Good day ladies and gentlemen, and welcome to the Ubiquiti Networks Second Quarter 2014 Q&A Conference Call. (Operator Instructions). I would now like to introduce your host for today's conference, Jason Gold, Investor Relations. Please go ahead sir..

Thank you, Danielle. I am here with Robert Pera, Founder, CEO and Chairman of the Board at Ubiquiti Networks; and Craig Foster, our Chief Financial Officer. Before we get started, I'd like to review the Safe Harbor statements.

During the call, we will be making forward-looking statements that include our strategy, forecast, and projections of revenue, EPS and other key metrics. There is no assurance that we will achieve these projected results. Please refer to the risk factors discussed in our SEC filings and in the press release.

We do not undertake to update in light of new information or future events. In addition, references will be made to non-GAAP financial measures.

Information regarding the reconciliation of non-GAAP and GAAP measures can be found in the press release that we issued this afternoon, and can be found on the Investor Relations section of our website at ubnt.com.

We hope you've reviewed management's prepared remarks, which are posted as a text transcript in the Investor Relations section of our website. This call will be Q&A only call. Please limit yourself to two questions. Time permitting, we will allow for follow-up questions Danielle, we are now ready for questions..

Thank you. (Operator Instructions). And our first question comes from Matthew Robison from Wunderlich. Please go ahead..

Wasn't here for question, and congrats on the results.

Robert, I am open, you could give us an update on some of the new products that you announced back in October, but before that Craig, can you comment a little bit on the inventory build, and to what degree you may be seeing any -- of the emerging markets macro effects, such as what the stock market seems to be pretty concerned about?.

I will start, and then I will turn over to Robert. On inventory, obviously, we made a major investment on inventory.

We had some constraints in the past on just being able to service and get inventory into the channel, at the right speed, so we have had a lot of distributors over time that had stock outs for weeks at a time, and I just think that's unacceptable, given the -- we had an inability to deliver the right amount of inventory.

So we made a very calculated investment in building out inventory, and our net balance inventory increased about $17 million for the quarter.

With regards to the macro effects of what's happening, we haven't seen anything change from our business, because of potential currency risk or anything else that's happening in other regions; where all of our contracts are in U.S. dollars, so we have a little bit of a natural hedge.

But I think if there was some sort of global meltdown, we'd be hit the exact same way as everybody else would. Now Robert on new products..

The new products we announced at the airMAX conference. NanoBeam is shipping now. airFiber is going to be shipping very soon, and airMAX ET also very soon..

Thank you. And our next question comes from Erik Suppiger from JMP Securities. Please go ahead..

Hey, congratulations. Specifically last quarter, you had noted that the UniFi had seen some channel sales. You had mentioned them, maybe it was in the range of $10 million of inventory that the channel is holding.

Can you give us an update on how that was in the quarter, and can you give us a sense for what the sell-through might have been for the UniFi?.

So the effect that you saw last quarter on UniFi was yes -- it was the first quarter that we had sold 802.11ac products for a full quarter, and we had to get the -- distributors went from zero inventory to some inventory that they could sell for their end customers.

So I think last quarter, you saw the effect of getting some of that to their end customers, and putting some inventory on the shelves. As you look at what happened this quarter. I mean, you still have a very strong quarter, even with the path to sell-in period, which was kind of a one quarter phenomenon.

And so, I think that kind of gives you an indication of how strong the sell through has been..

Then on the Ubiquiti World Network, can you give us an update on what kind of sign-ups you've have had from WISPs?.

I think we are several hundred on board in the U.S., and our vision for the World Network is [accounted] in every country in the world eventually, or most countries in the world; and I think the U.S. is kind of the first pilot, and its off to a good start. But yeah, I think, World Network is going to have its growth ahead in the next couple of years..

Okay.

Then lastly, your guidance, if I do my math correctly on the guidance, it suggests that your OpEx might actually come down, if I use the midpoint of your guided range? Is my math correct on that, or given the investments you are making, Ubiquiti World Network, why would we expect OpEx to increase from here?.

We spent a little bit of extra money in the period. So I think OpEx, over the next period will be relatively flat, and as we continue to increase our revenue, as a percentage wise, it has the potential to go down just a bit.

But you know, the Ubiquiti World Network spend has already been kind of built in, and we have had our legal cases, on counterfeiting, and some of the things that have really wound down. So you have kind of these offsetting effects..

Okay.

And tax rate, no change in gross margin? Any thoughts on what gross margin might do?.

I think, we are comfortable with the range. The gross margin is really subject to product mix.

And so, last quarter you saw -- last quarter being our Q1, you saw the mix of UniFi, which is greatly increased, and airMAX was a lower percentage, and then you saw that switch this quarter, with airMAX having a blowout quarter, and UniFi being a little bit less, because of the sell-in that I talked about before.

So its just going to be subject to product mix. So I think we are kind of at our -- somewhere between the 44 and 44.5, that's kind of the range that you will see these things flop around..

Okay good. Okay. Thank you very much..

And our next question comes from Tal Liani from Bank of America. Please go ahead..

Hi guys. I have two questions of two questions.

First is, when it comes to Ingram Micro, you announced it this quarter, are you working on expanding the distribution additionally beyond Ingram, kind of the same class of distributors? On this topic also, I missed the first three-four minutes of your call, and I don't know if you discussed it, but how is the revenue recognition happening with the shipments to Ingram? Is it sell-in or sell-through, and can you discuss, if you already started shipping products into that? So this is about Ingram, the second question is about UniFi.

You have a tremendous difference in pricing, almost three times the price between n and ac. So when you talk about UniFi, can you give us the perspective of what was -- there was some decline this quarter, because of the great growth last quarter.

What's the dynamics in units versus dynamics in price? Meaning for ac versus n? Meaning, is this representing very big defining units, but pricing of ac, offset the declining units, etcetera. Just give us a little bit more color. Thanks..

Okay. So I will start with the Ingram Micro.

So are we looking at other distributors of the same class that are similar? Absolutely, but I think the one thing that was good for us with Ingram Micro relationship is, we don't have -- the terms that Ingram Micro came to market with us, is very close or similar to, exactly what everybody else in the channel has.

So no volume discounts, none of the other things that really trip up, egregious terms on, when your payables are due, things like that. And so, the one thing that changed for us, as we talked to Ingram Micro is, they wanted to make some concessions, that fit better into our long term and how we manage our distribution.

So we have a number of conversations. There's nothing imminent that's going to happen in the next quarter or two. But we continue to take those mighty additive in certain regions under certain circumstances. In terms of the revenue recognition, and revenue recognition is sell-in, so it's a long line of what we are doing today anyways.

And then on UniFi?.

Okay. So UniFi is priced higher than our entry level, UniFi AP. But there are substantial spec differences. Entry level UniFi APs are 2.4 GHz 11n, two by two MIMO radius. The UniFI 11ac AP SKU is dual radio, concurrent, three by three gigabit Ethernet, 802.3 of power Ethernet. And so its priced higher.

And I think the model that it compares to, is our UniFi AP-Pro, which I believe might be the biggest contributor in UniFi, from a revenue perspective, and now its doing really well, its priced in the $150 to $200.

So when we price the [UniFi TV], we looked at the success of the UniFi AP-Pro, combined with -- we were first to market of enterprise vendors with 11ac products. So the pricing, I think, makes sense..

Right. Sorry, my question wasn't -- it's (inaudible) absolutely in real view, but the question is, when we see increase or decline, because the price is at least two times higher, 150 versus 299 or so. So we need to consider units versus price.

Meaning, when we see growth in UniFi, we need to understand if its just because -- it’s the same unit that you sold last time, but because of the higher price of ac, greater proportion of ac, that's why you're growing? Or because really units are growing? So my question was, can you give us a little bit color of what's happening now, when it comes to the breakdown between ac and n, what's the growth -- kind of, what's the source of the growth? Is it more units, or more ASP list? That was my question..

I think its tough to analyze quarter-over-quarter, because when we introduce new products, we have a stocking quarter, followed by, let's say, a deployment quarter, and that the products could see a bump-up in later quarter. So I think when you look at year-over-year, we are double or triple.

So I think, my implication is, next year, I want to see double or triple again. And to do that, its going to be an increase in both volumes and ASP.

But I think all the trends are pointing that we are going to do that, and one of the things that's really compelling about UniFi, not only do we have a market that nobody's addressing right now, but we are actually eating in, to other enterprise vendors, and there is quite a few examples where, some system integrators ripped out some enterprise WiFi deployments, replacing with ours, and at cheaper, they replaced the network with ours than it is to pay one year of licensing and support fees, through the competitive vendors.

So I just don't understand how these enterprise vendors keep ripping off customers and charging them tens of thousands dollars, there are hundreds of thousands of dollars, just to support our licensing or hosting fees.

So I think, independent of our UniFi AP pricing, the SKU pricing, you have got to really look at the costs to service and support our networks, which is zero. And I think that's the major disruptor, as we move forward..

And maybe if I can just take two more seconds of your time, just a general question about the market, how is the takeup rate for the ac? Are we there, that customers are demanding ac, or is still mostly n and ac, as kind the future?.

I think right now, because of the price points, I think 11n volumes are going to be dominant, until you see the silicon vendors, such as Broadcom and Qualcomm have second wave of the integration, where they introduce the cost of the chipsets to 11n levels.

When that happens, we will probably have a new 11ac price that are current 11n models, and we will see 11ac take over. That's probably going to be -- my guess is, second half of 2015, and not just us, but probably industry-wide, that will happen..

Thank you. And our next question comes from Tavis McCourt from Raymond James. Please go ahead..

Hey. Thanks for taking my question. Craig, a couple of for you and a follow-up for Robert. In your prepared comments, you indicate DSOs should probably start trending back to the low 40s. I think you kind of indicated that last quarter as well.

So I am wondering, is that kind of a longer term commentary, or should we expect anything dramatic in the near term.

And then the same kind of question with the inventory levels? Are those at a place now where we should expect some stabilization now that this kind of supply chain transition has worked its way through, or is there still more ramp in ending inventory that you'd like to do to kind of secure the supply chain?.

Okay. So first on the DSOs; yeah, I did say last quarter that we are going to try, you should expect it to creep up and then surprisingly enough, it actually went down. So we have done a really good job of managing the channel credit situation, and we thought everybody lined up like we need them to be.

Going forward, I don't think 24-25 is just not sustainable, when we have people that are paying on net [30] terms. So it should creep up, it's not going to happen overnight, but it should happen over the next couple of quarters.

And then on the inventory, if you look at our trend on inventory, its out of this world, how fast we are turning over inventory. But I think that, we did a substantial build that put us to kind of five weeks of inventory or so, and I think that we are going to try to hold in the five to six weeks going forward.

So I think, we are pretty close to where our target is..

Got you. Then Robert, the -- it looks like you hired quite a few engineers this quarter.

if the prepared remarks were correct, I think that 17% increase was sequential quarter-to-quarter, I think that's bigger than you have done in the past, and I guess big picture, are these adding to existing product teams, or you are hiring new teams for new product categories?.

It definitely, it's both. And I would say that the first year we went public, and as a public CEO, I really liked -- I was very proud of our financial fundamentals. So I looked at -- we had this kind of model of seven points of OpEx and we had this incredible efficiency I was very proud of. So my first year, I really wanted to keep that intact.

And now that I am seeing the companies that do well in the public markets, are the ones with much larger visions and growth stories, like in Amazon for example. So I kind of changed my mindset, and what I want to go after is hypergrowth, without really holding myself to a sub 10 point OpEx model.

So probably in the last year, we have had our most aggressive R&D expansion, and that's going to continue. I will say, as far as I know, I am probably the only CEO that doesn't take cash for equity compensation. So these quarter-to-quarter results are nice, but I am in it to build something much-much bigger.

So all the decisions I am making on R&D, are looking at long term. So I think we will continue to aggressively ramp up R&D, both for new initiatives and just really, kind of expanding the function set and the power of our enterprise and operator platforms..

Great. And can you remind me also, in terms of the airMAX upgrade and transitions at base ac chipset on the airMAX platform.

How impactful do you expect that to be to the service provider business? Is this something that we should expect with -- to quickly kind of you can replace, or just build for new networks, that kind of go through, what you expect to happen when the new generation of airMAX comes out?.

Yes so, when we first started designing our airMAX AP platform, I didn't think it would be that impactful in the market. The reason being, the special efficiency, going from our current airMAX line based on 11n, to airMAX based on 11ac token. Its only about 30%, because we still only can use two by two MIMO.

You have (inaudible) with vertical/horizontal polarization of the antenna. So really, what we are gaining is, is a modulation from -- we go from (inaudible) with 11ac, that's only usable in certain conditions, with very high signal strength. So I didn't think too much of the 11ac, the move for 11ac when we first started development.

However, the past year, there has been some new developments. So the airMAX AP platform now has a dedicated processor, that runs our airMAX protocol, and the time was much more granular, and we are seeing huge improvements in multi-point networks. So I think airMAX AP will be a game changer.

We are seeing two to three times performance improvements in our field testing. So we are really excited about that. In addition, we have a new technology, launching with airMAX AP called AirPRISM.

We talked about that in our aixMAX Conference show in October, and that's going to significantly improve the selectivity of our base station radios, and they are going to perform significantly better in high noise environment. And as more and more radios get deployed, that becomes increasingly more important.

So I think, I am very excited about airMAX AP this year..

That's helpful Robert. And one follow-up on the balance sheet, the cash is obviously really piling up, I suspect most of that is overseas, and I guess -- I am wondering in terms of options to put that cash to use, you have got a bit of unique model, so I suspect acquisitions don't make sense.

But I guess, you could talk about what the future plans for that cash could be, that would be helpful. Thanks..

I can't talk about what we are going to do with our cash, but we do have a very specific and ambitious plan to use that cash in the next couple of years..

Thank you. And our next question is from Jess Lubert from Wells Fargo Securities. Please go ahead..

Hi Robert, hi Craig. Congratulations. Couple of questions.

First, I was hoping you talk a little bit about your backlog and visibility coming into the March period? It seems like you have built quite a bit of inventory this quarter, but you are guiding for a much slower sequential increase during the March period, than we have seen over the last few quarters.

So I was curious to understand, to what degree you are being conservative here, or do you expect the March quarter to be a bit of a digestion period for channel inventory, anything that you have seen, that has been a change for the last few quarters?.

That was the worst pronunciation of your last name I have ever heard. In terms of the sequential quarter-over-quarter -- I mean, we are substantially ahead of where the street is, in terms of what we are going to do from this quarter to last, it just happens that we had a fantastic December end.

I built up the inventory in the -- in preparation for the impact that Ubiquiti will have over a period of time. Now does that happen in the next quarter, or the next couple of quarters, or next three quarters? Time will tell, as we are starting to just get into early analytics of how the camping has been working.

But I think, we are very happy with where the growth is right now, and I think that we are achieving and exceeding all of our internal targets, in terms of where we wanted to be..

Okay.

And then, I wanted to follow-up on Robert's comment regarding the commitment to additional R&D, and understand if you should expect us to -- this increase to be funded by growth? And can we feel pretty comfortable that operating margins are likely to remain in the mid-35% range, even as you make some of these incremental R&D investments?.

I will answer that. So increasing your R&D capability, my philosophy is probably different than most companies. At Ubiquiti, we don't have recruiting teams. We don't have specific open [racks] we are looking to fill. We don't just believe in adding headcount to R&D to get more productivity.

We believe in -- we have a very high selectivity for who we bring on, and we are always looking for top talent, and sometimes we get waves of talent, and sometimes we go through a tough patch.

So its unpredictable how much we will add in R&D each month, for the next year, but I can say, I am being as aggressive as possible, and most of our growth is probably outside of Silicon Valley for sure and outside the U.S..

Thank you. And our next question comes from Tim Long from BMO Capital Markets. Please go ahead..

Thank you. Two questions if I could; first, just looking at the [ratings] here. It looks like Latin America had a pretty nice breakout this quarter. It seems like kind of the first ones since the issues over a year, year and a half ago.

So just, curious on your take on that important region, if you think this is kind of beginning of a trend, or just making a little bit of a catch-up there. And then the second question on Ubiquiti World Network, Craig, I was a little surprised to see that the SG&A was down in the quarter.

Am I right to assume that, the legal costs kind of came down more than the initial spend on Ubiquiti World Network.

And to follow-on Jess Lubert's question there, your answer about potential inventory for Ubiquiti World Network, should we assume that you probably have not yet seen any impact of stocking for any demand that would come to the Ubiquiti World Network, so there was none of that kind embedded in the numbers in the December quarter? Thanks..

So I will start with the Ubiquiti World Networks, we have offsetting costs that have -- against our legal spend that was outsized over the last year. And I think that, the Ubiquiti World Network, when you put together a budget for executing to that, and I think you know, the spend is going to be relatively flat, if you net those two things together.

With regards to the inventory, the channel did not start ordering inventory anticipation.

I think they have taken a, let's see what happens on our end, we did prepare and we have localized some of the inventory across the region, so that we actually can respond to demand, as it grows and people don't have to deal with longer lead times, so that we can service their end customers faster.

Then, can you remind me of your first question? I think we lost him..

Danielle, let's move on to the next question..

Thank you. Our next question is from Sanjit Singh from Wedbush Securities. Please go ahead..

Thanks Robert. Thanks for taking my questions. Robert, I just actually had conceptual questions on service contracts, you talked a little bit about that a couple of minutes ago, and wanted to get your sense, as you try and penetrate the enterprise market, if you have customers that potentially have, I don't know, unique or difficult deployment.

So what is Ubiquiti's role in terms of aiding them and helping them with that deployment, is that something that you push to the channel, or there -- there is not a service contract in place, what is the enterprise customer's kind of insurance policy, for a situation like that?.

Yes. This is the biggest misconception regarding Ubiquiti. People say, we don't have support, or we don't have great support. We do. I won't say our support is good, if not better, than any of the competitive enterprise WiFi vendors. What we don't have, is own support. I don't believe in phone calls.

I never take phone calls, I think its incredibly inefficient. So we do everything through email. We have a pretty substantial email support, that resolves issues in record times.

Our internal ratings are very high, and then you also have this very rich community, that has 1000 plus posts per day, and hundreds of thousands of members, that take pride into helping each other out; and its fully transparent, with the very R&D development engineers that are working on the product.

So I think we have a very high level of support and engagement with the actual design teams, the products that other companies don't have. So I don't know who is spreading this kind of misconception that we don't have support, or our support has been weak; because I don't believe that's the case at all..

Is that something, that's sort of contractually obligated by Ubiquiti, if there is a question out there from a customer, that their kind of service level agreements, where you can respond by a certain period of time, or what process (inaudible) for a situation like that?.

A contractual obligation?.

More like, if a customer has a problem with the deployment, and they need someone right away, or within 24 hours, is that --?.

I will say this. We have an incredible amount of goodwill and participation on our forum. Despite being a fully transparent company.

So we have had a number of issues in the history of the company, with software, major software bugs, major hardware defects, and the fact that we have such great goodwill within our community, and from other Ubiquiti users, is a testament to how we are (inaudible) to our customers over the years.

So people know -- people that have used Ubiquiti products, know us as a company that gives the customer unbelievable transparency to the developers behind the products, and also a great level of willingness to make things right. Whether its replacing products, whether its fixing bugs quickly, and I think our model is the future model.

We have cut out all the middlemen, which I believe are impedances to delivering value and satisfaction to end users..

Thanks for the explanation Robert.

One last follow-up question, outside of UniFi and airMAX, which of the new product platforms, say in 2015, could emerge as maybe the -- a third kind of major driver of growth, is it EdgeMAX or the new NanoBeam or airFiber or airVision, which is the ones that you internally feel most optimistic about?.

I think all of them have very good growth potential this year. The video security platform is going to become something very big. Once we really solve the remaining issues with the network video controller, and we are very close to doing that.

EdgeMAX, the routing platform, has very big potential, and I think what you will see is, UniFi is going to evolve into something much larger than just (inaudible)..

Thank you. Ladies and gentlemen, that's all the time we have for questions today. Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect and everyone, have a great day..