Digi International Inc. (DGII) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to Fiscal Quarter 1 2025 Digi International Inc. Earnings Conference Call. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Jamie Loch, CFO. Please go ahead.

Thank you. Good day, everyone. It's great to talk to you again, and thanks for joining us today to discuss the earnings results of Digi International. Joining me on today's call is Ron Konezny, our President and CEO. We issued our earnings release after the market closed today. You may obtain a copy of the press release through the Financial Releases section of our Investor Relations website at digi.com. This afternoon, Ron will provide a comment on our performance, and then we'll take your questions. Some of the statements that we make during this call are considered forward-looking and are subject to significant risks and uncertainties. These statements reflect our expectations about future operating and financial performance and speak only as of today's date. We undertake no obligation to update publicly or revise these forward-looking statements. While we believe the expectations reflected in our forward-looking statements are reasonable, we give no assurance such expectations will be met or that any of our forward-looking statements will prove to be correct. For additional information, please refer to the forward-looking statements section in our earnings release today and the Risk Factors section of our most recent Form 10-K and subsequent reports on file with the SEC. Finally, certain of the financial information disclosed on this call includes non-GAAP measures. The information required to be disclosed about these measures, including reconciliations to the most comparable GAAP measures are included in the earnings release. The earnings release is also furnished as an exhibit to Form 8-K that can be accessed through the SEC filings section of our Investor Relations website. Now I'll turn the call over to Ron.

Thank you, Jamie. Good afternoon, everyone. Before we take questions, a few highlights from our 2025 fiscal first quarter. We began the second year of our 5-year journey to double ARR and adjusted EBITDA of $200 million each, and we remain as confident as ever, we will achieve these targets. In our first fiscal quarter, ARR reached another record at $120 million, an increase of 11% over last year and $4 million higher than last quarter. Strong performance in both of our reporting segments drove this performance. ARR now represents a record 28% of our quarterly revenues. ARR is the top strategic priority to benefit our customers, distributors, employees and shareholders. As an industrial IoT solution provider, Digi saw some of the toughest and most valuable remote connectivity challenges. Our customers rely on our best-in-class software and service, complementing our reliable, secure award-winning edge intelligence. Digi Solutions produced a compelling ROI and faster outcomes for our customers. As ARR grows, it will have an increasing impact on our profitability, enabling our second long-term objectives. We continue to enhance Digi's balance sheet with total outstanding debt below $100 million for the first time since our fiscal fourth quarter of 2021. We generated $30 million in cash from operations in the quarter, and further reduced our inventory balances. We expect strong free cash flow generation this year with all debt expected to be retired by the end of calendar 2025. As our balance sheet improves, we are even better positioned to pursue solution-oriented acquisitions of scale. In a rapidly evolving geopolitical environment that has a myriad of outcomes for global businesses, we remain steadfast in putting our customers' best interest first, just as we did while navigating the supply chain challenges coming out of the COVID pandemic. Despite the speed of change and the fluidity of tariff policies, Digi is confident in our ability to leverage our geographically diverse manufacturers. In 2025, we celebrated our 40-year history of resilience, innovation and adoption, and we rely on this to deliver for our customers for decades to come. Operator, I will now hand the call back for Q&A.

[Operator Instructions] Our first question comes from the line of Tommy Moll from Stephens.

I have a couple of items on the products and services trends here. I guess if we look at the reported revenue, there was the hit from the $4.7 million decline in the one-timers. And then conversely, if you look at the ARR, I mean, we were up 17% year-over-year. So maybe if you could just give a little bit of context on the drivers there for each and in particular, on the ARR side, what that could look like going forward?

Yes. Tommy, it's Jamie. One of the things that we've talked about in the past as we make this transition is that you will see where we would have a transfer of onetime revenue into recurring revenue. And I think you're seeing an example of that now. It's not massive swings, but it's enough that it is noticeable. And when you consider that, that ARR is over a 1-year period versus a 3-year period, you can kind of see that it probably is an indicator of how units actually went out the door. And so this is a theme that I think will be pretty consistent over a period of time where you'll have some periods where ARR growth will be higher and that onetime revenue could vary a little bit to the plus or to the minus, but this for sure is part of the path that we've laid out as really focusing on our ARR growth.

Second question from me on your guidance for the second fiscal quarter. It looks like revenue is projected to be flattish quarter-over-quarter on the EBITDA line, just in dollar terms at the midpoint, we're slightly down. So I'm just curious if there's something on the margin side in Q2 that is worth calling out there?

Yes, Tommy, it's Jamie again. I think if you look at the performance in Q1, you would have seen a significant sequential change in gross margins. And while part of that change is attributable to the changing mix between ARR and onetime, we also had some very favorable product mix that took place this quarter in onetime revenue. And I would say that you can see that it really has moved to a level that's probably above new plateaus that we had said are probably considered reasonable. And so we had some favorable mix in Q1 that we are likely not going to repeat to that scale in Q2. And so that's probably the biggest driver that's taking place, all around mix on the onetime revenue. But still, for sure, you'll continue to see the mix that's been attributable to ARR growth. And at a Digi-wide level, gross margins at 60% or better will continue to be the theme. But this one spikes up a little bit higher than what we've seen in the past.

Our next question comes from the line of Jim Fish from Piper Sandler.

Maybe Ron, for you, just to start, and you alluded to this a little bit in your prepared remarks. Can you elaborate a little bit more as to how you guys are thinking about the tariff impact potential given your supply chain does stretch across North America here. And do you think we could see a pull-in of demand for more of the CapEx or onetime upfront side of the business as a result of sort of the threat of what we could see as increased prices?

Yes, Jim, it's a good question. Over 70% of our revenues are coming out of North America, the U.S. in particular, is a dominant part of that. We have emphasized with our customers. We're going to put their interest first. We have a geographically diverse set of manufacturing partners, including with presence in the U.S., we don't move our product lines haphazardly. We're very deliberate about it. We have not been communicating to our customers that, hey, get it now or you're going to face some kind of price increase. We're taking that longer view of that relationship and that solution is way more valuable than any kind of near-term tariff implication. Combine that with a very fluid policy, I think there's generally a lot of uncertainty out there.

Got it. And then, look, we've got IT budgets potentially increasing, discussions around data center refreshes, how should we be thinking of these tailwinds for you guys over the next year or 2, relative to some of the other dynamics around other use cases like ATMs, point-of-sale sensors, gaming and whatnot?

Yes. I think there could be a favorable backdrop there, Jim. I think there's a lot of continued interest in infrastructure investing. And of course, as you know, a lot of emphasis on trying to have foreign companies and local companies invest in the U.S. and that all creates opportunity. We saw PMI crack 50 for the first time in some time here, that's a positive indication. The industrial economy has been weak for some time. And so there is the real potential for the hard goods part of our economy to have an uplift here. And those Western companies are increasingly favoring Western providers to help them with their technology and IoT solutions. So there could be a real favorable backdrop.

[Operator Instructions] Our next question comes from the line of Josh Nichols from B. Riley.

Great to see the healthy gross margins and the record ARR. Previously, sometimes on the call, you gave a little bit more context. I'm just kind of curious about what you're seeing in terms of customer ordering patterns? And then any particular end markets where you're seeing particular strength or weakness overall today?

Yes. So I think the ordering patterns have stabilized, maybe modestly improved. I wouldn't say dramatically improved, but you do sense increased confidence in the marketplace. We watch closely some of our key suppliers, NXP and Silicon Labs and others, and they're still citing some industrial and automotive weaknesses. And we'll also look at communications equipment comps and Juniper had a print yesterday that was relatively favorable. So there could be some continued momentum there to climb out of extended sales cycles, shorter order volumes and amounts that could help us. In terms of verticals, as you've heard a lot of times, I know it's a little bit [indiscernible], but in terms of the answer, we are very diverse. So at any point in time, we have sectors that are doing well and sectors that maybe aren't as favorable. We continue to see good demand out of data centers. That's a key market for Opengear. But we're also seeing really good demand in medical devices. We're seeing good demand in connectivity solutions for remote machines, which helps Ventus and cellular. Utilities are a strong segment, both renewable utilities as well as more traditional fossil fuels. So that's been a good segment as they've been looking to modernize their infrastructure.

And then just one follow-up for me. I'm kind of curious, just -- you've been seeing good ARR growth across both the segments now. Any context? I'm just curious what you're looking for in terms of attach rates, where they are today for what used to be onetime revenue? And if you were to kind of compare that and how that's changed over the last year or 2, overall?

Yes. I mean we're seeing a nice uptick after a lot of years of hard work, both on the, I think, the customer and product-facing side and quite frankly, as much on the back office side, we're starting to see the beginnings of the strategy playing out. We're having over 50% attach rates on our key products. We're trending towards much higher than that in certain segments within our cellular router group, for example. So we're very optimistic that we're going to see a continued increase in attach rates. We have a new leader in Opengear. There's a set of solution packages that are being worked on inside of that business that we think that will increase the take rates there as well of solutions. So we're very optimistic we can continue this momentum.

Thank you. At this time, I would now like to turn the conference back over to Ron Konezny for closing remarks.

We plan on attending ROTH's 37th Annual conference for Growth Companies in Dana Point, California on March 17. We appreciate you joining Digi's earnings call and for your continued support. Thank you to our customers, distributors, suppliers and to our exceptional Digi team. Have a great day.

This concludes today's conference call. Thank you for participating. You may now disconnect.