Applied Digital (APLD) - 2024 Q3 - Quarterly Report

Part I - Financial Information This part presents the company's unaudited condensed consolidated financial statements and management's analysis of financial condition Item 1. Financial Statements This section presents the unaudited condensed consolidated financial statements and detailed notes for the three and nine months ended February 29, 2024 Condensed Consolidated Balance Sheets This section details the company's financial position, including assets, liabilities, and stockholders' equity at specific dates Condensed Consolidated Balance Sheets (in thousands) | ASSETS | Feb 29, 2024 | May 31, 2023 | | :--------------------------- | :----------- | :----------- | | Cash and cash equivalents | $4,435 | $28,999 | | Restricted cash | $29,545 | $14,575 | | Current assets held for sale | $65,369 | — | | Total current assets | $105,701 | $45,668 | | TOTAL ASSETS | $643,168 | $263,957 | | LIABILITIES | | | | Accounts payable | $93,918 | $6,446 | | Total current liabilities | $349,160 | $115,460 | | Total liabilities | $524,680 | $194,278 | | Total stockholders' equity | $118,488 | $69,679 | - Total assets significantly increased from $263.96 million at May 31, 2023, to $643.17 million at February 29, 2024, primarily driven by increases in property and equipment, operating and finance lease right-of-use assets, and current assets held for sale[9] - Total liabilities also saw a substantial increase from $194.28 million to $524.68 million over the same period, largely due to higher accounts payable, current and long-term lease liabilities, and current portion of debt[9] Condensed Consolidated Statements of Operations This section outlines the company's revenues, costs, and net loss for the three and nine months ended February 29, 2024 Condensed Consolidated Statements of Operations (in thousands, except per share data) | Metric | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :----------------------------------------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Total revenue | $43,348 | $14,090 | $121,876 | $33,354 | | Total costs and expenses | $99,170 | $21,079 | $193,296 | $71,229 | | Operating loss | $(55,822) | $(6,989) | $(71,420) | $(37,875) | | Net loss attributable to Applied Digital Corp. | $(62,838) | $(7,025) | $(84,824) | $(38,173) | | Basic and diluted net loss per share | $(0.52) | $(0.07) | $(0.77) | $(0.41) | - Total revenue for the three months ended February 29, 2024, increased by 207% YoY to $43.3 million, and for the nine months, it increased by 265% YoY to $121.9 million, primarily due to increased capacity and the launch of Cloud services[11] - The company reported a significant increase in net loss attributable to Applied Digital Corporation, reaching $(62.8) million for the three months and $(84.8) million for the nine months ended February 29, 2024, compared to $(7.0) million and $(38.2) million in the prior year periods, respectively. This was largely driven by increased costs of revenue, selling, general and administrative expenses, and a $21.7 million loss on classification of assets held for sale[11][123] Condensed Consolidated Statements of Changes in Stockholders' Equity This section details changes in stockholders' equity, including net loss, stock offerings, and stock-based compensation Key Changes in Stockholders' Equity (in thousands) | Metric | Nine Months Ended Feb 29, 2024 | | :-------------------------------------- | :----------------------------- | | Balance, May 31, 2023 | $69,679 | | Shares issued in offering, net of costs | $121,002 | | Stock-based compensation | $13,634 | | Net loss | $(85,221) | | Extinguishment of noncontrolling interest | $9,765 | | Balance, February 29, 2024 | $118,488 | - Total stockholders' equity increased from $69.7 million at May 31, 2023, to $118.5 million at February 29, 2024, primarily due to $121.0 million in net proceeds from common stock offerings and $13.6 million in stock-based compensation, partially offset by a net loss of $85.2 million[17] Condensed Consolidated Statements of Cash Flows This section presents the cash inflows and outflows from operating, investing, and financing activities Condensed Consolidated Statements of Cash Flows (in thousands) | Cash Flow Activity | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :------------------------------------- | :----------------------------- | :----------------------------- | | Net cash provided by operating activities | $47,896 | $54,144 | | Net cash used in investing activities | $(122,518) | $(96,314) |\n| Net cash provided by financing activities | $72,028 | $18,792 | | Net decrease in cash, cash equivalents, and restricted cash | $(2,594) | $(23,378) | | Cash, cash equivalents, and restricted cash, end of period | $40,980 | $22,921 | - Net cash provided by operating activities decreased by $6.2 million (12%) to $47.9 million for the nine months ended February 29, 2024, mainly due to decreased revenue prepayments and increased operating lease payments, partially offset by a large increase in accounts payable[165] - Net cash used in investing activities increased by $26.2 million to $122.5 million, primarily driven by higher finance lease prepayments for Cloud services equipment, despite a decrease in property and equipment investments compared to the prior year's datacenter construction[166] - Net cash provided by financing activities significantly increased by $53.2 million (283%) to $72.0 million, largely due to proceeds from common stock offerings and related party debt, partially offset by increased debt and finance lease repayments[167] Notes to the Condensed Consolidated Financial Statements This section provides detailed explanations of the company's business, accounting policies, and significant financial events 1. Business and Organization This note describes Applied Digital Corporation's business model, operating segments, and digital infrastructure solutions - Applied Digital Corporation designs, builds, and operates digital infrastructure, offering cost-competitive solutions across three reportable segments: Cloud services, high-performance compute (HPC) hosting, and datacenter hosting[19][28] 2. Basis of Presentation and Significant Accounting Policies This note outlines the financial statement preparation basis, key accounting policies, and reclassifications - The interim unaudited condensed consolidated financial statements are prepared in accordance with SEC rules and GAAP, requiring management estimates and assumptions, particularly for deferred tax assets valuation[20][22] - Revenue recognition follows ASC 606, with datacenter hosting revenue recognized over the service term based on fixed rates, and cloud services revenue also recognized over the term for managed cloud infrastructure[23][24][25] - The company reclassified certain prior period balance sheet and income statement amounts to conform to current period presentation, including separating 'Accounts payable and accrued expenses' and reclassifying 'Restricted cash' and 'Interest income', with no impact on net income, cash flows, or total assets/liabilities[34][35][36] 3. Property and Equipment This note details the company's property and equipment, including depreciation expenses and asset abandonments Property and Equipment, Net (in thousands) | Category | Feb 29, 2024 | May 31, 2023 | | :---------------------------------------- | :----------- | :----------- | | Total cost of property and equipment | $222,741 | $200,533 | | Accumulated depreciation | $(11,569) | $(4,940) | | Property and equipment, net | $211,172 | $195,593 | - Depreciation expense significantly increased to $7.9 million for the three months and $12.9 million for the nine months ended February 29, 2024, compared to $0.9 million and $2.6 million in the prior year, reflecting increased owned and leased assets[40] - The company recognized $2.8 million in accelerated depreciation and $1.4 million in accelerated amortization for the three months ended February 29, 2024, related to the abandonment of certain transformers at its Ellendale datacenter facility, recorded within Cost of revenues[41] 4. Revenue from Contracts with Customers This note provides details on revenue concentration, deferred revenue, and recognition policies Revenue Concentration by Major Customers | Customer | Three Months Ended Feb 29, 2024 | Nine Months Ended Feb 29, 2024 | | :--------- | :------------------------------ | :----------------------------- | | Customer A | 68% | 69% | | Customer G | 10% | — | Deferred Revenue (in thousands) | Metric | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :---------------------- | :----------------------------- | :----------------------------- | | Balance, beginning of period | $48,692 | $3,877 | | Advance billings | $129,044 | $76,961 | | Revenue recognized | $(121,875) | $(33,354) | | Balance, end of period | $63,121 | $45,184 | - Deferred revenue increased to $63.1 million at February 29, 2024, from $48.7 million at the beginning of the nine-month period, driven by $129.0 million in advance billings[44] 5. Related Party Transactions This note discloses transactions with related parties, including revenue, debt, and loan extinguishments Related Party Revenue (in thousands) | Customer | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :--------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Customer D | $1,662 | $2,250 | $5,980 | $5,690 | | Customer E | $1,402 | $1,786 | $4,903 | $4,525 | - Related party revenue decreased by $0.9 million (24%) for the three months ended February 29, 2024, but increased by $0.7 million (7%) for the nine months, primarily due to reduced uptime and pricing for Customer D and E in the shorter period, offset by increased uptime at Jamestown facility over the longer period[46][121][128] - The company early repaid a $44.5 million B. Riley Loan during the nine months ended February 29, 2024, incurring a $2.4 million loss on debt extinguishment, and subsequently terminated the loan agreement[48][49] - An Unsecured Promissory Note (AI Bridge Loan) of up to $20.0 million was issued on January 30, 2024, with $15.0 million funded immediately, bearing 12.5% interest. The company recognized a $2.6 million loss on change in fair value of this debt[50][52] 6. Debt This note details the company's long-term debt, including various loan instruments and reclassifications Long-term Debt Components (in thousands) | Debt Instrument | Interest Rate | Maturity Date | Feb 29, 2024 | May 31, 2023 | | :---------------------- | :------------ | :------------ | :----------- | :----------- | | Starion term loan | 6.50% | July 25, 2027 | $10,730 | $12,786 | | Vantage Garden City loan | 6.15% | April 26, 2028 | $12,757 | $10,074 | | Starion Ellendale loan | 7.48% | Feb 3, 2028 | $17,079 | $19,728 | | Vantage transformer loan | 6.50% | Feb 8, 2029 | $3,660 | — | | Long-term debt, net | | | $24,845 | $33,222 | - Total long-term debt, net, decreased from $33.2 million at May 31, 2023, to $24.8 million at February 29, 2024, despite new borrowings like the Vantage Transformer Loan ($3.7 million)[57] - The $12.8 million outstanding balance on the Vantage Garden City loan was reclassified to current portion of long-term debt due to plans to sell the Garden City facility, making the loan callable[60] - The company entered into a $16.0 million Cornerstone Bank Loan on February 28, 2024, and a $3.7 million Vantage Transformer Loan on February 8, 2024, to finance property improvements and a transformer for its Ellendale HPC location, respectively[61][62] 7. Stockholders' Equity This note outlines changes in stockholders' equity, including stock-based compensation and common stock offerings - The company recognized $3.2 million and $13.6 million in stock-based compensation for the three and nine months ended February 29, 2024, respectively, under its equity incentive plans[64] - During the nine months ended February 29, 2024, the company completed an 'at the market' common stock offering, selling approximately 18.9 million shares for net proceeds of $121.0 million[67] - On August 31, 2023, the noncontrolling interest in 1.21 Gigawatts LLC was extinguished, with the minority partner exchanging their interest for approximately 1.5 million shares of the company's common stock, valued at $9.8 million[68] 8. Fair Value Measurements This note explains fair value measurements, particularly for the AI Bridge Loan and related losses - The AI Bridge Loan is measured at fair value due to an accelerated redemption feature, resulting in a $2.6 million loss on change in fair value of debt for the three and nine months ended February 29, 2024[71][52] Fair Value of AI Bridge Loan (in thousands) | Debt instrument | Fair Value Hierarchy | Outstanding Principal | Fair Value | | :-------------- | :------------------- | :-------------------- | :--------- | | AI Bridge Loan | Level 3 | $15,000 | $17,612 | 9. Leases This note details the company's lease costs, including operating and finance leases, and future commitments Total Net Lease Cost (in thousands) | Lease Type | Three Months Ended Feb 29, 2024 | Nine Months Ended Feb 29, 2024 | | :------------------ | :------------------------------ | :----------------------------- | | Total operating lease cost | $5,215 | $8,226 | | Total finance lease cost | $21,603 | $40,834 | | Total net lease cost | $26,843 | $49,115 | - Total net lease cost significantly increased to $26.8 million for the three months and $49.1 million for the nine months ended February 29, 2024, compared to $1.4 million and $3.1 million in the prior year periods, primarily due to increased finance lease amortization and interest on lease liabilities[73] - The company has executed but not yet commenced leases with total minimum payments of approximately $120.7 million, with terms ranging from 2 to 6.7 years[74] 10. Commitments and Contingencies This note discloses significant commitments, legal proceedings, and potential financial impacts - The company has a minimum commitment of approximately $82.2 million related to an energy services agreement for its Jamestown facility, with a remaining term of about 2.9 years[75] - Applied Digital, its CEO, and CFO are defendants in a securities class action lawsuit and a derivative action, both alleging false or misleading statements and breaches of fiduciary duties. The company is currently unable to estimate potential losses but does not expect a material adverse effect on operations or financial position[77][78][80][175][176] - A $2.3 million loss from legal settlement was recognized for the nine months ended February 29, 2024, related to employment-related claims by a former executive[82][132] 11. Business Segments This note provides financial performance details for the datacenter hosting, cloud services, and HPC hosting segments Revenue by Segment (in thousands) | Segment | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :-------------------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Datacenter hosting | $37,795 | $14,090 | $109,720 | $33,354 | | Cloud services | $5,553 | — | $12,156 | — | | Total revenue | $43,348 | $14,090 | $121,876 | $33,354 | Segment Loss (in thousands) | Segment | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :-------------------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Datacenter hosting | $(24,443) | $(3,117) | $(4,647) | $(18,218) | | Cloud services | $(21,565) | $(741) | $(40,694) | $(741) | | HPC hosting | $(1,445) | $(18) | $(3,106) | $(18) | | Total segment loss | $(47,453) | $(3,876) | $(48,447) | $(18,977) | - Datacenter hosting revenue increased significantly, while its operating loss widened for the three months due to the Garden City facility's held-for-sale classification and accelerated depreciation at Ellendale. However, for the nine months, the datacenter hosting operating loss decreased due to full operations at Ellendale and Garden City[83][85][138][142] - Cloud services generated $5.6 million in revenue for the three months and $12.2 million for the nine months ended February 29, 2024, but incurred substantial operating losses of $(21.6) million and $(40.7) million, respectively, as the segment ramps up operations, driven by amortization of finance leases and occupancy costs[83][85][140][143] - HPC hosting reported no revenue but significant operating losses of $(1.4) million for the three months and $(3.1) million for the nine months, primarily from stock-based compensation, payroll, and finance lease amortization as the company ramps up its operations[83][85][141][144] 12. Earnings Per Share This note details the calculation of basic and diluted net loss per share for the reporting periods Basic and Diluted Net Loss Per Share | Metric | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :----------------------------------------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Net loss attributable to Applied Digital Corp. | $(62,838) | $(7,025) | $(84,824) | $(38,173) | | Basic and diluted net loss per share | $(0.52) | $(0.07) | $(0.77) | $(0.41) | | Weighted average number of shares outstanding | 121,426,622 | 94,119,944 | 110,500,556 | 93,545,687 | - Basic and diluted net loss per share increased to $(0.52) for the three months and $(0.77) for the nine months ended February 29, 2024, compared to $(0.07) and $(0.41) in the prior year periods, reflecting the higher net losses and increased weighted average shares outstanding[88] 13. Assets Held for Sale This note describes the classification of the Garden City facility as held for sale and related financial impacts - The company's board approved plans to sell its Garden City facility, classifying it as 'held for sale' as of February 29, 2024, and recording a $21.7 million loss on classification to fair value less costs to sell[89][90] Assets and Liabilities Held for Sale (in thousands) | Category | Amount | | :------------------------------ | :----------- | | Property and equipment, net | $57,260 | | Finance lease right of use assets | $8,109 | | Total assets held for sale | $65,369 | | Current portion of finance lease liability | $3,657 | | Long-term portion of finance lease liability | $4,622 | | Total liabilities held for sale | $8,279 | - The sale agreement for the Garden City facility, entered into on March 14, 2024, has a total potential cash consideration of $87.3 million, including a $34.0 million contingent amount based on regulatory approval for additional energy capacity, which was not considered probable for fair value calculation as of February 29, 2024[89][92] 14. Subsequent Events This note reports significant events occurring after the reporting period, including loan fundings and asset sales - On March 1, 2024, the company received $15.7 million in funding (net of fees) under the Cornerstone Bank Loan[94] - Subsequent to quarter-end, the remaining $5 million under the AI Bridge Loan was borrowed, bringing the total outstanding to $20.0 million. An amendment on March 27, 2024, waived prepayment obligations and increased the repayment fee to 1.30x the principal[95][96] - The Garden City facility sale closed on April 1, 2024, and the company entered into a Prepaid Advance Agreement with YA II PN, LTD. on March 27, 2024, for up to $50.0 million via two convertible unsecured promissory notes, with the first $40.0 million note issued for approximately $38.0 million cash[97][98][99] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses the company's financial condition, results of operations, liquidity, and non-GAAP measures for the reported periods Forward-Looking Statements This section cautions that the report contains forward-looking statements subject to risks and uncertainties - The report contains forward-looking statements regarding future expectations, projections of results, and financial positions, which are subject to substantial risks and uncertainties, and actual results may differ materially[101][102] Executive Overview This section provides an overview of Applied Digital Corporation's business and the impact of the regulatory environment - Applied Digital Corporation operates in high-performance compute (HPC) hosting, cloud services, and datacenter hosting, providing digital infrastructure solutions[105] - The company's business is significantly affected by the regulatory environment, particularly for crypto mining customers, with evolving and uncertain laws that could impact operations and revenue[106][107][108] Business Update This section provides updates on datacenter operations, asset sales, and the progress of Cloud and HPC services - The Jamestown datacenter operated at full capacity, but the Ellendale facility experienced a power outage in January, with re-energization to 14% capacity (25 MW) and a target of 65%-75% by May 2024 after transformer replacements[111] - The Garden City facility increased energy capacity to 132 MW but was classified as held for sale, resulting in a $21.7 million loss, with a purchase agreement for up to $87.3 million cash consideration and an additional $10.0 million from surrendered prepayments[112][113] - Cloud Services began generating revenue near the end of the quarter, with expectations for positive financial impact in the fiscal fourth quarter, while HPC hosting broke ground on its first 100 MW facility in Ellendale and is in advanced discussions for a 400 MW capacity lease with a US-based hyperscaler[114][115][116] Results of Operations This section analyzes the company's revenue, costs, operating loss, and other financial results for the periods Key Financial Results (in thousands, except per share data) | Metric | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :----------------------------------------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Total revenue | $43,348 | $14,090 | $121,876 | $33,354 | | Total costs and expenses | $99,170 | $21,079 | $193,296 | $71,229 | | Operating loss | $(55,822) | $(6,989) | $(71,420) | $(37,875) | | Net loss attributable to Applied Digital Corp. | $(62,838) | $(7,025) | $(84,824) | $(38,173) | | Basic and diluted net loss per share | $(0.52) | $(0.07) | $(0.77) | $(0.41) | - Total revenue increased by 207% for the three months and 265% for the nine months ended February 29, 2024, driven by increased datacenter capacity and the launch of Cloud services[120][127] - Cost of revenues increased by 347% for the three months and 259% for the nine months, primarily due to higher energy costs, depreciation, and personnel expenses as more facilities were energized and services provided[122][129] - Selling, general and administrative expenses rose by 188% for the three months and 57% for the nine months, mainly due to increased depreciation, lease expenses for unutilized datacenter space, and professional service fees, partially offset by a decrease in stock-based compensation for the nine-month period[122][124][129][130] - Operating loss significantly widened to $(55.8) million for the three months and $(71.4) million for the nine months, largely impacted by a $21.7 million loss on classification of assets held for sale and a $2.4 million loss from legal settlement[118][123][131][132] - Interest expense, net, increased substantially by 1151% for the three months and 733% for the nine months, driven by higher finance leases and interest-bearing debt[125][133] - A $2.6 million loss on change in fair value of related party debt was recognized for both periods due to the AI Bridge Loan valuation, and a $2.4 million loss on extinguishment of debt was recorded for the nine months due to the B. Riley loan termination[126][134][135] Non-GAAP Measures This section presents non-GAAP financial measures to provide additional insight into the company's performance - The company presents non-GAAP financial measures like Adjusted Operating Loss, Adjusted Net Loss, Adjusted Net Loss per Diluted Share, EBITDA, and Adjusted EBITDA to provide additional insight into performance by excluding one-time or significant non-cash items[145][146][149][150] - Beginning in Q3 2024, the company updated its non-GAAP presentation, no longer excluding start-up costs from its adjusted measures[148] Adjusted Non-GAAP Financial Measures (in thousands, except per share data) | Metric | Three Months Ended Feb 29, 2024 | Three Months Ended Feb 28, 2023 | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :----------------------------------------- | :------------------------------ | :------------------------------ | :----------------------------- | :----------------------------- | | Adjusted operating loss | $(24,507) | $(1,017) | $(26,021) | $(7,613) | | Adjusted net loss | $(28,911) | $(1,401) | $(34,857) | $(8,552) | | Adjusted net loss per diluted share | $(0.24) | $(0.01) | $(0.32) | $(0.09) | | Adjusted EBITDA | $(2,346) | $909 | $17,423 | $(3,076) | Sources of Liquidity This section details the company's cash position, historical funding sources, and post-quarter liquidity events - As of February 29, 2024, the company had $4.4 million in unrestricted cash and cash equivalents and negative working capital of $243.5 million[155] - The company has historically relied on equity and debt financings, generating cash from term and related party loans, common stock issuance ($121.0 million net proceeds), and customer deposits/revenue payments[155][157][159] - Post-quarter, the Garden City facility sale closed on April 1, 2024, yielding approximately $61.1 million in net cash proceeds, and the company received $15.7 million in funding from the Cornerstone Bank Loan[158][159] Funding Requirements This section outlines the company's expected liquidity for the next 12 months and anticipated capital expenditures - The company expects sufficient liquidity for the next 12 months through cash on hand, customer payments, and access to debt and public capital markets, but acknowledges that estimates may be wrong, potentially requiring additional financing sooner[161] - General and administrative expenses and operating expenditures are expected to increase with continued expansion, particularly significant investments in property and equipment for HPC hosting facilities and Cloud services assets through fiscal year 2025[162] Summary of Cash Flows This section summarizes cash flows from operating, investing, and financing activities for the nine-month periods Summary of Cash Flows (in thousands) | Cash Flow Activity | Nine Months Ended Feb 29, 2024 | Nine Months Ended Feb 28, 2023 | | :------------------------------------- | :----------------------------- | :----------------------------- | | Net cash provided by operating activities | $47,896 | $54,144 | | Net cash used in investing activities | $(122,518) | $(96,314) | | Net cash provided by financing activities | $72,028 | $18,792 | | Net decrease in cash and cash equivalents | $(2,594) | $(23,378) | | Cash, cash equivalents, and restricted cash at end of period | $40,980 | $22,921 | - Operating cash flow decreased by $6.2 million (12%) due to lower revenue prepayments and higher operating lease payments, partially offset by increased accounts payable[165] - Investing cash flow increased by $26.2 million (27%) in usage, primarily due to higher finance lease prepayments for Cloud services equipment[166] - Financing cash flow increased by $53.2 million (283%) in provision, driven by common stock offering proceeds and related party debt, partially offset by increased debt and finance lease repayments[167] Item 3. Quantitative and Qualitative Disclosures About Market Risk This section states that there are no applicable quantitative and qualitative disclosures about market risk for the company - The company has no applicable quantitative and qualitative disclosures about market risk[168] Item 4. Controls and Procedures Management concluded that disclosure controls and procedures were ineffective due to material weaknesses, with remediation efforts underway - Management, including the CEO and CFO, concluded that disclosure controls and procedures were not effective as of February 29, 2024, due to material weaknesses[169] - Identified material weaknesses include: * Lack of controls to ensure accurate recording, processing, summarizing, and reporting of financial data * Ineffective user access controls for segregation of duties and restricted access to financially relevant systems * Inadequate controls for identifying and disclosing related party transactions * Absence of a properly designed internal control system to identify critical processes and key controls[171] - Remediation steps include: * Hiring additional qualified accounting and financial reporting personnel * Implementing specific controls for related party relationships and disclosures * Developing IT general controls for access and program changes * Implementing processes to better identify and manage segregation of duties[171] Part II - Other Information This part includes legal proceedings, risk factors, and other required disclosures Item 1. Legal Proceedings The company is involved in a securities class action lawsuit and a derivative action, both alleging false or misleading statements and breaches of fiduciary duties. While the company cannot estimate potential losses, it does not currently expect a material adverse effect on its results of operations or financial position - The company, its CEO, and CFO are defendants in a securities class action lawsuit (McConnell v. Applied Digital Corporation, et al.) filed in August 2023, alleging false or misleading statements regarding business, operations, and compliance policies[175] - A derivative action (Weich v. Cummins, et al.) was filed in November 2023 against certain Board members, CEO, and CFO, asserting claims for breaches of fiduciary duties, unjust enrichment, and corporate waste based on similar allegations as the securities lawsuit[176] - The company is currently unable to estimate potential losses from these actions but does not expect a material adverse effect on its results of operations or financial position, though outcomes are subject to uncertainties[175][176] Item 1A. Risk Factors This section highlights new or emphasized risks, including reliance on third parties, supply chain, regulatory changes, and pricing pressure - Key risk factors include: * Reliance on Third Parties: Dependence on third-party manufacturers for essential equipment (electrical infrastructure, GPUs) poses risks if timely delivery or quality standards are not met * Supply Chain Efficiency: Failure to maintain supply chain efficiency for timely facility and equipment availability could lead to customer loss * Regulatory Developments: The rapidly evolving regulatory landscape for HPC, AI, and blockchain hosting services, including concerns about ethical implications and potential misuse of AI, may significantly impact business operations * Commoditization and Pricing Pressure: The continuing commoditization of HPC hardware and software is increasing pricing pressure, which could negatively affect gross margins and operating results[178][179][180][181][182][183][184][185][186] Item 2. Unregistered Sales of Equity Securities and Use of Proceeds This section states that there were no unregistered sales of equity securities or use of proceeds to report - There were no unregistered sales of equity securities or use of proceeds to report[187] Item 3. Defaults Upon Senior Securities This section indicates that there are no defaults upon senior securities to report - There are no defaults upon senior securities to report[188] Item 4. Mine Safety Disclosures This section states that mine safety disclosures are not applicable to the company - Mine safety disclosures are not applicable[189] Item 5. Other Information This section indicates that there is no other information to report - There is no other information to report[190] Item 6. Exhibits This section lists the exhibits filed with the Form 10-Q, including CEO and CFO certifications and Inline XBRL documents - Key exhibits include: * 31.1*: Chief Executive Officer's Certificate Pursuant to 15 U.S.C. Section 7241, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 * 31.2*: Chief Financial Officer's Certificate Pursuant to 15 U.S.C. Section 7241, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 * 32.1**: Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 * 32.2**: Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 * 101.INS*: Inline XBRL Instance Document * 104*: Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)[192] Signatures This section contains the signatures of the Chief Executive Officer and Chief Financial Officer, certifying the filing of the report on behalf of Applied Digital Corporation - The report is signed by Wesley Cummins, Chief Executive Officer and Chairman of the Board of Directors, and David Rench, Chief Financial Officer, on April 11, 2024[198]