NetScout Systems, Inc. — Form 10-K Summary
Reporting period: Fiscal year ended March 31, 2018. The filing also reports the fiscal fourth quarter ended March 31, 2018; this is not a calendar-year 2017 fourth quarter.
Business context
NetScout sells network and application performance monitoring, service assurance and cybersecurity solutions to enterprises, service providers and government customers. Its offerings include hardware, software and support services, with revenue reported in one segment. Management said results were pressured by reduced spending from a large tier-one service provider, broader service-provider capital-spending weakness, delayed federal projects and longer sales cycles.
Key financial results
| Metric | FY2018 | FY2017 | Change |
|---|---|---|---|
| Total revenue | $986.8 million | $1,162.1 million | Down 15% |
| Product revenue | $546.1 million | $735.5 million | Down 26% |
| Service revenue | $440.7 million | $426.6 million | Up 3% |
| Gross profit / margin | $714.9 million / 72% | $816.0 million / 70% | Profit down 12%; margin up 2 points |
| Operating income (loss) | $(4.1) million | $62.1 million | Declined |
| Net income | $79.8 million | $33.3 million | Up $46.5 million |
| Diluted EPS | $0.90 | $0.36 | Up |
| Cash from operations | $222.5 million | $226.8 million | Down $4.3 million |
| Cash, cash equivalents and marketable securities | $447.8 million | $464.7 million | Down $16.9 million |
| Debt | $600.0 million | $300.0 million | Up $300.0 million |
| Working capital | $339.1 million | $394.3 million | Down $55.2 million |
Net income included a $98.5 million income-tax benefit; the company reported a pretax loss of $18.7 million and an effective tax rate of 527.7%, primarily reflecting the Tax Cuts and Jobs Act. The tax accounting was provisional. Non-GAAP diluted EPS was $1.41, versus $1.92 in FY2017; the company’s non-GAAP measures exclude specified acquisition, amortization, share-based compensation, restructuring and tax items and are not substitutes for GAAP results.
Fourth-quarter revenue was $235.2 million, versus $318.9 million in the prior-year quarter. Fourth-quarter net income was $16.8 million, versus $22.3 million; diluted EPS was $0.20, versus $0.24.
Material changes and liquidity
- Revenue fell primarily because of lower product sales to a large service provider and weaker-than-expected service-assurance and DDoS orders from other providers. Service revenue increased, mainly with maintenance contracts.
- Gross margin improved despite lower revenue, while the company recorded an operating loss. Operating expenses declined 5%, but amortization of acquired intangibles and restructuring charges increased.
- Operating cash flow remained substantial at $222.5 million. Investing cash flow was positive $57.1 million, including net proceeds from marketable-security maturities; financing cash flow was negative $221.0 million, including repurchases.
- NetScout spent $501.3 million on treasury-stock repurchases during FY2018. A $300 million accelerated share repurchase was financed with additional borrowing; final settlement was expected by the end of FY2019’s second quarter.
- The amended credit agreement provides a $1.0 billion senior secured revolving facility maturing January 2023. The company had $600 million outstanding at year-end, reported a 3.38% interest rate, and was in compliance with its covenants. The facility is secured by substantially all company and guarantor assets and includes leverage and interest-coverage requirements.
Outlook, risks and unusual items
- Management expected the service-provider spending weakness, federal project delays and longer sales cycles to affect revenue through FY2019. No specific FY2019 revenue or earnings guidance is provided in the filing.
- Management expected FY2019 operating cash flow to be lower than FY2018 because of working-capital changes, and capital expenditures to be higher. It believed cash, available debt, short-term investments and operating cash flow would meet anticipated needs for at least 12 months.
- NetScout planned continued product integration and investment in enterprise application performance management and cybersecurity. It expected to introduce an advanced-threat offering integrated with its ISNG platform during FY2019. It also expected approximately $1.7 million of additional restructuring charges in the first half of FY2019.
- A jury found for Packet Intelligence in a patent case and awarded $5.75 million in damages. The court had not entered final judgment or decided equitable issues; NetScout characterized the loss as reasonably possible and estimated potential liability from $0 to the jury award, plus possible interest and other adjustments. The company intended to contest the claims, including by appeal if necessary.
- Adoption of the new revenue standard on April 1, 2018 was expected to release approximately $34.9 million of deferred revenue and create $7.2 million of capitalized commissions. The filing also identifies foreign-exchange exposure, competitive and technology risks, customer and government spending uncertainty, acquisition integration, cybersecurity, and reliance on certain suppliers as risks.
Most important facts for investors to verify
- Whether revenue stabilizes in FY2019, particularly product sales to service providers and federal customers.
- How much FY2018 net income and future earnings depend on tax-law adjustments, and the finalization of provisional Tax Act accounting.
- Debt repayment capacity, floating-rate exposure, covenant headroom and the use of borrowing to fund repurchases.
- Final settlement of the $300 million accelerated repurchase and the ongoing scale of buybacks relative to operating cash flow.
- Outcome and final financial exposure in the Packet Intelligence litigation.
- Actual revenue and commission-accounting effects when the company adopts the new revenue standard.