IPO Preview: Ubiquiti Networks

Oct. 7.11 | About: Ubiquiti Networks, (UBNT)

Based in San Jose, California, Ubiquiti Networks -- proposed symbol (NASDAQ:UBNT) -- scheduled a $147 million IPO with a market capitalization of $1.9 billion at a price range mid-point of $21 for Friday, October 14, 2011.

Overview
UBNT is a leader in providing wireless broadband access to underserved markets, include developing nations and remote areas of developed nations.

Gartner Group estimates UBNT’s market segment will grow at a compound annual rate of 34% from 2010 to 2015.

Financials
For the fiscal year ended June 30, 2011 sales increased 45% to $198 million and profit increased 57% to $50 million, not counting stock compensation and export compliance charges.

A new product line, AirMax, increased sales from $11 million in the March 2010 quarter to $42 million in the June 2011 quarter, and accounted for 62% of total revenue for the June quarter.

For the year ended June 30, 2011, the gross margin of 41% was not particularly high, but the net after-tax margin of 25% is very high, and invites competition from industry heavyweights such as Cisco Systems (NASDAQ:CSCO).

UBNT is cash-flow-positive, but post-IPO will have a net worth of only $28 million. However, UBNT will have a market capitalization of $1.9 billion at the price range mid-point of $21. Recent use of cash involved stock buybacks.

Valuation
Even in the current volatile stock market, UBNT is reasonably priced at 26 times annualized earnings for the June 2011 quarter, based on expected CAGR market growth of 34%, sequential internally generated quarterly growth, and new product introductions.

At the price range mid-point of $21, each of UBNT’s 92 employees will be valued at almost $21 million. Risks include potential intellectual property issues and uncertainty regarding worldwide economic growth.

Valuation Ratios

IPO Mrkt

Price /

Price /

Price /

Price /

Annualizing June 3 mos

Cap (mm)

Sales

Earnings

BookValue

TangibleBV

Ubiquiti Networks (UBNT)

$1,890

11.3

26

67.5

67.7

Aruba Networks (NASDAQ:ARUN)

$2,410

5.3

n/a*

7.0

8.3

Cisco (CSCO)

$86,990

1.9

18

1.8

3.1

*showed an operating loss for the last 4 qtrs

Click to enlarge

Quarterly results

Mrch '10*

June '10

Sept, '10

Dec, '10

March, '11

June '11

AirMax

$11

$15

$17

$26

$28

$42

Total revenues ($mm)

$42

$40

$34

$45

$51

$68

Sequential quaterlly change

AirMax

30%

16%

50%

11%

48%

Total Revenues

-3%

-15%

32%

13%

32%

AirMax % of revenue

27%

36%

50%

57%

55%

62%

Gross profit % of rev

39%

40%

40%

40%

41%

42%

Operating profit % of rev*

-59%

30%

28%

30%

32%

34%

* March '10 includes stock comp & export charges

Net income (loss) %

-$28

$9

$8

$11

$13

$18

Net income (loss) %

-66%

23%

22%

24%

25%

27%

Click to enlarge

More UBNT valuation metrics

Business

UBNT provides carrier-quality, high-capacity wireless broadband access. UBNT’s growth is based on years of experience in cellular basestation antenna design. In the area of wireless computer networking, a base station is a radio receiver/transmitter that serves as the hub of the local wireless network, and may also be the gateway between a wired network and the wireless network.

Worldwide, wireless networks are emerging as an attractive alternative for addressing both the broadband access needs of underserved and underpenetrated markets and for offering a host of other services and solutions. Developing nations typically lack an established network infrastructure based wired networks’ high initial deployment costs. Sales outside of the United States represented 59% and 70% of UBNT revenues in fiscal 2010 and fiscal 2011, respectively.

34% Market Growth
According to Gartner, Inc. an independent market research firm, aggregate end-user spending on wireless networking equipment for enterprise WLAN wireless broadband access and Long Term Evolution, or LTE solutions are expected to grow from $5.2 billion in 2010 to $22.5 billion in 2015, representing a compound annual growth rate, or CAGR, of 34%.

UBNT’s Competitive Advantage
UBNT products bridge the digital divide by fundamentally changing the economics of deploying high performance wireless networking solutions in underserved and underpenetrated markets globally. These markets include emerging markets and other areas where individual users and small and medium sized enterprises do not have access to the benefits of carrier class broadband networking.

Products
UBNT products consist of:

  • Products for network operators and service providers, including the proprietary AirMax and 802.11 standard base stations, radios, backhaul equipment and CPE (customer premise equipment).
  • Embedded radios which consist of more than 25 radio products primarily for OEMs, including both point to point and point to multipoint radios in the 2.0 to 6.0GHz spectrum, that are offered with a variety of features.
  • Antennas/other which consist of antenna products in the 2.0 to 6.0GHz spectrum, as well as miscellaneous products such as mounting brackets, cables and power over ethernet adapters. These products include both high performance sector and directional antennas. This category also includes allocation of revenues to PCS, a wireless phone service somewhat similar to cellular telephone.

Existing Solution Limitations
The high capital and operating costs and long market lead times associated with building and installing infrastructure for wired networks has severely limited the widespread deployment of these networks in underserved and underpenetrated areas.

Existing wireless networking technologies such as 802.11 standard based Wi-Fi, WiMAX and LTE have been designed to satisfy the increasing demand for broadband access and support mobility.

Existing solutions often fail to meet the price-performance requirements of wireless networking in emerging markets, which in turn has led to low penetration and large populations of unaddressed users in these areas.

Government Incentives
Governments around the world are increasingly taking both regulatory and financial steps to expand access to broadband networks and increase availability of advanced broadband services to consumers and businesses.

For example, in many countries, including the United States, the responsible regulatory agencies have released the spectrum previously used for broadcast TV, known as the TV White Space, to relieve some of the congestion.

The United States and other countries have adopted stimulus plans to increase the delivery of robust broadband access in unserved and underserved areas. The World Bank has reported that 12 countries and the EU have committed an aggregate of $122.4 billion in broadband stimulus funds to date.

Unlicensed Spectrum Use
Private industry in underserved and underpenetrated markets worldwide has responded to the lack of wired infrastructure by deploying wireless networks utilizing unlicensed RF (radio frequency) spectrum.

These network operators and service providers often cannot afford the capital outlay to acquire licenses for the licensed RF spectrum and have consequently designed their wireless networks for the unlicensed RF spectrum.

In the absence of affordable broadband access in the licensed spectrum, the number of users of the unlicensed RF spectrum has increased for communications equipment, as well as consumer devices such as cordless phones, baby monitors and microwave ovens.

As a result of high demand for the unlicensed RF spectrum, use of this spectrum to provide high quality wireless networking has become more challenging and congestion is limiting the growth of wireless networks.

Case Study
InfoSat Telecom, a network operator in France, needed a high performance end to end wireless networking solution to help it provide wireless broadband service to an underserved region with a population of more than 1 million over an area of more than 4,300 square kilometers.

After initiating deployment of 802.16d WiMAX-based solutions from another wireless equipment vendor, InfoSat was facing significant challenges in meeting the bandwidth demands of its customers and could only offer 512 kbps bandwidth plans. InfoSat quickly concluded that it would not be economically feasible to efficiently scale its network deployment utilizing its current solutions.

After evaluating the price-performance characteristics of UBNT solutions, InfoSat made the decision to deploy versions of UBNT’s Bullet, Rocket and NanoBridge products to build out its network.

UBNT’s solutions enabled InfoSat to realize cost savings of more than 90% when compared to the solutions it was using from competing equipment vendors while delivering 20 Mbps bandwidth plans. The use of UBNT’s solutions also resulted in the simplification of the day to day management of InfoSat’s network. InfoSat uses AirControl to manage all its network devices from a single location, receives immediate notification of network problems and proactively addresses network issues.

UBNT’s solutions have freed up cash for InfoSat to expand its network deployment more quickly while simultaneously delivering carrier class performance.

Distribution
UBNT does not employ a direct sales force. During fiscal 2011, UBNT sold its products to approximately 100 distributors, OEMs and direct customers in over 40 countries.

Sales in South America accounted for 6%, 10% and 26% of revenues in fiscal 2009, fiscal 2010 and fiscal 2011, respectively.

Sales in Europe, the Middle East and Africa accounted for 44%, 40% and 35% of our revenues in fiscal 2009, fiscal 2010 and fiscal 2011, respectively.

UBNT does not have any visibility on the location or extent of purchases of products by individual network operators and service providers from our distributors.

Growth Plan and Newly Introduced Products
UBNT intends to leverage its technologies and business model to target other large and growing markets that UBNT believes are ripe for disruption, such as enterprise WLAN, video surveillance, SCADA and licensed microwave wireless backhaul markets.

For example, UBNT released its UniFi product line, an enterprise WLAN offering, in January 2011. In August 2011 UBNT released its AirVision and AirCam product lines, along with video surveillance offerings.

UBNT believes that it can extend the price-performance benefits it brought to the wireless broadband access market to these adjacent markets.

Iran Connection
UBNT believes its products have been sold into Iran by third parties. However, until early 2010, UBNT did not prohibit UBNT distributors from selling UBNT products into Iran or any other country subject to a U.S. embargo.

From 2008 to early 2010, UBNT had a distribution arrangement with a distributor, or Distributor 1, in the United Arab Emirates, or UAE, that gave this distributor exclusive jurisdiction over eleven countries in the Middle East, including Iran, as well as authorization to sell worldwide.

Sales to Distributor 1 represented 7%, 6% and 4% of our revenues in fiscal 2009, fiscal 2010 and fiscal 2011, respectively. At some point prior to February 2010, Distributor 1 requested that UBNT list two resellers on the website as authorized resellers of UBNT products in Iran and UBNT did so. UBNT removed these resellers from the website in late February 2010 upon learning of restrictions under the U.S. embargo.

In early 2010, UBNT began implementing policies prohibiting sales of UBNT products into the countries subject to the U.S. embargo, revised standard form distribution agreements to clearly articulate this policy and disabled downloads of UBNT software by users in these countries.

From March 2010 until February 2011, UBNT continued doing business with Distributor 1 under the amended distribution agreement. However, UBNT now believes that Distributor 1 continued to sell UBNT products into Iran after February 2010 and that UBNT overlooked emails from Distributor 1 that included information about Distributor 1’s possible activities related to shipping UBNT products to Iran.

In February 2011, UBNT suspended sales of products to Distributor 1 due to the information learned during UBNT’s export control review that indicated Distributor 1 may still be selling products into Iran.

Also, during the export review UBNT recently conducted, UBNT learned that from December 2009 through February 2011, another distributor, Distributor 2, was selling UBNT products to a company in Iran.

At the time of these transactions, UBNT did not have a distribution agreement with Distributor 2 and UBNT had not specifically instructed Distributor 2 that UBNT products could not be sold into Iran.

Distributor 2, a distributor in Europe, received orders from an Iranian entity, placed those orders with UBNT and instructed UBNT to ship the products to a third party in the UAE. As such, UBNT believed the products’ final destination was the UAE.

UBNT records indicate that it may have made up to 13 shipments to Distributor 2 involving an aggregate value of approximately $340,000 that may have been resold into Iran during this time. Prior to February 2011, UBNT had not previously notified Distributor 2 of the prohibition against sales of UBNT products into Iran.


In March 2011, upon learning that it was receiving orders from a company in Iran, UBNT notified Distributor 2 that the end customer was in Iran and of the prohibition on sales to Iran and also entered into a distribution agreement with Distributor 2.

The agreement contains clear language requiring compliance with the export control and economic sanctions laws. UBNT continues to sell products to Distributor 2, as UBNT believes this issue has been resolved and these sales did not represent a material portion of Distributor 2’s business with UBNT.

Intellectual Property Risks

UBNT has received correspondence from two patent holding companies who assert that UBNT infringes certain patents related to wireless communication technologies.

UBNT has reviewed the patents which were specifically referenced in the correspondence and believe that these patents are either invalid or not infringed by UBNT. However, UBNT cannot assure potential investors that a court adjudicating a claim that UBNT infringes these patents would rule in UBNT’s favor should these patent holding companies file suit against UBNT.

UBNT believes that in the event of a claim UBNT may be entitled to seek indemnification from suppliers.

Intellectual Property
As of June 30, 2011, UBNT had six nonprovisional patent applications pending in the United States, one pending international PCT application and two issued patents.

Enforcement of UBNT’s intellectual property rights abroad, particularly in China, is limited and it is often difficult to protect and enforce such rights.

Competition
Historically, large, integrated telecommunications equipment suppliers controlled access to the wireless broadband infrastructure equipment and network management software that could be used to extend the geographic reach of wireless internet networks.

Broadband equipment providers or system integrators may begin to offer wireless broadband infrastructure equipment for free or as part of a bundled offering, which could force UBNT to reduce prices or change the selling model to remain competitive.

If there is a major shift in the market such that network operators and service providers begin to use closed network solutions that only operate with other equipment from the same vendor, UBNT could experience a significant decline in sales because its products would not be interoperable with these proprietary standards.

  • Integrated radio competitors include Alvarion Ltd (NASDAQ:ALVR), Motorola (NYSE:MSI). and Trango Systems, Inc. and,
  • 900MHz competitors include Cisco Systems (CSCO). and Proxim Inc.
  • Embedded radio competitors include Mikrotīkls Ltd. and Senao Networks, Inc.
  • Backhaul competitors include Ceragon Networks, Inc., DragonWave (NASDAQ:DRWI) and Mikrotīkls.
  • Customer premise equipment competitors include Mikrotīkls, Ruckus Wireless, Inc. and TP-LINK Technologies CO., LTD.
  • Antenna market competitors include Andrew Corporation, PCTEL, Inc. and Radio Waves, Inc.
  • Enterprise WLAN competitors include Ruckus, Aruba Networks (ARUN). and Cisco (CSCO).
  • Video surveillance competitors include Vivotek Inc., Axis Communications AB and Mobotix Corp.

Employees
As of June 30, 2011, UBNT had 92 employees: 50 in the United States, 16 in Lithuania, 25 in Taiwan and one in India. At UBNT’s mid-range price point of $21, each employee is valued at almost $21 million each.

Liquidity and Capital Resources
Since inception, UBNT’s operations primarily have been funded through cash generated by operations
Investing activities consist solely of capital expenditures.

Capital expenditures for fiscal 2009, 2010 and 2011 were $280,000, $615,000 and $479,000, respectively. UBNT believes its existing cash and cash equivalents will be sufficient to meet working capital and capital expenditure needs for at least the next 12 months.

Use Of IPO Proceeds
UBNT expects to net $44 million from the sale of 2.4 million shares, UBNT intends to repay debt of $34 million and use the balance for general corporate purposes.

Shareholders intend to sell 4.6 million shares, for gross proceeds of $97 million. Venture Capital firm Summit Partners, L.P. intends to sell almost 3 million, included in the 4.6 million shares from selling shareholders.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.