Ubiquiti Networks ®
Ubiquiti Networks, Inc. (Form: 10-Q, Received: 02/04/2016 16:05:27)
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q
 
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2015
OR
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File No. 001-35300
 
UBIQUITI NETWORKS, INC.
(Exact name of registrant as specified in its charter)
   
Delaware
 
32-0097377
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
2580 Orchard Parkway, San Jose, CA 95131
(Address of principal executive offices, Zip Code)
(408) 942-3085
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes   x     No   ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   x     No   ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “accelerated filer, large accelerated filer, and smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
x
 
Accelerated filer
¨
Non-accelerated filer
¨
(Do not check if a smaller reporting company)
Smaller reporting company
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes [ ] No [x]
As of February 2, 2016 , 82,955,912 shares of Common Stock, par value $0.001, were issued and outstanding.


Table of Contents

UBIQUITI NETWORKS, INC.
INDEX TO
QUARTERLY REPORT ON FORM 10-Q
FOR THE THREE AND SIX MONTHS ENDED DECEMBER 31, 2015
 
 
 
Page
 
PART I – FINANCIAL INFORMATION
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
Condensed Consolidated Statement s of Operations and Comprehensive Income
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
PART II – OTHER INFORMATION
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 


2

Table of Contents

PART I: FINANCIAL INFORMATION

Item 1.  Financial Statements
UBIQUITI NETWORKS, INC.
Condensed Consolidated Balance Sheets
(In thousands, except share data)
(Unaudited)  
 
December 31, 2015
 
June 30, 2015
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
496,672

 
$
446,401

Accounts receivable, net of allowance for doubtful accounts of $1,244 and $1,071 at December 31, 2015 and June 30, 2015 respectively
64,568

 
66,104

Inventories
33,105

 
37,031

Vendor deposits
15,620

 
19,998

Current deferred tax asset
1,535

 
1,535

Prepaid income taxes

 
2,566

Prepaid expenses and other current assets
8,440

 
7,711

Total current assets
619,940

 
581,346

Property and equipment, net
13,359

 
15,602

Long-term deferred tax asset
1,538

 
1,515

Other long-term assets
1,918

 
2,109

Total assets
$
636,755

 
$
600,572

Liabilities and Stockholders’ Equity
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
42,600

 
$
43,856

Income taxes payable
1,739

 
1,108

Debt - short-term
10,000

 
10,000

Other current liabilities
16,217

 
15,170

Total current liabilities
70,556

 
70,134

Long-term taxes payable
22,129

 
19,810

Debt - long-term
115,500

 
87,500

Deferred revenues - long-term
1,003

 
974

Total liabilities
209,188

 
178,418

Commitments and contingencies (Note 8)

 

Stockholders’ equity:
 
 
 
Common stock—$0.001 par value; 500,000,000 shares authorized:
 
 
 
84,610,812 and 87,413,777 outstanding at December 31, 2015 and June 30, 2015, respectively
85

 
87

Additional paid–in capital

 

Retained earnings
427,482

 
422,067

Total stockholders’ equity
427,567

 
422,154

Total liabilities and stockholders’ equity
$
636,755

 
$
600,572

See notes to condensed consolidated financial statements.

3


UBIQUITI NETWORKS, INC.
Condensed Consolidated Statements of Operations and Comprehensive Income
(In thousands, except per share amounts)
(Unaudited)
 
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
Revenues
$
161,871

 
$
153,137

 
$
313,286

 
$
303,224

Cost of revenues
82,830

 
84,116

 
160,741

 
173,152

Gross profit
79,041

 
69,021

 
152,545

 
130,072

Operating expenses:
 
 
 
 
 
 
 
Research and development
15,429

 
12,936

 
28,990

 
24,657

Sales, general and administrative
7,433

 
5,362

 
15,575

 
11,058

Business e-mail compromise (“BEC”) fraud loss/(recovery)
(257
)
 

 
(8,291
)
 

Total operating expenses
22,605

 
18,298

 
36,274

 
35,715

Income from operations
56,436

 
50,723

 
116,271

 
94,357

Interest expense and other, net
(651
)
 
17

 
(767
)
 
(41
)
Income before provision for income taxes
55,785

 
50,740

 
115,504

 
94,316

Provision for income taxes
6,333

 
4,475

 
12,293

 
10,308

Net income and comprehensive income
$
49,452

 
$
46,265

 
$
103,211

 
$
84,008

Net income per share of common stock:
 
 
 
 
 
 
 
Basic
$
0.58

 
$
0.52

 
$
1.20

 
$
0.95

Diluted
$
0.57

 
$
0.52

 
$
1.18

 
$
0.94

Weighted average shares used in computing net income per share of common stock:
 
 
 
 
 
 
 
Basic
84,724

 
88,196

 
85,893

 
88,218

Diluted
86,091

 
89,737

 
87,285

 
89,838

See notes to condensed consolidated financial statements.


4


UBIQUITI NETWORKS, INC.
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)  
 
Six Months Ended December 31,
 
2015
 
2014
Cash Flows from Operating Activities:
 
 
 
Net income
$
103,211

 
$
84,008

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
3,126

 
1,912

Provision for inventory obsolescence
719

 
695

Provision for loss on vendor deposits
(16
)
 

Write off of software development costs
2,505

 

Excess tax benefit from employee stock-based awards
(432
)
 
(787
)
Stock-based compensation
1,984

 
2,803

Deferred Taxes
(23
)
 
106

Other Adjustments
219

 

Changes in operating assets and liabilities:
 
 
 
Accounts receivable
1,326

 
(17,804
)
Inventories
3,357

 
8,145

Vendor deposits
4,393

 
(17,676
)
Deferred cost of revenues

 
976

Prepaid income taxes
2,566

 
(1,256
)
Prepaid expenses and other assets
(775
)
 
(2,513
)
Accounts payable
(1,384
)
 
21,068

Income taxes payable
3,383

 
1,381

Deferred revenues
212

 
(1,234
)
Accrued liabilities and other current liabilities
703

 
(206
)
Net cash provided by operating activities
125,074

 
79,618

Cash Flows from Investing Activities:
 
 
 
Purchase of property and equipment and other long-term assets
(3,022
)
 
(8,391
)
Net cash used in investing activities
(3,022
)
 
(8,391
)
Cash Flows from Financing Activities:
 
 
 
Proceeds from revolver loan
33,000

 

Repayment of debt
(5,000
)
 

Repurchases of common stock
(100,000
)
 
(15,000
)
Payment of common stock dividend

 
(15,020
)
Proceeds from exercise of stock options
484

 
497

Excess tax benefit from employee stock-based awards
432

 
787

Tax withholdings related to net share settlements of restricted stock units
(697
)
 
(985
)
Net cash used in financing activities
(71,781
)
 
(29,721
)
Net increase in cash and cash equivalents
50,271

 
41,506

Cash and cash equivalents at beginning of period
446,401

 
347,097

Cash and cash equivalents at end of period
$
496,672

 
$
388,603

See notes to condensed consolidated financial statements.

5


UBIQUITI NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1—BUSINESS AND BASIS OF PRESENTATION
Business — Ubiquiti Networks, Inc. was incorporated in the State of California in 2003 as Pera Networks, Inc. In 2005 Pera Networks, Inc. changed its name to Ubiquiti Networks, Inc. and commenced its current operations. In June 2010, Ubiquiti Networks, Inc. was re-incorporated in Delaware.
Ubiquiti Networks, Inc. and its wholly owned subsidiaries (collectively, “Ubiquiti” or the “Company”) develop high performance networking technology for service providers and enterprises.
The Company operates on a fiscal year ending June 30. In this Quarterly Report, the fiscal year ending June 30, 2016 is referred to as “fiscal 2016 ” and the fiscal year ended June 30, 2015 is referred to as “fiscal 2015 .”
Basis of Presentation — The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) related to interim financial statements based on applicable Securities and Exchange Commission (“SEC”) rules and regulations. Accordingly, they do not include all the information and footnotes required by U.S. GAAP for complete financial statements. This information reflects all adjustments, which are, in the opinion of the Company, of a normal and recurring nature and necessary to state fairly the statements of financial position, results of operations and cash flows for the dates and periods presented. The June 30, 2015 balance sheet was derived from the audited financial statements as of that date. All significant intercompany transactions and balances have been eliminated. The Company has reclassified certain amounts reported in the previous period to conform to the current period presentation.
These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements for the fiscal year ended June 30, 2015 , included in its Annual Report on Form 10-K, as filed with the SEC on August 21, 2015 (the “Annual Report”). The results of operations for the three and six months ended December 31, 2015 are not necessarily indicative of the results to be expected for any future periods.
NOTE 2—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company’s significant accounting policies are disclosed in its audited consolidated financial statements for the year ended June 30, 2015 included in the Annual Report. Except as noted below, there have been no changes to the Company’s significant accounting policies as discussed in the Annual Report.
Capitalized Manufacturing Overhead Costs
In fiscal 2016, the Company began capitalizing manufacturing overhead expenditures as part of inventory costs. Capitalized costs primarily include management’s best estimate of the direct labor and materials costs related to inventory produced but not sold during the period. As of December 31, 2015 , the Company capitalized $994 thousand of manufacturing overhead costs, which are included in inventory on the Company’s condensed consolidated balance sheet as of December 31, 2015 . These capitalized amounts are recognized as cost of revenues in the following quarter, consistent with the Company's historical inventory turnover.
Recent Accounting Pronouncements
In June 2014, the Financial Accounting Standards Board, or FASB, issued a new accounting standard update on revenue from contracts with customers. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, an entity should apply the following steps:

Step 1: Identify the contract(s) with a customer.
Step 2: Identify the performance obligations in the contract.
Step 3: Determine the transaction price.
Step 4: Allocate the transaction price to the performance obligations in the contract.
Step 5: Recognize revenue when (or as) the entity satisfies a performance obligation.

An entity should disclose sufficient information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. Qualitative and quantitative

6


information is required about contracts with customers, significant judgments and any assets recognized from the costs to obtain or fulfill a contract. The guidance was initially effective for annual and interim reporting periods beginning after December 15, 2016. However, in July 2015, the FASB voted to defer the effective date by one year, to December 15, 2017, to provide adequate time to effectively implement the new standard. The Company does not anticipate that the new guidance will have a material impact on its consolidated financial statements.

In April 2015, the FASB issued an accounting standard update on simplifying the presentation of debt issuance costs. The updated guidance requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the updated guidance. The guidance will be effective for the Company beginning July 1, 2016. The guidance will result only in a reclassification on the Company’s balance sheet and will not have any effect on the Company’s results of operations or cash flows.

In July 2015, the FASB issued Accounting Standards Update (ASU) 2015-11 which explains how the Accounting Standards Codification will be updated to simplify the measurement of inventory costs. The updated guidance requires that inventory be valued at the lower of cost or net realizable value. This differs from current guidance which requires that inventory be valued at the lower of cost or market, where market can be replacement cost, net realizable value or net realizable value less an approximately normal profit margin. The guidance will be effective for the Company beginning July 1, 2017. We do not anticipate that this guidance will have a material impact on the presentation of the Company’s consolidated financial statements.
In November 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2015-17, Balance Sheet Classification of Deferred Taxes. ASU 2015-17 simplifies the presentation of deferred taxes by requiring deferred tax assets and liabilities be classified as noncurrent on the balance sheet. ASU 2015-17 is effective for public companies for annual reporting periods beginning after December 15, 2016, and interim periods within those fiscal years. The guidance may be adopted prospectively or retrospectively and early adoption is permitted. We are currently evaluating ASU 2015-17 to determine if this guidance will have a material impact on our consolidated financial statements.

NOTE 3—FAIR VALUE OF FINANCIAL INSTRUMENTS
Pursuant to the accounting guidance for fair value measurements and its subsequent updates, fair value is defined as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. The accounting guidance establishes a three-tier fair value hierarchy that requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value. The fair value hierarchy prioritizes the inputs into three levels that may be used in measuring fair value as follows:
Level 1 —observable inputs which include quoted prices in active markets for identical assets or liabilities.
Level 2 —inputs which include observable inputs other than Level 1, such as quoted prices for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the asset or liability.
Level 3 —inputs which include unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the underlying asset or liability. Level 3 assets and liabilities include those whose fair value measurements are determined using pricing models, discounted cash flow methodologies or similar valuation techniques, as well as significant management judgment or estimation.
For certain of the Company’s financial instruments, including accounts receivable and accounts payable, the carrying amounts approximate fair value due to their short maturities. Additionally, as of December 31, 2015 , we held $476.9 million of our $496.7 million of cash and cash equivalents in accounts of our subsidiaries outside of the United States and we would incur significant tax liabilities if we were to repatriate those amounts.
At December 31, 2015 and June 30, 2015 the Company had debt associated with its Amended Credit Agreement with Wells Fargo Bank (See Note 7). The fair value of the Company’s debt was estimated based on the current rates offered to the Company for debt with similar terms and remaining maturities and was Level 2 measurement.

7


As of December 31, 2015 and June 30, 2015 , the fair value hierarchy of the Company’s debt carried at historical cost was as follows (in thousands):
 
December 31, 2015
 
June 30, 2015
 
Fair
Value
 
Level 1
 
Level 2
 
Level 3
 
Fair
Value
 
Level 1
 
Level 2
 
Level 3
Debt
$
125,500

 
$

 
$
125,500

 
$

 
$
97,500

 
$

 
$
97,500

 
$

NOTE 4—EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share for the periods indicated (in thousands, except per share data):
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015

2014
 
2015
 
2014
Numerator:

 
 
Net income and comprehensive income
$
49,452

 
$
46,265

 
$
103,211

 
$
84,008

Denominator:

 
 
Weighted-average shares used in computing basic net income per share
84,724

 
88,196

 
85,893

 
88,218

Add—dilutive potential common shares:



 
 
 
 
Stock options
1,281


1,398

 
1,291

 
1,442

Restricted stock units
86


143

 
101

 
178

Weighted-average shares used in computing diluted net income per share
86,091


89,737

 
87,285

 
89,838

Net income per share of common stock:

 
 
Basic
$
0.58


$
0.52

 
$
1.20

 
$
0.95

Diluted
$
0.57


$
0.52

 
$
1.18

 
$
0.94


The Company excludes potentially dilutive securities from its diluted net income per share calculation when their effect would be antidilutive to net income per share amounts.  The following table summarizes the total potential shares of common stock that were excluded from the diluted per share calculation as including them would have been antidilutive for the period (in thousands):
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
Restricted stock units
22

 
117

 
1

 
6

 
22

 
117

 
1

 
6

NOTE 5—BALANCE SHEET COMPONENTS
Inventories
Inventories consisted of the following (in thousands):
 
December 31, 2015

June 30, 2015
Finished goods
$
31,724

 
$
35,848

Raw materials
1,381

 
1,183

 
$
33,105

 
$
37,031


8




Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consisted of the following (in thousands):
 
December 31, 2015
 
June 30, 2015
BEC recovery receivable
$

 
$
1,376

Other current assets
8,440

 
6,335

 
$
8,440

 
$
7,711



Property and Equipment, Net
Property and equipment, net consisted of the following (in thousands):
 
December 31, 2015
 
June 30, 2015
Testing equipment
$
5,378

 
$
4,816

Computer and other equipment
4,577

 
4,458

Tooling equipment
4,849

 
4,073

Furniture and fixtures
1,325

 
1,239

Leasehold improvements
4,931

 
4,789

Software (1)
2,333

 
3,268

Software in development (1),(2)
2,567

 
2,700

 
25,960

 
25,343

Less: Accumulated depreciation and amortization (3)
(12,601
)
 
(9,741
)
 
$
13,359

 
$
15,602

(1) - In the three months ended December 31, 2015, the Company recorded a $2.5 million impairment charge for capitalized software development costs due to the cancellation of the commercial launch of certain software in development.
(2) - We capitalized $323 thousand and $1.2 million for software development for the three and six months ended December 31, 2015, respectively.
(3) - Depreciation expense was $1.4 million and $2.9 million for the three and six months ended December 31, 2015, respectively.

Other Long-term Assets
Other long-term assets consisted of the following (in thousands):
 
December 31, 2015
 
June 30, 2015
Intangible assets, net (1)
$
466

 
$
575

Debt issuance costs, net (2)
814

 
943

Other long-term assets
638

 
591

 
$
1,918

 
$
2,109

(1) - Accumulated amortization was $820 thousand and $690 thousand as of December 31, 2015 and June 30, 2015, respectively.
(2) - Accumulated amortization was $213 thousand and $84 thousand as of December 31, 2015 and June 30, 2015, respectively.


9


Other Current Liabilities
Other current liabilities consisted of the following (in thousands):
 
December 31, 2015
 
June 30, 2015
Accrued expenses
$
6,011

 
$
5,540

Accrued compensation and benefits
1,637

 
2,142

Warranty accrual
2,205

 
2,750

Deferred revenue - short term
2,720

 
2,538

Customer deposits
572

 
63

Reserve for sales returns
1,389

 
1,227

Other payables
1,683

 
910

 
$
16,217

 
$
15,170

NOTE 6—ACCRUED WARRANTY
The Company offers warranties on certain products, generally for a period of one year, and records a liability for the estimated future costs associated with potential warranty claims. The warranty costs are reflected in the Company’s consolidated statement of operations and comprehensive income within cost of revenues. The warranties are typically in effect for twelve months from the distributor’s purchase date of the product. The Company’s estimate of future warranty costs is largely based on historical factors including product failure rates, material usage, and service delivery cost incurred in replacing products. In certain circumstances, the Company may have recourse from its contract manufacturers for replacement cost of defective products, which it also factors into its warranty liability assessment.

Warranty obligations, included in other current liabilities, were as follows (in thousands):
 
Six Months Ended December 31,
 
2015
 
2014
Beginning balance
$
2,750

 
$
2,850

Accruals for warranties issued during the period
1,027

 
1,718

Settlements made during the period
(1,572
)
 
(1,818
)
 
$
2,205

 
$
2,750

NOTE 7—DEBT
On August 7, 2012, the Company entered into a Loan and Security Agreement (the “Loan Agreement”) with U.S. Bank, as syndication agent, and East West Bank, as administrative agent for the lenders party to the Loan Agreement. The Loan Agreement provided for (i) a $50.0 million revolving credit facility, with a $5.0 million sublimit for the issuance of letters of credit and a $5.0 million sublimit for the making of swingline loan advances, and (ii) a $50.0 million term loan facility.

On May 5, 2014, Ubiquiti Networks, Inc. and certain of its subsidiaries entered into a credit agreement (the “Original Credit Agreement”) with Wells Fargo Bank, National Association (“Wells Fargo”), the financial institutions named as lenders therein, and Wells Fargo as administrative agent for the lenders, that provided for a $150.0 million senior secured revolving credit facility, with an option to request an increase in the amount of the credit facility by up to an additional $50.0 million (any such increase to be in each lender’s sole discretion). Proceeds from borrowings under the Original Credit Agreement were used to repay the Loan Agreement in full.

On March 3, 2015, Ubiquiti Networks, Inc. and Ubiquiti International Holding Company Limited (the “Cayman Borrower”) amended and restated the Original Credit Agreement (the “Amended Credit Agreement”) with Wells Fargo, the other financial institutions named as lenders therein, and Wells Fargo as administrative agent for the lenders. The Amended Credit Agreement provides for a $200.0 million senior secured revolving credit facility and a $100.0 million senior secured term loan facility (collectively, the “Facilities”), with an option to request increases in the amounts of such credit facilities by up to an additional $50.0 million in the aggregate (any such increase to be in each lender’s sole discretion), and matures on March 3, 2020. The $100.0 million term loan facility of the Amended Credit Agreement was fully drawn at closing, and $72.3 million was used to repay the outstanding balance under the Original Credit Agreement. During the three months ended December 31, 2015, the Company drew $15 million and $18 million against the revolving credit facility. These balances are not due until March 2020, and accordingly are classified as long-term debt. As of December 31, 2015 , $92.5 million was outstanding on the term loan and $33 million on the revolver. As of December 31, 2015, the interest rate on the term loan was 2.10% . As of December 31,

10


2015, the interest rate for the $15 million revolver draw was 1.85% and will reset on February 8, 2016. Additionally, the interest rate for the $18 million revolver draw was 1.91% and will reset on February 16, 2016. The interest rates on the revolving and term loans fluctuate as described below. Subsequent to December 31, 2015 , the Company drew an additional $33 million on the revolver.

The revolving credit facility includes a sub-limit of $10.0 million for letters of credit and a sub-limit of $25.0 million for swingline loans. The Facilities replaced the Company’s $150.0 million senior secured revolving credit facility under the Original Credit Agreement. The Facilities are available for working capital and general corporate purposes that comply with the terms of the Amended Credit Agreement. Under the Amended Credit Agreement, revolving loans and swingline loans may be borrowed, repaid and reborrowed until March 3, 2020, at which time all amounts borrowed must be repaid. The term loan is payable in quarterly installments of 2.50% of the original principal amount of the term loan until March 31, 2017, thereafter increasing to 3.75% of the original principal amount of the term loan, in each case plus accrued and unpaid interest. Revolving, swingline and term loans may be prepaid at any time without penalty.

Revolving and term loans bear interest, at the Company’s option, at either (i) a floating rate per annum equal to the base rate plus a margin of between 0.50% and 1.25% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter or (ii) a floating per annum rate equal to the applicable LIBOR rate for a specified period, plus a margin of between 1.50% and 2.25% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter. Swingline loans bear interest at a floating rate per annum equal to the base rate plus a margin of between 0.50% and 1.25% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter. Base rate is defined as the greatest of (A) Wells Fargo’s prime rate, (B) the federal funds rate plus 0.50% or (C) the applicable LIBOR rate for a period of one month plus 1.00% . A default interest rate shall apply on all obligations during certain events of default under the Amended Credit Agreement at a rate per annum equal to 2.00% above the applicable interest rate. The Company will pay to each lender a facility fee on a quarterly basis based on the unused amount of each lender’s commitment to make revolving loans, of between 0.20% and 0.35% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter. The Company will also pay to the applicable lenders on a quarterly basis certain fees based on the daily amount available to be drawn under each outstanding letter of credit, including aggregate letter of credit commissions of the LIBOR rate plus a margin of between 1.50% and 2.25% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter, and issuance fees of 0.125% per annum. The Company is also obligated to pay Wells Fargo, as agent, fees customary for a credit facility of this size and type.

The Amended Credit Agreement requires the Company to maintain during the term of the Facilities (i) a maximum leverage ratio of 2.50 to 1.00 and (ii) minimum liquidity of $225.0 million , increasing to $250.0 million in the event of an incremental increase in the size of the Facilities, which can be satisfied with unrestricted cash and cash equivalents and up to $50.0 million of availability under the revolving credit facility. In addition, the Amended Credit Agreement contains customary affirmative and negative covenants, including covenants that limit or restrict the ability of the Company and its subsidiaries to, among other things, grant liens or enter into agreements restricting their ability to grant liens on property, enter into mergers, dispose of assets, change their accounting or reporting policies, change their business and incur indebtedness, in each case subject to customary exceptions for a credit facility of this size and type. The Amended Credit Agreement includes customary events of default that include, among other things, non-payment of principal, interest or fees, inaccuracy of representations and warranties, violation of covenants, cross default to certain other indebtedness, bankruptcy and insolvency events, material judgments, change of control and certain ERISA events. The occurrence of an event of default could result in the acceleration of the obligations under the Amended Credit Agreement.

The obligations of Ubiquiti Networks, Inc. and certain domestic subsidiaries, if any, under the Amended Credit Agreement are required to be guaranteed by such domestic subsidiaries (the “Domestic Guarantors”) and are collateralized by substantially all assets (excluding intellectual property) of Ubiquiti Networks, Inc. and the Domestic Guarantors. The obligations of the Cayman Borrower and certain foreign subsidiaries under the Amended Credit Agreement are required to be guaranteed by certain domestic and material foreign subsidiaries (the “Guarantors”) and are collateralized by substantially all assets (excluding intellectual property) of the Cayman Borrower and the Guarantors.
During the three months ended December 31, 2015 , the Company made a payment of $2.9 million against the term loan facility balance under the Amended Credit Agreement, of which $2.5 million was a repayment of principal and $439 thousand was payment of interest. During the six months ended December 31, 2015 , the Company made aggregate payments of $5.9 million against the term loan facility balance under the Amended Credit Agreement, of which $5.0 million was a repayment of principal and $883 thousand was payment of interest. During the three and six months ended December 31, 2015 , the Company made aggregate payments of $99 thousand against the revolving loan facility under the Amended Credit Agreement. As of December 31, 2015 , the Company classified $10.0 million as short-term and $115.5 million as long-term debt on its consolidated balance sheet related to the Facilities under the Amended Credit Agreement.

11


On September 2, 2015, the Company accessed a letter of credit under its revolving credit facility in the amount of $237 thousand for the benefit of the landlord pursuant to a new lease of office space. The landlord can draw against the letter of credit in the event of default by the Company. The letter of credit expires on September 2, 2016, subject to automatic renewal for additional one-year periods.
The following table summarizes our estimated debt and interest payment obligations as of December 31, 2015, for the remainder of fiscal 2016 and future fiscal years (in thousands):
 
2016 (remainder)
 
2017
 
2018
 
2019
 
2020
 
Thereafter
 
Total
Debt payment obligations
$
5,000

 
$
11,250

 
$
15,000

 
$
15,000

 
$
79,250

 
$

 
$
125,500

Interest and other payments on debt
1,439

 
2,718

 
2,442

 
2,127

 
1,313

 

 
10,039

Total
$
6,439

 
$
13,968

 
$
17,442

 
$
17,127

 
$
80,563

 
$

 
$
135,539

NOTE 8—COMMITMENTS AND CONTINGENCIES
Operating Leases
Certain facilities and equipment are leased under non-cancelable operating leases. The Company generally pays taxes, insurance and maintenance costs on leased facilities and equipment. The Company leases office space in San Jose, California and other locations under various non-cancelable operating leases that expire at various dates through 2021 .
At December 31, 2015 , future minimum annual payments under operating leases for the remainder of fiscal 2016 and future fiscal years are as follows (in thousands):
 
2016 (remainder)
 
2017
 
2018
 
2019
 
2020
 
Thereafter
 
Total
Operating leases
$
2,297

 
$
3,629

 
$
2,082

 
$
978

 
$
668

 
$
276

 
$
9,930

Purchase Obligations
The Company primarily subcontracts with other companies to manufacture its products. During the normal course of business, the Company’s contract manufacturers procure components based upon orders placed by the Company. If the Company cancels all or part of the orders, it may still be liable to the contract manufacturers for the cost of the components purchased by them to manufacture the Company’s products. The Company periodically reviews the potential liability, and to date, no significant accruals have been recorded. The Company had inventory purchase obligations of $21.6 million as of December 31, 2015 .
Other Obligations
The Company had other obligations of $6.2 million as of December 31, 2015 , which consisted primarily of commitments related to research and development projects.
Indemnification Obligations
The Company enters into standard indemnification agreements with many of its business partners in the ordinary course of business. These agreements include provisions for indemnifying the business partner against any claim brought by a third-party to the extent any such claim alleges that a Company product infringes a patent, copyright or trademark, or violates any other proprietary rights of that third-party. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is not estimable and the Company has not incurred any material costs to defend lawsuits or settle claims related to these indemnification agreements to date.
Legal Matters
The Company may be involved, from time to time, in a variety of claims, lawsuits, investigations, and proceedings relating to contractual disputes, intellectual property rights, employment matters, regulatory compliance matters and other litigation matters relating to various claims that arise in the normal course of business. The Company determines whether an estimated loss from a contingency should be accrued by assessing whether a loss is deemed probable and can be reasonably estimated. The Company assesses its potential liability by analyzing specific litigation and regulatory matters using available information. The Company develops its views on estimated losses in consultation with inside and outside counsel, which involves a subjective analysis of potential results and outcomes, assuming various combinations of appropriate litigation and settlement strategies. Taking all of the above factors into account, the Company records an amount where it is probable that the Company

12


will incur a loss and where that loss can be reasonably estimated. However, the Company’s estimates may be incorrect and the Company could ultimately incur more or less than the amounts initially recorded. The Company may also incur significant legal fees, which are expensed as incurred, in defending against these claims.

Shareholder Class Action Lawsuits
Beginning on September 7, 2012, two class action lawsuits were filed in the United States District Court for the Northern District of California against Ubiquiti Networks, Inc., certain of its officers and directors, and the underwriters of its initial public offering, alleging claims under U.S. securities laws. On January 30, 2013, the plaintiffs filed an amended consolidated complaint. On March 26, 2014, the court issued an order granting a motion to dismiss the complaint with leave to amend. Following the plaintiffs’ decision not to file an amended complaint, on April 16, 2014, the court ordered the dismissal of the lawsuit with prejudice, and entered judgment in favor of the Company and the other defendants, and against the plaintiffs. On May 15, 2014, the plaintiffs filed a notice of appeal from the judgment of the court. The appeal is ongoing before the U.S. Court of Appeals for the Ninth Circuit. There can be no assurance that the Company will prevail in the appeal proceeding. The Company cannot currently estimate the possible loss, if any, that it may experience in connection with this litigation.
NOTE 9—COMMON STOCK AND TREASURY STOCK
As of December 31, 2015 and June 30, 2015 , the authorized capital of the Company included 500,000,000 shares of common stock. As of December 31, 2015 and June 30, 2015 , there were 84,610,812 and 87,413,777 shares of common stock outstanding, respectively.

Common Stock Repurchases

Effective August 7, 2015, the Board of Directors approved a  $100 million  stock repurchase program. Under the stock repurchase program, the Company was authorized to repurchase up to  $100 million  of its common stock. All common stock repurchased by the Company is immediately retired. Upon retirement, the excess over par value is recorded as a reduction in Additional Paid-in Capital until the balance is reduced to zero, with any additional excess recorded to Retained Earnings. The share repurchase program is funded from existing domestic cash on hand in addition to draws on the revolving credit facility of the Amended Credit Agreement. In the first quarter of fiscal 2016, the Company repurchased  1,872,469  shares of its common stock at an average price per share of  $33.79  for an aggregate amount of  $63.3 million .  Of the $63.3 million  of repurchases and retirements,  $1.1 million  was recorded against Additional Paid-in Capital and  $62.2 million  to Retained Earnings. In the second fiscal quarter of 2016, the Company repurchased 1,074,749 shares of its common stock at an average price per share of $34.12 for an aggregate amount of  $36.7 million , extinguishing the full $100 million of availability under this stock repurchase program. Of the $36.7 million of repurchases and retirements, $1.1 million was recorded against Additional Paid-in Capital and $35.6 million to Retained Earnings.

Effective November 6, 2015, the Board of Directors of the Company approved a new stock repurchase program where the Company may repurchase up to $50 million of its common stock. The plan expires on September 30, 2016. As of December 31, 2015, the Company had the full $50 million remaining for common stock repurchases under the repurchase plan. Subsequent to December 31, 2015, the Company repurchased an additional 1,765,523 shares of its common stock at an average price per share of  $28.30 for an aggregate amount of $50.0 million , extinguishing the full $50.0 million available under this stock repurchase program.
NOTE 10—STOCK BASED COMPENSATION
Stock-Based Compensation Plans
The Company’s 2010 Equity Incentive Plan and 2005 Equity Incentive Plan are described in its Annual Report. As of December 31, 2015 , the Company had 10,030,685 authorized shares available for future issuance under all of its stock incentive plans.
Stock-Based Compensation
The following table shows total stock-based compensation expense included in the Condensed Consolidated Statements of Operations for the three and six months ended December 31, 2015 and 2014 (in thousands):

13


 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015

2014
 
2015
 
2014
Cost of sales
$
114

 
$
150

 
$
227

 
$
299

Research and development
580

 
864

 
1,204

 
1,689

Sales, general and administrative
263

 
417

 
553

 
815

 
$
957


$
1,431

 
$
1,984

 
$
2,803

Stock Options
The following is a summary of option activity for the Company’s stock incentive plans for the six months ended December 31, 2015 :
 
Common Stock Options Outstanding
 
Number
of Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life (Years)
 
Aggregate
Intrinsic
Value
(In thousands)
Balance, June 30, 2015
2,301,144

 
$
2.38

 
 
 
 
Exercised
(78,863
)
 
6.17

 
 
 
 
Forfeitures and cancellations
(927
)
 
20.10

 
 
 
 
Balance, December 31, 2015
2,221,354

 
2.24

 
3.23
 
$
65,417

Vested and expected to vest as of December 31, 2015
2,218,887

 
$
2.23

 
3.22
 
$
65,367

Vested and exercisable as of December 31, 2015
2,140,364

 
$
1.90

 
3.10
 
$
63,769


During the three months ended December 31, 2015 and December 31, 2014 , the aggregate intrinsic value of options exercised under the Company’s stock incentive plans was $738 thousand and $140 thousand , respectively, as determined as of the date of option exercise. During the six months ended December 31, 2015 and 2014 , the aggregate intrinsic value of options exercised under the Company’s stock incentive plans was $2.2 million and $5 million , respectively, as determined as of the date of option exercise.

As of December 31, 2015 , the Company had unrecognized compensation costs of $421 thousand related to stock options which the Company expects to recognize over a weighted-average period of 1.0 year. Future option grants will increase the amount of compensation expense to be recorded in these periods.
The Company estimates the fair value of employee stock options using the Black-Scholes option pricing model. The fair value of employee stock options is amortized on a straight-line basis over the requisite service period of the awards. The Company did not grant any employee stock options during the three and six months ended December 31, 2015 and 2014 .

Restricted Stock Units (“RSUs”)
The following table summarizes the activity of the RSUs made by the Company:
 
Number of Shares
 
Weighted Average Grant Date Fair Value Per Share
Non-vested RSUs, June 30, 2015
400,635

 
$
26.95

RSUs granted
48,051

 
32.93

RSUs vested
(86,592
)
 
24.11

RSUs cancelled
(63,184
)
 
34.28

Non-vested RSUs, December 31, 2015
298,910

 
$
27.18

The intrinsic value of RSUs vested in the three months ended December 31, 2015 and 2014 was $941 thousand and $1.1 million , respectively. The intrinsic value of RSUs vested in the six months ended December 31, 2015 and 2014 was $2.8 million and $3.8 million , respectively.
As of December 31, 2015 , there were unrecognized compensation costs related to RSUs of $5.9 million which the Company expects to recognize over a weighted average period of 2.9 years .

14


NOTE 11—INCOME TAXES
As of December 31, 2015 , the Company had approximately $21.9 million of unrecognized tax benefits, substantially all of which would, if recognized, affect its tax expense. The Company has elected to include interest and penalties related to uncertain tax positions as a component of tax expense. At December 31, 2015 , an insignificant amount of interest and penalties are included in long-term income tax payable. The Company recorded a net increase of its unrecognized tax benefits of $1.2 million for the three months ended December 31, 2015 . The Company does not expect any significant increases or decreases to its unrecognized tax benefits in the next twelve months.
The Company recorded a tax provision of $6.3 million and $12.3 million for the three and six months ended December 31, 2015 . The Company’s estimated fiscal 2016 effective tax rate differs from the U.S. statutory rate primarily due to profits earned in jurisdictions where the tax rate is lower than the U.S. tax rate.
The Company files U.S. federal income tax returns as well as income tax returns in various states and foreign jurisdictions. The Company’s tax filings from fiscal 2010 and onwards could be subject to examinations by tax authorities.
On July 27, 2015, in Altera Corp. v. Commissioner, the U.S. Tax Court issued an opinion related to the treatment of stock-based compensation expense in an intercompany cost-sharing arrangement. A final decision has yet to be issued by the Tax Court due to other outstanding issues related to the case. At this time, the U.S. Department of the Treasury has not withdrawn the requirement to include stock-based compensation from its regulations. We have reviewed this case and its potential impact on Ubiquiti and concluded that no adjustment to the condensed consolidated financial statements is appropriate at this time. We will continue to monitor ongoing developments and potential impacts to our consolidated financial statements.
As discussed in Note 2, in November 2015, the FASB issued ASU No. 2015-17, Balance Sheet Classification of Deferred Taxes. We are currently evaluating ASU 2015-17 to determine if this guidance will have a material impact on our consolidated financial statements.
NOTE 12—SEGMENT INFORMATION, REVENUES BY GEOGRAPHY AND SIGNIFICANT CUSTOMERS
Management has determined that the Company operates as one reportable and operating segment as it only reports financial information on an aggregate and consolidated basis to its chief executive officer, who is the Company’s chief operating decision maker. Furthermore, the Company does not organize or report its costs on a segment basis. The Company presents its revenues by product type in two primary categories, including Service Provider Technology and Enterprise Technology.

Service Provider Technology includes the Company’s airMAX, EdgeMAX and airFiber platforms, as well as embedded radio products and other 802.11 standard products including base stations, radios, backhaul equipment and Customer Premise Equipment (“CPE”). Additionally, Service Provider Technology includes antennas and other products in the 0.9 to 6.0 GHz spectrum and miscellaneous products such as mounting brackets, cables and power over Ethernet adapters. Service Provider Technology also includes solar products (sales of which have not been material to date) and revenues that are attributable to post-contract customer support (“PCS”).

Enterprise Technology includes the Company’s UniFi and mFi platforms, including UniFi Access Point (“UAP”) products, UniFi Video products, UniFi Voice Over IP (“VOIP”) phones and UniFi switch products. Enterprise Technology also includes revenues that are attributable to PCS.

Revenues by product type are as follows (in thousands, except percentages):
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
Service Provider Technology
$
109,616

 
68
%
 
$
99,720

 
65
%
 
$
213,015

 
68
%
 
$
206,991

 
68
%
Enterprise Technology
52,255

 
32
%
 
53,417

 
35
%
 
100,271

 
32
%
 
96,233

 
32
%
Total revenues
$
161,871

 
100
%
 
$
153,137

 
100
%
 
$
313,286

 
100
%
 
$
303,224

 
100
%
Revenues by geography based on customer’s ship-to destinations were as follows (in thousands, except percentages):

15


 
Three Months Ended December 31,

Six Months Ended December 31,
 
2015

2014

2015

2014
North America (1)
$
57,133


35
%

$
54,127


35
%

$
110,367


35
%

$
107,708


36
%
South America
23,795


15
%

22,241


15
%

45,943


15
%

53,376


18
%
Europe, the Middle East and Africa
60,973


38
%

60,097


39
%

121,476


39
%

110,704


36
%
Asia Pacific
19,970


12
%

16,672


11
%

35,500


11
%

31,436


10
%
Total revenues
$
161,871


100
%

$
153,137


100
%

$
313,286


100
%

$
303,224


100
%
 
(1)
Revenue for the United States was $53.6 million and $50.5 million for the three months ended December 31, 2015 and 2014 , respectively. Revenue for the United States was $104.2 million and $102.2 million for the six months ended December 31, 2015 and 2014, respectively.

Customers with an accounts receivable balance of 10% or greater of total accounts receivable and customers with net revenues of 10% or greater of total revenues are presented below for the periods indicated:
 
Percentage of Revenues
 
Percentage of Accounts Receivable
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
December 31,
 
June 30,
 
2015

2014
 
2015
 
2014
 
2015
 
2015
Customer A
13%
 
12%
 
11%
 
11%
 
*
 
*
Customer B
*
 
13%
 
*
 
11%
 
*
 
13%
Customer C
*
 
*
 
*
 
*
 
14%
 
12%
Customer D
*
 
*
 
*
 
*
 
15%
 
*
 * denotes less than 10%
NOTE 13—RELATED PARTY TRANSACTIONS AND CERTAIN OTHER TRANSACTIONS

Aircraft Lease Agreement

On November 13, 2013, the Company entered into an aircraft lease agreement (the “Aircraft Lease Agreement”) with RJP Manageco LLC (the “Lessor”), a limited liability company owned by the Company’s CEO, Robert J. Pera. Pursuant to the Aircraft Lease Agreement, the Company may lease an aircraft owned by the Lessor for Company business purposes. Under the Aircraft Lease Agreement, the aircraft may be leased at a rate of $ 5,000 per flight hour. This hourly rate does not include the cost of flight crew or on-board services, which the Company purchases from a third-party provider. The Company recognized a total of approximately  $394 thousand and $607 thousand  in expenses pursuant to the Aircraft Lease Agreement during the three and six months ended  December 31, 2015 , respectively.  In comparison, the Company recognized a total of approximately $29 thousand and $180 thousand in expenses pursuant to the Aircraft Lease Agreement during the three and six months ended December 31, 2014 , respectively. All expenses pursuant to the Aircraft Lease Agreement have been included in the Company’s sales, general and administrative expenses in the Condensed Consolidated Statements of Operations.
NOTE 14—BUSINESS EMAIL COMPROMISE FRAUD LOSS
As disclosed in Note 14 of the Annual Report, in June 2015 the Company determined that it was the victim of a criminal fraud known to law enforcement authorities as business e-mail compromise fraud which involved employee impersonation and fraudulent requests targeting our finance department. The fraud resulted in transfers of funds aggregating $46.7 million held by a Company subsidiary incorporated in Hong Kong to other overseas accounts held by third parties. As of June 30, 2015, the Company recovered $8.1 million . As a result, the Company recorded a charge of  $39.1 million  in the fourth quarter of fiscal 2015, including additional expenses consisting of professional service fees associated with the fraud loss. During the three months ended September 30, 2015, the Company secured a court order for an additional recovery of $8.6 million . As a result, the Company recorded a net recovery of $8.0 million in the first quarter of fiscal 2016, comprised of the $8.6 million recovery less $564 thousand of professional service fees associated with the recovery. As of September 30, 2015, $6.0 million of the $8.6 million was recorded as receivable. During the three months ended December 31, 2015, the Company collected the $6.0 million , receiving $5.6 million in cash net of $400 thousand in foreign exchange loss and transaction fees. Additionally, the Company recorded a net recovery of $257 thousand as a result of incurring $344 thousand less in BEC legal expenses than previously accrued at September 30, 2015 offset by $87 thousand in transaction fees.


16


The Company is continuing to pursue the recovery of the remaining $30.0 million and is cooperating with U.S. federal and numerous overseas law enforcement authorities who are actively pursuing a multi-agency criminal investigation. Any additional recoveries are likely remote and therefore cannot be assured.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of our financial condition and results of operations should be read together with the financial statements and related notes that are included elsewhere in this quarterly report. In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this quarterly report, particularly in Part II, Item 1, Legal Proceedings and 1A, Risk Factors, in this report.
Overview
Ubiquiti Networks, Inc. develops high performance networking technology for service providers and enterprises. Our technology platforms focus on delivering highly-advanced and easily deployable solutions that appeal to a global customer base in underserved and underpenetrated markets. Our differentiated business model has enabled us to break down traditional barriers, such as high product and network deployment costs, and offer solutions with disruptive price-performance characteristics. This differentiated business model, combined with our innovative proprietary technologies, has resulted in an attractive alternative to traditional high touch, high cost providers, allowing us to advance the market adoption of our platforms for ubiquitous connectivity.
We offer a broad and expanding portfolio of networking products and solutions for service providers and enterprises. Our service provider product platforms provide carrier-class network infrastructure for fixed wireless broadband, wireless backhaul systems and routing. Our enterprise product platforms provide wireless LAN infrastructure, video surveillance products, UniFi VOIP phones, UniFi switches and machine-to-machine communication components. We believe that our products are highly differentiated due to our proprietary software protocol innovation, firmware expertise, and hardware design capabilities. This differentiation allows our portfolio to meet the demanding performance requirements of video, voice and data applications at prices that are a fraction of those offered by our competitors.
As a core part of our strategy, we have developed a differentiated business model for marketing and selling high volumes of carrier and enterprise-class communications platforms. Our business model is driven by a large, growing and highly engaged community of service providers, distributors, value added resellers, systems integrators and corporate IT professionals, which we refer to as the Ubiquiti Community. The Ubiquiti Community is a critical element of our business strategy as it enables us to drive:
 
Rapid customer and community driven product development. We have an active, loyal community built by our customers that we believe is a sustainable competitive advantage. Our solutions benefit from the active engagement between the Ubiquiti Community and our development engineers throughout the product development cycle, which eliminates long and expensive multistep internal processes and results in rapid introduction and adoption of our products. This approach significantly reduces our development costs and time to market.

Scalable sales and marketing model. We do not currently have, nor do we plan to hire, a direct sales force, but instead utilize the Ubiquiti Community to drive market awareness and demand for our products and solutions. This community-propagated, viral marketing enables us to reach underserved and underpenetrated markets far more efficiently and cost-effectively than is possible through traditional sales models. Leveraging the information transparency of the Internet allows customers to research, evaluate and validate our solutions with the Ubiquiti Community and via third-party web sites. This allows us to operate a scalable sales and marketing model and effectively create awareness for our brand and products. Word-of-mouth referrals from the Ubiquiti Community generate high quality leads for our distributors at relatively little cost.

Self-sustaining product support.  The engaged members of the Ubiquiti Community have enabled us to foster a large, cost efficient, highly-scalable and, we believe, self-sustaining mechanism for rapid product support and dissemination of information.
By reducing the cost of development, sales, marketing and support we are able to eliminate traditional business model inefficiencies and offer innovative solutions with disruptive price performance characteristics to our customers.

17


Key Components of Our Results of Operations and Financial Condition
Revenues
Our revenues are derived principally from the sale of networking hardware and management tools. In addition, while we do not sell maintenance and support separately, because we have historically included it free of charge in many of our arrangements, we attribute a portion of our systems revenues to this implied post-contract customer support (“PCS”).
We classify our revenues into two primary product categories: Service Provider Technology and Enterprise Technology.

Service Provider Technology includes our airMAX, EdgeMAX and airFiber platforms, as well as embedded radio products and other 802.11 standard products including base stations, radios, backhaul equipment and CPE. Additionally, Service Provider Technology includes antennas and other products in the 0.9 to 6.0 GHz spectrum and miscellaneous products such as mounting brackets, cables and power over Ethernet adapters. Service Provider Technology also includes solar products (sales of which have not been material to date) and revenues that are attributable to PCS.

Enterprise Technology includes our UniFi and mFi platforms, including UAP products, UniFi Video Products, UniFi VOIP phones and UniFi switch products. Enterprise Technology also includes revenues that are attributable to PCS.
We sell substantially all of our products through a limited number of distributors and other channel partners, such as resellers and Original Equipment Manufacturers (“OEMs”). Sales to distributors accounted for 98% of our revenues in the three and six months ended December 31, 2015 .
Cost of Revenues
Our cost of revenues is comprised primarily of the costs of procuring finished goods from our contract manufacturers and chipsets that we consign to certain of our contract manufacturers. In addition, cost of revenues includes labor and other costs associated with engineering, including salary, benefits and stock-based compensation in addition to costs associated with tooling, testing and quality assurance, warranty fees, logistics fees and excess and obsolete inventory.
In addition to utilizing contract manufacturers, we outsource our logistics warehousing and order fulfillment functions, which are located primarily in China, and to a lesser extent, Taiwan. We also evaluate and utilize other vendors for various portions of our supply chain from time to time. Our operations organization consists of employees and consultants engaged in the management of our contract manufacturers, new product introduction activities, logistical support and engineering.
Gross Profit
Our gross profit has been, and may, in the future, be influenced by several factors, including changes in product mix, target end markets for our products, pricing due to competitive pressure, production costs and global demand for electronic components. Although we procure and sell our products in U.S. dollars, our contract manufacturers incur many costs, including labor costs, in other currencies. To the extent that the exchange rates move unfavorably for our contract manufacturers, they may try to pass these additional costs to us, which could have a material impact on our future average selling prices and unit costs.
Operating Expenses
We classify our operating expenses as research and development and sales, general and administrative expenses.
 
Research and development expenses consist primarily of salary and benefit expenses, including stock-based compensation, for employees and costs for contractors engaged in research, design and development activities, as well as costs for prototypes, purchased Intellectual Property (“IP”), facilities and travel. Over time, we expect our research and development costs to increase as we continue making significant investments in developing new products and developing new versions of our existing products.

Sales, general and administrative expenses include salary and benefit expenses, including stock-based compensation, for employees and costs for contractors engaged in sales, marketing and general and administrative activities, as well as the costs of legal expenses, trade shows, marketing programs, promotional materials, bad debt expense, professional services, facilities, general liability insurance and travel. As our product portfolio and targeted markets expand, we may need to employ different sales models, such as building a direct sales force. These sales models would likely increase our costs. Over time, we expect our sales, general and administrative expenses to increase in absolute dollars due to

18


continued growth in headcount, expansion of our efforts to register and defend trademarks and patents and to support our business and operations.
Deferred Revenues and Costs
We recognize revenues when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable and the collectability of the resulting receivable is reasonably assured. In cases where we lack evidence that all of these criteria have been met, we defer recognition of revenue. We classify the cost of products associated with these deferred revenues as deferred costs of revenues.
Included in our deferred revenues is a portion related to PCS obligations that we estimate we will fulfill in the future. As of  December 31, 2015  and June 30, 2015 , we had deferred revenues of  $3.6 million and  $3.5 million, respectively, related to these obligations.
Critical Accounting Policies
We prepare our condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (“GAAP”). In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management’s judgment in its application. In other cases, management’s judgment is required in selecting among available alternative accounting standards that provide for different accounting treatment for similar transactions. The preparation of condensed consolidated financial statements also requires us to make estimates and assumptions that affect the amounts we report as assets, liabilities, revenues, costs and expenses and affect the related disclosures. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. In many instances, we could reasonably use different accounting estimates, and in some instances changes in the accounting estimates are reasonably likely to occur from period to period. Accordingly, our actual results could differ significantly from the estimates made by our management. To the extent that there are differences between our estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows will be affected. Our critical accounting policies are discussed in our Annual Report, and there have been no material changes that have not been disclosed in Note 2 herein.


19


Results of Operations
Comparison of Three and Six Months Ended December 31, 2015 and 2014
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015

2014
 
2015
 
2014
 
(In thousands, except percentages)
Revenues
$
161,871


100
%

$
153,137


100
%
 
$
313,286

 
100
 %
 
$
303,224

 
100
%
Cost of revenues (1)(2)(3)
82,830


51
%

84,116


55
%
 
160,741

 
51
 %
 
173,152

 
57
%
Gross profit
79,041


49
%

69,021


45
%
 
152,545

 
49
 %
 
130,072

 
43
%
Operating expenses:
 






 
 
 
 
 
 
 
 
Research and development (1)
15,429


10
%

12,936


8
%
 
28,990

 
9
 %
 
24,657

 
8
%
Sales, general and administrative (1)
7,433


5
%

5,362


4
%
 
15,575

 
5
 %
 
11,058

 
4
%
Business e-mail compromise (“BEC”) fraud loss/(recovery)
(257
)
 
*

 

 
*

 
(8,291
)
 
(3
)%
 

 
*

Total operating expenses
22,605


14
%

18,298


12
%
 
36,274

 
12
 %
 
35,715

 
12
%
Income from operations
56,436


35
%

50,723


33
%
 
116,271

 
37
 %
 
94,357

 
31
%
Interest expense and other, net
(651
)

*


17


*

 
(767
)
 
*

 
(41
)
 
*

Income before provision for income taxes
55,785


34
%

50,740


33
%
 
115,504

 
37
 %
 
94,316

 
31
%
Provision for income taxes
6,333


4
%

4,475


3
%
 
12,293

 
4
 %
 
10,308

 
3
%
Net income and comprehensive income
$
49,452


31
%

$
46,265


30
%
 
$
103,211

 
33
 %
 
$
84,008

 
28
%
*       Less than 1%







 
 
 
 
 
 
 
 
(1)    Includes stock-based compensation as follows:







 
 
 
 
 
 
 
 
Cost of revenues
$
114




$
150



 
$
227

 
 
 
$
299

 
 
Research and development
580




864



 
1,204

 
 
 
1,689

 
 
Sales, general and administrative
263




417



 
553

 
 
 
815

 
 
Total stock-based compensation
$
957




$
1,431



 
$
1,984

 
 
 
$
2,803

 
 
(2) Includes purchase commitment termination fee
$

 
 
 
$

 
 
 
$

 
 
 
$
5,500

 
 
(3) Includes benefit of implementing overhead capitalization
$
(50
)
 
 
 
$

 
 
 
$
(994
)
 
 
 
$

 
 
Revenues
Total revenues increased 8.8 million, or 6% , from $153.1 million in the three months ended December 31, 2014 to $161.9 million in the three months ended December 31, 2015 . Revenues increased $10.1 million , or 3% from $303.2 million in the six months ended December 31, 2014 to $313.3 million in the six months ended December 31, 2015 . The drivers of both increases are discussed in further detail below. During the three and six months ended December 31, 2015, there were no material price changes in the Company's products sold. During these periods there were changes in product mix, including a higher mix of Service Provider Technology products sold during the three months ended December 31, 2015 as compared to the three months ended December 31, 2014 and a slightly higher mix of Enterprise Technology products sold during the six months ended December 31, 2015 as compared to the six months ended December 31, 2014.
Revenues by Product Type
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
 
(in thousands, except percentages)
Service Provider Technology
$
109,616

 
68
%
 
$
99,720

 
65
%
 
$
213,015

 
68
%
 
$
206,991

 
68
%
Enterprise Technology
52,255

 
32
%
 
53,417

 
35
%
 
100,271

 
32
%
 
96,233

 
32
%
Total revenues
$
161,871

 
100
%
 
$
153,137

 
100
%
 
$
313,286

 
100
%
 
$
303,224

 
100
%


20


Service Provider Technology revenue increased $9.9 million , or 10% , from $99.7 million in the three months ended December 31, 2014 to $109.6 million in the three months ended December 31, 2015 . Revenues increased $6.0 million , or 3% , from $207.0 million in the six months ended December 31, 2014 to $213.0 million in the six months ended December 31, 2015 . The increase in Service Provider Technology revenue during the three months ended December 31, 2015 as compared to the same period in the prior year was primarily due to increased revenues for Service Provider Technology products outside of North America. The increase in Service Provider Technology revenue during the six months ended December 31, 2015 as compared to the same period in the prior year was primarily due to increased revenues for Service Provider Technology products outside of South America.

Enterprise Technology revenue decreased $1.1 million, or 2% , from $53.4 million in the three months ended December 31, 2014 to $52.3 million in the three months ended December 31, 2015 . Revenues increased $4.1 million, or 4% , from $96.2 million in the six months ended December 31, 2014 to $100.3 million in the six months ended December 31, 2015 . The decrease in Enterprise Technology revenue during the three months ended December 31, 2015 as compared to the same period in the prior year was primarily due to decreased revenues in EMEA and South America, partially offset by increased revenues in North America. The increase in Enterprise Technology revenue during the six months ended December 31, 2015 as compared to the same period in the prior year was primarily due to increased revenues in EMEA, partially offset by decreased revenues South America.
Revenues by Geography
We have determined the geographical distribution of our product revenues based on our customers’ ship-to destinations. A majority of our sales are to distributors who either sell to resellers or directly to end customers, who may be located in different countries than the initial ship-to destination. The following are our revenues by geography for the three and six months ended December 31, 2015 and 2014 (in thousands, except percentages):   
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
North America (1)
$
57,133

 
35
%
 
$
54,127

 
35
%
 
$
110,367

 
35
%
 
$
107,708

 
36
%
South America
23,795

 
15
%
 
22,241

 
15
%
 
45,943

 
15
%
 
53,376

 
18
%
Europe, the Middle East and Africa
60,973

 
38
%
 
60,097

 
39
%
 
121,476

 
39
%
 
110,704

 
36
%
Asia Pacific
19,970

 
12
%
 
16,672

 
11
%
 
35,500

 
11
%
 
31,436

 
10
%
Total revenues
$
161,871

 
100
%
 
$
153,137

 
100
%
 
$
313,286

 
100
%
 
$
303,224

 
100
%
 
(1)
Revenue for the United States was $53.6 million and $50.5 million for the three months ended December 31, 2015 and 2014 , respectively. Revenue for the United States was $104.2 million and $102.2 million for the six months ended December 31, 2015 and 2014, respectively.
North America
Revenues in North America increased $3.0 million , or 6% , from $54.1 million in the three months ended December 31, 2014 to $57.1 million in the three months ended December 31, 2015 . Revenues increased $2.7 million , or 3%, from $107.7 million in the six months ended December 31, 2014 to $110.4 million in the six months ended December 31, 2015 . The increase in North American revenues during the three months ended December 31, 2015 as compared to the same period in the prior year was primarily due to increased Enterprise Technology revenue. The increase during the six months ended December 31, 2015 as compared to the same period in the prior year was primarily due to increased Service Provider Technology revenue.
South America
Revenues in South America increased $1.6 million , or 7% , from $22.2 million in the three months ended December 31, 2014 to $23.8 million in the three months ended December 31, 2015 . Revenues decreased $7.5 million, or 14% , from $53.4 million in the six months ended December 31, 2014 to $45.9 million in the six months ended December 31, 2015 . The increase in South American revenues during the three months ended December 31, 2015 as compared to the same period in the prior year was primarily due to increased revenues from Service Provider Technology products. The decrease in South American revenues during the six months ended December 31, 2015 as compared to the same period in the prior year was primarily due to decreased revenues from Service Provider Technology products. We believe that the large fluctuations in South American revenues are largely driven by a strong U.S. dollar and by general economic instability in the region.

21


Europe, the Middle East, and Africa (EMEA)
Revenues in EMEA increased $0.9 million , or 1% , from $60.1 million in the three months ended December 31, 2014 to $61.0 million in the three months ended December 31, 2015 . Revenues increased $10.8 million , or 10% , from $110.7 million in the six months ended December 31, 2014 to $121.5 million in the six months ended December 31, 2015 . The increase in EMEA revenues during the three and six months ended December 31, 2015 as compared to the same periods in the prior year was primarily due to increased revenues from Service Provider Technology products.
Asia Pacific
Revenues in the Asia Pacific region increased $3.3 million , or 20% , from $16.7 million in the three months ended December 31, 2014 to $20.0 million in the three months ended December 31, 2015 . Revenues increased $4.1 million , or 13% , from $31.4 million in the six months ended December 31, 2014 to $35.5 million in the six months ended December 31, 2015 . The increase in Asia Pacific revenues during both the three and six months ended December 31, 2015 as compared to the same periods in the prior year was primarily due to increased Service Provider Technology revenue.
Cost of Revenues and Gross Profit
Cost of revenues decreased $1.3 million , or 2% , from $84.1 million in the three months ended December 31, 2014 to $82.8 million in the three months ended December 31, 2015 . This reduction primarily relates to changes in product mix and improved gross margins in the Service Provider Technology product category.
Cost of revenues decreased $12.5 million , or 7% , from $173.2 million in the six month period ended December 31, 2014 to $160.7 million in the six months ended December 31, 2015 . This reduction reflects a non-recurring termination fee of $5.5 million recognized in the prior six months ended December 31, 2014 related to the cancellation of a purchase commitment. Additionally, as discussed further in Note 2, in the six months ended December 31, 2015, the Company began capitalizing manufacturing overhead related to inventory produced but not sold during the period. Specifically, in the six months ended December 31, 2015, the impact of capitalization of manufacturing overhead was a net reduction of $994 thousand to cost of revenues. The remaining decrease in costs of revenues is attributable to improved margins for both Service Provider and Enterprise Technologies.
Gross profit margin increased to 49% in the three months ended December 31, 2015 compared to 45% in the three months ended December 31, 2014, and increased to 49% in the six months ended December 31, 2015 compared to 43% in the six months ended December 31, 2014. The increases for both periods are consistent with the cost of revenue fluctuations discussed above.
Operating Expenses
Research and Development
Research and development (“R&D”) expenses increased $2.5 million , or 19% , from $12.9 million in the three months ended December 31, 2014 to $15.4 million in the three months ended December 31, 2015 . As a percentage of revenues, research and development expenses increased from 8% in the three months ended December 31, 2014 to 10% in the three months ended December 31, 2015 . This increase is due to a $2.5 million impairment charge for capitalized software development costs recorded in the three months ended December 31, 2015 related to the cancellation of the commercial launch of certain software in development. Research and development costs increased $4.3 million , or 17%, from $24.7 million in the six months ended December 31, 2014 to $29.0 million in the six months ended December 31, 2015 . As a percentage of revenues, research and development expenses increased from 8% in the six months ended December 31, 2014 to 9% in the six months ended December 31, 2015 . This increase is driven by the $2.5 million impairment charge for capitalized software development costs recognized in the six months ended December 31, 2015, as discussed above. Additionally, this increase is driven by decreased levels of software capitalization in the six months ended December 31, 2015 as compared to the same period ended December 31, 2014. Over time, we expect our research and development costs to increase in absolute dollars as we continue making investments in developing new products and developing new versions of our existing products.
Sales, General and Administrative
Sales, general and administrative expenses increased $2.0 million, or 37%, from $5.4 million in the three months ended December 31, 2014 to $7.4 million in the three months ended December 31, 2015 . As a percentage of revenues, sales, general and administrative expenses increased from 4% in the three months ended December 31, 2014 to 5% in the three months ended December 31, 2015 . Of the $2.0 million increase, $700 thousand is attributable to increased sales and marketing expenses incurred related to increased hiring of sales personnel. The remaining $1.3 million increase is primarily attributable to general and administrative costs incurred for interim management and advisory services to remediate internal control weaknesses as disclosed in the Annual Report.

22


Sales, general and administrative expenses increased $4.5 million , or 41% , from $11.1 million in the six months ended December 31, 2014 to $15.6 million in the six months ended December 31, 2015 . As a percentage of revenues, sales, general and administrative expenses increased from 4% in the six months ended December 31, 2014 to 5% in the six months ended December 31, 2015 . Of the $4.5 million increase, $700 thousand is attributable to sales and marking expenses and $3.8 million is attributable to general and administrative expenses. Both increases are consistent with the explanations discussed above.
Provision for Income Taxes
Our provision for income taxes increased $1.9 million or 42% , from $4.5 million for the three months ended December 31, 2014 to $6.3 million for the three months ended December 31, 2015 . Our effective tax rate increased to 11% for the three months ended December 31, 2015 as compared to 9% for the three months ended December 31, 2014 . The higher effective tax rate in the three months ended December 31, 2015 was primarily due to a reduced tax benefit from federal research credits as compared to the three months ended December 31, 2014, as well as a discrete one-time tax benefit recorded in a foreign jurisdiction in the three months ended December 31, 2014. Our provision for income taxes increased $2.0 million , or 19% , from $ 10.3 million for the six months ended December 31, 2014 to $12.3 million for the six months ended December 31, 2015 . Our effective tax rate remained flat at 11% for the six months ended December 31, 2014 and December 31, 2015 .
Liquidity and Capital Resources
Sources and Uses of Cash
Since inception, our operations primarily have been funded through cash generated by operations and proceeds from our various debt agreements. Cash and cash equivalents increased from $446.4 million at June 30, 2015 to $496.7 million at December 31, 2015 .
Consolidated Cash Flow Data
The following table sets forth the major components of our condensed consolidated statements of cash flows data for the periods presented:
 
Six Months Ended December 31,
 
2015
 
2014
 
(In thousands)
Net cash provided by operating activities
$
125,074

 
$
79,618

Net cash used in investing activities
(3,022
)
 
(8,391
)
Net cash used in financing activities
(71,781
)
 
(29,721
)
Net increase in cash and cash equivalents
$
50,271

 
$
41,506

Cash Flows from Operating Activities
Net cash provided by operating activities in the six months ended December 31, 2015 of $125.1 million consisted primarily of net income of $103.2 million and net changes in operating assets and liabilities that resulted in net cash inflows of $13.8 million . These changes consisted primarily of a $4.4 million decrease in vendor deposits due to timing of deposit payments with our suppliers, a $0.8 million increase in prepaid expenses and other current assets, a $1.3 million decrease in accounts receivable due to increased collections during the period, a $0.7 million decrease in accounts payable and accrued liabilities, a $0.2 million increase in deferred revenue due to additional PCS revenue deferrals during the period, a $2.6 million decrease in prepaid taxes due to the timing of federal tax payments, a $3.4 million decrease in inventory due to increased sales during the period and a $3.4 million increase in taxes payable. Additionally, our net income included non-cash adjustments due to stock-based compensation, depreciation and amortization, increases to our provision for inventory obsolescence, increases to our provision for sales returns, increases in deferred taxes, and a write off of software development costs. The net of these non-cash adjustments resulted in an increase of our net cash provided by operating activities of $8.1 million .

Net cash provided by operating activities in the  six months ended December 31, 2014  of  $79.6 million  consisted primarily of net income of  $84.0 million  partially offset by net changes in operating assets and liabilities that resulted in net cash outflows of  $9.1 million . These changes consisted primarily of a $20.9 million increase in accounts payable and accrued liabilities due primarily to our increase in cost of revenues, a $20.2 million increase in prepaid expenses and other current assets due to the timing of deposit payments with our suppliers, an $8.1 million increase in inventory due to our efforts to build warehouse stock levels and ultimately decrease lead times, a $1.4 million increase in taxes payable and a $1.3 million increase in prepaid taxes due to the timing of federal tax payments. Additionally, our net income included non-cash adjustments due to stock-based compensation, depreciation and amortization, increases to our provision for inventory obsolescence, decreases in our allowance

23


for doubtful accounts, a write-off of our intangible assets and taxes. The net of these non-cash adjustments resulted in an increase of our net cash provided by operating activities of $4.7 million.
Cash Flows from Investing Activities
We used $3.0 million of cash in investing activities during the six months ended December 31, 2015 . Our investing activities consist solely of capital expenditures and purchases of intangible assets. Capital expenditures for the six months ended December 31, 2015 and 2014 were $3.0 million and $8.4 million , respectively. Capital expenditures during the six months ended December 31, 2015 included machinery and equipment purchases for our product development and prototyping activities. Additionally, we had cash outflows related to the purchase of intangible assets of $20 thousand and $30 thousand during the six months ended December 31, 2015 and 2014 , respectively, consisting primarily of legal costs associated with trademark applications.
Cash Flows from Financing Activities
We used $71.8 million of cash in financing activities during the six months ended December 31, 2015 . During the six months ended December 31, 2015 we paid $100.0 million for repurchases of our common stock. We also made a $5.0 million repayment on our outstanding debt under the term loan portion of our Amended Credit Agreement. Additionally, we drew $33.0 million under the revolver of our Amended Credit Agreement that was used for the repurchases of our common stock. Cash inflows from financing activities included $0.5 million of cash proceeds received from the exercise of stock options in addition to $0.4 million of excess tax benefit from employee stock-based awards, partially offset by tax withholdings related to net share settlements of restricted stock units of $0.7 million .
We had $29.7 million of cash used by financing activities during the six months ended December 31, 2014 , which consisted of cash paid for dividends on our common stock of $15.0 million, cash paid for repurchases of our common stock of $15.0 million and tax withholdings related to net share settlements of restricted stock units of $1.0 million, partially offset by cash received for stock option exercises of $497 thousand and an excess tax benefit from employee stock-based awards of $787 thousand.
Liquidity
We believe our existing cash and cash equivalents, cash provided by operations and the availability of additional funds under our Amended Credit Agreement will be sufficient to meet our working capital and capital expenditure needs for at least the next twelve months. Our future capital requirements may vary materially from those currently planned and will depend on many factors, including our rate of revenue growth, the timing and extent of spending to support development efforts, the timing of new product introductions, market acceptance of our products and overall economic conditions. As of December 31, 2015 , we held $476.9 million of our $496.7 million of cash and cash equivalents in accounts of our subsidiaries outside of the United States and we will incur significant tax liabilities if we decide to repatriate those amounts.
Warranties and Indemnifications
Our products are generally accompanied by a twelve month warranty from date of purchase, which covers both parts and labor. Generally the distributor is responsible for the freight costs associated with warranty returns, and we absorb the freight costs of replacing items under warranty. In accordance with the Financial Accounting Standards Board’s (“FASB’s”), Accounting Standards Codification (“ASC”), 450-20, Loss Contingencies, we record an accrual when we believe it is reasonably estimable and probable based upon historical experience. We record a provision for estimated future warranty work in cost of goods sold upon recognition of revenues, and we review the resulting accrual regularly and periodically adjust it to reflect changes in warranty estimates.
We may in the future enter into standard indemnification agreements with many of our distributors and OEMs, as well as certain other business partners in the ordinary course of business. These agreements may include provisions for indemnifying the distributor, OEM or other business partner against any claim brought by a third-party to the extent any such claim alleges that a Ubiquiti product infringes a patent, copyright or trademark or violates any other proprietary rights of that third-party. The maximum amount of potential future indemnification is unlimited. The maximum potential amount of future payments we could be required to make under these indemnification agreements is not estimable.
We have agreed to indemnify our directors, officers and certain other employees for certain events or occurrences, subject to certain limits, while such persons are or were serving at our request in such capacity. We may terminate the indemnification agreements with these persons upon the termination of their services with us, but termination will not affect claims for indemnification related to events occurring prior to the effective date of termination. The maximum amount of potential future indemnification is unlimited. We have a Directors and Officers insurance policy that limits our potential exposure. We believe

24


the fair value of these indemnification agreements is minimal. We have not recorded any liabilities for these agreements as of December 31, 2015 .
Based upon our historical experience and information known as of the date of this report, we do not believe it is likely that we have a significant liability for the above indemnities at December 31, 2015 .
Contractual Obligations and Off-Balance Sheet Arrangements
The following table summarizes our contractual obligations as of December 31, 2015 for the remainder of fiscal 2016 and future fiscal years (in thousands):
 
2016 (remainder)
 
2017
 
2018
 
2019
 
2020
 
Thereafter
 
Total
Operating leases
$
2,297

 
$
3,629

 
$
2,082

 
$
978

 
$
668

 
$
276

 
$
9,930

Debt payment obligations
5,000

 
11,250

 
15,000

 
15,000

 
79,250

 

 
125,500

Interest and other payments on debt
1,439

 
2,718

 
2,442

 
2,127

 
1,313

 

 
10,039

Purchase obligations
21,646

 

 

 

 

 

 
21,646

Other obligations
6,157

 
32

 
3

 

 

 

 
6,192

Total
$
36,539

 
$
17,629

 
$
19,527

 
$
18,105

 
$
81,231

 
$
276

 
$
173,307

Operating Leases
We lease our headquarters in San Jose, California in addition to other locations worldwide under non-cancelable operating leases that expire at various dates through 2021.
Principal, Interest and Other Debt Payment Obligations
On March 3, 2015, we entered into the Amended Credit Agreement, that provides for a $200.0 million senior secured revolving credit facility and a $100.0 million senior secured term loan facility, with an option to request increases in the amounts of such credit facilities by up to an additional $50.0 million in the aggregate (any such increase to be in each lender’s sole discretion). Please see Note 7 of the Notes to the Consolidated Financial Statements for more information. We have calculated estimated interest payments for our debt based on the applicable rates and payment dates. Although our interest rates on our debt obligations will likely vary over time, we have assumed our interest rates as of December 31, 2015 as the interest rates for all fiscal years presented. Furthermore, the interest payment intervals on our revolving debt are determined at the Company's election pursuant to the Amended Credit Agreement. For purposes of the table above, we have assumed two month payment intervals on our revolving debt consistent with our elections to date. Also included are estimated bank fees to be paid for unused portions of our revolving credit facility.
Purchase Obligations
We subcontract with third parties to manufacture our products. During the normal course of business, our contract manufacturers procure components and manufacture product based upon orders placed by us. Component and product inventory held by our manufacturers or our third-party logistics providers is not recorded on our balance sheet until legal title passes to the Company. If we cancel all or part of the orders, we may still be liable to the contract manufacturers for the cost of the components they purchased and for manufacturing and other costs related to these components. We periodically review the potential liability and to date no significant liabilities for cancellations have been recorded. Our consolidated financial position and results of operations could be negatively impacted if we were required to compensate the contract manufacturers for any unrecorded liabilities incurred. The Company had inventory purchase obligations of $21.6 million as of December 31, 2015 .
Other Obligations
We had other obligations of $6.2 million as of December 31, 2015 , which consisted primarily of commitments related to research and development projects.
Unrecognized Tax Benefits
As of December 31, 2015 , we had $21.9 million of unrecognized tax benefits, substantially all of which would, if recognized, affect our tax expense. We have elected to include interest and penalties related to uncertain tax positions as a component of tax expense. We do not expect any significant increases or decreases to our unrecognized tax benefits in the next twelve months.

25


Recent Accounting Pronouncements

For a discussion of recent accounting pronouncements, refer to Note 2 to the Condensed Consolidated Financial Statements.
Non-GAAP Financial Measures
Regulation G, conditions for use of Non-Generally Accepted Accounting Principles (“Non-GAAP”) financial measures, and other SEC regulations define and prescribe the conditions for use of certain Non-GAAP financial information. To supplement our condensed consolidated financial results presented in accordance with GAAP, we use Non-GAAP financial measures which are adjusted from the most directly comparable GAAP financial measures to exclude certain items, as described below. Management believes that these Non-GAAP financial measures reflect an additional and useful way of viewing aspects of our operations that, when viewed in conjunction with our GAAP results, provide a more comprehensive understanding of the various factors and trends affecting our business and operations. Non-GAAP financial measures used by us include net income or loss and diluted net income or loss per share. Other companies may calculate these measures differently than we do, limiting the usefulness of these items as comparative measures.
Our Non-GAAP measures primarily exclude stock-based compensation, net of taxes, and other special charges and credits. In fiscal 2016, our non-GAAP net income excluded a benefit of $8.3 million related to the BEC fraud loss, as described at Note 14 to the Condensed Consolidated Financial Statements. We use each of these Non-GAAP financial measures for internal managerial purposes when providing our financial results and business outlook to the public. Management believes that these Non-GAAP measures provide meaningful supplemental information regarding our operational and financial performance of current and historical results, facilitating period-to-period comparisons. Additionally, we believe these Non-GAAP financial measures provide meaningful information regarding our strategic and business decision making, internal budgeting, forecasting and resource allocation processes as well as supplement management’s internal comparisons to our historical operating results and to our competitors’ operating results.

The following table shows our Non-GAAP financial measures:
 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
 
(In thousands, except per share amounts)
Non-GAAP net income and comprehensive income
$
49,725

 
$
47,124

 
$
95,236

 
$
90,530

Non-GAAP diluted net income per share of common stock
$
0.58

 
$
0.53

 
$
1.09

 
$
1.01

We believe that providing these Non-GAAP financial measures, in addition to the GAAP financial results, are useful to investors because they allow investors to see our results “through the eyes” of management as these Non-GAAP financial measures reflect our internal measurement processes. Management believes that these Non-GAAP financial measures enable investors to better assess changes in each key element of our operating results across different reporting periods on a consistent basis and provides investors with another method for assessing our operating results in a manner that is focused on the performance of our ongoing operations.
The following table shows a reconciliation of GAAP net income and comprehensive income to non-GAAP net income and comprehensive income:

26


 
Three Months Ended December 31,
 
Six Months Ended December 31,
 
2015
 
2014
 
2015
 
2014
 
(In thousands, except per share amounts)
Net income and comprehensive income
$
49,452

 
$
46,265

 
$
103,211

 
$
84,008

Stock-based compensation:
 
 
 
 
 
 
 
Cost of revenues
114

 
150

 
227

 
299

Research and development
580

 
864

 
1,204

 
1,689

Sales, general and administrative
263

 
417

 
553

 
815

Purchase commitment termination fee

 

 

 
5,500

Business e-mail compromise (“BEC”) fraud loss/(recovery)
(257
)
 

 
(8,291
)
 

Implementation of overhead capitalization (1)
(50
)
 

 
(994
)
 

Tax effect of non-GAAP adjustments
(377
)
 
(572
)
 
(674
)
 
(1,781
)
Non-GAAP net income and comprehensive income
$
49,725

 
$
47,124

 
$
95,236

 
$
90,530

Non-GAAP diluted net income per share of common stock
$
0.58

 
$
0.53

 
$
1.09

 
$
1.01

Weighted-average shares used in computing non-GAAP diluted net income per share of common stock
86,091

 
89,737

 
87,285

 
89,838

(1) - Overhead capitalization was implemented in the first quarter of fiscal 2016. As a result of implementing the policy, we recognized a one-time benefit in the first quarter of fiscal 2016.
Note About Forward-Looking Statements
When used in this Report, the words “anticipates,” “believes,” “could,” “seeks,” “estimates,” “expects,” “intends,” “may,” “plans” “potential,” “predicts,” “projects,” “should,” “will,” “would” or similar expressions and negatives of those terms are intended to identify forward-looking statements. These are statements that relate to future periods and include statements about our future results, sources of revenue, our continued growth, our gross margins, market trends, our product development, technological developments, the features, benefits and performance of our current and future products, the ability of our products to address a variety of markets, the anticipated growth of demand for connectivity worldwide, our growth strategies, future price reductions, our competitive status, our dependence on our senior management and our ability to attract and retain key personnel, dependency on and concentration of our distributors, our employee relations, current and potential litigation, the effects of government regulations, our compliance with laws and regulations, our expected future operating costs and expenses and expenditure levels for research and development, selling, general and administrative expenses, fluctuations in operating results, fluctuations in our stock price, our payment of dividends, our future liquidity and cash needs, our credit facility, future acquisitions of and investments in complimentary businesses and the expected impact of various accounting policies and rules adopted by the Financial Accounting Standards Board. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected. These risks and uncertainties include, but are not limited to, factors affecting our quarterly results, our ability to manage our growth, our ability to sustain or increase profitability, demand for our products, our ability to compete, our ability to rapidly develop new technology and introduce new products, our ability to safeguard our intellectual property, trends in the networking industry and fluctuations in general economic conditions, and the risks set forth throughout this Report, including under Item 1, “Business” and under Item 1A, “Risk Factors.” These forward-looking statements speak only as of the date hereof. Except as required by law, we expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based.

Item 3.  Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Sensitivity
Our revolving and term loans bear interest, at our option, at either (i) a floating rate per annum equal to the base rate plus a margin of between 0.50% and 1.25%, depending on our leverage ratio as of the most recently ended fiscal quarter or (ii) a floating per annum rate equal to the applicable LIBOR rate for a specified period, plus a margin of between 1.50% and 2.25%, depending on our leverage ratio as of the most recently ended fiscal quarter. Swingline loans bear interest at a floating rate per annum equal to the base rate plus a margin of between 0.50% and 1.25%, depending on our leverage ratio as of the most recently ended fiscal quarter. Base rate is defined as the greatest of (A) Wells Fargo’s prime rate, (B) the federal funds rate plus 0.50% or (C) the applicable LIBOR rate for a period of one month plus 1.00%. A default interest rate shall apply on all obligations during certain events of default under the Amended Credit Agreement at a rate per annum equal to 2.00% above the

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applicable interest rate. The Company will pay to each lender a facility fee on a quarterly basis based on the unused amount of each lender’s commitment to make revolving loans, of between 0.20% and 0.35%, depending on the Company’s leverage ratio as of the most recently ended fiscal quarter. The Company will also pay to the applicable lenders on a quarterly basis certain fees based on the daily amount available to be drawn under each outstanding letter of credit, including aggregate letter of credit commissions of the LIBOR rate plus a margin of between 1.50% and 2.25%, depending on the Company’s leverage ratio as of the most recently ended fiscal quarter, and issuance fees of 0.125% per annum. The Company is also obligated to pay Wells Fargo, as agent, fees customary for a credit facility of this size and type. Based on a sensitivity analysis, as of December 31, 2015 , an instantaneous and sustained 200-basis-point increase in interest rates affecting our floating rate debt obligations, and assuming that we take no counteractive measures, would result in a charge to our income before income taxes of approximately $2.4 million over the next twelve months.
We had cash and cash equivalents of $496.7 million and $446.4 million as of December 31, 2015 and June 30, 2015 , respectively. These amounts were held primarily in cash deposit accounts. The fair value of our cash and cash equivalents would not be significantly affected by either a 10% increase or decrease in interest rates due mainly to the short-term nature of these instruments.
Foreign Currency Risk
Our sales are denominated in U.S. dollars, and therefore, our revenues are not directly subject to foreign currency risk. Certain of our operating expenses are denominated in the currencies of the countries in which our operations are located, and may be subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the Chinese Yuan, Euro, and Taiwan Dollar. Our financial position or results of operations would not be significantly affected by a 10% appreciation or depreciation in the value of the U.S. dollar relative to the other currencies in which our expenses are denominated.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Management, with the participation of the Company’s Chief Executive Officer and Interim Chief Accounting Officer, evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2015 . The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives. Based on the evaluation of our disclosure controls and procedures as of December 31, 2015 , our Chief Executive Officer and Interim Chief Accounting Officer concluded that, as of such date, due to the identification of material weaknesses in our internal control over financial reporting, as further described in Item 9A of our Annual Report, our disclosure controls and procedures were not effective.
Changes in Internal Control over Financial Reporting
Our remediation efforts were ongoing during the three months ended December 31, 2015 , and, other than those remediation efforts described in “Remediation Plan and Other Information” in Item 9A of our Annual Report, there were no other changes in our internal control over financial reporting that occurred during the three months ended December 31, 2015 that materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.
The material weaknesses in our internal control over financial reporting, which are described more fully in our Annual Report, continued to exist as of the end of the period covered by this Quarterly Report on Form 10-Q. The Company is actively engaged in remediation efforts designed to address the material weaknesses, and subsequent to the filing of its Annual Report the Company has added additional full-time and consulting resources to its finance organization. Additionally, management has reviewed and updated certain accounting policies and procedures, including its disbursement authorities, implemented new financial reporting control procedures and improved overall communication in the finance organization, including clarifying individual roles and responsibilities and documentation standards. The Company is committed to designing, implementing and operating effective internal controls, and management continues to regularly assess its progress. We continue to be materially dependent upon outside consultants to provide us with interim accounting resources while we continue to recruit full-time employees. Successful recruiting and integration of such personnel is a critical component of our remediation efforts designed to address the material weaknesses.

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Notwithstanding the ineffectiveness of the Company’s disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q and the material weakness in our internal control over financial reporting that existed as of that date, management believes that (i) this Quarterly Report on Form 10-Q does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which they were made, not misleading with respect to the period covered by this Quarterly Report on Form 10-Q and (ii) the unaudited consolidated financial statements, and other financial information, included in this Quarterly Report on Form 10-Q fairly present in all material respects in accordance with GAAP our financial condition, results of operations and cash flows as of, and for, the dates and periods presented.
Limitations on the Effectiveness of Controls
Control systems, no matter how well conceived and operated, are designed to provide a reasonable, but not an absolute, level of assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. Because of the inherent limitations in any control system, misstatements due to error or fraud may occur and not be detected.

PART II: OTHER INFORMATION
Item 1. Legal Proceedings

Please see Part I, Item 1, Note 8 of the Notes to Condensed Consolidated Financial Statements for a discussion of our legal proceedings.
Item 1A. Risk Factors
This Report contains forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those projected. These risks and uncertainties include, but are not limited to, the risk factors set forth below. These risks and uncertainties are not the only ones we face. If any event related to these known or unknown risks or uncertainties actually occurs, our business prospects, results of operation, and financial condition could be materially adversely affected.
Risks Related to Our Business and Industry
Fluctuations in our operating results could cause the market price of our common stock to decline.
Our quarterly operating results fluctuate significantly due to a variety of factors, many of which are outside of our control and are difficult or impossible to predict. We expect our operating results will continue to fluctuate. You should not rely on our past results as an indication of our future performance. If our revenues or operating results fall below the expectations of investors or securities analysts, or below any estimates we may provide to the market, the price of our common shares would likely decline substantially, which could have a material adverse impact on investor confidence and employee retention. Our common stock has experienced substantial price volatility since our initial public offering. In addition, the stock market as a whole has experienced major price and volume fluctuations that have affected the stock price of many technology companies in ways that may have been unrelated to these companies’ operating performance.
Factors that could cause our operating results and stock price to fluctuate include: 
varying demand for our products due to the financial and operating condition of our distributors and their customers, distributor inventory management practices and general economic conditions;
shifts in our fulfillment practices including increasing inventory levels as part of efforts to decrease our delivery lead times;
failure of our suppliers to provide chips or other components;
failure of our contract manufacturers and suppliers to meet our demand;
success and timing of new product introductions by us, and our competitors;
increased warranty costs;

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announcements by us or our competitors regarding products, promotions or other transactions;
costs related to legal proceedings or responding to government inquiries;
our ability to control and reduce product costs; and
expenses of our entry into new markets.
In addition, our business may be subject to seasonality, although our recent growth rates and timing of product introductions may have masked seasonal changes in demand.
We have limited visibility into future sales, which makes it difficult to forecast our future operating results.
Because of our limited visibility into end customer demand and channel inventory levels, our ability to accurately forecast our future revenues is limited. We sell our products and solutions globally to network operators, service providers and others, primarily through our network of distributors. We do not employ a direct sales force. Sales to our distributors have accounted for nearly all of our revenues. Our distributors do not make long-term purchase commitments to us, and do not typically provide us with information about market demand for our products. We endeavor to obtain information on inventory levels and sales data from our distributors. This information has been generally difficult to obtain in a timely manner, and we cannot always be certain that the information is reliable. If we over forecast demand, we may not be able to decrease our expenses in time to offset any shortfall in revenues. If we under forecast demand, our ability to fulfill sales orders will be compromised and sales to distributors may be deferred or lost altogether.
We are subject to risks associated with our distributors’ inventory management practices.
Our distributors purchase and maintain their own inventories of our products, and we do not control their inventory management. Distributors may manage their inventories in a manner that causes significant fluctuations in their purchases from quarter to quarter, and which may not be in alignment with the actual demand of end customers for our products. If some distributors decide to purchase more of our products than are required to satisfy their customers’ demand in any particular quarter, because they do not accurately forecast demand or otherwise, they may reduce future orders until their inventory levels realign with their customers’ demand. If some distributors decide to purchase less of our products than are required to satisfy their customers’ demand in any particular quarter, because they do not accurately forecast demand or otherwise, sales of our products may be deferred or lost altogether.
If our forecasts of future sales are inaccurate, we may manufacture too many or not enough products.
We may over or under forecast our customers’ actual demand for our products or the actual mix of our products that they will ultimately demand. If we over-forecast demand, we may build excess inventory which could materially adversely affect our operating results. If we under-forecast demand, we may miss opportunities for sales and may impair our customer relationships, which could materially adversely affect our operating results.
The lead times that we face for the procurement of components and subsequent manufacturing of our products are usually much longer than the lead time from our customers’ orders to the expected delivery date. This increases the risk that we may manufacture too many or not enough products in any given period.
We may decide to increase or maintain higher levels of inventory.
With the use of third-party logistics and warehousing providers, we may decide to increase or maintain higher levels of inventory of finished products or components, which may expose us to a greater risk of carrying excess or obsolete inventory. Decisions to increase or maintain higher inventory levels are typically based upon uncertain forecasts or other assumptions. If the assumptions on which we base these decisions turn out to be incorrect, our financial performance could suffer and we could be required to write-off the value of excess products or components inventory.
We rely on a limited number of distributors, and changes in our relationships with our distributors or changes within our distributors may disrupt our sales.
Although we have a large number of distributors in numerous countries who sell our products, a limited number of these distributors represent a significant portion of our sales. One or more of our major distributors may suffer from a decline in their financial condition, decrease in demand from their customers, or a decline in other aspects of their business which could impair their ability to purchase and resell our products. Any distributor may also cease doing business with us at any time with little or no notice. The termination of a relationship with a major distributor, either by us or by the distributor, could result in a temporary or permanent loss of revenues. We may not be successful in finding other suitable distributors on satisfactory terms, or at all, and this could adversely affect our ability to sell in certain geographic markets or to certain network operators and service providers.

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We may not be able to enhance our products to keep pace with technological and market developments while offering competitive prices.
The market for our wireless broadband networking equipment is emerging and is characterized by rapid technological change, evolving industry standards, frequent new product introductions and short product life cycles. Our ability to keep pace in this market depends upon our ability to enhance our current products, and continue to develop and introduce new products rapidly and at competitive prices. Our ability to compete successfully will depend in large measure on our ability to maintain a technically skilled development and engineering staff, to successfully innovate, and to adapt to technological changes and advances in the industry. Development and delivery schedules for our products are difficult to predict. We may fail to introduce new versions of our products in a timely fashion. If new releases of our products are delayed, our distributors may curtail their efforts to market and promote our products and our users may switch to competing products.
The markets in which we compete are highly competitive.
The networking, enterprise WLAN, solar, video surveillance, wireless backhaul and machine-to-machine communications markets in which we primarily compete are highly competitive and are influenced by competitive factors including:
our ability to rapidly develop and introduce new high performance integrated solutions;
the price and total cost of ownership and return on investment associated with the solutions;
the simplicity of deployment and use of the solutions;
the reliability and scalability of the solutions;
the market awareness of a particular brand;
our ability to provide secure access to wireless networks;
our ability to offer a suite of products and solutions;
our ability to allow centralized management of the solutions; and
our ability to provide quality product support.
New entrants seeking to gain market share by introducing new technology and new products may also make it more difficult for us to sell our products, and could create increased pricing pressure. In addition, broadband equipment providers or system integrators may also offer wireless broadband infrastructure equipment for free or as part of a bundled offering, which could force us to reduce our prices or change our selling model to remain competitive.
If there is a 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, we could experience a significant decline in sales because our products would not be interoperable.