NetScout Systems, Inc. — Form 10-Q Summary
Reporting period: Three months ended June 30, 2018, the first quarter of fiscal 2019. The comparable period is the three months ended June 30, 2017. Figures are unaudited; amounts are in U.S. dollars.
Business context and results
NetScout provides network performance, service assurance, and security solutions to service providers, enterprises, and government customers. Management attributed the year-over-year revenue decline mainly to delayed enterprise orders, ongoing declines in certain ancillary enterprise products, and lower DDoS orders, primarily from service providers.
| Metric | Q1 FY2019 | Q1 FY2018 | Change |
|---|---|---|---|
| Total revenue | $205.1 million | $225.8 million | Down 9% |
| Product revenue | $96.9 million | $108.7 million | Down 11% |
| Service revenue | $108.2 million | $117.1 million | Down 8% |
| Gross profit / margin | $143.1 million / 70% | $159.2 million / 71% | Down $16.1 million; margin down 1 point |
| Operating loss | $77.1 million | $33.6 million | Loss increased |
| Net loss | $62.5 million | $24.2 million | Loss increased |
| Diluted loss per share | $0.78 | $0.27 | Loss per share increased |
| Operating cash flow | $25.5 million | $52.6 million | Down $27.1 million |
Financial position and liquidity
- At June 30, 2018, cash and cash equivalents were $353.4 million and short-term marketable securities were $105.6 million, totaling $459.1 million. The total was up $11.3 million from March 31, 2018.
- Long-term debt was $600 million, unchanged from March 31. It was outstanding under a $1.0 billion senior secured revolving facility that expires in January 2023; the company reported compliance with its covenants.
- Current assets were $718.1 million and current liabilities were $359.8 million. Deferred revenue and customer deposits totaled $328.7 million, of which the company expected to recognize $248.2 million over the next 12 months.
- Investing cash flow was an outflow of $34.1 million, chiefly reflecting net purchases of marketable securities and $6.5 million of capital expenditures. Financing cash outflow was $3.5 million, mainly for tax withholding on vested restricted stock units; there were no open-market share repurchases during the quarter.
Material changes and unusual items
- Net loss included a $35.9 million impairment charge for intangible assets associated with the handheld network tools product area, which NetScout was in the process of divesting. The asset group did not qualify as held for sale at quarter-end.
- NetScout adopted the revenue standard Topic 606 on April 1, 2018 using the modified retrospective method; prior-year results were not restated. Adoption increased opening retained earnings by $34.1 million. For the quarter, adoption increased reported revenue by $1.8 million and reduced the reported net loss by $0.9 million versus the company’s presentation without adoption; it did not affect cash flows.
- Management reported that product revenue fell partly because of lower service-provider security sales, while service revenue was affected by lower maintenance revenue and Topic 606. The filing notes that Topic 606 also contributed to the reported revenue mix and timing.
- Non-GAAP results were $7.4 million operating income, $2.1 million net income, and $0.03 diluted EPS, versus $14.5 million, $7.6 million, and $0.08, respectively, a year earlier. These company-defined measures exclude specified items, including share-based compensation, acquired-intangible amortization, restructuring, and the impairment charge; they are not substitutes for GAAP results.
Outlook, risks, and contingencies
- Management said challenging conditions—including service-provider capital-spending pressure and enterprise customer uncertainty around digital transformation—were likely to persist, with longer sales cycles, order delays, and changing order volumes. It expected service revenue to continue declining, citing Topic 606 and lower professional-services revenue.
- The company expected fiscal 2019 operating cash flow to be lower than fiscal 2018, partly due to working-capital changes. Management believed cash, securities, available debt, and future operating cash flows would cover anticipated working capital and capital expenditures for at least 12 months. No specific revenue or earnings guidance was provided in the supplied filing text.
- The $600 million facility bears floating-rate interest. NetScout reported a 3.60% interest rate at June 30 and estimated that a 10% rate change would alter annual interest expense by approximately $2.2 million.
- In the Packet Intelligence patent case, a jury awarded $5.75 million in damages, described as a running royalty. The court had not entered final judgment or ruled on equitable issues. NetScout characterized the loss risk as reasonably possible and estimated a range of $0 to the jury award, plus potential interest and other adjustments; it intended to contest the claims.
- The company continued evaluating the tax-law effects, including GILTI, and had not finalized certain accounting judgments. It also recorded $1.1 million of restructuring charges and anticipated approximately $0.1 million of additional charges in the following three months.
Most important facts for investors to verify
- Whether delayed orders and weaker service-provider and enterprise demand persist, and how they affect revenue and margins.
- How Topic 606 changes revenue timing and comparability with earlier periods, including the effect on deferred revenue.
- The status and eventual proceeds or further impairment associated with the handheld network tools divestiture.
- Debt-facility utilization, floating interest costs, covenant compliance, and the company’s cash-flow outlook.
- Developments in the Packet Intelligence litigation, including final judgment, possible interest, and any appeal.
- Final tax accounting and any additional restructuring costs or other unusual charges.