Participants

Brent Stringham; Chief Financial Officer; Lantronix Inc

Saleel Awsare; President, Chief Executive Officer, Director; Lantronix Inc

Jaeson Schmidt; Analyst; Lake Street Capital Markets, LLC

George Gianarikas; Analyst; Canaccord Genuity Group Inc.

Ryan Koontz; Analyst; Needham & Company

Scott Searle; Analyst; Roth Capital Partners, LLC

Christian Schwab; Analyst; Craig-Hallum Capital Group LLC

Presentation

Operator

Good day and welcome to the fiscal 2025 second-quarter results conference call.
(Operator Instructions) Please note this event is being recorded.
I would now like to turn the conference over to Brent Stringham, Chief Financial Officer. Please go ahead.

Brent Stringham

Good afternoon and thank you for joining our quarterly earnings call.
Joining me on the call, today, is our President and Chief Executive Officer, Saleel Awsare.
A live and archived webcast of today's call will be available on the company's website. In addition, you can find the call-in 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 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 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 use.
With that, I'll now turn the call over to Saleel.

Saleel Awsare

Thanks, Brent. Thank you, everyone for joining us on the call today.
We reported revenue of $31.2 million for the second quarter of fiscal 2025 and our non-GAAP EPS was $0.06. Both metrics were solidly within the guidance range.
Brent Stringham, our newly-appointed CFO, will be providing more details on the second-quarter financial results, shortly on the call.
Today, I would like to cover four topics, briefly, with you.
An update of our NetComm acquisition, which closed in late December. Expected growth of the market and comments from CES in Las Vegas are strengthening the relationship and AI development with Qualcomm.
And an update of our internal cost-saving initiatives. First, we are pleased with the strategic acquisition of NetComm for $6.5 million, which expands our Connect business with 4G and 5G gateways. The integration process is going well and we are working closely with our supply chain partners to fill orders for their blue-chip customers.
We recently met with several key customers at CES, including Waterfall, NetComm's largest customer. We believe we are off to a good start and are excited about the growth prospects for the business.
Australia and New Zealand present green-field opportunities for us and we're exploring new cross-selling opportunities for Lantronix to help us grow our Connect product offerings and integrate NetComm's gateway line.
We hired Daniel Quant to head up our Industrial IoT group. Daniel will play a pivotal role in integrating AI into our new IoT devices and gateways for industrial and enterprise customers. With over 20 years of experience in industrial IoT and wireless communications, including his most recent role as Vice President and General Manager at Multi-Tech Systems in Minnesota, we are delighted to have him join the team.
Second, a recent Gartner report highlights a significant shift towards edge computing. By 2025, 70%-odd of data is expected to be captured at the edge of the network, up from 25% in 2018.
Additionally, more than 50% of enterprise-grade data will be processed outside traditional data centers by 2028, as compared to only 25% in 2018. This trend represents a substantial market opportunity with AI and machine learning, projected to be a $76 billion market by 2031.
Lantronix is strategically positioning itself to capitalize on this megatrend by focusing on compute and connect and edge through both organic growth and strategic acquisitions. Lantronix aims to be the picks-and-shovels of the edge AI buildout.
We provide the necessary hardware, software, and services to enable applications helping customers deploy IoT edge solutions more efficiently. We showcased our edge-intelligence technology to our key customers and partners at the CES and received enthusiastic feedback.
Third, we continue to strengthen our strong collaboration with Qualcomm in edge intelligence and some broader AI initiatives. For example, we are integrating Qualcomm's advanced AI framework into our Lantronix edge AI systems to enhance modeling and real-time analytics.
We are positioned as one of Qualcomm's key partners for edge AI, supporting their AI hub program and their expansion into mid-tier and enterprise customers.
For example, new opportunities include working on solutions for banking institutions to test customer traffic analytics, working with an electronics manufacturer for quality control and predictive maintenance, and working with a large agriculture customer to explore real-time monitoring and maintenance for advanced farming.
While we invest in AI solutions, we remain very focused on securing new customers and designments. Several of (inaudible) in out-of-band management is shipping to a large enterprise-ready AI data center, business that is deploying our top-of-rack solution, including hardware, software, and services that enable out-of-band management for remote configuration, fast recovery, and maintenance of the customers' cloud server. This is critical for maintaining access to their assets at all times.
In Compute. We recently secured a design win with a US-based drone manufacturer. We are providing a production-ready computing modules that are embedded in the drones for short-range reconnaissance by the military.
The system is compliant in Connect. We are building on our strong relationship with the leading telecom provider to deliver gateway and routers to manufacturers of critical infrastructure assets, such as generators and power plants. Our intelligent gateway allows customers to increase the operational readiness, reducing operating costs and improving alerts and reporting.
Finally, regarding the cost-reduction initiatives we spoke about last quarter. I'm pleased to report that we are on track and made good progress in the fiscal second quarter.
These initiatives are now substantially complete. Our process of consolidating our seven geographic locations down to four Centers of Excellence is progressing with (inaudible) for operations in Hyderabad, for software and firmware; Vancouver for software and Qualcomm initiatives; Minneapolis for operations and United States-certified warehousing.
We are making these changes to better serve our customers, help our future growth initiatives, and streamline operations.
In addition to the four Centers of Excellence, we are retaining a small administrative head office in Irvine.
With that, I will now turn the call over to Brent to provide you with the quarterly financial review.

Brent Stringham

Thank you, Saleel.
I will review the financial results and some business highlights for our second quarter of fiscal year 2025.
Before commenting on our financial outlook for the third quarter of fiscal 2025, for FQ2 2025, we reported revenue of $31.2 million, which was near the mid-point of our guidance range. This did not include any revenue from the acquisition of the NetComm IoT products, as the transaction closed right at the end of the quarter.
As expected, revenue was down sequentially from the prior quarter, principally due to lower volume from our largest automotive customer and slightly lower activity in our enterprise vertical market on a year-over-year basis.
Revenue in FQ2 2025 was down approximately $5.9 million or 16%, as we saw lower activity in some of our out-of-band management and switch products.
GAAP gross margin was 42.6% in FQ2 2025 compared to 42.1% in the prior quarter and 40.6% in the year ago quarter. Non-GAAP gross margin was 43.2% in FQ2 2025 compared to 42.6% in the prior quarter and 41.6% in the year ago quarter. The sequential improvement in gross margin reflects favorable product mix toward higher-margin system solution products.
GAAP operating expenses for Q2 2025 were $15.4 million compared to $16.8 million in the year ago quarter and $16.6 million in the prior quarter.
Similarly, our non-GAAP OpEx for FQ2 2025 was down by approximately $700,000 compared to the year ago quarter and down approximately $600,000 sequentially, reflecting the progress we're making on cost reductions, which I will speak more about, in a moment.
GAAP net loss was $2.4 million or $0.06 per share during FQ2 2025 compared to GAAP net loss of $2.6 million or $0.07 per share in the year ago quarter. Non-GAAP net income was $1.8 million or $0.04 per share during Q2 2025 compared to non-GAAP net income of $3 million or $0.08 per share in the year ago quarter.
Further to Saleel's comments regarding our cost-reduction initiatives, activities to reduce our operating costs have been substantially completed, as of last month. In January, we reported in the prior quarter that we expected these initiatives to result in quarterly non-GAAP OpEx in the range of $11.25 million to 11.75 million and on a full-year basis, reduce fiscal 2025 OpEx by $4.5 million compared to fiscal 2024.
With the initiatives implemented to date, we are on track to deliver these cost reductions.
Note this quarterly OpEx estimate did not include incremental costs attributable to the acquisition of the NetComm IoT products, which we currently expect to add approximately $300,000 to $400,000 per quarter.
Turning to the balance sheet, we ended FQ2 2025 with cash and cash equivalents of $19.2 million, which includes the disbursement of $6.5 million in late December for the acquisition of the NetComm IoT products for the six-month period ended December 31, 2024.
We generated positive operating cash flow of $3 million. Net inventories decreased slightly to $29.1 million, as of FQ2 2025, as compared to $29.5 million in the prior quarter.
Now, for the outlook for the third quarter of fiscal 2025, we expect revenue to be in the range of $27 million to 31 million. We're expecting sequentially lower revenue in FQ3, primarily reflecting a slower than anticipated rollout by our large SmartEdge customer in Europe.
We anticipate resuming shipments once the initial deployment is complete. The revenue impact in FQ3 is partially offset by expected organic growth in gateways, routers, and out-of-band management. As a result, we're expecting non-GAAP EPS in the range of $0.01 to $0.05 per share in FQ3.
On a general housekeeping note, when filing our Form 10-Q for the current quarter, we also intend to file a Form S-3 registration statement, which renews our existing shelf registration that recently expired. This is consistent with the company's longstanding practice.

Saleel Awsare

Thanks, Brent.
In conclusion, I believe Lantronix has the key asset in computer connect to drive intelligence. We will continue to focus on three key verticals: enterprise, smart cities, which includes infrastructure and transportation.
And as new reports indicate, more and more data traffic will be generated at the edge of the network, with a higher percentage of processing happening there because it's secure and it makes a fast and efficient decision making rather than, we do that back-and-forth to the cloud.
We are very well positioned for this megatrend. While we have experienced the effects of customer concentration, we set our corporate strategy, focus the business, execute it well, operationally, while delivering consistent profitability.
We're driving ahead with AI solutions, securing new designments, integrating the newly-acquired assets from NetComm, and positioning the company for exciting future growth.
That will complete our prepared remarks for today.
So I'll now turn it over to the operator to conduct our Q&A session. Thank you.

Question and Answer Session

Operator

(Operator Instructions)
Jaeson Schmidt, Lake Street.

Jaeson Schmidt

Hey. Thanks for taking my questions.
I just want to focus on your SmartEdge customer. I know fiscal '25 was always going to be that transition year but just based on your commentary on how the March quarter is shaking out, have your thoughts changed about potential follow-on orders from this customer later this calendar year?

Saleel Awsare

Jason, Saleel, thanks for that question.
Our thoughts haven't changed around the SmartEdge customer. As you know, we ship to grid expert -- we said that in the past -- they then work with an (inaudible) on the rollout. And we need to just work around with them on the rollout.
We are sole-source. We are continuing to work with them closely. And I'm going to be visiting them, shortly, in Europe. So not a lot of change on the future.
They've been committing to us. That longer term, they know what the size of the opportunities. And I believe we've spoken to that in the past. But, right now, it's a matter of getting the rollout done.

Jaeson Schmidt

Okay. That makes sense.
And any update on the opportunity here in North America?

Saleel Awsare

Up to my recent discussions with them, they have two pilots going on. One in the Carolinas and one in the Northeast.

Jaeson Schmidt

Perfect.
And then, just the last one from me and I'll jump back into queue.
How should we think about gross margin trending the remaining fiscal '25 here?

Brent Stringham

Hi, Jason. This is Brent. Thanks for the question.
As you know, margins are pretty heavily dependent on our product mix. And we expect, at least, the next quarters' non-GAAP gross margin to come in slightly higher than what we saw here, in FQ2.

Jaeson Schmidt

Okay. Perfect. Thanks a lot, guys.

Saleel Awsare

Thanks, Jason. Thank you for the questions.

Operator

George Gianarikas, Canaccord Genuity.

George Gianarikas

Thank you for taking my questions. Good afternoon.
I was wondering, first, if you can talk a little bit more about what's happening in your out-of-band business. Any color? And how you expect that to proceed into the March quarter?
Thank you.

Saleel Awsare

Thanks for the question, George.
I spoke about [out-of-band]. Let me give you, like, a specific case that I said my prepared remarks.
We got a design win and we're shipping to an AI edge data center, where our box sits at the top of the rack. So that's good, as you see the data center buildout happen.
And without getting into the specifics, we expect it to grow from Q2 fiscal, which ended in December, to Q3 fiscal, which is going to be ending in March.

George Gianarikas

Right
But in the December quarter, what did you see?
I think you mentioned on the call, there was some weakness in out-of-band. Can you just talk a little bit about what happened there? And any vertical, specifically, that were impacted?

Saleel Awsare

The weakness is primarily with some one government-related entity.

George Gianarikas

Thank you.
And then moving, maybe, to auto. Can you just talk about a little bit about your progress with [talk]? And also, whether you have been able to leverage that into additional conversations with other OEMs?

Saleel Awsare

(inaudible) relationship is good. They've gone through some soft pockets but we are anticipating to be very well engaged with them.
More importantly, we have started to ship a new product to them for their new upcoming car. So good work going on there.
We're also working with them on some services business, as they move to the new levels of android. So we are, as I said in the past, we've been two of the cars in Europe.
As you know, we've been working with one truck manufacturer and that's ongoing. That's the update on the automotive side yard. And thank you for that.

Operator

Ryan Koontz, Needham.

Ryan Koontz

Great. Thanks for taking the question.
Want to expand the question around SmartEdge and your opportunities there as it relates -- apart from what edge expertise is doing, I know you've got your own product there.
How do you look at that market? Where do you see opportunities? Is it a different competitive playing field?
The (inaudible) scene, maybe just high level reflections on the SmartEdge opportunity, particularly in the light of modernization and new power needs from AI infrastructure?
Thanks.

Saleel Awsare

Great question, Ryan.
And this really dwells into how we think about the company, longer term. And about the future growth that I talked about, which is around AI.
And when I had spoken at CES and maybe, when I had even come to your conference, we talked about our smart LV box, which is an edge box, using a Qualcomm (inaudible) that we've created, adding our firmware soft.
We're really defining how the edge is managed at the edge device. So this could be sitting at a low-voltage substation or even if you go further, even at your house.
But, right now, our focus is on the low-voltage substations, where you decide where the power needs to be sent. Decide: 'hey, is Saleel at home or not?'
China is doing a lot of the traffic management of how the power comes. And we believe we've got [APOC] happening in Europe, which is, we are progressing well. And then once we finish that and start going after more customers, I expect to see some results in that.
And again, this is using Qualcomm for getting after the power at the edge device. You'll be able to see this one, shortly, again at Embedded World at the Qualcomm suite.

Ryan Koontz

That's really helpful. That's really great.
And is that a different set of competitors than you typically face in the SmartEdge arena?
And in terms of channels, would you develop new channels for this market? The folks that are more aligned with the utility business?

Saleel Awsare

Yes. So we're looking at the channels that we want to develop in that. And specifically, we're going to focus a little bit in Europe because we've got some traction in that area and we talked about our biggest SmartEdge customer.
They are also interested in it because they also believe they want to go one more level from the medium-voltage substation to the low-voltage substation.
It's early days but we are also engaged with them. So that would be one channel. And then, we would have some of our own channels that our sales team is working on.

Ryan Koontz

Super.
And in terms of your legacy business in switching and out-of-band, how do you think about that in the big picture of is that a low growth at all? Or do you think it's going to be a headwind as far as your opportunity for your traditional products?

Saleel Awsare

Great question. Right.
So if I think about Compute and Connect and you, specifically, talked about switching and out-of-band, I'll take out-of-band for a minute.
Out-of-band, we expect this to be a growing business for us. And its higher than corporate gross margins. As we've said before, we have services on [ARR] with it. So we like it and we believe, as the data center buildout happens, we are going to benefit from that. So that's number one.
The switches, media converters, some of these other businesses that we have, I believe our market share is not large. Thus, I see an opportunity for us moving forward to grow some of that from the base that we are at.
And you'd say: 'hey, why are you getting confidence around it?' I'm seeing some good traction in North America. Primarily because we are a Western supplier that's becoming more and more important now.

Ryan Koontz

Okay. That's great. Thanks for that color. Appreciate it.

Saleel Awsare

Thank you, Ryan.

Operator

Scott Searle, Roth Capital.

Scott Searle

Hey. Good afternoon. Thanks for taking my questions.
Maybe just to quickly follow-up on the out-of-band management opportunity. I wonder if you could frame what you think the growth rate is, going forward?
And then, on the edge AI opportunity. I know it's very early days but it seems like there was some good traction coming out of CES. Can you just provide a little bit more color on design cycles metrics that we should be paying attention to? And how this will start to ramp up in fiscal '26?

Saleel Awsare

So let me take the edge AI first and then, we'll go to out-of-band.
Edge AI. Scott, we had good momentum out of CES. I spoke, specifically, about three customer programs that we are working on. One is for the banking industry and I think you saw that demo when you were at our suite of CES. The other one is around manufacturing, where they've got predictive maintenance that they're looking at the existing box that we've added some technology in. And the last one is really with farming. So in fiscal '26, we will start to see green shoots and we anticipate to have revenue in fiscal '26, in these areas.
I don't know whether you saw the news that, Qualcomm also spoke about it yesterday, more and more inference is going to run on the device, making AI more accessible and customizable. And we're going to be right there with that.
So expecting to see growth. And the industry is talking about a 12% growth rate. So I expect we should be in that area, if you may.
And out-of-band management. Sorry, let me get to that. Out-of-band management should be growing more, at the rate that we talked about, 10%, 12%. The market is about $400 million to $500 million, as I've spoken in the past. And the reason we like it, high gross margins, very sticky. And it's a differentiated sale for Lantronix.

Scott Searle

Great.
And if I could just to follow -up on the supply chain issues. Obviously, it's a key topic of discussion in the broader community, right now.
But could you take us through some of your exposures? How the current or potential tariff environment impacts you? Or does it impact you?
Thanks.

Saleel Awsare

Great question. And thank you for asking me that, Scott.
So on the tariff side of it, we have initiatives in place to address potential tariff increases. We are in the process of transitioning the majority of our manufacturing out of China in the near-term start. And I'm very confident this is not going to have any material impact on our business.

Brent Stringham

Great. Thank you.

Operator

Christian Schwab, Craig-Hallum Capital Group.

Christian Schwab

Hey. Most of my questions have been answered.
I just have one. You end the conference call talking about exciting growth to come and I'm just wondering if you could frame that on a multi-year basis for us? What you are expecting? It's hard to do --

Saleel Awsare

You got cut out at the end, Christian.
But I think you were talking about the growth that we are focused on. So we anticipate -- we expect that we should be growing around the 12% rate. That's what we are planning on.
And once some of these edge AI things hit, we should start growing faster than that, in the longer term.

Christian Schwab

Great.
And then, as far as --

Saleel Awsare

Let me make one more add to that. I believe the NetComm asset is also going to be additive to that.

Christian Schwab

Yeah.

Saleel Awsare

No worries.

Christian Schwab

So my last question is just gross margins. Would you assume gross margins stay at the level that you're guiding to March? Or do you see something more aspirational in the future?

Brent Stringham

Christian, this is Brent. We think in the near term, especially this this next quarter, Q3, we expect gross margins to be slightly higher than what we saw here in Q2. Especially given the mix that we're projecting for, for that quarter. And shortly thereafter, in the quarters to come.

Saleel Awsare

And Christian, if you think about longer term, we anticipate the margins to keep improving closer to the 45% rate.
Without giving too much color but, yes, we are really seeing that happening. We've got a laser focus on the supply chain, right now.

Christian Schwab

Great. No other questions. Thank you.

Operator

That concludes our question-and-answer session.
I would like to turn the conference back over to Saleel Awsare for any closing remarks.

Saleel Awsare

Thank you, everyone for joining our call. We are always available for more discussions. Thank you, again. Bye-bye.

Operator

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