Super Micro Computer (NASDAQ: SMCI), the AI server maker, has taken investors on a wild ride over the last three months.
The company's troubles began with a short-seller report from Hindenburg Research at the end of August, alleging a wide range of accounting irregularities. That was shortly followed by a delay in the filing of its 10-K, and in September the Department of Justice reportedly opened up an investigation into the company. It also received a delisting warning from the Nasdaq stock exchange. Last month, the company's troubles reached a fever pitch when its auditor, Ernst & Young, resigned, and it also delayed its first-quarter 10-Q filing. It released preliminary first-quarter results but was unable to release a complete report, and the stock continued to spiral, hitting bottom at an intraday low of $17.25 on Nov. 15 ahead of the Nasdaq's deadline to stay in compliance. That marked a 69% decline from before the short-seller attack.
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However, since then, Supermicro has scored some redemption with investors as it hired a new auditor and sent a compliance plan to the Nasdaq. As of Nov. 22, the stock was up 92% from the low on Nov. 15.
Investors clearly see a recovery potential in Supermicro stock, but if you're thinking of buying it, you should understand the risks the company still faces. Let's review a few things you should know.
Image source: Getty Images.
1. Supermicro's new auditor faces its own questions
Investors cheered on Nov. 18 when Supermicro announced that it hired BDO USA as its new auditor, but that may be a bigger risk than investors think as BDO has faced its own regulatory problems.
For example, the company was fined $2 million last year for failing to correctly vet revenue calculations in a 2018 audit.
An audit quality report from the Public Company Accounting Oversight Board found significant mistakes in 54% of BDO audits from 2020 that it examined and 53% in 2021. BDO has also said it has made investments to improve the quality of its audits, recognizing its earlier mistakes.
BDO's own challenges don't indicate anything nefarious in Supermicro's hiring them, but it could also leave room for doubts if and when Supermicro does file its outstanding reports. It also doesn't undo Ernst & Young's decision to resign as auditor, and its comment that it was "unwilling to be associated with the financial statements prepared by management." That Ernst & Young also said it could not rely on management's representations remains concerning.
2. Supermicro is still out of compliance with the Nasdaq
Super Micro Computer is still listed on the Nasdaq and its letter to the Nasdaq has earned it more time, but it is still out of compliance.
In fact, the Nasdaq sent Supermicro another letter on Nov. 20 saying it was not in compliance with Nasdaq listing rules. Supermicro said, "The letter has no immediate effect on the listing or trading" of its stock on the Nasdaq.
Relatedly, investors are still waiting to see the report from Supermicro's Independent Special Committee, which was supposed to deliver a report on remedial measures to improve its internal governance by Nov. 15. The delay in that report doesn't seem reassuring.
Supermicro continues to say that it expects to file its 10-K, though it's unable to predict the timing of it.
3. There's a good chance of financial restatements
It's unclear what the problem is with Supermicro's accounting, but Hindenburg's report levies a wide range of accusations against the company, including channel stuffing to create improper revenue, recognizing incomplete sales, and avoiding internal accounting controls. It also described conflicts between related parties and transactions between undisclosed related parties.
The financial disagreements between management and Ernst & Young were likely deep and material, as it's highly unusual for an auditor to resign.
Supermicro may be able to overcome these issues over the long term. After all, the company makes real products and was even name-checked by Nvidia on its recent earnings call as one of several partners it works with.
At this point, Supermicro is in a better position than it was when it didn't have an auditor and the Nasdaq deadline was looming, but that's much different from its financial reporting being in good standing. The longer the delay in its filings, the worse it looks for Supermicro, and the more its accounting problems are likely to be widespread.
Another pullback in the stock seems likely since Supermicro has yet to correct any of the original issues that caused the stock to plunge. Investors should approach the stock with caution. It's not suitable for a long-term investment until there's more clarity about its accounting malfeasance.
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Jeremy Bowman has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Nvidia. The Motley Fool has a disclosure policy.
