Akamai Technologies, Inc. — Q3 2013 Form 10-Q
Business context and reporting period
Akamai provides cloud services for delivering, optimizing and securing online content and business applications through a globally distributed platform of more than 141,000 servers in approximately 1,200 networks across 90 countries. This unaudited Form 10-Q covers the quarter and nine months ended September 30, 2013, with comparisons to the corresponding 2012 periods.
Key financial metrics
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Revenue | $395.8 million | $345.3 million | $1,141.9 million | $996.1 million |
| Revenue growth | 14.6% | — | 14.6% | — |
| Income from operations | $99.5 million | $80.2 million | $298.2 million | $218.7 million |
| Operating margin | 25.2% | 23.1% | 26.0% | 22.0% |
| Net income | $79.8 million | $48.2 million | $213.1 million | $135.7 million |
| Net margin | 20.2% | 13.9% | 18.6% | 13.6% |
| Diluted EPS | $0.44 | $0.27 | $1.17 | $0.75 |
| Adjusted EBITDA | $173.3 million | $156.5 million | $505.2 million | $442.3 million |
For the nine months, operating cash flow was $392.2 million versus $377.3 million in the prior-year period. Investing cash flow was $(286.6) million, including $142.6 million of capital expenditures and $55.2 million of capitalized internal-use software costs. Financing cash flow was $(68.4) million, including $112.4 million of share repurchases. Cash and cash equivalents were $235.0 million at September 30, 2013, and total cash, cash equivalents and marketable securities were approximately $1.2 billion.
Total assets were $2.885 billion and total liabilities were $342.0 million at September 30, 2013. The balance sheet presents no material debt balance. Marketable securities totaled $951.5 million, accounts receivable totaled $256.5 million, and stockholders’ equity was $2.543 billion.
Material changes versus the prior comparable period
- Revenue increased 14.6% in both the quarter and nine-month period, driven by new customers, incremental services, excess traffic usage and one-time events, partly offset by customer losses, pricing pressure and the ADS divestiture.
- Performance and Security Solutions revenue grew 18.9% in Q3 and 18.4% for the nine months; Service and Support Solutions grew 33.9% and 36.7%, respectively; Media Delivery Solutions grew 14.6% and 15.0%.
- Cost of revenue declined 1.6% in Q3 and 3.4% for the nine months, reducing cost of revenue to 33.4% and 33.0% of revenue, respectively, from 38.9% and 39.2%. Lower network depreciation, bandwidth costs and co-location costs were partly offset by higher payroll and software amortization.
- Operating and net margins expanded materially, aided by revenue growth, network efficiencies and a change in estimated useful lives of network assets from three to four years. The useful-life change reduced depreciation expense by approximately $10.3 million in Q3 and $37.2 million for the nine months.
- Research and development, sales and marketing, and general and administrative expenses increased as Akamai expanded headcount and invested in product development, sales capacity, geographic expansion, facilities and infrastructure.
- Akamai divested its Advertising Decision Solutions business during the first quarter for a $25.0 million face-value convertible note receivable due July 24, 2014. The business was not material to consolidated revenue or earnings.
- A strategic network transaction with AT&T was treated as a business combination. Total consideration was $55.0 million, including $27.5 million paid in Q3; the remaining amount was recorded as a current liability and expected to be paid in Q4.
- The company repurchased 2.8 million shares for $112.4 million during the nine months. In October 2013, the board authorized a new $750 million repurchase program through December 31, 2016.
Guidance, outlook, risks and unusual items
- Management expected to continue generating net income on a quarterly and annual basis during 2013, but provided no specific revenue or earnings guidance in the filing.
- Management expected Q4 cost of revenue to increase as traffic and server deployments rise, while lower unit bandwidth costs, network efficiency and reduced depreciation were expected to provide partial offsets.
- Research and development, sales and marketing, and general and administrative expenses were expected to increase during the remainder of 2013 because of continued hiring, product investment, information technology spending and facility expansion.
- The effective tax rate was 29.6% for the nine months versus 39.4% in 2012. The 2013 rate benefited from a $16.5 million domestic production activities deduction and the reinstated federal research and development credit. Management expected the tax rate to increase during the remainder of 2013, subject to discrete items.
- Prior-period statements were revised for immaterial expense-classification and cash-flow-classification errors. The revisions did not affect revenue, total expenses, operating income, net income, EPS, balance sheet totals or the net change in cash.
- Key risks include intense competition and pricing pressure, customer cancellations or lower renewal rates, reliance on traffic growth, network outages, cybersecurity incidents, dependence on third-party bandwidth and co-location providers, foreign-exchange exposure, macroeconomic weakness, international regulatory and privacy requirements, intellectual-property claims, acquisition integration and tax uncertainties.
- Management stated that existing cash, marketable securities and forecast operating cash flow should satisfy working-capital and capital-expenditure needs for at least 24 months, based on its current business plan.
Important facts for investors to verify
- Whether revenue growth and margin expansion remain achievable after accounting for the favorable network-asset useful-life change and one-time bandwidth settlement credits.
- The sustainability of pricing, renewal rates and traffic growth, particularly in Media Delivery Solutions.
- The scale and returns from continued headcount, infrastructure, research and development, and sales investments.
- The timing and valuation of the $25.0 million convertible note receivable from the ADS divestiture, which was valued using significant unobservable assumptions.
- The remaining obligations and integration benefits associated with the AT&T strategic network transaction and prior acquisitions.
- The effect of the October 2013 $750 million share repurchase authorization on cash balances, share count and capital allocation.
- Future effective tax rates, including the reversal of 2013 discrete tax benefits and unresolved tax exposures.