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F5 Networks, Inc. (NASDAQ:FFIV)

F2Q2012 Results Earnings Call

April 18, 2012 4:30 PM ET

Executives

John Eldridge – Director, Investor Relations

John McAdam – President and CEO

Andy Reinland – Executive VP and CFO

Karl Triebes – EVP, Product Development and Chief Technology Officer

Manny Rivelo – EVP, Security and Strategic Solutions

Dan Matte – SVP, Marketing and Business Development

Analysts

Ittai Kidron – Oppenheimer

George Notter – Jefferies

Erik Suppiger – JMP Securities

Jason Ader – William Blair

Brian White – Topeka

Simon Leopold – Raymond James

Alex Kurtz – Sterne Agee

Stephen Patel – ISI Group

Alex Henderson – Miller Tabak

Nikos Theodosopoulos – UBS

Mark Sue – RBC Capital Markets

Troy Jensen – Piper Jaffray

Rajat Gupta – JPMorgan

Operator

Good afternoon. And welcome to the F5 Second Quarter Financial Results Conference Call. At this time, all parties will be able to listen-only until the question-and-answer portion. Also today’s conference is being recorded. If anyone has any objections please disconnect at this time.

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

John Eldridge

Thank you, Carol. Welcome all of you to our conference call for second quarter of fiscal 2012. Speakers on today’s call are John McAdam, President and CEO; and Andy Reinland, Senior VP, sorry, Executive VP and Chief Finance Officer. Other members of our exec team are also with us to answer questions following our prepared comments. If you have questions following today’s call please direct them to me at 206-272-6571. If you don’t have a copy of today’s press release, you can assess one on our website at F5.com.

In addition, you can access an archived version of today’s live webcast from the Investor Relations Events Calendar page of our webpage -- website through July 18th. 4:30 p.m. today until midnight Pacific Time April 19th, you can also listen to a telephone replay at 866-503-3214 or 203-369-1863.

As we indicated in our press release, financial results for the second quarter reflect some changes in the way we report our non-GAAP measurements, prior to Q2, our non-GAAP results have excluded only stock-based compensation expense. Following the acquisition of Traffix Systems in February, we have decided to adopt common industry practice and exclude amortization of purchased intangibles and all acquisition-related charges as well.

Going forward, we believe this practice will provide investors for the more accurate representation of our operating business model. Before reconciliation of GAAP to non-GAAP results for Q2 and on Q3 earnings guidance is provided in our press release and the consolidated statements of operations is included in the press release and also posted on our website.

During today’s call, our discussion will contain forward-looking statements which include 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 statements. Factors that may affect our results are summarized in the quarterly press release and described in detail in our SEC filings.

Before we begin, I want to remind you that F5 has no duty to update any information presented in this call.

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

Andy Reinland

Thank you, John. F5’s fiscal second quarter marked a return to product revenue acceleration as strong Telco sales and continued momentum in software and security drove revenue ahead of our guidance.

Revenue of $339.6 million, which exceeded the high-end of our $332 million to $337 million guided range, grew 5.3% from the prior quarter and 22.4% year-over-year. In line with our expectations Q2 revenue from Traffix Systems was not material to results.

GAAP EPS of $0.86 per diluted share was at the high-end of our guided range of $0.84 to $0.86. Non-GAAP EPS, which excludes stock-based compensation, amortization of purchased intangible assets and acquisition charges for Traffix was $1.09 per diluted share above our guidance of $1.05 to $1.07.

Product revenue of $205.2 million grew 18% year-over-year, and represented 60% of total revenue. Service revenue of $134.5 million grew 29% year-over-year, and accounted for 40% of total revenue. Book-to-bill for the quarter was greater than 1.

On the geographic basis, Americans revenue increased 21% from the second quarter of fiscal 2011 and accounted for 58% of total revenue. EMEA revenue which represented 21% of the total increased 19% from the second quarter of last year. APAC contributed 14% of revenue up 24% year-over-year and Japan accounted for 7% of revenue, a 47% increase year-over-year.

During Q2, our Application Delivery Networking business contributed $333.1 million in revenue. This compares to $316.9 million in Q1 and $270.5 million in the second quarter a year ago. Revenue from our ARX File Virtualization business was $6.5 million, compared to $5.5 million in Q1 and $7.1 million in Q2 of last year.

Telco was our strongest vertical in Q2, representing 27% of total sales. Financial was 16%, technology 19% and government was 12%, including U.S. Federal, which accounted for 6% of the total.

In Q2, we had two greater than 10% distributors, Avnet, which represented 16.6% of total revenue and Ingram Micro, which accounted for 13.9%.

Behind continued strong sales of software, GAAP gross margin improved in Q2 to 83%. Non-GAAP gross margin was 84.2%. GAAP operating expenses of $177.3 million were above our target range of $170.5 million to $174.5 million. Non-GAAP operating expenses were $155.7 million.

GAAP operating margin was 30.8%. Our non-GAAP operating margin was 38.3%. Our GAAP effective tax rate for Q2 was 35.3% and our non-GAAP effective tax rate was 33.8%.

Turning to the balance sheet, cash flow from operations was $101.6 million contributing to total cash on investments of $1.034 billion at quarter end. Free cash flow for the quarter was $94.6 million. Capital expenditures for the quarter were $7 million.

DSO at the end of Q2 was 49 days. Inventories were $17 million. Deferred revenue increased 8.6% sequentially to $412.8 million. We ended the quarter with approximately 2,805 employees, an increase of 190 from the prior quarter.

During Q2, we repurchased approximately 404,000 shares of a common stock at an average price of $124.44 per share for a total of $50.3 million, approximately $281 million remains authorized under the current share repurchase program.

For our outlook, we continue to believe F5 will generate sequential revenue growth throughout fiscal year 2012 and achieve annual revenue growth for the fiscal year of at least 20%.

We are very happy with the early sales activity around the Traffix technology acquired this quarter and John will discuss Traffix in more detail. However for Q3, we do not anticipate a material revenue contribution from Traffix Systems. With that in mind, our revenue target for the third quarter of fiscal 2012 is $350 million to $355 million.

We expect GAAP gross margin in the 82% to 83% range, including approximately $2.5 million of stock-based compensation expense and $1.7 million in amortization of purchased intangible assets.

We anticipate GAAP operating expenses in the range of $180.5 million to $184.5 million, including approximately $22 million stock-based compensation expense and $200,000 in amortization of purchased intangible assets.

Our GAAP EPS target is $0.88 to $0.90 per diluted share. Our non-GAAP EPS target is $1.12 to $1.14 per diluted share.

We are forecasting a GAAP effective tax rate of 35% and a non-GAAP effective tax rate of 33.5%. We plan to increase our headcount by approximately 125 employees in the current quarter. We estimate our DSO will be in the upper 40 day range. We expect inventory levels within a range of 17 million to 19 million and we believe our cash flow from operations will be in excess of $110 million.

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

John McAdam

Thanks, Andy, and good afternoon, everyone. I was very pleased with our Q2 results. We delivered solid year-over-year revenue growth of 22% and 18% year-over-year product revenue growth. I was also pleased with the performance of all our major sales regions. Each region produced solid year-over-year sales bookings growth.

The Asia-Pacific, Japan region had a very strong quarter, especially in Japan and China. North America had another well-executed quarter, driven by very strong service provider sales and an improvement in our U.S. Federal business. EMEA had an excellent quarter with solid year-over-year and sequential sales growth. Our services business had another stellar quarter exceeding both revenue and profit goals, as well as posting a very significant increase in deferred revenue of approximately $33 million.

Continuing the momentum from Q1, sales of our VIPRION chassis-based products were very strong with sales bookings of VIPRION up over 200% from last year. We also continued to experience strong sequential and year-over-year growth and sales from our software-only virtual editions solutions.

With standalone virtual editions of our entire suite of software modules, we now have the most comprehensive portfolio of software-only ADCs in the market. Attach rates for all our software modules also showed strong growth, especially those that are part of our integrated security offering.

All of our security products continued to gain momentum in Q2. In addition to strong sales of ASM, APM, EDGE Gateway and DNS Security modules, we saw a growing demand for our TMOS-based data center firewall solution, which has obtained ICSA Certification.

During the quarter, we enjoyed a large number of significant wins protecting large web-based application environments for traditional firewalls like the functionality and scalability needed to deal with these new advanced persistent threats on large customer facing applications.

With TMOS v11 running on our high-end systems like VIPRION 4400, we can deliver more than eight times the throughput of our competitors firewall solutions at a significantly lower price, while still providing the industry best layer 3 to layer 7 security and application functionality.

In late February, we augmented our expanding array of Telco-related capabilities with the acquisition of Traffix Systems, the leading provider of Diameter signaling product for service providers. The Diameter protocol has gained industry-wide acceptance by the 3GPP and GSMA as the standard for the network signaling in all 4G/LTE networks.

Diameter plays a vital role in the management of 4G/LTE and IMS networks including billing and policy deployments, enabling service providers to monetize the networks by providing a menu of subscription-based services.

The Traffix team’s deep understanding of the needs of service providers and the scale and developing technology to manage, scale, secure, integrate and apply Diameter services within legacy and next-generation networks is a uniquely valuable asset. No other company in the industry has as wide and rich functionality to simplify and enable the next-generation Diameter signaling infrastructure.

It’s recently introduced Signaling Delivery Controller, SDC, provides a strategic point of control in the service providers networks, acting as an intelligent tier in those networks enabling interoperability, security, scale and flexibility in managing and optimizing signaling traffic.

That should sound familiar to anyone who follows F5. Our vision has been to create a converged carrier architecture that unifies IP services end-to-end across the application, data and control plan. Diameter is a foundational piece of that puzzle and we are delighted to have the Traffix team join the F5 family.

As Andy mentioned, while we do not expect to see any material revenue contribution from the Traffix Diameter products in Q3, we are very pleased with the progress we have made and the growing number of proof-of-concept we’re engaged in around the world as service providers accelerate the launch of 4G or LTE networks.

Early indications from these POCs are quite positive and we believe validate the unique value proposition. The combination of F5 and Traffix offer to service providers in this rapidly expanding market.

With respect to our core ADC business, we continued to extend our technology leadership last quarter with the introduction of the VIPRION 4480. Our newest chassis-based product is specifically designed to enable service providers and enterprises to address rapidly increasing traffic levels and the growing demand for enhanced services.

With the industry-leading capabilities of the VIPRION 4480 and other -- our other high-end platforms, organizations can more efficiently scale their infrastructures and seamlessly integrate security, including data center firewall and access solutions without sacrificing performance or ease of management.

VIPRION 4480 extends our performance leadership in all key metrics, including SSL, layer 4 and layer 7 that includes the market’s first 40-gigabit per second Ethernet support for an applications and services platform.

By leveraging F5’s hardware and virtual platforms, and our peripheral clustered multiprocessing technologies, organizations can remain more flexible as they build out dynamic infrastructures, including cloud and virtualization technologies to support business initiatives and ever growing user requirements.

Unlike other vendor products which can be difficult and costly to upgrade, our VIPRION solutions automatically cool resources as new blades are added enabling organizations to implement a true ‘scale on demand’ strategy.

The new blades and the four-blade VIPRION 4480 chassis effectively doubled the performance of the VIPRION 4400 and an eight-blade version is planned for later this year. We are also making good progress and our plan to refresh the current one-year and two-year appliances this year, leveraging technology that was developed for the VIPRION 2400, including next generation CPUs, FPGAs and other components.

In addition, we have another major release of TMOS plan for later in the year, which will include DPI functionality, a host of new security features and major enhancements for private and public cloud environment.

As far as the outlook is concerned, Andy indicated we expect to see solid sequential growth this quarter. I feel very confident about the future prospects for F5. Our technology leadership is as strong as it has ever been. Our competitive win rates in the field remain at world class levels and our pipeline of future sales opportunity is extremely robust as we enter the second half of fiscal 2012.

We are really well positioned to take advantage of the growth opportunities in our core ADC markets as well as exploiting new expanding marketing -- market opportunities in cloud based architectures, the security market and the service provider market.

I would like to take this opportunity to thank the entire F5 team and our partners and look forward to the continued support throughout the year. And with that, I will now hand the call over for Q&A.

Question-and-Answer Session

Operator

(Operator Instruction) Our first question today is from Ittai Kidron from Oppenheimer. Your line is open.

Ittai Kidron – Oppenheimer

Thanks and congrats guys on a good quarter. Maybe just a couple of questions, first of all, Andy, on your comments on Traffix impact on the P&L, can you tell me what non-material means? What is the dollar level you feel is immaterial because my contacts would tell me Traffix is doing $3 million to $4 million a quarter and if we account for that, I’m not sure how I’m going to view your June quarter guide?

And John, can you talk about -- it looks like a lot of things, kind of, went well in the quarter. Can you talk about what sort of things that didn’t go well from your standpoint in the quarter and what is it that you’re focusing on from an execution standpoint near-term?

Andy Reinland

So Ittai, it’s Andy. On Traffix, when I say non-material, I mean, on the revenue side, I’m talking pretty small amounts. Primarily, service-driven revenue at this point, we’re looking at the revenue recognition. And when I talk about next quarter, in our guidance, we’re not assuming revenue from Traffix. So that’s what I had assumed.

Ittai Kidron – Oppenheimer

Okay. Very good.

John McAdam

And then the question to me regarding what went -- what didn’t go so well. First of all, I mean, let me reiterate, I was very happy with the fact that all the regions had good robust performances and I talked about that. Andy gave some specific detail on it. So, I was really happy with that.

If you look at the verticals, clearly, financial vertical was doing some work from its normal value. We don’t think there is anything systematic there at all. In fact, we expect it to be up in this current quarter. Telco was very high and that we expect that to be down somewhat in the coming quarter, which I guess balances that. And really, when we look at the pipeline, that’s the way we manage the business’ overall pipeline and I mentioned it was really good.

So, I was pretty pleased. I was obviously very pleased with security and what we were doing there right across the board. The data center firewall solutions are coming on very strongly. The part of an overall solution but security in terms of being part of the features of our overall solution has been excellent. The software module attach has been -- was really good as well, so, generally, pretty happy.

Ittai Kidron – Oppenheimer

Okay. Very good. Good luck guys.

Operator

Thank you. The next question is from George Notter, Jefferies. Your line is open.

George Notter – Jefferies

Hi. Thanks very much. I just wanted to ask about the public sector piece of your business. We get the sense from the IBM call last night that public sector was softer for them certainly. I mean, can you talk a little bit about what you’re seeing there, what the outlook is going forward? Thanks.

John McAdam

I mean, first of all, the issue with today’s public sector is that a lot of companies define it definitely. We tend to talk about core government business, both globally and then, of course, U.S. Federal. The U.S. Federal did show improvement in this quarter.

I mean, we’re still -- I still think you have to be very weary given the especially [we are running] in terms of budgets and the government and the voting year this year. So, we are being, I think reasonably conservative about it. And then if you look one of the way, there wasn’t much change for us. So, really no -- slight improvement in Federal and not much change elsewhere. Next question.

Operator

Thank you. Erik Suppiger, JMP Securities. Your line is open.

Erik Suppiger – JMP Securities

So just quickly on the data center firewall, when do you think that that will be a meaningful revenue contributor or are you at production level at this point, where you’re seeing it deployed in a production environment?

John McAdam

Yeah. It’s very much a meaningful revenue contributor right now. I mean, we have won pretty significant deals and by significant -- greater than $1 million in some cases. As I mentioned but, sometimes we have the scenarios where the customers not only using as a data center firewall, but maybe doing some optimization as well and that’s why we’re -- in terms of producing actual numbers, it would be too subjective to do that, but it’s extremely material.

As is the ASM application has security module and we just finished our quarterly business reviews again with North America and the field is really high on our Access Policy Manager as well, the access module. So the security has been actually material for us, but it’s definitely something we think is going to be an expanding opportunity.

Erik Suppiger – JMP Securities

And who are you competing with in some of those seven-figure deals?

John McAdam

Very often with Juniper, with Cisco as well. We’ve probably seen some checkpoint. I’m not sure, but Juniper is probably the main area.

Manny Rivelo

Yeah. This is Manny Rivelo. We’ve seen all three of those players. Those are the predominant firewall players that have been in the market for a long time and what we are seeing is, because the new threat vectors that are out there to protect these web applications, customers are looking at layer 3 to layer 7 integrated functionality at very, very high connection counts and throughput. And with the TMOS-based data center firewall provides and has always provided, is the capability of scaling at a very, very high level, specifically around applications.

So it’s been a logical marriage, because in quite a few of those environments, they’ve already been using the F5 technology and the result of that now consuming security services on top of the traditional services that they’ve used.

Erik Suppiger – JMP Securities

And you saw some good growth sequentially with regards to those large data center firewall deals in the March quarter?

John McAdam

We saw good growth sequentially with ASM, APM, Edge Gateway, in other words, all the software modules as well as systems and architectures based on the data center firewall.

Erik Suppiger – JMP Securities

Okay. Thank you.

Operator

Thank you. Jason Ader, William Blair. Your line is open.

Jason Ader – William Blair

Yeah. Thank you. John, I wanted to just drill down on the North American enterprise business. If I look at the Americas business, it was up about $7 million sequentially, federal was up $7 million sequentially, so it implies now that federal rule was flat sequentially, but Telco was up $18 million sequentially. I know that probably a lot of that is in the Americas.

So, it sort of implies North American enterprise was down sequentially. I want to get a sense of whether that’s something to be concerned about. If something happened in North America enterprise that disappointed you or was it more of a bookings versus revenue kind of thing?

John McAdam

Yeah. Sort of all of the above, I mean, in terms of concern, as we look out in the pipeline as we look at the current guidance we got this quarter, we see the enterprise business being reasonably strong. I mentioned the financial vertical was definitely lower than what we expect it to be and we expect to see a rebound in that book. That’s the good news. The not so good news is we don’t see Telco being quite as strong this quarter as it was last, still so robust but not quite as strong.

Jason Ader – William Blair

Like just the technology vertical. For the last quarter, it’s actually been down year-over-year, so I was just kind of wondering what’s happening there. Is that just lumpy?

John McAdam

Yeah. I don’t think there is anything -- I mean, I don’t think there is anything significant there. I mean, I think it was at 19% this quarter, which is typically -- that tends to be the slightly higher end of the range.

Jason Ader – William Blair

Okay. Thanks.

Operator

Thank you. Brian White, Topeka. Your line is open.

Brian White – Topeka

Yeah. John, could we talk a little about what you are seeing in the 4G networks? I know you’re a Mobile Congress, I think the number of meetings you had really took it uptick this year. So when do we’re going to see, kind of, the inflection point with the build out of these 4G networks and F5 benefiting?

John McAdam

Yeah. I wouldn’t give a specific time, but if you look at last quarter’s Telco business, we had reasonably lot of sales linked to future deployment of LTE. So, I’m not going to call an inflection point. I think it is now ongoing. And obviously with the acquisition of Traffix, as we look into FY ‘13, we think we could do extremely well in that environment.

Brian White – Topeka

Okay. Great. Thank you.

Operator

Simon Leopold, Raymond James. Your line is open.

Simon Leopold – Raymond James

Great. I wanted to check on two things. One is, your Telco business obviously very strong and it stands out in the sense that this is typically a very tough seasonal quarter for Telco spending and not the case for you. So, if we could get little bit more color as to why your sales in this vertical, kind of, defied the typical seasonality? I understand you’re suggesting it will be down sequentially in June, but help us understand the activity behind that.

And then the other thing I was hoping you could give us a little bit more color on is, I understand you can’t specifically highlight a number for revenue from security, but maybe you could give us a sense of revenue that’s coming from adjacencies to load balancing, that would including WAN optimization security to help us understand the expansion of the addressable market? Thank you.

John McAdam

On the seasonality on Telco, we haven’t seen significant seasonality and that could be linked to the size of our businesses versus some of our larger peers, clearly but not as anything like as big as the Telco. We tend to be project-oriented. So, we win projects that are linked and we’re not just pluming. We tend to be linked very much to the application, the solution and a good idea of what our architecture is going to look like.

We do see add-on as traffic increases and there is a, a lot of things need to manage that traffic. So, as the actual systems are running as well. But the bottom line in Telco -- the bottom answer would be that it’s more project-oriented than anything. We had some pretty strong projects landed last quarter.

Simon Leopold – Raymond James

And the activity in the adjacencies, if you could quantify that?

John McAdam

Well, that’s really the add-on modules that for years we’ve decided never to quantify. I did say that this was very, very strong last quarter and increasing in all the regions as the sale of value and that could be -- security is the leader in that, there is no question with APM and ASM and solutions like that and the access. However, products like WebAccelerator remained very significant player for us, the WAN optimization module as well. But we’re not specific on the numbers.

Simon Leopold – Raymond James

So, just to round that the one question out then, in terms of kind of the newer areas Dan, the Diameter routing in DPI that you haven’t not yet registered revenue and how do you think those are in terms of materiality one or two years from today? Thank you.

Dan Matte

Very significant. I’m not going to be drawn into giving a percent but extremely significant near both areas, that’s what the trends are going, not just in Telco, I think that they’re going to have a capability and a solution-based and the enterprise as well.

Simon Leopold – Raymond James

Thank you.

Operator

Alex Kurtz, Sterne Agee. Your line is open.

Alex Kurtz – Sterne Agee

Thanks for taking the question guys. When you look at the 2400 and sort of the pipelines built for you guys over the last couple of quarters here. You have a sense now about sort of incremental opportunity, can you put a number around it? Can you talk a little bit of any kind of more detail about how that product is helping you especially in sort of mid-tier, mid-range, mid-market kind of enterprise accounts?

John McAdam

As to breaking out the number, we get that as I said every quarter and we don’t break out to that level of detail on product mix. But we have talked some quite a bit about the impact in enterprise and the 2400 there playing very well. The price performance on that box fits right into our range, right around the 8900 and is a great option for people who are looking at expanding environments and we think…

Andy Reinland

No. Still -- v11 is still in the -- whatever that period, I’m not good at this inning thing, but probably that some innings or something. Sorry, my baseball knowledge isn’t that good, but anyway, we are still -- we are not at half time in terms of the v11. That’s going to increase. One of the features on that VCMP is the ability to run multiple versions.

That’s doing well. It grew well from last quarter to the quarter before, but it’s got a long way to go and I think that’s when you really see the chassis’ being filled up by blades, growth towards it. So I think there’s a fairly big runway with the 2400 and the 4480.

Alex Kurtz – Sterne Agee

So you see that the 2400 sort of getting -- increasingly helping you getting to your numbers every quarter or is it still sort of a smaller portion of the overall pie?

Andy Reinland

It’s very significant.

Alex Kurtz – Sterne Agee

Okay. Thank you.

Operator

Thank you. Brian Marshall, ISI Group. Your line is open.

Stephen Patel – ISI Group

Thank you. This is Stephen Patel calling in for Brian Marshall. Can you discuss the progress in your iApps Ecosystem? I believe you had around 35 to 40 iApps at last count a few months ago. Has that increased and have you seen greater penetration in accounts from having those new app delivery capabilities?

Dan Matte

Yeah. Absolutely, Stephen. This is Dan Matte. So we continue to see growth there. We have a team that actually works on iApps day-in and day-out. So internally we are also working with our big application partners like Microsoft and Oracle to try and simplify deployment for a workbook. So that continues to grow. I don’t know off the top of my head, the number I know is more than it was last quarter.

We are seeing that tie into a couple of different places too. One is with continued growth in DevCentral and that continues to be a place, where people pick up on iApps and make use of them and share them with other people.

And then the other thing is we’re using them to help to push into market to penetrate different areas, for example, VDI, where we’ve done a lot of iApps work to help us penetrate the VDI market more successfully and push F5 technology into places that could help people to save money and get better performance.

Stephen Patel – ISI Group

And a follow-up if I could, there has been more discussion recently around SDN and OpenFlow taking some traffic engineering features out of switches. Can you talk about the opportunities for you and possible changes in the competitive setting in that type of network paradigm?

Dan Matte

We have been following that for quite some time, both sFlow -- not sFlow but the OpenFlow and the OpenStack initiatives. Internally, we have been working towards looking at how that could be adjacent or fit into our business. But in terms of the technology, we see a pretty good synergy with what we do and how that might fit that model, so we expect to work with that in the future to go forward.

Stephen Patel – ISI Group

Great. Thanks very much.

Operator

Thank you. Alex Henderson, Miller Tabak. Your line is open.

Alex Henderson – Miller Tabak

Thanks. Could you quickly just characterize your thoughts and relative to how you thought the European business did relative to your expectations? You had made that comment last quarter and then the question I really want to ask was around the virtualized market -- the virtual CMP product, the desktop VDI with VMware, can you talk a little bit about how that’s progressing. You had made the comment couple of quarters back that your cloud-based business was growing triple digits even if it was on a very small base. Can you kind of put those into some context for us so we’ll have a little bit of granularity on how those pieces are doing?

Mark Anderson

Hey, Alex. I will take the first part of your three-part questions. This is Mark Anderson. So, yeah, we’re really proud of EMEA. I mean as amazing as it seems our businesses has grown there really well year-over-year, sequentially quarter-over-quarter and amazingly consistent across the geographies including Southern Europe where the economies are the tightest. So I think really good execution. Obviously, market-leading technology and a strong work ethic from the team out there.

Dan Matte

And Alex, this is Dan on the rest of it. So, on the cloud front and virtual addition to talk about first. So we continue to see great growth in adoption of our virtual additions. As John mentioned, sequential growth and year-over-year growth that we’re very, very pleased with. We’re not breaking that out as a number of percent, in terms of the cloud piece lots of things going on in that front. We have programs to elect cloud providers adopt our technology with and resale it basically into their environment, into their customers. So we’ve seen a great deal of interest and we’re sort of early days with those programs, but those move forward for us.

On the VDI piece, there are I guess a couple of things going on. One is that we’ve been doing a lot of work in terms of partnering with folks like VMware and Microsoft and coming up with things like wide-eye apps to help to deploy into their and help make their solutions work even better.

And then as I mentioned earlier too with us great solutions that we watched and announced earlier the last quarter from environment like Citrix with their Xen piece and having F5 and BIG-IP fit in and actually in our opinion, work even better than our own products. So that’s been a successful for us too.

Alex Henderson – Miller Tabak

Just to make a follow-up, on the VMware desktop thing, my understanding is VMware wants to compete very heavily against Citrix in that space and they need ADC to pull it. Obviously, Citrix moves a lot of the net scale or products with that. Can you talk a little bit about how aggressive VMware is relative to pulling you into deals where they’re going after those type of installations and how early is that?

Mark Anderson

Yeah. Sure, Alex. We work with them in the field. I think we have a common enemy in Citrix and I think there is strong motivation on both sides.

Alex Henderson – Miller Tabak

Good. Thanks.

Operator

Thank you. Nikos Theodosopoulos, UBS. Your line is open.

Nikos Theodosopoulos – UBS

Yeah. Thank you. Just a couple of clarifications on Traffix and then a question on service provider, so just so I understood a prior question, did you -- your expectation is that the company will do no revenue next quarter or is there something with deferred and write downs of backlog where you’re not going to be able to recognize anywhere. I’m just trying to understand beyond the next quarter, what should we expect?

And given the number of employees that are coming in, you didn’t mention really anything on OpEx. Once again, do you see that immaterial in the $1 million to $3 million range a quarter, any comments on that?

Andy Reinland

Yeah. So in terms of OpEx, so we did bring on 60 people as part of our 190 increase and our comments on the press release, we said we’re going to manage that as an investment into our current business model structure and that’s how we’re looking at it. So we’re still targeting at 38% operating margin as a business and we’re going to bring that in.

In terms of the revenue, definitely there is some carryover revenue in service that we do have to write down. And so the -- there will be very modest revenue as how I would put it, but not enough that we factored it into guidance in any meaningful way.

Nikos Theodosopoulos – UBS

Okay. Okay. And that persists for a few quarters? That lack of revenue?

John McAdam

The way we are viewing it at the moment is fiscal ‘13. As we mentioned, we’re doing a lot of proof-of-concepts. We feel very good about the reaction we are getting from the customer base with the solution clearly LTE is critical. But these tend to be fairly long-term decisions. So really when we look forward fiscal ‘13 is when we really believe we are going to get a payback.

Nikos Theodosopoulos – UBS

Okay. And then just one final clarification on Traffix deal, just looking at the cash flow statement was the $128 million for acquisitions all tied to that particular deal? I don’t recall any other deals you announced in the quarter?

Andy Reinland

Yeah. We actually didn’t publicly disclose the details of the deal but, yeah, you are looking at the line and that was specifically for the Traffix acquisition.

Nikos Theodosopoulos – UBS

Okay. All right and then my question separate from that was on the service provider business in wireless. Do you have a rough estimate overall as to what percentage wireless is? And if you -- since you probably sell to almost all the wireless carriers, when they do begin an LTE build-out and they already have your products installed, what would be the incremental purchasing that they would need for LTE when they start rolling it out or would your benefit come as they start seeing the increased traffic growth and it’s more a function of subscriber growth coming onto the network?

John McAdam

It’s so difficult to answer the way you’ve referenced the question, because typically we win fairly big projects based on growth of traffic. That’s absolutely, we are receiving traffic, we maybe securing the traffic, we may be doing carrier grades not never to address translation and obviously the diameter knows an extra solution in that basis. So it’s hard to give you a specific feel apart from what we have a fairly growing portfolio and our solutions are absolutely linked to a growth in mobile and the LTE type architectures are coming along.

Mark Anderson

So that’s why the VIPRION platform has been so popular at the service providers, because they can simply add blades and not have to reconfigure their entire network unlike a competitor’s solution where they have to go back in and reapportion VLAN and other network configuration settings that we don’t have to do. So we truly scale these networks, especially when they are starting to point carrier based product interest.

John McAdam

That’s a very good example. That was last quarter with a reasonable sized order that was mainly doing optimization, but also because of VIPRION’s power and its flexibility is also doing some security, firewall security features as well.

Nikos Theodosopoulos – UBS

Got it. Okay. Thank you.

Operator

Thank you. Mark Sue, RBC Capital Markets. Your line is open.

Mark Sue – RBC Capital Markets

Thank you. John, it seems the dynamics in Telco s, the uptake with Traffix and security are all better than when you give your 20% year-over-year revenue guidance. And when you add VPI and the ramp in LTE does it make you, you want to look around a conference room table and think 30% growth this year?

John McAdam

If my memory serves me well, that’s very similar to last quarter’s question. Mark, I maybe wrong in that but I will look back and check but I think I have that 30%. We are not going to update during the year where we are at. We said we would be disappointed with less than 20%. That’s still the case. You heard Andy’s confidence about the second half and stick into that, but we are not going to give any updates. In terms of -- what I will say is...

Mark Sue – RBC Capital Markets

What’s going better John then, what do you say?

John McAdam

I will say, is what’s becoming clear to us here is that when we look at the core business, we feel good about that. We feel good about our products, the roadmap, the refreshing the 2400 vCMP, v11, et cetera. We feel very good about our security and the ability to do additional business in security and the momentum we’re getting with that and we also feel and I’m really now talking about FY ‘13 that with Diameter and what we’re doing in service provider that we can see an expanding market there as well.

Mark Sue – RBC Capital Markets

That’s helpful. Thank you. Good luck, gentlemen.

Operator

Troy Jensen, Piper Jaffray. Your line is open.

Troy Jensen – Piper Jaffray

Yeah. Thanks for sneaking me in. I’ve got a quick question for Karl and Manny, and I do have a follow-up to this. When you guys talked about security, you talked about really baking off against Cisco, Juniper and some Check Point. Did I hear you guys call Palo Alto, I understand they’re more enterprise, you guys are more data center. Given you’re layer 4 you can look at high levels of streams. Can you move downstream to get it more of the enterprise business and compete more where Palo Alto is competing today?

Manny Rivelo

This is Manny. Troy, so let me start off by kind of explaining a little bit the used case that we go after. It’s a little different than the used case of Palo Alto, predominantly it goes after. The used case that we provide a lot of value today and that doesn’t mean we’re not going to expand the portfolio. But today it’s really an inbound firewall and what I mean by that is a firewall that’s defending a set of web-based applications and inbound traffic, users from the Internet are coming in to a business trying to access that application.

In that type of environment, what we’re trying to do is provide layer 3 through layer 7 controls. Protect those web applications should beat after-tax application vulnerabilities et cetera. And we are protecting those applications, which are very well defined from millions if not tens of millions or potentially billions of users trying to access those applications. In that situation, our firewall capability not only is much more extensible but also provides deeper visibility, inspection and extensibility to anybody else out there.

The Palo Alto used case does not scale. They stop at about 40-gig from a performance characteristics point of view. We start and keep on going beyond that. So it’s not an equal comparison in the inbound side on the -- what Palo Alto does really well is provide firewall capabilities for an enterprise when an enterprise is trying to access outside to the Internet-based applications. In that situation today, we’re not bringing to market yet a solution.

Troy Jensen – Piper Jaffray

Have you guys talked about a timeline for outbound traffic?

John McAdam

No. We haven’t, Troy. And it’s not eminent either just so we’re clear.

Troy Jensen – Piper Jaffray

Okay. Perfect. And how about quickly for Karl. So when I think about SS7 signaling, I guess I think about Telco core versus data centre deployments and I may be wrong. So correct me if I’m, but is Traffix platform going to fit in a different spot at the network than BIG-IP or are we just talking about absorbing some of the 4G signaling into just the data centre piece of signaling?

Karl Triebes

Well, I mean that the strength of the Traffix platform is its ability to support all the legacy interfaces and SS7 being one of those. So I don’t see why it would sit anyplace different than perhaps where BIG-IP sits in the network. But it’s distinctly different in what we can do with the BIG-IP today, because with the BIG-IP we can scale Diameter, we can connect multiple endpoints, do things like that and scale that traffic, but it’s not per se a full Diameter router with all the very flexible legacy support that the Traffix product has.

Troy Jensen – Piper Jaffray

So if an operators adopting Diameter routing, they would need your products in the data centre but they would need other things also, kind of, in the core of the network?

Karl Triebes

In terms of for Diameter, no. I mean we should be able to provide the full Diameter routing capabilities right now.

Troy Jensen – Piper Jaffray

End-to-end signaling for 4G?

Karl Triebes

End-to-end, yeah.

Troy Jensen – Piper Jaffray

Perfect. Thanks guys, keep the good work.

Karl Triebes

Okay.

John Eldridge

Karl, this is John Eldridge. We’ll take one more question and then end the call.

Operator

Thank you. Rod Hall, JPMorgan. Your line is open.

Rajat Gupta – JPMorgan

Well, hi, this is Rajat Gupta from Rod Hall’s team. I was just wondering if you could comment on FQ4 seasonality. Do you expect that to be similar to prior years? And also if you could comment on the linearity of FQ2 ‘11 used in your core business?

John McAdam

Sorry, just to be clear, did you say Q4?

Rajat Gupta – JPMorgan

Yeah. FQ4 seasonality and the linearity in FQ2.

John McAdam

Yeah. I mean we will give fairly granular guidance for Q4, but we won’t do that until after this current quarter Q3 is complete. Typically, it’s a very strong quarter, but we’ll wait till the next call to talk about the details of that.

Rajat Gupta – JPMorgan

Okay. Also could you comment on the linearity of your revenues this quarter and compared to what it was last year and also what kind of visibility do you see this year than you had seen 90 days earlier?

Andy Reinland

Yeah. So the linearity this quarter was actually better than a year ago. I mean the third month being a little bit above 50%. And as far as our visibility, John talked earlier about evaluating our pipeline and looking at the deals and we feel really good about our visibility right now. Deal-by-deal going through it, talking with sales management and definitely on a quarterly basis and even six months out we feel pretty good.

Rajat Gupta – JPMorgan

Okay. Thank you.

John Eldridge

Okay. Thank you very much. We look forward to meeting with many of you during the quarter and to talking with you on next quarter’s conference call. Thank you for joining us.

Operator

Thank you. This concludes today’s conference. You may disconnect at this time.

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