Executive Summary / Key Takeaways

• The ARR Inflection Is Real and Measurable: Digi's Annualized Recurring Revenue hit a record $152 million in fiscal 2025, representing 35% of total revenue and growing 31% year-over-year. This isn't just a metric—it's driving a 400 basis point expansion in gross margins to 62.9%, proving the subscription model's leverage is materializing faster than the market recognizes.

• Balance Sheet Repair Unlocks Strategic Optionality: After paying off all Ventus acquisition debt, Digi ended fiscal 2025 net cash positive with $105 million in free cash flow (8% yield). This zero-debt position, achieved one quarter ahead of target, transforms the company from a leveraged acquirer into a disciplined capital allocator that can pursue "solution-oriented acquisitions of scale" on its own terms.

• Attach Rate Strategy Creates Visible Upside: Management's push to attach software subscriptions to hardware sales is working—attach rates now reach 100% in some product lines and 50-75% in others, with a target of 100% by fiscal 2028 for most devices. This converts one-time revenue into higher-margin recurring streams, directly supporting the $200 million ARR and EBITDA targets.

• Competitive Moats Built on Mission-Critical Reliability: Digi's proprietary Digi XBee ecosystem and Digi Remote Manager platform command premium pricing in industrial IoT, delivering 63.8% gross margins that tower over direct peers like Lantronix (LTRX) (42.8%) and Semtech (SMTC) (52.9%). This durability is amplified by a fully diversified supply chain out of China, insulating margins from geopolitical disruption.

• Execution Risk Centers on Integration, Not Concept: The Jolt acquisition adds $20 million in ARR but requires successful enterprise sales force integration and cross-selling with SmartSense. While management targets $11 million run-rate EBITDA by end-2026, any slippage would pressure the fiscal 2028 goals and test investor patience for the subscription pivot.

Setting the Scene: From Hardware Supplier to IoT Operating System

Founded in 1985 as a Minnesota corporation and publicly traded since 1989, Digi International represents a rare survivor among its IPO cohort—few companies from that era remain independent today. This longevity reflects an underappreciated capacity for reinvention. For most of its history, Digi operated as a traditional hardware vendor, selling embedded modules, cellular routers, and console servers on a one-time basis to industrial OEMs and enterprise customers. The business was solid but cyclical, vulnerable to supply chain shocks and component pricing volatility.

The strategic inflection began in fiscal 2018 with the Accelerated acquisition, followed by Opengear in 2019, Ventus in 2021, and most recently Jolt in August 2025. These deals weren't merely capacity additions—they were deliberate steps toward a subscription-first business model. The Ventus acquisition established the Managed Network-as-a-Service (MNaaS) foundation, while Jolt's task management and workforce software deepened SmartSense's vertical market penetration in food service and healthcare. Today, Digi operates through two distinct segments: IoT Products Services (the legacy hardware business) and IoT Solutions (the subscription business), with the latter growing 12.8% in fiscal 2025 while the former declined 2%.

This bifurcation reveals the core thesis: Digi is engineering a margin renaissance by converting hardware relationships into software subscriptions. The IoT connectivity market is expanding through digital transformation, AI-driven automation, and edge computing proliferation. Digi's position is niche but defensible—focusing on mission-critical applications where reliability and security command premium pricing, rather than competing on cost in commoditized consumer IoT. Unlike direct competitors Lantronix (LTRX) and CalAmp (CAMP) that remain hardware-constrained, or Semtech (SMTC) that operates at semiconductor scale, Digi's differentiation lies in its integrated hardware-software stack and industrial distribution channels that create high switching costs.

Technology, Products, and Strategic Differentiation: The Attach Rate Engine

Digi's competitive moat rests on three pillars: proprietary wireless technology, a cloud-based device management platform, and a manufacturing footprint insulated from geopolitical risk. The Digi XBee ecosystem enables mesh networking with demonstrably higher reliability in harsh industrial environments—think oil fields, mass transit systems, and remote utility infrastructure—than generic alternatives. This reliability translates into customer stickiness and pricing power, supporting gross margins that exceed 63% versus LTRX's 42.8% and CAMP's negative margins.

The strategic centerpiece is Digi Remote Manager and Lighthouse Management Software, cloud services that transform one-time hardware sales into recurring revenue streams. Management's explicit goal is attaching these services to every hardware sale. In the IT product category—cellular routers, Opengear console servers, infrastructure management devices—attach rates already reach 100% in some lines and 50-75% in others. This matters because each percentage point increase converts low-margin hardware revenue into high-margin software ARR. By fiscal 2028, management expects 100% attach rates across most devices, excluding the embedded division. This trajectory provides a clear, self-funded growth engine: as attach rates rise, ARR grows faster than total revenue, expanding margins without requiring new customer acquisition.

The Jolt acquisition accelerates this strategy in vertical markets. Jolt contributed over $20 million in ARR at acquisition and focuses on enterprise customers in food service, healthcare, and retail—segments where SmartSense already has deep penetration. The integration creates cross-selling opportunities: Jolt's workforce management can be bundled with SmartSense's condition monitoring, increasing average contract value and stickiness. Management targets $11 million run-rate EBITDA by end-2026 through synergies, implying the deal will be accretive within 18 months.

Manufacturing diversification provides a less visible but equally critical advantage. Digi moved all production out of China to Thailand, Mexico, Taiwan, and Cambodia, mitigating tariff exposure and supply chain disruption. This decision, made during the COVID-19 pandemic, now pays dividends as competitors scramble to adjust to evolving tariff policies. The company can leverage USMCA-compliant facilities and lower-tariff regions, maintaining cost structures while peers face margin compression. This operational resilience supports the margin expansion story and provides a competitive edge in bidding for price-sensitive projects.

Financial Performance & Segment Dynamics: Margin Expansion in Progress

Fiscal 2025 results validate the subscription pivot's financial impact. Total revenue grew 1% to $430 million—hardly exciting—yet ARR surged 31% to $152 million, representing 35% of revenue. This mix shift drove consolidated gross margin up 400 basis points to 62.9%, while adjusted EBITDA rose 11% to $108 million. The disconnect between flat revenue and rising profitability is the story: Digi is sacrificing low-margin one-time sales to capture high-margin recurring revenue, a trade-off that enhances long-term earnings power.

The segment breakdown reveals the transformation's mechanics. IoT Products Services generated $317.9 million in revenue, down 2% year-over-year, but ARR within the segment jumped 33% to $32 million. Operating margins expanded 50 basis points to 14.8% despite revenue headwinds, proving the attach rate strategy's leverage. The decline in one-time sales stemmed from customers working off inventory stockpiled during supply chain stress—a temporary dynamic that management says has normalized. Meanwhile, demand from data center build-outs and project-based initiatives is accelerating, particularly in the cellular router division, which management expects to be the fastest-growing product line in fiscal 2026.

IoT Solutions tells a more dramatic story. Revenue grew 12.8% to $112.3 million, with ARR up 30% to $120 million. Operating margins exploded 670 basis points to 8.3%, driven by the favorable margin mix and a $5.7 million litigation reserve release. This segment is Digi's growth engine: subscription-based, higher-margin, and expanding through both organic growth and acquisitions. The addition of Jolt's $20 million ARR provides immediate scale, while the Ventus MNaaS business continues to penetrate banking, healthcare, and retail verticals.

Cash flow generation underscores the strategy's sustainability. Digi produced $105 million in free cash flow in fiscal 2025, an 8% yield, while reducing net debt to zero. The company retired $30 million in debt in Q3, reaching net cash positive one quarter ahead of schedule.

This financial strength enables the $150 million Jolt acquisition without straining liquidity and positions Digi for further M&A. With a CapEx-light model (under 1% of revenue), free cash flow conversion remains high, supporting both reinvestment and potential shareholder returns.

Outlook, Management Guidance, and Execution Risk

Management's fiscal 2026 guidance calls for double-digit growth in ARR, revenue, and adjusted EBITDA—a confident outlook predicated on several key assumptions. First, attach rates must continue climbing toward the 100% target, converting more hardware sales into recurring revenue. Second, the Jolt integration must deliver the promised $11 million EBITDA run-rate by end-2026, requiring successful cross-selling and enterprise sales force consolidation. Third, macro conditions must remain stable enough for customers to maintain IoT investment budgets.

The fiscal 2028 targets—$200 million in both ARR and adjusted EBITDA—appear achievable but not guaranteed. Starting fiscal 2026 with $152 million in ARR, mid-teens annual growth gets Digi to the target. Adjusted EBITDA requires more work: at $108 million in fiscal 2025, the company needs 20%+ growth in fiscal 2027-2028 to reach $200 million. Management's confidence stems from the margin leverage inherent in the ARR model. As recurring revenue grows as a proportion of sales, operating margins should expand sequentially by 10-20 basis points per quarter, creating a compounding effect.

The Jolt integration is the near-term execution wildcard. Jolt historically sold to smaller customers, while SmartSense focused on enterprise accounts. The combined entity is shifting aggressively toward enterprise sales, which should increase average deal size and reduce churn. However, this transition risks disrupting existing customer relationships and requires building new enterprise sales capabilities. Management reports integration is "tracking well" with unified sales organizations and emerging cross-selling opportunities, but investors should monitor Q1 and Q2 fiscal 2026 results for concrete evidence of synergy realization.

Macro assumptions embed notable risk. Guidance assumes current tariff rates remain stable and demand holds steady across key verticals. Yet management acknowledges fluid geopolitical conditions, potential recessionary pressures, and supply chain volatility. Digi's diversified manufacturing mitigates tariff risk, but a broad economic slowdown could delay customer projects and pressure ARR growth. The company's exposure to data center build-outs—currently a tailwind—could reverse if AI infrastructure spending plateaus.

Risks and Asymmetries: What Could Break the Thesis

The central thesis faces three material risks: execution missteps on attach rates, macro-driven demand compression, and competitive pressure from better-resourced players. If attach rates stall at current 50-75% levels rather than reaching the 100% target, ARR growth will decelerate and margin expansion will disappoint. This would undermine the fiscal 2028 targets and likely trigger a multiple re-rating. The primary monitorable is management commentary on attach rate progress in upcoming quarters—any guidance cut would signal structural challenges.

Macroeconomic uncertainty presents a broader threat. Tariff policies remain volatile, and while Digi's manufacturing diversification provides insulation, extreme reciprocal tariffs could still impact component costs. More concerning is potential demand destruction: if enterprise customers freeze IoT budgets due to recession fears, Digi's project-based revenue could decline faster than ARR can offset. Management's comment that "the current shutdown of the government adds to just uncertainty" reflects this fragility. The company's 35% ARR penetration provides a buffer, but not immunity.

Competitive dynamics could pressure market share. Semtech's Sierra Wireless division offers comparable cellular modules with greater scale and semiconductor integration. Lantronix competes aggressively on price in mid-market gateways. While Digi's mission-critical positioning and higher margins suggest strong differentiation, a price war in cellular routers or console servers could force margin sacrifice to maintain volume. Digi's smaller scale—$430 million revenue versus Semtech's larger footprint—limits its ability to absorb sustained competitive pressure.

On the upside, successful Jolt integration and enterprise attach rate expansion could accelerate ARR growth beyond the 20% needed for fiscal 2028 targets. If Digi achieves 100% attach rates faster than planned, recurring revenue could exceed $200 million by fiscal 2027, pulling EBITDA higher through operating leverage. Additionally, the net cash position enables accretive acquisitions that could shortcut the timeline, particularly in vertical software for IoT markets.

Valuation Context: Paying for Execution Certainty

At $45.91 per share, Digi trades at a $1.71 billion market capitalization and $1.86 billion enterprise value, reflecting a 4.32x EV/Revenue multiple on fiscal 2025 sales. This valuation sits between distressed peer CalAmp (CAMP) (45x EV/Revenue, reflecting near-bankruptcy) and growth-oriented Semtech (SMTC) (7.15x EV/Revenue). The more direct competitor, Lantronix (LTRX), trades at 1.93x EV/Revenue but generates negative operating margins and minimal free cash flow.

The more meaningful metrics highlight Digi's quality: a 16.23x price-to-free-cash-flow ratio translates to an 8% free cash flow yield, attractive for a company growing EBITDA at 11% while transitioning to a subscription model. EV/EBITDA at 20.53x appears rich at first glance, but this reflects the margin inflection story—if Digi hits its $200 million EBITDA target by fiscal 2028, the forward multiple compresses to approximately 9x, suggesting significant re-rating potential.

Balance sheet strength is a critical valuation support. With net cash positive and debt-to-equity of just 0.27x, Digi carries minimal financial risk compared to Semtech's 0.91x debt-to-equity and CalAmp's distressed capital structure. The company's 1.21x current ratio and 0.81x quick ratio indicate adequate liquidity, while its 63.8% gross margin and 12.5% operating margin demonstrate pricing power that peers cannot match. This financial health justifies a premium multiple, as investors are paying for execution certainty rather than turnaround speculation.

Relative to historical patterns, Digi's valuation appears reasonable for a company at this stage of business model transformation. Software and IoT platform companies with 30%+ ARR growth and expanding margins typically trade at 5-7x revenue. Digi's 4.3x multiple reflects its hardware legacy and the market's skepticism about attach rate execution. If the company delivers on its fiscal 2026 double-digit growth guidance and demonstrates consistent attach rate progress, multiple expansion toward peer levels is likely.

Conclusion: A Hardware Company Becoming a Software Platform

Digi International's 40-year history of adaptation has culminated in a deliberate transformation from cyclical hardware supplier to subscription-driven IoT platform. The fiscal 2025 results provide clear evidence this strategy is working: flat revenue masked a 31% ARR surge that expanded gross margins by 400 basis points and grew adjusted EBITDA 11% while competitors struggled with profitability. The net cash balance sheet and 8% free cash flow yield provide the financial firepower to accelerate this transition through strategic acquisitions and organic attach rate expansion.

The investment case hinges on two variables: management's ability to execute the attach rate strategy and the macro environment's stability. If Digi reaches 100% attach rates by fiscal 2028, the $200 million ARR target is achievable, and margin leverage should drive EBITDA toward $200 million, creating a clear path to valuation re-rating. Conversely, execution missteps on Jolt integration or a severe macro downturn could stall ARR growth and compress multiples.

What makes this story compelling is the asymmetry: downside is cushioned by a net cash position and existing recurring revenue base, while upside is amplified by operating leverage and multiple expansion as the market recognizes Digi's evolution from hardware vendor to software platform. The company has survived four decades by adapting; this latest adaptation may be its most profitable yet.