UBNT and judging arguments

I am of the belief that accusations and accolades alike must be judged by the evidence that supports them.

Ubiquiti investors: I think you will be a better investor for the experience if you can hold these two thoughts in your head simultaneously:

1. Citron is using the term “fraud” far too lightly.
It’s silly, and tabloidesque, and just wrong to call something a fraud just because it doesn’t make sense to you. Also, I agree with what someone said on the board earlier: I don’t think Pera would bet billions on something he knew to be a total fraud.

2. Some of the red flags in Citron’s report are worth investigating.
It really doesn’t make a lot of sense that Ubiquiti can run a business at a fraction of the spend of their competitors, without advertising, with minimal R&D. It doesn’t make sense that they benefit greatly from customers who just can’t help but evangelize about…their routers? I don’t get it. Maybe it’s not fraud at all, but perhaps corners are being cut that will eventually bite Ubiquiti, or hold it back in some way.

What not to do:

  1. Ignore arguments you don’t like, plug your ears and bury your head in the sand.
  2. Believe all arguments, regardless of the evidence behind them.

My friends: Respond, don’t react.

Bear
staying out of this one

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Some of the red flags in Citron’s report are worth investigating.
It really doesn’t make a lot of sense that Ubiquiti can run a business at a fraction of the spend of their competitors, without advertising, with minimal R&D. It doesn’t make sense that they benefit greatly from customers who just can’t help but evangelize about…their routers? I don’t get it. Maybe it’s not fraud at all, but perhaps corners are being cut that will eventually bite Ubiquiti, or hold it back in some way.

Bear - Quite honestly following the company for this many years, their business model really does make sense and it can be that efficient. Accountants have worked it over since the defrauding. Keep in mind Ubiquiti is doing something quite a bit different than you suggest with “their routers.” They’ve actually been connecting far off places to the internet via wireless service providers. These are tech types who are making money bringing the internet to people who can’t even imagine what that will bring to their lives. Given that, it isn’t so far out there to consider there are evangelists for their products. I’ll offer another example of evangelists. These boards. Think of all of the knowledge we glean from the feedback offered here.

No doubt there may be some setbacks based on cutting corners. There have already been some (see $40M defrauding). However, the outlook continues to get better and Pera keeps focusing on a lean machine that will make great products.

As to the actual argument of the company being a fraud, I see zero evidence. How does a company fake having cash in the bank? How would they truly have as many evangelists as they do without having folks use their products and verify they work and want to provide feedback on what can be done better?

Take care,
A.J.

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I can’t speak to the whole report or detailed allegations but I can say the consumer products are getting a certain degree of word of mouth advertising. I heard about the AmpliFi product from rave reviews of tech folks I trust. They include Microsoft employees who put out independent podcasts and blog posts spreading the word of how it helped in their house. e.g. written up in this blog post:

https://www.hanselman.com/blog/ReviewTheAmpliFiHDHighDensity…

Scott Hanselman is somewhat of a icon/influencer in Microsoft developer community, with 193,000 Twitter followers.

It has been mentioned on the a podcast I subscribe to which I think gets about 50,000 listeners per week.

So these are anecdotal reports but not out of the question that there may be something to the word of mouth advertising.

2k10

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So these are anecdotal reports but not out of the question that there may be something to the word of mouth advertising.

Yes. Word of mouth advertising, community feedback and knowledge sharing is what the company is about. Oh, and producing excellent products at the very best prices imaginable due to not having a sales force. Let’s not forget that part.

A.J.

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It really doesn’t make a lot of sense that Ubiquiti can run a business at a fraction of the spend of their competitors, without advertising, with minimal R&D. It doesn’t make sense that they benefit greatly from customers who just can’t help but evangelize about…their routers? I don’t get it. Maybe it’s not fraud at all, but perhaps corners are being cut that will eventually bite Ubiquiti, or hold it back in some way.

I worked for a decade for a niche software firm (It is part of one of the Motley Fool and Bert Hochfeld recommended companies - for confidentiality I will not reveal the name). The software had built its greatest brand and iconic status without a sales team but they had great tech support. Only one guy to receive sales type phone calls. Over the years they built an army of sales force despite the fact that software largely sold on its own. Paradoxically their brand uniqueness went down as the number of sales people increased. The moral of the R&D also suffered as sales somehow became more important than R&D. It is an expensive software, and to sell it more sales force was required was the argument and over the years since a large sales force was required, the cost of the software could not be cut down !! I have very little doubt that if most of sales force was fired and replace by investments in tech support and community, the software itself would be far far more cheaper and all stake holders would be better off. Many customers/employee share that feeling. But the software itself is not easy to replicate and would require a huge upfront investment of money and years. So the status quo in the industry continues.

So what Pera says about the large unnecessary bureaucracy of the company and sales force actually keeping the costs high resonates completely with me and he is the guy who is actually proving an alternate paradigm that could work better. He had laid out his thoughts in his earlier blogs and I mostly agree with it.

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I agree that it’s easy to have too much sales and marketing, and have it wag the dog and ruin a great culture. The question is whether the word-of-mouth is really selling and supporting as much equipment as Ubiquiti is claiming it is.

"How would they truly have as many evangelists as they do…?

One of the things Citron is claiming is that most of the posters on their forums are bots, and only a few real people are posting the vast majority of comments.

I’m not convinced either way. That makes this a very interesting situation for me.

Yes. Word of mouth advertising, community feedback and knowledge sharing

Linux is a product developed by open source community, actively supported by open source community. Many thousands of people had contributed their valuable time, energy and resources.

Still, RedHat had to provide commercial support for the product to really move into the enterprise market and get accepted.

The “evangelical” model of enthusiasts have their own desires, needs and those may not align with the business needs of an organization. It is interesting to note, in spite of having millions of users, there seems to be no such inherent conflict.

Companies like RedHat spent quite significant energy and resource in working with these groups. For UBNT, it seems the community is a community of disciplined soldiers.

Still, RedHat had to provide commercial support for the product to really move into the enterprise market and get accepted.

That’s why UBNT is not yet in the enterprise market! They are mainly with WISP and SMBs. UBNT is trying to break into enterprise with UNIFI elite support - which is commercial support.
That said if you visit the forums, UBNT employees regularly answer questions on the community. For every product, they have few designated employees looking into it anytime.

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Will like to add to my earlier post on difference between RHT and UBNT. You can think of UBNT as Red Hat model turned upside down. Red Hat heavily uses open source community in R&D. Sales/Support and other functions are tightly under its control. UBNT follows an inverse strategy. The company keeps its focus on R&D to ensure great products. For sales support, it relies on the community. The communities themselves are seeded and steered by UBNT employees, but there is no formal guarantee of support. So it is not a full hands off support. The support function is outsourced to the small entrepreneur. Also important to note, employees helping with steering the community are often R&D engineers. Engineers or developers connected with end users are always likely to be better at their work as they are not working in vacuum on a requirements document from a Product management or Business analysis team. I have seen this in practice in my stint with earlier employer on difference between eras when developers who were made to do some technical support for the product they develop and when most were sequestered from end users under layers.

As an example you can visit the FrontRow community which is still very small. The product here is what we can all understand. But couple of enthusiastic users have seeded number of ideas on improving the camera providing valuable feedback to the product development team.

It has worked so far with WISP and Unifi for small business. Though I believe there are limits to this approach and they need to do more to prime the community ecosystem often - which they do not always do. That is why WISP growth stagnated despite the fact there are still under served areas all around the word. It requires talented locals to increase usage. Some products like SunMax which theoretically had great potential never took off as successfully as the WISP products as the company never invested so much in pump riming the ecosystem.

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"How would they truly have as many evangelists as they do…?

One of the things Citron is claiming is that most of the posters on their forums are bots, and only a few real people are posting the vast majority of comments.

I’m not convinced either way. That makes this a very interesting situation for me

The best validation is follow the numbers and products. They have grown from zero to a billion dollar enterprise from scratch without or minimal external funding ! There have been missteps, quarter over quarter there growth is often choppy. UBNT will be never like Shopify growing in a straight line, but overall they have grown spectacularly.

There products are real, there is zero doubt about it. I am a happy Amplifi customer. I know of people often in faraway lands who swear by Ubiquiti products compared to the costlier alternatives. The investing forums often have people who have invested after using their products or are WISP entrepreneurs. Neutral communities like Spiceworks are full of people who are fans of UBNT.

Unless there is evidence they have fudges their numbers, there is no evidence of fraud here. I doubt there is. We have insiders who do not reward themselves with obscene SBC. Who do not look to cash out. Heck this is one company where even GAAP and non GAAP numbers are same or almost same !!

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The additional $100M of share re-purchase authorization seems to be a nice response to the claims of fraud.

Seems that Pera plans to take advantage of this sale by bringing the share count down even faster than was previously planned. The float should be down to well under 23 million shares following this repurchase authorization. I am surprised the price is still below $50/share at the time I am hitting the submit message button.

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https://www.sec.gov/Archives/edgar/data/1511737/000165495417…

Link to the 8k announcing the expansion of the re-purchase program.

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swapsan,
That’s why UBNT is not yet in the enterprise market!

Spot on. I was going to write a lengthy post, citing my 30 years in the IT business pointing out that comparing linux to Ubiquiti products is a invalid comparison. In a few words you summed it up nicely.

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How does a company fake having cash in the bank?

This is definitely easier than you would think. Acc’ts don’t go to your bank branch and ask to look at the bank software to see what’s in there.

Fraudulent firms fake their accounts all the time.

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swapsan,
Also important to note, employees helping with steering the community are often R&D engineers. Engineers or developers connected with end users are always likely to be better at their work as they are not working in vacuum on a requirements document from a Product management or Business analysis team.

Another great observation. Before I retired I worked at major aerospace firm that used to have HQ in Seattle (Southpark, actually). Anyway, I was one of those analysts you referred to. At one point I had a meeting with one of the top design engineers at this company. The subject of the meeting was how parts were identified. The prime identifier was, as you might suspect, is the “part number.” It is important to understand that the corporate culture was that the design engineers could do no wrong. The part numbering system had grown up during WW2, long before there were computers. All part numbers for designed parts were derived from the WBS and constrained to 18 characters in length. You could look at the number all by itself and glean a lot of information from it. This part numbering system is referred to as a “intelligent identifiers.” But, there are a ton of drawbacks with intelligent identifiers. One of which is that parts that served exactly the same function across models could not be reused due to the fact that the first four characters of the part number were model identification. This leads to a boatload of redundancy and wasted effort in redesigning parts that serve identical functions across models. Anyway, I won’t dwell on all the problems with intelligent identifiers, but there a lot.

I argued that engineering should switch do “dumb identifiers.” All the “intelligence” embedded in the part number, which served a purpose at one time, was no longer necessary because with modern computer systems the information embedded in the identifier (and more) could be readily recalled from a database whenever required. I, not well known for tact, dismantled each argument advanced by the engineer as to why intelligent part numbers were not needed.

During our discussion, I finally asserted that the design engineers were simply a service organization to manufacturing. That did not go over well. In fact, that comment ended the conversation with no change in the way parts were identified, despite the fact that the existing system was costing the company literally millions of dollars on an annual basis.

The background is necessary because a few years later a young woman (well, younger than I anyway) became the VP in charge of one of the major production sites. She completely reorganized the way the products at that site were designed and manufactured. One of the primary things she did was to collocate the design engineers with manufacturing; they had previously been in a separate off-site location and seldom had direct contact with manufacturing. Her rationale? The design engineers at times designed things that could not be built. At other times, there were discrepancies between what was designed and what was built, every “non-conformance” had to be resolved. Her goal in reorganizing the entire process was to speed up the production rate while simultaneously improving the quality of the product. She clearly perceived that the design was not the product (as the design engineers had asserted for years). The design was a service to the manufacturing process. She co-located the design engineers with their customers, manufacturing.

BTW, the intelligent identifier is still in use, but it has been diluted. Not every part is numbered as a derivative of the WBS in some of the newer products.

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Faking cash in bank is hard. I am an accountant and standard auditing procedures would be to send a request directly to the bank, signed by a company officer directing the bank to respond directly to the CPA of the cash in that bank. The CPS prepares the document, has the officer sign it, and the CPA takes the document directly to the mail. It is called 3rd party verification, and would require an officer of the bank to be in on the fraud. Not completely impossible, but highly unlikely.

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and would require an officer of the bank to be in on the fraud.

Yes, you’d have to bribe them or just ask them to sign-off anyway, which is not all that impossible.

Difficult, yes.

70% of a $4bn company would be worth bribing somebody if the accounts were fake though.

Madoff was head of the NASD so it’s not like crooked behavior is beyond the pale. Needless to say the behavior at Wells Fargo, et al.

Bank officers certainly lied through their teeth in the ‘robo-signing’ scandal, and lots of them.

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you’d have to bribe them or just ask them to sign-off anyway, which is not all that impossible

Not impossible, but this alleged fraud is getting all the more improbable now that we need to involve a third part bank and a third party auditor. Perhaps its not a fraud after all

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that we need to involve a third part bank and a third party auditor

No, the auditor’s not in on it.

The auditor gets the CEO’s signoff to examine the bank balances. He calls the bank officer and asks to confirm whatever the number is.

It means only one person needs to be in on any possible fraud.

I don’t think the cash balance is faked, only pointing out that it is nowhere near impossible as others are making it out to be.

It’s much more likely that if shenanigans are going on, it’s due to channel stuffing or things of that nature. The low R+D and lack of CFO for years is suspicious, there’s just no way around it.

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I thought I had posted this on Monday, but I must have written it and then not clicked the right button.

Ubiquiti’s Beneish M-score is quite high, which can be an indication of financial manipulation:

https://www.gurufocus.com/term/mscore/NAS:UBNT/Beneish%2BM-S…

Here’s more background on this metric:
https://www.oldschoolvalue.com/blog/investment-tools/beneish…

While I think Andrew Left of Citron has overstated his case, and is being sensationalistic about it, it’s possible that UBNT has been making less money than claimed.

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