Arista Networks, Inc. — FY2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. The filing also presents unaudited fourth-quarter results. Filed February 15, 2019. Arista sells cloud networking hardware, EOS software and related support; it reported one operating segment.
Financial performance
| Metric | FY2018 | FY2017 | Change |
|---|---|---|---|
| Revenue | $2.151 billion | $1.646 billion | +30.7% |
| Gross profit / margin | $1.373 billion / 63.8% | $1.062 billion / 64.5% | Profit +29.3%; margin down 0.7 percentage point |
| Operating income | $273.3 million | $470.3 million | Down 41.9% |
| Net income | $328.1 million | $423.2 million | Down 22.5% |
| Diluted EPS | $4.06 | $5.35 | Down 24.1% |
| Operating cash flow | $503.1 million | $631.6 million | Down 20.3% |
| Cash, cash equivalents and marketable securities | $1.956 billion | $1.536 billion | Up $420.6 million |
| Working capital | $2.108 billion | $1.737 billion | Up $371.8 million |
| Lease financing obligations | $37.7 million | $39.6 million | Down $1.8 million |
FY2018 product revenue was $1.841 billion (+28.5%); service revenue was $310.3 million (+45.4%). Operating expenses included a $405 million Cisco settlement charge, comprising $400 million paid to Cisco and $5 million in legal fees. The company recorded a related $96.9 million tax benefit. The filing reports no conventional borrowings in the presented debt metric; total indebtedness of $37.7 million consisted of lease financing obligations.
For Q4 2018, revenue was $595.7 million, gross profit $375.0 million, operating income $193.6 million, net income $170.3 million and diluted EPS $2.10. Compared with Q4 2017, revenue increased from $467.9 million; gross profit from $307.2 million; operating income from $139.4 million; and net income from $103.8 million. Q4 gross margin was approximately 63.0%, versus approximately 65.6% a year earlier.
Material changes and drivers
- Revenue growth was driven mainly by existing customers expanding cloud networks and acceptance of newer switches; service revenue grew with the installed base and support renewals.
- Gross margin fell year over year, primarily from product/customer mix, partly offset by lower inventory-related charges and improved service margins.
- Operating income and annual earnings were affected by the Cisco settlement. FY2018 operating expenses also rose with investment in R&D and sales; R&D was $442.5 million, or 20.6% of revenue.
- Operating cash flow declined and included the $405 million Cisco settlement payment. Cash used in investing was $755.1 million, including $96.8 million for acquisitions and net purchases of marketable securities.
- Arista acquired Mojo Networks and Metamako in 2018 for total consideration of approximately $117.3 million. Acquired-business revenue and earnings were immaterial in FY2018.
- Microsoft, through channel partner World Wide Technology, accounted for 27% of FY2018 revenue, up from 16% in each of 2017 and 2016.
Outlook, risks and contingencies
- Management expects revenue to continue growing in absolute dollars year over year, but expects growth rates to decline as the business scales. It expects near-term operating expenses to rise and gross margins to fluctuate. No quantified FY2019 guidance is provided in the supplied filing text.
- Management says cash, cash equivalents, marketable securities and operating cash flow should cover working-capital needs and growth plans for at least the next 12 months. Contractual obligations totaled $524.2 million, including $346.0 million of purchase commitments due within one year; uncertain tax liabilities of $40.3 million were excluded from that schedule.
- Customer concentration and order timing are significant risks: purchases are generally made by cancellable purchase orders, and management cautions that Microsoft’s unusually high FY2018 contribution may not repeat.
- Supply depends on three contract manufacturers and limited- or sole-source components, without guaranteed supply contracts. The filing also highlights competition and pricing pressure, tariffs and trade uncertainty, inventory forecasting, product defects, cybersecurity, foreign exchange, tax uncertainty and acquisition integration.
- All ongoing Cisco district-court and USITC litigation was settled for $400 million plus legal fees; the parties agreed to releases and standstill/dispute-resolution terms. OptumSoft litigation remains unresolved; Phase II was scheduled for September 23, 2019. The company says a loss was not probable but a possible loss or range could not be estimated.
- The company adopted ASC 606 in 2018; management said its effect on FY2018 results was not material. It expected lease accounting adoption in 2019 to add approximately $70.9 million in right-of-use assets and $79.4 million in lease liabilities.
Important facts for investors to verify
- Separate recurring operating performance from the $405 million Cisco settlement charge and the related tax benefit when assessing FY2018 earnings.
- Track Microsoft’s revenue share, large-customer purchase patterns and any change in order timing or pricing.
- Monitor gross-margin trends, inventory write-downs and supply commitments; FY2018 inventory write-downs were $20.8 million.
- Assess operating cash conversion and liquidity alongside acquisition spending, lease obligations and committed supplier purchases.
- Follow the OptumSoft case, tariff developments and the progress of customer requalification for product features previously affected by Cisco-related orders.
- Review the filing’s detailed tax disclosures: gross unrecognized tax benefits were $74.4 million at year-end, and the company noted potential tax examination and interpretation uncertainty.