Over much of the past year, there's been a dark cloud over Ubiquiti Inc. (UI, Financial). However, that cloud appears to have lifted, and investors can get back to judging the company on its fundamental merits.
About Ubiquiti
The company described itself this way in its latest 10-K, published on Aug. 27, 2021:
"We develop technology platforms for high-capacity distributed Internet access, unified information technology, and consumer electronics for professional, home and personal use. We categorize our solutions into three main categories: high performance networking technology for service providers, enterprises and consumers."
Based in New York, it was founded by Robert Pera in 2005. Sports fans may recognize the name; the entrepreneur also owns the Memphis Grizzlies. He is currently Chairman and CEO of Ubiquiti, and owns more than 90% of its shares.
The scandal
Investors heard news in January of 2021 that the firm had been involved in a data breach the previous month. Ubiquiti downplayed the incident's significance, but questions remained and were amplified by a purported whistleblower in March. That dark cloud helped drag down shares.
But startling news arrived on Dec. 1, 2021, when the U.S. Attorney for the Southern District of New York charged a senior Ubiquiti engineer with data theft and wire fraud. The U.S. Attorney's office alleged the "data breach" was an inside job and an attempt to extort millions from the company. U.S. Attorney Damian Williams said:
"As alleged, Nickolas Sharp exploited his access as a trusted insider to steal gigabytes of confidential data from his employer, then, posing as an anonymous hacker, sent the company a nearly $2 million ransom demand. As further alleged, after the FBI searched his home in connection with the theft, Sharp, now posing as an anonymous company whistleblower, planted damaging news stories falsely claiming the theft had been by a hacker enabled by a vulnerability in the company's computer systems. Now the alleged theft and lies have been exposed, and Sharp is facing serious federal charges."
So, it seems that the scandal was not what the public originally thought it was. But, it did have a material effect on the share price. This chart shows how the price plunged on March 27, about the time the incident went public, and the price still has not recovered:
Competitors
In its most recent 10-K, Ubiquiti listed its principal competitors by markets (the original paragraph has been broken into segments for ease of reading):
- "In the backhaul market, our competitors include Cambium Networks (CMBM, Financial), Ceragon Networks (CRNT, Financial), DragonWave (TSX:DRWI, Financial), MikroTîkls, Airspan (AIRO, Financial), SAF Tehnika and Trango.
- "In the CPE market, our competitors include Cambium Networks, MikroTîkls, Ruckus Wireless (CommScope (COMM, Financial)) and TP-LINK Technologies.
- "In the antenna market, we primarily compete with PCTEL (PCTI, Financial), ARC (ARC, Financial), ITELITE and Radio Waves.
- "In the enterprise WLAN market, we primarily compete with Huawei, Aerohive Networks (HIVE, Financial), Aruba Networks (Hewlett Packard (HPE, Financial)), Ruckus Wireless (CommScope), Cisco (CSCO, Financial) and Cisco Meraki.
- "In the video surveillance market, we primarily compete with Axis Communications, HIKVISION, Mobotix and Vivotek."
It added, "We expect increased competition from other established and emerging companies if our market continues to develop and expand. As we enter new markets, we expect to face competition from incumbent and new market participants."
As we will see in the Profitability section below, the margins and returns suggest the company has significant competitive advantages.
It also enjoys several tailwinds, including the growth of Internet traffic worldwide, an increasing number of Internet users, more networked devices per user, greater mobility among users, and the growing use of high bandwidth applications such as video, gaming and social networking.
Risks
Risk factors noted in the 10-K include:
- Its limited ability to forecast operating results and sales.
- Volatility and competition in its markets.
- Reliance on a limited number of distributors.
- Inability to keep up with its competitors and inability to maintain its pricing.
- Reliance on a limited number of suppliers.
- The founder owns 90% of the shares, and as the 10-K notes, "Mr. Pera is entitled to vote his shares in his own interests, which may not always be in the interests of our stockholders generally."
Financial strength
This score is unimpressive, but most investors would likely consider its interest coverage ratio quite impressive at 48.05. These are the debt and capital lease obligations at the end of September:
- Short-term debt: $24 million.
- Long-term debt: $461 million.
- Lease obligations: $53 million.
Skipping to the bottom of the table, we get an indication of why it has such a high interest coverage ratio: its return on invested capital (ROIC) is 139.22% on weighted average cost of capital (WACC) of 9.84%.
This contributes to an acceleration of free cash flow:
In the middle of the table, we see excellent results for both the Piotroski F-Score and Altman Z-Score. These suggest the company is well managed and financially strong, with no near-term bankruptcy risk.
Profitability
Ubiquiti is one of the rare companies that receives a perfect 10-out-of-10 score for profitability, and a quick look at all the dark green explains why.
For example, it has a higher net margin than 97.64% of the 2,329 companies in the hardware industry. Its net margin of 31.44% is almost 10 times the industry median of 3.65.
We also see very high growth rates for revenue, Ebitda and EPS. What's more, we get another indication of management's competence when we observe that Ebitda growth exceeds revenue growth, and earnings per share growth exceeds them both.
Performance
The following chart shows how Ubiquiti outpaced two of its publicly-traded competitors, Cambium Learning Group (ABCD, Financial) and Cisco, over the past five years:
The table below summarizes the company's annualized returns and total annual returns. In some years, they have been outstanding:
Dividends
As the table indicates, the company has invested its free cash flow into share buybacks, not dividends.
While the dividend hasn't done much for investors, the declining number of shares outstanding has steadily improved per-share results:
Valuation
This is a 10-year price chart for Ubiquiti:
The price-earnings ratio is high, and the forward price-earnings ratio is even higher. But because Ubiquiti has a high Ebitda growth rate, 32.10% per year average over the past five years, it has a fairly-valued PEG ratio.
The GuruFocus Value Line arrives at a similar conclusion:
Using the default settings of the discounted cash flow (DCF) calculator, the share price was significantly overvalued. However, the default used a growth rate of 4% per year over the next 10 years; obviously, that's a far cry from the 32.10% per year over the past five years.
Adjusting the growth rate to 20% per year over the next decade, and leaving the terminal growth rate at 4%, we arrive at an undervalued price:
Ownership
Ubiquiti is somewhat unique among publicly-traded companies because the founder still holds almost all its shares. At last report, in 2017, he owned 56,278,181 shares, slightly over 90% of the shares outstanding:
Gurus
The small float likely explains why there is little interest among the gurus. Only seven of them traded Ubiquiti stock in the third (calendar) quarter of 2021, and they were mostly bearish:
Only four gurus held positions when the third quarter ended:
- Jim Simons (Trades, Portfolio) at Renaissance Technologies owned 472,182 shares, representing 0.76% of Ubiquiti's float and 0.18% of the fund's assets. That was after a reduction of 6.31%.
- John Hussman (Trades, Portfolio) of Hussman Strategic Advisors added 25% to reach 15,500 shares.
- Joel Greenblatt (Trades, Portfolio) of Gotham Asset Management cut his stake by 7.13% and finished the quarter with 9,600 shares.
Conclusion
Investors looking for a fast-growing technology stock might want to look at Ubiquiti Inc. The scandal appears to be a thing of the past, allowing potential shareholders to focus on the fundamentals.
And those fundamentals are generally quite good, particularly for Ebitda and EPS growth. At the same time, the share price is currently down, so the metrics suggesting it is fairly valued or undervalued seem reasonable.
Thus, Ubiquiti might be of interest to aggressive value investors who can live with some debt. When the share price rebounds, as it should given the fundamentals, it could be of interest to growth investors. But, for income investors, there is no light at the end of the tunnel.
