The following analysis of SMCI is from the June 2nd issue of bear newsletter. You can learn more about here: Short Seller’s Journal
Super Micro Computer (SMCI – $750) – Reported its FY 2024 Q3 numbers April 30th. Revenues were up more than three-fold YoY but that’s entirely attributable to AI-mania. However, from Q2 to Q3, revenues rose just 5%. There might be some seasonality in that but that’s a dramatic slow-down from YoY. Also a very dramatic slow-down from the 72% rise in revenues from FY 2024 Q1 to Q2. That said, management raised full-year FY 2024 guidance higher by about $400mm. That may be per-meditated per my analysis below.
The trail of red flags with SMCI starts here. In Q3 ’24, it’s largest customer accounted for 28% of SMCI’s accounts receivable, up from 23% in Q3 ’23. Its top three customers accounted for 61% of SMCI’s accounts receivable in Q3 ’24 vs Q3 ’23 when its top two customers accounted for 42.5% of accounts receivable.
I also happened to notice this “gem” in the 10-Q. SMCI has an agreement with Ablecom, a Taiwanese contract manufacturer, for product development, production and service agreements as well as product manufacturing agreements, manufacturing services agreements and lease agreements for warehouse space. The issue? Ablecom’s CEO, Steve Liang, is the brother of SMCI’s President, CEO and Chairman of the Board (Charles Liang). Steve Liang owns 36% of Ablecom while Charles Liang and his wife own 10.5% of Ablecom.
SMCI also has a distribution agreement with Compuware, including an arrangement for product development and manufacturing services similar to those with Ablecom plus lease agreements for office space. This issue? The CEO of Compuware, Bill Liang, is the brother of Charles and Steve Liang. In addition, a sibling of SMCI’s Senior VP of Business Development, and who is also a director of SMCI, owns 11.7% of Ablecom and 8.7% of Compuware.
This is a cozy and likely not-arms-length relationship among the three brothers and their companies as well as the sibling of the other SMCI executive. It smells really bad. Circling back to the customer accounts receivable risk detailed above, what’s to prevent SMCI from stuffing product into Ablecomm and Compuware, recording that as sales and then booking the sales into accounts receivable in order to boost sales. I’ll note that concentration from the top three customers has ballooned YoY. While there’s no way to prove this without access to the inside books, I would not rule this out.
The reason I say this is there’s some strange changes in SMCI’s statement of cash flows moving from 2023 to 2024, when the surge in revenue growth occurred. Through the first nine months of FY 2024, SMCI generated $855mm of GAAP net income but its operations burned $1.8 billion in cash. The majority of this was from a huge surge in inventory. But there was also a $507mm increase in accounts receivable. That’s a rather large number considering that accounts receivable grew $356mm in thru the first six months of SMCI’s fiscal year (through December). But there’s more. Accounts receivable was a $302mm source of cash in Q1 FY 2024.
I truly believe there’s something fishy going on with the incestuous relationship among SMCI, Ablecom and Compuware and the strange behavior of SMCI’s customer concentration and accounts receivable. Further to this point, SMCI raised $1.75 billion in a convertible bond offering in February. Tech companies with SMCI’s valuation multiple gush cash flow and do not have to raise money like this. At the end of 2023 (SMCI’s FY ’24 Q4) SMCI has $99 million in long term debt and $375mm in total debt. Just one quarter later SMCI has $1.86 billion in total debt.
The increase in capex YoY through the FY first nine months, just $110mm, does not explain the need to raise $1.75 million through debt issuance. If SMCI was borrowing to fund a high-growth rate, capex would be many multiples of that $110mm through FY 2024 nine months. The more I pour over SMCI’s financials in conjunction with the footnotes, the more I believe that its incestuous business relationship with Ablecom and Compuware is a serious issue.
On May 9th, this SEC filing hit:
SMCI was in SEC non-compliance with the rules governing the composition of the Board of Directors’ audit committee. Not that I watch for it, but I can’t recall ever seeing that red flag. The audit committee needs to have three independent directors. Ms. Lin is a chemical engineer and has zero experience in finance and accounting. Her previous jobs were engineering-based. I did run across an article from August 2023 which stated that she owned, at the time, over $4 million worth of SMCI stock. Something does not smell right here either.
The Robert Blair appointment to the audit committee is equally puzzling. Blair is also an engineer. He was CEO of a semiconductor company until 2018 that was acquired by a private equity firm in 2022. Since then he’s been on the board of a technology licensing company where he previously was CEO. His background is in marketing, sales and engineering. What does any of his experience, or Ms. Lin’s experience, have to do with overseeing the accounting and financial statement preparation of SMCI? The SEC delisting notice and the two executives selected to “remedy” the delisting notice, along with the incestuous fraternal relationship detailed above are major red flags at SMCI.
The stock market must agree with my assessment of SMCI. I wrote the above analysis the week leading into Memorial Day weekend on May 23rd, when the stock was trading well over $900 before closing at $847 that day. It closed Friday at $784. It declined every day last week after Monday. This is despite copious amounts of promotional hype from stock-pushing media outlets.
SMCI has knifed below its 21, 50 and 100 dma’s. I expect to head for its 200 dma ($545 on June 3rd) unless the tech sector bubble continues to reflate. That ship may have sailed, however. I’m short SMCI by way of near-money, short-expiry puts and longer-dated, OTM puts (Sept/Nov).