Ubiquiti reported on Thursday after the bell and was promptly escorted to the woodshed. Is there a structural problem in the business or did the precipitous fall present us with a nice buying opportunity?
Revenue increased 32% and EPS increased 24%.
What are the potential reasons for the big drop in price?
Expenses this quarter increased as the company needed to air ship its new AmpliFi product to meet demand, increased inventory & warehousing to meet future demand, and aggressive pricing on AirMax AC. All of this resulted in GM of 44.6%, a 420 bp drop versus the same quarter last year and EPS at the low end of their guidance (72 cents).
Another potential reason for the drop could be the question raised by an analyst on the call about being sued by Infosys. No further information was given on the call and a Google Search yields no results.
We learned during the call the company is focusing on higher end categories and performance. Could the market be concerned about this philosophical change? I may be looking for negatives at this point.
Likely the biggest concern arises out of the margin reduction this quarter. During the past two conference calls, we’ve heard about some poor execution primarily in the ramp of AmpliFi. For followers of the company, we are familiar with missteps. Are the current issues going to cause longer term problems or are they a mere hiccup? We’ve recently grown accustomed to 48% - 49% GM. The company has kept its long term target of 45% to 50%.
Let’s try to answer whether we feel the margin reduction is concerning at this point. First, the misexecution on AmpliFi only accounts for a portion of the margin reduction and I believe we can consider it a one time event. A late design change caused delays and the company chose to stock the channel quickly versus delay getting the product to consumers. I, for one, am happy with that as I received my AmpliFi very shortly after their release date (it works great). Secondly, the company increased inventory and is spending more on warehousing in Europe particularly in order to meet customer demands. Since revenues are again expected to increase 32% next quarter, I believe we can stand behind these expenses. Finally, the aggressive pricing on AirMax AC is a path Pera has taken before when entering new markets or releasing products. Should this persist due to competitive pressures, it could be a long term concern. It is just something to watch.
On to the Positives:
Enterprise revenues are on an absolute tear. This isn’t an apples to apples comparison from last year due to the addition of the AmpliFi line. So, we don’t know what portion of the 87% growth seen here is due to AmpliFi. It will be interesting to know when and if they start breaking that out. Regardless, the growth is great.
There could be bigger growth ahead here too. The company is increasing performance of their products and increasing ASP. The company just released their UniFi AC HD in January. Pera claims it will be their highest revenue product by the end of the year. The company claims this product offers the best performance at 1/5 of the price of competitors. If Pera’s vision is right, this will be a huge boost to revenues!
I can give you guys one data point you can look up. So our Ubiquiti Community around UniFi was originally built from maybe a lot of emerging markets, a lot of Ubiquiti operators, but as UniFi has scaled, you see an uptick in the amount of professional system integrators that are using it, especially in the U.S. And these traditional system integrators have been using brands like Cisco and Aruba and HP and more expensive brands. And if you go to Spiceworks, spiceworks.com, that’s one of the largest, I guess, third-party community for professional certified system integrators. And there’s topics covering UAP-AC-HD and the demand there is really solid and the reception of the product is really solid. And we’re also seeing that with orders. Orders are very healthy and we expect it to scale. I believe probably over this next year, UAP-AC-HD should be the highest revenue product, not only in UniFi but in the whole company.
I went to Spiceworks and searched under UAP AC HD. Indeed, the reviews are quite impressive. Reading the reviews, I found another interesting item. One of the previous knocks on the Ubiquiti brand was that, “It is so cheap, it must not work well.” Oddly, entering the higher ASP and performance universe could be just the thing the company needs.
The Service Provider side of the business seems solid, though nowhere near the heady growth in Enterprise. Solving the backwards compatibility issue appears to be a positive for the SP business as new AirMax AC (better performance) now works with the old AirMax allowing operators to incrementally upgrade their networks (this is my take as to why this is a positive and somewhat of a guess).
Ubiquiti is transitioning from primarily a provider to rural and emerging markets, to primarily an Enterprise hardware company along with their new foray into the consumers home. The new products have significantly increased the company’s TAM. The risk reward scenario seems exceptional here.
As of the close of business Friday, the PE is 18.9.