Palo Alto Networks, Inc. — Form 10-Q Summary
Business context and reporting period
Reports the first quarter of fiscal 2014, the three months ended October 31, 2013; comparisons are with the three months ended October 31, 2012, unless noted. Palo Alto Networks sells network security products, subscriptions, and support and maintenance, primarily through channel partners. It reported more than 14,500 end-customers in over 130 countries and 1,264 employees at quarter-end.
Financial performance and liquidity
| Metric | Q1 FY2014 | Q1 FY2013 |
|---|---|---|
| Revenue | $128.2 million | $85.9 million |
| Gross profit / gross margin | $94.4 million / 73.6% | $61.7 million / 71.9% |
| Operating loss / margin | $7.0 million / (5.5%) | $3.1 million / (3.6%) |
| Net loss / diluted loss per share | $7.9 million / $0.11 | $3.5 million / $0.05 |
| Cash provided by operating activities | $38.9 million | $23.1 million |
| Free cash flow (non-GAAP) | $23.2 million | $19.1 million |
| Billings (non-GAAP) | $157.9 million | $110.5 million |
Product revenue was $75.5 million, up 36.0%; services revenue was $52.7 million, up 73.2%. Services represented 41.1% of revenue, compared with 35.4% a year earlier. Support and maintenance grew 75.3% and subscriptions 70.9%. Total deferred revenue was $279.0 million at October 31, up from $249.2 million at July 31.
Cash, cash equivalents, and investments totaled $470.4 million at October 31, 2013, including $266.2 million in cash and equivalents and $204.2 million in investments. Working capital was $324.0 million. Operating cash flow was positive, while investing used $94.0 million, primarily for investment purchases and $15.7 million of property and equipment. Cash and equivalents declined $44.4 million during the quarter. The balance sheet reports no debt line item; it does report deferred revenue and other liabilities.
Material changes versus the prior comparable period
- Revenue rose 49.2%, with services growing faster than product sales; Americas revenue was 67.2% of total, EMEA 18.6%, and APAC 14.2%.
- Gross margin improved 1.7 percentage points, reflecting product cost reductions and mix, and services margin improvement.
- Operating expenses increased 56.3% to $101.4 million, faster than revenue. Sales and marketing increased 58.1%; research and development increased 49.4%; general and administrative increased 57.7%. Share-based compensation totaled $14.4 million versus $8.3 million.
- Net loss widened to $7.9 million from $3.5 million. Operating margin declined to (5.5%) from (3.6%).
- Operating cash flow and free cash flow increased year over year. Billings rose to $157.9 million from $110.5 million.
Outlook, risks, contingencies, and unusual items
The filing provides no specific quarterly or annual financial guidance. Management said existing cash, cash equivalents, and operating cash flow should meet anticipated needs for at least 12 months. It expects operating expenses to rise in absolute dollars, including investment in research and development, sales and marketing, and infrastructure. Management cited macroeconomic uncertainty, particularly weakness in EMEA and slower U.S. Government spending and a temporary shutdown, as potential pressures; it also cautioned that recent revenue growth may not persist.
Juniper Networks alleges that Palo Alto Networks appliances infringe its patents and seeks injunctions and damages. A trial was scheduled for February 24, 2014. The company said a loss was not probable at the time of filing and that it could not estimate a possible loss or range. Juniper also filed counterclaims alleging infringement of additional patents. Palo Alto Networks is separately suing Juniper over its own patents. The company expected litigation expense to increase approaching trial.
Other notable commitments and items include $25.3 million of open contract-manufacturer orders, net future operating lease payments of $99.6 million after sublease proceeds, and a $5.0 million intellectual-property purchase. Approximately $43.9 million of cash was held outside the United States and was not then available for domestic operations without potential U.S. tax on repatriation. Three channel partners accounted for 64% of quarterly revenue, while four accounted for 78% of gross accounts receivable. Other key risks include competition, reliance on channel partners and third-party manufacturing, customer renewals, execution of rapid growth, and product or cybersecurity defects.
Important facts for investors to verify
- Whether recurring services growth, deferred revenue, and billings continue to convert into recognized revenue and cash flow.
- Whether expense growth moderates relative to revenue and the company can improve operating profitability; assess the effect of share-based compensation.
- Developments and potential financial consequences of the Juniper litigation and related counterclaims.
- Customer and receivables concentration among channel partners, and exposure to international and U.S. Government spending conditions.
- Liquidity, investment portfolio, overseas cash availability, and the company’s stated 12-month funding assessment.