F5 Networks, Inc. — Form 10-Q Summary
Business context and reporting period
Unaudited results for the quarter and six months ended March 31, 2011 (fiscal Q2 and first half), compared with the periods ended March 31, 2010. F5 sells application delivery networking and file virtualization products, plus maintenance, consulting, and training services. Most product revenue came from application delivery networking.
Key financial metrics
| Metric | Q2 FY2011 | Q2 FY2010 | First half FY2011 | First half FY2010 |
|---|---|---|---|---|
| Revenue | $277.6 million | $206.1 million | $546.5 million | $397.2 million |
| Gross profit | $226.9 million | $164.7 million | $446.9 million | $316.7 million |
| Gross margin | 81.7% | 79.9% | 81.8% | 79.7% |
| Operating income | $83.2 million | $49.9 million | $163.1 million | $93.6 million |
| Net income | $55.6 million | $33.1 million | $111.2 million | $62.4 million |
| Diluted EPS | $0.68 | $0.41 | $1.36 | $0.77 |
- Q2 product revenue was $173.7 million and services revenue was $103.9 million. Both grew year over year; total revenue increased 34.7% in the quarter and 37.6% for the first half.
- Operating margin was 30.0% for Q2 versus 24.2%; net margin was 20.0% versus 16.1%.
- First-half operating cash flow was $194.4 million, compared with $151.9 million. Investing activities used $110.7 million and financing activities used $46.0 million. Cash and cash equivalents ended at $206.2 million.
- Cash, short- and long-term investments totaled $997.2 million at March 31, 2011, up from $862.1 million at September 30, 2010. The company reported no long-term debt. Current assets were $690.8 million and current liabilities were $342.1 million.
- Deferred revenue totaled $313.3 million, including $248.2 million current. Accounts receivable were $142.9 million; second-quarter days sales outstanding were 46.
Material changes versus prior period
- Product revenue rose 34.1% in Q2 and 38.8% for the first half; service revenue rose 35.8% and 35.6%, respectively. Management attributed growth mainly to a larger installed base and demand for core ADN products, including application security and WAN optimization.
- Gross margin improved year over year, while product gross margin declined to 81.9% from 78.8%? The filing’s table labels the product and service percentages as cost of revenue as a share of related revenue; product cost share was 18.1% versus 21.2%, and service cost share was 18.5% versus 18.3% in Q2. Product costs rose with shipment volume and warranty expense.
- Operating expenses increased in dollars, but fell as a share of revenue: 51.8% in Q2 versus 55.7%. Sales and marketing grew with commissions, personnel, and marketing initiatives; R&D and G&A also increased, principally with staffing and related costs.
- International sales represented 41.0% of Q2 revenue, compared with 42.5% a year earlier. One distributor accounted for 19.6% of Q2 revenue and 19.2% of first-half revenue.
- F5 repurchased $71.5 million of shares in the first half. As of May 3, 2011, it reported 5.1 million shares repurchased and retired at an average $45.51 per share, with $166.0 million remaining under its repurchase programs.
Outlook, risks, contingencies, and unusual items
- No specific revenue or earnings guidance was provided. Management said operating cash and investments, excluding auction-rate securities, plus expected operating cash generation should cover requirements for at least the next 12 months. It expected R&D expense to remain consistent as a percentage of revenue.
- Management cited quarter-to-quarter volatility, lengthy and unpredictable sales cycles, dependence on ADN products, competition and pricing pressure, product development and transition risks, and reliance on a single contract manufacturer and limited-source components.
- Liquidity risk remains for auction-rate securities: $16.4 million fair value ($19.0 million par) was classified as long-term after auctions failed. F5 said it continued to receive interest and did not expect this illiquidity to materially affect overall liquidity; future impairment remains possible.
- F5 had a $13.5 million commitment for component inventory purchases in the next quarter. It reported no pending legal proceedings expected to have a material adverse effect; derivative litigation settlements received final court approval in January 2011.
- Unrecognized tax liabilities were approximately $8.2 million; potential changes may result from audits or statute expirations, but the company could not estimate a range. Adoption of updated multiple-element revenue guidance in fiscal Q1 had no material impact.
- Stock-based compensation was $44.7 million for the first half, with $70.2 million of unrecognized compensation cost, mostly expected to be recognized over the next two years. The annual goodwill impairment test found no impairment.
Important facts for investors to verify
- Reconcile growth and improving overall gross margin with product mix, product-level costs, warranty expense, and operating expense trends.
- Monitor distributor concentration, accounts receivable exposure, deferred revenue growth, and collections.
- Track liquidity and valuation of auction-rate securities, including the gap between par value and fair value.
- Assess dependence on ADN products and the single contract manufacturer, along with supply availability and competitive pricing.
- Review share repurchases, stock-based compensation, and potential tax-liability changes for their effects on per-share results and capital allocation.