NetScout Systems, Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended September 30, 2016. Dollar amounts are in millions unless otherwise noted.
Business context
NetScout provides network performance, service assurance and cybersecurity solutions. Results include the Communications Business acquired from Danaher in July 2015; the prior-year comparison therefore includes a shorter post-acquisition period. In the quarter, NetScout reorganized its business into one reportable operating segment. It also acquired Avvasi assets for $4.6 million in August 2016 to expand video service-assurance capabilities.
Financial performance
| Metric | Three months ended September 30, 2016 | Six months ended September 30, 2016 |
|---|---|---|
| Revenue | $272.0; +4% year over year | $541.0; +50% |
| Product / service revenue | $168.9 / $103.2 | $333.5 / $207.5 |
| Gross profit / margin | $187.5 / 69%, versus $160.9 / 62% | $369.5 / 68%, versus $240.4 / 66% |
| Operating income (loss) | $0.8, versus loss of $35.3 | Loss of $9.9, versus loss of $22.9 |
| Net income (loss) | Loss of $1.3, or $(0.01) per diluted share | Loss of $10.3, or $(0.11) per diluted share |
| Non-GAAP net income | $36.4, versus $43.7 | $62.8, versus $57.3 |
Quarterly service revenue increased 20%, primarily from the acquired business, while product revenue declined 3%. For the six-month comparison, the acquired business contributed substantially to reported growth: product revenue rose 46% and service revenue 56%. Management cited challenging market conditions, particularly among service-provider customers. Quarterly non-GAAP diluted EPS was $0.39, versus $0.47; six-month non-GAAP diluted EPS was $0.67, versus $0.86. Non-GAAP measures exclude specified acquisition, amortization, stock-compensation and other items and should be considered alongside GAAP results.
Cash, debt and liquidity
- Cash, cash equivalents and marketable securities totaled $303.4 at September 30, down $48.7 from March 31, 2016.
- Operating cash flow was $53.6 for the six months, versus $6.9 a year earlier. Investing activities provided $15.8; financing activities used $84.6.
- Cash uses included $76.6 of open-market share repurchases, $15.7 of capital expenditures and $4.6 for the Avvasi acquisition. The repurchase program had 6.9 million shares remaining at quarter-end.
- Long-term debt was $300.0 under an $800.0 secured revolving facility, leaving $500.0 available. The debt carried a 2.03% interest rate at September 30; the company reported covenant compliance.
- Current assets were $665.1 and current liabilities $422.6. Deferred revenue and customer deposits totaled $346.2, including long-term balances.
Outlook, risks and unusual items
- Management said liquidity, available borrowing capacity and expected operating cash flows should cover anticipated working-capital and capital-expenditure needs for at least 12 months. It expected operating cash flow to increase with collections from anticipated higher revenue, partly offset by cash operating-cost growth. No specific revenue or earnings guidance was provided.
- Management planned continued capital investment during fiscal 2017 and noted that cash could be used for acquisitions or complementary technologies.
- Customer concentration is notable: one direct customer accounted for more than 10% of revenue in both current and comparable periods. Management identified service-provider market conditions and project timing as factors affecting quarterly revenue.
- Goodwill was $1.715 billion. After reorganizing reporting units, the company’s impairment analysis found reporting-unit fair values above carrying values; the Security unit’s fair value did not substantially exceed carrying value.
- Foreign-exchange exposure is managed with forward contracts; quarter-end notional amount was $15.5. The company also has floating-rate debt exposure.
- Contingencies include $4.7 of future Simena acquisition consideration, $3.9 payable to Danaher related to employee-award tax effects, and $0.7 of Avvasi escrow consideration. Management said ordinary-course legal matters were not expected to have a material adverse effect.
- NetScout reported effective disclosure controls and no material change in internal control over financial reporting. It said there had been no material changes to the risk factors in its FY2016 Form 10-K.
Important facts for investors to verify
- How much underlying growth remains after separating the Communications Business acquisition effect, deferred-revenue fair-value adjustments and acquired-intangible amortization.
- Whether service-provider demand stabilizes and whether the general-enterprise growth and international revenue gains persist.
- Whether the Security reporting unit’s limited goodwill valuation cushion changes, and the assumptions supporting impairment testing.
- How cash conversion develops, particularly collections, deferred revenue and the sizable related-party receivable balance of $17.5.
- Debt repayment, interest-rate sensitivity and future share repurchases; also review the company’s non-GAAP exclusions when comparing performance.