Here’s the entire text of the prepared remarks from Juniper’s (ticker: JNPR) Q3 2005 conference call. The Q&A is in a separate article. We recognize that this transcript may contain inaccuracies - if you find any, please post a comment below and we’ll incorporate your corrections. And please note: this conference call transcript is a Seeking Alpha product, so feel free to link to it but reproduction is not permitted without the explicit permission of Seeking Alpha.
[Scott Kriens, Chairman and CEO]
Thanks, Randi, and good afternoon to everyone. Today, as Randi mentioned, I will be talking about the third quarter performance, the foundation that's built for us at Juniper, and the trends and the potential that we see for the Company over the intermediate term. And we'll focus today on the near-term condition of the Company, and then on the next call in January, as we review the full year 2005, we will take a longer-term view.
So first to the third quarter's results. We had a very strong quarter growth, which is a result of our continued focus and execution of the strategy we have talked about many times, which is being the best supplier of traffic processing infrastructure for the delivery of virtual network services. In addition, we built new beachheads in both new and existing markets. We have extended our strategic relationships, and as a result we have avoided some of the seasonality that can otherwise occur in those markets and we'll talk more about this on today's call.
Total revenue for the quarter was $546.4 million, up almost 11% from last quarter, and fully diluted non-GAAP EPS was $0.19, up from $0.18 last quarter. GAAP EPS was $0.14 for Q3 compared to $0.15 last quarter and $0.09 during the same quarter of last year, and please see the press released on our website for the reconciliation of non-GAAP to GAAP results. We also continue to be pleased with the contributions of our key strategic partners and resellers, and this is evidenced by today's results. Siemens was again our largest partner, contributing more than 10% of total revenue during the quarter, and we're very pleased with the sequential growth across all of our businesses as well as our geographic balance.
The infrastructure products represented 65% of total product revenue and grew over 8% sequentially in the last quarter and have grown over 36% year-over-year, and our service business was up once again as well, and exceeded the goals we set at the beginning of the quarter. Obviously, we are very pleased with this growth and the share gains and the success in the market that this represents, and Bob will provide details in a few minutes on the service and infrastructure business and the Service Layer Technologies. As this is the first quarter of reporting on Service Layer Technologies or SLP, we will be establishing a baseline with which to compare growth in future periods. But given that the security business in particular has been top of mind for many investors and this is the transition quarter to the new reporting format, I'd like to spend some time reviewing the momentum we are enjoying, specifically in the security products.
The security products grew approximately 8% sequentially this quarter compared to Q2 and over 37% year-over-year on a normalized basis. The reported growth rate was even higher, but we deflated that growth to reflect the purchase accounting impact and to more accurately reflect the condition of the business. These year-over-year security results have outperformed all industry peer group companies by a substantial margin; in fact, as much as doubled the growth rate of most of the security competitors we see in the market. And if we take a look at the last few quarters, security revenue experienced strong growth in Q1, which is a seasonally weak quarter, and slower growth in Q2 in what is typically a seasonally stronger quarter, and then this quarter we grew the business significantly once again. The numbers have been sometimes counter to typical trends, which is why even though we posted a strong quarterly growth rate this quarter, it's probably more instructive to look year-over-year, especially on a competitive basis. The growth we see is sustained and sustainable, and the result of our investment in these markets and products is generating returns to Juniper, which we've expected.
We have aggressively invested in both the market and product development areas; announced several new products during the quarter; we've been recognized as a leader by the industry analysts; and we've had significant compliments in expanding our channel presence. So in keeping with our look at of Juniper in our current status, let's look at four separate cornerstones that have been put in place as a result of the sustained growth we are demonstrating and which, when taken in total, have allowed us to build a solid and sustainable foundation for the future of Juniper. And so to the first cornerstone, our financial fundamentals. Today's results now give us a total of thirteen consecutive quarters of revenue growth. We are now running the business at an annualized rate of over $2 billion a year, which is triple the revenue run rate of only two years ago. And during that time, while revenue has tripled the earnings have increased five-fold. We have cash balances of approximately $2 billion, and we're generating cash from operations of over $0.5 billion per year.
As I mentioned, we're growing faster than our competition, which leads to the second cornerstone, our market and mind share. I would like to review some of the data on the relative growth of Juniper. First, in infrastructure. Last quarter in the broadband access segment, Gartner recognized Juniper as the leader in broadband aggregation routing, which is indicative of our success with the E series product line that has been shipping to customers across the globe for more than five years. In the core, the T series was awarded more than 1/3 of the total market share for over two years with over 100 customers and a thousand units, and the M series has proven to be extremely successful with greater than 25% of the multi-service edge market.
In security, the latest Gartner magic quadrants put Juniper in the leader's quadrant for IDP and SSL, having been evaluated on vision, execution, and product breadth. We were recognized as the SSL VPN market share leader by Infonetics Research with 36% of the total market, and the leader in high-end firewall VPN with 35% share. And to our newest market in application assurance, Gartner recognized Juniper as a leader in the market scope and magic quadrant for the WAN optimization and application delivery products, respectively, while we spearheaded this emerging market with best-in-class technologies.
And so to the third cornerstone, expanding our market presence, a key strategic initiative we have been focused on. With regard to the Juniper brand, Infonetics Research sought insight from 180 enterprises about how they evaluate and select routers and vendors, when asked which vendor they would buy from Juniper ranked No. 2 out of 6 vendors based on a number of factors including customer satisfaction, price, value, security, technology, management features, product road map, financial stability, and service and support. We have also committed to expanding the breadth of the channel, and last year the channel business, as well as the number of resellers, grew substantially. We've made new investments in our global channel and partner network, and our sales and marketing efforts in more than 75 countries have been re-aligned to move our solutions deeper into the enterprise. We are very pleased with our progress in these areas and, of course, we still have some work to do.
And to the fourth and final corner stone, the power of our portfolio. We continued to innovate and invest in best-in-class solutions. In Q3 we shipped the new E320 broadband access router and have received very positive feedback from customers. We announced the new, secure access 6000 SP to enable service providers to deliver additional revenue generating network-based SSL VPN managed services including wireless LAN and Voice over IP. We recently announced the availability of integrated intrusion detection and prevention, or IDP, functionality on our ISG 1000 firewall VPN appliance giving us the ability to offer medium and large enterprise customers a range of platforms that provide increased levels of delivery and threat control.
And continuing our SSL VPN market leadership support for the enterprise intranet architecture, we have introduced four new secure SSL VPN hardware platforms providing enterprises with enhanced delivery control through best-in-class performance, scalability, and redundancy. So with these cornerstones and this foundation for the future in place, what are the trends in the market on which we're now capitalizing? And the most predominant, or mega trend, has been first, the establishment of the new IP infrastructure and the push to secure these infrastructures and the users. And now the second wave, and that were being to offer new and expanded services over these next generation networks. As we've discussed before, this is true of both the public networks operated by service providers and private networks or enterprise networks operated by commercial companies, governments, and educational institutions.
So let's look at some specific examples in both the public and private sector, which form the primary data for understanding of these trends, and by extension from the basis for our success today and the positioning of our plans for success going forward. The first and perhaps most talked about trend is triple play. Our service provider customers are continuing to transition beyond simple Internet access and single-service offerings to more advanced and profitable conversed voice, video, and data services, better known as triple play. And supporting Voice applications over IP is becoming more of a priority for our customers every day.
Voice traffic is extremely sensitive to network quality standards, as seen in measurements of behavior such as jitter or latency or packet loss, and basically too much of any of these will lead to poor call quality. Service providers and enterprises are seeking to gain the cost advantages of Voice over IP technology. In addition, IPTV has become one of the most talked about new telecom services, and it is an excellent opportunity for service providers to help retain existing subscribers, acquire new ones, and grow revenues in the process. And rightly so, service providers are now placing a high priority on delivering video over IP as a means to complete their triple-play service bundles and, as overpass all emphasis, network reliability and stability are more critical than ever.
For example, KPN is deploying the second major phase of their core network, which, when fully implemented, will lay the groundwork for the new Voice over IP video and multimedia services such as IPTV and video streaming. In addition, Korea Telecom is deploying multi-service edge routers to deliver advanced IPTV, Voice over IP, and WiBro, which is Korea's wireless broadband standard. And here in the U.S., Verizon's fiber optic project is a major strategic initiative to enable multimedia services for their customers.
And the other major trend is to secure this mission-critical infrastructure, because the delivery of security is not separable from the infrastructure itself. There is no such thing as an infrastructure without security because you must attach that security to the asset it is intended to secure in the first place, otherwise the gap created between the two by designing security and infrastructure separately is the very breech that we must prevent to begin with and with the secure infrastructure, what now becomes possible.
Well, a secure infrastructure allows a business or a carrier to provide more services with a higher degree of confidence in the reliability of the infrastructure. And the more confidence the users have in the network, the more they will use it. So securing all types of traffic, data, Voice over IP and video over wire line, wireless, and cable infrastructure is an increasing trend around the globe. Service providers are looking for integrated firewall and VPN solutions to secure voice access over their client's remote network, and in addition there is a need for security, service assurance and address translation where technologies like session border control can help ensure the integrity and reliability of the service, simplify deployment, and minimize the need for additional equipment or changes to the network.
For example, the state of South Carolina and the state of Delaware's Department of Technology and Information are building secure and assured networks with a combination of routing and security solutions. In addition AvantGo, who delivers rich, personalized mobile websites to PDA's and smart phones has deployed routers as well as integrated security appliances in the network to rapidly and efficiently funnel traffic through its network securely. And finally, NTTPC Communications in Japan has improved the security and scalability of their Voice over IP service by deploying session border controllers. So these trends are happening now and customers want and they need strong and stable companies, best-in-class solutions, and a commitment to innovate that will position them for competitive advantage.
And our opportunity at Juniper is to capitalize on the situation. So let's look finally at the third topic for today's discussion, the potential that we have to grow from the foundations we have built and the position we enjoy relative to the trends that we've talked about. What has become possible for Juniper, and how do we take advantage of the opportunity we have with this company that we have built at the intersection of these trends and our capabilities? First of all, we're in a unique situation and we realize it. It is really quite unusual; actually, because we're strengthening our position in a growing market while at the same time the number of qualified competitors in the field is shrinking. And among the declining number of truly capable companies who can compete for a place at this intersection, most are burdened with their legacies, having defined themselves decades ago when the market and structure of success was much different.
So we're not smarter than anybody else, but we do have the freedom to focus on the future and that allows for a clarity that makes focus and execution much easier to achieve and to maintain. The potential we have and the momentum we currently see in the business is powered by a compelling formula. There is great demand for services over a secure infrastructure, and the more of each of these elements we can deliver, the more demand we create for the others. The more secure the network is the more services will be trusted over it. The more secure service there's are the more benefit will be realized and the more infrastructure demand there will be and so on. Said simply, success is creating demand and demand makes our success possible. And this self-perpetuating formula is the driver behind Juniper's current momentum.
In the process, the innovation and the solutions we deliver enable Juniper to become more strategic to our customers and we have the ability to establish strategic relationships in other sectors similar to those we built initially in the service provider sector. This has been our strategy for the last several quarters and it may surprise some to know that today our enterprise business currently represents approximately 1/3 of our total business including routing, security as well as application and acceleration products.
We build best-in-class solutions for customers with strategic problems and in doing so we are establishing Juniper as a trusted partner for both public and private network operators. This also explains, by the way, some of the counter seasonality we have seen in our results over recent quarters. Strategic projects don't go through some of the same fluctuations that other more discretionary projects can exhibit.
This quarter our business was balanced across all product groups, but it is important to know that this is a byproduct of our growth and not our primary goal. Our primary goal is to build the Juniper brand and to establish a trusted relationship with our customers and to provide them the answers to their strategic needs. If growth is balanced across all products as it was this quarter, great. And over time, growth of all our products is, of course, important, but we're measuring our success and setting our goals for our sales teams in terms of absolute grown and increasing our presence in the process. Winning the game as we have for the last three-plus years is the target we've prioritized, and exactly which products score the points in any particular quarter is a secondary measurement.
So, in summary, the foundation we've built for the trends that we see, the power of our portfolio, and the freedom to focus on our future translates to one thing: The opportunity to deliver sustained organic growth. Juniper is in a position to realize the benefits of a market converging at an accelerating rate to a place we have designed this company to serve. This is our formula. It has been working for many years now, and our continued success will require the commitment to focus an execution that we relied on since the founding of Juniper.
And finally, most importantly, all of this is possible only with the support of our employees whose continued commitment and incredible efforts make these results possible, as well as our many partners, our customers, our suppliers, and our long-term shareholders. I would like to thank you all for your continued support and confidence in Juniper Networks. So Bob, I'll now turn the call over to you.
[Bob Dykes, CFO]
Thanks, Scott. I'm very pleased with all of the financial metrics for the quarter. Which I will review in detail. However, please remember that our business will be lumpy by application, by geography, as well as by product mix. Total reported revenue for Q3 was $546.4 million, an increase of almost 11% from last quarter and over 45% from the year prior. The third quarter represents the first full quarter of revenue from the acquisitions closed, contributing approximately 2% points of the sequential growth. We are very please wetted growth in our infrastructure products, recognizing product revenue of $357.2 million, up over 8% from last quarter and up over 36% from last year.
This includes revenue recognized from the new E320 platform where we received positive customer acceptance, as well as continued to add [T Service] customers at a healthy rate. We recognize revenue on a total of 2,377 units this quarter, and we shipped 35,797 ports this quarter. This quarter, the core represented more than half of our infrastructure business, which is a reversal from last quart where the edge represented more than half. This mix reflects the oscillation we continue to see between the edge and the core and is likely to be a continuing phenomena given the specific service provider requirements.
We're also very pleased with the growth in our Service Layer Technology revenue which includes security, J-series, central border controllers, and application accelerator solutions totaling $109.3 million reflecting an increase of over 17% from last quarter. This growth includes recent acquisitions, but it is important to note that we are extremely pleased with the growth in our security portfolio, which grew about 8% quarter-over-quarter and over 37% normalized year-over-year. Total service revenue was $79.9 million, up approximately 15% from last quarter. This increase was due to higher service attachment rates and renewal rates with a strong focus on the security side of the business, as well as the inclusion of service revenue from recently closed acquisitions. The total book-to-bill ratio was greater than one in the quarter. As Scott mentioned, Siemens represented greater than 10% of total revenue in the quarter.
From a geographic perspective, the Americas represented 44% of total revenue. We saw growth in the Americas driven by the competitive dynamics by the service providers and cable companies as well as a requirement for more security. Asia represented 24% of total revenue, also showing absolute growth from last quarter, which is a reflection of the investments we made in our high-touch enterprise sales model during the quarter. We saw strength in Australia, China, and Korea. The drivers vary by country, but generally speaking, Asia has been aggressive in deploying consumer applications with high bandwidth requirements like gaming. Europe represented 32% of total revenue, where we saw exceptional growth despite traditional seasonal trends. We saw strength in Belgium, Germany, Netherlands, Sweden and the UK.
This was driven by infrastructure build outs based on the carrier's ability to aggressively promote and sell business-driven, next-generation services like triple play, VPN, and managed services. We expect to see continued lumpiness by theater as quarter trends fluctuate; however we were very pleased with the geographic balance we continue to generate. Revenue through our direct cells was approximately 25% with the remainder going through global and country-specific distributors and resellers. We continue to be pleased with the growth in our distribution channel as we maintain the expansion and leverage of our channel presence.
As a reminder, all enterprise orders are required to be filled through a channel partner. This policy was established to prevent channel conflict with the direct sales force. Gross margin was 68.7%, up slightly from the 68.5% last quarter, in line with the higher end of our expectations. This was due to slightly more positive product mix. We do expect gross margins to be lumpy as geographic and product mixes fluctuate going forward. Service margins was approximately 51%, flat from last quarter. Our service revenue increased significantly.
The non-GAAP references that I am about to discuss exclude a one-time charge for a patent cross-licensing agreement, the amortization of purchased intangibles, deferred compensation, in-process R&D and a restructuring credit. Please see the press released on our website for the reconciliation of non-GAAP to GAAP results. As a reminder, all of the operating expenses include a full quarter of expenses from the recent acquisitions. R&D expenses were $90.5 million and accounted for 16.6% of total revenue, which compares to $81.2 million or 16.5% from last quarter. This absolute increase is due to head count growth, including recent acquisitions, and increased programs given our focus on internal development.
During the quarter we invested and expanded on our global R&D efforts, specifically in China and India. Sales and marketing expenses were $116.2 million and accounted for 21.3% of total revenue, which compares to $102.3 million, or 20.7% last quarter. This increase is due to head count growth, including recent acquisitions, and an increase to our high-touch model for the enterprise opportunities where we have already started to see the return on investment, as well as channel and partner investment on brand development. And G&A expenses were $16.8 million and accounted for 3.1% of total revenue, which compares with $15.4 million or 3.1% of total revenue last quarter. Operating expenses were $223.5 million and accounted for 40.9% of total revenue, which compares to $198.9 or 40.3% of total revenue last quarter.
Excluding the impact of our recent acquisitions, revenue growth outpaced the increase and operating expenses. Operating income was $151.4 million, or 27.7% of total revenue, compared to operating income of $138.9 million, or 28.2% of total revenue last quarter. Net interest and other income totaled $14.7 million compared to $12.3 million last quarter. This increase was due to an increase in our cash balances and investment returns as well as higher interest rates. Our effective tax rate was 31%.
Non-GAAP net income increased for the quarter to $114.7 million, or 21%, compared to $104.3 million, or 21.2% last quarter. Diluted non-GAAP earnings per share were $0.19 versus $0.18 in Q2. On a GAAP basis, which includes the amortization of purchased intangibles, deferred compensation, in-process R&D, and a restructuring credit of $33 million in Q3, our operating expenses totaled $266.5million our net income was $84.1 million, or $.14 per share, compared to net income of $89 million, or $0.15 per share in Q2.
Now, a few comments regarding the balance sheet. Cash, cash equivalents, short- and long-term investments totaled approximately $2 billion. We are extremely pleased to announce that we generated almost $145 million in cash flow from operations during the quarter. Accounts receivable was $205.4 million, and day sales outstanding was 40 days versus 38 days last quarter. This is in line with our target range of 30-40 days. Total deferred revenue was $243.2 million, which is made up of service, channel, inventory, and product currently unrecognizable for revenue. CapEx was $18.2 million, and depreciation was $13.5 million during the quarter.
We did not repurchase common stock this quarter, but we expect to be more aggressive in Q4 than we have been over the last few quarters. We ended the quarter with 3,784 in total head count, up from 3,425 at the end of the last quarter with approximate approximately 140 of the increase coming from recently-closed acquisitions at the beginning of the quarter. In addition we invested heavily to expand the R&D and sales organizations. We have an increased focus on our internal R&D as well as sales, where we have made investments to address new and emerging opportunities as Scott outlined earlier. We hired people in all other areas as well to support and scale the growth moving forward.
Before discussing the guidance I would like to state that our number one goal is to grow revenue and earnings and to deliver that growth within our operating model. We remain comfortable with the long-term model of producing gross margins in the 66% to 68% range and operating margins in the 25% to 30% range. The following forecast and guidance are forward-looking statements and the actual results can vary for a number of reasons, including those mentioned in our most recent 10-Q filed with the SEC. Now for our goals and guidance. Over the last couple years we have been given a first half and second half outlook followed up with a three month update and we will continue that by providing our three month update for the 4th quarter of 2005. We'll continue to focus on our financial fundamentals, and please remember it is difficult to predict the level of business each quarter, but we are managing to our financial plan and we would like to share some thoughts with you.
We are increasing our revenue and earnings guidance for Q4 05. We are currently forecasting total revenue of $570- to $575 million reflecting growth across each of our businesses. Please remember that Q3 included the first full quarter of revenue from recently closed acquisitions, and this guidance reflects all organic growth. We currently expect similar gross margins from those we reported in Q3 and, therefore, we are giving the same guidance range as last quarter of 67.5% to 68.5%. As I stated previously, our long-term gross margin target remains in the range of 66% to 68%. We're currently forecasting operating expenses to grow slower than revenue in Q4 and we would expect operating expenses to be flat to up, approximately $5 million. This would come from additional investments in R&D and sales. From an R&D standpoint, we are focused on simultaneously investing and expanding feature sets on current solutions, building new best-in-class products, as well as integration among platforms and software capabilities.
In terms of sales and marketing, we are investing in our market coverage, brand development, and channel partners. This guidance would reflect an increase in operating margins, but please remember that we expect operating margins to be lumpy from quarter to quarter depending on development cycles and sales investments. I'd like to emphasize that we will continue to spend prudently and focus on the areas that give us the return on investment, which will enable both revenue and earnings growth as we saw in Q3 and expect in Q4. We expect the tax rate to remain at 31%. And we expect shares in the range of 610 to 615 million, and approximately $0.20 of non-GAAP EPS which includes one penny of dilution from the recent acquisitions as previously disclosed. The GAAP EPS target is not accessible on a forward-looking basis due to high variability and low visibility with respect to the nonrecurring charges which are excluded from the non-GAAP EPS estimate. Finally, we'll continue to focus on our objective of delivering high quality financial metrics. Now, we would like to take questions. Please limit yourself to one question.
Alistair, if you can please instruct the audience regarding the queuing process.