Fair Value of Financial Instruments

6 Months Ended

Mar. 31, 2021

Fair Value of Financial Instruments

Fair Value of Financial Instruments

Note 7 — Fair Value of Financial Instruments

The valuation techniques required to determine fair value are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect internal market assumptions. The two types of inputs create the following fair value hierarchy:

● Level 1 - Quoted prices for identical instruments in active markets.

● Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.

● Level 3 - Significant inputs to the valuation model are unobservable.

The following table presents assets and liabilities measured and recorded at fair value on our Condensed Consolidated Balance Sheets on a recurring basis (in thousands):

	March 31, 2021								September 30, 2020
	Level 1		Level 2		Level 3		Total		Level 1		Level 2		Level 3		Total
Assets
Current derivative assets	$	—	$	2,177	$	—	$	2,177	$	—	$	1,398	$	—	$	1,398
Noncurrent derivative assets		—		229		—		229		—		222		—		222
Total assets measured at fair value	$	—	$	2,406	$	—	$	2,406	$	—	$	1,620	$	—	$	1,620
Liabilities
Current derivative liabilities		—		6,350		—		6,350		—		4,557		—		4,557
Noncurrent derivative liabilities		—		4,537		—		4,537		—		14,070		—		14,070
Contingent consideration to seller of H4 Global		—		—		—		—		—		—		1,148		1,148
Contingent consideration to seller of Deltenna		—		—		3,205		3,205		—		—		3,004		3,004
Contingent consideration to seller of Shield		—		—		6,811		6,811		—		—		5,566		5,566
Contingent consideration to seller of Delerrok		—		—		—		—		—		—		900		900
Total liabilities measured at fair value	$	—	$	10,887	$	10,016	$	20,903	$	—	$	18,627	$	10,618	$	29,245

Derivative financial instruments are measured at fair value, the material portions of which are based on active or inactive markets for identical or similar instruments or model-derived valuations whose inputs are observable. Where model-derived valuations are appropriate, we use the applicable credit spread as the discount rate. Credit risk related to derivative financial instruments is considered minimal and is managed by requiring high credit standards for counterparties and through periodic settlements of positions.

The fair value of contingent consideration liabilities to the sellers of businesses that we have acquired are revalued to their fair value each period and any increase or decrease is recorded into selling, general and administrative expense. Any changes in the assumed timing and amount of the probability of payment scenarios could impact the fair value.

At March 31, 2021, we have the following remaining contingent consideration arrangements with the sellers of companies which we acquired:

H4 Global: A payment of $1.3 million was made in January 2021 based on a percentage of the value of H4 contracts entered into from October 1, 2015 through September 30, 2020. There is no remaining liability at March 31, 2021.

Deltenna: Payments of up to $7.4 million if Deltenna meets certain sales goals from the date of acquisition through September 30, 2022. The fair value of the contingent consideration was estimated using a combination of a probability weighted approach and the real option approach. Under the real option approach, each payment was modeled using long digital options written on the underlying revenue metric. The strike price for each option is the respective revenue as

specified in the related agreement, and the spot price is calibrated to the revenue forecast by calculating the present value of the corresponding projected revenues using a risk-adjusted discount rate. The volatility for the underlying revenue metrics was based upon an analysis of comparable public companies and was 52% as of March 31, 2021 and September 30, 2020. The selected discount rate was 10.5% as of March 31, 2021 and September 30, 2020.

Shield: Payments of up to $10.0 million if Shield meets certain sales goals from the date of acquisition through July 31, 2025. The fair value of the contingent consideration was estimated based on Monte Carlo simulations, which uses a probability distribution of values based on one million simulation trials. Key inputs for the simulation include projected revenues, discount rates, risk adjustment factors and volatility. The volatility and revenue risk adjustment factors were determined based on an analysis of publicly traded comparable companies and as of March 31, 2021 were 26% and 13% compared to 31% and 16% at September 30, 2020. The selected discount rate was based primarily on an analysis of publicly traded comparable companies and was 5.3% at March 31, 2021 and 5.7% at September 30, 2020.

Nuvotronics: Payments of up to $8.0 million if Nuvotronics meets certain gross profit goals for the 12-month period ending December 31, 2021. The fair value of the contingent consideration was estimated based on Monte Carlo simulations, which uses a probability distribution of values based on one million simulation trials. As of March 31, 2021, the fair value of the Nuvotronics contingent consideration was determined to be zero as its forecasted gross profit amounts were below the payout thresholds.

Delerrok: As of December 31, 2020, the value of the Delerrok contingent consideration was determined to be zero as its sales amounts were below the payout threshold for the measurement period that lapsed on December 31, 2020.

The inputs to each of the contingent consideration fair value models include significant unobservable inputs and therefore represent Level 3 measurements within the fair value hierarchy. Significant judgment is employed in determining the appropriateness of these assumptions as of the acquisition dates and each subsequent period. Accordingly, changes in the assumptions described above can materially impact the amount of contingent consideration expense we record in any period.

As of March 31, 2021, the following table summarizes the change in fair value of our Level 3 contingent consideration liabilities (in thousands):

	H4 Global		Deltenna		Shield		Nuvotronics		Delerrok		Total
Balance as of September 30, 2020	$	1,148	$	3,004	$	5,566	$	—	$	900	$	10,618
Cash paid to seller		(1,286)		—		—		—		—		(1,286)
Total remeasurement (gain) loss recognized in earnings		138		201		1,245		—		(900)		684
Balance as of March 31, 2021	$	—	$	3,205	$	6,811	$	—	$	—	$	10,016

We carry certain financial instruments, including accounts receivable, short-term borrowings, accounts payable and accrued liabilities at cost, which we believe approximates fair value because of the short-term maturity of these instruments. The fair value of our variable rate long-term debt approximates its carrying value at March 31, 2021.

In fiscal 2019, 2020 and 2021, we invested $5.0 million, $1.2 million, and $1.4 million respectively, in Franklin Blackhorse, L.P., a limited partnership investment fund that invests in early stage, privately owned companies in the military, commercial and disruptive technology sectors. We account for our investment using the equity method of accounting. Our share of the fund’s operating income was not material for the three or six months ended March 31, 2021 or March 31, 2020. Our investment balance is included within other assets in our Condensed Consolidated Statements of Operations and amounted to $7.3 million and $5.6 million as of March 31, 2021 and September 30, 2020, respectively.

We did not have any significant non-financial assets or liabilities measured at fair value on a non-recurring basis in the second quarter of fiscal 2021 or fiscal 2020 other than assets and liabilities acquired in business acquisitions described in Note 2 and the RSUs that contain performance and market-based vesting criteria described in Note 11.