F5 Networks, Inc. — Form 10-Q Summary
Reporting period: Fiscal first quarter ended December 31, 2018; comparisons are with the three months ended December 31, 2017. The company provides application services and related hardware, software, cloud subscriptions, and support. Prior-year results were not restated for ASC 606 adoption.
Financial performance
| Metric | Q1 FY2019 | Q1 FY2018 | Change |
|---|---|---|---|
| Revenue | $543.8 million | $523.2 million | +3.9% |
| Product revenue | $233.9 million | $227.3 million | +2.9% |
| Services revenue | $309.9 million | $295.9 million | +4.7% |
| Gross profit / margin | $457.1 million / 84.1% | $435.8 million / 83.3% | Margin +0.8 percentage points |
| Operating income / margin | $158.2 million / 29.1% | $142.0 million / 27.1% | Margin +2.0 points |
| Net income | $130.9 million | $88.4 million | +48.0% |
| Diluted EPS | $2.16 | $1.41 | +53.2% |
| Operating cash flow | $197.9 million | $190.0 million | +$7.9 million |
Net margin rose to 24.1% from 16.9%, helped in part by the effective tax rate falling to 20.8% from 38.7%. The prior-year rate included one-time tax-reform charges; the current-year rate reflected the lower U.S. federal rate and other tax-reform provisions. Other income increased to $7.1 million, primarily from investment interest and foreign-currency gains.
Cash, cash equivalents, and short- and long-term investments totaled $1.546 billion at quarter-end, up $95.7 million from September 30, 2018. The company reported no long-term debt. Cash used for capital expenditures was $21.0 million; operating cash flow less capital expenditures was approximately $176.8 million. Financing activities used $82.1 million, including $101.0 million of share repurchases. Current deferred revenue was $796.4 million and long-term deferred revenue was $353.1 million.
Changes and management commentary
- Revenue growth was primarily driven by services, reflecting a larger installed base and maintenance purchases and renewals. International revenue represented 51.3% of total revenue, versus 49.5% a year earlier.
- Operating expenses rose 1.7% to $298.8 million. R&D increased 7.2%, including higher personnel and consultant costs; sales and marketing declined 2.2%, primarily due to lower commissions.
- Management said cash and investments, together with expected operating cash generation, should meet operating requirements for at least the next 12 months. It expects R&D expense to remain consistent as a percentage of revenue in the foreseeable future. No specific revenue or earnings guidance was provided in the filing.
- Management attributed the increase in deferred revenue primarily to growth in maintenance contracts. Days sales outstanding was 54.
- F5 adopted ASC 606 on October 1, 2018 using the modified retrospective method. Adoption increased opening retained earnings by $36.0 million, primarily from capitalized contract acquisition costs; its impact on current-quarter income and cash-flow statements was described as immaterial. Remaining performance obligations were $1.150 billion, expected to be recognized over 2019, 2020, and thereafter.
Risks, contingencies, and unusual items
- F5 authorized an additional $1.0 billion for its repurchase program in October 2018. It repurchased 568,758 shares at an average $177.64 during the quarter; approximately $1.5 billion remained authorized at December 31, 2018.
- Several distributors each accounted for more than 10% of quarterly revenue, led by Ingram Micro at 16.8%; this creates channel concentration to monitor.
- A patent-infringement lawsuit against Radware was scheduled for trial in November 2019. F5 had not accrued a loss contingency and said the outcome and potential exposure could not be determined. Other ordinary-course legal matters also remain unresolved.
- Investment portfolio values and income are exposed to interest-rate and credit risks. F5 reported unrealized investment losses but determined none were other-than-temporarily impaired. International operations also expose the company to foreign-currency and geographic risks.
- Operating leases extend through 2033, and component-purchase commitments depend on contract-manufacturer forecasts. F5 expected adoption of the new lease standard in fiscal 2020 to materially affect its balance sheet.
- The company said there were no material changes to the risk factors in its fiscal 2018 Form 10-K. Disclosure controls were deemed effective; internal controls were updated for ASC 606 implementation.
Important facts for investors to verify
- Whether revenue growth, particularly maintenance and subscription-related growth, continues and how product and service mix affects margins.
- Whether the lower effective tax rate is sustainable, given the prior-year one-time tax charges and potential changes in tax estimates or audits.
- Distributor concentration, receivable exposure, and the quality and timing of deferred revenue and remaining performance obligations.
- The pace and price of share repurchases, their effect on share count and cash, and competing needs such as capital spending or acquisitions.
- Developments in the Radware litigation, lease-standard adoption, and interest-rate or credit effects on the investment portfolio.