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UBIQUITI NETWORKS, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge)
The following discussion of our financial condition and results of operations
should be read together with the financial statements and related notes that are
included elsewhere in this quarterly report. In addition to historical
consolidated financial information, the following discussion contains
forward-looking statements that reflect our plans, estimates and beliefs. Our
actual results could differ materially from those discussed in the
forward-looking statements. Factors that could cause or contribute to these
differences include those discussed below and elsewhere in this quarterly
report, particularly in Part II, Item 1, Legal Proceedings and 1A, Risk Factors,
in this report.
Overview
We are a product driven company that leverages innovative proprietary
technologies to deliver networking solutions with compelling price-performance
characteristics to both start-up and established network operators and service
providers. Our products bridge the digital divide by fundamentally changing the
economics of deploying high performance networking solutions in underserved and
underpenetrated wireless broadband access markets globally. These markets
include emerging markets and other areas where individual users and small and
medium sized enterprises do not have access to the benefits of carrier class
broadband networking. Our business model has enabled us to break down
traditional barriers, such as high product and network deployment costs, which
are driven by business model inefficiencies and achieve rapid market adoption of
our products and solutions in previously underserved and underpenetrated
markets. Our business model and proprietary technologies provide us with a
significant and sustainable competitive advantage over incumbents, who we
believe are unable to respond effectively due to their higher cost business
models.
We offer a broad and expanding portfolio of networking products and solutions in
the outdoor wireless, enterprise WLAN, video surveillance, wireless backhaul and
machine-to-machine communications markets. We began shipping embedded radios in
fiscal 2006. In fiscal 2008 we introduced a line of products based on 802.11
standard protocols and in early fiscal 2010, we introduced a number of new
products based on our proprietary airMAX protocol, which have been rapidly
adopted by network operators and high-performance proprietary airMAX service
providers. Since the beginning of fiscal 2011, we have introduced UniFi,
airVision, airFiber, mFi and EdgeMAX, which are collectively referred to in this
report as our New Platforms. In the three and six months ended December 31,
2012, our systems revenue accounted for 87% and 86% of our revenues,
respectively. In the future, we expect sales of our airMAX platform and our new
product platforms to continue to represent a growing portion of our revenues and
the portion of our revenues derived from our 802.11 standard products to decline
as a percentage of total revenues.
Building on our leadership in the underserved and underpenetrated segments of
the wireless broadband access market, we intend to expand our product offerings
in our existing market and enter adjacent markets by relying on the combination
of our efficient business model and proprietary technologies. For example, we
have introduced products and solutions for the enterprise WLAN and video
surveillance markets, and since late fiscal 2011 licensed microwave wireless
backhaul, machine-to-machine communication and router markets. As we enter such
new markets, we plan to leverage existing distributor relationships and
established engaged communities similar to the Ubiquiti Community, our growing
and engaged community of network operators, service providers, distributors,
value added resellers and system integrators, to keep our operating expenses in
line with our current model and enable us to offer products in these new markets
with compelling price-performance characteristics.
to keep our operating expenses in line with our current model and enable us to
offer products in these new markets with compelling price-performance
characteristics.
Our revenues decreased 15% to $74.9 million in the three months ended
December 31, 2012 from $87.8 million in the three months ended December 31,
2011. Our revenues decreased 18% to $136.4 million in the six months ended
December 31, 2012 from $167.0 million in the six months ended December 31, 2011.
We believe the overall decrease in revenues during both the three and six months
ended December 31, 2012 was primarily driven by lost sales due to the
proliferation of counterfeit versions of our products, which has also created
customer uncertainty regarding the authenticity of their potential purchases. We
believe these factors contributed to a buildup in channel inventory with our
distributors, further impacting our revenues. We had net income of $17.8 million
and $24.7 million in the three months ended December 31, 2012 and 2011,
respectively. We had net income of $31.0 million and $46.2 million in the six
months ended December 31, 2012 and 2011, respectively. The declines in net
income in both the three and six months ended December 31, 2012 as compared to
the same periods in the prior year were primarily due to the decline in revenues
and increased operating expenses.
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Key Components of Our Results of Operations and Financial Condition
Revenues
Our revenues are derived principally from the sale of networking hardware and
management tools. In addition, while we do not sell maintenance and support
separately, because we have historically included it free of charge in many of
our arrangements, we attribute a portion of our systems revenues to this implied
post-contract customer support ("PCS").
We classify our revenues into three product categories: systems, embedded radios
and antennas/other.
• Systems consists of three product categories:
Our proprietary airMAX platform products for network operators and
service providers;
Our new platform products which include significant platforms
introduced in late fiscal 2011 and during 2012 which includes the
UniFi, airVision and airFiber, mFi and EdgeMAX platforms; and
Other 802.11 standard products including base stations, radios,
backhaul equipment and Customer Premise Equipment ("CPE").
• Embedded radios consist of more than 25 radio products primarily for OEMs,
including both point to point and point to multipoint radios in the 2.0 to
6.0GHz spectrum, that are offered with a variety of features.
• Antennas/other consist of antenna products in the 2.0 to 6.0GHz spectrum,
as well as miscellaneous products such as mounting brackets, cables and
power over Ethernet adapters. These products include both high performance
sector and directional antennas. This category also includes our allocation
of revenues to PCS.
We sell substantially all of our products through a limited number of
distributors and other channel partners, such as resellers and OEMs. Sales to
distributors accounted for 97% and 96% of our revenues in the three months ended
December 31, 2012 and 2011, respectively. Sales to distributors accounted for
97% of our revenues in both the six months ended December 31, 2012 and 2011.
Other channel partners, such as resellers and OEMs, largely accounted for the
balance of our revenues. We sell our products without any right of return.
Cost of Revenues
Our cost of revenues is comprised primarily of the costs of procuring finished
goods from our contract manufacturers and chipsets that we consign to certain of
our contract manufacturers. In addition, cost of revenues includes tooling,
labor and other costs associated with engineering, testing and quality
assurance, warranty costs, stock-based compensation and excess and obsolete
inventory.
We outsource our manufacturing and order fulfillment and utilize contract
manufacturers located primarily in China and, to a lesser extent, Taiwan. We
also evaluate and utilize other vendors for various portions of our supply chain
from time to time. Our manufacturing organization consists of employees and
consultants engaged in the management of our contract manufacturers, new product
introduction activities, logistical support and engineering.
Gross Profit
Our gross profit has been, and may in the future be, influenced by several
factors including changes in product mix, target end markets for our products,
pricing due to competitive pressure, production costs, foreign exchange rates
and global demand for electronic components. Although we procure and sell our
products in U.S. dollars, our contract manufacturers incur many costs, including
labor costs, in other currencies. To the extent that the exchange rates move
unfavorably for our contract manufacturers, they may try to pass these
additional costs on to us, which could have a material impact on our future
average selling prices and unit costs.
Operating Expenses
We classify our operating expenses as research and development and sales,
general and administrative expenses.
• Research and development expenses consist primarily of salary and benefit
expenses, including stock-based compensation, for employees and costs for
contractors engaged in research, design and development activities, as well
as costs for prototypes, facilities and travel. Over time, we expect our
research and development costs to increase as we continue making
significant investments in developing new products and developing new
versions of our existing products.
• Sales, general and administrative expenses include salary and benefit
expenses, including stock-based compensation, for employees and costs for
contractors engaged in sales, marketing and general and administrative
activities, as well as the costs of outside legal expenses, trade shows,
marketing programs, promotional materials, bad debt expense, professional
services, facilities, general liability insurance and travel. As our
product portfolio and targeted markets expand, we may need to employ
different sales models, such as building a direct sales force. These sales
models would likely increase our costs. Over time, we expect our sales,
general and administrative expenses to increase in absolute
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dollars due to continued growth in headcount, expand our registration and
defense of trademarks and patents efforts and to support our business and
operations as a public company.
Deferred Revenues and Costs
In the event that collectability of a receivable from products we have shipped
is not probable, we classify those amounts as deferred revenues on our balance
sheet until such time as we receive payment of the accounts receivable. We
classify the cost of products associated with these deferred revenues as
deferred costs of revenues. At December 31, 2012 and June 30, 2012, we did not
have any revenue deferred for transactions where we lacked evidence that
collectability of the receivables recorded was reasonably probable.
Also included in our deferred revenues is a portion related to PCS obligations
that we estimate we will perform in the future. As of December 31, 2012 and
June 30, 2012, we had deferred revenues of $815,000 and $805,000 respectively,
related to these obligations.
Prepayments
We have historical agreements with certain contract manufacturers whereby we
prepay for a portion of the product costs to assure the manufacture and timely
delivery of our products. However, as of December 31, 2012 we did not have any
prepayment balances with our contract manufacturers. As of June 30, 2012, we had
a prepayment balance of $129,000.
Critical Accounting Policies
We prepare our condensed consolidated financial statements in accordance with
accounting principles generally accepted in the United States of America
("GAAP"). In many cases, the accounting treatment of a particular transaction is
specifically dictated by GAAP and does not require management's judgment in its
application. In other cases, management's judgment is required in selecting
among available alternative accounting standards that provide for different
accounting treatment for similar transactions. The preparation of condensed
consolidated financial statements also requires us to make estimates and
assumptions that affect the amounts we report as assets, liabilities, revenues,
costs and expenses and affect the related disclosures. We base our estimates on
historical experience and other assumptions that we believe are reasonable under
the circumstances. In many instances, we could reasonably use different
accounting estimates, and in some instances changes in the accounting estimates
are reasonably likely to occur from period to period. Accordingly, our actual
results could differ significantly from the estimates made by our management. To
the extent that there are differences between our estimates and actual results,
our future financial statement presentation, financial condition, results of
operations and cash flows will be affected. Our critical accounting policies are
discussed in our Annual Report on Form 10-K for the fiscal year ended June 30,
2012, as filed on September 28, 2012 with the SEC, or the Annual Report, and
there have been no material changes.
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Results of Operations
Comparison of Three and Six Months Ended December 31, 2012 and 2011
Three Months Ended December 31, Six Months Ended December 31,
2012 2011 2012 2011
(In thousands, except percentages)
Revenues $ 74,901 100 % $ 87,817 100 % $ 136,436 100 % $ 166,984 100 %
Cost of revenues 44,416 59 % 50,527 58 % 80,931 59 % 96,681 58 %
Gross profit 30,485 41 % 37,290 42 % 55,505 41 % 70,303 42 %
Operating expenses:
Research and
development 5,052 7 % 3,683 4 % 9,763 7 % 7,052 4 %
Sales, general and
administrative 5,314 7 % 2,431 3 % 9,848 7 % 4,575 3 %
Total operating
expenses 10,366 14 % 6,114 7 % 19,611 14 % 11,627 7 %
Income from
operations 20,119 27 % 31,176 35 % 35,894 27 % 58,676 35 %
Interest expense
and other, net (197 ) * (312 ) * (283 ) * (946 ) *
Income before
provision for
income taxes 19,922 27 % 30,864 35 % 35,611 26 % 57,730 35 %
Provision for
income taxes 2,119 3 % 6,173 7 % 4,629 3 % 11,546 7 %
Net income $ 17,803 24 % $ 24,691 28 % $ 30,982 23 % $ 46,184 28 %
* Less than 1%
(1) Includes
stock-based
compensation as
follows:
Cost of revenues $ 104 $ 27 $ 185 $ 33
Research and
development 401 116 667 232
Sales, general and
administrative 388 208 697 437
Total stock-based
compensation $ 893 $ 351 $ 1,549 $ 702
Revenues
Revenues decreased $12.9 million, or 15%, from $87.8 million in the three months
ended December 31, 2011 to $74.9 million in the three months ended December 31,
2012. Revenues decreased $30.5 million, or 18%, from $167.0 million in the six
months ended December 31, 2011 to $136.4 million in the six months ended
December 31, 2012. We believe the overall decrease in revenues during the three
and six months ended December 31, 2012 was primarily driven by lost sales due to
the proliferation of counterfeit versions of our products, which has also
created customer uncertainty regarding the authenticity of their potential
purchases. We believe these factors contributed to a buildup in channel
inventory with our distributors, further impacting our revenues. This has had
the most significant impact on our airMAX platform which decreased $4.2 million
and $22.0 million, respectively, in the three and six months ended December 31,
2012 compared to the same periods in the prior year.
In the three months ended December 31, 2012, revenues from Customer A and
Customer B represented 15% and 14% of our revenues, respectively. In the three
months ended December 31, 2011, revenues from Customer A represented 21% of our
revenues. In the six months ended December 31, 2012, revenues from Customer A
represented 12% of our revenues. In the six months ended December 31, 2011,
revenues from Customer A and Customer C represented 19% and 12% of our revenues,
respectively. No other customer represented more than 10% of our revenues in the
three or six months ended December 31, 2012 or 2011.
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Revenues by Product Type
Three Months Ended December 31, Six Months Ended December 31,
2012 2011 2012 2011
(in thousands, except percentages)
airMAX $ 48,752 65 % $ 52,939 60 % $ 80,809 59 % $ 102,774 62 %
New platforms 11,905 16 % 4,226 5 % 27,533 20 % 6,960 4 %
Other systems 4,835 6 % 18,254 21 % 8,619 7 % 31,019 19 %
Systems 65,492 87 % 75,419 86 % 116,961 86 % 140,753 85 %
Embedded radio 1,519 2 % 2,567 3 % 3,233 2 % 5,792 3 %
Antennas/other 7,890 11 % 9,831 11 % 16,242 12 % 20,439 12 %
Total revenues $ 74,901 100 % $ 87,817 100 % $ 136,436 100 % $ 166,984 100 %
Systems revenues decreased $9.9 million, or 13%, from $75.4 million in the three
months ended December 31, 2011 to $65.5 million in the three months ended
December 31, 2012. Systems revenues decreased $23.8 million, or 17%, from $140.8
million in the six months ended December 31, 2011 to $117.0 million in the three
months ended December 31, 2012. As noted above, we believe the decrease in
systems revenues was primarily driven by lost sales due to the proliferation of
counterfeit versions of our products, in particular our airMAX product line. The
decrease in our airMAX product line was partially offset by increased sales in
our new platforms category, which includes significant platforms introduced
since late fiscal 2011. Our new platforms contributed $11.9 million and $4.2
million of revenue during the three months ended December 31, 2012 and 2011,
respectively, and $27.5 million and $7.0 million of revenue during the six
months ended December 31, 2012 and 2011, respectively. Our other systems revenue
decreased $13.4 million during the three months ended December 31, 2012 as
compared to the three months ended December 31, 2011 due primarily to our
December 2011 quarter including a large order to a customer. Our other systems
revenue decreased $22.4 million during the six months ended December 31, 2012 as
compared to the six months ended December 31, 2011 due primarily to our December
2011 quarter including a large order to a customer.
Embedded radio revenues decreased $1.0 million, or 41%, from $2.6 million in the
three months ended December 31, 2011 to $1.5 million in the three months ended
December 31, 2012, and decreased $2.6 million, or 44%, from $5.8 million in the
six months ended December 31, 2011 to $3.2 million in the six months ended
December 31, 2012. We anticipate that embedded radio products will decline as a
percentage of revenues in future periods as sales of these products are outpaced
by sales of systems products.
Antennas/other revenues decreased $1.9 million, or 20% from $9.8 million in the
three months ended December 31, 2011 to $7.9 million in the three months ended
December 31, 2012. Antennas/other revenues decreased $4.2 million, or 21% from
$20.4 million in the six months ended December 31, 2011 to $16.2 million in the
six months ended December 31, 2012. The decline in antennas/other revenues was
primarily due to the decreased sales of our systems platforms, which negatively
impacted the demand for associated antennas. Other revenues also include
revenues that are attributable to PCS. Antenna/other revenues will decline as a
percentage of total revenues due to more rapid growth of systems revenues.
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Revenues by Geography
We generally forward products directly from our manufacturers to our customers
via logistics distribution hubs in Asia. Beginning in the quarter ended
December 31, 2012, our products were predominantly routed through a third party
logistics provider in China and prior to the quarter ended December 31, 2012,
our products were mainly delivered to our customers through distribution hubs in
Hong Kong. Our customers in turn ship to other locations throughout the world.
We have determined the geographical distribution of our product revenues based
on our customer's ship-to destinations. A majority of our sales are to
distributors who in turn sell to resellers or directly to end customers. As a
result of these factors, we believe that sales to certain geographic locations
might be higher or lower, as the ultimate destinations are difficult to
ascertain. Revenues in North America decreased primarily due to a significant
decline in orders from one of our customers. We believe the decrease in revenues
in South America and Europe, the Middle East and Africa was primarily driven by
the proliferation of counterfeit versions of our products, which has also
created customer uncertainty regarding the authenticity of their potential
purchases. Revenues in the Asia Pacific region tend to be volatile given the low
levels of revenues. The following are our revenues by geography for the three
and six months ended December 31, 2012 and 2011 (in thousands, except
percentages):
Three Months Ended December 31, Six Months Ended December 31,
2012 2011 2012 2011
North America(1) $ 12,106 16 % $ 21,440 24 % $ 32,467 24 % $ 46,381 28 %
South America 17,081 23 % 24,250 28 % 27,324 20 % 44,085 26 %
Europe, the Middle East
and Africa 35,929 48 % 30,356 35 % 59,073 43 % 55,139 33 %
Asia Pacific 9,785 13 % 11,771 13 % 17,572 13 % 21,379 13 %
Total revenues $ 74,901 100 % $ 87,817 100 % $ 136,436 100 % $ 166,984 100 %
(1) Revenue for the United States was $11.4 million and $20.7 million for the
three months ended December 31, 2012 and 2011, respectively. Revenue for the
United States was $30.7 million and $45.1 million for the six months ended
December 31, 2012 and 2011, respectively.
Cost of Revenues and Gross Profit
Cost of revenues decreased $6.1 million, or 12%, from $50.5 million in the three
months ended December 31, 2011 to $44.4 million in the three months ended
December 31, 2012. Cost of revenues decreased $15.8 million, or 16%, from $96.7
million in the six months ended December 31, 2011 to $80.9 million in the six
months ended December 31, 2012. The decreases in cost of revenues in both the
three and six months ended December 31, 2012 was primarily due to decreased
revenues and to a lesser extent, changes in product mix.
Gross profit decreased from 42% in the three months ended December 31, 2011 to
41% in the three months ended December 31, 2012. Gross profit decreased from 42%
in the six months ended December 31, 2011 to 41% in the six months ended
December 31, 2012. The decrease in gross profit in both periods reflects
increases in variable operating costs.
Operating Expenses
Research and Development
Research and development expenses increased $1.4 million, or 37%, from $3.7
million in the three months ended December 31, 2011 to $5.1 million in the three
months ended December 31, 2012. As a percentage of revenues, research and
development expenses increased from 4% in the three months ended December 31,
2011 to 7% in the three months ended December 31, 2012. Research and development
expenses increased $2.7 million, or 38%, from $7.1 million in the six months
ended December 31, 2011 to $9.8 million in the six months ended December 31,
2012. As a percentage of revenues, research and development expenses increased
from 4% in the six months ended December 31, 2011 to 7% in the six months ended
December 31, 2012. The increase in research and development expenses in absolute
dollars in both periods was due to increases in headcount as we broadened our
research and development activities to new product areas. As a percentage of
revenues, research and development expenses increased in both periods primarily
due to our overall decrease in revenues. Over time, we expect our research and
development costs to increase in absolute dollars as we continue making
significant investments in developing new products and developing new versions
of our existing products.
Sales, General and Administrative
Sales, general and administrative expenses increased $2.9 million, or 119%, from
$2.4 million in the three months ended December 31, 2011 to $5.3 million in the
three months ended December 31, 2012. As a percentage of revenues, sales,
general
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and administrative expenses increased from 3% in the three months ended
December 31, 2011 to 7% in the three months ended December 31, 2012. Sales,
general and administrative expenses increased $5.3 million, or 115%, from $4.6
million in the six months ended December 31, 2011 to $9.8 million in the six
months ended December 31, 2012. As a percentage of revenues, sales, general and
administrative expenses increased from 3% in the six months ended December 31,
2011 to 7% in the six months ended December 31, 2012. Sales, general and
administrative expenses increased in both periods due largely to increased legal
expenses associated with our anti-counterfeiting litigation, increased marketing
and tradeshow activity and increases in our bad debt allowance. As a percentage
of revenues sales, general and administrative expenses increased in both periods
primarily due to our overall revenue decrease in revenues. Over time, we expect
our sales, general and administrative expenses to increase in absolute dollars
due to continued efforts to protect our intellectual property and growth in
headcount to support our business and operations.
Interest Expense and Other, Net
Interest expense and other, net was $197,000 for the three months ended
December 31, 2012, representing a decrease of $115,000 from $312,000 for the
three months ended December 31, 2011. Interest expense and other, net was
$283,000 for the six months ended December 31, 2012, representing a decrease of
$663,000 from $946,000 for the six months ended December 31, 2011. During the
three months ended September 30, 2011, we incurred interest expense on our
convertible subordinated promissory notes issued as part of the repurchase of
Series A convertible preferred stock from entities affiliated with Summit
Partners, L.P. in July 2011. The convertible subordinated promissory notes were
repaid in full in October 2011.
Provision for Income Taxes
Our provision for income taxes decreased $4.1 million, or 66%, from $6.2 million
for the three months ended December 31, 2011 to $2.1 million for the three
months ended December 31, 2012. Our provision for income taxes decreased $6.9
million, or 60%, from $11.5 million for the six months ended December 31, 2011
to $4.6 million for the six months ended December 31, 2012. Our effective tax
rate decreased to 11% for the three months ended December 31, 2012 as compared
to 20% the three months ended December 31, 2011. Our effective tax rate
decreased to 13% for the six months ended December 31, 2012 as compared to 20%
the six months ended December 31, 2011. The decrease in the effective tax rates
during both periods was primarily due to a larger percentage of our overall
profitability occurring in foreign jurisdictions with lower income tax rates.
Liquidity and Capital Resources
Sources and Uses of Cash
Since inception, our operations primarily have been funded through cash
generated by operations. Cash, cash equivalents and short-term marketable
securities increased from $122.1 million at June 30, 2012 to $148.3 million at
December 31, 2012.
Consolidated Cash Flow Data
The following table sets forth the major components of our condensed
consolidated statements of cash flows data for the periods presented:
Six Months Ended December 31,
2012 2011
(In thousands)
Net cash provided by operating activities $ 50,525 $ 19,970
Net cash used in investing activities (3,467 ) (1,110 )
Net cash used in financing activities (20,817 ) (30,377 )
Net increase (decrease) in cash and cash equivalents $ 26,241 $ (11,517 )
Cash Flows from Operating Activities
Net cash provided by operating activities in the six months ended December 31,
2012 of $50.5 million consisted primarily of net income of $31.0 million and net
changes in operating assets and liabilities that resulted in net cash inflows of
$15.2 million. These changes consisted primarily of a $18.5 million decrease in
accounts receivable due to decreased revenues and improved cash collections, a
$1.7 million increase in accounts payable and accrued liabilities due to
decreased overall business activity, a $4.4 million increase in taxes payable
due the timing of federal tax payments and a $1.6 million increase in prepaid
expenses and other current assets due to an increase in overall business
activity. Additionally, our net income included non-cash adjustments due to
stock-based compensation, depreciation and amortization, increases to our
provision for doubtful accounts
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and write-downs for inventory obsolescence and an excess tax benefit from
stock-based awards. The net of these non-cash adjustments resulted in an
increase of our net cash provided by operating activities of $4.3 million.
Net cash provided by operating activities in the six months ended December 31,
2011 of $20.0 million consisted primarily of net income of $46.2 million
partially offset by changes in operating assets and liabilities. These changes
consisted primarily of a $22.2 million increase in accounts receivable due to
our overall revenue growth, a $9.1 million increase in taxes payable, a $3.8
million increase in inventories, a $1.5 million decrease in accounts payable and
accrued liabilities, a $1.0 million decrease in prepaid expenses and other
current assets and an increase of $608,000 in deferred revenues and deferred
cost of revenues. Additionally, our net income included non-cash adjustments due
to stock-based compensation, depreciation and amortization, adjustments to our
provisions for doubtful accounts and inventory obsolescence and an excess tax
benefit from stock-based awards. The net of these non-cash adjustments resulted
in a reduction of our net cash provided by operating activities of $9.4 million.
Cash Flows from Investing Activities
Our investing activities consist solely of capital expenditures and purchases of
intangible assets. Capital expenditures for the six months ended December 31,
2012 and 2011 were $2.6 million and $1.1 million, respectively. Additionally, we
had cash outflows related to the purchase of intangible assets of $814,000
during the six months ended December 31, 2012.
Cash Flows from Financing Activities
On August 7, 2012, we entered into a Loan and Security Agreement (the "Loan
Agreement") with U.S. Bank, as syndication agent, and East West Bank, as
administrative agent for the lenders party to the Loan Agreement. The Loan
Agreement replaced the EWB Loan Agreement discussed below. The Loan Agreement
provides for (i) a $50.0 million revolving credit facility, with a $5.0 million
sublimit for the issuance of letters of credit and a $5.0 million sublimit for
the making of swingline loan advances (the "Revolving Credit Facility"), and
(ii) a $50.0 million term loan facility (the "Term Loan Facility"). We may
request borrowings under the Revolving Credit Facility until August 7, 2015. On
August 7, 2012, we borrowed $20.8 million of term loans under the Term Loan
Facility, and no borrowings remain available thereunder. On November 21, 2012,
we borrowed $10.0 million under the Revolving Credit Facility. On December 20,
2012, we borrowed an additional $20.0 million under the Revolving Credit
Facility, and $20.0 million remains available for borrowing thereunder.
The Loan Agreement contains customary affirmative and negative covenants,
including covenants that limit or restrict our and
our subsidiaries' ability to, among other things, incur indebtedness, grant
liens, merge or consolidate, dispose of assets, pay
dividends or make distributions, make investments, make acquisitions, prepay
certain indebtedness, change the nature of our or
its business, enter into certain transactions with affiliates, enter into
restrictive agreements, and make capital expenditures, in
each case subject to customary exceptions for a credit facility of this size and
type. We are also required to maintain a
minimum debt service coverage ratio, a maximum leverage ratio, and a minimum
liquidity ratio. As of December 31, 2012, we
were in compliance with all affirmative and negative covenants, debt service
coverage ratio, leverage ratio and minimum level
of liquidity requirements.
On August 9, 2012, we announced that our Board of Directors authorized us to
repurchase up to $100.0 million of our common stock. The share repurchase
program commenced August 13, 2012. During the six months ended December 31, 2012
we repurchased 5,159,050 shares for a total cost of $54.4 million.
On December 14, 2012, we announced that our Board of Directors had authorized a
special cash dividend of $0.18 per share for each share of common stock
outstanding on December 24, 2012. The aggregate dividend payment of $15.7
million was paid on December 28, 2012 to stockholders of record on December 24,
2012.
In July 2011, we repurchased an aggregate of 12,041,700 shares of our Series A
preferred stock from entities affiliated with Summit Partners, L.P., one of our
major stockholders, at a price of $8.97 per share for an aggregate consideration
of $108.0 million. Of the aggregate purchase price, $40.0 million was paid in
cash at the time of closing and the balance of the shares were paid for through
the issuance of convertible subordinated promissory notes in the aggregate
principal amount of $68.0 million. On September 15, 2011, $34.0 million was paid
against the notes reducing the aggregate principal amount outstanding to $34.0
million.
On September 15, 2011, we entered into a Loan and Security Agreement with East
West Bank, (the "EWB Loan Agreement"). The EWB Loan Agreement consisted of a
$35.0 million term loan facility and a $5.0 million revolving line of credit
facility. The term loan was scheduled to mature on September 15, 2016 with
principal and interest to be repaid in 60 monthly installments. During the three
months ended September 30, 2011, we used $34.0 million of the term loan to repay
a portion of
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our outstanding convertible subordinated promissory notes held by entities
affiliated with Summit Partners, L.P. The EWB Agreement was replaced by the Loan
Agreement on August 7, 2012 as discussed above.
Liquidity
We believe our existing cash and cash equivalents, cash provided by operations
and the availability of additional funds under our loan agreements will be
sufficient to meet our working capital and capital expenditure needs for at
least the next 12 months. Our future capital requirements may vary materially
from those currently planned and will depend on many factors, including our rate
of revenue growth, the timing and extent of spending to support development
efforts, the timing of new product introductions, market acceptance of our
products and overall economic conditions. As of December 31, 2012, we held
$141.1 million of our $148.3 million of cash and cash equivalents in accounts of
our subsidiaries outside of the United States and we will incur significant tax
liabilities if we decide to repatriate those amounts.
Commitments and Contingencies
In January 2011, the U.S. Department of Commerce's Bureau of Industry and
Security's Office of Export Enforcement ("OEE") contacted us to request that we
provide information related to our relationship with a logistics company in the
United Arab Emirates ("UAE") and with a company in Iran, as well as information
on the export classification of our products. As a result of this inquiry we,
assisted by outside counsel, conducted a review of our export transactions from
2008 through March 2011 to not only gather information responsive to the OEE's
request but also to review our overall compliance with export control and
sanctions laws. We believe our products have been sold into Iran by third
parties. We do not believe that we directly sold, exported or shipped our
products into Iran or any other country subject to a U.S. embargo. However,
until early 2010, we did not prohibit our distributors from selling our products
into Iran or any other country subject to a U.S. embargo. In the course of this
review we identified that two distributors may have sold Ubiquiti products into
Iran. Our review also found that while we had obtained required Commodity
Classification Rulings for our products in June 2010 and November 2010, we did
not advise our shipping personnel to change the export authorizations used on
our shipping documents until February 2011. During the course of our export
control review, we also determined that we had failed to maintain adequate
records for the five year period required by the EAR and the sanctions
regulations due to our lack of infrastructure and because it was prior to our
transition to our current system of record, NetSuite. See "Risk Factors-We are
subject to numerous U.S. export control and economic sanctions laws and a
substantial majority of our sales are into countries outside of the United
States. Although we did not intend to do so, we have violated certain of these
laws in the past, and we cannot currently assess the nature and extent of any
fines or other penalties, if any, that U.S. governmental agencies may impose
against us or our employees for any such violations. Any fines, if materially
different from our estimates, or other penalties, could have a material adverse
effect on our business and financial results."
In May 2011, we filed a self-disclosure statement with the BIS and the OEE and,
in June 2011 we filed a self-disclosure statement with the U.S. Department of
the Treasury's Office of Foreign Asset Control ("OFAC"), regarding the
compliance issues noted above. The disclosures address the above described
findings and the remedial actions we have taken to date. However, the findings
also indicate that both distributors continued to sell, directly or indirectly,
our products into Iran during the period from February 2010 through March 2011
and that we received various communications from them indicating that they were
continuing to do so. Since January 2011, we have cooperated with OEE and, prior
to our disclosure filing, we informally shared with the OEE the substance of our
findings with respect to both distributors. From May 2011 to August 2011, we
provided additional information regarding our review and our findings to OEE to
facilitate its investigation and OEE advised us in August 2011 that it had
completed its investigation of us. In August 2011, we received a warning letter
from OEE stating that OEE had not referred the findings of our review for
criminal or administrative prosecution of us and closed the investigation of us
without penalty.
OFAC is still reviewing our voluntary disclosure. In our submission, we have
provided OFAC with an explanation of the activities that led to the sales of our
products in Iran and the failure to comply with the EAR and OFAC sanctions.
Although our OFAC and OEE voluntary disclosures covered similar sets of facts,
which led OEE to resolve the case with the issuance of a warning letter, OFAC
may conclude that our actions resulted in violations of U.S. export control and
economic sanctions laws and warrant the imposition of penalties that could
include fines, termination of our ability to export our products and/or referral
for criminal prosecution. Any such fines may be material to our financial
results in the period in which they are imposed. The penalties may be imposed
against us and/or our management. The maximum civil monetary penalty for the
violations is up to $250,000 or twice the value of the transaction, whichever is
greater, per violation. Also, disclosure of our conduct and any fines or other
action relating to this conduct could harm our reputation and indirectly have a
material adverse effect on our business. We cannot predict when OFAC will
complete its review or decide upon the imposition of possible penalties.
While we have now taken actions to ensure that export classification information
is distributed to the appropriate personnel in a timely manner and have adopted
policies and procedures to promote our compliance with these laws and
regulations, including
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obtaining written distribution agreements with substantially all of our
distributors that contain covenants requiring compliance with U.S. export
control and economic sanctions law; notifying all of our distributors of their
obligations and obtaining updated distribution agreements from distributors that
account for over 99% of our revenue in fiscal 2012. Our failure to amend all our
distribution agreements and to implement more robust compliance controls
immediately after the discovery of Iran-related sales activity in early 2010 may
be aggravating factors that could impact the imposition of penalties imposed on
us or our management. Based on the facts known to us to date, we recorded an
expense of $1.6 million for this export compliance matter in fiscal 2010, which
represents management's estimated exposure for fines in accordance with
applicable accounting literature. This amount was calculated from information
discovered through our internal review and we deem this loss to be probable and
reasonably estimable. However, we believe that it is reasonably possible that
the loss may be higher, but we cannot reasonably estimate the range of any
further potential losses. Specific information has come to our attention and as
we cannot estimate any further range of possible losses. Should additional facts
be discovered in the future and/or should actual fines or other penalties
substantially differ from our estimates, our business, financial condition, cash
flows and results of operations would be materially negatively impacted.
Warranties and Indemnifications
Our products are generally accompanied by a 12 month warranty, which covers both
parts and labor. Generally the distributor is responsible for the freight costs
associated with warranty returns, and we absorb the freight costs of replacing
items under warranty. In accordance with the Financial Accounting Standards
Board's ("FASB's"), Accounting Standards Codification ("ASC"), 450-30, Loss
Contingencies, we record an accrual when we believe it is estimable and probable
based upon historical experience. We record a provision for estimated future
warranty work in cost of goods sold upon recognition of revenues and we review
the resulting accrual regularly and periodically adjust it to reflect changes in
warranty estimates.
We may in the future enter into standard indemnification agreements with many of
our distributors and OEMs, as well as certain other business partners in the
ordinary course of business. These agreements may include provisions for
indemnifying the distributor, OEM or other business partner against any claim
brought by a third party to the extent any such claim alleges that a Ubiquiti
product infringes a patent, copyright or trademark or violates any other
proprietary rights of that third party. The maximum amount of potential future
indemnification is unlimited. The maximum potential amount of future payments we
could be required to make under these indemnification agreements is not
estimable.
We have agreed to indemnify our directors, officers and certain other employees
for certain events or occurrences, subject to certain limits, while such persons
are or were serving at our request in such capacity. We may terminate the
indemnification agreements with these persons upon the termination of their
services with us but termination will not affect claims for indemnification
related to events occurring prior to the effective date of termination. The
maximum amount of potential future indemnification is unlimited. We have a
director and officer insurance policy that limits our potential exposure. We
believe the fair value of these indemnification agreements is minimal. We had
not recorded any liabilities for these agreements as of December 31, 2012 or
2011.
Based upon our historical experience and information known as of the date of
this report, we do not believe it is likely that we will have significant
liability for the above indemnities at December 31, 2012.
Contractual Obligations and Off-Balance Sheet Arrangements
We lease our headquarters in San Jose, California and other locations worldwide
under noncancelable operating leases that expire at various dates through fiscal
2017.
In December 2011, we entered into an agreement to lease approximately 64,512
square feet of office and research and development space located in San Jose,
California, which we use as our corporate headquarters. The lease term is from
April 1, 2012, though June 30, 2017. The lease has been categorized as an
operating lease, and the total estimated lease obligation is approximately $4.9
million.
On August 7, 2012, we entered into the Loan Agreement with U.S. Bank, as
syndication agent, and East West Bank, as administrative agent for the lenders
party to the Loan Agreement. The Loan Agreement provides for (i) a $50.0 million
revolving credit facility, with a $5.0 million sublimit for the issuance of
letters of credit and a $5.0 million sublimit for the making of swingline loan
advances, and (ii) a $50.0 million Term Loan Facility. We may request borrowings
under the Revolving Credit Facility until August 7, 2015. On August 7, 2012, we
borrowed $20.8 million of term loans under the Term Loan Facility and no
borrowings remain available thereunder. On November 21, 2012, we borrowed $10.0
million under the Revolving Credit Facility. On December 20, 2012 we borrowed an
additional $20.0 million under the Revolving Credit Facility, and $20.0 million
remains available for borrowing thereunder.
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The following table summarizes our contractual obligations as of December 31,
2012:
2013
(remainder) 2014 2015 2016 2017 Thereafter Total
Operating leases $ 750 $ 1,505 $ 1,465 $ 1,423 $ 1,117 $ 188 $ 6,448
Debt payment
obligations 2,500 5,000 6,875 39,375 10,000 15,000 78,750
Interest payments
on debt payment
obligations 542 1,859 1,723 1,043 532 125 5,824
Total $ 3,792 $ 8,364 $ 10,063 $ 41,841 $ 11,649 $ 15,313 $ 91,022
We subcontract with other companies to manufacture our products. During the
normal course of business, our contract manufacturers procure components based
upon orders placed by us. If we cancel all or part of the orders, we may still
be liable to the contract manufacturers for the cost of the components purchased
by the subcontractors to manufacture our products. We periodically review the
potential liability and to date no significant accruals have been recorded. Our
consolidated financial position and results of operations could be negatively
impacted if we were required to compensate the contract manufacturers for any
unrecorded liabilities incurred.
As of December 31, 2012, we had $9.3 million of unrecognized tax benefits,
substantially all of which would, if recognized, affect our tax expense. We have
elected to include interest and penalties related to uncertain tax positions as
a component of tax expense. We do not expect any significant increases or
decreases to our unrecognized tax benefits in the next twelve months.
Recent Accounting Pronouncements
We do not believe there have been any recent accounting pronouncements that
would have a significant impact on our financial statements.
Non-GAAP Financial Measures
Regulation G, conditions for use of Non-Generally Accepted Accounting Principles
("Non-GAAP") financial measures, and other SEC regulations define and prescribe
the conditions for use of certain Non-GAAP financial information. To supplement
our condensed consolidated financial results presented in accordance with GAAP,
we use Non-GAAP financial measures which are adjusted from the most directly
comparable GAAP financial measures to exclude certain items, as described below.
Management believes that these Non-GAAP financial measures reflect an additional
and useful way of viewing aspects of our operations that, when viewed in
conjunction with our GAAP results, provide a more comprehensive understanding of
the various factors and trends affecting our business and operations. Non-GAAP
financial measures used by us include net income or loss and diluted net income
or loss per share.
Our Non-GAAP measures primarily exclude stock-based compensation, net of taxes
and other special charges and credits. Management believes these Non-GAAP
financial measures provide meaningful supplemental information regarding our
strategic and business decision making, internal budgeting, forecasting and
resource allocation processes. In addition, these Non-GAAP financial measures
facilitate management's internal comparisons to our historical operating results
and comparisons to competitors' operating results.
We use each of these Non-GAAP financial measures for internal managerial
purposes, when providing our financial results and business outlook to the
public and to facilitate period-to-period comparisons. Management believes that
these Non-GAAP measures provide meaningful supplemental information regarding
our operational and financial performance of current and historical results.
Management uses these Non-GAAP measures for strategic and business decision
making, internal budgeting, forecasting and resource allocation processes. In
addition, these Non-GAAP financial measures facilitate management's internal
comparisons to our historical operating results and comparisons to competitors'
operating results.
The following table shows our Non-GAAP financial measures:
Three Months Ended December 31, Six Months Ended December 31,
2012 2011 2012 2011
(In thousands, except per share amounts)
Non-GAAP net income $ 18,339 $ 24,902 $ 31,911 $ 46,605
Non-GAAP diluted net income per
share of common stock $ 0.20 $ 0.27 $ 0.35 $ 0.50
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We believe that providing these Non-GAAP financial measures, in addition to the
GAAP financial results, are useful to investors because they allow investors to
see our results "through the eyes" of management as these Non-GAAP financial
measures reflect our internal measurement processes. Management believes that
these Non-GAAP financial measures enable investors to better assess changes in
each key element of our operating results across different reporting periods on
a consistent basis and provides investors with another method for assessing our
operating results in a manner that is focused on the performance of our ongoing
operations.
The following table shows a reconciliation of GAAP net income to non-GAAP net
income:
Three Months Ended December 31, Six Months Ended December 31,
2012 2011 2012 2011
(In thousands, except per
share amounts)
Net Income $ 17,803 $ 24,691 $ 30,982 $ 46,184
Stock-based compensation:
Cost of revenues 104 27 185 33
Research and development 401 116 667 232
Sales, general and administrative 388 208 697 437
Tax effect of non-GAAP adjustments (357 ) (140 ) (620 ) (281 )
Non-GAAP net income $ 18,339 $ 24,902 $ 31,911 $ 46,605
Non-GAAP diluted net income per share
of common stock (1) $ 0.20 $ 0.27 $ 0.35 $ 0.50
Weighted-average shares used in
computing non-GAAP diluted net income
per share of common stock (1) 90,056 93,446 91,493 93,480
(1) Non-GAAP diluted net income per share of common stock is calculated using
non-GAAP net income excluding stock-based compensation, net of taxes and
weighted-average shares outstanding as if Series A preferred stock is treated
as common stock for the periods presented.
The following table shows a reconciliation of weighted-average shares used in
computing net loss per share of common stock-diluted to weighted-average shares
used in computing non-GAAP diluted net income per share of common stock:
Three Months Ended Six Months Ended
December 31, December 31,
2012 2011 2012 2011
(In thousands) (In thousands)
Weighted average shares used in
computing net loss per share of common
stock- diluted 90,056 90,056 91,493 75,102
Weighted average dilutive effect of
stock options and restricted stock
units - - - 3,247
Weighted average shares of Series A
preferred stock outstanding - 3,390 - 15,131
Weighted-average shares used in
computing non-GAAP diluted income per
share of common stock 90,056 93,446 91,493 93,480
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