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F5 NETWORKS INC - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge)
The following discussion of our financial condition and results of operations
contains forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934 and Section 27A of the Securities Act of 1933.
These statements include, but are not limited to, statements about our plans,
objectives, expectations, strategies, intentions or other characterizations of
future events or circumstances and are generally identified by the words
"expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates,"
and similar expressions. These forward-looking statements are based on current
information and expectations and are subject to a number of risks and
uncertainties. Our actual results could differ materially from those expressed
or implied by these forward-looking statements. Factors that could cause or
contribute to such differences include, but are not limited to, those discussed
under "Item 1A. Risk Factors" herein and in other documents we file from time to
time with the Securities and Exchange Commission. We assume no obligation to
revise or update any such forward-looking statements.
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Overview
We are a global provider of appliances consisting of software and hardware and
services that help companies efficiently and securely manage the delivery,
optimization and security of application and data traffic on Internet-based
networks, and to optimize the performance and utilization of data storage
infrastructure and other network resources. We market and sell our products
primarily through multiple indirect sales channels in the Americas (primarily
the United States); Europe, the Middle East, and Africa (EMEA); Japan; and the
Asia Pacific region (APAC). Enterprise customers (Fortune 1000 or Business Week
Global 1000 companies) in the technology, telecommunications, financial
services, transportation, education, manufacturing and health care industries,
along with government customers, continue to make up the largest percentage of
our customer base.
Our management team monitors and analyzes a number of key performance indicators
in order to manage our business and evaluate our financial and operating
performance on a consolidated basis. Those indicators include:
• Revenues. The majority of our revenues are derived from sales of our
Application Delivery Networking (ADN) products including our high end VIPRION
chassis and related software modules; BIG-IP Local Traffic Manager, BIG-IP
Global Traffic Manager, BIG-IP Link Controller, BIG-IP Application Security
Manager, BIG-IP Edge Gateway, BIG-IP WAN Optimization module, BIG-IP Access
Policy Manager, WebAccelerator, and FirePass SSL VPN appliance; and our ARX
file virtualization products. We also derive revenues from the sales of
services including annual maintenance contracts, training and consulting
services. We carefully monitor the sales mix of our revenues within each
reporting period. We believe customer acceptance rates of our new products
and feature enhancements are indicators of future trends. We also consider
overall revenue concentration by customer and by geographic region as
additional indicators of current and future trends.
• Cost of revenues and gross margins. We strive to control our cost of revenues
and thereby maintain our gross margins. Significant items impacting cost of
revenues are hardware costs paid to our contract manufacturers, third-party
software license fees, amortization of developed technology and personnel and
overhead expenses. Our margins have remained relatively stable; however,
factors such as sales price, product mix, inventory obsolescence, returns,
component price increases and warranty costs could significantly impact our
gross margins from quarter to quarter and represent significant indicators we
monitor on a regular basis.
• Operating expenses. Operating expenses are substantially driven by personnel
and related overhead expenses. Existing headcount and future hiring plans are
the predominant factors in analyzing and forecasting future operating expense
trends. Other significant operating expenses that we monitor include
marketing and promotions, travel, professional fees, computer costs related
to the development of new products, facilities and depreciation expenses.
• Liquidity and cash flows. Our financial condition remains strong with significant cash and investments and no long term debt. The increase in cash
and investments for the first six months of fiscal year 2012 was primarily
due to net income from operations, with operating activities providing cash
of $233.5 million. This increase was partially offset by $84.8 million of
cash used to repurchase outstanding common stock under our stock repurchase
program in the first half of fiscal year 2012. Going forward, we believe the
primary driver of cash flows will be net income from operations. On
February 22, 2012, we acquired all of the capital stock of Traffix
Communication Systems Ltd. (Traffix Systems) for cash of $133.7 million.
Capital expenditures for the first six months of fiscal year 2012 were
comprised primarily of information technology infrastructure and equipment to
support the growth of our core business activities. We will continue to
evaluate possible acquisitions of, or investments in businesses, products, or
technologies that we believe are strategic, which may require the use of
cash.
• Balance sheet. We view cash, short-term and long-term investments, deferred
revenue, accounts receivable balances and days sales outstanding as important
indicators of our financial health. Deferred revenues increased in the second
quarter of fiscal year 2012 due to growth in the amount of annual maintenance
contracts purchased on new products and maintenance renewal contracts related
to our existing product installation base. Our days sales outstanding for the
second quarter of fiscal year 2012 was 49.
Summary of Critical Accounting Policies and Estimates
The preparation of our financial condition and results of operations requires us
to make judgments and estimates that may have a significant impact upon our
financial results. We believe that, of our significant accounting policies, the
following require estimates and assumptions that require complex, subjective
judgments by management, which can materially impact reported results: revenue
recognition; reserve for doubtful accounts; reserve for product returns; reserve
for warranties; accounting for income taxes; stock-based
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compensation; investments; goodwill impairment; and the fair value measurements
of financial assets and liabilities. None of these accounting policies and
estimates, have significantly changed since our annual report on Form 10-K for
the year ended September 30, 2011 (Form 10-K). Critical accounting policies and
estimates are more fully described in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" in the Form 10-K. Actual results
may differ from these estimates under different assumptions or conditions.
Results of Operations
The following discussion and analysis should be read in conjunction with our
consolidated financial statements, related notes and risk factors included
elsewhere in this Quarterly Report on Form 10-Q.
Three months ended Six months ended
March 31, March 31,
2012 2011 2012 2011
(in thousands, except percentages)
Net Revenues
Products $ 205,165 $ 173,710 $ 401,719 $ 345,202
Services 134,457 103,862 260,335 201,304
Total $ 339,622 $ 277,572 $ 662,054 $ 546,506
Percentage of net revenues
Products 60.4 % 62.6 % 60.7 % 63.2 %
Services 39.6 37.4 39.3 36.8
Total 100.0 % 100.0 % 100.0 % 100.0 %
Net revenues. Total net revenues increased 22.4% and 21.1% for the three and six
months ended March 31, 2012, respectively, from the same periods in the prior
year. Overall revenue growth for the three and six months ended March 31, 2012
was primarily due to increased service and product revenues as a result of our
increased installed base of products and increased demand for our core ADN
products, including application security and WAN optimization products.
International revenues represented 46.6% and 46.8% of total net revenues for the
three and six months ended March 31, 2012, respectively, compared to 45.1% and
45.4% for the same periods in the prior year, respectively. We expect
international sales will continue to represent a significant portion of net
revenues, although we cannot provide assurance that international revenues as a
percentage of net revenues will remain at current levels.
Net product revenues increased 18.1% and 16.4% for the three and six months
ended March 31, 2012, respectively, from the same periods in the prior year. The
increase in net product revenues for the three and six months ended March 31,
2012 was primarily due to an increase of $32.5 million and $59.9 million in
sales of our ADN products from the same periods in the prior year, respectively.
Sales of our ADN products represented 98.4% and 98.6% of product revenues for
the three and six months ended March 31, 2012, respectively, compared to 97.5%
and 97.4% of product revenues for the three and six months ended March 31, 2011,
respectively.
Net service revenues increased 29.5% and 29.3% for the three and six months
ended March 31, 2012, respectively, from the same periods in the prior year. The
increase in net service revenues was primarily due to increases in the purchase
or renewal of maintenance contracts driven by additions to our installed base of
products.
Avnet Technology Solutions and Ingram Micro, two of our worldwide distributors,
accounted for 16.6% and 13.9% of our total net revenue for the three months
ended March 31, 2012, respectively. Avnet Technology Solutions and Ingram Micro
accounted for 17.2% and 13.8% for the six months ended March 31, 2012,
respectively. Avnet Technology Solutions accounted for 19.6% and 19.2% of our
total net revenue for the three and six months ended March 31, 2011,
respectively. Ingram Micro accounted for 18.0% of our accounts receivable as of
March 31, 2012. Avnet Technology Solutions accounted for 14.5% of our accounts
receivable as of March 31, 2011. No other distributors accounted for more than
10% of total net revenue or receivables.
Three months ended Six months ended
March 31, March 31,
2012 2011 2012 2011
(in thousands, except percentages)
Cost of net revenues and Gross Margin
Products $ 33,668 $ 31,423 $ 66,868 $ 63,037
Services 23,926 19,250 46,332 36,599
Total 57,594 50,673 113,200 99,636
Gross profit $ 282,028 $ 226,899 $ 548,854 $ 446,870
Percentage of net revenues and Gross
Margin (as a percentage of related net
revenue)
Products 16.4 % 18.1 % 16.6 % 18.3 %
Services 17.8 18.5 17.8 18.2
Total 17.0 18.3 17.1 18.2
Gross profit 83.0 % 81.7 % 82.9 % 81.8 %
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Cost of net product revenues. Cost of net product revenues consist of finished
products purchased from our contract manufacturers, manufacturing overhead,
freight, warranty, provisions for excess and obsolete inventory and amortization
expenses in connection with developed technology from acquisitions. Cost of net
product revenues increased 7.1% and 6.1% for the three and six months ended
March 31, 2012, respectively, as compared to the same periods in the prior year.
The increase in cost of net product revenues was primarily due to a higher
volume of units shipped.
Cost of net service revenues. Cost of net service revenues consist of the
salaries and related benefits of our professional services staff, travel,
facilities and depreciation expenses. For the three and six months ended
March 31, 2012, cost of net service revenues as a percentage of net service
revenues remained consistent at 17.8%, compared to 18.5% and 18.2% for the three
and six months ended March 31, 2011, respectively. Professional services
headcount at the end of March 2012 increased to 583 from 476 at the end of March
2011. In addition, cost of net service revenues included stock-based
compensation expense of $2.2 million and $4.4 million for the three and six
months ended March 31, 2012, respectively, compared to $1.8 million and $3.6
million for the same periods in the prior year, respectively.
Three months ended Six months ended
March 31, March 31,
2012 2011 2012 2011
(in thousands, except percentages)
Operating expenses
Sales and marketing $ 110,995 $ 89,332 $ 217,233 $ 176,157
Research and development 43,568 34,507 82,690 67,113
General and administrative 22,785 19,846 44,462 40,530
Total $ 177,348 $ 143,685 $ 344,385 $ 283,800
Operating expenses (as a percentage of
net revenue)
Sales and marketing 32.7 % 32.2 % 32.8 % 32.2 %
Research and development 12.8 12.4 12.5 12.3
General and administrative 6.7 7.2 6.7 7.4
Total 52.2 % 51.8 % 52.0 % 51.9 %
Sales and marketing. Sales and marketing expenses consist of salaries,
commissions and related benefits of our sales and marketing staff, the costs of
our marketing programs, including public relations, advertising and trade shows,
travel, facilities, and depreciation expenses. Sales and marketing expenses
increased 24.2% and 23.3% for the three and six months ended March 31, 2012,
respectively, from the comparable periods in the prior year. The increase in
sales and marketing expense was primarily due to an increase of $16.2 million
and $32.1 million in commissions and personnel costs for the three and six
months ended March 31, 2012, respectively, from the comparable periods in the
prior year. The increased commissions and personnel costs were driven by growth
in sales and marketing employee headcount and increased sales volume for the
corresponding periods. Sales and marketing headcount at the end of March 2012
increased to 1,198 from 979 at the end of March 2011. Sales and marketing
expense included stock-based compensation expense of $9.4 million and $18.4
million for the three and six months ended March 31, 2012, respectively,
compared to $8.4 million and $17.1 million for the same periods in the prior
year, respectively. The increase in sales and marketing expense was also due to
investments in marketing promotions and initiatives aimed at promoting our brand
and creating market awareness of our technology and our products.
Research and development. Research and development expenses consist of the
salaries and related benefits for our product development personnel, prototype
materials and other expenses related to the development of new and improved
products, facilities and depreciation expenses. Research and development
expenses increased 26.3% and 23.2% for the three and six months ended March 31,
2012, respectively, from the comparable periods in the prior year. The increase
in research and development expense was primarily due to an increase of $6.3
million and $11.1 million in personnel costs for the three and six months ended
March 31, 2012, respectively, from the comparable periods in the prior year.
Research and development headcount at the end of March 2012 increased to 721
from 554 at the end of March 2011. In addition, research and development expense
included year over year increases in computer equipment and software costs of
$0.7 million and $2.1 million for the three and six months ended March 31, 2012,
respectively, to support the development of new and improved products. Research
and development expense included stock-based compensation expense of $6.5
million and $12.3 million for the three and six months ended March 31, 2012,
respectively, compared to $5.6 million and $11.5 million for the same periods in
the prior year, respectively. We expect research and development expenses to
remain consistent as a percentage of net revenue in the foreseeable future.
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General and administrative. General and administrative expenses consist of the
salaries, benefits and related costs of our executive, finance, information
technology, human resource and legal personnel, third-party professional service
fees, bad debt charges, facilities and depreciation expenses. General and
administrative expenses increased 14.8% and 9.7% for the three and six months
ended March 31, 2012, respectively, from the comparable periods in the prior
year. The increase in general and administrative expense was primarily due to an
increase of $1.5 million and $2.8 million in personnel costs for the three and
six months ended March 31, 2012, respectively, from the comparable periods in
the prior year. In addition, fees paid to outside consultants for legal, audit
and tax services increased $1.2 million and $1.9 million for the three and six
months ended March 31, 2012, respectively, from the comparable periods in the
prior year. Stock-based compensation expense was $4.9 million and $9.6 million
for the three and six months ended March 31, 2012, respectively, compared to
$5.7 million and $11.7 million for the same periods in the prior year,
respectively. General and administrative headcount at the end of March 2012
increased to 303 from 245 at the end of March 2011.
Three months ended Six months ended
March 31, March 31,
2012 2011 2012 2011
(in thousands, except percentages)
Other income and income taxes
Income from operations $ 104,680 $ 83,214 $ 204,469 $ 163,070
Other income, net 1,428 1,568 3,289 4,113
Income before income taxes 106,108 84,782 207,758 167,183
Provision for income taxes 37,467 29,207 72,625 55,945
Net income $ 68,641 $ 55,575 $ 135,133 $ 111,238
Other income and income taxes (as
percentage of net revenue)
Income from operations 30.8 % 30.0 % 30.9 % 29.8 %
Other income, net 0.4 0.5 0.5 0.8
Income before income taxes 31.2 30.5 31.4 30.6
Provision for income taxes 11.0 10.5 11.0 10.2
Net income 20.2 % 20.0 % 20.4 % 20.4 %
Other income, net. Other income, net, consists primarily of interest income and
foreign currency transaction gains and losses. Other income, net, decreased 8.9%
and 20.0% for the three and six months ended March 31, 2012, respectively, from
the comparable periods in the prior year. The decrease in other income, net for
the three and six months ended March 31, 2012 was primarily due to a decrease in
interest income compared to the same periods in the prior year. The decrease in
interest income for the three and six months ended March 31, 2012 was primarily
due to a decline in interest rates from the comparable periods in the prior
year.
Provision for income taxes. We recorded a 35.3% provision for income taxes for
the three month period ended March 31, 2012. The increase in the effective tax
rate compared to the three month period ended March 31, 2011 is primarily due to
the expiration of the United States federal credit for Increasing Research
Activities on December 31, 2011.
At March 31, 2012, we established a valuation allowance of $0.9 million relative
to the deferred tax assets of Traffix Systems, which we acquired in February of
2012. There have been no other valuation allowances established on any of our
deferred tax assets in any other jurisdictions in which we operate because we
believe that these assets are more likely than not to be realized. In making
these determinations we have considered projected future taxable income and
ongoing prudent and feasible tax planning strategies in assessing the
appropriateness of a valuation allowance. Our net deferred tax assets at
March 31, 2012 and March 31, 2011 were $44.5 million and $48.4 million,
respectively. Our worldwide effective tax rate may fluctuate based on a number
of factors including variations in projected taxable income in the various
geographic locations in which we operate, changes in the valuation of our net
deferred tax assets, resolution of potential exposures, tax positions taken on
tax returns filed in the various geographic locations in which we operate, and
the introduction of new accounting standards or changes in tax laws or
interpretations thereof in the various geographic locations in which we operate.
We have recorded liabilities to address potential tax exposures related to
business and income tax positions we have taken that could be challenged by
taxing authorities. The ultimate resolution of these potential exposures may be
greater or less than the liabilities recorded which could result in an
adjustment to our future tax expense.
Liquidity and Capital Resources
Cash and cash equivalents, short-term investments and long-term investments
totaled $1,033.5 million as of March 31, 2012 compared to $1,012.8 million as of
September 30, 2011, representing an increase of $20.7 million. The increase was
primarily due to cash provided by operating activities of $233.5 million for the
six months ended March 31, 2012, which was partially offset by $84.8 million of
additional cash required for the repurchase of outstanding common stock under
our stock repurchase program, and $128.3 million for the acquisition of Traffix
Systems. The increase in cash flow from operations for the first six months of
fiscal year 2012 resulted from increased net income combined with changes in
operating assets and liabilities, as adjusted for various non-cash items
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including stock-based compensation, depreciation and amortization charges. Based
on our current operating and capital expenditure forecasts, we believe that our
existing cash and investment balances, excluding auction rate securities (ARS),
together with cash generated from operations should be sufficient to meet our
operating requirements for at least the next twelve months.
At March 31, 2012, we held $13.2 million in fair value of tax-exempt ARS, which
are variable-rate debt securities and have a long-term maturity with the
interest rates being reset through Dutch auctions that are typically held every
7, 28 or 35 days. The securities have historically traded at par and are
callable at par at the option of the issuer. Interest is typically paid at the
end of each auction period or semi-annually. We limit our investments in ARS to
securities that carry a AAA/A- (or equivalent) rating from recognized rating
agencies and limit the amount of credit exposure to any one issuer. At the time
of initial investment and at the date of this Quarterly Report on Form 10-Q, all
of our ARS were in compliance with our investment policy.
Beginning in February 2008, auctions failed for approximately $53.4 million in
par value of municipal ARS we held because sell orders exceeded buy orders. When
these auctions failed to clear, higher interest rates for those securities went
into effect. However, the funds associated with these failed auctions will not
be accessible until the issuer calls the security, a successful auction occurs,
a buyer is found outside of the auction process or the security matures.
We have no reason to believe that any of the underlying issuers of our ARS are
presently at risk of default. The underlying assets of the municipal ARS we
hold, including the securities for which auctions have failed, are generally
student loans which are guaranteed by the U.S. government. During fiscal years
2011 and 2010, we liquidated $4.0 million and $26.1 million of ARS that we held
at par value, respectively. Through March 31, 2012, we have continued to receive
interest payments on the ARS in accordance with their terms. We believe we will
be able to liquidate our investments without significant loss primarily due to
the government guarantee of the underlying securities. However, due to
uncertainty in the ARS market, we believe certain of these available-for-sale
investments may remain illiquid for longer than twelve months and as a result,
we have classified $15.0 million (par value) of our ARS as long-term as of
March 31, 2012.
Cash used in investing activities was $171.6 million for the six months ended
March 31, 2012, compared to cash used in investing activities of $110.7 million
for the same period in the prior year. Investing activities include purchases,
sales and maturities of available-for-sale securities, business acquisitions,
capital expenditures and changes in restricted cash requirements. The amount of
cash used in investing activities for the six months ended March 31, 2012 was
primarily due to the purchase of investments partially offset by the sales and
maturity of investments and $128.3 million of cash payments, net of cash
acquired, to shareholders of Traffix Systems, which was acquired in February
2012.
Cash used in financing activities was $69.2 million for the six months ended
March 31, 2012, compared to cash used in financing activities of $46.0 million
for the same period in the prior year. Our financing activities for the six
months ended March 31, 2012 consisted of cash required for the repurchase of
outstanding common stock under our stock repurchase program of $84.8 million,
partially offset by cash received from the exercise of employee stock options
and stock purchases under our employee stock purchase plan of $10.1 million and
excess tax benefits related to share-based compensation of $5.5 million.
Obligations and Commitments
As of March 31, 2012, our principal commitments consisted of obligations
outstanding under operating leases. We lease our facilities under operating
leases that expire at various dates through 2022. There have been no material
changes in our principal lease commitments compared to those discussed in the
Form 10-K.
We outsource the manufacturing of our pre-configured hardware platforms to
contract manufacturers who assemble each product to our specifications. Our
agreement with our largest contract manufacturer allows them to procure
component inventory on our behalf based upon a rolling production forecast. We
are contractually obligated to purchase the component inventory in accordance
with the forecast, unless we give notice of order cancellation in advance of
applicable lead times. As of March 31, 2012, we were committed to purchase
approximately $13.5 million of such inventory during the next 30 day period.
Recent Accounting Pronouncements
The anticipated impact of recent accounting pronouncements is discussed in Note
1 to the accompanying Notes to Consolidated Financial Statements of this
Quarterly Report on Form 10-Q.
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Risk Factors that May Affect Future Results
This Quarterly Report on Form 10-Q contains forward-looking statements that
involve risks and uncertainties. Our business, operating results, financial
performance and share price may be materially adversely affected by a number of
factors, including but not limited to the following risk factors, any one of
which could cause actual results to vary materially from anticipated results or
from those expressed in any forward-looking statements made by us in this
Quarterly Report on Form 10-Q or in other reports, press releases or other
statements issued from time to time. Additional factors that may cause such a
difference are set forth elsewhere in this Quarterly Report on Form 10-Q.
Our quarterly and annual operating results may fluctuate in future periods,
which may cause our stock price to fluctuate
Our quarterly and annual operating results have varied significantly in the past
and could vary significantly in the future, which makes it difficult for us to
predict our future operating results. Our operating results may fluctuate due to
a variety of factors, many of which are outside of our control, including the
changing and recently volatile U.S. and global economic environment, which may
cause our stock price to fluctuate. In particular, we anticipate that the size
of customer orders may increase as we continue to focus on larger business
accounts. A delay in the recognition of revenue, even from just one account, may
have a significant negative impact on our results of operations for a given
period. In the past, a majority of our sales have been realized near the end of
a quarter. Accordingly, a delay in an anticipated sale past the end of a
particular quarter may negatively impact our results of operations for that
quarter, or in some cases, that fiscal year. Additionally, we have exposure to
the credit risks of some of our customers and sub-tenants. Although we have
programs in place that are designed to monitor and mitigate the associated risk,
there can be no assurance that such programs will be effective in reducing our
credit risks adequately. We monitor individual payment capability in granting
credit arrangements, seek to limit the total credit to amounts we believe our
customers can pay and maintain reserves we believe are adequate to cover
exposure for potential losses. If there is a deterioration of a sub-tenant's or
a major customer's creditworthiness or actual defaults are higher than expected,
future losses, if incurred, could harm our business and have a material adverse
effect on our operating results. Further, our operating results may be below the
expectations of securities analysts and investors in future quarters or years.
Our failure to meet these expectations will likely harm the market price of our
common stock. Such a decline could occur, and has occurred in the past, even
when we have met our publicly stated revenue and/or earnings guidance.
In addition to other risks listed in this "Risk Factors" section, factors that
may affect our operating results include, but are not limited to:
• fluctuations in demand for our products and services due to changing
market conditions, pricing conditions, technology evolution, seasonality,
or other changes in the global economic environment;
• changes or fluctuations in sales and implementation cycles for our products and services;
• reduced visibility into our customers' spending and implementation plans;
• reductions in customers' budgets for data center and other IT purchases or
delays in these purchases;
• fluctuations in our gross margins, including the factors described herein,
which may contribute to such fluctuations;
• our ability to control costs, including operating expenses, the costs of
hardware and software components, and other manufacturing costs;
• our ability to develop, introduce and gain market acceptance of new products, technologies and services, and our success in new and evolving
markets;
• any significant changes in the competitive environment, including the
entry of new competitors or the substantial discounting of products or
services;
• the timing and execution of product transitions or new product
introductions, and related inventory costs;
• variations in sales channels, product costs, or mix of products sold;
• our ability to establish and manage our distribution channels, and the
effectiveness of any changes we make to our distribution model;
• the ability of our contract manufacturers and suppliers to provide component parts, hardware platforms and other products in a timely manner;
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• benefits anticipated from our investments in sales, marketing, product
development, manufacturing or other activities; and
• changes in tax laws or regulations, or other accounting rules.
Our success depends on our timely development of new products and features,
market acceptance of new product offerings and proper management of the timing
of the life cycle of our products
The application delivery networking and file virtualization markets are
characterized by rapid technological change, frequent new product introductions,
changes in customer requirements and evolving industry standards. Our continued
success depends on our ability to identify and develop new products and new
features for our existing products to meet the demands of these changes, and the
acceptance of those products and features by our existing and target customers.
If we are unable to identify, develop and deploy new products and new product
features on a timely basis, our business and results of operations may be
harmed.
The current development cycle for our products is on average 12-24 months. The
introduction of new products or product enhancements may shorten the life cycle
of our existing products, or replace sales of some of our current products,
thereby offsetting the benefit of even a successful product introduction, and
may cause customers to defer purchasing our existing products in anticipation of
the new products. This could harm our operating results by decreasing sales,
increasing our inventory levels of older products and exposing us to greater
risk of product obsolescence. We have also experienced, and may in the future
experience, delays in developing and releasing new products and product
enhancements. This has led to, and may in the future lead to, delayed sales,
increased expenses and lower quarterly revenue than anticipated. Also, in the
development of our products, we have experienced delays in the prototyping of
our products, which in turn has led to delays in product introductions. In
addition, complexity and difficulties in managing product transitions at the
end-of-life stage of a product can create excess inventory of components
associated with the outgoing product that can lead to increased expenses. Any or
all of the above problems could materially harm our business and results of
operations.
Our success depends on sales and continued innovation of our Application
Delivery Networking product lines
For the fiscal year ended September 30, 2011 and the six months ended March 31,
2012, we derived approximately 97.4% and 98.6% of our net product revenues,
respectively, or approximately 61.0% and 59.8% of our total net revenues,
respectively, from sales of our Application Delivery Networking (ADN) product
lines. We expect to continue to derive a significant portion of our net revenues
from sales of our ADN products in the future. Implementation of our strategy
depends upon these products being able to solve critical network availability
and performance problems for our customers. If our ADN products are unable to
solve these problems for our customers or if we are unable to sustain the high
levels of innovation in our ADN product feature set needed to maintain
leadership in what will continue to be a competitive market environment, our
business and results of operations will be harmed.
We may not be able to compete effectively in the emerging application delivery
networking and file virtualization markets
The markets we serve are new, rapidly evolving and highly competitive, and we
expect competition to persist and intensify in the future. Our principal
competitors in the application delivery networking market include Brocade
Communications Systems, Inc., Cisco Systems, Inc., Citrix Systems, Inc., and
Radware Ltd. In the adjacent WAN Optimization Controller market, we compete with
Blue Coat Systems, Inc., Cisco, Citrix, Juniper Networks, Inc. and Riverbed
Technology, Inc. In the file virtualization market, we compete with EMC
Corporation. We expect to continue to face additional competition as new
participants enter our markets. As we continue to expand globally, we may see
new competitors in different geographic regions. In addition, larger companies
with significant resources, brand recognition, and sales channels may form
alliances with or acquire competing application delivery networking solutions
from other companies and emerge as significant competitors. Potential
competitors may bundle their products or incorporate an Internet traffic
management or security component into existing products in a manner that
discourages users from purchasing our products. Any of these circumstances may
limit our opportunities for growth and negatively impact our financial
performance.
The average selling price of our products may decrease and our costs may
increase, which may negatively impact gross profits
It is possible that the average selling prices of our products will decrease in
the future in response to competitive pricing pressures, increased sales
discounts, new product introductions by us or our competitors or other factors.
Therefore, in order to maintain our gross profits, we must develop and introduce
new products and product enhancements on a timely basis and continually reduce
our product costs. Our failure to do so will cause our net revenue and gross
profits to decline, which will harm our business and results of operations. In
addition, we may experience substantial period-to-period fluctuations in future
operating results due to the erosion of our average selling prices.
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It is difficult to predict our future operating results because we have an
unpredictable sales cycle
Our products have a lengthy sales cycle and the timing of our revenue is
difficult to predict. Historically, our sales cycle has ranged from
approximately two to three months and has tended to lengthen as we have
increasingly focused our sales efforts on the enterprise market. Also, as our
distribution strategy has evolved into more of a channel model, utilizing
value-added resellers, distributors and systems integrators, the level of
variability in the length of sales cycle across transactions has increased and
made it more difficult to predict the timing of many of our sales transactions.
Sales of our products require us to educate potential customers in their use and
benefits. Sales of our products are subject to delays from the lengthy internal
budgeting, approval and competitive evaluation processes that large corporations
and governmental entities may require. For example, customers frequently begin
by evaluating our products on a limited basis and devote time and resources to
testing our products before they decide whether or not to purchase. Customers
may also defer orders as a result of anticipated releases of new products or
enhancements by our competitors or us. As a result, our products have an
unpredictable sales cycle that contributes to the uncertainty of our future
operating results.
Our business may be harmed if our contract manufacturers are not able to provide
us with adequate supplies of our products or if a single source of hardware
assembly is lost or impaired
We outsource the manufacturing of our hardware platforms to third party contract
manufacturers who assemble these hardware platforms to our specifications. We
have experienced minor delays in shipments from contract manufacturers in the
past. However, if we experience major delays in the future or other problems,
such as inferior quality and insufficient quantity of product, any one or a
combination of these factors may harm our business and results of operations.
The inability of our contract manufacturers to provide us with adequate supplies
of our products or the loss of one or more of our contract manufacturers may
cause a delay in our ability to fulfill orders while we obtain a replacement
manufacturer and may harm our business and results of operations. In particular,
we currently subcontract manufacturing of our application delivery networking
products to a single contract manufacturer with whom we do not have a long-term
contract. If our arrangement with this single source of hardware assembly was
terminated or otherwise impaired, and we were not able to engage another
contract manufacturer in a timely manner, our business, financial condition and
results of operation could be adversely affected.
If the demand for our products grows, we will need to increase our raw material
and component purchases, contract manufacturing capacity and internal test and
quality control functions. Any disruptions in product flow may limit our
revenue, may harm our competitive position and may result in additional costs or
cancellation of orders by our customers.
Our business could suffer if there are any interruptions or delays in the supply
of hardware components from our third-party sources
We currently purchase several hardware components used in the assembly of our
products from a number of single or limited sources. Lead times for these
components vary significantly. The unavailability of suitable components, any
interruption or delay in the supply of any of these hardware components or the
inability to procure a similar component from alternate sources at acceptable
prices within a reasonable time, may delay assembly and sales of our products
and, hence, our revenues, and may harm our business and results of operations.
We are subject to governmental export and import controls that could subject us
to liability or impair our ability to compete in international markets
Our products are subject to U.S. export controls and may be exported outside the
U.S. only with the required level of export license or through an export license
exception because we incorporate encryption technology into our products. In
addition, various countries regulate the import of certain encryption technology
and have enacted laws that could limit our ability to distribute our products or
our customers' ability to implement our products in those countries. Changes in
our products or changes in export and import regulations may create delays in
the introduction of our products in international markets, prevent our customers
with international operations from deploying our products throughout their
global systems or, in some cases, prevent the export or import of our products
to certain countries altogether. Any change in export or import regulations or
related legislation, shift in approach to the enforcement or scope of existing
regulations or change in the countries, persons or technologies targeted by such
regulations, could result in decreased use of our products by, or in our
decreased ability to export or sell our products to, existing or potential
customers with international operations. For example, we will need to comply
with Waste Electrical and Electronic Equipment Directive laws, which are being
adopted by certain European Economic Area countries on a country-by-country
basis. Failure to comply with these and similar laws on a timely basis, or at
all, could have a material adverse effect on our business, operating results and
financial condition. Any decreased use of our products or limitation on our
ability to export or sell our products would likely adversely affect our
business, operating results and financial condition.
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We may not be able to adequately protect our intellectual property, and our
products may infringe on the intellectual property rights of third parties
We rely on a combination of patent, copyright, trademark and trade secret laws,
and restrictions on disclosure of confidential and proprietary information to
protect our intellectual property rights. Despite our efforts to protect our
proprietary rights, unauthorized parties may attempt to copy or otherwise obtain
and use our products or technology. Monitoring unauthorized use of our products
is difficult, and we cannot be certain that the steps we have taken will prevent
misappropriation of our technology, particularly in foreign countries where the
laws may not protect our proprietary rights as fully as in the United States.
Our industry is characterized by the existence of a large number of patents and
frequent claims and related litigation regarding patent and other intellectual
property rights. In the ordinary course of our business, we are involved in
disputes and licensing discussions with others regarding their claimed
proprietary rights and cannot assure you that we will always successfully defend
ourselves against such claims. We expect that infringement claims may increase
as the number of products and competitors in our market increases and overlaps
occur. Also, as we have gained greater visibility, market exposure and
competitive success, we face a higher risk of being the subject of intellectual
property infringement claims. If we are found to infringe the proprietary rights
of others, or if we otherwise settle such claims, we could be compelled to pay
damages or royalties and either obtain a license to those intellectual property
rights or alter our products so that they no longer infringe upon such
proprietary rights. Any license could be very expensive to obtain or may not be
available at all. Similarly, changing our products or processes to avoid
infringing upon the rights of others may be costly or impractical. In addition,
we have initiated, and may in the future initiate, claims or litigation against
third parties for infringement of our proprietary rights, or to determine the
scope and validity of our proprietary rights or those of our competitors. Any of
these claims, whether claims that we are infringing the proprietary rights of
others, or vice versa, with or without merit, may be time-consuming, result in
costly litigation and diversion of technical and management personnel or require
us to cease using infringing technology, develop non-infringing technology or
enter into royalty or licensing agreements. Further, our license agreements
typically require us to indemnify our customers, distributors and resellers for
infringement actions related to our technology, which could cause us to become
involved in infringement claims made against our customers, distributors or
resellers. Any of the above-described circumstances relating to intellectual
property rights disputes could result in our business and results of operations
being harmed.
Many of our products include intellectual property licensed from third parties.
In the future, it may be necessary to renew licenses for third party
intellectual property or obtain new licenses for other technology. These third
party licenses may not be available to us on acceptable terms, if at all. The
inability to obtain certain licenses, or litigation regarding the interpretation
or enforcement of license rights and related intellectual property issues, could
have a material adverse effect on our business, operating results and financial
condition. Furthermore, we license some third party intellectual property on a
non-exclusive basis and this may limit our ability to protect our intellectual
property rights in our products.
We may not be able to sustain or develop new distribution relationships, and a
reduction or delay in sales to significant distribution partners could hurt our
business
We sell our products and services through multiple distribution channels in the
United States and internationally, including leading industry distributors,
value-added resellers, systems integrators, service providers and other indirect
channel partners. We have a limited number of agreements with companies in these
channels, and we may not be able to increase our number of distribution
relationships or maintain our existing relationships. Recruiting and retaining
qualified channel partners and training them in our technologies requires
significant time and resources. If we are unable to establish or maintain our
indirect sales channels, our business and results of operations will be harmed.
In addition, two worldwide distributors of our products accounted for 28.8% of
our total net revenue for fiscal year 2011. Two worldwide distributors of our
products accounted for 24.7% of our total net revenue for fiscal year 2010. Two
worldwide distributors of our products accounted for 31.0% of our total net
revenue for the six months ended March 31, 2012. A substantial reduction or
delay in sales of our products to these distribution partners, if not replaced
by sales to other indirect channel partners and distributors, could harm our
business, operating results and financial condition.
Undetected software or hardware errors may harm our business and results of
operations
Our products may contain undetected errors or defects when first introduced or
as new versions are released. We have experienced these errors or defects in the
past in connection with new products and product upgrades. We expect that these
errors or defects will be found from time to time in new or enhanced products
after commencement of commercial shipments. These problems may cause us to incur
significant warranty and repair costs, divert the attention of our engineering
personnel from our product development efforts and cause significant customer
relations problems. We may also be subject to liability claims for damages
related to product errors or defects. While we carry insurance policies covering
this type of liability, these policies may not provide sufficient protection
should a claim be asserted. A material product liability claim may harm our
business and results of operations.
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Our products must successfully operate with products from other vendors. As a
result, when problems occur in a network, it may be difficult to identify the
source of the problem. The occurrence of software or hardware problems, whether
caused by our products or another vendor's products, may result in the delay or
loss of market acceptance of our products. The occurrence of any of these
problems may harm our business and results of operations.
Adverse general economic conditions or reduced information technology spending
may adversely impact our business
A substantial portion of our business depends on the demand for information
technology by large enterprise customers and service providers, the overall
economic health of our current and prospective customers and the continued
growth and evolution of the Internet. International, national, regional and
local economic conditions, such as recessionary economic cycles, protracted
economic slowdown or further deterioration of the economy could adversely impact
demand for our products. The purchase of our products is often discretionary and
may involve a significant commitment of capital and other resources. Continued
weak economic conditions or a reduction in information technology spending even
if economic conditions improve would likely result in longer sales cycles and
reduced product sales, each of which would adversely impact our business,
results of operations and financial condition.
Our investments in auction rate securities are subject to risks that may cause
losses and affect the liquidity of these investments
At March 31, 2012, the fair value of our AAA/A- (or equivalent) rated municipal
auction rate securities (ARS) was approximately $13.2 million. We may not be
able to liquidate these ARS and realize their full carrying value unless the
issuer calls the security, a successful auction occurs, a buyer is found outside
of the auction process, or the security otherwise matures. While we do not
believe the decline in the carrying values of these municipal ARS is permanent,
if the issuers of these securities are unable to successfully close future
auctions and their credit ratings are lowered, we may be required to record
future impairment charges related to these investments, which would harm our
results of operations. We believe certain of these available-for-sale
investments may remain illiquid for longer than twelve months and as a result,
we have classified these investments as long-term as of March 31, 2012.
Our operating results are exposed to risks associated with international
commerce
As our international sales increase, our operating results become more exposed
to international operating risks. These risks include risks related to
recessionary economic cycles or protracted slowdowns in economies outside the
United States, foreign currency exchange rates, managing foreign sales offices,
regulatory, political or economic conditions in specific countries, military
conflict or terrorist activities, changes in laws and tariffs, inadequate
protection of intellectual property rights in foreign countries, foreign
regulatory requirements and natural disasters. All of these factors could have a
material adverse effect on our business. We intend to continue expanding into
international markets. International revenues represented 45.5% and 45.4% of our
net revenues for the fiscal years ended September 30, 2011 and 2010,
respectively, and 46.8% for the six months ended March 31, 2012.
Changes in governmental regulations could negatively affect our revenues
Our products are subject to various regulations promulgated by the United States
and various foreign governments including, but not limited to, environmental
regulations and regulations implementing export license requirements and
restrictions on the import or export of some technologies, especially encryption
technology. Changes in governmental regulation and our inability or failure to
obtain required approvals, permits or registrations could harm our international
and domestic sales and adversely affect our revenues, business and operations.
Changes in financial accounting standards may cause adverse unexpected revenue
fluctuations and affect our reported results of operations
A change in accounting policies can have a significant effect on our reported
results and may even affect our reporting of transactions completed before the
change is effective. New pronouncements and varying interpretations of existing
pronouncements have occurred with frequency and may occur in the future. Changes
to existing rules, or changes to the interpretations of existing rules, could
lead to changes in our accounting practices, and such changes could adversely
affect our reported financial results or the way we conduct our business.
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Acquisitions, including our recent acquisition of Traffix Systems, present many
risks and we may not realize the financial and strategic goals that are
contemplated at the time of the transaction
With respect to our past acquisitions, as well as any other future acquisitions
we may undertake, we may find that the acquired businesses, products or
technologies do not further our business strategy as expected, that we paid more
than what the assets are later worth or that economic conditions change, all of
which may generate future impairment charges. Our acquisitions may be viewed
negatively by customers, financial markets or investors. There may be difficulty
integrating the operations and personnel of the acquired business, and we may
have difficulty retaining the key personnel of the acquired business. We may
have difficulty in integrating the acquired technologies or products with our
existing product lines. Our ongoing business and management's attention may be
disrupted or diverted by transition or integration issues and the complexity of
managing geographically and culturally diverse locations. We may have difficulty
maintaining uniform standards, controls, procedures and policies across
locations. We may experience significant problems or liabilities associated with
product quality, technology and other matters.
Our inability to successfully operate and integrate newly-acquired businesses
appropriately, effectively and in a timely manner, or to retain key personnel of
any acquired business, could have a material adverse effect on our ability to
take advantage of further growth in demand for integrated traffic management and
security solutions and other advances in technology, as well as on our revenues,
gross margins and expenses.
Our success depends on our key personnel and our ability to attract and retain
qualified sales and marketing, operations, product development and professional
services personnel
Our success depends to a significant degree upon the continued contributions of
our key management, product development, sales, marketing and finance personnel,
many of whom may be difficult to replace. The complexity of our application
delivery networking products and their integration into existing networks and
ongoing support, as well as the sophistication of our sales and marketing
effort, requires us to retain highly trained professional services, customer
support and sales personnel. Competition for qualified professional services,
customer support and sales personnel in our industry is intense because of the
limited number of people available with the necessary technical skills and
understanding of our products. Our ability to retain and hire these personnel
may be adversely affected by volatility or reductions in the price of our common
stock, since these employees are generally granted restricted stock units. The
loss of services of any of our key personnel, the inability to retain and
attract qualified personnel in the future or delays in hiring qualified
personnel may harm our business and results of operations.
We face litigation risks
We are a party to lawsuits in the normal course of our business. Litigation in
general, and intellectual property and securities litigation in particular, can
be expensive, lengthy and disruptive to normal business operations. Moreover,
the results of complex legal proceedings are difficult to predict. Responding to
lawsuits has been, and will likely continue to be, expensive and time-consuming
for us. An unfavorable resolution of these lawsuits could adversely affect our
business, results of operations or financial condition.
Anti-takeover provisions could make it more difficult for a third party to
acquire us
Our Board of Directors has the authority to issue up to 10,000,000 shares of
preferred stock and to determine the price, rights, preferences, privileges and
restrictions, including voting rights, of those shares without any further vote
or action by the shareholders. The rights of the holders of common stock may be
subject to, and may be adversely affected by, the rights of the holders of any
preferred stock that may be issued in the future. The issuance of preferred
stock may have the effect of delaying, deferring or preventing a change of
control of our company without further action by our shareholders and may
adversely affect the voting and other rights of the holders of common stock.
Further, certain provisions of our bylaws, including a provision limiting the
ability of shareholders to raise matters at a meeting of shareholders without
giving advance notice, may have the effect of delaying or preventing changes in
control or management of our company, which could have an adverse effect on the
market price of our common stock. In addition, our articles of incorporation
provide for a staggered board, which may make it more difficult for a third
party to gain control of our Board of Directors. Similarly, state anti-takeover
laws in the State of Washington related to corporate takeovers may prevent or
delay a change of control of our company.
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