UBIQUITI INC. filed this 10-Q on 05/09/14
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UBIQUITI INC. - 10-Q - 20140509 - PART_I
PART I: FINANCIAL INFORMATION

Item 1.  Financial Statements
UBIQUITI NETWORKS, INC.
Condensed Consolidated Balance Sheets
(In thousands, except share data)
(Unaudited)  
 
March 31, 2014
 
June 30, 2013 (1)
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
291,670

 
$
227,826

Accounts receivable, net of allowance for doubtful accounts of $1,400 and $2,200, respectively
49,530

 
35,884

Inventories
66,004

 
15,880

Current deferred tax asset
903

 
733

Prepaid income taxes
5,052

 
—

Prepaid expenses and other current assets
11,578

 
3,151

Total current assets
424,737

 
283,474

Property and equipment, net
7,174

 
5,976

Long-term deferred tax asset
—

 
4

Other long–term assets
2,662

 
2,886

Total assets
$
434,573

 
$
292,340

Liabilities and Stockholders’ Equity
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
46,375

 
$
36,187

Customer deposits
4,347

 
5,123

Deferred revenues
1,126

 
691

Income taxes payable
—

 
1,257

Debt - short-term
6,269

 
5,013

Other current liabilities
9,746

 
11,150

Total current liabilities
67,863

 
59,421

Long-term taxes payable
14,012

 
11,857

Debt - long-term
66,139

 
71,116

Deferred revenues - long-term
2,670

 
2,510

Total liabilities
150,684

 
144,904

Commitments and contingencies (Note 8)

 

Stockholders’ equity:
 
 
 
Preferred stock—$0.001 par value; 50,000,000 shares authorized; none issued
—

 
—

Common stock—$0.001 par value; 500,000,000 shares authorized:
 
 
 
88,064,987 and 87,213,803 outstanding at March 31, 2014 and June 30, 2013, respectively
88

 
87

Additional paid–in capital
143,915

 
134,982

Treasury stock—44,238,960 shares held in treasury at March 31, 2014 and June 30, 2013
(123,864
)
 
(123,864
)
Retained earnings
263,750

 
136,231

Total stockholders’ equity
283,889

 
147,436

Total liabilities and stockholders’ equity
$
434,573

 
$
292,340

(1) Derived from audited consolidated financial statements as of and for the year ended June 30, 2013.

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 March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
Revenues
$
148,331

 
$
83,155

 
$
416,457

 
$
219,591

Cost of revenues
82,719

 
47,690

 
231,851

 
128,621

Gross profit
65,612

 
35,465

 
184,606

 
90,970

Operating expenses:
 
 
 
 
 
 
 
Research and development
9,413

 
5,677

 
23,807

 
15,440

Sales, general and administrative
6,064

 
6,285

 
17,648

 
16,133

Total operating expenses
15,477

 
11,962

 
41,455

 
31,573

Income from operations
50,135

 
23,503

 
143,151

 
59,397

Interest expense and other, net
(283
)
 
(287
)
 
(778
)
 
(570
)
Income before provision for income taxes
49,852

 
23,216

 
142,373

 
58,827

Provision for income taxes
4,653

 
2,549

 
14,854

 
7,178

Net income and comprehensive income
$
45,199

 
$
20,667

 
$
127,519

 
$
51,649

Net income per share of common stock:
 
 
 
 
 
 
 
Basic
$
0.51

 
$
0.24

 
$
1.45

 
$
0.58

Diluted
$
0.50

 
$
0.23

 
$
1.42

 
$
0.57

Weighted average shares used in computing net income per share of common stock:
 
 
 
 
 
 
 
Basic
87,901

 
87,004

 
87,656

 
88,702

Diluted
89,775

 
88,953

 
89,667

 
90,656

Cash dividends declared per common share
$
—

 
$
—

 
$
—

 
$
0.18

See notes to condensed consolidated financial statements.


4

UBIQUITI NETWORKS, INC.
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)  
 
Nine Months Ended March 31,
 
2014
 
2013
Cash Flows from Operating Activities:
 
 
 
Net income and comprehensive income
$
127,519

 
$
51,649

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
2,038

 
1,262

Provision for inventory obsolescence
2,045

 
1,075

Deferred taxes
1,989

 
—

Excess tax benefit from employee stock-based awards
(5,279
)
 
(414
)
Stock-based compensation
3,630

 
2,249

Loss on disposal of fixed assets
45

 
150

Write-off of intangible assets
229

 
—

Provision for doubtful accounts
(658
)
 
1,596

Changes in operating assets and liabilities:
 
 
 
Accounts receivable
(12,988
)
 
35,631

Inventories
(52,169
)
 
(12,722
)
Deferred cost of revenues
(82
)
 
(541
)
Prepaid income taxes
(5,052
)
 
—

Prepaid expenses and other assets
(8,335
)
 
(1,461
)
Accounts payable
10,136

 
5,030

Taxes payable
4,022

 
3,655

Deferred revenues
595

 
1,036

Accrued liabilities and other
(2,151
)
 
(2,511
)
Net cash provided by operating activities
65,534

 
85,684

Cash Flows from Investing Activities:
 
 
 
Purchase of property and equipment and other long-term assets
(3,244
)
 
(4,408
)
Net cash used in investing activities
(3,244
)
 
(4,408
)
Cash Flows from Financing Activities:
 
 
 
Proceeds from term loan
—

 
50,833

Repayments on term loan balance
(3,750
)
 
(3,083
)
Repurchases of common stock
—

 
(54,354
)
Payment of special common stock dividend
—

 
(15,652
)
Proceeds from exercise of stock options
1,783

 
306

Excess tax benefit from employee stock-based awards
5,279

 
414

Tax withholdings related to net share settlements of restricted stock units
(1,758
)
 
(111
)
Net cash provided by (used in) financing activities
1,554

 
(21,647
)
Net increase in cash and cash equivalents
63,844

 
59,629

Cash and cash equivalents at beginning of period
227,826

 
122,060

Cash and cash equivalents at end of period
$
291,670

 
$
181,689

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 the Company changed its name to Ubiquiti Networks, Inc. and commenced its current operations. In June 2010, the Company was re-incorporated in Delaware.
Ubiquiti Networks, Inc. and its wholly owned subsidiaries (collectively, “Ubiquiti” or the “Company”) develops high performance networking technology for service providers and enterprises.
On October 13, 2011, the Company entered into an underwriting agreement for its initial public offering of 7,038,230 shares of its common stock at $15.00 per share. The Company's initial public offering closed on October 19, 2011. Immediately prior to the closing of the initial public offering, all outstanding shares of the Company’s preferred stock converted to common stock on a one for one basis.
On June 18, 2013, the Company completed a secondary offering of 7,031,464 shares of common stock at an offering price of $16.00 per share, which included 531,464 shares sold in connection with the partial exercise of the option to purchase additional shares granted to the underwriters. All of the shares sold in the offering were sold by existing stockholders of the Company, including entities affiliated with Summit Partners, L.P., and the Company's chief executive officer, Robert J. Pera. No shares were sold by the Company in the offering, and as such, the Company did not receive any proceeds from the offering.
The Company operates on a fiscal year ending June 30. In this Quarterly Report, the fiscal year ending June 30, 2014 is referred to as “fiscal 2014 ” and the fiscal year ended June 30, 2013 is referred to as “fiscal 2013 .”
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, 2013 balance sheet was derived from the audited financial statements as of that date. All significant intercompany transactions and balances have been eliminated.
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, 2013 included in its Annual Report on Form 10-K, as filed on September 13, 2013 with the SEC (the “Annual Report”). The results of operations for the three and nine months ended March 31, 2014 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, 2013 included in the Annual Report. Unless otherwise noted below, the Company's significant accounting policies have not changed since June 30, 2013 .
Advertising Costs
The Company expenses all advertising costs as incurred. Advertising costs totaled $1.8 million and $2.4 million during the three and nine months ended March 31, 2014 . Advertising costs during the three and nine months ended March 31, 2013 were not significant.
Recent Accounting Pronouncements
In July 2013, the FASB issued a new accounting standard update on the financial statement presentation of unrecognized tax benefits. The new guidance provides that a liability related to an unrecognized tax benefit would be presented as a reduction of a deferred tax asset for a new operating loss carryforward, a similar tax loss or a tax credit carryforward if such settlement is required or expected in the event the uncertain tax position is disallowed. The new guidance will become effective for the Company on July 1, 2014 and it should be applied prospectively to unrecognized tax benefits that exist as of the effective date with retrospective application permitted. The Company is currently assessing the impact of this new guidance.

6

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 cash, accounts receivable and accounts payable, the carrying amounts approximate fair value due to their short maturities, and are therefore excluded from the fair value tables below. Additionally, as of March 31, 2014 , we held $274.9 million of our $291.7 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 were to repatriate those amounts.

At March 31, 2014 and June 30, 2013 the Company had debt associated with its Loan and Security Agreement with East West 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 determined to be a Level 2 measurement.
As of March 31, 2014 and June 30, 2013 , the fair value hierarchy for the Company’s financial liabilities was as follows (in thousands):
 
March 31, 2014
 
June 30, 2013
 
Fair
Value
 
Level 1
 
Level 2
 
Level 3
 
Fair
Value
 
Level 1
 
Level 2
 
Level 3
Debt
$
72,408

 
$
—

 
$
72,408

 
$
—

 
$
76,129

 
$
—

 
$
76,129

 
$
—



7

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 March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
Numerator:

 
 
Net income attributable to common stockholders
$
45,199

 
$
20,667

 
$
127,519

 
$
51,649

Denominator:

 
 
Weighted-average shares used in computing basic net income per share
87,901

 
87,004

 
87,656

 
88,702

Add—dilutive potential common shares:



 
 
 
 
Stock options
1,646


1,803

 
1,754

 
1,808

Restricted stock units
228


146

 
257

 
146

Weighted-average shares used in computing diluted net income per share
89,775


88,953

 
89,667

 
90,656

Net income per share of common stock:

 
 
Basic
$
0.51


$
0.24

 
$
1.45

 
$
0.58

Diluted
$
0.50


$
0.23

 
$
1.42

 
$
0.57


The Company excludes certain 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, because to include them would have been anti-dilutive for the period (in thousands):
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
Stock options
—

 
655

 
—

 
356

Restricted stock units
6

 
205

 
85

 
129

 
6

 
860

 
85

 
485

NOTE 5—BALANCE SHEET COMPONENTS
Inventories
Inventories consisted of the following (in thousands):
 
March 31, 2014

June 30, 2013
Finished goods
$
65,622

 
$
15,618

Raw materials
382

 
262

 
$
66,004

 
$
15,880


Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consisted of the following (in thousands):
 
March 31, 2014
 
June 30, 2013
Vendor deposits
$
8,043

 
$
—

Non-trade receivables
1,727

 
2,203

Other current assets
1,808

 
948

 
$
11,578

 
$
3,151








8


Property and Equipment, Net
Property and equipment, net consisted of the following (in thousands):
 
March 31, 2014
 
June 30, 2013
Testing equipment
$
3,677

 
$
3,309

Computer and other equipment
1,009

 
841

Tooling equipment
2,854

 
1,737

Furniture and fixtures
768

 
652

Leasehold improvements
2,902

 
1,858

Software
343

 
245

 
11,553

 
8,642

Less: Accumulated depreciation and amortization
(4,379
)
 
(2,666
)
 
$
7,174

 
$
5,976


Other Long-term Assets
Other long-term assets consisted of the following (in thousands):
 
March 31, 2014
 
June 30, 2013
Long-term deferred cost of revenues
$
1,218

 
$
1,185

Intangible assets, net
815

 
1,029

Other long-term assets
629

 
672

 
$
2,662

 
$
2,886


The Company's intangible assets consist primarily of legal costs associated with the application for and registration of the Company’s trademarks. The Company recorded  $25,000  and $200,000 of amortization of intangible assets during the three and nine months ended March 31, 2014 , respectively. The Company did no t record any amortization of intangible assets during the three and nine months ended March 31, 2013 . The balance of accumulated amortization was $400,000 and $200,000 at March 31, 2014 and June 30, 2013 , respectively. Estimated future amortization related to trademark registration fees is $37,000 , $244,000 , $244,000 , $222,000 , $61,000 and $7,000 for the remainder of fiscal 2014 and fiscal years 2015, 2016, 2017, 2018, and thereafter, respectively.

Other Current Liabilities
Accrued liabilities consisted of the following (in thousands):
 
March 31, 2014
 
June 30, 2013
Warranty accrual
$
2,950

 
$
2,913

Accrued compensation and benefits
2,724

 
2,712

Accrual for an export compliance matter
—

 
1,625

Other accruals
4,072

 
3,900

 
$
9,746

 
$
11,150

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 within cost of revenues. The warranties are typically in effect for 12 months from the distributor’s purchase date of the product. The Company’s estimate of future warranty costs is largely based on historical experience factors including product failure rates, material usage, and service delivery cost incurred in correcting product failures. 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.





9


Warranty obligations, included in other current liabilities, were as follows (in thousands):
 
Nine Months Ended March 31,
 
2014
 
2013
Beginning balance
$
2,913

 
$
1,381

Accruals for warranties issued during the period
3,287

 
1,684

Warranty costs incurred during the period
(3,250
)
 
(1,115
)
 
$
2,950

 
$
1,950

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 provides 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 (the “Revolving Credit Facility”), and (ii) a $50.0 million term loan facility (the “Term Loan Facility”). The Company may request borrowings under the Revolving Credit Facility until August 7, 2015. The Loan Agreement replaced a previous agreement whereby the Company had an existing term loan balance of $29.2 million as of the date the new Loan Agreement. On August 7, 2012, the Company borrowed $20.8 million under the Term Loan Facility, and no borrowings remain available for borrowing thereunder. On November 21, 2012, the Company borrowed $10.0 million under the Revolving Credit Facility. On December 20, 2012, the Company borrowed an additional $20.0 million under the Revolving Credit Facility, and $20.0 million remains available for borrowing thereunder.

The loans bear interest, at the Company’s option, at the base rate plus a spread of 1.25% to 1.75% or an adjusted LIBOR rate (at the Company’s election, for a period of 30 , 60 , or 90 days) plus a spread of 2.25% to 2.75% , in each case with such spread being determined based on the debt service coverage ratio for its most recently ended fiscal quarter. The base rate is the highest of (i) East West Bank’s prime rate, (ii) the federal funds rate plus a margin equal to 0.50% , or (iii) the LIBOR rate plus a margin equal to 1.00% . The Company is also obligated to pay other customary closing fees, arrangement fees, administration fees, commitment fees and letter of credit fees for a credit facility of this size and type.
Interest is due and payable monthly in arrears in the case of loans bearing interest at the base rate and at the end of an interest period in the case of loans bearing interest at the adjusted LIBOR rate. Principal payments under the Term Loan Facility will be made in quarterly installments on the first day of each calendar quarter, and each such quarterly installment shall be equal to $1.25 million through July 1, 2014, then equal to $1.875 million from October 1, 2014 through July 1, 2015, and then equal to $2.5 million from October 1, 2015 through July 1, 2017, with the remaining outstanding principal balance and all accrued and unpaid interest due on August 7, 2017. All outstanding loans under the Revolving Credit Facility, together with all accrued and unpaid interest, are due on August 7, 2015.
The Company may prepay the loans, in whole or in part, at any time without premium or penalty, subject to certain conditions including minimum amounts and reimbursement of certain costs in the case of prepayments of LIBOR loans. In addition, the Company is required to prepay the loan under the Term Loan Facility with (i) the proceeds from certain financing transactions or asset sales (subject, in the case of asset sales, to reinvestment rights) and (ii) 25.0% of the Company’s excess cash flow in the U.S., as determined after each fiscal year and in accordance with the Loan Agreement, provided that the Company shall not be required to prepay the loan out of its excess cash flow if its leverage ratio is greater than 1.50 : 1.00 on the last day of such fiscal year.
All of the obligations of the Company under the Loan Agreement are collateralized by substantially all of the Company’s assets, including all of the capital stock of the Company’s future domestic subsidiaries and 65% of the capital stock of the Company’s existing and future foreign subsidiaries, but excluding the Company’s intellectual property, which is subject to a negative pledge agreement. All of the Company’s future domestic subsidiaries are required to guaranty the obligations under the Loan Agreement. Such guarantees by future subsidiaries will be collateralized by substantially all of the property of such subsidiaries, excluding intellectual property.
The Loan Agreement contains customary affirmative and negative covenants, including covenants that limit or restrict the Company and its subsidiaries’ ability to, among other things, incur indebtedness, grant liens, merge or consolidate, dispose of assets, pay dividends or make distributions, make investments, make acquisitions, prepay certain indebtedness, change the nature of its business, enter into certain transactions with affiliates, enter into restrictive agreements, and make capital expenditures, in each case subject to customary exceptions for a credit facility of this size and type. The Company is also required to maintain a minimum debt service coverage ratio, a maximum leverage ratio, and a minimum liquidity ratio. As of

10

March 31, 2014 , the Company was in compliance with all affirmative and negative covenants, debt service coverage ratio, leverage ratio and liquidity ratio requirements.
The Loan Agreement includes customary events of default that include, among other things, defaults for the failure to timely pay principal, interest, or other amounts due, defaults due to the inaccuracy of representations and warranties, covenant defaults, a cross default to material indebtedness, bankruptcy and insolvency defaults, material judgment defaults, defaults due to the unenforceability of a guaranty, and defaults due to circumstances that have or could reasonably be expected to have a material adverse effect on the Company's business, operations or financial condition, its ability to pay or perform under the Loan Agreement, or on the lenders' security interests. The occurrence of an event of default could result in the acceleration of the obligations under the Loan Agreement. During the existence of an event of default, interest on the obligations under the Loan Agreement could be increased by 2.00% above the otherwise applicable interest rate.
During the three and nine months ended March 31, 2014 , the Company made aggregate payments of $1.3 million and $3.8 million , respectively, against the loan balance. During the three and nine months ended March 31, 2013 , the Company made aggregate payments of $1.3 million and $3.1 million , respectively, against the loan balance. As of March 31, 2014 , the Company has classified $6.3 million and $66.1 million in short-term and long-term debt, respectively, on its condensed consolidated balance sheet related to the Loan Agreement.

The following table summarizes our estimated debt and interest payment obligations as of March 31, 2014 for the remainder of fiscal 2014 and future fiscal years (in thousands):
 
2014 (remainder)
 
2015
 
2016
 
2017
 
2018
 
Total
Debt payment obligations
$
1,250

 
$
6,875

 
$
39,375

 
$
10,000

 
$
15,000

 
$
72,500

Interest payments on debt payment obligations
446

 
1,723

 
1,043

 
532

 
125

 
3,869

Total
$
1,696

 
$
8,598

 
$
40,418

 
$
10,532

 
$
15,125

 
$
76,369


On May 5, 2014, the Company entered into a 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. In connection with the execution of the credit agreement, the Company terminated and repaid all outstanding obligations under the Term Loan Facility and Revolving Credit Facility under the Loan Agreement described above. Please see Part 1, Item 1, Note 14 below for a full description of the credit agreement.
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 fiscal 2019 .
At March 31, 2014 , future minimum annual payments under operating leases for the remainder of fiscal 2014 and future fiscal years are as follows (in thousands):
 
2014
(remainder)
 
2015
 
2016
 
2017
 
2018
 
Thereafter
 
Total
Operating leases
$
633

 
$
2,503

 
$
2,497

 
$
1,537

 
$
297

 
$
53

 
$
7,520

Purchase Commitments
The Company 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  $20.9 million  in non-cancelable purchase commitments as of  March 31, 2014 , the related expenses of which are expected to be incurred in future periods. The Company did not have any non-cancelable purchase commitments as of June 30, 2013 .



11

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 Ubiquiti 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 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.
Export Compliance Matters
In May 2011, the Company filed a self-disclosure statement with the U.S. Commerce Department, Bureau of Industry and Security’s (“BIS”) Office of Export Enforcement (“OEE”) relating to a review conducted by the Company regarding certain export transactions from 2008 through March 2011 in which products may have been later resold into Iran by third parties. In June 2011, the Company also filed a self-disclosure statement with the U.S. Department of the Treasury’s Office of Foreign Asset Control (“OFAC”) regarding these compliance issues. In August 2011, the Company received a warning letter from OEE stating that OEE had not referred the findings of the Company’s review for criminal or administrative prosecution and closed the investigation of the Company without penalty. Based upon its review of the matter, OFAC identified certain apparent violations (“Apparent Violations”) of the Iranian Transactions and Sanctions Regulations by the Company during the period of in or about March 2008 through in or about February 2011. On March 4, 2014, the Company entered into a settlement agreement with OFAC resolving this administrative matter. Pursuant to the terms of the settlement agreement, the Company agreed to make a one-time payment to the U.S. Department of the Treasury in the amount of $504,000 in consideration of OFAC agreeing to release and forever discharge the Company from any and all civil liability in connection with the Apparent Violations. The Company previously accrued a reserve of $1.6 million relating to this matter in fiscal 2010 and, accordingly, reversed the excess of the accrual of $1.1 million as of the effective date of the settlement agreement.

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. (the “Company”), 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. The Company filed a motion to dismiss the complaint, and on March 26, 2014, the court issued an order granting the motion to dismiss with leave to amend the complaint. Following the plaintiffs’ decision not to file an amended complaint, on April 16, 2014 the court ordered the dismissal of the shareholder class action lawsuit with prejudice, and entered judgment in favor of the Company and the other defendants, and against the plaintiffs. The plaintiffs may appeal the court’s decision.
NOTE 9—COMMON STOCK AND TREASURY STOCK
As of March 31, 2014 and June 30, 2013 , the authorized capital of the Company included 500,000,000 shares of common stock. As of March 31, 2014 , 132,303,947 shares of common stock were issued and 88,064,987 were outstanding. As of June 30, 2013 , 131,452,763 shares of common stock were issued and 87,213,803 were outstanding.
Common Stock Repurchases
On August 9, 2012, the Company announced that its Board of Directors authorized the Company to repurchase up to $100 million of its common stock. The share repurchase program commenced August 13, 2012 and expired on August 12, 2013. The

12

share repurchase program was funded with proceeds from the Loan Agreement as discussed in Note 7 and from existing cash on hand.

Common stock repurchase activity under the share repurchase program was as follows (in thousands, except share and per share amounts):
Period
Total Number
of Shares
Purchased
 
Average Price
Paid per Share
 
Estimated remaining balance available for share repurchase
August 13, 2012 – August 31, 2012
2,179,900

 
$
8.88

 
$
80,599

September 1, 2012 – September 30, 2012
992,014

 
$
11.93

 
$
68,742

October 1, 2012 - October 31, 2012
371,665

 
$
11.72

 
$
64,377

November 1, 2012 - November 30, 2012
657,700

 
$
11.16

 
$
57,024

December 1, 2012 - December 31, 2012
957,771

 
$
11.86

 
$
45,646

Total
5,159,050

 
$
10.52

 
$
45,646

The Company did no t repurchase any of its common stock from January 1, 2013 through August 12, 2013, the date that the plan expired.
Special Dividend

On December 14, 2012, the Company announced that its Board of Directors had authorized a special cash dividend of $0.18 per share for each share of common stock outstanding on December 24, 2012. The aggregate dividend payment of $15.7 million was paid on December 28, 2012 to stockholders of record on December 24, 2012. The dividend payment was funded using proceeds from the Loan Agreement as discussed in Note 7.
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 March 31, 2014 , the Company had 9,916,169 authorized shares available for future issuance under all of its stock incentive plans.

13

Stock-based Compensation
The following table shows total stock-based compensation expense included in the Condensed Consolidated Statements of Operations for the three and nine months ended March 31, 2014 and 2013 (in thousands):
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014

2013
 
2014
 
2013
Cost of revenues
$
153

 
$
124

 
$
445

 
$
309

Research and development
630

 
324

 
1,679

 
991

Sales, general and administrative
258

 
252

 
1,506

 
949

 
$
1,041


$
700

 
$
3,630

 
$
2,249

Stock Options
The following is a summary of option activity for the Company’s stock incentive plans for the nine months ended March 31, 2014 :
 
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, 2013
3,614,262

 
$
3.07

 
 
 
 
Exercised
(749,237
)
 
2.38

 
 
 
 
Forfeitures and cancellations
(107,318
)
 
10.55

 
 
 
 
Balance, March 31, 2014
2,757,707

 
$
2.96

 
5.36
 
$
117,166

Vested and expected to vest as of March 31, 2014
2,730,108

 
$
2.88

 
5.33
 
$
116,212

Vested and exercisable as of March 31, 2014
2,240,079

 
$
1.44

 
4.73
 
$
98,595

During the three months ended March 31, 2014 and 2013 , the aggregate intrinsic value of options exercised under the Company’s stock incentive plans was $13.2 million and $1.1 million , respectively, as determined as of the date of option exercise. During the nine months ended March 31, 2014 and 2013 , the aggregate intrinsic value of options exercised under the Company’s stock incentive plans was $26.9 million and $1.5 million , respectively, as determined as of the date of option exercise.

As of March 31, 2014 , the Company had unrecognized compensation costs of $2.3 million related to stock options which the Company expects to recognize over a weighted-average period of 2.4 years. 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 being 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 nine months ended March 31, 2014 . For the three and nine months ended March 31, 2013 , the fair value of employee stock options was estimated using the following weighted average assumptions:
 
Three Months Ended March 31, 2013
 
Nine Months Ended March 31, 2013
Expected term
6.1 years

 
6.1 years

Expected volatility
52
%
 
52
%
Risk-free interest rate
1.0
%
 
0.8
%
Expected dividend yield
—

 
—

Weighted average grant date fair value
$
6.69

 
$
5.51



14

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
Non-vested RSUs, June 30, 2013
744,906

 
$
14.74

RSUs granted
193,528

 
37.72

RSUs vested
(149,697
)
 
15.28

RSUs canceled
(223,124
)
 
22.01

Non-vested RSUs, March 31, 2014
565,613

 
$
19.59

The intrinsic value of RSUs vested in the three months ended March 31, 2014 and 2013 was $2.4 million and $389,000 , respectively. The intrinsic value of RSUs vested in the nine months ended March 31, 2014 and 2013 was $5.3 million and $622,000 , respectively.
As of March 31, 2014 , there was unrecognized compensation costs related to RSUs of $10.1 million which the Company expects to recognize over a weighted average period of 3.4 years.
NOTE 11—INCOME TAXES
As of March 31, 2014 , the Company had approximately $13.8 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 March 31, 2014 , an insignificant amount of interest and penalties are included in long-term income tax payable. The Company recorded an increase of its unrecognized tax benefits of $535,000 for the three months ended March 31, 2014 . The Company does not expect any significant increases or decreases to its unrecognized tax benefits in the next twelve months.
The Company recorded income tax provisions of $4.7 million and $14.9 million for the three and nine months ended March 31, 2014 , respectively. The Company’s estimated 2014 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 years from 2009 and onwards could be subject to examinations by tax authorities.
NOTE 12—SEGMENT INFORMATION, REVENUES BY GEOGRAPHY AND SIGNIFICANT CUSTOMERS

During the first quarter of fiscal 2014, the Company began presenting its revenues by product type in two primary categories, Service Provider Technology and Enterprise Technology. These categories better represent how the Company's business is managed and benchmarked internally, and better reflect the Company’s end user customer delineation.

•
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 2.0 to 6.0GHz spectrum and miscellaneous products such as mounting brackets, cables and power over Ethernet adapters.

•
Enterprise Technology includes the Company's UniFi, mFi and airVision platforms.

Revenues by product type for the three and nine months ended March 31, 2014 and 2013 were as follows (in thousands, except percentages):
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
Service Provider Technology
$
120,987

 
82
%
 
$
75,475

 
91
%
 
$
326,658

 
78
%
 
$
195,262

 
89
%
Enterprise Technology
27,344

 
18
%
 
7,680

 
9
%
 
89,799

 
22
%
 
24,329

 
11
%
Total revenues
$
148,331

 
100
%
 
$
83,155

 
100
%
 
$
416,457

 
100
%
 
$
219,591

 
100
%

15

The Company generally forwards products directly from its manufacturers to its customers via logistics distribution hubs in Asia.  Beginning in the quarter ended December 31, 2012, the Company's products were predominantly routed through a third party logistics provider in China and prior to the quarter ended December 31, 2012, the Company's products were predominantly delivered to its customers through distribution hubs in Hong Kong.  The Company's logistics provider, in turn, ships to other locations throughout the world. The Company has determined the geographical distribution of product revenues based upon the customer's ship-to destinations.
Revenues by geography were as follows (in thousands, except percentages):
 
Three Months Ended March 31,

Nine Months Ended March 31,
 
2014

2013

2014

2013
North America(1)
$
29,178


20
%

$
21,052


25
%

$
99,178


24
%

$
53,519


24
%
South America
25,059


17
%

18,496


22
%

73,827


18
%

45,820


21
%
Europe, the Middle East and Africa
77,883


52
%

31,617


38
%

189,591


45
%

90,690


41
%
Asia Pacific
16,211


11
%

11,990


15
%

53,861


13
%

29,562


14
%
Total revenues
$
148,331


100
%

$
83,155


100
%

$
416,457


100
%

$
219,591


100
%
 
(1)
Revenue for the United States was $27.7 million and $19.7 million for the three months ended March 31, 2014 and 2013 , respectively. Revenue for the United States was $95.0 million and $50.5 million for the nine months ended March 31, 2014 and 2013 , 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 March 31,
 
Nine Months Ended March 31,
 
March 31,
 
June 30,
 
2014

2013
 
2014
 
2013
 
2014
 
2013
Customer A
11
%
 
15
%
 
13
%
 
13
%
 
12
%
 
12
%
Customer B
10
%
 
*

 
*

 
*

 
15
%
 
*

Customer C
*

 
*

 
*

 
*

 
14
%
 
11
%
Customer D
*

 
*

 
*

 
*

 
*

 
15
%
 * denotes less than 10%

NOTE 13—RELATED PARTY TRANSACTIONS AND CERTAIN OTHER TRANSACTIONS

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 will purchase from a third-party provider. The Company recognized a total of approximately $120,000 in expenses pursuant to the Aircraft Lease Agreement during the three months ended March 31, 2014 . 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—SUBSEQUENT EVENTS

On May 5, 2014, the Company and certain of its subsidiaries entered into a credit agreement (the “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 provides for a $150 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 million (any such increase to be in each lender’s sole discretion). The Company may borrow up to $110 million of the facility as a U.S. sublimit. The entire amount of the facility is available to Ubiquiti International Holding Company Limited, a wholly-owned subsidiary of the Company organized under the laws of the Cayman Islands. The credit facility includes a sub-limit of $5 million for letters of credit and a sub-limit of $15 million for swingline loans. In connection with the execution of the Credit Agreement, the Company terminated the $50 million line of credit facility under the Loan Agreement described in Note 7, “Debt”. Under the Credit

16

Agreement, revolving loans and swingline loans may be borrowed, repaid and reborrowed until May 5, 2019, at which time all amounts borrowed must be repaid. Additionally, $72.3 million is currently outstanding under the Credit Agreement, which was borrowed by the Company to repay obligations under the Loan Agreement and to pay transaction fees and costs. Revolving 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 0.250% and 1.000% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter or (ii) a per annum rate equal to the applicable LIBOR rate for a specified period, plus a margin of between 1.250% and 2.000% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter. Swingline loans will bear interest at a floating rate per annum equal to the base rate plus a margin of between 0.250% and 1.000% , 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 0.500% or (C) a per annum rate equal to the rate at which dollar deposits are offered in the London interbank market for a period of one month plus 1.000% . A default interest rate shall apply on all obligations during a payment event of default under the Credit Agreement at a rate per annum equal to 2.000% 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 loans, of between 0.200% and 0.350% , depending on the Company’s leverage ratio as of the most recently ended fiscal quarter. Revolving loans and swingline loans may be prepaid at any time without penalty. The Company is also obligated to pay Wells Fargo, as agent, fees customary for a credit facility of this size and type.

The Credit Agreement requires the Company to maintain a maximum leverage ratio and a minimum interest coverage ratio during the term of the credit facility. In addition, the 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 subsidiary indebtedness, in each case subject to customary exceptions for a credit facility of this size and type. The 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 Credit Agreement. The credit facility under the Credit Agreement expires May 5, 2019.

The obligations of the Company and its subsidiaries under the Credit Agreement are collateralized by substantially all assets (excluding intellectual property) of the Company and its subsidiaries.

Wells Fargo and the lenders party to the Credit Agreement, and certain of their respective affiliates, have provided, and in the future may provide, financial, banking and related services to the Company. These parties have received, and in the future may receive, compensation from the Company for these services.
 
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 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, and machine-to-machine communication components. We believe that our products are highly differentiated due to our proprietary

17

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 ("VARs"), 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 from 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 of 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 optimizing 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.
Our revenues increased 78% to $148.3 million in the three months ended March 31, 2014 from $83.2 million in the three months ended March 31, 2013 . Our revenues increased 90% to $416.5 million in the nine months ended March 31, 2014 from $219.6 million in the nine months ended March 31, 2013 . We believe the overall increase in revenues during the three and nine months ended March 31, 2014 was driven by increased adoption of our service provider and enterprise technologies. Additionally, during three and nine months ended March 31, 2013 , we believe we experienced lost sales due to the proliferation of counterfeit versions of our products. We believe these factors contributed to a buildup in channel inventory with our distributors, further impacting our revenues. We had net income of $45.2 million and $20.7 million in the three months ended March 31, 2014 and 2013 , respectively. We had net income of $127.5 million and $51.6 million in the nine months ended March 31, 2014 and 2013 , respectively. The increase in net income in both the three and nine months ended March 31, 2014 as compared to the same periods in the prior year was primarily due to the increase in revenues.
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 Customer Premise Equipment (“CPE”). Additionally, Service Provider Technology includes antennas and other products in the 2.0 to 6.0GHz spectrum and miscellaneous products such as mounting brackets, cables and power over Ethernet adapters.

•
Enterprise Technology includes the Company's UniFi, mFi and airVision platforms.

18

We sell substantially all of our products through a limited number of distributors and other channel partners, such as resellers and OEMs. Sales to distributors accounted for 99% and 98% of our revenues in the three months ended March 31, 2014 and 2013 , respectively. Sales to distributors accounted for 99% and 97% of our revenues in the nine months ended March 31, 2014 and 2013 , respectively. Other channel partners, such as resellers and OEMs, largely accounted for the balance of our revenues. We sell our products without any right of return.
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 tooling, labor and other costs associated with engineering, testing and quality assurance, warranty costs, stock-based compensation, logistics related 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, foreign exchange rates 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 on 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, 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 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
In the event that collectability of a receivable from products we have shipped is not probable, we classify those amounts as deferred revenues on our balance sheet until such time as we receive payment of the accounts receivable. We classify the cost of products associated with these deferred revenues as deferred costs of revenues. At March 31, 2014 , $2.3 million of revenue was deferred for transactions where we lacked evidence that collectability of the receivables recorded was reasonably assured. At June 30, 2013 , $2.2 million of revenue was deferred for transactions where we lacked evidence that collectability of the receivables recorded was reasonably assured. The related deferred cost of revenues balance was $1.2 million at both March 31, 2014 and June 30, 2013 .
Also included in our deferred revenues is a portion related to PCS obligations that we estimate we will perform in the future. As of March 31, 2014 and June 30, 2013 , we had deferred revenues of $1.4 million and $1.0 million respectively, related to these obligations.

19

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 on Form 10-K for the fiscal year ended June 30, 2013 , as filed on September 13, 2013 with the SEC, or the Annual Report, and there have been no material changes except as noted below.

Recognition of Revenues

Revenues consist primarily of revenues from the sale of hardware and management tools, as well as the related implied PCS. 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 collectability of the resulting receivable is reasonably assured, we defer recognition of revenue until the receipt of cash. For our sales, evidence of the arrangement consists of an order from a customer. We consider delivery to have occurred once our products have been shipped and title and risk of loss have been transferred. For our sales, these criteria are met at the time the products are transferred to the customer's shipping agent. Our arrangements with customers typically do not include provisions for cancellation, returns, inventory swaps or refunds that would significantly impact recognized revenues.



20

Results of Operations
Comparison of Three and Nine Months Ended March 31, 2014 and 2013
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014

2013
 
2014
 
2013
 
(In thousands, except percentages)
Revenues
$
148,331


100
%

$
83,155


100
%
 
$
416,457

 
100
%
 
$
219,591

 
100
%
Cost of revenues (1)
82,719


56
%

47,690


57
%
 
231,851

 
56
%
 
128,621

 
59
%
Gross profit
65,612


44
%

35,465


43
%
 
184,606

 
44
%
 
90,970

 
41
%
Operating expenses:
 






 
 
 
 
 
 
 
 
Research and development (1)
9,413


6
%

5,677


7
%
 
23,807

 
6
%
 
15,440

 
7
%
Sales, general and administrative (1)(2)
6,064


4
%

6,285


8
%
 
17,648

 
4
%
 
16,133

 
7
%
Total operating expenses
15,477


10
%

11,962


15
%
 
41,455

 
10
%
 
31,573

 
14
%
Income from operations
50,135


34
%

23,503


28
%
 
143,151

 
34
%
 
59,397

 
27
%
Interest expense and other, net
(283
)

*


(287
)

*

 
(778
)
 
*

 
(570
)
 
*

Income before provision for income taxes
49,852


34
%

23,216


28
%
 
142,373

 
34
%
 
58,827

 
27
%
Provision for income taxes
4,653


3
%

2,549


3
%
 
14,854

 
4
%
 
7,178

 
3
%
Net income and comprehensive income
$
45,199


31
%

$
20,667


25
%
 
$
127,519

 
30
%
 
$
51,649

 
24
%
*       Less than 1%







 
 
 
 
 
 
 
 
(1)    Includes stock-based compensation as follows:







 
 
 
 
 
 
 
 
Cost of revenues
$
153




$
124



 
$
445

 
 
 
$
309

 
 
Research and development
630




324



 
1,679

 
 
 
991

 
 
Sales, general and administrative
258




252



 
1,506

 
 
 
949

 
 
Total stock-based compensation
$
1,041




$
700



 
$
3,630

 
 
 
$
2,249

 
 
(2)    Includes gain on reversal of charge for an export compliance matter as follows:
$
(1,121
)
 
 
 
$
—

 
 
 
$
(1,121
)
 
 
 
$
—

 
 
Revenues
Revenues increased $65.2 million , or 78% , from $83.2 million in the three months ended March 31, 2013 to $148.3 million in the three months ended March 31, 2014 . Revenues increased $196.9 million , or 90% , from $219.6 million in the nine months ended March 31, 2013 to $416.5 million in the nine months ended March 31, 2014 . We believe the overall increase in revenues during both the three and nine months ended March 31, 2014 was driven by increased adoption of our service provider and enterprise technologies. Additionally, during the three and nine months ended March 31, 2013 , we believe we experienced lost sales due to the proliferation of counterfeit versions of our products, which also created customer uncertainty regarding the authenticity of their potential purchases.
In the three months ended March 31, 2014 , revenues from Customer A and Customer B represented 11% and 10% of our revenues, respectively. In the nine months ended months ended March 31, 2014 , revenues from Customer A represented 13% of our revenues. In the three and nine months ended March 31, 2013 , revenues from Customer A represented 15% and 13% , respectively.
Revenues by Product Type
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
 
(in thousands, except percentages)
Service Provider Technology
$
120,987

 
82
%
 
$
75,475

 
91
%
 
$
326,658

 
78
%
 
$
195,262

 
89
%
Enterprise Technology
27,344

 
18
%
 
7,680

 
9
%
 
89,799

 
22
%
 
24,329

 
11
%
Total revenues
$
148,331

 
100
%
 
$
83,155

 
100
%
 
$
416,457

 
100
%
 
$
219,591

 
100
%


21

Service Provider Technology revenues increased $45.5 million , or 60% , from $75.5 million in the three months ended March 31, 2013 to $121.0 million in the three months ended March 31, 2014 . Revenues from Service Provider Technologies increased $131.4 million , or 67% , from $195.3 million in the nine months ended March 31, 2013 to $326.7 million in the nine months ended March 31, 2014 . The increases in both periods were primarily due to continued expansion of core infrastructure build-outs in our wireless markets. Additionally, we believe we experienced significant lost sales during the three and nine months ended March 31, 2013 due to the proliferation of counterfeit versions of our products as discussed above, which also created customer uncertainty regarding the authenticity of their potential purchases.
Enterprise Technology revenues increased $19.7 million , or 256% from $7.7 million in the three months ended March 31, 2013 to $27.3 million in the three months ended March 31, 2014 . Enterprise Technology revenues increased $65.5 million , or 269% from $24.3 million in the nine months ended March 31, 2013 to $89.8 million in the nine months ended March 31, 2014 . The increase in Enterprise Technology revenues during both the three and nine months ended March 31, 2014 was due primarily to product expansion and further adoption of our UniFi technology platform.
Revenues by Geography

We generally forward products directly from our contract manufacturers to our customers via logistics distribution hubs in China.  Beginning in the quarter ended December 31, 2012, our products were predominantly routed through a third party logistics provider in China and prior to the quarter ended December 31, 2012, our products were predominantly delivered to our customers through distribution hubs in Hong Kong.  Our logistics provider, in turn, ships to other locations throughout the world. 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 in turn sell to resellers or directly to end customers, which may be different countries than the initial ship-to destination. For the three and nine months ended March 31, 2014 , revenues in all regions increased due to increased adoption of our Service Provider and Enterprise Technologies. Additionally, during the three and nine months ended March 31, 2013 , we believe we experienced lost sales due to the proliferation of counterfeit versions of our products, which also created customer uncertainty regarding the authenticity of their potential purchases.

The following are our revenues by geography for the three and nine months ended March 31, 2014 and 2013 (in thousands, except percentages):
 
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
North America(1)
$
29,178

 
20
%
 
$
21,052

 
25
%
 
$
99,178

 
24
%
 
$
53,519

 
24
%
South America
25,059

 
17
%
 
18,496

 
22
%
 
73,827

 
18
%
 
45,820

 
21
%
Europe, the Middle East and Africa
77,883

 
52
%
 
31,617

 
38
%
 
189,591

 
45
%
 
90,690

 
41
%
Asia Pacific
16,211

 
11
%
 
11,990

 
15
%
 
53,861

 
13
%
 
29,562

 
14
%
Total revenues
$
148,331

 
100
%
 
$
83,155

 
100
%
 
$
416,457

 
100
%
 
$
219,591

 
100
%
 
(1)
Revenue for the United States was $27.7 million and $19.7 million for the three months ended March 31, 2014 and 2013 , respectively. Revenue for the United States was $95.0 million and $50.5 million for the nine months ended March 31, 2014 and 2013 , respectively.
Cost of Revenues and Gross Profit
Cost of revenues increased $35.0 million , or 73% , from $47.7 million in the three months ended March 31, 2013 to $82.7 million in the three months ended March 31, 2014 . Cost of revenues increased $103.2 million , or 80% , from $128.6 million in the nine months ended March 31, 2013 to $231.9 million in the three months ended March 31, 2014 . The increase in cost of revenues in both the three and nine months ended March 31, 2014 was primarily due to increased revenues and to a lesser extent, changes in product mix.
Gross profit increased to 44% in the three months ended March 31, 2014 compared to 43% in the three months ended March 31, 2013 , and increased to 44% in the nine months ended March 31, 2014 compared to 41% in the nine months ended March 31, 2013 , reflecting a high level of revenue growth, increasing economies of scale, a reduction in warranty expense, a one-time benefit from a rebate program with one of our vendors, and changes in product mix.



22

Operating Expenses
Research and Development
Research and development expenses increased $3.7 million , or 66% , from $5.7 million in the three months ended March 31, 2013 to $9.4 million in the three months ended March 31, 2014 . As a percentage of revenues, research and development expenses decreased from 7% in the three months ended March 31, 2013 to 6% in the three months ended March 31, 2014 . Research and development expenses increased $8.4 million , or 54% , from $15.4 million in the nine months ended March 31, 2013 to $23.8 million in the nine months ended March 31, 2014 . As a percentage of revenues, research and development expenses decreased from 7% in the nine months ended March 31, 2013 to 6% in the nine months ended March 31, 2014 . The increase in research and development expenses in absolute dollars in both periods was primarily due to increases in headcount as we broadened our research and development activities to introduce new products and new versions of existing products. As a percentage of revenues, research and development expenses decreased primarily due to our overall increase in revenues. Over time, we expect our research and development costs to increase in absolute dollars as we continue making significant investments in developing new products and developing new versions of our existing products.
Sales, General and Administrative
Sales, general and administrative expenses decreased $221,000 , or 4% , from $6.3 million in the three months ended March 31, 2013 to $6.1 million in the three months ended March 31, 2014 . As a percentage of revenues, sales, general and administrative expenses decreased from 8% in the three months ended March 31, 2013 to 4% in the three months ended March 31, 2014 . Sales, general and administrative expenses increased $1.5 million , or 9% , from $16.1 million in the nine months ended March 31, 2013 to $17.6 million in the nine months ended March 31, 2014 . As a percentage of revenues, sales, general and administrative expenses decreased from 7% in the nine months ended March 31, 2013 to 4% in the nine months ended March 31, 2014 . The slight decrease in sales, general and administrative expenses in the three months ended March 31, 2014 compared to the same period in the prior year was primarily due to the partial reversal of our accrual relating to the settlement agreement with OFAC in March 2014 and decreases in legal fees from reduced spending on anti-counterfeiting efforts and decreases to our allowance for doubtful accounts, partially offset by increased marketing activity. Sales, general and administrative expenses increased in the nine months ended March 31, 2014 compared to the same period in the prior year, primarily due to increased marketing activity, increased professional fees, primarily related to the ancillary support of certain management functions, and overall increases in headcount to further expand our marketing and administrative functions to support our revenue growth, partially offset by decreases in legal fees from reduced spending on anti-counterfeiting efforts, decreases to our allowance for doubtful accounts and the partial reversal of our accrual relating to the settlement agreement with OFAC in March 2014. As a percentage of revenues, sales, general and administrative expenses decreased in both periods primarily due to our overall revenue increase. Over time, we expect our sales, general and administrative expenses to increase in absolute dollars due to continued efforts to protect our intellectual property and growth in headcount to support the growth in business and operations.
Interest Expense and Other, Net
Interest expense and other, net was $283,000 for the three months ended March 31, 2014 , representing a slight decrease from $287,000 for the three months ended March 31, 2013 . Interest expense and other, net was $778,000 for the nine months ended March 31, 2014 , representing an increase of $208,000 from $570,000 for the nine months ended March 31, 2013 . The increase in interest expense and other, net during the nine months ended March 31, 2014 compared to the same period in the prior year was primarily due to additional interest expense resulting from our increased borrowings from East West Bank during the nine months ended March 31, 2013 .
Provision for Income Taxes
Our provision for income taxes increased $2.1 million , or 83% , from $2.5 million for the three months ended March 31, 2013 to $4.7 million for the three months ended March 31, 2014 . Our effective tax rate decreased to 9% for the three months ended March 31, 2014 as compared to 11% the three months ended March 31, 2013 . Our provision for income taxes increased $7.7 million , or 107% , from $7.2 million for the nine months ended March 31, 2013 to $14.9 million for the nine months ended March 31, 2014 . Our effective tax rate decreased to 10% for the nine months ended March 31, 2014 as compared to 12% in the nine months ended March 31, 2013 . The lower effective tax rate in the nine months ended March 31, 2014 was primarily due to a larger percentage of our overall profitability occurring in foreign jurisdictions with lower income tax rates.



23

Liquidity and Capital Resources
Sources and Uses of Cash
Since inception, our operations primarily have been funded through cash generated by operations. Cash and cash equivalents increased from $227.8 million at June 30, 2013 to $291.7 million at March 31, 2014 .

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:
 
Nine Months Ended March 31,
 
2014
 
2013
 
(In thousands)
Net cash provided by operating activities
$
65,534

 
$
85,684

Net cash used in investing activities
(3,244
)
 
(4,408
)
Net cash provided by (used in) financing activities
1,554

 
(21,647
)
Net increase in cash and cash equivalents
$
63,844

 
$
59,629

Cash Flows from Operating Activities
Net cash provided by operating activities in the nine months ended March 31, 2014 of $65.5 million consisted primarily of net income of $127.5 million partially offset by net changes in operating assets and liabilities that resulted in net cash outflows of $66.0 million . These changes consisted primarily of a $52.2 million increase in inventory due to our efforts to build warehouse stock levels and ultimately decrease lead times, an $8.3 million increase in prepaid expenses and other current assets due to timing of deposit payments with our suppliers, an $8.0 million increase in accounts payable and accrued liabilities due primarily to our increase in cost of revenues, a $5.1 million increase in prepaid taxes due to the timing of federal tax payments and a $4.0 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, decreases in our allowance 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 $4.0 million .

Net cash provided by operating activities in the nine months ended March 31, 2013 of $85.7 million consisted primarily of net income of $51.6 million and net changes in operating assets and liabilities that resulted in net cash inflows of $28.1 million. These changes consisted primarily of a $35.6 million decrease in accounts receivable due to decreased revenues and improved cash collections, a $12.7 million increase in inventory due to increased inventory on hand as a result of a transition to a third-party logistics provider during December 2012, a $3.7 million increase in taxes payable due the timing of federal tax payments, a $2.5 million increase in accounts payable and accrued liabilities due to the timing of payments with our vendors and a $1.5 million increase in prepaid expenses and other current assets due to an increase in overall business activity. Additionally, our net income included non-cash adjustments due to stock-based compensation, depreciation and amortization, increases to our provision for doubtful accounts and write-downs for inventory obsolescence and an excess tax benefit from stock-based awards. The net of these non-cash adjustments resulted in an increase of our net cash provided by operating activities of $5.9 million.
Cash Flows from Investing Activities
Our investing activities consist solely of capital expenditures and purchases of intangible assets. Capital expenditures for the nine months ended March 31, 2014 and 2013 were $3.0 million and $3.3 million , respectively. Additionally, we had cash outflows related to the purchase of intangible assets of $207,000 and $1.1 million during the nine months ended March 31, 2014 and 2013 , respectively.
Cash Flows from Financing Activities
On August 7, 2012, we 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 replaced the East West Bank Loan Agreement discussed below. The Loan Agreement provides 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 (the “Revolving Credit Facility”), and (ii) a $50.0 million term loan facility (the “Term Loan Facility”). We may request borrowings under the Revolving Credit Facility until August 7, 2015. The Loan Agreement replaced a previous

24

agreement whereby we had an existing term loan balance of $29.2 million as of the date of the new Loan Agreement. On August 7, 2012, we borrowed $20.8 million of term loans under the Term Loan Facility, and no borrowings remain available thereunder. On November 21, 2012, the Company borrowed $10.0 million under the Revolving Credit Facility. On December 20, 2012, the Company borrowed an additional $20.0 million under the Revolving Credit Facility, and $20.0 million remains available for borrowing thereunder.
On August 9, 2012, we announced that our Board of Directors authorized us to repurchase up to $100.0 million of our common stock. The share repurchase program commenced August 13, 2012 and expired on August 12, 2013. During the nine months ended March 31, 2013 , we repurchased 5,159,050 shares for a total cost of $54.4 million.

On December 14, 2012, we announced that our Board of Directors had authorized a special cash dividend of $0.18 per share for each share of common stock outstanding on December 24, 2012. The aggregate dividend payment of $15.7 million was paid on December 28, 2012 to stockholders of record on December 24, 2012.
Liquidity
We believe our existing cash and cash equivalents, cash provided by operations and the availability of additional funds under our loan agreements will be sufficient to meet our working capital and capital expenditure needs for at least the next 12 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 March 31, 2014 , we held $274.9 million of our $291.7 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. We do not presently intend to repatriate those funds. 
Commitments and Contingencies
In May 2011, we filed a self-disclosure statement with the U.S. Commerce Department, Bureau of Industry and Security’s (“BIS”) Office of Export Enforcement (“OEE”) relating a review conducted by us regarding certain export transactions from 2008 through March 2011 in which products may have been later resold into Iran by third parties. In June 2011, we also filed a self-disclosure statement with the U.S. Department of the Treasury’s Office of Foreign Asset Control (“OFAC”) regarding these compliance issues. In August 2011, we received a warning letter from OEE stating that OEE had not referred the findings of our review for criminal or administrative prosecution and closed the investigation of us without penalty. Based upon its review of the matter, OFAC identified certain apparent violations (“Apparent Violations”) of the Iranian Transactions and Sanctions Regulations by us during the period of in or about March 2008 through in or about February 2011. On March 4, 2014, we entered into a settlement agreement with OFAC resolving this administrative matter. Pursuant to the terms of the settlement agreement, we agreed to make a one-time payment to the U.S. Department of the Treasury in the amount of $504,000 in consideration of OFAC agreeing to release and forever discharge us from any and all civil liability in connection with the Apparent Violations. We previously accrued a reserve of $1.6 million relating to this matter in fiscal 2010 and, accordingly, reversed the excess of the accrual of $1.1 million as of the effective date of the settlement agreement.

Warranties and Indemnifications
Our products are generally accompanied by a 12 month warranty, 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”), 450-30, Loss Contingencies, we record an accrual when we believe it is 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

25

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 the fair value of these indemnification agreements is minimal. We had not recorded any liabilities for these agreements as of March 31, 2014 or June 30, 2013 .
Based upon our historical experience and information known as of the date of this report, we do not believe it is likely that we will have significant liability for the above indemnities at March 31, 2014 .
Contractual Obligations and Off-Balance Sheet Arrangements
We lease our headquarters in San Jose, California and other locations worldwide under non-cancelable operating leases that expire at various dates through fiscal 2019.
On August 7, 2012, we entered into 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 provides 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. The Loan Agreement replaced a previous agreement whereby we had an existing term loan balance of $29.2 million as of the date of the new Loan Agreement. On August 7, 2012, we borrowed $20.8 million of term loans under the Term Loan Facility bringing the total borrowed to $50.0 million, and no borrowings remain available thereunder. On November 21, 2012, we borrowed $10.0 million under the Revolving Credit Facility. On December 20, 2012 we borrowed an additional $20.0 million under the Revolving Credit Facility, and $20.0 million remained available for borrowing thereunder. As of March 31, 2014 we made aggregate payments of $7.5 million against the Term Loan Facility.
The following table summarizes our contractual obligations as of March 31, 2014 for the remainder of fiscal 2014 and future fiscal years:
 
2014
(remainder)
 
2015
 
2016
 
2017
 
2018
 
Thereafter
 
Total
Operating leases
$
633

 
$
2,503

 
$
2,497

 
$
1,537

 
$
297

 
$
53

 
$
7,520

Debt payment obligations
1,250

 
6,875

 
39,375

 
10,000

 
15,000

 
—

 
72,500

Interest payments on debt payment obligations
446

 
1,723

 
1,043

 
532

 
125

 
—

 
3,869

Total
$
2,329

 
$
11,101

 
$
42,915

 
$
12,069

 
$
15,422

 
$
53

 
$
83,889

On May 5, 2014, we entered into a Credit Agreement with Wells Fargo, the financial institutions named as lenders party therein, and Wells Fargo as administrative agent for the lenders. In connection with the execution of the Credit Agreement, we terminated and repaid all outstanding obligations under the Term Loan Facility and Revolving Credit Facility under the Loan Agreement described above. Please see Part 1, Item 1, Note 14 of the Notes to Condensed Consolidated Financial Statements for a full description of the Credit Agreement.
We subcontract with other companies to manufacture our products. During the normal course of business, our contract manufacturers procure components based upon orders placed by us. If we cancel all or part of the orders, we may still be liable to the contract manufacturers for the cost of the components purchased by the subcontractors to manufacture our products. 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. We had  $20.9 million  in non-cancelable purchase commitments as of  March 31, 2014 , the related expenses of which are expected to be incurred in future periods.
As of March 31, 2014 , we had $13.8 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.
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

26

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 and diluted net income per share.
Our Non-GAAP measures primarily exclude stock-based compensation, net of taxes and other special charges and credits. Management believes these Non-GAAP financial measures provide meaningful supplemental information regarding our strategic and business decision making, internal budgeting, forecasting and resource allocation processes. In addition, these Non-GAAP financial measures facilitate management’s internal comparisons to our historical operating results and comparisons to competitors’ operating results.

We use each of these Non-GAAP financial measures for internal managerial purposes, when providing our financial results and business outlook to the public and to facilitate period-to-period comparisons. Management believes that these Non-GAAP measures provide meaningful supplemental information regarding our operational and financial performance of current and historical results. Management uses these Non-GAAP measures for strategic and business decision making, internal budgeting, forecasting and resource allocation processes. In addition, these Non-GAAP financial measures facilitate management’s internal comparisons to our historical operating results and comparisons to competitors’ operating results.

The following table shows our Non-GAAP financial measures:
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
 
(In thousands, except per share amounts)
Non-GAAP net income and comprehensive income
$
45,151

 
$
21,087

 
$
129,024

 
$
52,998

Non-GAAP diluted net income per share of common stock
$
0.50

 
$
0.24

 
$
1.44

 
$
0.58

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:
 
Three Months Ended March 31,
 
Nine Months Ended March 31,
 
2014
 
2013
 
2014
 
2013
 
(In thousands, except per
share amounts)
Net income and comprehensive income
$
45,199

 
$
20,667

 
$
127,519

 
$
51,649

Stock-based compensation:
 
 
 
 
 
 
 
Cost of revenues
153

 
124

 
445

 
309

Research and development
630

 
324

 
1,679

 
991

Sales, general and administrative
258

 
252

 
1,506

 
949

Gain on reversal of charge for an export compliance matter
(1,121
)
 
—

 
(1,121
)
 
—

Tax effect of non-GAAP adjustments
32

 
(280
)
 
(1,004
)
 
(900
)
Non-GAAP net income and comprehensive income
$
45,151

 
$
21,087

 
$
129,024

 
$
52,998

Non-GAAP diluted net income per share of common stock
$
0.50

 
$
0.24

 
$
1.44

 
$
0.58

Weighted-average shares used in computing non-GAAP diluted net income per share of common stock
89,775

 
88,953

 
89,667

 
90,656


27

Item 3.  Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Sensitivity
At March 31, 2014, we had interest rate risk from the LIBOR index that was used to determine the interest rates on our Loan Agreement. Interest accrued on the outstanding principal amount of the term loan at a rate per annum equal to an adjusted LIBOR rate (based on one, two or three month interest periods) plus a spread of either 2.50% or 3.00%, which spread was determined based on the debt service ratio for the preceding four fiscal quarter period. The loans bore interest, at our option, at the base rate plus a spread of 1.25% to 1.75% or an adjusted LIBOR rate (at our election for a period of 30, 60, or 90 days) plus a spread of 2.25% to 2.75%, in each case with such spread being determined based on our debt service coverage ratio for the most recently ended fiscal quarter. The base rate was the highest of (i) East West Bank’s prime rate, (ii) the federal funds rate plus a margin equal to 0.50%, or (iii) the LIBOR rate plus a margin equal to 1.00%. Based on a sensitivity analysis, as of March 31, 2014, an instantaneous and sustained 200-basis-point increase in interest rates affecting our floating rate debt obligations, and assuming that we would take no counteractive measures, would have resulted in a charge to our net income before income taxes in excess of $1.0 million over the next 12 months. On May 5, 2014, we entered into a Credit Agreement with Wells Fargo, the financial institutions named as lenders therein, and Wells Fargo as administrative agent for the lenders. In connection with the execution of the Credit Agreement, the Company terminated and repaid all outstanding obligations under the Term Loan Facility and Revolving Credit Facility under the Loan Agreement described above. Please see Part 1, Item 1, Note 14 of the Notes to Condensed Consolidated Financial Statements for a full description of the Credit Agreement.
We had cash and cash equivalents of $291.7 million and $227.8 million as of March 31, 2014 and June 30, 2013 , 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
Most of our sales are denominated in U.S. dollars, and therefore, our revenues are not currently subject to significant foreign currency risk. 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, Lithuanian Lita and Taiwan Dollar. During the three months ended March 31, 2014 , a 10% appreciation or depreciation in the value of the U.S. dollar relative to the other currencies in which our expenses are denominated would not have had a material impact on our financial position or results of operations.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2014 . 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 and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of March 31, 2014 , our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting that occurred during the quarter ended March 31, 2014 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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

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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.


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