Ed,

I had hoped for an analysis of why Ubiquiti’s M-score was high (i.e., not negative enough). As Captain CCS is fond of saying, it is not enough to know what the chart (substitute M-score) is saying, you need to know why it is saying what it is saying.

So, I spent way more time than justified to find the answer. If the M-score could speak instead of just flash a number, it would say, “your sales grew so you are suspicious, your accounts receivable increased more than your revenues increased, and you had bigger cash flow adjustments due to changes to accounts receivable, inventory and vendor deposits. Oh, and you improved your balance sheet, less leverage.”

Basically, if you have no year-over-year changes and no adjustments from net revenue to cash flow from operations then the M-score is more negative than -2.22 and you are “not a manipulator”. Well, actually, your score would be -2.136 which is less negative and you ARE a manipulator. At least that is my calculation.

Let’s go into a bit more. There are 8 factors. Seven of them are “indexes” of year-over comparisons. Each index has a coefficient or multiplier. Six of the coefficients are positive numbers, one is negative. So six of the indexes make the M-score less negative (bad), one makes it more negative (good). The eighth factor is a major one for Ubiquiti and essentially marks them as a manipulator regardless of everything else. That 8th factor is the TATA factor (their label, not mine). That is derived just from current year numbers: Total Accruals to Total Assets. In simple terms you take the net income, subtract non-operating income and subtract cash flow from operations and divide by total assets. In even simpler terms, you take all those adjustments that reduce operating income to operating cash flow and divide that by total assets. And what are those adjustments for Ubiquiti? Changes to accounts receivable, inventory and vendor deposits. The coefficient for TATA is more than 4 times larger than the next largest coefficient and almost 40 times greater than the smallest two. And the result is 0.84 points on the M-score. Now, the next biggest number is the Days In Receivables Index and days increased 30% and a .92 coefficient adds 0.28. The sales growth (*Sales growth is not itself a measure of manipulation. However, growth companies are likely to find themselves under pressure to manipulate in order to keep up appearances. ) added 0.266 points and there you are.*

*Well, there was a .035 add for lower margins year-over-year. Finally, to add insult to injury (IMO) Ubiquiti decreased its debt and the leverage index is the one with the negative coefficient so that cost them 0.026 beneficial (negative) points.*

*Got that? The explanations for the receivables and inventory have been well covered. I have nothing to add. They either are or are not stuffing the distribution channels. I see no motive for Pera. Maybe someone down in the trenches is trying to look good, but I think Pera explained all this in the last conference call.*

*KC, long UBNT and added post Citron*