Akamai Technologies, Inc. — Form 10-Q Summary
Business context and reporting period
Akamai provides cloud services for delivering, optimizing and securing content and business applications over the Internet through a platform of more than 200,000 servers across 130 countries. The filing covers the unaudited quarter ended March 31, 2018, compared with the quarter ended March 31, 2017.
Revenue is managed through the Web Division and the Media and Carrier Division. Effective January 1, 2018, the former Media and Enterprise and Carrier divisions were combined, and certain customer classifications were revised for comparability.
Financial performance and liquidity
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Revenue | $668.7 million | $600.3 million | 11.4% increase |
| Income from operations | $68.6 million | $105.3 million | 35.0% decrease |
| GAAP operating margin | 10.3% | 17.4% | Down 7.1 points |
| Net income | $53.7 million | $74.6 million | 28.0% decrease |
| Diluted EPS | $0.31 | $0.43 | Decrease |
| Adjusted EBITDA | $256.5 million | $230.6 million | 11.2% increase |
| Adjusted EBITDA margin | 38% | 38% | Stable |
| Operating cash flow | $192.0 million | $142.6 million | 34.6% increase |
Cloud Security Solutions revenue increased 35.6% to $149.2 million. Web Division revenue increased 16.3% to $352.8 million, while Media and Carrier Division revenue increased 6.4% to $315.9 million. International revenue increased 21.8% to $245.4 million, representing approximately 37% of total revenue; constant-currency international growth was 13.6%.
Cost of revenue increased 14.1% to $234.8 million, or 35.1% of revenue versus 34.3% in the prior-year quarter. Research and development increased 24.7% to $65.1 million, general and administrative expense increased 34.2% to $154.4 million, and restructuring charges were $14.9 million compared with none in the prior-year period. General and administrative expense included $23.1 million of legal and stockholder matter costs.
Cash, cash equivalents and marketable securities totaled approximately $1.3 billion at March 31, 2018. Net cash, after $690.0 million of convertible senior notes, was $633.8 million. Cash and cash equivalents totaled $363.7 million, and marketable securities totaled approximately $960.1 million. The company reported total assets of $4.69 billion and total liabilities of $1.30 billion.
Capital expenditures and capitalized internal-use software development totaled $113.1 million in the quarter. Investing activities used $111.5 million, while financing activities used $30.7 million. The company repurchased 293,619 shares for $19.8 million at an average price of $67.38 per share; approximately $730.2 million remained available under the repurchase authorization.
Material changes versus the prior comparable period
- Revenue growth was driven by higher media traffic, new products and strong security demand, but growth from major Internet Platform Customers declined to $44.4 million from $51.4 million.
- GAAP profitability declined despite revenue growth, primarily because of restructuring charges, legal and stockholder matter costs, higher payroll costs, and increased amortization of internal-use software.
- Non-GAAP operating income increased to $167.1 million from $155.6 million, although non-GAAP operating margin declined to 25% from 26%.
- Operating cash flow improved because of lower cash taxes and working-capital effects, despite lower GAAP profitability.
- Cash used in investing activities changed from $140.3 million provided in Q1 2017 to $111.5 million used in Q1 2018, reflecting lower marketable-securities sales and increased software investment.
- The company adopted the revenue-recognition standard retrospectively and began capitalizing certain sales commissions and incentive payments. Management stated that the adoption had little effect on core-service revenue and no material impact on annual revenue or results of operations, although it affected quarterly comparisons.
- The company adopted new income-tax accounting for intra-entity asset transfers and reclassified $38.6 million to beginning retained earnings. The cash-flow presentation also began including restricted cash with cash and cash equivalents.
Guidance, outlook, commentary, risks and unusual items
- Management expects current cash, marketable securities and operating cash flow to fund foreseeable needs for at least the next 12 months, including capital expenditures, acquisitions, repurchases, facility expansion and contractual commitments.
- Management expects modest headcount growth for the remainder of 2018. Research and development, sales and marketing, and certain payroll costs are expected to increase, while cost of revenue is not expected to increase as a percentage of revenue.
- Additional restructuring charges are expected in 2018, primarily for facility consolidation, but management does not expect the incremental charges to be material. The company had incurred $62.4 million of restructuring charges through March 31, 2018.
- The company recorded a $14.9 million charge related to the settlement of litigation with Limelight Networks. The filing states that the settlement agreement was entered into in April 2018 while the charge was included in the quarter ended March 31, 2018.
- The $690.0 million principal amount of convertible senior notes matures in February 2019 and was classified as a current liability. Management was assessing repayment and refinancing options. Conversion could require cash, shares or a combination, with potential dilution if the notes convert.
- The company expects to fund a $50.0 million Akamai Foundation endowment during 2018.
- The company expects to adopt the lease accounting standard in the first quarter of 2019 and anticipates recording significant right-of-use assets and lease liabilities.
- Key risks include slower network-traffic growth, customer insourcing or multi-vendor strategies, pricing pressure, dependence on large customers, intense competition, cybersecurity incidents, service disruptions, bandwidth and co-location constraints, acquisition integration, restructuring disruption, foreign-currency exposure, tax uncertainty, litigation, privacy and data-regulation changes, and the ability to refinance or repay the convertible notes.
- The effective tax rate was 20.7% versus 28.7% in the prior-year quarter. The company attributed the decrease primarily to the reduction in the U.S. federal statutory rate under the Tax Cuts and Jobs Act, while continuing to evaluate GILTI accounting and provisional tax amounts.
Important facts for investors to verify
- Reconcile the sharp decline in GAAP operating margin and net income with the company’s non-GAAP measures, including the effects of restructuring, legal costs, stock-based compensation and amortization.
- Assess the February 2019 convertible-note maturity, available refinancing alternatives, potential cash settlement requirements and dilution exposure.
- Monitor whether security revenue growth and new products offset declining revenue from Internet Platform Customers and continued pricing pressure.
- Evaluate the sustainability of operating cash flow after $113.1 million of quarterly capital expenditures and capitalized software investment.
- Review the timing, classification and final amount of the Limelight settlement charge, which the filing describes as agreed in April 2018 but recorded in the first quarter.
- Track remaining restructuring costs, facility consolidation execution and the effect of headcount reductions on operations.
- Review future changes to provisional Tax Cuts and Jobs Act amounts, GILTI accounting, tax audits and other uncertain tax positions.
- Consider the effect of the 2019 lease-accounting adoption on reported assets, liabilities and leverage metrics.