Ubiquiti - Earnings Call - Q2 2016
February 4, 2016
Transcript
Operator (participant)
As a reminder to the conference, this is being recorded. Now, I would like to turn the call over to Anne Fazioli. You have the floor.
Anne Fazioli (VP of Investor Relations)
Thank you, Brian, and thank you, everyone, for joining us today. I'm Anne Fazioli, Vice President of Investor Relations for Ubiquiti Networks. I'm here with Robert J. Pera, Founder, CEO, and Chairman of the Board at Ubiquiti Networks. Before we get started, I'd like to review the Safe Harbor Statements. Some of the statements we will make during this call constitute forward-looking statements, including perspectives on our future financial results, products, market conditions, and competition. These statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed during the call. Information on risk factors and uncertainties is contained in our most recent filing on Form 10-K with the SEC and other SEC filings, which are available on the SEC's website at www.sec.gov. Forward-looking statements are made as of today, February 4th, 2016, and we assume no obligation to update them.
We hope you've reviewed management's prepared remarks, which are posted as a transcript on the Events and Presentation and Financial Information sections of our Investor Relations website at ir.ubnt.com. This call will be a Q&A only. Please limit yourself to two questions. If time permitting, we'll allow for follow-up questions. Brian, we are ready to take questions.
Operator (participant)
Thank you. Ladies and gentlemen, at this time, if you would like to ask a question, please press star then one on your telephone keypad. If your question has been answered or you do wish to remove yourself from the queue, please press the pound key. As a friendly reminder to our audience, if you'd like to ask a question over the phone, it is star then one on your telephone keypad. Our first question comes from Erik Suppiger with JMP. Your line is now open. Please go ahead.
Erik Suppiger (Managing Director and Senior Research Analyst)
Yeah. Congrats on a very solid quarter there. Your UniFi business was strong in the U.S. Can you comment a little bit about the competitive dynamics? In the past, you've talked a lot about how that's a lot of greenfield. Is that still the case, or do you feel like you're making more inroads into some of the traditional Wi-Fi vendor territories and displacing them anymore?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
I think UniFi has huge growth ahead of it. What stalled its growth was purely on the execution, the development execution. If you look, when we launched UniFi in 2011, 2012, when it started shipping in volume, there was nothing like it. It was a high-end managed Wi-Fi platform that was just a fraction of the cost of the guys like Cisco out there. In the past couple of years, you've seen the growth kind of tail out because we've mis-executed on a number of fronts. We mis-executed on our AC strategy. For the large part, we mis-executed on our switches and gateways, along with general wireless stability and a lot of advanced controller features. We pretty much refreshed the whole development team in the past year, and things are finally clicking.
I think with the introduction of AC, which looks good, and I think this year we'll make a lot of good progress on the deficient areas, I think you'll see UniFi starting to return to its growth trajectory. It is really unfortunate. We should be a billion-dollar company right now if we execute on UniFi. All we can do is learn from the mistakes and correct them.
Erik Suppiger (Managing Director and Senior Research Analyst)
Are you still trying to be number one in unit volumes on the UniFi product line?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Of course. I think Cisco is in the range—I do not have the current numbers, but I think that Cisco is in the range of shipping something like three or four million unit volume per year. We are not too far off that mark. We should have surpassed it already. I think over the next year or two years, we will definitely make a push. I think we can get there.
Erik Suppiger (Managing Director and Senior Research Analyst)
Okay. Then secondly, can you give us an update on the SolarMax? Where you are in terms of delivering that in the market and how that's been received?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
We just got inventory in the channel. The first deployments are taking place. Our training has been promising. There's a lot of obstacles around, I guess, compliance and registration, especially in the United States, for deploying these systems. It's going to take a little longer than we thought. The good news is, I think our solar investment is really misunderstood by the investment community and you guys. It's really a drop in the bucket for us in terms of R&D. It's a small team. I don't know the exact numbers, but it's probably a few hundred thousand dollars a quarter of R&D investment. At Ubiquiti, we're going to return to a lot more R&D investments, and we're going to start shooting out a lot more products.
If we come up with something radically different that's not as close to what we've been successful in, it doesn't mean that the company's distracted or we're leaking money. We're in a fortunate position where we have a very lean and efficient R&D model where we can take a lot of bets without materially affecting our operating health. Over the next year, we're going to make some strong pushes and some new product releases.
Erik Suppiger (Managing Director and Senior Research Analyst)
Very good. Thank you.
Operator (participant)
Thank you. Our next question comes from Tavis McCourt with Raymond James. Your line is now open. Please go ahead.
Tavis McCourt (Managing Director)
Hey, thanks for taking my question and nice quarter, Robert. I guess my question is, my guess is AC is helping trends in both businesses right now. I wonder if you could give us maybe a qualitative feel for the percentage of shipments either in the December quarter or the March quarter that may be AC in the UniFi business and in the AirMAX business. How early are we in this transition?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
I think we're still shipping a lot of legacy UniFi. I don't think it's really ramped up our UniFi AC sales completely yet. A lot of it is still the old AC, which we're trying to kind of get out of the channel, replace in the channel with the new UniFi AC products that perform much better. We're encouraging the channel to take the new UniFi AC products. The new UniFi AC platform, in general, has been well received and it looks promising so far. We'll have to wait and make sure that's for real. On the AirMAX side, it's been kind of a mess. We haven't executed well in backwards compatibility, which is what all the operators are waiting for. We got a lot of pressure. We got to do it. Every day counts. That's the primary focus in the company.
UniFi—I'm sorry, AirMAX AC backwards compatibility is in beta trials, and we got to find a way to close it out and get it stable here in the next few months. That's a major focus in the company right now.
Tavis McCourt (Managing Director)
The increase in the service provider business in the quarter, if it wasn't a material increase in AirMAX AC sales, what else went right in the quarter?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
That service provider also includes EdgeMAX. That team and platform has been very strong. AirFiber as well. That team, that platform, the performance has been very strong. I think just—the market is definitely not done growing yet. I think it's grown marginally, just probably because of the strength of the other technologies grouped in that category.
Tavis McCourt (Managing Director)
Great. Thanks a lot.
Operator (participant)
Thank you. Our next question comes to the line of Pierre Ferragu with Bernstein. Your line is now open. Please go ahead.
Pierre Ferragu (Equity Research)
Hey, Robert. Hi, Anne. Thanks for taking my question. There are actually three areas where I'd love to hear a quick update. You know the areas I care a lot about. The first one is your new enterprise products, things that are beyond UniFi, so video, voice-over IP, your secure gateway, your switches, the M5 product line. I'd love to hear how these things, how material these things are in the quarter and what's the early learnings from ramping up these products. The other one is just kind of getting a status update on what happened over the summer, your incident in Asia. I'd love to hear how much you've recovered in terms of money and where the process is. In terms of operations, I imagine after what happened, you've been reviewing all internal processes and looking at strengthening operations.
I'd love to hear you on that one. The last one is your interim CEO, Mark. He's not on the call. Is he an interim CEO at some point, CFO that you will have in front of investors, or do you wait for your permanent hire before getting there? Thanks a lot.
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Okay. The question, I guess the first part is about complementary technologies around our UniFi Wi-Fi ACs. We always have new ideas to expand UniFi. One of the examples was the UniFi voice-over IP phones. The hardware was fantastic. The idea was fantastic. That's another instance where we just didn't execute well. Yeah, we're going to continue to bring more ideas and products to market. The focus this year is to upgrade our engineering teams and execute better. A lot of people are frustrated. I'm the most frustrated in the company at the lack of execution on the R&D side. There's been a lot of changes this year, and we're going to continue to make changes until things improve. I guess the next part of your question, I heard about the CFO.
Yeah, we're actively searching not only for a CFO, but to form a strong general finance function so we could phase out our temporary contractors, which are very expensive. We want to make the right fit. We've had now two CFO turnovers in, I guess, the past four years, and I want somebody long-term, and I want stability. We filled a couple of those positions, but we still have to fill out the rest of the team, and that includes a leader on the finance side as well.
Pierre Ferragu (Equity Research)
Okay. On the review of your internal process for what happened over the summer, like the money you lost, how is that work progressing? Do you feel like you have safe internal processes now and that kind of incident cannot happen again anymore, or are you still in the process of fixing operations in finance?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Yeah. We originally had a SOX control system in place. We did an investigation on why that system broke down, and we put in the appropriate measures to do everything we can so it does not break down again. That is about all I can say.
Pierre Ferragu (Equity Research)
Thanks.
Operator (participant)
Thank you. As a reminder to our audience, if you would like to ask a question at this time, please press star then one on your telephone keypad. Again, that is star then one to ask a question. Our next question comes from Matt Robinson with One Darledge. Your line is now open. Please go ahead.
Hey. Hey, thanks for taking my question. Robert, would you say that the backwards compatibility development is your biggest challenge at this point?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
AirMAX AC backwards compatibility, yes. That's the number one priority in the company right now.
What would you say is your biggest accomplishments in the December quarter?
I think our biggest accomplishments are on the R&D side, which you won't see for the next, I don't know, probably for another three or four quarters. Everything kind of has a lag. Everything you do in terms of operations, success, or mis-execution doesn't show up real-time.
Okay. On the product side, were there any significant production constraints relative to demand for the new AC products in UniFi?
Whenever we announce or launch a new product like AirMAX AC, there's always a pent-up demand, and we try to control shipments to assure initial quality is good. In the case of UniFi and AirMAX AC, those are pretty sophisticated products with a lot of functionality. That means a lot of things that could also go wrong. We have been controlling our initial shipments to channel. Yeah, there's a lot of growth ahead of it.
Was the strong gross margins a function of mix to EdgeMAX and AirFiber, or what other things might have been a factor there? I know you said cost reductions in the materials.
Yeah. I think this is another thing misunderstood by you guys. We have never dropped the price of a product in the history of the company. When we go into new markets and we see opportunities, we will purposely price the product much lower. In some cases, we leave money on the table, but we do that to ensure a position for long-term opportunity. I think what you are seeing is that strategy playing out where with our disruptive pricing, we secured a position for long-term opportunity. Because that price has never changed and because our product lifecycles are so long, we have a lot of time in the background to make the materials' production costs more efficient. I think that is what you are seeing now.
Is there a timeframe later this year when the power requirements for AirMAX in the U.S. will cause you to have to derate the power on the legacy M-series AirMAX products?
I think you're talking about the switch between what they call the DTS rules for the FCC, and it's switching to the UNII rules. I believe we have until June of this year to make the change and lock down all our shipments of 5 gigahertz products to UNII rules. We've already certified all the products for UNII rules. With our new software upgrades, the products are switching over to UNII rules, and we're in a position by the deadline to ship everything moved over to those UNII rules. I think we're okay.
Okay. Now, one last question for me is, can you operate indefinitely with FDI, or do you envision maybe having to change some of your recruiting objectives to land a CFO sooner rather than later?
I've already made my comments concerning this.
Basically, if obviously the company's performed just fine with FDI, we can expect that as a status quo, you can continue that way until you find the right guy or gal?
Yeah. I've already commented on this question.
Thanks.
Operator (participant)
Thank you. Our next question comes from the line of Rajesh Ghias with Macquarie. Your line is now open. Please go ahead.
Oh, yes. Thanks. I wanted to understand your views on the currency impact. Obviously, after five quarters of a run rate in the $150 million, you seem to have broken that $150 million per quarter barrier and moved to the $160 million and guiding above that. Is it fair to say that the currency impacted your service provider business, especially in the developing world, as the strength of the dollar continued to go up? Now it's probably reached a steady state where currency probably doesn't matter as much, or do you still see some impact of currency going forward and right now?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
I think the question is about how currency exchange impacts our overall business.
Has the impact of currency kind of become a steady state where the impact it probably impacted your business over the last six quarters? Now it's kind of reached a point where the channel as well as your customers are kind of used to a stronger dollar. The fact that in the developing world, in Latin America and Eastern Europe, it's more expensive to buy Ubiquiti just because of the stronger dollar. Now, has that reached a steady state at this point in time?
Absolutely. A weaker dollar is better for our business. A lot of the emerging markets, Brazil is a good example, that taxes are heavy. Whenever you have a strong dollar, not only is it more expensive to import the products, but you add that tax on top of that, and it amplifies the problem. We have been through cycles of weak dollar and strong dollar. I think if the dollar returns to a weaker value, we'll get some benefits from that, but it's not a thing we can control.
Your success this quarter, how much of that had to do with the new UniFi products, video and voice-over IP, and AirFiber versus the traditional UniFi Wi-Fi and AirMAX?
I think our earnings press release broke down the revenue by enterprise and broadband, so you could refer to that.
No, what I was talking about was within enterprise, the various products. So was video, voice-over IP, UniFi Security Gateway, how much of that was contributed to the success?
All right. Next question.
Okay.
Operator (participant)
Thank you. Our next question comes from the line of Jess Lubert with Wells Fargo Securities. Your line is now open. Please go ahead.
Jess Lubert (Director and Senior Equity Analyst)
Hi, Robert. A couple of questions as well here. Maybe just first with respect to UniFi AC, you mentioned that you've been controlling volumes. Would it be fair to say you expect them to ramp up over the next couple of quarters? Are there any constraints there at the moment from a supply perspective?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
You're talking about UniFi?
Jess Lubert (Director and Senior Equity Analyst)
Yeah, UniFi AC.
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Yeah. No constraints from a supply perspective. Yes, shipments will ramp up.
Jess Lubert (Director and Senior Equity Analyst)
I was hoping maybe you could provide us with a little bit of insight into how you're thinking about seasonality at this point in time. In the past, I feel like you guys have suggested that the business would be stronger in the summer months, weaker in the winter months because of weather factors. Is that still the right way to think about things? To what degree do you believe CAF II funding will help you? I think WISPs were able to apply for it. Any kind of thoughts there?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Seasonality, the more experience we have in this business, the less I think it has to do with weather. We do have weaker quarters around, well, December quarter and probably the March quarter looks like weaker than the two other quarters due to the vacations. People, especially in Europe, tend to take long vacations during the end of the year, and that does affect the product consumption. Sorry, what was your second question?
Jess Lubert (Director and Senior Equity Analyst)
CAF II funding, is that helping at all? Do you think that's a catalyst for 2016?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Do you mean offering funding to our operators?
Jess Lubert (Director and Senior Equity Analyst)
No, the government Connect America funds that WISPs can take to deploy broadband equipment.
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Yeah. I really don't understand how that stuff works. I remember there was an $8 billion broadband stimulus package a few years back. If you bought Ubiquiti equipment with that, you could probably connect every home in the country. I don't know where all that money goes, but we're definitely not aware of what's going on.
Jess Lubert (Director and Senior Equity Analyst)
Maybe just last one. It looks like you completed the last buyback authorization. Are there plans to issue another one, or should we not expect buybacks at this point in time?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
I think if the stock looks like we think it's undervalued, we're always going to look to buy it back.
Jess Lubert (Director and Senior Equity Analyst)
All right. Thanks.
Operator (participant)
Thank you. Our next question comes from the line of James Fawcett with Morgan Stanley. Your line is now open. Please go ahead.
James Fawcett (Managing Director and Senior Equity Research Analyst)
Thanks a lot. A couple of questions for me. First, I guess going back on the enterprise product lineup and talking about the ramp there, it seemed like at least versus our estimates that enterprise was maybe a little weaker. I mean, do you think that that was just the availability of new products ramping and that should self-resolve over the next one or two quarters, or were you seeing any change in buying behavior from your enterprise customers during the course of the quarter?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Like I mentioned before, UniFi's growth has been, I'm convinced it's completely limited by our development execution. If we address the areas of deficiency, it's got huge runway ahead of us. I think you see it picking up a little as a result of the progress we've made in probably the last half year. Things like we now have a simple way to install the controller with our Cloud Key and provide remote connectivity. We've greatly improved this too. We have an AC solution with greatly improved wireless stability. We're starting to introduce advanced wireless features now, like band steering and spectral scanning and airtime fairness. Our controller, we're starting to get into more advanced usability and a better front end.
I think the UniFi growth is going to closely correlate to how quickly we can solve the areas of deficiencies in the platform, and we still have a lot of long ways to go.
James Fawcett (Managing Director and Senior Equity Research Analyst)
Got it. My second question was just when you look at, I guess, your plan that you'd laid them out a couple of quarters ago, you seem to have indicated at the time that you thought that you would be ramping research and development, spending pretty aggressively. It seems like that really, like the rate of spend hasn't changed that much. Just wondering if you could talk about if there had been a change in your plans and thinking that resulted in kind of that increase in R&D not materializing, or is it still something that we should expect to come down the road?
Robert J. Pera (Founder, CEO, and Chairman of the Board)
I think in the past six months to one year, we've probably done as much hiring on the R&D side as we've ever done. We've also done the most firing as we've ever done. I think our R&D has greatly improved in the past year by a combination of we brought in new blood. So far, it looks like they're working out, and we did a lot of addition by subtraction.
James Fawcett (Managing Director and Senior Equity Research Analyst)
Got it. I guess it sounds like you were able to just turn over your heads rather than have to increase R&D rather than any change in product development plans.
Robert J. Pera (Founder, CEO, and Chairman of the Board)
Yeah. Our R&D spend is limited by our ability to find talent, and that's tough. It's not something a lot of companies have headcounts and positions to fill, and they throw money at building R&D. If you want good returns in R&D, you can't throw money at the problem. You got to find the right people that generally have passion about building the product, are accountable. They don't play politics or want job titles or looking for the next thing and see it just as a stopping point. That is the most difficult part of scaling and strengthening an R&D group. You can't really control how fast you can build those things. It's got to be organic. When I talk about our mis-execution on a number of fronts, especially with UniFi, that's what happened. We built up a team way too aggressively.
The quality of the engineers dropped, and it just made things a lot worse. We pressed the reset button probably about a year ago, and I think we're on a much better track. Like I said, results aren't real time, but over the next few quarters, hopefully, we can show the results of what we've been doing.
James Fawcett (Managing Director and Senior Equity Research Analyst)
Great. Thanks a lot.
Operator (participant)
Thank you. Our next question comes from the line of Cole Bender Garcha with Credit Suisse. Your line is now open. Please go ahead. Mr. Garcha, your line is now open. If you have yourself on mute, please take it off mute. If you're on the speaker, please hold up the handset. Pardon me, Mr. Garcha. Your line is now open for a question. If your phone is on mute, please take it off mute. If it's on a speaker, please hold up the handset. Thank you, ladies and gentlemen, for participating on today's conference. This does conclude the question-and-answer session, and you may all disconnect. Everybody have a wonderful day.