F5 Networks, Inc. — Form 10-Q summary
Business context and reporting period
F5 Networks provides application delivery networking products and related support, consulting, and training services, as well as file-virtualization products. This unaudited report covers the third quarter and first nine months of fiscal 2011, ended June 30, 2011; comparisons are with the same periods in 2010. Unless noted otherwise, financial amounts below are in millions of dollars.
Financial performance and liquidity
| Metric | Three months ended June 30 | Nine months ended June 30 |
|---|---|---|
| Revenue, 2011 (2010) | $290.7 ($230.5); +26.1% | $837.2 ($627.7); +33.4% |
| Product revenue, 2011 (2010) | $179.3 ($147.4); +21.7% | $524.5 ($396.2); +32.4% |
| Services revenue, 2011 (2010) | $111.4 ($83.1); +34.1% | $312.7 ($231.5); +35.1% |
| Gross profit, 2011 (2010) | $238.3 ($185.9) | $685.1 ($502.6) |
| Gross margin, 2011 (2010) | 82.0% (80.7%) | 81.8% (80.1%) |
| Operating income, 2011 (2010) | $88.3 ($60.1); 30.4% margin (26.1%) | $251.3 ($153.7); 30.0% margin (24.5%) |
| Net income, 2011 (2010) | $62.5 ($40.5) | $173.8 ($102.9) |
| Diluted EPS, 2011 (2010) | $0.77 ($0.50) | $2.13 ($1.27) |
For the quarter, product and services revenue grew on higher demand for core application delivery networking products and growth in the installed base driving maintenance sales. Product revenue was 61.7% of quarterly revenue; services were 38.3%. Application delivery networking represented 96.9% of product revenue for the quarter. International sales were 43.2% of quarterly revenue and 41.9% for the nine-month period.
- Cash flow: Nine-month operating cash flow was $295.4, versus $227.2 in 2010. Investing activities used $84.1, compared with $183.5 used; financing activities used $80.2, compared with $9.2 used. Cash and cash equivalents increased to $299.8 from $168.8 at September 30, 2010.
- Liquidity and debt: Cash, short- and long-term investments totaled $1,056.9 at June 30, up from $862.1 at fiscal year-end. Management reported no long-term debt and said available cash and investments, excluding auction-rate securities, plus expected operating cash flow should fund requirements for at least 12 months. Current assets were $797.2 and current liabilities $349.0.
- Balance sheet: Total assets were $1,597.1; shareholders’ equity was $1,165.2. Deferred revenue totaled $321.9, including $255.2 current, compared with $259.4 at September 30, 2010. Accounts receivable rose to $154.7 from $112.1; quarterly days sales outstanding were 48.
- Capital returns and compensation: The company repurchased $121.5 of shares in the nine months. As of August 2, 2011, it had repurchased and retired 5.67 million shares at an average $51.09 per share, with $110.2 remaining under its repurchase programs. Nine-month stock-based compensation expense was $67.6, up from $51.0.
Material changes versus prior periods
- Nine-month revenue grew 33.4%, and net income rose to $173.8 from $102.9; operating margin improved to 30.0% from 24.5%.
- Gross margin improved overall, though product gross margin declined: product cost was 17.7% of product revenue for the quarter versus 19.9% a year earlier; services cost was 18.5% versus 18.4%.
- Operating expenses increased in dollars, but declined as a share of revenue to 51.6% for the quarter from 54.6%. Sales and marketing, R&D, and G&A expenses all rose, principally with higher personnel costs and headcount.
- The quarterly effective tax rate fell to 30.6% from 36.4%, primarily due to a larger U.S. domestic production activities deduction and changes in uncertain tax positions following audit settlements and statute expirations.
- The company adopted amended multiple-element revenue guidance prospectively beginning in fiscal Q1 2011; management said adoption had no material impact on the reported periods.
Outlook, risks, contingencies, and unusual items
- Management expects international sales to remain a significant portion of revenue and R&D expense to remain consistent as a percentage of revenue in the foreseeable future. No specific revenue or earnings guidance was provided in the supplied filing text.
- Management identified operating cash flow as the expected primary source of cash and said it would continue evaluating strategic acquisitions or investments. It also noted that future stock-based compensation expense may rise with additional equity awards.
- Two worldwide distributors accounted for 27.0% of quarterly revenue and 28.4% of nine-month revenue. Two distributors represented 26.8% of accounts receivable at June 30, creating channel and customer-concentration exposure.
- The company relies on a single contract manufacturer for application delivery networking hardware and uses single or limited sources for some components. Supply interruptions, delays, or quality issues could affect shipments and results.
- At June 30, auction-rate securities had a fair value of $13.0 and remained illiquid following failed auctions; $15.0 par value was classified as long-term. Management cited U.S. government guarantees on underlying student-loan assets, continued interest payments, and no expected material liquidity impact, but noted possible future impairment if credit conditions deteriorate.
- Other disclosed risks include volatile order timing and sales cycles, competition and pricing pressure, product-transition and execution risks, dependence on continued ADN innovation, international and regulatory exposures, intellectual-property claims, and the possibility that economic weakness reduces IT spending. No pending legal proceeding was identified as expected to have a material adverse effect. The company had a $13.5 purchase commitment for component inventory in the next quarter.
- Unrecognized tax liabilities were approximately $4.3; potential changes within 12 months were possible, but management could not estimate a range. Management reported effective disclosure controls as of June 30, 2011 and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether revenue growth and margin gains continue, especially given product-margin pressure and increased operating costs.
- Distributor concentration, receivables collection, and the impact of quarterly order timing on reported results.
- Whether the single contract manufacturer and limited-source components can support demand without disruption.
- The recoverability and liquidity of auction-rate securities and any change in their valuation or impairment status.
- Cash use from share repurchases, future equity awards and compensation expense, and any strategic acquisitions or investments.
- Developments in tax audits and uncertain tax positions, and any material litigation or changes to disclosed business risks.