Super Micro Computer (SMCI) shares nosedived 20% Wednesday on news of its missed 10-K filing and a scathing report by short firm Hindenburg Research alleging related-party accounting manipulation. Overall, the stock is down over 63% from its all-time high in mid-March at over $1,200 per share.
SMCI’s 8-K attributes its filing tardiness to “additional time needed for management to complete its assessment of the design and operating effectiveness of its internal controls over financial reporting.” That’s worrisome — especially at the deadline.
That’s not surprising, as financial reporting woes aren’t new to Super Micro. It’s been delisted before and, in 2020, the SEC charged SMCI with channel stuffing or, more formally, “prematurely recognizing revenue and understating expenses.” That’s “accomplished” by “recognizing revenue on goods not yet delivered to customers, shipping to customers prior to authorization and [sending] misassembled goods.”
The real story is that AI detected escalating financial reporting risk signals again by 2022 — all of which were permitted to “hide in plain view.”
The stock swoon shattered the comfortable oblivion. Now SMCI’s board, executives, regulators and auditors face serious credibility questions.
The answers reside in incentives, incompetence and indifference.
Friends and family
Capital markets thrive on transparency. Red flags raise real questions. Well designed and deployed, domain-specific AI tools can speed such inquiry.
For instance, Hudson Labs developed innovative software powered by finance-specific large-language models (LLMs) to automate equity research workflows and extract actionable insights. Their tools tap over 800,000 SEC filings each year, mining millions of pages and billions of words.
One of its many valuable routine screens identifies related party disclosures placed SMCI in the top 100 companies with highest risk. Hudson Labs found “related party risk isn’t the only red flag at SMCI.” Its forensic risk score for Super Micro has been elevated since 2019.
Hudson Labs CEO Kris Bennatti wrote, “We first called out transactions at SMCI that looked a lot like ‘round tripping’ in 2022.” Round tripping is a technique to utilize related party transactions to artificially inflate sales.
In February 2022, Hudson Labs head of forensic research Andre Castillo, explained some intriguing findings in a prescient research blog, including:
- Related party purchases from Ablecom and Compuware accounted for 9.4% of cost of sales in 2021, up from 7.3% in 2020. Compuware acts as both a SMCI distributor and manufacturer.
- SMCI’s CEO Charles Liang’s brother (Steve) is the CEO of Ablecom. Steve Liang owns approximately 29% of Ablecom. Charles Liang and his wife, Sara Liu (and SMCI officer and board member) jointly owned over 10% of Ablecom. That’s nearly 40% control across the three.
- Ablecom sells components back to SMCI at the same price Ablecom buys them, which raises a question of how the transaction is adding value. SMCI also discloses that it is not always a sales transaction but can also be a consignment transaction.
Bennatti, in response to online questions about materiality, keenly responded, “Most instances where related party transactions have been used for shenanigans, the disclosed transactions were less significant than they are here. Being able to influence suppliers and customers creates opportunities that don’t always come through in the [financial statements] and therefore risk.”
Sparks fly
The Hindenburg report added much to the controversy, including excerpts from litigation filings, assertions from unnamed former SMCI employees and additional disclosure analysis. Among its many key points, the report cites the SEC’s $17.5 million 2020 fine which pinned blame on former CFO Howard Hideshima. While the CEO was not charged with misconduct, Liang was “required to reimburse the company $2.1 million in stock profits” pursuant to Sarbanes-Oxley clawback provisions. Intriguingly, Hideshima recently re-surfaced as an Ablecom consultant.
Hindenburg, which disclosed its short position in SMCI, also noted, “The related parties seem to do little other business: 99.8% of Ablecom’s exports to the U.S. since 2020 were to Super Micro, and 99.7% of Compuware’s U.S. exports were to Super Micro, per trade records.”
Analysts including J.P. Morgan’s Samik Chatterjee characterized Hindenburg’s report as “largely void of details around alleged wrongdoings.” He noted, however, “It is not surprising that the company has areas for improvement to further refine governance, transparency, and communication with investors, which would be more appropriate for a company of its size following its recent spurt of growth in conjunction with AI server demand,” as reported by Investors Business Daily.
CFRA Research analyst Shreya Gheewala cut SMCI’s rating to a hold and dropped its price target from 729 to 454, arguing, “While we believe the evidence presented does not conclusively demonstrate significant accounting malpractice or verifiable sanction evasions, SMCI’s delayed 10-K filing and potential reputational damage raises concerns.”
All of this swirl fueled SMCI “hidden-in-plain view” valuation fragility. The eventual outcomes will certainly help, warn or (sadly) encourage others.
Distant Early Warning
Hudson Labs showed existing AI advancements can readily accelerate financial risk signal detection. So what will shatter human inertia?
The governance section of SMCI’s website shows a nine-member board chaired by company founder Liang and a seat held by his co-founder, wife Liu. Documents include a boilerplate audit committee charter and a code of business conduct and ethics that prioritizes in its first paragraph, “full, fair, accurate, timely and understandable disclosures.” That’s rhetoric is far from reality.
External watchdogs seem unfazed. The only “critical audit matter” raised by Deloitte in last year’s annual report related to the excess and obsolete inventory reserves. As the major public accounting firms pour billions into AI, won’t investors reasonably expect better, deeper and quicker assurance? That’s the first of likely many questions.
Is any of this somehow a surprise? How did governance fail? Are the regulators interested? Where were the auditors? Are these issues simply artifacts of soaring stock infatuation? What constitutes a “publicly-owned” company?
Will the triple threat of incentives, incompetence and indifference win?
