Good day, and welcome to the Lantronix Third Quarter Results Conference Call. Please note, this event is being recorded. I would now like to turn the conference over to Rob Adams. Please go ahead. Thank you. Good afternoon, everyone. Thank you for joining for the third quarter fiscal 2023 conference call. Joining us today are Paul Pickle, our President and Chief Executive Officer; and Jeremy Whitaker, our Chief Financial Officer. A live and archived webcast of today’s call will be available on the company’s website. In addition, you can find the call and details for the phone replay in today’s earnings release. During this call, management may make forward-looking statements, which involve risks and uncertainties that could cause our results to differ materially from management’s current expectations. We encourage you to review the cautionary statements and risk factors contained in the earnings release, which was furnished to the SEC today and is available on our website and in the company’s SEC filings such as its 10-K and its 10-Qs. Lantronix undertakes no obligation to revise or update publicly any forward-looking statements to reflect future events or circumstances. Please refer to the news release and the financial information in the Investor Relations section of our website for additional details that will supplement management’s commentary. Furthermore, during the call, the company will discuss some non-GAAP financial measures. Today’s earnings release which is posted in the Investor Relations section of our website, describes the differences between our non-GAAP and GAAP reporting and presents reconciliations for the non-GAAP financial measures that we will use. With that, I will now turn the call over to Jeremy Whitaker, Lantronix’ Chief Financial Officer.

Thank you, Rob, and welcome to everyone joining us for this afternoon's call. I'm going to provide the financial results as well as some of the business highlights for our third quarter of fiscal 2023 before I hand it over to Paul for his commentary. For the third quarter of fiscal 2023, we reported revenue of 33 million, up 5% sequentially and up 2% from the year-ago period. GAAP gross margin improved to 44.4% for the third quarter of fiscal 2023 compared to 43.8% in the prior quarter and 42.1% in the year-ago quarter. Selling, general, and administrative expenses for the third quarter of fiscal 2023 were 9.9 million compared with 8.3 million for the third quarter of fiscal 2022 and 9.8 million for the second quarter of fiscal 2023. Research and development expenses for the third quarter of fiscal 2023 were 5.1 million, compared to 4.5 million for the third quarter of fiscal 2022 and 5.1 million for the second quarter of fiscal 2023. The year-on-year increases in SG&A and R&D were largely driven by headcount we assumed in the September 2022 acquisition of Uplogix. GAAP net loss was 3.1 million or $0.08 per share during the third quarter of fiscal 2023 compared to a GAAP net loss of 3.2 million or $0.09 per share during the third quarter of fiscal 2022. Non-GAAP net income was 2.1 million or $0.06 per share during the third quarter of fiscal 2023 compared to non-GAAP net income of 2.8 million or $0.08 per share during the third quarter of fiscal 2022. Now turning to the balance sheet. We ended the March 2023 quarter with cash and cash equivalents of 12.8 million as compared to 6.8 million in the prior quarter. Working capital was 49.9 million as of March 31, 2023, as compared with 50.6 million as of December 31, 2022. Net inventories were 51.7 million as of March 31, 2023, compared with 49.2 million as of December 31, 2022. The increase in inventories over the last several quarters was primarily due to the purchase of long lead-time components to support the ramp of our supply arrangement with grid expertise and inventory assumed in the September acquisition of Uplogix. Now turning to our outlook. For the fourth quarter of fiscal 2023, we are targeting revenue of 33 million to 36 million, a non-GAAP EPS in a range of $0.06 to $0.08 per share. For fiscal 2024, we are targeting revenue of 175 million to 185 million, and non-GAAP EPS in a range of $0.50 to $0.60 per share. I'll now turn the call over to Paul.

Thank you, Jeremy. We are pleased to deliver sequential growth in March, and as you can see in our guidance, we look toward delivering continued sequential growth in our fourth quarter. As you might imagine, we, like our investors, are intensely focused on the state of the economy and our business. In fiscal year 2023, our results have been good, but below our expectations. Results have been hampered by the normalization of demand for our classic products, delays in the QED program, which pushed out those revenues into the following fiscal year, and our distributors who for the last three quarters have been ordering less from us than they are selling through to their customers in order to lean their inventories. But importantly, the table is set for impressive growth in fiscal year 2024. We have achieved much, and we are poised to make significant progress towards our intermediate term goal of $250 million in annual revenue. I can talk a little bit more about our expectations for FY '24 and beyond later in my prepared remarks, but first let's report on Q3 2023 results and our expectations for the remainder of the fiscal year. Turning to our March results. In our fiscal third quarter, embedded IoT solutions totaled 16.1 million, up 17% sequentially and 5% year-over-year, representing 49% of revenues. Sequential revenue growth was largely driven by our embedded Ethernet and WiFi solutions, as well as our embedded compute products. On the Ethernet and WiFi front, improving supply chain dynamics allowed us to fulfill pent-up demand. On the compute side, EV and automotive shipments are ramping on schedule and the opportunity funnel is growing. Early end customer demand for the Togg electric vehicle platform has exceeded expectations, and new engagements with Fisker, Ghost, Renault, Volvo, and Daimler contribute to a growing pipeline, which we expect will translate to revenue in late fiscal year 2024 and 2025. Elsewhere, within embedded, we saw some softening in our more classic network interface card products. The customer base for these products is largely federal in nature, and as can be the case with our federal customers from time to time, we are experiencing some delays relative to our forecast. We are actively working with our public sector partners to address this, and we are confident that this is a temporary setback. Nevertheless, looking ahead, we see continued strength from embedded wired and wireless products driven by continuing supply chain improvements and steady demand, coupled with growth from EV and automotive. Turning to system solutions, revenues totaled 14 million or approximately 43% of revenues, down 6% sequentially and 6% year-over-year. Within system solutions, sales of our remote environment management products were up, thanks to increased buying from our communication customers. However, we acknowledge a continued temporary weakness in the financial sector leading to delayed orders for these products. We expect a bounce-back in the coming quarters. Switch revenues were tempered as well after recent seasonal strength. Looking at software and services, revenues in Q3 were approximately 2.9 million, flat sequentially, and up 36% year-over-year. We continue to make progress in selling high-margin recurring revenue with some additional contributions coming from our recent acquisition. ARR from software and services at the end of March remained above 5 million. For fiscal fourth quarter 2023, while we have noted some slowness in our turns-driven business and our distributors' continuing focus on leaning out their inventories, we enter Q4 with a record backlog, strong bookings, improving supply chain dynamics, and an expectation of sequential growth. Turning to fiscal year 2024, we have a strong outlook and our visibility into demand has never been better. We anticipate delivering over 30% growth during the next fiscal year. We are poised to begin shipping our Quantum Edge device while we pursue a pipeline of opportunities that could drive double-digit growth at Lantronix over the next several years. Today's customer engagement continues to improve, bringing quality, high-value opportunities into the pipeline. Looking at our top prospects, Lantronix is pursuing more than 40 opportunities that total over 150 million in peak annual revenue in applications such as smart cities, smart grid, EV and automotive, as well as security, surveillance, and telematics. This is an incredible departure from the business we inherited four years ago, and we are just about to hit our stride. We need only modest performance from our classic products to meet our growth target due to market share gains and new customer revenue despite a softening macroeconomic environment. We expect to deliver on that pipeline of opportunities I referenced and set the table for more of the same in fiscal year 2025. We look forward to reporting on our results in the near future. And with that, we'll start our Q&A session. Chad?

And the first question will be from Mike Walkley from Canaccord Genuity.

Great. Thanks for taking my question. And great to see the guidance for next year. I guess, Paul, just if you could break down the fiscal '24 guidance for us a little more. How should we think about the timing of the grid's contract entering fiscal '24, maybe linearity as it ramps? And I think, and I didn't catch the number, but you said 40 projects of 140 million. If you could correct me on that and how much of that might be considered in fiscal '24 if that's not in the model and it could be upside if it hits earlier.

Okay, sure. So if we look at that contract, you know, the statement that we made in the past is that it will ship appreciably in FY '24. But we do expect, you know, some contribution in FY '25, and there is certainly potential upside to that. We're looking at the total production schedule. If we kind of look at a September quarter start to that production, we would expect that to ramp as you would typically ramp production into December, with a strengthening number and then, you know, continue over the next several quarters. And so the $40 million is just really kind of the first step to realizing that contract. But certainly, there's lots of additional opportunity. And so it was 40 opportunities and 150 million, and most of those opportunities, the revenue we do get will have some contribution in FY '25, but that's really more of a mass production number that is appreciable in FY '25. But we do have some programs that we've been working on over the past year and a half, and let's say even two years, that do, if these programs go well, provide some additional upside potential in FY '24. So right now we're giving guidance at the midpoint number of 180. We feel like that is, you know, potentially a conservative number, but right now that's the current outlook.

And just to follow-up to Paul, you indicated your regular terms business, you just needed a modest contribution to hit that number. Can you kind of put that into context? Just slight growth or flat with some inventory clearing at your distributors? Just maybe what your assumptions are for modest help from that side of the business and how long you think it's going to take your distributors to draw down inventory to levels they want to have it?

So, that last half of the question, it's pretty interesting. I think these distributors would prefer inventory levels of zero, and if we could just drop ship to their customers, that would be preferred. But I think if you compare against last fiscal year, that turns business, we kind of talked about it doing double-digit growth, and it really shouldn't. Historically, you're talking mid-single digits being probably the right number. There's a little bit of an ebb and flow to it. We saw that correction towards the end of the year; it has moderated and it has slowed the past couple of quarters, I'll say the last three quarters. But as of today, we've seen that turns business booking trend increase a little bit. So, we're cautiously optimistic that we see a bottom of that turns business correction or moderation, and in terms of what we need out of it. Honestly, at this point we could probably tolerate a slight decline in that business and still readily hit those numbers as long as we execute on new programs.

And last question for me, I just want to clarify you mentioned it sounds like that's going even above your expectations and some of those other auto manufacturers. Can you remind us how long it might take to transition trials with those into design ones and into shipments? Is that more of a one-to-two-year type thing or even longer?

We have begun production with Tog and are now shipping to them in modest quantities as they just started releasing those cars to the public. It will take some time for them to ramp up. Overall, things are progressing well, especially regarding their deposit program. They have received pre-orders four times higher than expected, and they won't be able to fulfill all that demand immediately. We anticipate some additional orders from them in the future, which should lead to significant revenue for next year. As for our other engagements, they are scheduled for production in fiscal year 2025, although we expect some contributions from them in fiscal year 2024. There is one program expected to contribute in the last quarter of fiscal year 2024. Most of our engagements typically last about a year and a half or even longer. We have been working on these for a while and have made progress, so we feel confident discussing them in terms of fiscal year 2025.

The next question is from Jaeson Schmidt from Lake Street.

Paul, in your prepared remarks, you've mentioned some improving supply chain dynamics and some product lines, but just curious if due to supply chain headwinds there was any revenue that couldn't be fulfilled in March?

Yeah, we had about a million dollars that we couldn't meet due to supply chain issues, and a portion of that was due to a customer changing SKU on us at the last minute. So, it falls in this next quarter. But supply chain is largely pretty good. Logistics costs have come down, and component costs continue to come down, so you're going to see a little bit of support in the gross margin line as a result as that inventory flushes through over the next several quarters. But we do still occasionally have one or two components per BOM that is problematic. We did see some NXP pushouts this past quarter, but largely it's okay, and it's manageable, but there are a handful that are still somewhat tough.

Okay. That's helpful. And then you noted a record backlog. Curious if you could share that number?

I don't really want to give a total backlog. Essentially, we've got that contract now fully in the backlog number, and so it's a rather large number, as you can imagine. But we'll just say that we're in good shape starting backlog for the quarter ticked up nicely. So at this point for Q4, we've got we're in a better position than we have been in previous quarters in terms of numbers needed to make the quarter. Overall, things are pretty healthy with good bookings trends in quarter requested booking trends. So I think we're in pretty good shape.

Okay. And then just the last one from me, maybe this is for Jeremy. Gross margin picked up nicely sequentially. How should we think about that trending for the rest of this calendar year?

Yeah, I think for the rest of the year, we expect a similar performance in margins, which could be somewhat impacted by mix. On a positive note, we are seeing logistics costs tempering quite a bit from what we saw earlier in the fiscal year. So I think there's some potential upside from there if that continues, and also into the next fiscal year. We are starting to see PPV costs coming down. So from a cash standpoint, we are paying a little bit less for inventory, but we're still continuing to amortize off some of those previous costs. I wouldn't expect to see benefit to the P&L from that until we get into the next fiscal year. So we do have some improvements coming, but I would say for the next quarter or so, we expect it to be pretty consistent with where we've been.

The next question will be from Ryan Koontz from Needham.

Thank you for the insights on the EV opportunities. Paul, could you share your thoughts on the other areas you've been involved with, such as government initiatives and smart city projects? Which ones are meeting expectations, where are there challenges, and what do you see as the biggest opportunities for growth in fiscal '24?

Yes. I think that the toughest thing about IoT that just about everybody would reflect on nowadays is the fragmentation of the market you end up with in a lot of different use cases. That's one of the strengths and capabilities that we built, as we're able to address a disparate number of opportunities. But there are a few that I would highlight. We got a program going on with our labs, bit more enterprise, faster time to revenue on this particular one, but audio, video conferencing platform that should drive some pretty decent volumes. So that'll be a nice add for us. We continue to work with the New York DOT on a couple of proof of concepts for smart pole applications right now. There's not a lot of color that I could give on that program until New York gets a bit further along. It's a bit of an IoT application. Think mesh network surveillance, a number of different things that go into that program with a single pane of glass management backbone attached to it. We're pretty excited about that one. There are 750,000 poles in New York City, so it would be significant volume over a number of years, and then obviously it has a lot of applications in other municipalities. One other I'd highlight is we recently got a new specification and are on the approved vendor list for AT&T to monitor and attach an IoT device to generators, several different types, assess the status, the operational status and health predictive maintenance with a SaaS platform. Those are all attached to base stations in an AT&T network. We’re quite excited about that one. That one would be fairly near-term revenue as well. It’s a little early on in the process, so there's a bit of customization on the hardware side from our standpoint, then ramping up to meet their needs. But we're working very quickly to make that happen. The only other engagements I might highlight right now are those we've got with P3. It’s an Android automotive OS company that looks to provide a digital cockpit experience. Looking at their customers largely tier three type, tier two numbers, we do the hardware for a lot of customers in that market, like with ART on a Bugatti platform. They want to standardize a telematics experience for in-cockpit. This gives us an opportunity to do one development and roll it out across several platforms in automotive applications. It leverages the work we did with Tog, so we're pretty excited about that one as well.

That's great stuff. And the AT&T stuff you mentioned, was that wireless or wireline side?

It's wireless.

Got it. And, how about a quick, any quick commentary on the competitive environment? Any changes there? Didi's been putting up some pretty good numbers of late, and just in general, what are you seeing in the space?

Yeah, I think, you know, in terms of competitors, there are definitely in certain areas. We know that hardware is not a particular business model that we're especially fond of. We don't want to have to compete in commodity spaces. We want to utilize those commoditized hardware platforms or pieces in order to kind of pull through a larger play. I'd say it's similar to a Digi story in that they're leveraging a much larger product technology base in a particular space. We're making the same inroads, albeit in different verticals and different use cases. I think it’s anybody that kind of thinks in terms of just providing hardware instead of considering a software-hardware solution or platform solution, bringing in additional pieces; there’s a lot of struggling right now. It comes down to who has the part available and the timeline that a customer wants it. If your lead time is a week longer than someone else’s, then they’re going to end up picking up whatever’s on the shelf. It feels like a buyer’s market nowadays unless someone’s really looking at a total solution. We think that provides us a little bit of insulation against some of the softening in market demand.

And the next question is from Scott Searle from Roth Capital.

Hey, Paul, just to follow up on that pipeline, I think you said it was 140 million or 150 million. I'm wondering if you could calibrate us in terms of what your win rates have been and the close rates on that front? And as well, on the software front, I was wondering if you could give us some idea in terms of where you're seeing the highest attach rates right now and the opportunity for that going forward?

Our win rate is quite strong, but it's important to note that it's still early in our progress. We don't lose many opportunities because when we identify them as potential deals, they're typically already qualified and funded. Consequently, we often proceed to sign statements of work or customize efforts for these programs, making it predictable that they will close. The real question is whether they meet their forecasts. For instance, NEAT was a new client for us in 2020 with a novel application and they surpassed their expectations, largely due to the shift towards remote work triggered by COVID. Outside of this, the growth was somewhat gradual. Flock is another valuable client with a promising program, benefiting from current security concerns, which has been somewhat advantageous. However, it's still early days. As we engage in these discussions, our win rates tend to be strong. I mentioned Fisker; they've been in touch several times, and we are optimistic they will generate some volumes as well. Each opportunity is evaluated, and as we look ahead to fiscal year '25, we're feeling positive about our prospects, although numbers may fluctuate.

Just on the software front, Paul, where are you seeing the attach rates in the opportunity both today in terms of where you're getting the attach rates and where you see that looking forward in fiscal '24, '25?

Yeah, the attach rates are going really well, especially for this customer base that prefers on-prem solutions. We have several on-prem solutions, and then we built out a specialized network management tool that really gives them, it's not just a single pane of glass where you're managing your devices, but the reality is it’s more of a network management tool that gives you higher-order functions, allowing you to drill down on what’s happening inside a data center. Specialized tools delivering what customers need—in that context, we see a lot of success.

And lastly, if I could, you mentioned on the console server front, right? Financial markets have been a vertical that you guys have had success in. I'm wondering if you could provide a little more color on when you think there might be a recovery timeline associated with that. And lastly, inorganic opportunities; I’m kind of wondering what you're seeing out there, if there’s rationalization in terms of valuations that companies are looking for in this type of market.

Okay. On the console servers, financial markets, we saw some hesitancy. I think we actually mentioned it on an earnings call two quarters ago. This was before we saw a lot of the banking pressure. If we're talking smaller banking institutions, we'll definitely see continued ordering hesitancy. We typically deal with the larger institutions like Bank of America and American Express. But even in those markets, we’re waiting on the CapEx cycle to loosen up a little bit. We have good visibility that they say what’s needed, and deployment’s necessary; it’s just a matter of timing. We don't anticipate a long delay. I’d say in some cases, one quarter delay is all that we expect. On the strategic alternatives front, right now, valuations are attractive. However, we're still living in a risk-off environment. Going out to get financing for an asset right now could be fairly expensive, and we’d be looking at rates that resemble the cost of capital of equity. The good news is we have a couple of different currencies to play with. We are extremely focused on executing our current organic growth plan, but we are still scanning various assets to see if it makes sense. For the most part, the market still sees that we might be bigger together, and smaller assets will be constrained on capital, making it a little easier to pick things up. We’ll see how it goes over the next couple of quarters.

Hey, Paul. One last one. Just, you talked about the cost of capital; you generated some cash this quarter, but inventories are still pretty elevated. Part of that is related to the grid expertise. Could you just walk us through how you see that transitioning over the next couple of quarters? Should we start to see that work down with normalization of the supply chain to give you a little bit more flexibility?

Yes. If you ignore the grid expertise opportunity and the inventory associated with it, we had inventory levels tick up ever so slightly in the quarter. Right now, I think it's just indicative of support for some of the growing revenue opportunities and bookings that we saw. I did mention that we had difficulty shipping about a million dollars worth of revenue this past quarter that’s going to flush through this next quarter. Looking at the next three quarters, you're going to see that rep inventory number optimize pretty aggressively. As that flows through, we should see some nice support on the gross margin line as well.

And ladies and gentlemen, this concludes our question-and-answer session. I would like to turn the conference back over to Paul Pickle for any closing remarks.

Well, thank you for joining us, and have a great day.

Thank you, sir. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.