensed as incurred. Equipment under capital lease is recorded at the present value of the minimum lease payments required during the lease period. Depreciation is based on the estimated useful lives of the assets using the straight-line method (see Note F).
As assets are retired or sold, the related cost and accumulated depreciation are removed from the accounts and any resulting gain or loss is included in the results of operations.
Expenditures for major software purchases and software developed for internal use are capitalized and depreciated using the straight-line method over the estimated useful lives of the related assets, which are generally three years. For software developed for internal use, all external direct costs for material and services and certain payroll and related fringe benefit costs are capitalized in accordance with ASC 350. During fiscal 2022, 2021 and 2020, the Company capitalized $3,000, $1,640 and $905 of software development costs, respectively.
INCOME TAXES
The Company accounts for income taxes under ASC 740, Income Taxes (“ASC 740”). The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the Company’s consolidated financial statements. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates for the year in which the differences are expected to reverse. The Company records a valuation allowance against net deferred tax assets if, based upon the available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.
ASC 740 requires a two-step approach to recognizing and measuring uncertain tax positions. First, the tax position must be evaluated to determine the likelihood that it will be sustained upon external examination. If the tax position is deemed more-likely-than-not to be sustained, the tax position is then assessed to determine the amount of benefit to recognize in the financial statements. The amount of the benefit that may be recognized is the largest amount that has a greater than 50% likelihood of being realized upon ultimate settlement. The Company recognizes interest and penalties accrued on any unrecognized tax benefits as a component of income tax expense.
PRODUCT WARRANTY ACCRUAL
The Company’s product sales generally include a 12 to 36 month standard hardware warranty. At time of product shipment, the Company accrues for the estimated cost to repair or replace potentially defective products. Estimated warranty costs are based upon prior actual warranty costs for substantially similar transactions and any specifically identified warranty requirements. Product warranty accrual is included as part of accrued expenses in the accompanying Consolidated Balance Sheets. The following table presents the changes in the Company's product warranty accrual.
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| Fiscal 2022 | | Fiscal 2021 | | Fiscal 2020 | |
| Beginning balance | $ | 3,283 | | | $ | 3,835 | | | $ | 1,870 | | |
| | | | | | |
| Warranty assumed from APC | — | | | — | | | 739 | | |
| | | | | | |
| | | | | | |
| | | | | | |
| | | | | | |
| | | | | | |
| Accruals for warranties issued during the period | 359 | | | 2,446 | | | 2,839 | | |
| | | | | | |
| | | | | | |
| Settlements made during the period | (1,785) | | | (2,998) | | | (1,613) | | |
| Ending balance | $ | 1,857 | | | $ | 3,283 | | | $ | 3,835 | | |
| | | | | | |
| | | | | | |
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred. Research and development costs are primarily made up of labor charges, including stock-based compensation and prototype material and development expenses.
STOCK-BASED COMPENSATION
Stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the requisite service period, which generally represents the vesting period, and includes an estimate of the awards that will be forfeited. Stock-based compensation expense for the Company’s performance-based restricted stock awards is amortized over the requisite service period using graded vesting. The Company’s other restricted stock awards recognize expense over the requisite service period on a straight-line basis.
RETIREMENT OF COMMON STOCK
Stock that is repurchased or received in connection with the vesting of restricted stock is retired immediately upon the Company’s repurchase. The Company accounts for this under the cost method and upon retirement the excess amount over par value is charged against additional paid-in capital.
NET EARNINGS PER SHARE
Basic net earnings per share is calculated by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted net earnings per share computation includes the effect of shares which would be issuable upon the exercise of outstanding stock options and the vesting of restricted stock, reduced by the number of shares which are assumed to be purchased by the Company under the treasury stock method. For all periods presented, net income is the control number for determining whether securities are dilutive or not.
Basic and diluted weighted average shares outstanding were as follows:
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| | Fiscal 2022 | | Fiscal 2021 | | Fiscal 2020 |
| Basic weighted-average shares outstanding | 55,527 | | | 55,070 | | | 54,546 | |
| Effect of dilutive equity instruments | 374 | | | 404 | | | 569 | |
| Diluted weighted-average shares outstanding | 55,901 | | | 55,474 | | | 55,115 | |
Equity instruments to purchase 39, 42 and 8 shares of common stock were not included in the calculation of diluted net earnings per share for the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020, respectively, because the equity instruments were anti-dilutive.
ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
Accumulated other comprehensive income (loss) (“AOCI”) includes foreign currency translation adjustments and pension benefit plan adjustments. The components of AOCI included $1,131, $(739) and $174 of foreign currency translation adjustments for the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020, respectively. In addition, pension benefit plan adjustments totaled $4,739, $3,285 and $(1,768) for the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020, respectively.
FOREIGN CURRENCY
Local currencies are the functional currency for the Company’s subsidiaries in Switzerland, the United Kingdom, France, Japan, Spain and Canada. The accounts of foreign subsidiaries are translated using exchange rates in effect at period-end for assets and liabilities and at average exchange rates during the period for results of operations. The related translation adjustments are reported in accumulated other comprehensive income in shareholders’ equity. Gains (losses) resulting from non-U.S. currency transactions are included in Other (expense) income, net in the Consolidated Statements of Operations and Comprehensive Income.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In March 2020, the FASB issued ASU No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, an amendment of the FASB Accounting Standards Codification. The amendments in this ASU provide optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. The amendments in this ASU are elective and apply to all entities, subject to meeting certain criteria, that have contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform. The amendments in this Update are effective for all entities as of March 12, 2020 through December 31, 2022. The Company does not expect this adoption to have a material impact to the Company's consolidated financial statements or related disclosures.
In August 2020, the FASB issued ASU No. 2020-06, Debt - Debt with conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity's Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity's Own Equity, an amendment of the FASB Accounting Standards Codification. The amendments in this ASU simplify the accounting for convertible debt securities. The ASU is effective for fiscal years beginning after December 15, 2021, with early adoption permitted, including adoption in an interim period. The Company does not expect this adoption to have a material impact to the Company's consolidated financial statements or related disclosures.
In October 2021, the FASB issued ASU No. 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers, an amendment of the FASB Accounting Standards Codification. The amendments in this ASU address diversity and inconsistency related to the recognition and measurement of contract assets and contract liabilities acquired in a business combination and require that an acquirer recognize and measure contract assets and contract liabilities acquired in accordance with ASC 606. Under current U.S. GAAP, an acquirer generally recognizes assets and liabilities assumed in a business combination, including contract assets and liabilities arising from revenue contracts with customers, at fair value on the acquisition date. ASU No. 2021-08 will result in the acquirer recording acquired contract assets and liabilities on the same basis that would have been recorded by the acquiree before the acquisition under ASC 606. This ASU is effective for fiscal years beginning after December 15, 2022, with early adoption permitted, including adoption in an interim period. The Company is currently evaluating the effect that this standard may have on its consolidated financial statements and related disclosures.
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
Effective July 3, 2021 the Company adopted ASU No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes, an amendment of the FASB Accounting Standards Codification. The amendments in this ASU simplify the accounting for income taxes by removing certain exceptions for intraperiod tax allocations and deferred tax liabilities for equity method investments and add guidance as to whether a step-up in tax basis of goodwill relates to a business combination or a separate transaction. This adoption did not have a material impact to the Company's consolidated financial statements or related disclosures.
C.Acquisitions
ATLANTA MICRO ACQUISITION
On November 29, 2021, the Company acquired Atlanta Micro for a purchase price of $90,000, prior to net working capital and net debt adjustments. Based in Norcross, Georgia, Atlanta Micro is a leading designer and manufacturer of high-performance RF modules and components, including advanced monolithic microwave integrated circuits ("MMICs") which are critical for high-speed data acquisition applications including electronic warfare, radar and weapons. The Company funded the acquisition through the Company's existing revolver. On March 28, 2022, the Company and former owners of Atlanta Micro agreed to post closing adjustments totaling $58, which increased the Company's net purchase price.
The following table presents the net purchase price and the fair values of the assets and liabilities of Atlanta Micro on a preliminary basis:
| | | | | |
| Amounts |
| Consideration transferred | |
| Cash paid at closing | $ | 91,438 | |
| Working capital and net debt adjustment | (416) | |
| Less cash acquired | (1,782) | |
| Net purchase price | $ | 89,240 | |
| |
| Estimated fair value of tangible assets acquired and liabilities assumed | |
| Cash | $ | 1,782 | |
| Accounts receivable | 1,568 | |
| Inventory | 4,475 | |
| Fixed assets | 547 | |
| Other current and non-current assets | 2,043 | |
| Accounts payable | (529) | |
| Accrued expenses | (865) | |
| Other current and non-current liabilities | (11,084) | |
| Estimated fair value of net tangible assets acquired | (2,063) | |
| Estimated fair value of identifiable intangible assets | 34,980 | |
| Estimated goodwill | 58,105 | |
| Estimated fair value of net assets acquired | 91,022 | |
| Less cash acquired | (1,782) | |
| Net purchase price | $ | 89,240 | |
The amounts above represent the preliminary fair value estimates as of July 1, 2022 and are subject to subsequent adjustment as the Company obtains additional information during the measurement period and finalizes its fair value estimates. The preliminary identifiable intangible asset estimate includes customer relationships of $27,310 with a useful life of 20 years, completed technology of $7,260 with a useful life of 8 years and backlog of $410 with a useful life of 2 years. Any subsequent adjustments to these fair value estimates occurring during the measurement period will result in an adjustment to goodwill.
The estimated goodwill of $58,105 largely reflects the potential synergies and expansion of the Company’s offerings across product lines and markets complementary to the Company’s existing products and markets and is not deductible for tax purposes. The goodwill from this acquisition is reported in the Microelectronics reporting unit. The revenues and income before income taxes from Atlanta Micro included in the Company's consolidated results for the fiscal year ended July 1, 2022 were $8,625 and $1,328, respectively.
AVALEX ACQUISITION
On September 27, 2021, the Company signed a definitive agreement to acquire Avalex for a purchase price of $155,000, prior to net working capital and net debt adjustments. On November 5, 2021, the transaction closed and the Company acquired Avalex. Based in Gulf Breeze, Florida, Avalex is a provider of mission-critical avionics, including rugged displays, integrated communications management systems, digital video recorders and warning systems. The Company funded the acquisition with the Company's Revolver. On March 17, 2022, the Company and former owners of Avalex agreed to post closing adjustments totaling $151, which increased the Company's net purchase price.
The following table presents the net purchase price and the fair values of the assets and liabilities of Avalex on a preliminary basis:
| | | | | |
| Amounts |
| Consideration transferred | |
| Cash paid at closing | $ | 157,367 | |
| Working capital and net debt adjustment | (1,034) | |
| Less cash acquired | (2,188) | |
| Net purchase price | $ | 154,145 | |
| |
| Estimated fair value of tangible assets acquired and liabilities assumed | |
| Cash | $ | 2,188 | |
| Accounts receivable | 5,363 | |
| Inventory | 7,141 | |
| Fixed assets | 1,245 | |
| Other current and non-current assets | 5,195 | |
| Accounts payable | (1,700) | |
| Accrued expenses | (1,376) | |
| Other current and non-current liabilities | (4,788) | |
| Estimated fair value of net tangible assets acquired | 13,268 | |
| Estimated fair value of identifiable intangible assets | 61,360 | |
| Estimated goodwill | 81,705 | |
| Estimated fair value of net assets acquired | 156,333 | |
| Less cash acquired | (2,188) | |
| Net purchase price | $ | 154,145 | |
The amounts above represent the preliminary fair value estimates as of July 1, 2022 and are subject to subsequent adjustment as the Company obtains additional information during the measurement period and finalizes its fair value estimates. The preliminary identifiable intangible asset estimate includes customer relationships of $41,880 with a useful life of 9 years, completed technology of $14,430 with a useful life of 7 years and backlog of $5,050 with a useful life of one year. Any subsequent adjustments to these fair value estimates occurring during the measurement period will result in an adjustment to goodwill.
The estimated goodwill of $81,705 largely reflects the potential synergies and expansion of the Company’s offerings across product lines and markets complementary to the Company’s existing products and markets. The goodwill from this acquisition is reported in the Processing reporting unit. The Company has estimated the tax value of the intangible assets from this transaction and is amortizing the amount over 15 years for tax purposes. As of July 1, 2022, the Company had $80,102 of goodwill deductible for tax purposes. The revenues and loss before income taxes from Avalex included in the Company's consolidated results for the fiscal year ended July 1, 2022 were $22,993 and $496, respectively.
PENTEK ACQUISITION
On May 27, 2021, the Company acquired Pentek for a purchase price of $65,000, prior to net working capital and net debt adjustments. Based in Upper Saddle River, New Jersey, Pentek is a leading designer and manufacturer of ruggedized, high-performance, commercial off-the-shelf software-defined radio and data acquisition boards, recording systems and subsystems for high-end commercial and defense applications. The acquisition and associated transaction expenses were funded through a combination of cash on hand and Mercury's existing revolver. On October 13, 2021, the Company and former owners of Pentek agreed to post closing adjustments totaling $79, which increased the Company's net purchase price.
The following table presents the net purchase price and the fair values of the assets and liabilities of Pentek:
| | | | | |
| Amounts |
| Consideration transferred | |
| Cash paid at closing | $ | 65,668 | |
| Working capital and net debt adjustment | 79 | |
| Less cash acquired | (746) | |
| Net purchase price | $ | 65,001 | |
| |
| Fair value of tangible assets acquired and liabilities assumed | |
| Cash | 746 | |
| Accounts receivable | 1,352 | |
| Inventory | 6,575 | |
| Fixed assets | 152 | |
| Other current and non-current assets | 2,863 | |
| Accounts payable | (1,016) | |
| Accrued expenses | (545) | |
| Other current and non-current liabilities | (3,873) | |
| Fair value of net tangible assets acquired | 6,254 | |
| Fair value of identifiable intangible assets | 24,110 | |
| Goodwill | 35,383 | |
| Fair value of net assets acquired | 65,747 | |
| Less cash acquired | (746) | |
| Net purchase price | $ | 65,001 | |
On May 27, 2022, the measurement period for Pentek expired. The identifiable intangible assets include customer relationships of $15,560 with a useful life of 21 years, completed technology of $6,340 with a useful life of 7 years and backlog of $2,210 with a useful life of one year.
The goodwill of $35,383 largely reflects the potential synergies and expansion of the Company's offerings across product lines and markets complementary to the Company's existing products and markets. The goodwill from this acquisition is included in the Microelectronics reporting unit. The deal was split between asset and stock, with the asset portion of goodwill being deductible for tax purposes. The Company has estimated the tax value of the intangible assets from this transaction and is amortizing the amount over 15 years for tax purposes. As of July 1, 2022, the Company had $28,038 of goodwill deductible for tax purposes.
PHYSICAL OPTICS CORPORATION ACQUISITION
On December 7, 2020, the Company signed a definitive agreement to acquire POC for a purchase price of $310,000, prior to net working capital and net debt adjustments. On December 30, 2020, the transaction closed and the Company acquired POC. Based in Torrance, California, POC more than doubles the Company's global avionics business and expands its collective footprint in the platform and mission management market. The Company funded the acquisition through a combination of cash on hand and the Revolver. On May 28, 2021 the Company and representative of the former owners of POC agreed to post closing adjustments totaling $2,641, which increased the Company’s net purchase price.
The following table presents the net purchase price and the fair values of the assets and liabilities of POC:
| | | | | |
| Amounts |
| Consideration transferred | |
| Cash paid at closing | $ | 251,229 | |
| Cash paid post closing | 61,626 | |
| Working capital and net debt adjustment | (2,096) | |
| Less cash acquired | (2,855) | |
| Net purchase price | $ | 307,904 | |
| |
| Fair value of tangible assets acquired and liabilities assumed | |
| Cash | $ | 2,855 | |
| Accounts receivable | 31,255 | |
| Inventory | 11,125 | |
| Fixed assets | 23,236 | |
| Other current and non-current assets | 18,173 | |
| Accounts payable | (3,777) | |
| Accrued expenses | (6,266) | |
| Other current and non-current liabilities | (30,107) | |
| Fair value of net tangible assets acquired | 46,494 | |
| Fair value of identifiable intangible assets | 116,000 | |
| Goodwill | 148,265 | |
| Fair value of net assets acquired | 310,759 | |
| Less cash acquired | (2,855) | |
| Net purchase price | $ | 307,904 | |
On December 30, 2021, the measurement period for POC expired. The identifiable intangible assets include customer relationships of $83,000 with a useful life of 11 years, completed technology of $25,000 with a useful life of 9 years and backlog of $8,000 with a useful life of one year.
The goodwill of $148,265 largely reflects the potential synergies and expansion of the Company's offerings across product lines and markets complementary to the Company's existing products and markets and is not deductible for tax purposes. The goodwill from this acquisition is reported in the Processing reporting unit.
D.Fair Value of Financial Instruments
The carrying values of cash and cash equivalents, including money market funds, restricted cash, accounts receivable and payable and accrued liabilities approximate fair value due to the short-term maturities of these assets and liabilities. The Company determined the carrying value of long-term debt approximated fair value due to variable interest rates charged on the borrowings, which reprice frequently. As of July 1, 2022, the Company had no financial instruments required to be measured at fair value.
E.Inventory
Inventory was comprised of the following:
| | | | | | | | | | | |
| | As of |
| | July 1, 2022 | | July 2, 2021 |
| Raw materials | $ | 178,410 | | | $ | 141,774 | |
| Work in process | 64,287 | | | 58,087 | |
| Finished goods | 27,642 | | | 21,779 | |
| Total | $ | 270,339 | | | $ | 221,640 | |
F.Property and Equipment
Property and equipment consisted of the following:
| | | | | | | | | | | | | | | | | |
| | Estimated Useful Lives
(Years) | | As of |
| July 1, 2022 | | July 2, 2021 |
| Computer equipment and software | 3-4 | | $ | 113,930 | | | $ | 99,190 | |
| Furniture and fixtures | 5 | | 19,958 | | | 17,997 | |
| Leasehold improvements | lesser of estimated useful life or lease term | | 66,117 | | | 63,322 | |
| Machinery and equipment | 5-10 | | 117,073 | | | 105,346 | |
| | | | | |
| | | 317,078 | | | 285,855 | |
| Less: accumulated depreciation | | | (189,887) | | | (157,331) | |
| | | $ | 127,191 | | | $ | 128,524 | |
The $1,333 decrease in property and equipment was primarily due to depreciation expense and was partially offset by current year additions. During fiscal 2022 and 2021, the Company retired $805 and $996, respectively, of computer equipment and software, furniture and fixtures, leasehold improvements and machinery and equipment that were no longer in use by the Company.
Depreciation expense related to property and equipment for the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020 was $33,150, $25,912 and $18,770, respectively.
G.Goodwill
During the first quarter of fiscal 2022, the Company announced a companywide effort, called 1MPACT, to lay the foundation for the next phase of the Company's value creation at scale. The Company realigned its internal organizational structure in the first quarter of fiscal 2022 shifting to two divisions, Processing and Microelectronics. The Mission division was merged under the Processing division. There was no change to the Microelectronics division.
The internal reorganization and change in reporting units qualified as a triggering event and required goodwill to be tested for impairment. As required by ASC 350, the Company tested goodwill for impairment immediately before and after the reorganization. As a result of these analyses, it was determined that goodwill was not impaired before or after the reorganization.
In accordance with FASB ASC 350, Intangibles-Goodwill and Other (“ASC 350”), the Company determines its reporting units based upon whether discrete financial information is available, if management regularly reviews the operating results of the component, the nature of the products offered to customers and the market characteristics of each reporting unit. A reporting unit is considered to be an operating segment or one level below an operating segment also known as a component. Component level financial information is reviewed by management across two divisions: Processing and Microelectronics. Accordingly, these were determined to be the Company's new reporting units.
In the first quarter ended October 1, 2021, the Company assigned goodwill to the new reporting units based on the relative fair value of transferred operations.
The following table sets forth the changes in the carrying amount of goodwill for the year ended July 1, 2022:
| | | | | | | | | | | | |
| | | | | | | | Total |
| Balance at July 2, 2021 | | | | | | | | $ | 804,906 | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| Goodwill adjustment for the POC acquisition | | | | | | | | (6,994) | |
| Goodwill adjustment for the Pentek acquisition | | | | | | | | 158 | |
| Goodwill arising from the Avalex acquisition | | | | | | | | 81,705 | |
| Goodwill arising from the Atlanta Micro acquisition | | | | | | | | 58,105 | |
| | | | | | | | |
| Balance at July 1, 2022 | | | | | | | | $ | 937,880 | |
The Company performed its annual goodwill impairment test in the fourth quarter of fiscal 2022 with no impairment noted.
H.Intangible Assets
Intangible assets consisted of the following: | | | | | | | | | | | | | | | | | | | | | | | |
| Gross
Carrying
Amount | | Accumulated
Amortization | | Net
Carrying
Amount | | Weighted
Average
Useful
Life |
| July 1, 2022 | | | | | | | |
| Customer relationships | $ | 349,710 | | | $ | (99,219) | | | $ | 250,491 | | | 12.1 years |
| Licensing agreements and patents | 4,162 | | | (592) | | | 3,570 | | | 5.0 years |
| Completed technologies | 161,023 | | | (68,264) | | | 92,759 | | | 8.5 years |
| Backlog | 7,670 | | | (5,880) | | | 1,790 | | | 1.4 years |
| Other | 3,236 | | | (308) | | | 2,928 | | | 5.0 years |
| $ | 525,801 | | | $ | (174,263) | | | $ | 351,538 | | | |
| July 2, 2021 | | | | | | | |
| Customer relationships | $ | 280,520 | | | $ | (69,474) | | | $ | 211,046 | | | 12.0 years |
| Licensing agreements and patents | 6 | | | — | | | 6 | | | — | |
| Completed technologies | 139,332 | | | (49,126) | | | 90,206 | | | 9.3 years |
| Backlog | 12,410 | | | (6,109) | | | 6,301 | | | 1.2 years |
| $ | 432,268 | | | $ | (124,709) | | | $ | 307,559 | | | |
Estimated future amortization expense for intangible assets remaining at July 1, 2022 is as follows: | | | | | | | | |
| Fiscal Year | | Totals |
| 2023 | | $ | 53,487 | |
| 2024 | | 47,540 | |
| 2025 | | 42,836 | |
| 2026 | | 38,199 | |
| 2027 | | 35,093 | |
| Thereafter | | 132,991 | |
| Total future amortization expense | | $ | 350,146 | |
| Estimated salvage value of identified intangible assets | | 1,392 | |
| Net carrying amount | | $ | 351,538 | |
The following table summarizes the preliminary estimated fair value of acquired intangible assets arising as a result of the Avalex acquisition. These assets are included in the Company's gross and net carrying amounts as of July 1, 2022.
| | | | | | | | | | | | | | | | | | | | | | | |
| Gross
Carrying
Amount | | Accumulated
Amortization | | Net
Carrying
Amount | | Weighted Average
Useful
Life |
| Customer relationships | $ | 41,880 | | | $ | (3,224) | | | $ | 38,656 | | | 9.0 years |
| Completed technologies | 14,430 | | | (1,374) | | | 13,056 | | | 7.0 years |
| Backlog | 5,050 | | | (3,366) | | | 1,684 | | | 1.0 year |
| $ | 61,360 | | | $ | (7,964) | | | $ | 53,396 | | | |
The following table summarizes the preliminary estimated fair value of acquired intangible assets arising as a result of the Atlanta Micro acquisition. These assets are included in the Company's gross and net carrying amounts as of July 1, 2022.
| | | | | | | | | | | | | | | | | | | | | | | |
| Gross
Carrying
Amount | | Accumulated
Amortization | | Net
Carrying
Amount | | Weighted Average
Useful
Life |
| Customer relationships | $ | 27,310 | | | $ | (797) | | | $ | 26,513 | | | 20.0 years |
| Completed technologies | 7,260 | | | (528) | | | 6,732 | | | 8.0 years |
| Backlog | 410 | | | (120) | | | 290 | | | 2.0 years |
| $ | 34,980 | | | $ | (1,445) | | | $ | 33,535 | | | |
I.Restructuring
During fiscal 2022, the Company incurred $27,445 of restructuring and other charges. The Company incurs restructuring and other charges in connection with management's decision to undertake certain actions to realign operating expenses through workforce reductions and the closure of certain Company facilities, businesses and product lines. The Company's adjustments reflected in restructuring and other charges are typically related to acquisitions and organizational redesign programs initiated as part of discrete post acquisition integration activities.
Consistent with the Company's definition of restructuring and other charges, 1MPACT is an organizational redesign program initiated on the heels of a series of acquisitions since 2014 rather than a single, discrete acquisition. Since its inception, the Company has selectively engaged with leading consultants to accelerate solution design & implementation for the highest value workstreams. These costs are associated with this discrete transformation initiative and are non-routine and may not be indicative of ongoing results.
Restructuring and other charges primarily related to 1MPACT including $17,424 of third-party consulting costs, as well as $9,234 of severance costs associated with the elimination of approximately 135 positions across manufacturing, SG&A and R&D based on ongoing talent and workforce optimization efforts. Fiscal 2022 also includes $787 of costs for facility optimization efforts associated with 1MPACT, including $544 related to lease asset impairment.
During fiscal 2021, the Company incurred $9,222 of restructuring and other charges. Restructuring and other charges primarily related to $4,752 related to severance costs associated with the elimination of approximately 90 positions throughout the period, predominantly in manufacturing, SG&A and R&D. These charges are related to changing market and business conditions as well as talent shifts and resource redundancy from the Company's internal reorganization that was completed during fiscal 2021. The remaining $4,470 of restructuring and other charges related to third-party consulting costs related to 1MPACT.
During fiscal 2020, the Company incurred $1,805 of restructuring and other charges primarily related to severance costs associated with the elimination of 20 positions, predominantly in SG&A and R&D functions.
All of the restructuring and other charges are classified as Operating expenses in the Consolidated Statements of Operations and Comprehensive Income and any remaining severance obligations are expected to be paid within the next twelve months. The restructuring liability is classified as Accrued expenses in the Consolidated Balance Sheets.
The following table presents the detail of charges included in the Company’s liability for restructuring and other charges: | | | | | | | | | | | | | | | | | | | | |
| Severance | | Facilities & Other | | Total | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| Restructuring liability at July 3, 2020 | $ | 597 | | | $ | — | | | $ | 597 | | | | |
| Restructuring charges | 4,752 | | | — | | | 4,752 | | | | |
| | | | | | | | |
| Cash paid | (4,343) | | | — | | | (4,343) | | | | |
| | | | | | | | |
| | | | | | | | |
| Restructuring liability at July 2, 2021 | 1,006 | | | — | | | 1,006 | | | | |
| Restructuring charges | 9,234 | | | 243 | | | 9,477 | | | | |
| Cash paid | (5,518) | | | (243) | | | (5,761) | | | | |
| | | | | | | | |
| | | | | | | | |
| Restructuring liability at July 1, 2022 | $ | 4,722 | | | $ | — | | | $ | 4,722 | | | | |
J.Leases
The Company enters into lease arrangements to facilitate its operations, including manufacturing, storage, as well as engineering, sales, marketing and administration resources. The Company measures its lease obligations in accordance with ASC 842, which requires lessees to record a ROU asset and lease liability for most lease arrangements. The Company adopted ASC 842 as of July 1, 2019 using the optional transition method and, as a result, there have been no reclassifications of prior comparable periods due to this adoption. Finance leases are not material to the Company's consolidated financial statements and therefore are excluded from the following disclosures.
SUPPLEMENTAL BALANCE SHEET INFORMATION
Supplemental operating lease balance sheet information is summarized as follows:
| | | | | | | | | | | | | | |
| | As of | | As of |
| | July 1, 2022 | | July 2, 2021 |
| Operating lease right-of-use assets, net | | $ | 66,366 | | | $ | 66,373 | |
| | | | |
Accrued expenses(1) | | $ | 11,246 | | | $ | 10,020 | |
| Operating lease liabilities | | 69,888 | | | 71,508 | |
| Total operating lease liabilities | | $ | 81,134 | | | $ | 81,528 | |
(1) The short term portion of the Operating lease liabilities is included within Accrued expenses on the Consolidated Balance Sheet.
OTHER SUPPLEMENTAL INFORMATION
Other supplemental operating lease information is summarized as follows:
| | | | | | | | | | | | | | |
| | For the Fiscal Year Ended | | For the Fiscal Year Ended |
| | July 1, 2022 | | July 2, 2021 |
Cash paid for amounts included in the measurement of operating lease liabilities
| | $ | 11,119 | | | $ | 7,923 | |
Right-of-use assets obtained in exchange for new lease liabilities
| | $ | 10,502 | | | $ | 15,076 | |
| Weighted average remaining lease term | | 7.6 years | | 8.2 years |
| Weighted average discount rate | | 4.58 | % | | 4.66 | % |
| | | | |
MATURITIES OF LEASE COMMITMENTS
Maturities of operating lease commitments as of July 1, 2022 were as follows:
| | | | | | | | |
| Fiscal Year | | Totals |
| 2023 | | $ | 14,757 | |
| 2024 | | 13,696 | |
| 2025 | | 13,142 | |
| 2026 | | 11,127 | |
| 2027 | | 10,467 | |
| Thereafter | | 34,315 | |
| Total lease payments | | 97,504 | |
| Less: imputed interest | | (16,370) | |
| | |
| Present value of operating lease liabilities | | $ | 81,134 | |
As previously disclosed in the Company's Annual Report on Form 10-K for the fiscal year ended July 2, 2021, maturities of operating lease commitments were as follows:
| | | | | | | | |
| Fiscal Year | | Totals |
| 2022 | | $ | 13,626 | |
| 2023 | | 12,997 | |
| 2024 | | 12,137 | |
| 2025 | | 11,571 | |
| 2026 | | 9,682 | |
| Thereafter | | 40,017 | |
| Total lease payments | | 100,030 | |
| Less: imputed interest | | (18,502) | |
| Present value of operating lease liabilities | | $ | 81,528 | |
During fiscal 2022, 2021 and 2020 the Company recognized operating lease expense of $14,332, $11,714 and $10,029 respectively. There were no material restrictions, covenants, sale and leaseback transactions, variable lease payments or residual value guarantees imposed by the Company's leases at July 1, 2022.
K.Income Taxes
The components of income before income taxes and income tax provision (benefit) were as follows: | | | | | | | | | | | | | | | | | |
| | Fiscal Years |
| | 2022 | | 2021 | | 2020 |
| Income (loss) before income taxes: | | | | | |
| United States | $ | 24,286 | | | $ | 85,101 | | | $ | 93,388 | |
| Foreign | (5,891) | | | (7,928) | | | 545 | |
| $ | 18,395 | | | $ | 77,173 | | | $ | 93,933 | |
| Tax provision (benefit): | | | | | |
| Federal: | | | | | |
| Current | $ | 3,857 | | | $ | 12,157 | | | $ | 8,442 | |
| Deferred | (230) | | | (995) | | | (1,077) | |
| 3,627 | | | 11,162 | | | 7,365 | |
| State: | | | | | |
| Current | 3,626 | | | 6,271 | | | 3,407 | |
| Deferred | (2,721) | | | (2,689) | | | (2,327) | |
| 905 | | | 3,582 | | | 1,080 | |
| Foreign: | | | | | |
| Current | 2,535 | | | 435 | | | 475 | |
| Deferred | 53 | | | (50) | | | (699) | |
| 2,588 | | | 385 | | | (224) | |
| $ | 7,120 | | | $ | 15,129 | | | $ | 8,221 | |
The following is the reconciliation between the statutory Federal income tax rate and the Company’s effective income tax rate:
| | | | | | | | | | | | | | | | | |
| | Fiscal Years |
| | 2022 | | 2021 | | 2020 |
| Tax provision at federal statutory rates | 21.0 | % | | 21.0 | % | | 21.0 | % |
| State income tax, net of federal tax benefit | 8.1 | | | 6.7 | | | 6.1 | |
| Research and development tax credits | (39.5) | | | (10.9) | | | (11.9) | |
| Provision to return | 10.3 | | | (1.3) | | | (3.1) | |
| | | | | |
| Excess tax provision (benefit) related to stock compensation | 5.3 | | | (3.7) | | | (7.7) | |
| | | | | |
| | | | | |
| | | | | |
| Foreign income tax rate differential | 2.3 | | | 0.9 | | | 0.1 | |
| Non-deductible compensation | 20.9 | | | 3.6 | | | 2.6 | |
| | | | | |
| | | | | |
| | | | | |
| Acquisition costs | 1.2 | | | 0.4 | | | — | |
| Reserves for unrecognized income tax benefits | 5.4 | | | 1.3 | | | 3.0 | |
| Tax rate changes | — | | | — | | | (0.5) | |
| | | | | |
| Valuation allowance | 4.3 | | | 1.9 | | | — | |
| Other | (0.6) | | | (0.3) | | | (0.8) | |
| 38.7 | % | | 19.6 | % | | 8.8 | % |
| | | | | |
| | | | | |
| | | | | |
The effective tax rate for fiscal 2022 differed from the Federal statutory rate primarily due to additional tax provisions for non-deductible compensation, provision to return adjustments, state taxes and excess tax provisions related to stock compensation, partially offset by benefits related to research and development tax credits.
The effective tax rate for fiscal 2021 differed from the Federal statutory rate primarily due to benefits related to research and development tax credits and excess tax benefits related to stock compensation, partially offset by additional tax provisions related to state taxes and non-deductible compensation.
During fiscal 2022, 2021 and 2020 the Company recognized a tax provision (benefit) of $977, $(2,831) and $(7,259) related to stock compensation, respectively.
In fiscal 2022, the Company recorded a provision to return adjustment of $2,308 related to an immaterial correction of an error over transfer pricing allocations. The Company concluded that the impact of the correction was neither quantitatively nor qualitatively material to its Consolidated Balance Sheets or Statement of Operations and Comprehensive Income for fiscal 2022, nor to the impacted prior periods.
The components of the Company’s net deferred tax liabilities were as follows:
| | | | | | | | | | | |
| | As of |
| | July 1, 2022 | | July 2, 2021 |
| Deferred tax assets: | | | |
| Inventory valuation and receivable allowances | 17,248 | | | 15,039 | |
| Accrued compensation | 5,970 | | | 5,421 | |
| Stock compensation | 6,154 | | | 4,548 | |
| Federal and state tax credit carryforwards | 20,294 | | | 17,405 | |
| | | |
| Other accruals | 1,503 | | | 994 | |
| Deferred compensation | 930 | | | 930 | |
| | | |
Acquired net operating loss carryforward
| 5,275 | | | 10,487 | |
| Foreign net operating loss carryforward | 1,859 | | | 1,703 | |
| Operating lease liabilities | 21,988 | | | 21,889 | |
| Deferred revenue | 743 | | | 2,899 | |
| | | |
| Other | 307 | | | 734 | |
| 82,271 | | | 82,049 | |
| Valuation allowance | (15,349) | | | (15,257) | |
| Total deferred tax assets | 66,922 | | | 66,792 | |
| Deferred tax liabilities: | | | |
| Prepaid expenses | (1,815) | | | (984) | |
| Property and equipment | (19,766) | | | (17,734) | |
| Intangible assets | (59,628) | | | (58,839) | |
| Operating lease right-of-use assets | (17,985) | | | (17,987) | |
| Other | (126) | | | (58) | |
| Total deferred tax liabilities | (99,320) | | | (95,602) | |
| Net deferred tax liabilities | $ | (32,398) | | | $ | (28,810) | |
| | | |
| As reported: | | | |
| | | |
| | | |
| Deferred tax liabilities | $ | (32,398) | | | $ | (28,810) | |
| $ | (32,398) | | | $ | (28,810) | |
At July 1, 2022, the Company evaluated the need for a valuation allowance on deferred tax assets. In assessing whether the deferred tax assets are realizable, management considered 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 Company's past and recent operating performance and results, future taxable income including the reversal of existing deferred tax liabilities and tax planning strategies. The Company continues to conclude that its net deferred tax assets in Switzerland are not more likely than not to be realized, and as such, continues to maintain a valuation allowance on such net deferred tax assets. The Company also continues to conclude that certain state research and development tax credits carryforwards are not more likely than not to be realized, and as such, continues to maintain a valuation allowance on these carryforwards. The Company continues to conclude that all other deferred tax assets are more likely than not to be realized. Any future changes in the valuation allowance will impact the Company's income tax provision.
The Company has state research and development tax credit carryforwards of $18,771, which will expire starting in fiscal year 2022 through fiscal year 2037.
The Company has acquired Federal net operating loss carryforwards of $6,453, which have an unlimited carryforward period. The Company has acquired state net operating loss carryforwards of $61,379, which will expire in fiscal year 2040. The
Company has foreign net operating loss carryforwards of $12,723, which will expire starting in fiscal year 2028 through fiscal year 2042. The Company maintains a valuation allowance on the majority of the foreign net operating loss carryforward.
The Company is subject to taxation in the U.S. (Federal and state) and various foreign jurisdictions that it operates in. The Company has established income tax reserves for potential additional income taxes based upon management’s assessment, including recognition and measurement. All income tax reserves are analyzed quarterly and adjustments are made as events occur and warrant modification.
The changes in the Company’s income tax reserves for gross unrecognized income tax benefits, including interest and penalties, are summarized as follows:
| | | | | | | | | | | |
| | Fiscal Years |
| | 2022 | | 2021 |
| Unrecognized tax benefits, beginning of period | $ | 7,467 | | | $ | 4,117 | |
| Increases for tax positions taken related to a prior period | 160 | | | 113 | |
| Increases for tax positions taken during the current period | 990 | | | 917 | |
| Increases for tax positions taken by an acquired company | 615 | | | 2,348 | |
| Decreases for tax positions taken related to a prior period | — | | | (27) | |
| Decreases for tax positions taken during current period | — | | | — | |
| Decreases for settlements of previously recognized positions | (92) | | | — | |
| Decreases as a result of a lapse of the applicable statute of limitations | (28) | | | (1) | |
| | | |
| | | |
| Unrecognized tax benefits, end of period | $ | 9,112 | | | $ | 7,467 | |
| | | |
| | | |
| | | |
| | | |
The Company is currently under audit by the Internal Revenue Service for fiscal years 2016 through 2018. It is reasonably possible that within the next 12 months the Company’s unrecognized tax benefits, exclusive of interest, may decrease by up to $2,061 at the conclusion of the audit.
The $9,112 of unrecognized tax benefits as of July 1, 2022, if released, would reduce income tax provision.
The Company includes interest and penalties related to unrecognized tax benefits within the provision for income taxes. The total amount of gross interest and penalties accrued was $488 and $315 as of July 1, 2022 and July 2, 2021, respectively, and the amount of interest and penalties recognized in fiscal 2022, 2021 and 2020 was $172, $139 and $91, respectively.
The Company’s major tax jurisdiction is the U.S. (Federal and state) and the open tax years are fiscal 2016 through 2022.
L.Commitments and Contingencies
LEGAL CLAIMS
The Company is subject to litigation, claims, investigations and audits arising from time to time in the ordinary course of business. Although legal proceedings are inherently unpredictable, the Company believes that it has valid defenses with respect to any matters currently pending against the Company and intends to defend itself vigorously. The outcome of these matters, individually and in the aggregate, is not expected to have a material impact on the Company's cash flows, results of operations, or financial position.
On June 23, 2021, Embedded Reps of America, LLC (“ERA”), a former sales representative, and James Mazzola, a principal of ERA, filed for binding arbitration related to the termination of ERA’s sales representative agreement raising multiple claims that aggregate to approximately $9,000 in direct damages, with treble damages requested on a number of those claims. ERA was a sales representative of Themis when Themis was acquired by Mercury. The sales representative agreement provided for termination by either party upon 30 days written notice with ERA entitled to commissions for orders obtained by ERA with product shipment occurring prior to termination. The Company responded to the complaint in July 2021 and the arbitration proceeding has been scheduled for September 2022. The Company believes the claims in the complaint are without merit and intends to defend itself vigorously.
On December 7, 2021, counsel for National Technical Systems, Inc. (“NTS”) sent the Company an environmental demand letter pursuant to Massachusetts General Laws Chapter 21E, Section 4A, and CERCLA 42 U.S.C. Section 9601, related to a site that NTS formerly owned at 533 Main Street, Acton, Massachusetts. NTS received a Notice of Responsibility from the Massachusetts Department of Environmental Protection (“MassDEP”) alleging trichloroethene, freon and 1,4-dioxane contamination in the groundwater emanating from NTS’s former site. NTS alleges in its demand letter that the operations of a predecessor company to Mercury that was acquired in the Company’s acquisition of the Microsemi carve-out business that once owned and operated a facility at 531 Main Street, Acton, Massachusetts contributed to the groundwater contamination. NTS is seeking payment by the Company of NTS’s costs for any required environmental remediation. In April 2022, the Company
engaged in a meet and confer session with NTS pursuant to Massachusetts General Laws Chapter 21E, Section 4A to discuss the status of the environmental review performed by NTS and its licensed site professional. In addition in November 2021, the Company responded to a request for information from MassDEP regarding the detection of PFAS (per- and polyfluoroakyl substances) in the Acton, Massachusetts Water District’s Conant public water supply wells near the former facility at 531 Main Street, Acton, Massachusetts at a level above the standard that MassDEP published for PFAS in October 2020. It is too early to determine what responsibility, if any, the Company may have for these matters.
INDEMNIFICATION OBLIGATIONS
The Company's standard product sales and license agreements entered into in the ordinary course of business typically contain an indemnification provision pursuant to which the Company indemnifies, holds harmless and agrees to reimburse the indemnified party for losses suffered or incurred by the indemnified party in connection with any patent, copyright or other intellectual property infringement claim by any third party with respect to the Company's products. Such provisions generally survive termination or expiration of the agreements. The potential amount of future payments the Company could be required to make under these indemnification provisions is, in some instances, unlimited.
PURCHASE COMMITMENTS
As of July 1, 2022, the Company has entered into non-cancelable purchase commitments for certain inventory components and services used in its normal operations. The purchase commitments covered by these agreements are for less than one year and aggregate to $153,729.
OTHER
As part of the Company's strategy for growth, the Company continues to explore acquisitions or strategic alliances. The associated acquisition costs incurred in the form of professional fees and services may be material to the future periods in which they occur, regardless of whether the acquisition is ultimately completed.
The Company may elect from time to time to purchase and subsequently retire shares of common stock in order to settle an individual employees’ tax liability associated with vesting of a restricted stock award or exercise of stock options. These transactions are treated as a use of cash in financing activities in the Company's Statements of Cash Flows.
M.Debt
Revolving Credit Facilities
On February 28, 2022, the Company amended the Revolver to increase and extend the borrowing capacity to a $1,100,000, 5-year revolving credit line, with the maturity extended to February 28, 2027. As of July 1, 2022, the Company's outstanding balance of unamortized deferred financing costs was $4,386, which is being amortized to Other (expense) income, net in the Consolidated Statements of Operations and Comprehensive Income on a straight line basis over the term of the Revolver.
Maturity
The Revolver has a 5-year maturity and will mature on February 28, 2027.
Interest Rates and Fees
Borrowings under the Revolver bear interest, at the Company’s option, at floating rates tied to Secured Overnight Financing Rate ("SOFR") or the prime rate plus an applicable percentage in the case of dollar denominated loans or, in the case of certain other currencies, such alternative floating rates as agreed. The interest rate applicable to outstanding loans has initially been set at SOFR plus 1.25% and in future fiscal quarters will be established pursuant to a pricing grid based on the Company’s total net leverage ratio.
In addition to interest on the aggregate outstanding principal amounts of any borrowings, the Company will also pay a quarterly commitment fee on the unutilized commitments under the Revolver, which fee has initially been set at 0.20% per annum and in future fiscal quarters will be established pursuant to a pricing grid based on the Company’s total net leverage ratio. The Company will also pay customary letter of credit and agency fees.
Covenants and Events of Default
The Revolver provides for customary negative covenants, including, among other things and subject to certain significant exceptions, restrictions on the incurrence of debt or guarantees, the creation of liens, the making of certain investments, loans and acquisitions, mergers and dissolutions, the sale of assets including capital stock of subsidiaries, the payment of dividends, the repayment or amending of junior debt, altering the business conducted, engaging in transactions with affiliates and entering
into agreements limiting subsidiary dividends and distributions. The Revolver also requires the Company to comply with certain financial covenants, including a quarterly minimum consolidated cash interest charge ratio test and a quarterly maximum consolidated total net leverage ratio test.
The Revolver also provides for customary representations and warranties, affirmative covenants and events of default (including, among others, the failure to make required payments of principal and interest, certain insolvency events and an event of default upon a change of control). If an event of default occurs, the lenders under the Revolver will be entitled to take various actions, including the termination of unutilized commitments, the acceleration of amounts outstanding under the Revolver and all actions permitted to be taken by a secured creditor.
Guarantees and Security
The Company’s obligations under the Revolver are guaranteed by certain of the Company’s material domestic wholly-owned restricted subsidiaries (the “Guarantors”). The obligations of both the Company and the Guarantors are secured by a perfected security interest in substantially all of the assets of the Company and the Guarantors, in each case, now owned or later acquired, including a pledge of all of the capital stock of substantially all of the Company’s domestic wholly-owned restricted subsidiaries and 65% of the capital stock of certain of its foreign restricted subsidiaries, subject in each case to the exclusion of certain assets and additional exceptions.
As of July 1, 2022, the Company was in compliance with all covenants and conditions under the Revolver and there were outstanding borrowings of $451,500 against the Revolver as compared to $200,000 for the fiscal year ended July 2, 2021, resulting in interest expense of $5,806 and $1,222 for fiscal years ended July 1, 2022 and July 2, 2021, respectively. There were outstanding letters of credit of $963 as of July 1, 2022.
N.Employee Benefit Plans
Pension Plan
The Company maintains a pension plan (the “Plan”) for its Swiss employees, which is administered by an independent pension fund. The Plan is mandated by Swiss law and meets the criteria for a defined benefit plan under ASC 715, Compensation—Retirement Benefits (“ASC 715”), since participants of the Plan are entitled to a defined rate of return on contributions made. The independent pension fund is a multi-employer plan with unrestricted joint liability for all participating companies for which the Plan’s overfunding or underfunding is allocated to each participating company based on an allocation key determined by the Plan.
The Company recognizes a net asset or liability for the Plan equal to the difference between the projected benefit obligation of the Plan and the fair value of the Plan’s assets as required by ASC 715. The funded status may vary from year to year due to changes in the fair value of the Plan’s assets and variations on the underlying assumptions of the projected benefit obligation of the Plan.
In fiscal 2021, the independent pension fund changed the conversion rate for accumulated retirement savings leading to a Plan amendment. The Company’s results contain the effects of this change in conversion rates by the independent pension fund as prior service costs. These prior service costs are amortized from AOCI to net periodic benefit costs over approximately nine years.
At July 1, 2022, the accumulated benefit obligation of the Plan equals the fair value of the Plan's assets. The Plan's funded status at July 1, 2022 and July 2, 2021 was a net liability of $4,660 and $9,807, respectively, which is recorded in Other non-current liabilities on the Consolidated Balance Sheets. The Company recorded a net gain of $4,739 and $3,285 in AOCI during the fiscal years ended July 1, 2022 and July 2, 2021, respectively. Total employer contributions to the Plan were $1,056 during the year ended July 1, 2022, and the Company's total expected employer contributions to the Plan during fiscal 2023 are $1,093.
The following table reflects the total pension benefits expected to be paid from the Plan, which is funded from contributions by participants and the Company.
| | | | | | | | |
| Fiscal Year | | Total |
| 2023 | | $ | 1,454 | |
| 2024 | | 1,539 | |
| 2025 | | 1,535 | |
| 2026 | | 1,506 | |
| 2027 | | 1,324 | |
| Thereafter (next 5 years) | | 8,105 | |
| Total | | $ | 15,463 | |
The following table outlines the components of net periodic benefit cost of the Plan for the fiscal years ended July 1, 2022 and July 2, 2021:
| | | | | | | | | | | |
| Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 |
| Service cost | $ | 1,405 | | | $ | 1,708 | |
| Interest cost | 83 | | | 92 | |
| Expected return on assets | (272) | | | (277) | |
| Amortization of prior service cost | (190) | | | (64) | |
| Amortization net of loss | 5 | | | 185 | |
| Settlement loss recognized | — | | | 318 | |
| Net periodic benefit cost | $ | 1,031 | | | $ | 1,962 | |
| | | |
The following table reflects the related actuarial assumptions used to determine net periodic benefit cost of the Plan for the fiscal years ended July 1, 2022 and July 2, 2021:
| | | | | | | | | | | |
| Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 |
| Discount rate | 1.70 | % | | 0.30 | % |
| Expected rate of return on Plan assets | 1.70 | % | | 1.50 | % |
| Expected inflation | 1.00 | % | | 1.00 | % |
| Rate of compensation increases | 1.50 | % | | 1.50 | % |
The calculation of the projected benefit obligation (“PBO”) utilized BVG 2020 Generational data for assumptions related to the mortality rates, disability rates, turnover rates and early retirement ages.
The PBO represents the present value of Plan benefits earned through the end of the year, with an allowance for future salary and pension increases as well as turnover rates. The following table presents the change in projected benefit obligation for the periods presented:
| | | | | | | | | | | |
| Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 |
| Projected benefit obligation, beginning | $ | 28,614 | | | $ | 29,955 | |
| Service cost | 1,405 | | | 1,708 | |
| Interest cost | 83 | | | 92 | |
| | | |
| Employee contributions | 2,606 | | | 2,145 | |
| Actuarial (gain) loss | (4,720) | | | (1,345) | |
| Benefits paid | (1,444) | | | (256) | |
| Plan amendment | — | | | (1,247) | |
| Settlements | — | | | (3,129) | |
| Foreign exchange (loss) gain | (1,035) | | | 691 | |
| Projected benefit obligation at end of year | $ | 25,509 | | | $ | 28,614 | |
The following table presents the change in Plan assets for the periods presented:
| | | | | | | | | | | |
| Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 |
| Fair value of Plan assets, beginning | $ | 18,807 | | | $ | 18,078 | |
| Actual return on Plan assets | 514 | | | 474 | |
| Company contributions | 1,056 | | | 1,080 | |
| | | |
| Employee contributions | 2,606 | | | 2,145 | |
| Benefits paid | (1,444) | | | (256) | |
| Settlements | — | | | (3,129) | |
| Foreign exchange (loss) gain | (690) | | | 415 | |
| Fair value of Plan assets at end of year | $ | 20,849 | | | $ | 18,807 | |
The following table presents the Company's reconciliation of funded status for the period presented:
| | | | | | | | | | | |
| As of |
| July 1, 2022 | | July 2, 2021 |
| Projected benefit obligation at end of year | $ | 25,509 | | | $ | 28,614 | |
| Fair value of plan assets at end of year | 20,849 | | | 18,807 | |
| Funded status | $ | (4,660) | | | $ | (9,807) | |
The fair value of Plan assets were $20,849 at July 1, 2022. The Plan is denominated in a foreign currency, the Swiss Franc, which can have an impact on the fair value of Plan assets. The Plan was not subject to material fluctuations during the years ended July 1, 2022 or July 2, 2021. The Plan’s assets are administered by an independent pension fund foundation (the “foundation”). As of July 1, 2022, the foundation has invested the assets of the Plan in various investments vehicles, including cash, real estate, equity securities and bonds. The investments are measured at fair value using a mix of Level 1, Level 2 and Level 3 inputs.
401(k) Plan
The Company maintains a qualified 401(k) plan (the “401(k) Plan”) for its U.S. employees. During fiscal years 2022, 2021 and 2020, the Company matched employee contributions up to 3% of eligible compensation. The Company may also make optional contributions to the plan for any plan year at its discretion. Expense recognized by the Company for matching contributions related to the 401(k) plan was $7,603, $7,876 and $5,954 during the fiscal years ended July 1, 2022, July 2, 2021 and July 3, 2020, respectively.
O.Shareholders’ Equity
PREFERRED STOCK
The Company is authorized to issue 1,000 shares of preferred stock with a par value of $0.01 per share.
SHELF REGISTRATION STATEMENT
On September 14, 2020, the Company filed a shelf registration statement on Form S-3ASR with the SEC. The shelf registration statement, which was effective upon filing with the SEC, registered each of the following securities: debt securities; preferred stock; common stock; warrants; and units. The Company has an unlimited amount available under the shelf registration statement.
STOCKHOLDER RIGHTS PLAN
On December 27, 2021, the Company's Board of Directors authorized and declared a dividend of one preferred share purchase right (a “Right”), payable on January 10, 2022, for each outstanding share of common stock par value $0.01 per share to the stockholders of record on that date. Each Right entitles the registered holder to purchase from the Company a unit of Series A Junior Preferred Stock, par value $0.01 per share, of the Company at a designated price per unit, subject to adjustment. The Rights will initially trade with, and will be inseparable from, the shares of common stock.
The Rights will generally become exercisable if any person or group, other than certain exempt persons, acquires beneficial ownership of 7.5% (or 10% in the case of certain passive investors) or more of common stock outstanding (an “Acquiring Person”). If a person or group becomes an Acquiring Person, then each Right, other than those held by the Acquiring Person, will entitle its holder to purchase units of Series A Junior Preferred Stock (or, in certain circumstances, cash, assets or other securities of the Company) having a market value equal to twice the then-current market price per unit of Preferred Stock. In certain other circumstances including consolidation or merger with the Company, each Right, other than those held by the Acquiring Person, will entitle its holder to receive common stock of the person acquiring the Company or its ultimate parent entity, as applicable, having a value equal to two times then-current market price per share of common stock.
Each Unit of Preferred Stock, if issued:
• will entitle holders to certain dividend and liquidation payments;
• will not be redeemable;
• will entitle holders to one vote, voting together with shares of common stock;
• will entitle holders, if shares of common stock are exchanged via merger, consolidation, or a similar transaction, to a per share payment equal to the payment made on one share of Company Common Stock; and
• will be protected by customary anti-dilution provisions with respect to dividends, liquidation and voting rights and in the event of mergers and consolidations.
On June 24, 2022, the Company amended the Rights Agreement, dated as of December 27, 2021, to increase the ownership threshold for a person to be an “Acquiring Person” (as defined in the Rights Agreement) from 7.5% of common stock to 10% of common stock (10% of common stock to 20% of common stock in the case of a passive institutional investor).
Following this amendment, the Rights Agreement will now expire no later than the 2022 Annual Meeting, or unless earlier redeemed or terminated by the Company's Board of Directors, as provided in the Rights Agreement. The Board of Directors shall have the right to adjust, among other things, the exercise price, as well as the number of Units of Preferred Stock issuable and the number of outstanding Rights to prevent dilution that may occur from a share dividend, a share split, or a reclassification of the Preferred Stock. The Rights have no voting or dividend privileges, and unless and until they become exercisable, have no dilutive effect on the earnings of the Company.
Additional details about the Rights Agreement are contained in the Current Report on Form 8-K filed by the Company with the SEC on December 29, 2021 and June 24, 2022.
P.Stock-Based Compensation
STOCK INCENTIVE PLANS
The Board of Directors approved the Company’s 2018 Stock Incentive Plan (the “2018 Plan”) on July 23, 2018. The 2018 Plan became effective upon the approval of shareholders at the Company’s annual meeting held on October 24, 2018. The aggregate number of shares authorized for issuance under the 2018 Plan is 6,782 shares, with an additional 710 shares rolled into the 2018 Plan that were available for future grant under the Company’s 2005 Stock Incentive Plan, as amended and restated (the “2005 Plan”) and 3,000 shares approved by the Company's shareholders on October 28, 2020. The 2018 Plan
replaced the 2005 Plan. The shares authorized for issuance under the 2018 Plan will continue to be increased by any future cancellations, forfeitures or terminations (other than by exercise) of awards under the 2005 Plan. The foregoing does not affect any outstanding awards under the 2005 Plan, which remain in full force and effect in accordance with their terms. The 2018 Plan provides for the grant of non-qualified and incentive stock options, restricted stock, stock appreciation rights and deferred stock awards to employees and non-employees. There were 192 shares available for future grant under the 2018 Plan at July 1, 2022.
As part of the Company's ongoing annual equity grant program for employees, the Company grants performance-based restricted stock awards to certain executives and employees pursuant to the 2018 Plan. Performance awards vest based on the requisite service period subject to the achievement of specific financial performance targets. Based on the performance targets, some of these awards require graded vesting which results in more rapid expense recognition compared to traditional time-based vesting over the same vesting period. The Company monitors the probability of achieving the performance targets on a quarterly basis and may adjust periodic stock compensation expense accordingly based on its determination of the likelihood for reaching targets. The performance targets generally include the achievement of internal performance targets in relation to a peer group of companies.
On February 7, 2022, the Company’s Board of Directors approved an equity retention plan at the recommendation of the Company’s Human Capital and Compensation Committee, after consultation with its independent compensation consultant. Employees participating in the equity retention plan were granted their annual equity awards for fiscal 2023 on February 15, 2022, which is approximately six months earlier than the Company’s typical annual cycle for such grants. The plan is intended to encourage leaders to remain focused on the mission and drive long-term performance, to retain the recipients in the current challenging industry environment and labor market, and to reinforce the alignment of the recipients’ interests with the Company’s shareholders.
On February 15, 2022, the Human Capital and Compensation Committee expanded the scope of the equity retention plan by approving a pool of restricted stock unit awards for non-executive employees. These awards were intended to recognize the recipients’ substantial contributions, to retain and motivate the recipients in the current challenging industry environment and labor market and to reinforce the alignment of the recipients’ interests with the Company’s shareholders. The vesting of such awards was conditioned on shareholder approval of sufficient additional shares for the 2018 Plan for the Company to deliver the shares to satisfy the awards, and with awards expiring on the seventh anniversary of the grant date if shareholder approval is not obtained prior to such date.
EMPLOYEE STOCK PURCHASE PLAN
The number of shares authorized for issuance under the Company’s 1997 Employee Stock Purchase Plan, as amended and restated (“ESPP”), is 2,300 shares, including 500 shares approved by the Company's shareholders on October 28, 2020. Under the ESPP, rights are granted to purchase shares of common stock at 85% of the lesser of the market value of such shares at either the beginning or the end of each six-month offering period. The ESPP permits employees to purchase common stock through payroll deductions, which may not exceed 10% of an employee’s compensation as defined in the ESPP. The number of shares issued under the ESPP during fiscal years 2022, 2021 and 2020 was 115, 101 and 89, respectively. Shares available for future purchase under the ESPP totaled 313 at July 1, 2022.
STOCK AWARD ACTIVITY
The following table summarizes the status of the Company’s non-vested restricted stock awards since July 3, 2020:
| | | | | | | | | | | |
| | Non-Vested Restricted Stock Awards |
| | Number of
Shares | | Weighted Average
Grant Date
Fair Value |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| Outstanding at July 3, 2020 | 957 | | | $ | 61.59 | |
| Granted | 570 | | | 76.03 | |
| Vested | (436) | | | 53.08 | |
| Forfeited | (78) | | | 69.54 | |
| Outstanding at July 2, 2021 | 1,013 | | | $ | 70.77 | |
| Granted | 1,993 | | | 52.70 | |
| Vested | (477) | | | 61.42 | |
| Forfeited | (224) | | | 66.66 | |
| Outstanding at July 1, 2022 | 2,305 | | | $ | 57.47 | |
The total fair value of restricted stock awards vested during fiscal years 2022, 2021 and 2020 was $25,533, $34,342 and $46,089, respectively.
Non-vested restricted stock awards are subject to the risk of forfeiture until the fulfillment of specified conditions. As of July 1, 2022, there was $89,183 of total unrecognized compensation cost related to non-vested restricted stock awards granted under the Company’s stock plans that is expected to be recognized over a weighted-average period of 2.6 years from July 1, 2022. As of July 2, 2021, there was $48,629 of total unrecognized compensation cost related to non-vested restricted stock awards granted under the Company’s stock plans that is expected to be recognized over a weighted-average period of 2.4 years from July 2, 2021.
STOCK-BASED COMPENSATION EXPENSE
The Company recognizes expense for its share-based payment plans in the Consolidated Statements of Operations and Comprehensive Income in accordance with ASC 718. The Company had $1,229 and $796 of capitalized stock-based compensation expense on the Consolidated Balance Sheets as of July 1, 2022 and July 2, 2021, respectively. Under the fair value recognition provisions of ASC 718, stock-based compensation cost is measured at the grant date based on the value of the award and is recognized as expense over the service period. The following table presents share-based compensation expenses from continuing operations included in the Company’s Consolidated Statements of Operations and Comprehensive Income: | | | | | | | | | | | | | | | | | |
| | Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 | | July 3, 2020 |
| Cost of revenues | $ | 2,161 | | | $ | 2,037 | | | $ | 989 | |
| Selling, general and administrative | 30,116 | | | 21,866 | | | 21,688 | |
| Research and development | 6,016 | | | 4,387 | | | 3,861 | |
| Stock-based compensation expense before tax | 38,293 | | | 28,290 | | | 26,538 | |
| Income taxes | (10,339) | | | (7,355) | | | (6,900) | |
| Stock-based compensation expense, net of income taxes | $ | 27,954 | | | $ | 20,935 | | | $ | 19,638 | |
Q.Operating Segment, Geographic Information and Significant Customers
Operating segments are defined as components of an enterprise evaluated regularly by the Company's chief operating decision maker (“CODM”) in deciding how to allocate resources and assess performance. During the first quarter of fiscal 2022, the Company announced its 1MPACT value creation initiative to promote scale as the organization continues to grow. The Company evaluated this internal reorganization under FASB ASC 280, Segment Reporting ("ASC 280") to determine whether this change has impacted the Company's single operating and reportable segment. The Company concluded this change had no effect given the CODM continues to evaluate and manage the Company on the basis of one operating and reportable segment. The Company utilized the management approach for determining its operating segment in accordance with ASC 280.
The geographic distribution of the Company’s revenues as determined by order origination based on the country in which the Company's legal subsidiary is domiciled is summarized as follows: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | U.S. | | Europe | | Asia Pacific | | Eliminations | | Total |
| YEAR ENDED JULY 1, 2022 | | | | | | | | | |
| Net revenues to unaffiliated customers | $ | 945,600 | | | $ | 41,390 | | | $ | 1,207 | | | $ | — | | | $ | 988,197 | |
| Inter-geographic revenues | 2,578 | | | 2,408 | | | — | | | (4,986) | | | — | |
| Net revenues | $ | 948,178 | | | $ | 43,798 | | | $ | 1,207 | | | $ | (4,986) | | | $ | 988,197 | |
| Identifiable long-lived assets (1) | $ | 122,712 | | | $ | 4,476 | | | $ | 3 | | | $ | — | | | $ | 127,191 | |
| YEAR ENDED JULY 2, 2021 | | | | | | | | | |
| Net revenues to unaffiliated customers | $ | 876,479 | | | $ | 47,119 | | | $ | 398 | | | $ | — | | | $ | 923,996 | |
| Inter-geographic revenues | 1,561 | | | 1,985 | | | — | | | (3,546) | | | — | |
| Net revenues | $ | 878,040 | | | $ | 49,104 | | | $ | 398 | | | $ | (3,546) | | | $ | 923,996 | |
| Identifiable long-lived assets (1) | $ | 123,009 | | | $ | 5,509 | | | $ | 6 | | | $ | — | | | $ | 128,524 | |
| YEAR ENDED JULY 3, 2020 | | | | | | | | | |
| Net revenues to unaffiliated customers | $ | 744,270 | | | $ | 50,092 | | | $ | 2,248 | | | $ | — | | | $ | 796,610 | |
| Inter-geographic revenues | 4,938 | | | 3,067 | | | — | | | (8,005) | | | — | |
| Net revenues | $ | 749,208 | | | $ | 53,159 | | | $ | 2,248 | | | $ | (8,005) | | | $ | 796,610 | |
| Identifiable long-lived assets (1) | $ | 82,588 | | | $ | 5,144 | | | $ | 5 | | | $ | — | | | $ | 87,737 | |
(1) Identifiable long-lived assets exclude ROU assets, goodwill and intangible assets.
The following tables present revenue consistent with the Company's strategy of expanding its technological capabilities and program content both organically and through acquisitions. As additional information related to the Company’s products by end user, application, product grouping and/or platform is attained, the categorization of these products can vary over time. When this occurs, the Company reclassifies revenue by end user, application, product grouping and/or platform for prior periods. Such reclassifications typically do not materially change the underlying trends of results within each revenue category.
The following table presents the Company's net revenue by end market for the periods presented: | | | | | | | | | | | | | | | | | | | | | | | |
| | | Fiscal Years Ended | | | |
| | | July 1, 2022 | | July 2, 2021 | | July 3, 2020 | | | |
| Domestic (1) | | $ | 861,125 | | | $ | 795,988 | | | $ | 704,722 | | | | |
| International/Foreign Military Sales (2) | | 127,072 | | | 128,008 | | | 91,888 | | | | |
| Total Net Revenue | | $ | 988,197 | | | $ | 923,996 | | | $ | 796,610 | | | | |
(1) Domestic revenues consist of sales where the end user is within the U.S., as well as sales to prime defense contractor customers where the ultimate end user location is not defined.
(2) International/Foreign Military Sales consist of sales to U.S. prime defense contractor customers where the end user is outside the U.S., foreign military sales through the U.S. government and direct sales to non-U.S. based customers intended for end use outside of the U.S.
The following table presents the Company's net revenue by end application for the periods presented: | | | | | | | | | | | | | | | | | | | | |
| | | Fiscal Years Ended |
| | | July 1, 2022 | | July 2, 2021 | | July 3, 2020 |
| Radar (1) | | $ | 251,126 | | | $ | 289,172 | | | $ | 233,967 | |
| Electronic Warfare (2) | | 157,676 | | | 139,168 | | | 156,666 | |
| Other Sensor and Effector (3) | | 104,114 | | | 98,112 | | | 105,175 | |
| Total Sensor and Effector | | 512,916 | | | 526,452 | | | 495,808 | |
| C4I (4) | | 381,251 | | | 307,978 | | | 207,000 | |
| Other (5) | | 94,030 | | | 89,566 | | | 93,802 | |
| Total Net Revenues | | $ | 988,197 | | | $ | 923,996 | | | $ | 796,610 | |
(1) Radar includes end-use applications where radio frequency signals are utilized to detect, track and identify objects.
(2) Electronic Warfare includes end-use applications comprising the offensive and defensive use of the electromagnetic spectrum.
(3) Other Sensor and Effector products include all Sensor and Effector end markets other than Radar and Electronic Warfare.
(4) C4I includes rugged secure rackmount servers that are designed to drive the most powerful military processing applications.
(5) Other products include all component and other sales where the end use is not specified.
The following table presents the Company's net revenue by product grouping for the periods presented: | | | | | | | | | | | | | | | | | | | | |
| | | Fiscal Years Ended |
| | | July 1, 2022 | | July 2, 2021 | | July 3, 2020 |
| Components (1) | | $ | 160,567 | | | $ | 176,234 | | | $ | 227,440 | |
| Modules and Sub-assemblies (2) | | 205,949 | | | 156,557 | | | 145,900 | |
| Integrated Subsystems (3) | | 621,681 | | | 591,205 | | | 423,270 | |
| Total Net Revenues | | $ | 988,197 | | | $ | 923,996 | | | $ | 796,610 | |
(1) Components represent the basic building blocks of an electronic system. They generally perform a single function such as switching, storing or converting electronic signals. Some examples include power amplifiers and limiters, switches, oscillators, filters, equalizers, digital and analog converters, chips, MMICs (monolithic microwave integrated circuits) and memory and storage devices.
(2) Modules and sub-assemblies combine multiple components to serve a range of complex functions, including processing, networking and graphics display. Typically delivered as computer boards or other packaging, modules and sub-assemblies are usually designed using open standards to provide interoperability when integrated in a subsystem. Examples of modules and sub-assemblies include embedded processing boards, switched fabrics and boards for high-speed input/output, digital receivers, graphics and video, along with multi-chip modules, integrated radio frequency and microwave multi-function assemblies and radio frequency tuners and transceivers.
(3) Integrated subsystems bring components, modules and/or sub-assemblies into one system, enabled with software. Subsystems are typically, but not always, integrated within an open standards-based chassis and often feature interconnect technologies to enable communication between disparate systems. Spares and replacement modules and sub-assemblies are provided for use with subsystems sold by the Company. The Company’s subsystems are deployed in sensor processing, aviation and mission computing and C4I applications.
The following table presents the Company's net revenue by platform for the periods presented: | | | | | | | | | | | | | | | | | | | | |
| | Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 | | July 3, 2020 |
| Airborne (1) | | $ | 488,028 | | | $ | 416,877 | | | $ | 397,553 | |
| Land (2) | | 158,782 | | | 182,591 | | | 102,956 | |
| Naval (3) | | 155,588 | | | 187,205 | | | 166,912 | |
| Other (4) | | 185,799 | | | 137,323 | | | 129,189 | |
| Total Net Revenues | | $ | 988,197 | | | $ | 923,996 | | | $ | 796,610 | |
(1) Airborne platform includes products that relate to personnel, equipment or pieces of equipment designed for airborne applications.
(2) Land platform includes products that relate to fixed or mobile equipment, or pieces of equipment for personnel, weapon systems, vehicles and support elements operating on land.
(3) Naval platform includes products that relate to personnel, equipment or pieces of equipment designed for naval operations.
(4) All platforms other than Airborne, Land or Naval.
Customers comprising 10% or more of the Company’s revenues for the periods shown below are as follows: | | | | | | | | | | | | | | | | | |
| | Fiscal Years Ended |
| | July 1, 2022 | | July 2, 2021 | | July 3, 2020 |
| Raytheon Technologies | 14 | % | | 19 | % | | 16 | % |
| U.S. Navy | 14 | % | | 12 | % | | — | % |
| Lockheed Martin Corporation | 10 | % | | 15 | % | | 16 | % |
| | 38 | % | | 46 | % | | 32 | % |
While the Company typically has customers from which it derives 10% or more of its revenue, the sales to each of these customers are spread across multiple programs and platforms. There were no programs comprising 10% or more of the Company's revenues for the years ended July 1, 2022, July 2, 2021 and July 3, 2020.
R.Subsequent Events
The Company has evaluated subsequent events from the date of the Consolidated Balance Sheet through the date the consolidated financial statements were issued and noted no items requiring adjustment of the financial statements or additional disclosures.