Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

F5 Networks, Inc. (NASDAQ:FFIV)

F4Q 2011 Earnings Call

October 25, 2011 4:30 PM ET

Executives

John Eldridge – Head, IR

Andrew Reinland – SVP and CFO

John McAdam – President and CEO

Dan Matte – SVP, Marketing and Business Development

Karl Triebes – CTO and SVP, Product Development

Mark Anderson – SVP, Worldwide Sales

Analysts

Ittai Kidron – Oppenheimer

John Slack – Citigroup

Rod Hall – JP Morgan

Brian Modoff – Deutsche Bank

Alex Henderson – Miller Tabak

Brian Marshall – ISI Group

Jason Ader – William Blair

Tim Long – BMO Capital Markets

Jayson Noland – Robert W Baird

Operator

Good afternoon and welcome to the F5 fourth quarter and fiscal 2011 financial results conference call. At this time, all parties will be able to listen only until the question-and-answer portion. Today’s conference is being recorded. If you have any objections, please disconnect at this time.

I would now like to turn the call over to Mr. John Eldridge, Director of Investor Relations. Sir, you may begin.

John Eldridge

Thank you very much and welcome all of you to our conference call for the fourth quarter and fiscal year 2011. Speakers on today’s call are John McAdam, President and CEO; and Andy Reinland, Senior Vice President, Chief Financial Officer. Other members of our exec team are also with us to answer questions following our prepared comments. If you have any follow-up questions after the call, please direct them to me 206-272-6571.

A copy of today’s press release is available on our website at F5.com. In addition, you can access an archived version of today’s live webcast from the Events Calendar page of the website through January 18. From 4:30 PM today until 5:00 PM Pacific Time, October 26, you can also listen to a telephone replay at 888-568-0521 or 402-998-1495.

During the call today, our discussions will make forward-looking statements including words such as believe, anticipate, expect, and target. These forward-looking statements involve risks and uncertainties that may cause our actual results to differ materially from those expressed or implied by these comments. Factors that may affect our results are summarized in our quarterly release, described in detail in our SEC filings. Please note that F5 has no duty to update any information presented in this call.

Before we begin the call today, I want to remind you that we are holding our 2011 analyst/investor meeting in New York on November 3. If you’re planning to attend the meeting and have not registered, you can register online at the link on our Events Calendar entry for November 3. We look forward to the prospect of seeing you all there.

Now I’ll turn the call over to Andy Reinland.

Andrew Reinland

Thank you, John. Fiscal year 2011 represents a landmark year for F5, as we surpassed the $1 billion threshold in annual revenue, posted 31% year-over-year growth, and ended the year with just under 2,500 employees. In my comments, I will review our results for our fourth quarter and for fiscal 2011. I will provide guidance for Q1 2012 and discuss our general planning assumptions and expectations for fiscal 2012.

For the fourth quarter of 2011, revenue of $314.6 million was above our guided range of $307 million to $312 million, growing 8% from the prior quarter and 24% from the fourth quarter a year ago. Book-to-bill for the quarter was greater than one.

Q4 product revenue of $197.4 million was up 10% from the prior quarter, 20% from the fourth quarter of last year, and represented 63% of revenue. Service revenue of $117.2 million increased 5% sequentially, 31% year over year, and accounted for 37% of revenue. Revenue from our core application delivery networking business was $307.3 million compared to $282.5 million in Q3. ARX revenue was $7.3 million, down from $8.3 million in the prior quarter.

By geography, the Americas grew 25% year over year and represented 60% of revenue. EMEA grew 14% year over year, accounting for 20% of revenue. And APAC and Japan each grew 32% from a year ago, representing 13% and 7% of revenue respectively.

By vertical, telco represented 26% of sales during the quarter, and technology and financial each accounted for 19%. Total government was 12% of sales, including 7% from U.S. federal.

During Q4, we had two greater than 10% distributors: Avnet Technologies, which accounted for 17.8% of total revenue; and Ingram Micro, which represented 12.3%

Continuing down the income statement, GAAP gross margin in Q4 was 82.2%. Excluding $2.6 million of stock-based compensation, non-GAAP gross margin was 83%. Operating expenses were $159.4 million. Excluding $19.6 million of stock-based compensation, non-GAAP operating expenses were $139.8 million.

GAAP operating margin was 31.6%. Excluding stock-based compensation, our non-GAAP operating margin was 38.6%.

Other income for the quarter was $4.1 million. This includes a $1.9 million foreign currency gain that was recognized during the quarter.

Our effective tax rate for the quarter was 34.6%. Our non-GAAP effective tax rate was 32.1%.

GAAP net income for the quarter was $67.6 million or $0.84 per diluted share, above our guided range of $0.75 to $0.77. Non-GAAP net income was $85.2 million or $1.06 per diluted share, also above our guided range of $0.97 to $0.99.

For the full year, revenue for fiscal 2011 was $1.15 billion, up 31% from fiscal 2010. Product revenue of $722 million was up 29% from the prior year and accounted for 63% of total revenue. Service revenue of $430 million grew 34% during the year and represented 37% of the total.

GAAP net income for fiscal 2011 was $241.4 million or $2.96 per diluted share. Non-GAAP net income was $308.3 million or $3.78 per diluted share.

Turning to the balance sheet, in Q4 we generated $121.5 million in cash flow from operations, which contributed to cash and investments totaling $1.01 billion at year end. For all of fiscal 2011, cash flow from operations totaled $416.9 million. DSO was 47 days. Inventory at the end of the quarter was $17.1 million. Deferred revenue increased 7% sequentially to $343.3 million. Capital expenditures for the fourth quarter were $9.9 million, and depreciation and amortization expense was $5.2 million.

During the quarter we added 140 employees, ending the year with approximately 2,490 full-time employees. For the fiscal year, we added 480 employees, an increase of 24%.

In Q4 we repurchased approximately 1.91 million shares of our common stock at an average price of $78.37 per share, for a total of $150 million. The Board of Directors recently authorized an additional $200 million for repurchase. Combined with the $166 million remaining from the Board authorization in August, a total of $366 million is available for stock repurchase.

Now I would like to discuss our guidance for the first quarter of fiscal 2012. As noted on several occasions this past year, we recognize that as we continue to grow the company, our sales exhibit the same first quarter fiscal year seasonality characteristic of many industry peers. This seasonality is reflected in our Q1 quarterly guidance.

Factoring in the expected seasonality of our new fiscal year, we are targeting revenue in a range of $315 million to $320 million. We are forecasting GAAP gross margins of 82% plus or minus 50 basis points, which includes approximately $2.5 million of stock-based compensation expense. We anticipate GAAP operating expense of $161 million to $165 million, including approximately $20 million in stock compensation expense.

We are forecasting an effective tax rate of 35% for the quarter. Excluding stock based compensation, we expect a non-GAAP effective tax rate of 33.5%.

Our Q1 GAAP earnings target is $0.79 to $0.81 per share. Our non-GAAP earnings target is $0.99 to $1.01 per share.

We expect DSO in the mid-40 day range. We anticipate inventories in the range of $16 million to $18 million.

We plan to increase our head count by more than 100 employees during the quarter. And we believe we will generate cash flow from operations in excess of $130 million.

Now I would like to provide some general comments and guidelines related to our expectations for fiscal 2012. Please note that these planning guidelines are based on the current business climate and we see no significant deterioration in the macroeconomic environment.

With this in mind, we expect to see sequential revenue growth throughout the year. We expect to see a return to product revenue growth acceleration in Q2, and we expect total revenue growth of at least 20% over fiscal 2011. We expect to see gross margins consistent with our Q1 guidance of 82% plus or minus 50 basis points through the year. We are targeting non-GAAP operating margins for the year to be at or around 38%.

In light of the aforementioned revenue seasonality, operating margins will likely exhibit some seasonality as well as we continue to invest into our robust market opportunity. As such, operating margins may be seasonally lower in Q1.

We expect stock-based compensation expense to approximate Q1 levels until our next annual grant in August. Capital expenditures are expected to be $6 million to $12 million per quarter, with some quarter-to-quarter variability related to timing of certain infrastructure investments. And we expect our effective tax rates to average approximately 35% on a GAAP basis and 33.5% on a non-GAAP basis throughout the year.

As John mentioned, we will be holding our analyst/investor meeting in New York on November 3. We look forward to seeing you there.

With that, I will turn the call over to John McAdam.

John McAdam

Thanks, Andy, and good afternoon everyone. I will take a few minutes to discuss F5’s performance in fiscal 2011, talk in more detail about our Q4 results, and then comment on our outlook and the exciting opportunities we see going into fiscal 2012.

F5 surpassed a very significant milestone last year with over $1 billion in revenue. We closed the year well above the $1 billion run rate, with revenue of $314.6 million in Q4. We further increased our technology leadership and competitive positions with several product releases in the second half of fiscal 2011, which we believe will be strong growth drivers as we enter fiscal 2012. The revolutionary VIPRION 2400 midrange chassis-based architecture combined with the introduction of TMOS Version 11 will prove to be key components in enabling large-scale dynamic data centers with virtualization technologies and cloud-based architectures. We now have the most comprehensive portfolio of software-only versions of our TMOS solutions as well as the industry-leading range of hardware products delivering both superior performance and functionality.

During fiscal 2011, we made significant enhancements to our ARX product portfolio. We announced the ERX Cloud Extender, which enables data flow automatically, securely, and non-disruptively from file-based storage platforms to cloud-based storage architectures. We also added a new virtual ARX appliance during the year. And last quarter we introduced two new ARX platforms, the ARX 1500 and 2500 appliances. These new platforms offer compelling performance capabilities at very attractive price points.

We made significant progress in increasing our addressable market by delivering solutions to our core ADC platform in adjacent markets, including remote access control, optimization, and security. I will talk more about these future market expanding opportunities later when I review our prospects for fiscal 2012.

In addition, we continued to generate significant revenues from our partnerships with large application solution suppliers, including Microsoft, Oracle, and VMware, where the ability of our products to optimize the performance, security, and availability of mission-critical business applications is unparalleled.

The new features in TMOS Version 11 should strengthen these partnerships even further and increase the number and range of opportunities for our products in the deployment of these applications. For example, our new ground-breaking iApp technology simplifies deployment of applications, enabling 10 to 100 times faster application delivery through the network. Customers will not only enjoy a compelling ROI from the iApp functionality, but will now also be able to manage dynamic data center architectures through the lens of the application. This opens the power of TMOS and F5 solutions to more groups within our customer organizations and enhances the value of F5 strategic points of control in our customers’ architectures.

Our services business delivered strong performance consistently throughout fiscal 2011 and continued to be a significant profit and revenue growth contributor while maintaining customer satisfaction at world-class levels.

We ended the fiscal year with a stellar balance sheet with over $1 billion in cash and investments, having repurchased approximately $272 million of common stock during fiscal 2011. Our overall year-over-year revenue growth was 31%, including 29% year-over-year growth from product sales and 34% growth from our services business.

We also increased our profitability during 2011, achieving a record non-GAAP operating margin of 38% for the full year. We accomplished this while investing significantly in additional head count, increasing our total net head count by approximately 480 employees, ending the year with just under 2,500 employees. We are also very proud to have been included in the S&P 500 and the NASDAQ 100 during fiscal 2011.

As far as Q4 is concerned, I am very pleased with our results, including year-over-year revenue growth of 24% and 10% sequential product growth.

From a geographic perspective, North America was the star of the quarter, driven by large multimillion dollar ADC project wins and strong performance in the service provider market. Sales bookings were strong across all the other major regions and met or exceeded our internal forecast.

Overall, our Q4 financial performance was very strong. Quarterly free cash flow of almost $112 million was a record for the company, and our non-GAAP operating margins of almost 38.6% exceeded our internal targets. Our services business delivered yet another solid quarter. Deferred revenue continued to grow last quarter, with a balance of $343 million moving into fiscal 2012.

Q4 was the first full quarter of shipments of our midrange VIPRION 2400. The customer adoption of the 2400 has been fantastic, with shipments in Q4 well above our internal expectations. We also saw strong demand for our high-end VIPRION 4400, particularly in the service provider market. Also, the customer reaction to our Q4 release of (TMOS) Version 11 has been excellent. Functionality on iApp and true Virtual Clustered Multiprocessing are real game-changers in the industry.

As far as the outlook is concerned, it’s appropriate to be cautious about the global economic situation, and we remain committed to strong profitability. Clearly, there are numerous uncertainties present in the overall economy as we enter fiscal 2012. Obviously, as the current macroeconomic conditions weaken, then overall global IT spending could be reduced.

Andy provided our projected revenue range as well as some other high level expectations for fiscal 2012. As I mentioned several times during last year, we should expect to see seasonality in our business during Q1. This first quarter seasonality, which is normal in the technology market and is in line with our peers, is reflected in our guidance.

One of the most important financial objectives in fiscal 2012 is to deliver accelerating product revenue growth. Assuming no major change in the macroeconomic environment, we would expect to see our product revenue growth begin to accelerate in Q2. We also currently expect to achieve overall year-over-year total revenue growth of at least 20%.

I remain very optimistic of the future of F5 as we enter fiscal 2012. We continue to enjoy a very strong competitive position. I am particularly excited about the opportunities we have with our new products such as TMOS Version 11 and the VIPRION 2400 as well as upcoming new products and features on our 2012 product roadmap. We will present our roadmap in detail at our upcoming analyst/investor meeting scheduled for early November.

I have asserted many times in the past that F5 enjoys the position of being in the sweet spot of business and industry trends. Data center consolidation using virtualization technologies, cloud computing architectures, and the continued explosive growth of mobile applications and data are all industry trends which continue to be significant growth drivers for F5 solutions. We expect to see healthy growth from our core ADC market solutions as well as incremental opportunities as we continue our success in expanding market areas such as service providers and the security market.

As I mentioned in last quarter’s conference call, F5’s market leading and award winning application firewall solution, the Application Security Manager, or ASM, is becoming increasingly vital to customers as attacks on their IT infrastructure have become significantly more sophisticated, targeting not only the network but the applications directly. ESM coupled with the core capabilities of TMOS allow our customers to block this new generation of sophisticated hacker exploits. We have major Fortune 500 customers replacing traditional network firewalls entirely with BIG-IP.

Along with the significant additional security and functionality in TMOS Version 11, our short-term product roadmap includes additional classification, enhanced network firewall capabilities, and broader application protection that should further accelerate the opportunity to expand our presence in the security market. We believe this opportunity coupled with our strategic footprint in the data center will significantly expand the addressable market in fiscal year 2012 and beyond. We will also continue to aggressively invest in our sales resources to expand into new and existing geographic regions as well as investing in key vertical market opportunities.

The F5 team should be proud of our progress in the company during fiscal 2011. I would like to take this opportunity to thank the entire F5 team and our partners for their tremendous efforts last year, and I look forward to continued support in fiscal 2012.

And with that, we will now hand the call over for Q&A.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Ittai Kidron from Oppenheimer.

Ittai Kidron – Oppenheimer

Thank you very much and congratulations, guys, on a great quarter and great guide for 2012. John, given the good results, I’m not going to beat you up on ARX anymore, I promise that. But maybe you can give us a little bit more color into your thought process into 2012. Last year when you were at this time, you provided a comment of growth from quarter to quarter, but you didn’t – was it maybe brave or stupid? I guess it depends on who you ask, and it’s all in retrospect, but giving guidance for the full year as far as growth. And today with, I would say, the environment being a little bit more inconsistent or unknown, you actually feel comfortable giving us a full-year guide for 2012. So what is it that’s different today versus a year ago?

And Andy, maybe you can comment on the linearity in the quarter. And why should we not be concerned that what happened a year ago, where you had some salespeople pulling a lot of stuff in into September, is not happening this time around? How do you have control over that this time around?

John McAdam

All right. That was a pretty big question, the first one for me. So first of all, let me give you the caveats once more that we read out, which is in terms of the annual growth guidance that we’ve given. That is absolutely based on the macro economy staying in the same condition. If it deteriorates, by definition we will have issues there, so there’s no question about that. But if it stays in the same – and we have no reason to think it will change apart from watching television and listening to the news. In terms of our pipeline metrics, they look very strong.

In terms of looking forward to the year, it’s very straightforward for us. The number one priority from a financial perspective is to reaccelerate product revenue growth. And as I said, we believe we can do that in Q2. We’ve looked at the sales productivity. We’ve looked at our pipeline, and we think we have a good handle on that. Obviously, areas like ADC and the VIPRION 2400 and TMOS 11 are big deals for us moving into the year as well as well as the expanding market scenarios with areas like service provider and security. So that’s a quick summary. It’s really what I said in the script, but it’s a quick summary of the question.

Andrew Reinland

And then, Ittai, in terms of the current quarter, I think we have much more confidence that we see and understand the seasonality of the business where maybe a year ago we didn’t see it quite as clearly, especially coming out of the recession in 2008 and 2009. We’re much clearer on that now. And as we go through our management, sales management meetings, analyzing our factored pipeline, the assumptions we put to our close rates, it’s with that knowledge that we set this guidance. And I think we feel very confident that this is guidance we can meet and, as we say, hopefully beat, but feel strongly it’s good guidance for the quarter.

Ittai Kidron – Oppenheimer

Can you comment on the linearity?

Andrew Reinland

No, we don’t comment in quarter on linearity for what we’re seeing so far.

John McAdam

We are very conscious of the fact that last year October was very slow, and clearly we’re pushing hard the linearity, and we think we’ve got a good handle on that. However, next week is the analyst meeting, and I’m sure we’ll be pushed on that. But as normal, don’t expect us to be updating the quarter. We don’t do that.

Ittai Kidron – Oppenheimer

Very good; good luck, guys.

Operator

Thank you. John Slack from Citigroup, your line is open.

John Slack – Citigroup

Great, thanks a lot. I’d like to follow up maybe on the seasonality question. Historically, the March quarter is the seasonally weak quarter for you guys, and now you’re saying December is seasonally weak. Are you not going to see the normal enterprise budget flush and carrier budget flush in December? And should we think of March then as an acceleration off of December?

John McAdam

Yes, seasonality – and I think if you look – we’ve looked to all the peers. We’ve looked across the technology spectrum, and it’s difficult to find any company in the technology arena that will gate any significant upwards after the quarter forward because of the sales force being very active, pushing in deals, accelerators in place. And that’s normal and that’s what’s happening. I was very clear on that a year ago, extremely clear that we are seen seasonality now and you should expect that. In fact, we actually went back and checked exactly what we said, and I don’t think we could have been clearer, and it’s very much based on that. Budget flush, who knows in this environment? But you should definitely expect seasonality now and going forward, which is pretty normal.

John Slack – Citigroup

So John, should we think of March then as being more driven by the product cycle? Typically, you have – you still grow in March, but it slows down from December. I’m just trying to reconcile that.

John McAdam

Yes, when we look at our sales bookings to track our actual sales bookings in fact, those sales bookings over the last few years have been up reasonably well in the March quarter, especially in North America, and we would expect that to continue.

John Slack – Citigroup

Great. Thanks a lot, guys.

Operator

Rod Hall from JP Morgan, your line is open.

Rod Hall – JP Morgan

Yes, thanks for taking my questions. I just had a couple, I guess the first one being that telco vertical is up materially in the quarter based on the percentages you gave out. And I just wonder if there was any particular deal there and if that’s just across the board, lots of customers driving that increase, and then what you see the potential for that being over the next couple of quarters.

I’m also wondering. Riverbed launched their Stingray product today. And so I just wonder if you could comment on some of these virtualized products. I know you mentioned your own virtualized system in the release. But just what do you – how do you see the competitive environment developing? How nervous are you about some of the stuff that’s on the horizon? And I guess that’s it. I might have one follow-up.

Andrew Reinland

Okay. Just really quick on the telco space, we said that for the quarter it was 26%. If you go back a year ago, it was 25%. So just from what we see in how our telco seasonality flows, we usually see a strong summer ending in September, and then we’re lighter in Q1. I don’t know that I would call out any specific deals or anything that drove that. I think it was pretty broad-based around the world.

Rod Hall – JP Morgan

Can I just follow that up? The absolute revenue on that was about $81 million, just over if you do the calculation, up about $20 million quarter over quarter. And we haven’t seen that kind of sequential absolute increase in revenue in that vertical anywhere that I’m aware of back the last eight quarters, so it looks like there was a pretty good sized tick up there. But you’re saying there’s no specific customer that drove that?

John McAdam

To be specific, there was a number of I’d say – this is John, a number of multimillion dollar ADC deals, but there wasn’t one in particular that was significantly way ahead of everything else.

Dan Matte

Absolutely, Rod. This is Dan. In terms of the things that people are doing, a lot of the use cases we laid out last year, traffic steering, we saw a nice deployment at Telefónica. With that, we’re seeing lots of carrier grade NAT implementations, security implementations. So again, it’s very, very broad-based from that perspective.

And then the take on the competitive front, yes, absolutely, we obviously saw the announcement today as well. I guess a couple of things to bear in mind; one is that overall the virtual version of the market is projected to be about 10% of the market overall by about 2015.

Also, we’re seeing very nice adoption. I’m very happy with the growth rates in sales of our virtual editions, although we’re not breaking that out, but I’m very pleased with it. And then also just as we dig down into some of the technologies and choices that have been announced today, we’ve seen approaches where people have to install things on servers fail multiple times in our markets in the past, and I don’t expect that pattern to change anytime soon. And we will compete vigorously with anybody that comes into the ADC market.

Rod Hall – JP Morgan

Do you guys think 10 gig on the motherboard is going to increase the potential of virtualized systems running on servers? That way you’ve actually got better throughput on the native CPU; or do you think you still need for a few years now your own equipment, but cut the design box to run the software?

Dan Matte

Taking it on the server is there today and it’s running, and it increases the port options off the switch as you can aggregate more. But if you look at what’s running on the servers themselves, really it’s increasing the ability to run more virtual machines. It doesn’t necessarily improve the connectivity between the machines. And there’s a host...

Rod Hall – JP Morgan

But Intel’s new chip is going to increase the bus speed. I think the absolute – the bus speed of the chip itself is going to move up to handle much higher bandwidth in the next generation.

Dan Matte

Yes, it doesn’t, no. PCI 2.0 doesn’t do that. That’s already there. That’s in place. We use it. What those chips don’t do is increase the packet rates. You can’t run essentially a full 15 million packets per second on a server link like you can a switch.

John McAdam

And remember, we’re the clear leader here. If you look at last quarter, the trend that we saw was a very, very strong uptick of our chassis-based solution, the new 2400, but also the 4400. There is no way any software configuration could be anything close to that running in servers.

Rod Hall – JP Morgan

Okay, great. Thanks a lot, guys. I appreciate the answers.

John McAdam

Thank you.

Operator

Brian Modoff from Deutsche Bank, your line is open.

Brian Modoff – Deutsche Bank

Yes, guys. I’ve got a couple questions for you. First, talking about the vSphere 5 upgrade and the Romley chip upgrade that are coming, how does that affect you? And then looking out into next year, what do you see as some of the key drivers for your business? You talk about the carriers and you’re downplaying that. Yet if you look at TMOS 11, you mentioned traffic steering as one of the elements. It’s a key element for carriers. So you don’t see that driving more uptick amongst that group into next year?

Karl Triebes

I’ll take those. This is Karl. Just back on the Romley question, we have a deep partnership with Intel, and we know the roadmap many years out. And we leverage Intel as well as other CPU manufacturers in our products, and we’ll be leveraging that particular CPU, and we’ll talk more about it in our upcoming platforms. Also driving this server capacity is a good thing for us as well because more traffic, more stuff on the network helps us, and then also more virtuals.

One of the other things that has been very successful for us with consolidation is the fact that these virtual environments, with faster servers, people are putting more and more applications across more virtual machines. And each one of these things represents essentially a virtual address for us to deal with. And that’s something we do really well and consolidate very well. And iApp and our other functionality is just another step in improving that consolidation piece.

With regards to traffic steering, this is something we get used for today, quite frankly, especially with the optimization guys. And in fact, we’ll be spending a lot more time talking about that next week when we talk about the roadmap.

Brian Modoff – Deutsche Bank

And then also real quick on iApp, can you talk about – how has that affected you in terms of your installed base? If you make it simpler for your customers to implement iRules, are you seeing that have a direct correlation in terms of new use cases inside your installed base driving more demand?

Karl Triebes

Yes, absolutely, Brian. I think what we’ll see with iApp and the early trends are that more people inside of different groups within the organizations can take advantage of what we do. So we’re really making things more accessible to folks. And of course, the more they adopt it, the better it is from a revenue perspective.

Brian Modoff – Deutsche Bank

Thank you.

Operator

Alex Henderson, Miller Tabak, your line is open.

Alex Henderson – Miller Tabak

Hi, guys. So I was hoping you could talk a little bit more about the service provider piece. You made some comments about the improvement in uptake around VIPRION stepping up as a result of adoption of V-11. And I was wondering if you, therefore, expect over the course of 2012 that the service provider piece will start to increase as a percentage of sales; not necessarily from the 25% – 26% from 4Q, but rather on an annualized basis where the percentage is much more closer to the 20% vicinity.

John McAdam

Alex, this is John. First of all, we’re going to talk about this a lot more next week. We’re going to actually have some customer examples of the wins last year that talk about some of the traffic steering deals, some of the stuff we’re doing with LTE, areas like that, so I don’t want to get too detailed here.

In terms of the percentage, it was 26% in Q4. We expect the rest of our business to keep growing. If you look at the business we’ve done, it may sound maybe not sexy. But with Oracle and Microsoft optimizing their applications, that had a significant growth last year. And with iApp, you’re going to see that growing as well. So I wouldn’t expect to see a massive difference in our verticals moving forward. I think that quarter on quarter because service provider can be bigger deals, there could be some lumpiness. There’s no question about that. But overall, when we look at the year, I don’t think it’s going to be substantially different.

Alex Henderson – Miller Tabak

Okay, two other real just add-on questions just along the same lines. Could you talk a little about the security side of the market a little bit? As the result of the rollout of vSphere, the movement to what I would describe as mobile security where the security is moving with the virtual, there is a disengagement of a lot of the traditional perimeter defense models to what I would call an inflection point in security where there’s a changing architecture.

You obviously haven’t been as huge in some of these security markets as some of the straight security players, but you’re positioned in Layer 7 where everything has to go in a very strong way. Can that security element of your product accelerate the demand picture over a period of say 12 to 18 months as that move to virtual security accelerates?

Karl Triebes

Yes, so I think absolutely, we’re in lockstep in terms of our thinking there. And we talk about our products as strategic points of control, and security is absolutely one of those things that we can add value to.

So whether it’s base level things where we’re providing very high performance basic security functions being one thing and we’re doing it at price/performance levels that are five to eight times better than the leading vendors out there, to more sophisticated things where we are the point of entry into people’s networks and thinking about who that user is, what they’re doing, where they’re coming from, applying all those elements into decision making in terms of whether that’s good traffic or bad traffic, you see that rolled up into our edge product, into ASM, and so forth. So I think we’re very well positioned there, Alex.

Dan Matte

I’ll add to that just really quickly. You’re absolutely spot-on with the security perimeter change. We’ve talked about that for a while. But I think the market awareness has changed dramatically in the last year, especially when you start looking at some of these high-profile attacks on banks, like with the WikiLeaks piece and all that. And that was perfect for us because for a long time, as it turns out, not only were we getting used to Layer 7 security, but often the big idea was getting leverage either with iRules or some of its inherent stateful firewall capabilities that were built into it. And we’re going to talk a lot more about that next week exactly how these things are going to roll out over the next year and what we’re going to do there.

Alex Henderson – Miller Tabak

If I could just wrap that question, so is VMware resulting in more leads generation for you than they have in past periods as a result of that change?

Dan Matte

I think VMware is creating this environment of consolidation on the servers where more things are running on the back end. And then there are some other fundamental changes that are happening, the network topologies with all these APIs and other things that are going on. And so I think that’s in itself driving some of the demand characteristics and the traffic changes that we’re seeing.

Alex Henderson – Miller Tabak

Thank you.

John McAdam

The entire pipeline and project wins with VMware is a straight line upwards.

Alex Henderson – Miller Tabak

Thank you.

Operator

Brian Marshall, ISI Group, your line is open.

Brian Marshall – ISI Group

Great. Thanks, guys, so I guess a question with respect to carrier CapEx trends. If you look at it, clearly there has been a lot of focus on the wireless side and obviously LTE ramping et cetera. Can you talk about what LTE – what the implications are for your business from a wireline standpoint?

Karl Triebes

Yes, this is Karl again. Just from the technology side, if you look at what LTE is doing with the bandwidth carriers, today an average 3G connection runs at about 1 megabit. An average LTE connection is 30 megabits. So, it’s a 30x hit just in the traffic scenarios alone on the networks. And so that alone just suggests that it’s going to be an issue of bandwidth, especially at the point where this infrastructure connects to the Internet.

John McAdam

We’re actually going to give an example of the wireline LTE. Mark Anderson is going to present a customer win, in fact, next week on that.

Brian Marshall – ISI Group

Okay, perfect. And I would assume that some of the activity that we saw in the most recent quarter is a direct result of some of the LTE builds that are happening out there.

John McAdam

I think, as I say, we’re going to only talk about one customer win, but it’s really early, early days on that.

Brian Marshall – ISI Group

Okay. And from a competitive perspective, obviously, we’ve seen some pretty decent growth out of NetScaler, et cetera. We saw something with Juniper and Radware today. Can you talk a little bit about who you’re seeing most frequently out there, and just an update on the competitive landscape from F5’s perspective?

John McAdam

It’s no major change, no major change at all. Our win rate is in the high 88%, high 80%-plus, 90% range. We see Cisco, obviously, because of their presence. This is almost something I’ve been repeating for about three or four years. We see Citrix, of course. We’d like to see them more in the VDI space because we’ve got a better solution there, even in their environment. And that’s really about it.

Brian Marshall – ISI Group

Okay.

Karl Triebes

And then in terms of the Radware/Juniper stuff that got announced today, it’s interesting in terms of what’s going on. We’ve seen attempts to integrate things into the router before and not be very successful. The last company that did that is driving down to a low-teens market share now. And from a performance standpoint, they do outperform some of our products circa 2004. So I think it’s not a great solution out there.

Dan Matte

We’ve been competing against high quality companies since we started. And we’re used to beating high quality companies and growing our market share. And we’re really confident in our ability to continue to be able to do that because the entire company is focused on this space. It’s not a distraction like it might be for some of our competitors. But this is our focus. That’s why we’re the technology leader, and that’s why we still win 90% of the time when we go head to head.

Brian Marshall – ISI Group

Great and final question from me. If you look at your account penetration, say for example the Fortune 500, can you talk a little about how the penetration has ramped up there? Can you speak maybe to what percent of the install base you view as highly penetrated and talk about the trends that you see in there? Thanks.

Mark Anderson

Hey, Brian. So I actually have a slide dedicated to that next week. It’s going to show specific penetration in the three different geographic measurements and talk about the penetration opportunities, so I don’t want to steal my own thunder.

Brian Marshall – ISI Group

Understood. Thanks, guys. I appreciate it.

Operator

Thank you. Jason Ader from William Blair, your line is open.

Jason Ader – William Blair

Thank you. You guys, if I look at the non-vertical business, so if I take out government, telco, tech, and financial, it looks like it was down around $9 million sequentially, and I was just wondering. Does that have anything to do with the macro, or is that just not that relevant?

Dan Matte

Yes, I would say from our perspective that’s not that relevant. And we’ve looked at that pretty closely just with the layout of the quarter. If we look at our linearity, our expectations against our pipeline, we feel this was a pretty solid quarter in spite of the macro.

Jason Ader – William Blair

All right. And just on the verticals, it looked like you had pretty strong growth across all the verticals except financials for the year. And obviously, financials had a huge year last year. Is that the best explanation that you can come up with? It was 63% last year and this year it was 7%, whereas the other ones were pretty consistent again, 46% for tech, 27% for telco, and 34% for government, which were pretty similar to the rates last year.

Dan Matte

Yes, I think last year in particular, we had a great amount of revenue recognized from a big financial deal that we ended the previous fiscal year with that delivered throughout the year. So I think that might have skewed the financial vertical a little bit last year that you’re looking at. From our perspective, we feel as strong about the financial vertical as ever; really nothing to highlight there within any of our verticals that are giving us concern right now.

Jason Ader – William Blair

Okay, thank you.

John Eldridge

Okay. This is John Eldridge. We’re going to take two more questions and wrap it up, okay?

Operator

Thank you. Tim Long from Bank of Montreal, your line is open.

Tim Long – BMO Capital Markets

Thank you, just a few if I could. First, you mentioned that product revenue should accelerate in Q2. Could you just give us a little color on that? Why are you expecting that? Is it just easy compares, or is there something with timing of backlog of product introduction?

And then secondly, on the north of 20% growth, could you just give us a sense? Obviously, the 2400 and 4400 are going to be a part of that. But how much of that growth is relying upon some of the adjacencies, John, that you talked about, remote access control, security, and the others? Thank you.

John McAdam

Yes, so on Q2, first of all, the main reason for our statements in Q2 is when we look historically at the sales bookings, particularly in North America, over the last few years from Q1 to Q2 we’ve seen some nice progress, and we expect to see the same. And obviously, we link that from bottoms up information from the sales force combined with the pipeline. So that’s where that data is coming from. What was the second question?

Tim Long – BMO Capital Markets

Just how much of the 20% growth is relying on some of the adjacent markets rather than just upgrades in the quarter?

John McAdam

That is such a difficult question to answer, and let me explain why. Because although we talk about our core ADC platform and we talk about adjacent markets, the solutions to those adjacent markets sit within our core ADC platform. So for example, ASM has been growing dramatically actually over the last couple years and a very strong year in 2011. But we don’t report that because ASM is part of the solution based on the platform that we’ve got, where probably we may be doing some web acceleration at the same time. So they’re a very important; they’re a part of the overall solution that we give. So it’s very difficult to actually put numerics beside it.

Having said that, when we look at the service provider and security market in particular because we did call them out, we do believe that there’s a chunk of the firewall market specifically that we can go for.

Again, it will be reported as ADC revenue. But because of our ability to understand the application, the fluency of our application product, because of the ability to handle high workloads and high connections per second that firewalls just can’t do, we expect to see that market increasing as well. And then as for service provider, we’ve talked about that. We’ve talked about the opportunities with traffic steering, with LTE, some of the stuff on the roadmap. But you should assume that when we report that, it’s all part of ADC.

Tim Long – BMO Capital Markets

Okay, thank you.

Operator

Thank you. Our last question comes from Jayson Noland of Robert W Baird. Your line is open.

Jayson Noland – Robert W Baird

Great, thank you. John, your comment on appropriate to be cautious, are you actually seeing challenges related to the macroeconomic environment, maybe deal size or close rates, or are you just making a general statement there?

John McAdam

That’s a general statement. In fact, what I said was our guidance was based on a 20% forecast for the year based on the existing macro environment.

Jayson Noland – Robert W Baird

Okay. And Andy, your calendar 2012 guidance assumptions for the end market, are you assuming share gain in calendar 2012 relative to the end market opportunity?

Andrew Reinland

Yes, our view on the market right now is that we’re driving the overall market. So we’re looking at what we think we can accomplish next year given the opportunity we see out there, geographies that we can continue to penetrate. Major accounts we talk a lot. Mark had mentioned that he’s going to talk next week about our penetration into Fortune 500, Financial Times 500. We see a lot of opportunity to expand footprint, expand the market, and drive to our numbers that way.

John McAdam

In the core with Version 11 of TMOS, and we’ve talked about that a lot and we’ll talk about it more next week, and with the VIPRION 2400 along with a pretty exciting product roadmap, we feel great about our core. Where we look for share gains is maybe like security and service provider areas like that. So we feel much more offensive than defensive from a share gain perspective.

Jayson Noland – Robert W Baird

Thanks for taking the questions, guys.

John Eldridge

All right, thanks for joining us. And we hope to see you all at our Analyst/Investor Day on November 3. And if not, we’ll talk to you next quarter.

Operator

Thank you. That does conclude your conference. Thank you for your participation. You may now disconnect from the audio portion.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: F5 Networks' CEO Discusses F4Q 2011 Results - Earnings Call Transcript
This Transcript
All Transcripts