QUANTUM CORP /DE/ - FORM 10-Q - November 9, 2017

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EX-32.2 - EXHIBIT 32.2 - QUANTUM CORP /DE/exhibit322q218.htm
EX-32.1 - EXHIBIT 32.1 - QUANTUM CORP /DE/exhibit321q218.htm
EX-31.2 - EXHIBIT 31.2 - QUANTUM CORP /DE/exhibit312q218.htm
EX-31.1 - EXHIBIT 31.1 - QUANTUM CORP /DE/exhibit311q218.htm
EX-3.1 - EXHIBIT 3.1 - QUANTUM CORP /DE/exhibit31q218.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

––––––––––––––––
Form 10-Q
––––––––––––––––
x
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
    
 
 
 
For the quarterly period ended September 30, 2017
 
OR
 
¨
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
 
 
For the transition period from _______ to _______
Commission File Number 1-13449
––––––––––––––––
QUANTUM CORPORATION
––––––––––––––––
Delaware
(State or other jurisdiction of incorporation or organization)
94-2665054
(I.R.S. Employer Identification No.)
224 Airport Parkway, Suite 550, San Jose, California
(Address of principal executive offices)

95110
(Zip Code)

(408) 944-4000
(Registrant’s telephone number, including area code)
––––––––––––––––
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No ¨
Indicate by checkmark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x  No ¨
Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer  ¨
Accelerated filer  x
Non-accelerated filer  ¨
Smaller reporting company  ¨
  Emerging growth company o
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards pursuant to Section 13(a) of the Exchange Act o




Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨  No x
As of the close of business on November 3, 2017, there were 34,673,884 shares of Quantum Corporation’s common stock issued and outstanding.


QUANTUM CORPORATION
INDEX




PART I—FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS




QUANTUM CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except par value)
(Unaudited)
 
September 30, 2017
 
March 31, 2017
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
9,504

 
$
12,958

Restricted cash
1,969

 
1,832

Accounts receivable, net of allowance for doubtful accounts of $317 and $16, respectively
105,771

 
116,056

Manufacturing inventories
29,119

 
27,661

Service parts inventories
19,915

 
19,849

Other current assets
8,795

 
9,969

Total current assets
175,073

 
188,325

Long-term assets:
 
 
 
Property and equipment, net of accumulated depreciation
10,745

 
11,186

Restricted cash
20,000

 
20,000

Other long-term assets
5,332

 
5,516

Total long-term assets
36,077

 
36,702

       
$
211,150

 
$
225,027

Liabilities and Stockholders’ Deficit
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
48,488

 
$
41,611

Accrued warranty
2,950

 
3,263

Deferred revenue
77,090

 
84,683

Accrued restructuring charges
1,743

 
869

Convertible subordinated debt, net
57,034

 
62,827

Accrued compensation
23,180

 
24,104

Other accrued liabilities
12,927

 
12,998

Total current liabilities
223,412

 
230,355

Long-term liabilities:
 
 
 
Deferred revenue
35,906

 
37,642

Accrued restructuring charges
423

 
481

Long-term debt, net
70,631

 
65,028

Other long-term liabilities
5,112

 
7,520

Total long-term liabilities
112,072

 
110,671

Stockholders' deficit:
 
 
 
Common stock, $0.01 par value; 125,000 shares authorized; 34,663 and 34,063 shares issued and outstanding at September 30, 2017 and March 31, 2017, respectively
347

 
341

Capital in excess of par
476,409

 
473,850

Accumulated deficit
(604,832
)
 
(593,295
)
Accumulated other comprehensive income
3,742

 
3,105

Total stockholders’ deficit
(124,334
)
 
(115,999
)
 
$
211,150

 
$
225,027

See accompanying Notes to Condensed Consolidated Financial Statements.

1

QUANTUM CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
Product revenue
$
63,606

 
$
88,575

 
$
135,224

 
$
160,401

Service revenue
34,165

 
36,620

 
69,411

 
72,438

Royalty revenue
9,280

 
9,547

 
19,274

 
18,187

Total revenue
107,051

 
134,742

 
223,909

 
251,026

 
 
 
 
 
 
 
 
Cost of product revenue
48,561

 
64,352

 
99,510

 
114,484

Cost of service revenue
14,717

 
14,664

 
29,807

 
30,170

Total cost of revenue
63,278

 
79,016

 
129,317

 
144,654

Gross margin
43,773

 
55,726

 
94,592

 
106,372

 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
Research and development
10,190

 
11,401

 
20,795

 
22,459

Sales and marketing
26,179

 
26,146

 
54,003

 
52,513

General and administrative
12,158

 
12,572

 
24,667

 
25,532

Restructuring charges
31

 
15

 
2,366

 
2,067

Total operating expenses
48,558

 
50,134

 
101,831

 
102,571

Income (loss) from operations
(4,785
)
 
5,592

 
(7,239
)
 
3,801

 
 
 
 
 
 
 
 
Other income
77

 
10

 
175

 
166

Interest expense
(2,617
)
 
(1,485
)
 
(5,175
)
 
(2,993
)
Loss on debt extinguishment, net
(39
)
 
—

 
(39
)
 
—

Net income (loss) before income tax provision (benefit)
(7,364
)
 
4,117

 
(12,278
)
 
974

 
 
 
 
 
 
 
 
Income tax provision (benefit)
499

 
45

 
(741
)
 
422

Net income (loss)
$
(7,863
)
 
$
4,072

 
$
(11,537
)
 
$
552

 
 
 
 
 
 
 
 
Earnings per share:
 
 
 
 
 
 
 
       Basic and Diluted
$
(0.23
)
 
$
0.12

 
$
(0.34
)
 
$
0.02

Weighted average shares:
 
 
 
 
 
 
 
Basic
34,561

 
33,804

 
34,337

 
33,549

Diluted
34,561

 
34,048

 
34,337

 
33,699


See accompanying Notes to Condensed Consolidated Financial Statements.

2

QUANTUM CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
(Unaudited)
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
Net income (loss)
$
(7,863
)
 
$
4,072

 
$
(11,537
)
 
$
552

     Other comprehensive income (loss), net of taxes:
 
 
 
 
 
 
 
           Foreign currency translation adjustments
673

 
206

 
828

 
(133
)
           Net unrealized gain (loss) on revaluation of
long-term intercompany balances
(204
)
 
(57
)
 
(192
)
 
(15
)
      Total other comprehensive income (loss)
469

 
149

 
636

 
(148
)
                      Total comprehensive income (loss)
$
(7,394
)
 
$
4,221

 
$
(10,901
)
 
$
404


See accompanying Notes to Condensed Consolidated Financial Statements.


3

QUANTUM CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
 
 
 
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(11,537
)
 
$
552

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
Depreciation
2,525

 
2,710

Amortization and write off of debt issuance costs
855

 
336

Service parts lower of cost or market adjustment
2,319

 
2,659

Tax benefit from settlement
(1,656
)
 
—

Non-cash interest expense
621

 
—

Deferred income taxes
144

 
17

Share-based compensation
3,330

 
3,648

Non-cash loss on debt extinguishment
9

 
—

Changes in assets and liabilities:
 
 
 
Accounts receivable
10,284

 
(1,951
)
Manufacturing inventories
(1,752
)
 
2,429

Service parts inventories
(2,737
)
 
(766
)
Accounts payable
6,537

 
4,875

Accrued warranty
(313
)
 
(59
)
Deferred revenue
(9,329
)
 
(9,162
)
Accrued restructuring charges
817

 
(219
)
Accrued compensation
(1,236
)
 
1,049

Other assets and liabilities
815

 
(3,737
)
Net cash provided by (used in) operating activities
(304
)
 
2,381

Cash flows from investing activities:
 
 
 
Purchases of property and equipment
(1,156
)
 
(1,249
)
(Increase) decrease in restricted cash
6

 
(5
)
Return of capital from investments
278

 
—

Net cash used in investing activities
(872
)
 
(1,254
)
Cash flows from financing activities:
 
 
 
Borrowings of long-term debt
164,650

 
6,500

Repayments of long-term debt
(160,245
)
 
(11,959
)
Repayments of convertible subordinated debt
(6,000
)
 
—

Payment of taxes due upon vesting of restricted stock
(1,775
)
 
(673
)
Proceeds from issuance of common stock
1,010

 
658

Net cash used in financing activities
(2,360
)
 
(5,474
)
Effect of exchange rate changes on cash and cash equivalents
82

 
5

Net decrease in cash and cash equivalents
(3,454
)
 
(4,342
)
Cash and cash equivalents at beginning of period
12,958

 
33,870

Cash and cash equivalents at end of period
$
9,504

 
$
29,528

Supplemental disclosure of cash flow information:
 
 
 
Purchases of property and equipment included in accounts payable
$
335

 
$
217

See accompanying Notes to Condensed Consolidated Financial Statements.

4

QUANTUM CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1: BASIS OF PRESENTATION
Quantum Corporation (“Quantum”, the “Company”, “us” or “we”), founded in 1980 and reincorporated in Delaware in 1987, is a leading expert in scale-out storage, archive and data protection, providing solutions for capturing, sharing, managing and preserving digital assets over the entire data lifecycle. Our customers, ranging from small businesses to large/multi-national enterprises, trust us to address their most demanding data workflow challenges. Our end-to-end tiered storage solutions enable users to maximize the value of their data by making it accessible whenever and wherever needed, retaining it indefinitely and reducing total cost and complexity. We work closely with a broad network of distributors, value-added resellers (“VARs”), direct marketing resellers (“DMRs”), original equipment manufacturers (“OEMs”) and other suppliers to meet customers’ evolving needs. Our stock is traded on the New York Stock Exchange under the symbol QTM.
The accompanying unaudited Condensed Consolidated Financial Statements include the accounts of Quantum and our wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated. The interim financial statements reflect all adjustments, consisting of normal recurring adjustments that, in the opinion of management, are necessary for a fair presentation of the results for the periods shown. The results of operations for such periods are not necessarily indicative of the results expected for the full fiscal year. The Condensed Consolidated Balance Sheet as of March 31, 2017 has been derived from the audited financial statements at that date, but it does not include all disclosures required by accounting principles generally accepted in the United States for complete financial statements. The accompanying financial statements should be read in conjunction with the audited Consolidated Financial Statements for the fiscal year ended March 31, 2017 included in our Annual Report on Form 10-K, filed with the Securities and Exchange Commission (“SEC”) on May 31, 2017.
On April 18, 2017, we effected a 1-for-8 reverse stock split of our issued and outstanding common stock. Our stock began to trade on a post-split basis on April 19, 2017. All share and per share data for comparative periods included within our Condensed Consolidated Financial Statements and related footnotes have been adjusted to account for the effect of the reverse stock split.
Recently Adopted Accounting Pronouncements
In March 2016, the FASB issued ASU No. 2016-09, Compensation - Stock compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting (“ASU 2016-09”). ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities and classification of windfall tax benefits on the statement of cash flows. We adopted ASU 2016-09 in the first quarter of fiscal 2018 using multiple transition approaches in-line with the requirements. Our tax windfall benefits are reported in the statement of operations instead of equity to the extent we do not have an offsetting valuation allowance and such benefits are recorded within our deferred taxes.  There were no other changes based upon the new guidance. The adoption of ASU 2016-09 did not impact our statements of financial condition, results of operations, cash flows or financial statement disclosures.  

In July 2015, the FASB issued ASU No. 2015-11, Inventory (Topic 330) (“ASU 2015-11”). ASU 2015-11 requires that an entity measure all inventory at the lower of cost and net realizable value, except for inventory that is measured using last-in, first-out (LIFO) or the retail inventory method. We adopted ASU 2015-11 prospectively in the first quarter of fiscal 2018 and adoption did not impact our statements of financial condition, results of operations, cash flows or financial statement disclosures.

Recent Accounting Pronouncements

In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments - Overall (Topic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”). ASU 2016-01 addresses certain aspects of recognition, measurement, presentation and disclosures of financial instruments. ASU 2016-01 will become effective for us beginning April 1, 2018, or fiscal 2019. We must apply the provisions using a cumulative-effect adjustment to the balance sheet at the beginning of the year of adoption, or April 1, 2018. We are currently assessing what financial instruments are being impacted and the extent of the potential impact on our statements of financial condition, results of operations, cash flows and financial statement disclosures.

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) (“ASU 2016-02”). ASU 2016-02 provides a new comprehensive model for lease accounting. Under ASU 2016-02, lessees and lessors should apply a “right-of-use” model in accounting for all leases and eliminate the concept of operating leases and off-balance sheet leases. ASU 2016-02 will become effective for us beginning April 1, 2019, or fiscal 2020. ASU 2016-02 requires a modified retrospective transition approach

5

with certain practical expedients available. We have identified all of our current leases subject to ASU 2016-02. We are in the process of evaluating these agreements to determine the impact on our statements of financial condition, results of operations, cash flows and financial statement disclosures.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Receipts and Cash Payments (“ASU 2016-15”). ASU 2016-15 provides guidance on the following eight specific cash flow issues: 1) debt prepayment or debt extinguishment costs, 2) settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing, 3) contingent consideration payments made after a business combination, 4) proceeds from the settlement of insurance claims, 5) proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies, 6) distributions received from equity method investees, 7) beneficial interests in securitization transactions and 8) separately identifiable cash flows and application of the predominance principle. ASU 2016-15 transition requires the use of the retrospective method for all periods presented and will become effective for us beginning April 1, 2018, or fiscal 2019. We have evaluated the types of transactions impacted by ASU 2016-15 and at this time, and anticipate the only impact is related to our debt extinguishment costs. As such, we do not anticipate the adoption of ASU 2016-15 will have a material impact on our statements of cash flows.

In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory (“ASU 2016-16”). ASU 2016-16 requires that an entity recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. ASU 2016-16 will become effective for us beginning April 1, 2018, or fiscal 2019. ASU 2016-16 requires the modified retrospective transition approach with a cumulative-effect adjustment to retained earnings at the beginning of the period of adoption. We currently do not have any material intra-entity transfers of assets and therefore we do not anticipate that adoption will have a material impact on our statements of financial condition, results of operations, cash flows or financial statement disclosures.

In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash (“ASU 2016-18”). ASU 2016-18 requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. ASU 2016-18 will become effective for us beginning April 1, 2018, or fiscal 2019. ASU 2016-18 is required to be applied retrospectively. Upon the adoption, amounts described as restricted cash will be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period amounts shown on the statements of cash flows.

In May 2017, the FASB issued ASU No. 2017-09, Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting. The standard provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. ASU 2017-09 will become effective for us beginning April 1, 2018, or fiscal 2019 and interim and interim periods within those years and is to be applied prospectively to an award modified on or after the adoption date. As we currently do not have a practice of modifying our stock based awards and have no plans to do so in the future, we do not anticipate adoption will have a material impact on our statements of financial condition, results of operations, cash flows or financial statement disclosures.

In May 2014, the FASB, issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”). The standard requires entities to recognize revenue through an evaluation that includes identification of the contract, identification of the performance obligations, determination of the transaction price, allocation of the transaction price to the performance obligations, and recognition of revenue as the entity satisfies the performance obligations. In August 2015, FASB issued ASU 2015-14, Revenue from Contracts with Customers: Deferral of the Effective Date, which defers the effective date of ASU 2014-09 to the Company’s fiscal year beginning April 1, 2018. The FASB has continued to issue accounting standards updates to clarify and provide implementation guidance related to ASU 2014-09, including ASU 2016-08, Revenue from Contract with Customers; Principal versus Agent Considerations, ASU 2016-10, Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing, ASU 2016-12, Revenue from Contracts with Customers: Narrow-Scope Improvements and Practical Expedients and ASU 2016-20, Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers. The new standards require more extensive disclosures related to revenue recognition, particularly in quarterly financial statements. The Company will adopt the standard on April 1, 2018 and intends to use the modified retrospective method of adoption. We have assessed the changes to our revenue recognition accounting policies for the new revenue standards. Our accounting for commission costs related to our service agreements will change from recognition in the period incurred to the deferral and recognition over the period the services are provided. Other costs such as warranty costs and our accounting for our rebate programs ("variable consideration") will not materially change. We have identified our performance obligations and have established the related standalone selling prices for the distinct goods and services underlying the obligations. We have configured our system to meet our business and reporting requirements and are currently testing our data interfaces. Our assessments of the standards impact may change based upon our ongoing evaluation. Upon completion we will

6

process the Company’s historical revenue transactions which will enable us to assess the overall impact of the adoption of the standards on our financial condition, results of operations, cash flows and financial statement disclosures.

NOTE 2: FAIR VALUE
Our assets measured and recorded at fair value on a recurring basis may consist of money market funds which are included in cash and cash equivalents in our Condensed Consolidated Balance Sheets and are valued using quoted market prices (level 1 fair value measurements) at the respective balance sheet dates.
No impairments charges were recognized for non-financial assets in the second quarter or first six months of fiscal 2018 or fiscal 2017. We have no non-financial liabilities measured and recorded at fair value on a non-recurring basis.
Our financial liabilities were comprised primarily of convertible subordinated debt and long-term debt at September 30, 2017 and March 31, 2017. The carrying value and fair value of our convertible subordinated debt and long-term debt were as follows (in thousands):
 
As of
 
September 30, 2017
 
March 31, 2017
 
Carrying Value
 
Fair Value
 
Carrying Value
 
Fair Value
Convertible subordinated debt (1)
$
57,034

 
$
56,805

 
$
62,827

 
$
60,667

 
 
 
 
 
 
 
 
Long-term debt: (2)
 
 
 
 
 
 
 
Revolving credit agreement
22,144

 
23,518

 
16,852

 
18,490

Term loan agreement
48,487

 
50,004

 
48,176

 
50,026

Total long-term debt
$
70,631

 
$
73,522

 
$
65,028

 
$
68,516

 
 
 
 
 
 
(1) Fair value based on quoted market prices in less active markets (level 2).
 
(2) Fair value based on outstanding borrowings and market interest rates (level 2).
NOTE 3: INVENTORIES
Manufacturing inventories and service parts inventories consisted of the following (in thousands):
 
As of
 
September 30, 2017
March 31, 2017
Manufacturing inventories:
 
 
 
Finished goods
$
14,264

 
$
15,070

Work in process
1,006

 
606

Materials and purchased parts
13,849

 
11,985

 
$
29,119

 
$
27,661


 
As of
 
September 30, 2017
 
March 31, 2017
Service parts inventories:
 
 
 
Finished goods
$
14,802

 
$
14,851

Component parts
5,113

 
4,998

 
$
19,915

 
$
19,849


7

NOTE 4: ACCRUED WARRANTY
The following table details the changes in the accrued warranty balance (in thousands):
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
Beginning balance
$
3,161

 
$
3,444

 
$
3,263

 
$
3,430

Additional warranties
1,445

 
1,783

 
2,916

 
3,782

Adjustments for warranties in prior fiscal years
(75
)
 
86

 
(79
)
 
225

Settlements
(1,581
)
 
(1,942
)
 
(3,150
)
 
(4,066
)
Ending balance
$
2,950

 
$
3,371

 
$
2,950

 
$
3,371

We warrant our products against certain defects typically for a term of one to three years. A provision for estimated future costs and estimated returns for repair or replacement relating to warranty is recorded when products are shipped and revenue is recognized. Our estimate of future costs to satisfy warranty obligations is primarily based on historical trends and, if believed to be significantly different from historical trends, estimates of future failure rates and future costs of repair. Future costs of repair include related materials, labor and overhead. If we determine in a future period that either actual failure rates or actual costs of repair were to differ from our estimates, we record the impact of those differences in that future period.
NOTE 5: DEBT
Our debt consisted of the following (in thousands):
 
As of
 
September 30, 2017
 
March 31, 2017
Convertible subordinated debt:
 
 
 
4.50% convertible subordinated notes
$
57,090

 
$
63,090

Unamortized debt issuance costs
(56
)
 
(263
)
Convertible subordinated debt, net of unamortized debt issuance costs
$
57,034

 
$
62,827

 
As of
 
September 30, 2017
 
March 31, 2017
Long-term debt:
 
 
 
Revolving credit agreement
$
23,525

 
$
18,500

Term loan agreement
50,000

 
50,000

Unamortized discount and debt issuance costs
(2,894
)
 
(3,472
)
Long-term debt, net of unamortized discount and debt issuance costs
$
70,631

 
$
65,028

Convertible Subordinated Debt

In the third quarter of fiscal 2013, we issued $70 million aggregate principal amount of 4.50% convertible subordinated notes (4.50% Notes) due November 15, 2017. These notes are convertible into shares of our common stock until November 14, 2017 at the option of the holders at a conversion rate of 75.896 shares per $1,000 principal amount, a conversion price of approximately $13.20 per share. The 4.50% notes require semi-annual interest payments paid on May 15 and November 15 of each year and have no early call provisions.

In the second quarter of fiscal 2018, we entered into private transactions with note holders to purchase an aggregate principal amount of $6.0 million of the 4.50% notes for $6.0 million of cash. In connection with these transactions, we recorded a loss on debt extinguishment of less than $0.1 million, which included a write-off of unamortized debt issuance costs related to the purchased notes.


8

Long-term Debt

Our credit facility includes a revolving credit and security agreement entered into with PNC Bank, National Association (“revolving credit agreement”) and a term loan credit and security agreement entered into with TCW Asset Management Company LLC (“term loan agreement”).
Revolving credit agreement

Under the revolving credit agreement, we have the ability to borrow the lesser of $80 million or the amount of the monthly borrowing base, which is reduced by $1.0 million due to outstanding letters of credit. Our borrowing base is established monthly based on certain working capital asset balances. The revolving credit agreement also includes an uncommitted accordion in an amount up to $20 million. The revolving credit agreement matures on October 21, 2021. As of September 30, 2017, our excess availability under the revolving credit agreement was $19.8 million.
Borrowings under the revolving credit agreement bear interest at a rate per annum equal to, at our option, either (a) the greatest of (i) the base rate, (ii) the Federal funds rate plus 0.50% and (iii) the LIBOR rate based upon an interest period of one month plus 1.0%, plus an applicable margin of 1.50%, or (b) the LIBOR rate plus an applicable margin of 2.50%. The base rate is defined in the revolving credit agreement. We are required to pay a 0.375% commitment fee on undrawn amounts under the revolving credit agreement on a quarterly basis, which is recorded as interest expense in the period incurred. As of September 30, 2017, we had a $23.5 million outstanding balance on the revolving credit agreement at an interest rate of 5.39%.
Term loan agreement

The term loan agreement provides for a $50 million secured term loan which was drawn fully at the time we entered into the credit facility and $20 million of a senior secured delay draw term loan (“DDTL”). Borrowings under the DDTL are restricted to be used only to redeem our 4.50% convertible subordinated notes due November 15, 2017. The term loan agreement matures on October 21, 2021. The amount outstanding under the term loan is to be repaid on a quarterly basis in an amount equal to 1.25% of the original principal amount beginning on March 31, 2018, with any remaining principal balance due on the maturity of the term loan.
Borrowings under the term loan agreement bear interest at a rate per annum equal to, at our option, either (a) the greatest of (i) 3.00%, (ii) the Federal funds rate plus 0.50%, (iii) the LIBOR rate based upon an interest period of 1 month plus 1.0% and (iv) the “prime rate” last quoted by the Wall Street Journal, plus a margin ranging from 6.00% to 7.25% based on the applicable senior net leverage ratio, or (b) the LIBOR rate plus 7.00% to 8.25% based on the applicable senior net leverage ratio. The senior net leverage ratio is defined in the term loan agreement. As of September 30, 2017, our interest rate on the term loan was 8.74%.
The revolving credit agreement and the term loan agreement are collateralized by a pledge of substantially all of our assets and
contain certain financial covenants and customary events of default for such securities. Financial covenants include a fixed
charge coverage ratio, senior net leverage ratio and total leverage ratio. Additionally, the revolving credit agreement includes
minimum liquidity requirements. There is a blanket lien on all of our assets under the revolving credit agreement and term loan
agreement.

As of September 30, 2017, the Company was in violation of financial covenants applicable to the credit facility and, as a result, was in default under the terms of the related agreements. As further discussed in Note 12, on November 6, 2017, the Company and the lenders amended the terms of the credit facility agreements in order to, among other things, retroactively and prospectively modify the applicable financial covenants and, as a result, the covenant violations existing as of September 30, 2017 were cured. The amended credit facility agreements contains customary conditions to borrowings, events of default, restrictions, and positive and negative covenants, as more fully described in Note 12. Management’s current projections indicate, and management considers it probable, that the Company will be in compliance with covenants applicable under the amended credit facility, and be able to meet its obligations as they become due, for more than twelve months from the date these financial statements were filed. In the event the Company is unable to meet its projected results of operations, it may violate applicable covenants and result in a default under the revised credit facility agreements, which could adversely impact the Company’s ability to meet its obligations as they come due.
Debt Maturities
A summary of the scheduled maturities of principal for our outstanding debt as of September 30, 2017 is as follows (in thousands):

9

 
Debt Maturity Due by Period
 
Less than 1 Year
 
1 Year
 
2 Years
 
3 Years
 
4 Years
 
More than 5 Years
 
Total
4.50% convertible subordinated notes
$
57,090

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
57,090

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Long-term debt:
 
 
 
 
 
 
 
 
 
 
 
 
 
Revolving credit agreement
—

 
—

 
—

 
—

 
23,525

 
—

 
23,525

Term loan agreement
1,875

 
2,500

 
2,500

 
2,500

 
40,625

 
—

 
50,000

Total long-term debt
$
1,875

 
$
2,500

 
$
2,500

 
$
2,500

 
$
64,150

 
$
—

 
$
73,525

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total debt
$
58,965

 
$
2,500

 
$
2,500

 
$
2,500

 
$
64,150

 
$
—

 
$
130,615

NOTE 6: RESTRUCTURING CHARGES
Fiscal 2018 Restructuring Plan
During the first quarter of fiscal 2018, we approved a plan (“Fiscal 2018 Restructuring Plan”) to eliminate 49 positions in the U.S. and internationally to align our workforce within various functions of our business in order to meet the Company’s strategic plans. The costs associated with these actions consist of restructuring charges related to severance and benefits. During the first six months of fiscal 2018 we incurred $1.6 million of restructuring charges and paid $1.0 million under this plan with the remaining amounts to be paid during the second half of fiscal 2018.
Fiscal 2017 April Restructuring Plan
In April 2016, we approved a plan (“Fiscal 2017 April Restructuring Plan”) to eliminate 29 positions in the U.S. and internationally to reduce investments in various functions of our business to improve operational efficiencies. The costs associated with these actions consist of restructuring charges related to severance and benefits. These actions were completed by the second quarter of fiscal 2017. We incurred and paid $1.5 million of restructuring charges under this plan.

Fiscal 2016 Restructuring Plan

In November 2015, we approved a plan (“Fiscal 2016 Restructuring Plan”) to eliminate approximately 65 positions in the U.S. and internationally, primarily in research and development and sales and marketing functions, in order to improve our cost structure and align spending with continuing operations plans. These actions were completed by the first quarter of fiscal 2017, with the majority having occurred by December 31, 2015. The costs associated with these actions consist of restructuring charges related to severance and benefits. We incurred and paid $2.0 million of restructuring charges under this plan.

Summary of Restructuring Expense
The following summarizes the type of restructuring costs included in operating expense (in thousands):
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
Severance and benefits
$
29

 
$
(39
)
 
$
1,599

 
$
1,450

Facilities
2

 
54

 
$
758

 
617

Other
—

 
—

 
9

 
—

 
$
31

 
$
15

 
$
2,366

 
$
2,067


Restructuring charges for the first six months of fiscal 2018 included $1.6 million of severance and benefits costs incurred as a result of the Fiscal 2018 Restructuring Plan. Additionally, we incurred $0.8 million of facilities restructuring charges in the first six months of fiscal 2018 due to a change in estimate of sublease timing and related expenses for our facilities previously used in manufacturing.

Restructuring charges for the first six months of fiscal 2017 included $1.5 million of severance and benefits costs incurred as a result of the Fiscal 2017 Restructuring Plan. Additionally, we incurred $0.6 million of restructuring charges related to facilities costs primarily due to a change in estimate of sublease timing for our facilities previously used in manufacturing.

10


Accrued Restructuring

The following tables show the activity and the estimated timing of future payouts for accrued restructuring (in thousands):
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended September 30, 2017
 
Three Months Ended September 30, 2016
 
Severance
and Benefits
 
Facilities
 
Total
 
Severance
and Benefits
 
Facilities
 
Total
Beginning balance
$
1,228

 
$
1,565

 
$
2,793

 
$
814

 
$
2,649

 
$
3,463

Restructuring costs
—

 
—

 
—

 
—

 
54

 
54

Adjustment of prior estimates
(35
)
 
20

 
(15
)
 
(39
)
 
—

 
(39
)
Cash payments
(473
)
 
(138
)
 
(611
)
 
(635
)
 
(325
)
 
(960
)
Ending balance
$
720

 
$
1,447

 
$
2,167

 
$
140

 
$
2,378

 
$
2,518


 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended September 30, 2017
 
Six Months Ended September 30, 2016
 
Severance and Benefits
 
Facilities
 
Total
 
Severance and Benefits
 
Facilities
 
Total
Beginning balance
$
130

 
$
1,220

 
$
1,350

 
$
354

 
$
2,383

 
$
2,737

Restructuring costs
1,570

 
—

 
1,570

 
1,489

 
480

 
1,969

Adjustment of prior estimates
(35
)
 
776

 
741

 
(39
)
 
179

 
140

Cash payments
(945
)
 
(549
)
 
(1,494
)
 
(1,664
)
 
(664
)
 
(2,328
)
Ending balance
$
720

 
$
1,447

 
$
2,167

 
$
140

 
$
2,378

 
$
2,518


 
As of September 30, 2017
 
Severance and
Benefits
 
Facilities
 
Total
Estimated timing of future payouts:
 
 
 
 
 
Next twelve months
$
720

 
$
1,024

 
$
1,744

October 2018 through Sept 2022
—

 
423

 
423

 
$
720

 
$
1,447

 
$
2,167


Facility restructuring accruals will be paid in accordance with the respective facility lease terms and the above amounts are net of estimated sublease amounts.
NOTE 7: EQUITY
On April 18, 2017, we effected a 1-for-8 reverse stock split of our issued and outstanding common stock (the "Reverse Stock Split"). Our stock began to trade on a post-split basis on April 19, 2017. Par value of the Company's common stock was unchanged as a result of the Reverse Stock Split, remaining at $0.01 per share, which resulted in reclassification of capital from par value to capital in excess of par value. All share and per share data for comparative periods included within our Condensed Consolidated Financial Statements and related footnotes have been adjusted to account for the effect of the Reverse Stock
Split.
On August 23, 2017, shareholders of the Company approved a reduction in the number of authorized shares of the Company’s common stock from one billion shares to 125.0 million shares which was in proportion to the ratio of the Reverse Stock Split.
NOTE 8: STOCK INCENTIVE PLANS AND SHARE-BASED COMPENSATION
During the first quarter of fiscal 2018, all restricted stock awards, restricted stock units and options to purchase our common stock outstanding under the Company's Stock Incentive Plans were adjusted to reflect the impact of the Reverse Stock Split. The Reverse Stock Split also reduced the number of shares of common stock issuable under the Company's 2012 Long Term Incentive Plan and Employee Stock Purchase Plan, as amended. The per share exercise price of all outstanding awards was increased and the number of shares of common stock issuable upon the exercise or settlement of all outstanding awards was reduced proportionately to the reverse split ratio.

11

Share-Based Compensation
The following table summarizes share-based compensation (in thousands):
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
Share-based compensation:
 
 
 
 
 
 
 
Cost of revenue
$
201

 
$
234

 
$
418

 
$
514

Research and development
245

 
333

 
531

 
736

Sales and marketing
633

 
606

 
1,153

 
1,218

General and administrative
638

 
477

 
1,228

 
1,180

 
$
1,717

 
$
1,650

 
$
3,330

 
$
3,648

Share-based compensation by type of award:
 
 
 
 
 
 
 
Restricted stock units
1,559

 
1,511

 
3,020

 
3,347

Stock purchase plan
158

 
139

 
310

 
301

 
$
1,717

 
$
1,650

 
$
3,330

 
$
3,648

Restricted Stock Units
The fair value of restricted stock units (“RSUs”) granted is the intrinsic value as of the respective grant date. The weighted-average grant date fair values of RSUs granted during the second quarter and first six months of fiscal 2018 were $7.53 and $7.55, respectively, and $3.36 and $3.44 during the second quarter and first six months of fiscal 2017, respectively.
A summary of activity relating to our restricted stock units follows (shares in thousands):
 
Shares
 
Weighted-Average
Grant Date
Fair Value Per Share
Nonvested at March 31, 2017
1,765

 
$
6.75

Granted
1,242

 
7.55

Vested
(662
)
 
7.71

Forfeited
(230
)
 
6.92

Nonvested at September 30, 2017
2,115

 
$
6.90


Employee Stock Purchase Plan
Under the Employee Stock Purchase Plan, rights to purchase shares are typically granted during the second and fourth quarter of each fiscal year. The value of rights to purchase shares granted in the second quarter and first six months of fiscal 2018 and fiscal 2017, respectively, was estimated at the date of grant using the Black-Scholes option pricing model. The weighted-average grant date fair values and the assumptions used in calculating fair values for the three and six month periods ended September 30, 2017 and September 30, 2016 were as follows:
 
Three and Six Months Ended
 
September 30, 2017
 
September 30, 2016
Option life (in years)
0.5

 
0.5

Risk-free interest rate
1.13
%
 
0.40
%
Stock price volatility
44.99
%
 
81.88
%
Weighted-average grant date fair value per share
$
2.18

 
$
0.23


12

NOTE 9: INCOME TAXES
Income taxes for the second quarter and first six months of fiscal 2018 were a provision of $0.5 million and a benefit of $0.7 million, respectively, as compared to an income tax provision of less than $0.1 million and $0.4 million for the second quarter and first six months of fiscal 2017, respectively. The tax benefit for the first six months of fiscal 2018 included the release of $1.7 million of an uncertain tax position liability upon the effective settlement with the German taxing authorities for tax audits of our German subsidiary.
Income tax provisions for each of these periods reflect expenses for foreign income taxes and state taxes. We have provided a full valuation allowance against our U.S. net deferred tax assets due to our history of net losses, difficulty in predicting future results and our conclusion that we cannot rely on projections of future taxable income to realize the deferred tax assets. Significant management judgment is required in determining our deferred tax assets and liabilities and valuation allowances for purposes of assessing our ability to realize any future benefit from our net deferred tax assets. We intend to maintain this valuation allowance until sufficient positive evidence exists to support a reversal or decrease in this allowance. Future income tax expense will be reduced to the extent that we have sufficient positive evidence to support a reversal of, or decrease in, our valuation allowance.
NOTE 10: NET INCOME (LOSS) PER SHARE
The following is the computation of basic and diluted net income (loss) per share (in thousands, except per share data):
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
Numerator:
 
 
 
 
 
 
 
Net income (loss)
$
(7,863
)
 
$
4,072

 
$
(11,537
)
 
$
552

 
 
 
 
 
 
 
 
Denominator:
 
 
 
 
 
 
 
Weighted average shares:
 
 
 
 
 
 
 
Basic
34,561

 
33,804

 
34,337

 
33,549

Dilutive shares from stock plans
—

 
244

 
—

 
150

Diluted
34,561

 
34,048

 
34,337

 
33,699

 
 
 
 
 
 
 
 
       Basic and diluted net income (loss) per share
$
(0.23
)
 
$
0.12

 
$
(0.34
)
 
$
0.02


Dilutive and potentially dilutive common shares from the Stock Incentive Plans are determined by applying the treasury stock method to the assumed exercise of outstanding options and the assumed vesting of outstanding restricted stock units. The dilutive impact related to our convertible subordinated notes is determined by applying the if-converted method, which includes adding the related weighted average shares to the denominator and the related interest expense to net income.

The computations of diluted net income (loss) per share for the periods presented exclude the following because the effect would have been anti-dilutive (in millions):
 
Three Months Ended
 
Six Months Ended
 
September 30, 2017
 
September 30, 2016
 
September 30, 2017
 
September 30, 2016
 
 
 
 
 
 
 
 
Weighted average shares excluded:
 
 
 
 
 
 
 
4.50% convertible subordinated notes
4.3

 
5.3

 
4.3

 
5.1

Stock options
0.2

 
0.2

 
0.2

 
0.4

Unvested restricted stock units
2.0

 
0.4

 
1.8

 
0.8

 
 
 
 
 
 
 
 
Interest expense excluded:
 
 
 
 
 
 
 
4.50% convertible subordinated notes
$
0.6

 
$
0.1

 
$
1.4

 
$
0.4


13

NOTE 11: COMMITMENTS AND CONTINGENCIES
Commitments to Purchase Inventory

We use contract manufacturers for our manufacturing operations. Under these arrangements, the contract manufacturer procures inventory to manufacture products based upon our forecast of customer demand. We have similar arrangements with certain other suppliers. We are responsible for the financial impact on the supplier or contract manufacturer of any reduction or product mix shift in the forecast relative to materials that the third party had already purchased under a prior forecast. Such a variance in forecasted demand could require a cash payment for inventory in excess of current customer demand or for costs of excess or obsolete inventory. As of September 30, 2017, we had issued non-cancelable commitments for $54.5 million to purchase inventory from our contract manufacturers and suppliers.

Legal Proceedings

Crossroads

On February 18, 2014, Crossroads Systems, Inc. (“Crossroads”) filed a patent infringement lawsuit against Quantum in the U.S. District Court for the Western District of Texas, alleging infringement of U.S. patents 6,425,035 and 7,934,041. An amended complaint filed on April 15, 2014 also alleged infringement of U.S. patent 7,051,147. Crossroads asserts that we have incorporated Crossroads' patented technology into our StorNext QX and Q-Series lines of disk array products and into our Scalar libraries. Crossroads seeks unspecified monetary damages and injunctive relief. Crossroads has already dismissed all claims of infringement with respect to the StorNext QX and Q-Series products. In July and September of 2014, we filed for inter partes review of all three asserted Crossroads patents before the Patent Trial and Appeal Board and a review has been initiated for all claims. On June 16, 2015, the U.S. District Court, Western District of Texas stayed the Crossroads trial proceedings pending resolution of the inter partes review proceedings. On January 29, 2016, the Patent Trial and Appeal Board issued decisions on the inter partes reviews for U.S. patents 6,425,035 and 7,051,147, ordering all claims of both patents to be unpatentable. On March 17, 2016, the Patent Trial and Appeal Board issued a decision on the inter partes review for U.S. patent 7,934,041, ordering all claims to be unpatentable. On March 31, 2016, Crossroads filed Notices of Appeal in each of the inter partes review decisions. On June 6, 2017, the U.S. Court of Appeals for the Federal Circuit affirmed the PTAB decision finding all claims of all patents to be unpatentable.  On July 6, 2017, Crossroads filed a petition for a rehearing en banc before the Federal Circuit. On August 8, 2017, the Federal Circuit denied Crossroads' petition. We believe the probability that this lawsuit will have a material adverse effect on our business, operating results or financial condition is remote.

Realtime Data

On July, 22 2016, Realtime Data LLC d/b/a IXO(“Realtime Data”) filed a patent infringement lawsuit against Quantum in the U.S. District Court for the Eastern District of Texas, alleging infringement of U.S. Patents Nos. 7,161,506, 7,378,992, 7,415,530, 8,643,513, 9,054,728, and 9,116,908. The lawsuit has been transferred to the U.S. District Court for the Northern District of California for further proceedings. Realtime Data asserts that we have incorporated Realtime Data’s patented technology into our compression products and services. Realtime Data seeks unspecified monetary damages and other relief that the Court deems appropriate. On July 31, 2017, the District Court stayed proceedings in this litigation pending decision in Inter Partes Review proceedings currently before the Patent Trial and Appeal Board and relating to the Realtime patents. We believe the probability that this lawsuit will have a material adverse effect on our business, operating results or financial condition is remote.



14

NOTE 12: SUBSEQUENT EVENT
As of September 30, 2017, the Company was in violation of financial covenants applicable to the credit facility which constituted an event of default under the terms of the related agreements. On November 6, 2017, the Company entered into an amendment to our credit facility, including amendments to both the revolving credit agreement and the term loan agreement, to provide the Company with an additional $20.0 million through an incremental delayed draw term loan (“IDDTL”) and to retroactively and prospectively modify certain financial covenants. As a result, the covenant violations existing as of September 30, 2017 were cured. The amended credit facility agreements contains customary conditions to borrowings, events of default, restrictions, and positive and negative covenants, described below. Management’s current projections indicate, and management considers it probable, that the Company will be in compliance with covenants applicable under the amended credit facility, and be able to meet its obligations as they become due, for more than twelve months from the date these financial statements were filed. In the event the Company is unable to meet its projected results of operations, it may violate applicable covenants resulting in a default under the revised credit facility agreements, which could adversely impact the Company’s ability to meet its obligations as they come due.
Interest rates for borrowings under the amended revolving credit agreement were adjusted to increase the margin percentages by 0.50% for either option, and interest rates for borrowings under the term loan agreement increased from LIBOR plus 7.50% to LIBOR plus 8.25%.
Financial covenants for both the revolving credit agreement and term loan agreement, including the fixed charge coverage ratio, senior net leverage ratio and total leverage ratio, were amended. The fixed charge coverage ratio multiplier was decreased by 0.25 for all quarters through maturity. The senior net leverage ratio multiplier increases in each quarter from October 1, 2017 through September 30, 2018 ranging from 0.25 to 1.50, and remains unchanged for the subsequent periods through maturity. The total leverage ratio multiplier increases in each quarter from October 1, 2017 through September 30, 2018 ranging from 0.25 to 1.75, and remains unchanged for the subsequent periods through maturity.

The minimum restricted cash requirement under the revolving credit agreement was also amended. Minimum restricted cash set at initial closing remained unchanged at $20.0 million through November 15, 2017, the payment date of the convertible notes, and was decreased to $12.0 million from the convertible notes payment date through June 30, 2018. Subsequent to June 30, 2018 through maturity, the minimum restricted cash requirement will reset each quarter based upon achievement of certain EBITDA targets, to either $12.0 million or $20.0 million. In addition, the one-time minimum liquidity requirement at November 15, 2017 after payment of our 4.50% Notes decreased from $27.0 million to $20.0 million.

Principal outstanding under the IDDTL is payable in equal installments of $1.0 million in each quarter of fiscal 2019, $2.5 million in each quarter of fiscal 2020, with the remaining outstanding balance due on June 30, 2020. In addition, the amended agreement includes certain mandatory prepayment provisions triggered by the sale of indebtedness or issuance of equity securities with certain defined limits on the proceeds to be used to repay the term loans.
In connection with the amendment, the Company incurred aggregate closing and amendment fees of $0.8 million. Additionally, the Company issued warrants to the lenders to purchase 330,000 shares of the Company’s common stock at an exercise price of $0.01 per share. Under the terms of the warrant agreement, warrants to purchase 198,000 shares of the Company’s common stock were exercisable immediately upon issuance and the ability for the warrant holders to exercise the remaining warrants to purchase 132,000 shares of the common stock are contingent upon the occurrence of specified twelve month trailing EBITDA targets and if the IDDTL has not been repaid in full by March 31, 2019.
On November 8, 2017, the Company borrowed $20.0 million under the DDTL and $20.0 million under the IDDTL.


15

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENT
This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements in this report usually contain the words “will,” “estimate,” “anticipate,” “expect,” “believe,” “project” or similar expressions and variations or negatives of these words. All such forward-looking statements including, but not limited to, (1) our goals, strategy and expectations for future operating performance including our goals for 2018 and our strategies for achieving those goals; (2) our expectations and beliefs regarding the storage market and the other markets in which we compete; (3) our belief that our existing cash and capital resources will be sufficient to meet all currently planned expenditures, debt service and sustain our operations for at least the next 12 months; (4) our expectations regarding our ongoing efforts to control our cost structure; (5) our expectations regarding the outcome of any litigation in which we are involved; and (6) our business goals, objectives, key focuses, opportunities and prospects, are inherently uncertain as they are based on management’s expectations and assumptions concerning future events, and they are subject to numerous known and unknown risks and uncertainties. Readers are cautioned not to place undue reliance on these forward-looking statements, about which we speak only as of the date hereof. As a result, our actual results may differ materially from the forward-looking statements contained herein. Factors that could cause actual results to differ materially from those described herein include, but are not limited to those factors discussed under “Risk Factors” in Part II, Item 1A. Our forward-looking statements are not guarantees of future performance. We disclaim any obligation to update information in any forward-looking statement.
OVERVIEW
Quantum Corporation (“Quantum”, the “Company”, “us” or “we”), is a leading expert in scale-out storage, archive and data protection, providing solutions for capturing, sharing, managing and preserving digital assets over the entire data lifecycle. We believe our combination of expertise, innovation and platform independence enables us to solve scale-out storage and data protection challenges more easily, cost-effectively and securely than competitive offerings. We earn our revenue from the sale of products, systems and services through an array of channel partners and our sales force. Our products are sold under both the Quantum brand name and the names of various OEM customers. Our scale-out tiered storage solutions include StorNext software, StorNext appliances (which include StorNext disk storage and StorNext-related tape storage) and Lattus extended online storage systems. These products are designed to help customers manage large unstructured data sets in an information workflow, encompassing high-performance ingest, real-time collaboration, scalable processing, intelligent protection and high value monetization. Our data protection solutions include DXi deduplication backup systems and Scalar automated tape libraries that optimize backup and recovery, simplify management and lower cost. Our vmPRO virtual server backup and disaster recovery offerings protect virtual environments while minimizing the impact on servers and storage. In addition, we offer software for cloud backup and disaster recovery of physical and virtual servers. We have a full range of services and the global scale and scope to support our worldwide customer base.
Our goals for fiscal 2018 are driving profitable revenue growth and long-term shareholder value by capitalizing on new market opportunities, leveraging the strength of our technology, products and install base across scale-out tiered storage and data protection, continuing to expand our solutions portfolio and building new and enhanced channel and technology partnerships. In scale-out storage, we continue to focus on building our market presence beyond media and entertainment and expanding our presence in video surveillance, technical workflow and unstructured data archive use cases. Outside of scale-out storage, our strategy is to continue leveraging our technology leadership, our extensive customer base and our channel and technology partnerships to generate profits and cash from our offerings.

Results

We had total revenue of $107.1 million in the second quarter of fiscal 2018, a $27.7 million decrease from the second quarter of fiscal 2017. The change was primarily due to a decrease in our branded revenue of $25.3 million, or 22% and a decrease in revenue from OEM sales of $2.1 million, or 3%, in each case, as compared to the second quarter of fiscal 2017. Our gross margin percentage for the second quarter of fiscal 2018 was 40.9%, a decrease of 50 basis points from the second quarter of fiscal 2017 due to a shift in revenue mix. Higher margin service revenue decreased and lower margin products comprised a higher portion of our overall product revenue. In addition, we are experiencing overall pricing pressure in the storage market, which has resulted in increased discounting of our products.

We had total revenue of $223.9 million in the first six months of fiscal 2018, a $27.1 million decrease from the first six months of fiscal 2017. The change was primarily due to a decrease in our branded revenue of $22.8 million, or 11%, and a decrease from OEM sales of $5.4 million, or 28%, in each case, as compared to the first six months of fiscal 2017, resulting primarily

16

from lower sales in the second quarter of fiscal 2018. Our gross margin percentage for the first six months of fiscal 2018 was 42.2%, a decrease of 20 basis points from the first six months of fiscal 2017 due to the changes in revenue mix in the second quarter of fiscal 2017 as previously discussed.

Operating expenses decreased $1.6 million, or 3%, from the second quarter of fiscal 2017 primarily relating to decreased research and development costs due to lower compensation and benefits as a result of headcount reductions. Our operating results declined by $10.3 million to a loss from operations of $4.8 million in the second quarter of fiscal 2018 mainly due to a decrease in revenue as compared to the second quarter of fiscal 2017. Operating expenses decreased $0.7 million, or 1%, from the first six months of fiscal 2017 due to lower compensation and benefits as a result of headcount reductions. Our operating results for the first six months of fiscal 2018 declined $11.0 million from the same period in fiscal 2017 mainly due to the decrease in revenue during the second quarter of fiscal 2018.
We used $0.3 million in cash from operations during the first six months of fiscal 2018 compared to $2.4 million of cash generated from operations during the first six months of fiscal 2017. The change was primarily due to $8.1 million in non-cash items, the largest of which were share-based compensation, depreciation and service parts lower of cost or market adjustment, and a $3.1 million change in assets and liabilities, including a $10.3 million decrease in accounts receivables, a $6.5 million increase in accounts payable, offset by a $9.3 million decrease in deferred revenue.
On November 6, 2017, the Company entered into an amendment to our credit facility, including amendments to both the revolving credit agreement and the term loan agreement, to provide the Company with an additional $20.0 million through an incremental delayed draw term loan (“IDDTL”) and to retroactively and prospectively modify certain financial covenants. See Note 12, Subsequent Events, of the Notes to the Condensed Consolidated Financial Statements for details.
On November 9, 2017, we announced the departure of our Chief Executive Officer and the appointment of Adalio Sanchez, one of our directors, as interim CEO. Mr. Sanchez has agreed to serve as interim CEO while the Board undertakes a search for a new CEO.
RESULTS OF OPERATIONS
Revenue
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
% Change
Product revenue
$
63,606

 
59.4
%
 
$
88,575

 
65.7
%
 
$
(24,969
)
 
(28.2
)%
Service revenue
34,165

 
31.9
%
 
36,620

 
27.2
%
 
(2,455
)
 
(6.7
)%
Royalty revenue
9,280

 
8.7
%
 
9,547

 
7.1
%
 
(267
)
 
(2.8
)%
Total revenue
$
107,051

 
100.0
%
 
$
134,742

 
100.0
%
 
$
(27,691
)
 
(20.6
)%
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
% Change
Product revenue
$
135,224

 
60.4
%
 
$
160,401

 
63.9
%
 
$
(25,177
)
 
(15.7
)%
Service revenue
69,411

 
31.0
%
 
72,438

 
28.9
%
 
$
(3,027
)
 
(4.2
)%
Royalty revenue
19,274

 
8.6
%
 
18,187

 
7.2
%
 
$
1,087

 
6.0
 %
Total revenue
$
223,909

 
100.0
%
 
$
251,026

 
100.0
%
 
$
(27,117
)
 
(10.8
)%
 
 
 
 
 
 
 
 
 
 
 
 

We believe changes in our product and service revenue continue to be driven by the changing storage environment, including market demand for scale-out tiered storage and changes in demand for data protection tape products. Revenue from scale-out tiered storage solutions services decreased $12.9 million, or 28% and $10.0 million, or 12% from the second quarter and first six months of fiscal 2017, respectfully, due to decreased sales of our scale-out storage related automation and media. Revenue from branded data protection products and services decreased $12.4 million, or 18% and $12.8, or 9% from the second quarter and first six months of fiscal 2017 due to decreased revenue from both disk backup and tape automation systems and media. OEM product and service revenue, which primarily is comprised of data protection automation systems, decreased $2.0 million, or 23% and $5.4 million, or 25% from the second quarter and first six months of fiscal 2017.

17

Product Revenue
Total product revenue, which includes sales of our hardware and software products sold through both our Quantum branded and OEM channels, decreased $25.0 million and $25.1 million in the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017, respectfully. Revenue from sales of branded products decreased 9% and 22% and revenue from sales of products to OEM customers decreased 6% and 23% in the second quarter and first six months of fiscal 2018 as compared to the second quarter and first six months of fiscal 2017, respectively.
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of revenue
 
September 30, 2016
 
% of revenue
 
Change
 
% Change
Tape automation systems
$
18,580

 
17.4
%
 
$
23,844

 
17.7
%
 
$
(5,264
)
 
(22.1
)%
Disk backup systems
3,679

 
3.4
%
 
10,023

 
7.4
%
 
(6,344
)
 
(63.3
)%
Devices and media
14,320

 
13.4
%
 
14,564

 
10.8
%
 
(244
)
 
(1.7
)%
Scale-out tiered storage*
27,027

 
25.2
%
 
40,144

 
29.8
%
 
(13,117
)
 
(32.7
)%
Total product revenue
$
63,606

 
59.4
%
 
$
88,575

 
65.7
%
 
$
(24,969
)
 
(28.2
)%
 
 
 
 
 
 
 
 
 
 
 
 
* Scale-out tiered storage was referred to as “scale-out storage solutions” in our previous filings.
 
 
 
 
 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of revenue
 
September 30, 2016
 
% of revenue
 
Change
 
% Change
Tape automation systems
$
42,161

 
18.8
%
 
$
45,282

 
18.0
%
 
$
(3,121
)
 
(6.9
)%
Disk backup systems
10,358

 
4.6
%
 
23,506

 
9.4
%
 
(13,148
)
 
(55.9
)%
Devices and media
29,269

 
13.1
%
 
27,318

 
10.9
%
 
1,951

 
7.1
 %
Scale-out tiered storage*
53,436

 
23.9
%
 
64,295

 
25.6
%
 
(10,859
)
 
(16.9
)%
Total product revenue
$
135,224

 
60.4
%
 
$
160,401

 
63.9
%
 
$
(25,177
)
 
(15.7
)%
 
 
 
 
 
 
 
 
 
 
 
 
* Scale-out tiered storage was referred to as “scale-out storage solutions” in our previous filings.
 
 
 
 

Product revenue from tape automation systems decreased in the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017 due to decreases in revenue from branded tape automation of $5.2 million and $1.1 million, respectively, as well as a decrease of $2.1 million and $1.1 million, respectively, in revenue from OEM tape automation systems.

Revenue from disk backup systems decreased in the second quarter and first six months of fiscal 2018 compared to the second quarter of fiscal 2017 primarily due to decreased sales of DXi 6900.

Product revenue from media and devices which includes tape drives and removable hard drives, and non-royalty media sales decreased during the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017 primarily due to lower sales of branded media.

Our scale-out tiered storage revenue decreased during the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017 primarily due to decreased sales of scale-out storage automation and media.
Service Revenue
Service revenue is primarily comprised of hardware service contracts, which are typically purchased by our customers to extend the warranty, or to provide faster service response times.  Service revenue decreased during the second quarter and first six months of fiscal 2018 as compared to the second quarter and first six months of fiscal 2017 due to decreased service revenue from our data protection products.
Royalty Revenue
Royalty revenue increased during the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of 2017 due to a 7% decrease in media cartridge sales by our licensees due to changes in market demand since fiscal 2017.


18

Gross Margin
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
Gross
margin %
 
September 30, 2016
 
Gross
margin %
 
Change
 
Basis point change
Product gross margin
$
15,045

 
23.7
%
 
$
24,223

 
27.3
%
 
$
(9,178
)
 
(360
)
Service gross margin
19,448

 
56.9
%
 
21,956

 
60.0
%
 
(2,508
)
 
(310
)
Royalty gross margin
9,280

 
100.0
%
 
9,547

 
100.0
%
 
(267
)
 
—

Gross margin
$
43,773

 
40.9
%
 
$
55,726

 
41.4
%
 
$
(11,953
)
 
(50
)
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
Gross
margin %
 
September 30, 2016
 
Gross
margin %
 
Change
 
Basis point change
Product gross margin
$
35,714

 
26.4
%
 
$
45,917

 
28.6
%
 
$
(10,203
)
 
(220
)
Service gross margin
39,604

 
57.1
%
 
42,268

 
58.4
%
 
(2,664
)
 
(130
)
Royalty gross margin
19,274

 
100.0
%
 
18,187

 
100.0
%
 
1,087

 
—

Gross margin
$
94,592

 
42.2
%
 
$
106,372

 
42.4
%
 
$
(11,780
)
 
(20
)
 
 
 
 
 
 
 
 
 
 
 
 
Product Margin
Product gross margin decreased 360 and 220 basis points, respectively, during the second quarter and first six months of fiscal 2018 as compared to the second quarter and first six months of fiscal 2017, primarily due to a shift in revenue mix from higher margin products to lower margin products.
Service Margin
Service gross margin decreased 310 and 130 basis points, respectively, in the second quarter and first six months of fiscal 2018 as compared to the second quarter and first six months of 2017, primarily due to decreased service revenue from our data protection products.
Royalty Margin
Royalties do not have related cost of sales and have a 100% gross margin. Therefore, royalty gross margin dollars vary directly with royalty revenue. Royalty revenue, and therefore related gross margin dollars, decreased in the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017.
Research and Development Expenses
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Research and development
$
10,190

 
9.5
%
 
$
11,401

 
8.5
%
 
$
(1,211
)
 
(10.6
)%
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Research and development
$
20,795

 
9.3
%
 
$
22,459

 
8.9
%
 
$
(1,664
)
 
(7.4
)%
 
 
 
 
 
 
 
 
 
 
 
 
The decrease in research and development expense in the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017 was primarily due to the cost reduction actions taken in the first quarter of fiscal 2018, the benefits of which carried over into the second quarter of fiscal 2018, the largest of which was in compensation and benefits from lower staffing levels. Additionally, we had decreases of $0.2 million and $0.6 million in project materials in the second quarter and first six months of fiscal 2018, respectively, compared to the prior year periods.

19

Sales and Marketing Expenses
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Sales and marketing
$
26,179

 
24.5
%
 
$
26,146

 
19.4
%
 
$
33

 
0.1
%
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Sales and marketing
$
54,003

 
24.1
%
 
$
52,513

 
20.9
%
 
$
1,490

 
2.8
%
 
 
 
 
 
 
 
 
 
 
 
 
The increase in sales and marketing expense in the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017 was primarily due to an increase in compensation and benefits of $0.8 million and $2.3 million, respectively, primarily related to a realignment of certain employees from general and administrative to sales and marketing roles. These increases were partially offset by decreased sales commission costs in the fiscal 2018 periods as compared to the same periods in fiscal 2017.

General and Administrative Expenses
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
General and administrative
$
12,158

 
11.4
%
 
$
12,572

 
9.3
%
 
$
(414
)
 
(3.3
)%
 
 
 
 
 
 
 
 
 
 
 
 

 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
General and administrative
$
24,667

 
11.0
%
 
$
25,532

 
10.2
%
 
$
(865
)
 
(3.4
)%
 
 
 
 
 
 
 
 
 
 
 
 

The decrease in general and administrative expense in the second quarter and first six months of fiscal 2018 compared to the second quarter and first six months of fiscal 2017 was primarily due to the realignment of certain employees’ roles to sales and marketing impacting compensation and benefits costs and a restructuring of our information technology group that reduced headcount and eliminated several software licenses. Additionally, a $0.3 million reduction in our asset retirement obligation liability reduced facilities operating expenses in the second quarter of fiscal 2018 as compared to the second quarter of fiscal 2017. These reductions were offset by $0.7 million of consulting fees incurred in connection with Board initiatives in the second quarter of fiscal 2018.

Restructuring Charges
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Restructuring charges
$
31

 
0.0
%
 
$
15

 
0.0
%
 
$
16

 
106.7
%
 
 
 
 
 
 
 
 
 
 
 
 


20

 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Restructuring charges
$
2,366

 
1.1
%
 
$
2,067

 
0.8
%
 
$
299

 
14.5
%
 
 
 
 
 
 
 
 
 
 
 
 
For the first six months of fiscal 2018, restructuring charges were due to $1.6 million of severance and benefits costs incurred as a result of our Fiscal 2018 Restructuring Plan and $0.8 million of facilities restructuring charges due to a change in estimate of sublease timing and related expenses for our facilities included in prior restructuring plans. The vast majority of which occurred in the first quarter of fiscal 2018.

For further information regarding our restructuring actions, refer to Note 6 “Restructuring Charges” of the Notes to the Condensed Consolidated Financial Statements.

Other Income (Expense)
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Other income (expense)
$
77

 
0.1
%
 
$
10

 
0.0
%
 
$
67

 
670.0
%
 
 
 
 
 
 
 
 
 
 
 
 

 
Six Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Other income (expense)
$
175

 
0.1
%
 
$
166

 
0.1
%
 
$
9

 
5.4
%
 
 
 
 
 
 
 
 
 
 
 
 
The increase in other income and expense in the second quarter and first six months in fiscal 2018 compared to the second quarter and first six months of fiscal 2017 was primarily due to an increase in interest income related to our long-term restricted cash balance which originated in the third quarter of fiscal 2017.

Interest Expense
 
Three Months Ended
 
 
 
 
(Dollars in thousands)
September 30, 2017
 
% of
revenue
 
September 30, 2016
 
% of
revenue
 
Change
 
%
Change
Interest expense
$
2,617

 
2.4
%
 
$
1,485

 
1.1
%
 
$
1,132

 
76.2
%
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended