F5 To Acquire NGINX For Open-Source Application Delivery Tech

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About: F5 Networks, Inc. (FFIV)
by: Donovan Jones
Summary

F5 has agreed to acquire NGINX for $670 million in cash.

NGINX has developed cloud-based application delivery tools for increasingly complex cloud IT environments.

With the deal, FFIV is transitioning to a growth story stock and prominent analysts view the deal as an execution question mark.

Quick Take

F5 (FFIV) has announced an agreement to acquire NGINX for total consideration of $670 million.

NGINX has developed an open-source application delivery platform for multi-cloud environments.

FFIV is paying a significant price for NGINX cloud-delivery technologies as it seeks to reignite growth amid skeptical analyst opinion.

Target Company

San Francisco-based NGINX was founded in 2011 to provide software tools for enterprise wishing to modernize their legacy application and deliver microservices-based applications.

Management is headed by CEO Gus Robertson, who has been with the firm since 2012 and was previously VP, Global Business Development at Red Hat (RHT).

Below is a brief promo video of NGINX:

Source: NGINX

NGINX's primary offerings include:

  • NGINX Plus
  • Controller
  • Unit
  • WAF
  • Amplify

Investors have invested at least $104 million in the firm and include Index Ventures, New Enterprise Associates, Telstra, MSD Capital, Runa Capital, Goldman Sachs (GS), and e.ventures.

Source: VentureDeal Venture Capital Database

Market & Competition

According to a 2019 Market Research Future report, the application delivery network market size is expected to reach $12 billion by 2023.

This represents a CAGR (Compound Annual Growth Rate) of 15% from 2017 to 2023.

The main drivers for this expected growth are the higher usage of Internet-based applications and increased transmission of media content requiring advanced load balancing management.

There are a large number of competitive vendors that provide application delivery technologies, including Cisco Systems (CSCO), Akamai Technologies (AKAM), Internap (INAP), Array Networks, and numerous others.

Acquisition Terms and Rationale

F5 disclosed the acquisition price as $670 million and said it would pay the amount from its cash on hand.

Management also announced that its share buyback program would be suspended and didn't provide a time-frame for restarting the program.

Financial guidance as a result of the pending deal was revised as follows:

The acquisition of NGINX is expected to increase F5's software revenue growth and increase the Company's software revenue mix in fiscal year 2019. It secures F5's Horizon 2 (fiscal year 2021 to fiscal year 2022) objectives of mid-to-high single-digit revenue and double-digit non-GAAP earnings per share growth. Short-term, the Company expects that the acquisition and organic investment in new and emerging solutions will result in modest earnings dilution in fiscal years 2019 and 2020.

A review of the firm's most recent 10-Q filing indicates that as of December 31, 2018, FFIV had $1.13 billion in cash, equivalents, and short-term investments; it had $1.5 billion in total liabilities, of which, deferred revenue accounted for $353.1 million.

Free cash flow during the three months ended December 31, 2018, was $176.8 million.

F5 is acquiring NGINX to combine its suite of application delivery tools with F5's application security software.

As F5 CEO Francois Locoh-Donou stated in the deal announcement:

By bringing F5's world-class application security and rich application services portfolio for improving performance, availability, and management together with NGINX's leading software application delivery and API management solutions, unparalleled credibility and brand recognition in the DevOps community, and massive open source user base, we bridge the divide between NetOps and DevOps with consistent application services across an enterprise's multi-cloud environment.

In the past 12 months, FFIV's stock price has risen 5.4% vs. Palo Alto Networks' (PANW) rise of 28.3%, as the chart below indicates:

Source: Sentieo

Earnings surprises over the past three years have generally been positive and in the range of 2% to 10% beats, as the chart shows below:

Source: Seeking Alpha

Analyst ratings are overwhelmingly 'Hold'; the consensus price target of $170.63 implies a potential upside of 10.2% from the stock's current price level at press time:

Source: Seeking Alpha

Analyst sentiment in recent earnings calls has been uneven and dropped in early 2019:

Source: Sentieo

Commentary

With the deal for NGINX, F5 is seeking to shore up its offerings in an increasingly complex cloud environment for application delivery.

NGINX is part of a continued transition for F5 into cloud security which it is now combining with application delivery to deliver a more integrated offering set to customers.

F5 will work hard to make the most of cross-selling opportunities, which NGINX CEO Gus Robertson put succinctly:

F5 gains depth with solutions designed for DevOps, while NGINX gains breadth with access to tens of thousands of customers and partners.

In addition, F5 understands that NGINX strong open-source community presents a valuable opportunity to connect with increasingly influential users and buyers of the firm's combined offerings.

As part of that opportunity, though, comes a strong commitment to that community, which F5 stated would continue post-close though additional investment in the open-source project and acceleration of product integrations with other open-source projects.

F5 plans to maintain the NGINX brand, although for how long is anyone's guess. If the two firms can integrate quickly and the combined offerings can generate enough incremental revenue and earnings, the deal may ultimately pay off but not for some time in the future.

In the meantime, the stock has been pushed downward in the wake of the deal announcement, with JPMorgan downgrading FFIV to Neutral from Overweight on execution risk for the firm's growth story.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.