NetApp, Inc. — Form 10-Q Summary
Reporting period: Fiscal 2013 third quarter, the 13 weeks ended January 25, 2013; nine-month figures are for the period ended that date. Comparisons are with the corresponding prior-year periods. Amounts are in millions except per-share data.
Business context and results
NetApp supplies enterprise storage and data-management hardware, software, and services. It operates as one reportable industry segment and sells globally, primarily through indirect channels.
| Metric | Q3 FY2013 | Q3 FY2012 | Nine months FY2013 | Nine months FY2012 |
|---|---|---|---|---|
| Net revenue | $1,630.1 | $1,565.5 | $4,615.9 | $4,530.7 |
| Gross profit / margin | $964.9 / 59.2% | $908.5 / 58.0% | $2,728.9 / 59.1% | $2,718.4 / 60.0% |
| Operating income / margin | $187.9 / 11.5% | $156.5 / 10.0% | $403.4 / 8.8% | $525.1 / 11.5% |
| Net income | $158.1 | $119.6 | $331.5 | $424.7 |
| Diluted EPS | $0.43 | $0.32 | $0.90 | $1.10 |
| Operating cash flow | $365.1 | $269.2 | $930.7 | $880.0 |
Financial position and liquidity
- Cash, cash equivalents, and short-term investments totaled $6,723.9 at January 25, 2013, versus $5,398.5 at April 27, 2012. Working capital was $4.4 billion; days sales outstanding improved to 35 days from 44.
- Nine-month investing cash outflow was $122.0, including $239.7 of capital expenditures and $89.4 paid for CacheIQ, partly offset by net investment maturities and sales. Financing provided $725.1, including $987.3 net proceeds from debt issuance, offset in part by $410.0 of share repurchases.
- Debt principal totaled $2,264.9: $1,264.9 of 1.75% Convertible Notes due June 2013 and $1,000.0 of Senior Notes ($750.0 due 2017 and $250.0 due 2022). The Convertible Notes become unconditionally convertible at holders’ option March 1, 2013. The company must deliver cash up to principal upon conversion, with shares potentially used for excess conversion value.
- A new $250.0 unsecured revolving credit facility had no borrowings outstanding; the company reported compliance with its covenants. It stated that available resources should meet requirements for at least the next 12 months.
Changes versus prior-year periods
- Q3 revenue grew 4%; nine-month revenue grew 2%. Product revenue was nearly flat in Q3 and fell 3% year to date, while software entitlements and maintenance grew 12% and 11%, respectively, and service revenue grew 14% and 12%.
- Growth in recurring maintenance and service revenue supported Q3 gross-margin expansion. Nine-month gross margin declined one percentage point, with management citing higher hardware warranty expense and unfavorable foreign exchange. Nine-month warranty expense increased $32.9 and inventory write-downs increased $9.6 versus the prior year.
- Q3 operating income and net income increased year over year, but nine-month operating income declined 23% and net income declined 22%. Operating expenses rose 6% for the nine months, mainly reflecting higher compensation and average headcount.
- APAC revenue grew 17% in Q3 and 13% year to date; EMEA was essentially flat year to date, affected by macroeconomic conditions and currency. Indirect channels accounted for 80% of nine-month revenue. Distributors Arrow and Avnet represented 18% and 14% of nine-month revenue.
Outlook, risks, and unusual items
- No specific revenue or earnings guidance is provided in the supplied filing text. Management expected $50–$100 of capital expenditures for the remainder of fiscal 2013 and expected further share repurchases. It noted cash flows may fluctuate with results, shipment timing, collections, inventory, taxes, and payment timing.
- Management identified demand forecasting, economic and IT-spending uncertainty, pricing and competition, product mix and gross margins, supply-chain constraints, product quality and warranty costs, and acquisition integration as significant risks. It also highlighted dependence on indirect channels and major distributors.
- In November 2012, NetApp acquired CacheIQ for $91.0 in cash and equity; preliminary purchase accounting included $72.9 of goodwill. In December 2012, it issued $1.0 billion of Senior Notes. It also bought out its remaining synthetic leases for $69.6, with no material operating-results impact reported.
- The nine-month effective tax rate was 12.2%, versus 14.7%. The quarter included an $8.2 current-year and $3.2 prior-year research-credit benefit. Unrecognized tax benefits were $170.0. IRS examinations and appeals remain ongoing; the company also disclosed a Danish tax appeal.
- NetApp reported no material legal accrual. It disclosed DOJ/GSA discussions concerning government contract compliance and an ongoing review of media allegations that products may have reached Syria through a third party; potential outcomes could include penalties and reputational harm.
- Investments include $42.2 of auction-rate securities, classified as non-current and valued using unobservable inputs. A hypothetical 100-basis-point rise in rates was estimated to reduce fixed-income fair value by about $42. The company said it did not consider its investments other-than-temporarily impaired at period-end.
- About $3.3 billion of cash, cash equivalents, and short-term investments was held internationally. Management intended to keep those funds permanently reinvested abroad; repatriation could incur U.S. federal and state taxes.
Important facts for investors to verify
- How the $1.265 billion Convertible Notes were settled or converted after becoming freely convertible in March 2013, including cash needs and potential dilution.
- Whether recurring service and maintenance growth can offset weaker product revenue, warranty costs, and pressure on year-to-date operating margins.
- Whether distributor and indirect-channel concentration, product demand, and supply commitments affect revenue predictability and inventory risk.
- Developments in IRS and Danish tax matters, DOJ/GSA discussions, and the export-control review, including any resulting liability or business restrictions.
- Investment portfolio valuation and liquidity, access to overseas cash, and the pace of debt-funded capital allocation and share repurchases.