Akamai Technologies, Inc. — Q2 2017 Form 10-Q Summary
Business context and reporting period
Akamai provides cloud services for delivering, optimizing and securing Internet content and business applications through a globally distributed platform of more than 200,000 servers across 130 countries. This unaudited Form 10-Q covers the three and six months ended June 30, 2017, compared with the corresponding 2016 periods.
Key financial metrics
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $608.9 million | $572.1 million | $1.218 billion | $1.140 billion |
| Revenue growth | 6.4% | — | 6.9% | — |
| Income from operations | $87.2 million | $110.2 million | $202.4 million | $224.3 million |
| GAAP operating margin | 14.2% | 19.2% | 16.6% | 19.7% |
| Net income | $57.8 million | $73.6 million | $138.7 million | $148.5 million |
| GAAP diluted EPS | $0.33 | $0.42 | $0.80 | $0.84 |
| Non-GAAP diluted EPS | $0.62 | $0.64 | $1.31 | $1.30 |
| Adjusted EBITDA | $223.7 million | $231.1 million | $464.3 million | $465.2 million |
| Adjusted EBITDA margin | 37% | 40% | 38% | 41% |
| Cash flow from operations | — | — | $367.3 million | $435.7 million |
Performance and Security Solutions revenue increased 15.1% in the quarter and 15.9% year to date. Cloud Security Solutions revenue increased 32% in the quarter and 34% year to date. Media Delivery Solutions revenue declined 9.2% in the quarter and 9.1% year to date, while Services and Support Solutions revenue increased 11.9% and 13.3%, respectively.
At June 30, 2017, cash and cash equivalents were $352.5 million, marketable securities totaled approximately $1.062 billion, and total cash, cash equivalents and marketable securities were approximately $1.4 billion. Par value of convertible senior notes was $690.0 million, with a carrying value of $651.4 million. Management reported net cash of approximately $724.9 million after considering the notes.
Capital expenditures and capitalized internal-use software costs totaled $188.2 million in the first six months. The company paid $197.2 million, net of cash acquired, for the Soasta acquisition. It repurchased 3.1 million shares for $177.6 million during the first six months.
Material changes versus the prior comparable period
- Revenue increased, but operating income declined 20.8% in the quarter and 9.7% year to date as operating expenses grew faster than revenue.
- GAAP operating margin declined by approximately 5 percentage points in both the quarter and first half. Research and development, sales and marketing, and general and administrative expenses increased substantially due primarily to hiring, infrastructure investment, geographic expansion and acquisition-related activity.
- Cost of revenue as a percentage of revenue improved to 35.3% from 36.1% in the quarter and to 34.5% from 35.2% year to date, reflecting lower bandwidth and co-location costs relative to revenue.
- Operating cash flow declined $68.5 million year over year to $367.3 million, primarily due to higher bonus and tax payments, prepayments for multiyear network maintenance contracts and lower profitability.
- In April 2017, Akamai acquired Soasta for $199.3 million in cash. The acquisition added approximately 145 employees, increased goodwill by $121.7 million and was dilutive to second-quarter EPS; management expected dilution to continue through at least the remainder of 2017.
- Revenue from six major Internet Platform Customers declined to $51.2 million in the quarter and $102.5 million year to date, from $61.5 million and $134.0 million, respectively, in the prior-year periods.
- International revenue grew 16.3% in the quarter and 17.6% year to date, while reported revenue was reduced by unfavorable currency effects of $3.9 million and $5.0 million, respectively.
Guidance, outlook, commentary and unusual items
- Management expected the full-year effective tax rate to remain consistent with the 31.3% rate reported for the first six months, excluding future discrete items.
- Management expected lower revenue growth in Performance and Security Solutions during the remainder of 2017 because of moderating purchases of lower-end web performance products by media customers.
- Media Delivery Solutions revenue was expected to continue moderating in the second half of 2017 because of customer-owned delivery infrastructure, slower traffic growth and competitive pressures.
- Management expected cost of revenue, research and development, sales and marketing, and general and administrative expenses to increase during 2017 as the company expands its network, headcount, facilities and product development activities.
- Second-quarter restructuring charges were $3.0 million, primarily related to Soasta severance and a facility lease termination. Acquisition-related costs were $3.1 million, and acquired-intangible amortization was $7.8 million.
- Payments under a Limelight patent license arrangement reduced general and administrative expense by $4.1 million in the quarter and $8.1 million year to date; related interest income was $0.4 million and $0.9 million, respectively.
- Management believed existing cash, marketable securities and forecast operating cash flow would satisfy foreseeable needs for at least the next 12 months.
- The company had not provided a clear quantitative revenue or earnings forecast in the filing text.
Principal risks and contingencies
- Large Internet Platform Customers may continue shifting media delivery to internal infrastructure, reducing traffic and revenue.
- Competition, commoditization and contract renewals at lower prices may pressure revenue and margins, while many bandwidth and co-location costs are fixed in the short term.
- Cyberattacks, service disruptions, capacity constraints, software defects and security incidents could cause customer losses, liability and reputational damage.
- The Soasta acquisition may create integration challenges, ongoing EPS dilution, additional amortization and potential impairment or restructuring costs.
- The $690.0 million convertible notes mature in February 2019. Conversion, refinancing or repurchase requirements could require substantial cash or equity issuance.
- A Limelight patent infringement case remains pending. Akamai has indemnified XO Communications for damages in the matter, and the filing states that no provision was recorded because a possible loss range could not be estimated.
- Foreign-currency exposure, international regulation, privacy requirements, tax audits and changing Internet regulations could affect results.
- The company expected significant right-of-use assets and lease liabilities when it adopts the new lease accounting standard in 2019. Revenue recognition changes effective in 2018 were not expected to have a material overall impact, although contract-cost accounting was still being evaluated.
Investor verification checklist
- Verify whether security and performance growth can offset continued declines in Media Delivery Solutions and reduced usage by major Internet Platform Customers.
- Assess whether increased hiring, network investment, acquisitions and facilities costs can be absorbed without further operating-margin compression.
- Track Soasta integration, revenue contribution, EPS dilution, restructuring charges and potential goodwill or intangible-asset impairment.
- Reconcile GAAP results with non-GAAP measures, particularly the substantial exclusions for stock-based compensation, amortization, acquisition costs and restructuring.
- Evaluate cash conversion, capital expenditures, marketable-security balances, share repurchases and the company’s ability to address the 2019 convertible notes.
- Monitor the Limelight litigation, related indemnification exposure and any future legal or regulatory developments.