阿卡邁科技 (AKAM) 2022 Q1 法說會逐字稿

Good day, and thank you for standing by. Welcome to the First Quarter 2022 Akamai Technologies Earnings Conference Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions) I would now like to hand the conference over to your speaker today, Tom Barth, Head of Investor Relations. Please go ahead.

Thank you, operator. Good afternoon, everyone, and thank you for joining Akamai's First Quarter 2022 Earnings Call. Speaking today will be Tom Leighton, Akamai's Chief Executive Officer; and Ed McGowan, Akamai's Chief Financial Officer.

Please note that today's comments include forward-looking statements, including statements regarding revenue and earnings guidance. These forward-looking statements are subject to risks and uncertainties and involve a number of factors that could cause actual results to differ materially from those expressed or implied by such statements. The factors include any impact from macroeconomic trends, uncertainty stemming from the COVID-19 pandemic, the integration of any acquisitions and any impact from geopolitical developments.

Additional information concerning these factors is contained in Akamai's filings with the SEC, including our annual report on Form 10-K and quarterly reports on Form 10-Q. The forward-looking statements included in this call represent the company's view on May 3, 2022. Akamai disclaims any obligation to update these statements to reflect new information, future events or circumstances, except as required by law.

As a reminder, we will be referring to some non-GAAP financial metrics during today's call. A detailed reconciliation of GAAP and non-GAAP metrics can be found under the financial portion of the Investor Relations section of akamai.com.

And with that, let me turn the call over to Tom.

Thanks, Tom, and thank you all for joining us today. Our Q1 revenue was $904 million, up 7% year-over-year and up 9% in constant currency. This solid result was driven by the continued rapid growth of our security and compute businesses. Q1 non-GAAP operating margin was 30%, Q1 non-GAAP EPS was $1.39 per diluted share, up 1% year-over-year and up 4% in constant currency. As Ed will discuss later, EPS came in at the low end of our guidance range, primarily due to an adverse tax impact of $0.03.

Since our last call with you on February 15, we've seen the development of several major global events and financial headwinds. It's remarkable how quickly the world has changed with the war in Ukraine, the significant strengthening of the U.S. dollar, escalating inflation, increasing concerns about a recession, and a moderation of Internet traffic growth as many countries remove mask mandates.

Since these developments are all fairly recent, they had a relatively small impact on our Q1 results, but it's prudent to assume that they'll impact our results more meaningfully for the rest of the year. For example, at current spot rates, the strengthening dollar will adversely impact full year 2022 revenue by about $100 million. About $55 million of that impact has come since we issued guidance on February 15.

As we disclosed in our 8-K filing on March 7, about 1% of our revenue comes from Russian companies or is derived from delivering traffic into Russia. We have since terminated our business with several majority state-owned Russian companies and our traffic delivered into Russia and Ukraine on behalf of other global customers has declined dramatically since the war began. As a result, it's reasonable to assume that we will no longer generate most of the revenue that had been associated with Russia and Ukraine.

Lastly, data from some of our large customers in the media and commerce verticals suggest that they may be transitioning from an environment of above normal online consumption fueled by COVID-related restrictions to an environment with more macroeconomic uncertainty, which could moderate their traffic growth in the near term.

Discussions with many of our large carrier partners across the world, have reinforced the view that traffic growth rates may be moderating across the Internet as a whole. In particular, they've told us that they've recently seen a moderation in their year-over-year traffic growth, and that the current levels of traffic on their networks are less than what they'd expected. This is consistent with what we've recently seen.

Traffic is still growing at a fast pace on the Akamai platform, but at a more moderate pace than we've observed over the last few years. As a result of these largely external factors, and to be conservative in our outlook, we feel it is prudent to lower our expectations for the full year. Ed will provide more detail shortly.

That said, and this is important to emphasize, Akamai's business continues to be very strong and highly profitable. Traffic growth on our platform remains substantial and the data we've received from our customers and carrier partners indicates that our market share remains stable or is modestly increasing.

In addition, our customer churn levels continue to be at record lows. Lost annual revenue from churned accounts in Q1 amounted to less than 0.5% of total annual revenue, and churn due to competitors was much less than half of that already small amount. As a result, our market-leading delivery business continues to generate substantial cash and to power our unique edge platform.

Our security business has reached an annual revenue run rate of over $1.5 billion and continues to grow over 20% annually in constant currency. And we believe that our compute business is poised to achieve about $400 million in revenue this year, with a growth rate of over 60%. And perhaps most important of all, the combination of our security and compute businesses now represents the majority of our revenue. We expect these businesses to generate about $2 billion of revenue this year with a growth rate of about 27% in constant currency.

I'll now talk about each of our 3 major business lines, starting with security, which we believe will soon become our largest business line. Our Security Solutions generated revenue of $382 million in Q1, up 23% year-over-year and up 26% in constant currency. This very strong growth was driven primarily by our flagship security products, Kona Site Defender and Bot Manager, and also by our new Guardicore micro-segmentation solution to stop ransomware.

In Q1, we finalized the largest deal in Guardicore's history valued at more than $10 million over the next 3 years expanding our long-time relationship with 1 of the largest banks in the world. The size and scope of the deal illustrates why we're so excited about our opportunity in micro-segmentation.

Financial services firms, in particular, are frequent targets of ransomware and malware and large banks with security risks face financial penalties from regulators if they fail to address them. So from a compliance perspective, adopting micro-segmentation can reduce risk and prevent large fines in the process.

By reducing spending on their legacy static firewalls, the bank that's adopting our micro-segmentation solution will free up resources to implement stronger defenses as they move to a new Zero Trust security architecture. And by converting to our more flexible software-based solution, they can achieve greater agility to compete with fast-moving fintech services.

This example demonstrates how Guardicore can help Akamai expand long-time relationships with customers to become a more valuable strategic partner in the future. Guardicore is also helping us win new accounts in verticals such as critical infrastructure. For example, one of the largest railroads in the world recently became a multimillion dollar Guardicore customer.

On April 20, cybersecurity authorities in the U.S. and other major countries warned that the war in Ukraine raises the risk of cyber-attacks. Their recommended defenses align well to Akamai's security solutions for micro segmentation, DDoS protection and web app firewall.

Web application attacks experienced by customers grew by nearly 200% year-over-year in Q1, the largest increase we've seen in several years. Web app attacks are a critical vulnerability for any company moving to the cloud, building micro services or integrating third parties via APIs, which is why app and API protection is a critical priority for major enterprises.

Akamai is a leader in Gartner's Magic Quadrant for web app and API protection. And in Q1, Akamai's Web app and API protection are in Gartner Peer Insights Customers' Choice distinction for the third year in a row. Also in Q1, Forrester named Akamai a leader in its new way for micro-segmentation.

As we discussed during our last call with investors in February, we will be reporting on our delivery and compute product line separately going forward. In Q1, our delivery products generated revenue of $444 million, down 6% year-over-year and down 4% in constant currency. Revenue for our Compute Product group was $78 million in Q1, up 32% year-over-year and up 35% in constant currency.

As I mentioned earlier, traffic on our platform has been growing at a substantial rate. In fact, just last week, we set another record when we delivered over 250 terabits per second of peak traffic more than 20% higher than our previous peak reached in February.

The Akamai Edge platform continues to be the top choice for large media companies worldwide due to its unique scale and performance. In a recent review of CDN vendors worldwide, IDC said, "Akamai's balanced and comprehensive portfolio, spanning media and web delivery, emerging edge applications, extensive security capabilities and programmable edge addresses the needs of all enterprise segments and the developer community." The report also noted how Akamai's appetite for innovation is showcased by the fact that it continues to expand its services and capabilities beyond CDN to address new areas.

Akamai is the market leader in delivery by far and the income generated by our delivery business helps to fund our investments in the fast-growing areas of security and compute, including our game-changing acquisitions of Guardicore and Linode.

Our compute product group includes Akamai's capabilities in compute, storage, cloud optimization, developer tools, edge applications and now, Linode, which joined Akamai on March 21. We're encouraged by how customers and industry analysts have responded to our acquisition of Linode. In fact, several have used the word transformational to sum up the potential impact of our combination in the marketplace.

The CEO and Co-founder of Macrometa, a Linode partner that enables web and cloud developers to run and scale data-heavy real-time cloud applications has called Akamai's acquisition of Linode, a watershed moment for the cloud because it fundamentally reconfigures the landscape in many ways. Those are his words. And he says that Akamai provides that layer of reach and distribution in a way that cloud providers are very challenged to be able to do. "I'm excited about that," he said.

Of course, we're excited, too. Linode was an early pioneer in creating the market for alternative clouds, offering developers a platform to build new applications in ways that are simple to use and affordable. With high performance and competitive, transparent and predictable price points and backed by strong customer support after the sale.

Today, nearly 3/4 of enterprises are pursuing multi-cloud strategies, which means that new workloads will be cloud agnostic and portable, free to move and choose the best place to be. In fact, IDC just issued a report on workload deployment optimization that urges buyers to consider suppliers of infrastructure as a service beyond the hyperscalers. Our acquisition of Linode was the first alternative IDC highlighted as an example that can offer better cost and performance while retaining the level of redundancy and coverage demanded by enterprises.

In the coming years, we expect that customers will have a growing need for a continuum of compute from the cloud to the edge, to be closer where billions of end users are and where tens of billions of connected devices will be, especially as 5G and IoT take hold and grow. Building the bridge that enables developers to move from the cloud to the edge and have one place to build, run and secure apps is a key reason why we're expanding our offering with Linode.

At our Analyst Day coming up on May 18, we'll talk more about the potential for substantial future growth in this new and exciting part of Akamai's portfolio as we become the cloud company that powers and protects life online.

The soundness of our overall strategy was validated in visits I had with dozens of Akamai customers across EMEA and APJ last month. Common concerns expressed by customers and prospects included the war in Ukraine, the heightened level of cyber-attacks as well as risk to trade and supply chains, energy costs and currency valuations. Customers expressed very strong interest in our security strategy and Guardicore, in particular.

As you can imagine, their Boards are asking them how they can prevent a crippling ransomware attack. And Guardicore is the perfect solution. They know that malware always finds a way in. The key is identifying it and stopping it spread before it can cause serious damage. And that's exactly what Guardicore is designed to do.

Most of the customers I met with were also interested in exploring our cloud compute offering as a more affordable and easier way to build, run and secure their new applications. The tight labor market, employee attrition and the desire of employees to work remotely, we're also top of mind for customers in every location. Several companies that I met with are reducing their real estate footprint, and one of them told me they could only do this because they secure their remote work environments with Akamai's enterprise application access.

Here, at Akamai, we faced the same macro trends as our customers. But in spite of the headwinds, we feel good about the growing demand from customers for our security and compute solutions, the expertise of our team and the addition of capabilities and talent from Guardicore and Linode, and how all of this gives Akamai not 1, but 2 rapidly growing and highly synergistic businesses, further diversifying our revenue.

We've also performed well on the retention of our talent, employees appreciate our flexible workplace policy and culture of teamwork. Akamai scores very high on third-party rankings of the best places to work. I'm proud of the way that our employees have managed and I want to thank our extended team around the world for doing such a great job for our customers. They are truly making life better for billions of people, billions of times a day.

Now over to Ed for more on Q1 and our outlook for Q2 and the rest of the year. Ed?

Thank you, Tom. As Tom mentioned, Akamai delivered a solid quarter in Q1. Q1 revenue was $904 million, up 7% year-over-year or 9% in constant currency. Revenue was led by continued strong growth in security and compute. The strength was partially offset by a significant strengthening U.S. dollar and a slight moderation in traffic growth rate in our delivery business during the last month of the quarter.

Security revenue grew 23% year-over-year and 26% in constant currency, led by a reacceleration of growth in our application security business and continued very strong performance from Guardicore. Security represented 42% of total revenue in Q1, which is up 5 points from Q1 a year ago.

Guardicore delivered revenue of $19 million in the quarter. Included in our Guardicore was approximately $7 million of term license deals from 4 customers. As a reminder, while the majority of Guardicore deals are Software-as-a-Service and revenue is recognized monthly under ASC 606, some customers, specifically in financial services and health care, do from time to time, require on-premise deployments.

These deployments result in term license accounting treatment where we are required to recognize a significant portion of the revenue upfront when the product is delivered or spreading the revenue over the contract term. It's worth noting the impact of these deals resulted in a pull forward from Q2 to Q4 into Q1 of approximately 1 percentage point of revenue growth.

Compute revenue in Q1 was $78 million, and grew 32% year-over-year and 35% in constant currency. As Tom mentioned, we were very pleased with the initial performance of our Linode acquisition, which closed in late March and contributed revenue of approximately $3.5 million in Q1.

Delivery revenue was $444 million in Q1 and declined 6% year-over-year and 4% in constant currency. As discussed last quarter, several of our top customers are expected to renew in the first half of 2022. Our first quarter revenue was impacted by the renewals of half of these customers, and we expect the remaining customers to renew by July 1. So far, the pricing for the renewals has been in line with our expectations.

Additionally, we started to notice the growth rate of traffic on our network moderate a bit in March, specifically in gaming and OTT verticals as some pandemic-related restrictions were lifted in countries throughout the world.

Sales in our international markets represented 47% of total revenue in Q1. International revenue grew 11% year-over-year with 16% in constant currency. The negative impact of foreign exchange on our Q1 results increased by approximately $2 million from our February earnings call as the U.S. dollar continued to strengthen significantly in March. Foreign exchange fluctuations had a negative impact on revenue of $4 million on a sequential basis and negative $18 million on a year-over-year basis. Finally, revenue from our U.S. market was $481 million and grew 4% year-over-year.

Now moving on to costs. Cash gross margin was 76%, in line with our expectations. GAAP gross margin, which includes both depreciation and stock-based compensation, was 63%. Non-GAAP cash operating expenses were $295 million.

Now moving on to profitability. Adjusted EBITDA was $391 million. Our adjusted EBITDA margin was 43%, in line with our guidance. Non-GAAP operating income was $270 million, and non-GAAP operating margin was 30%. Capital expenditures in Q1, excluding equity compensation and capitalized interest expense, were $116 million. This was slightly better than our guidance range as we continue to see greater efficiency on our network.

GAAP net income for the first quarter was $119 million or $0.73 of earnings per diluted share. Non-GAAP net income was $225 million or $1.39 of earnings per diluted share, up 1% year-over-year and up 4% in constant currency.

Non-GAAP earnings per share was negatively impacted by approximately $0.03 in Q1 due to a higher-than-expected non-GAAP effective tax rate. Taxes included in our non-GAAP earnings were $43 million based on a Q1 effective tax rate of approximately 16%.

This was approximately 1.5 points higher than we had expected and due primarily to 3 reasons: first, a higher-than-expected mix of U.S. revenue with foreign exchange rate fluctuations, a significant contributing factor along with the addition of Linode revenue; second, an unfavorable change to foreign tax credits in Q1 based on the most recent treasury guidance; and third, a refinement of our previous assumptions related to R&D tax law changes from the 2017 U.S. tax reform that became effective in Q1 2022.

Moving now to cash in our use of capital. As of March, our cash, cash equivalents and marketable securities totaled approximately $1.3 billion. During the first quarter, we spent approximately $103 million to repurchase shares, buying back approximately 900,000 shares. In addition to share repurchases, in March, we spent approximately $900 million to complete our acquisition of Linode.

We ended Q1 with approximately $1.7 billion remaining on our current repurchase authorization. Our intention is to continue to buy back shares to offset dilution from employee equity programs over time and to be opportunistic in both M&A and share repurchases.

Before I provide our Q2 and 2022 guidance, I want to highlight several factors. First, our guidance now includes Linode. We expect Linode to contribute revenue of approximately $100 million and add approximately $0.05 to $0.06 to non-GAAP EPS in 2022. This is unchanged from the assumptions we shared on our last call.

Second, the dollar has continued to strengthen meaningfully since we reported in mid-February. As a result, we currently expect a much greater foreign exchange headwind for the remainder of 2022.

At current spot rates, our guidance assumes that foreign exchange will have a negative $100 million impact on revenue on a year-over-year basis. This compares to our prior guidance of a negative $45 million impact to revenue. This change in FX from our prior guide will also negatively impact non-GAAP EPS by approximately $0.16 for the full year 2022. It's worth emphasizing that currency markets have been extremely unsettled and about as volatile as I have ever seen. As a result, it is impossible to predict whether and how the impact could change going forward.

Third, we now expect our non-GAAP effective tax rate for 2022 to be approximately 16%, which is approximately 1.5 points higher than our prior assumption based on the items I mentioned before. The change in tax rate will also negatively impact the full year 2022 non-GAAP EPS by approximately $0.11.

Fourth, as Tom discussed, regarding our business in Russia and Ukraine, it is reasonable to assume that most of that revenue goes away.

Finally, as mentioned earlier, our traffic growth rate moderated a bit in March, and we've seen that trend continue in April. While traffic continues to grow at a strong rate and is at record levels, the growth rate is lower than we originally expected. Therefore, we are taking a more conservative approach to forecasting our traffic and corresponding revenue for the remainder of the year.

That said, we do not believe this trend is a permanent consumer shift or due to us losing share but rather is likely driven by some of the significant external factors we're seeing in the market place and geopolitically. Said another way we believe that traffic growth in online activity will return to more historical norms at some point. So with all those factors in mind, turning to our Q2 guidance. We are now projecting revenue in the range of $890 million to $905 million or up to 4% to 6% as reported or 8% to 10% in constant currency of our Q2 2021. Foreign exchange fluctuations are expected to having negative $14 million impact on Q2 revenue compared to Q1 levels and a negative $30 million impact year-over-year. At these revenue levels, we expect cash gross margins of approximately 75%.

Q2 non-GAAP operating expenses are projected to be $282 million to $289 million. We anticipate Q2 EBITDA margins of approximately 43%. We expect non-GAAP depreciation expense to be between $129 million to $130 million. And we expect non-GAAP operating margin to decline to approximately 29% for Q2 due largely to the change in FX and some Linode integration costs.

Moving now to CapEx. We expect to spend approximately $150 million to $155 million, excluding equity compensation and capitalized interest in the second quarter. This represents approximately 17% of projected total revenue. A significant portion of the increase in the spend this quarter is related to Linode, in anticipation of significant demand.

With the overall revenue and spend configuration I just outlined, we expect Q2 non-GAAP EPS in the range of $1.28 to $1.33. This EPS guidance assumes taxes of $40 million to $41 million based on an estimated quarterly non-GAAP tax rate of approximately 16%. It also reflects a fully diluted share count of approximately 162 million shares.

Looking ahead to the full year, we now expect revenue of $3.62 billion to $3.67 billion, which is up 5% to 6% year-over-year as reported or up 7% to 9% in constant currency. We expect security revenue to grow at least 20% or greater for the full year 2022 in constant currency.

We now estimate non-GAAP operating margin to be approximately 29%, based primarily on the impact of FX and some of the Internet traffic dynamics I previously discussed. We now estimate non-GAAP earnings per diluted share of $5.32 to $5.44. And this non-GAAP earnings guidance is based on a non-GAAP effective tax rate of approximately 16%, a fully diluted share count of approximately 161 million shares. Finally full year CapEx is anticipated to be approximately 14% of revenue. It's worth noting our CapEx assumption now includes Linode that we talked about on our last quarter, partially offset by lower network CapEx given the slower traffic growth rate that we now project.

In closing, while the macroeconomic environment has become more challenging since our last earnings call and the U.S. dollar continues to be a major headwind for us, we remain very optimistic about the opportunities in front of us, especially in security and compute. As Tom mentioned, I look forward to seeing you at our Analyst Day in New York City on May 18. Thank you. Tom and I would be happy to take your questions. Operator?

(Operator Instructions) Our first question comes from Keith Weiss with Morgan Stanley.

Excellent. And a lot of great kind of information in there for us to kind of better understand what's going on with a lot of moving pieces in the environment. Of course, I'm going to ask you about more on that. So in particular, when you see like the slowing network traffic and some of these increasing pressures, is there any kind of geographic specificity to it? Is it more in Europe than the U.S.? Or is it more evenly spread? #1. And #2, on the security side of the equation, is there any counterforce, if you will, meaning, it sounds it looks like it's a pretty bad threat environment out there. You guys have a great solution portfolio for this types of threat. Are you seeing any sort of increasing demand on that side of the equation that can offset some of those potential headwinds on the delivering compute side of the equation?

Yes. This is Tom. Great questions. The traffic, I would say, growth moderation seems to be pretty much global. And that coincides with a pretty much global reduction in things like mask mandates and quarantines and so forth, except for China. And we don't do domestic to domestic delivery in China. So we wouldn't be able to see that. So there's no particular geographic dependence there.

And you're on a great point about counterbalance through security. Obviously, we're negatively impacted in terms of traffic and a few customers because of the war in Ukraine. On the other hand, attacks have gone way up -- the volume of attacks. And that's an area where we can really help our customers. And so they're -- they could have some counterbalance in terms of the security business. And obviously, as I mentioned, customers are really worried about ransomware attacks and malware, and we've got a great solution for that with Guardicore.

And as we talk about the macroeconomic challenges, the fears of a recession, the inflation, customers probably increasingly concerned about saving cost going forward, and that could provide some counterbalance as well. With our Linode solution, we're in a really good position to help major enterprises decrease their cloud spend. We find that many of them have seen that spend increase dramatically. And now they can use Linode for applications, especially enterprises that are already set up in a multi-cloud environment. They've got their applications in containers or VMs and they can easily move those to Linode and save money. So there could be some counterbalance here as we go forward. That's a very good observation.

Got it. And then if I could sneak one in for Ed on the OpEx side of the equation. You talked to us about how sort of CapEx is coming down a little bit versus kind of what we were talking about immediately after Linode based on lower network traffic. Are there any adjustments that you guys are making to your OpEx side of the equation, so the level of investment that you guys are going to be making throughout the year, given a more kind of difficult environment? Or is it -- it's kind of steady investment as it goes, if you will?

We are not able to hear Ed. So I guess we're having a trouble with the operator with Ed. Or maybe -- Okay. Could you ask the question again, please?

Sure. I would just -- on the call, you talked about CapEx coming down a little bit because of sort of lower network traffic. I was just wondering if you guys are making any adjustment to the OpEx for FY '22 given the more volatile macro, any delimitation in any kind of your investments throughout the year? Or did the investment stay relatively stable?

That's a great question. And yes, CapEx is much more efficient. Of course, we're investing heavily to grow the Linode footprint. In terms of OpEx, we're always working to be more efficient with our OpEx to deliver traffic. And we're seeing the benefits of that even now, you look at the impact that FX, for example, is having on our operating margin and then having less traffic and yet still, we were at 29% to 30% with op margin for this year and now will be, I think, really closer to the low end of that range, but it's because that we've been able to be much more efficient on OpEx that we can hold it there and not be lower than that.

And of course, we are -- also, it's important that we are going to continue to invest certainly in security and compute. We don't want a what -- to be a very temporary solution with FX to induce us to do something that would hurt us long term with our growth in security and compute. And you look at our business today, and I think it's pretty important to note that the majority of our revenue is now security and compute. And that is growing currently at over 25%, as reported.

And so the last thing we want to do is somehow scale back investment there when it's just a fabulous couple of businesses just because there's stuff going on with FX and the macro and economic environment.

And Ed is trying to get back on, but we can keep going and I'll do my best Ed imitation in the meantime.

Yes. So Tom, I'm back on. Can you guys hear me now?

We can. Very good.

Okay. Great. I'm sorry about that. I don't know what happened. Well, technical difficulties there, Keith. But I'm not sure if Tom got to your question about some of the things we're doing on the cost. Okay. If there is anything else I'm happy to take an additional question.

No, Tom did a great job. You might have to worry about job security now.

Our next question comes from James Breen with William Blair.

Just a couple. One, when you look at the old guidance that you gave on the fourth quarter call relative to today, down kind of $5 million at the -- $50 million at the low end and the high end. Given some of the puts and takes you gave, it seems like the rush impact sort of mid-30s million and then the incremental FX is sort of in the mid-50s, sort of kind of offsets basically the upside from Linode and close that deal. So just -- I'm just trying to think about it, quantify it. So is that sort of incremental kind of $15 million difference really what you're seeing from the lower traffic and the delivery side? And can you just remind us of the delivery revenue this quarter, the $444 million, however you want to think about it annually. How much of that is more volume-driven versus subscription based?

Jim, it's Ed. Yes, I think you've got the pieces right there in terms of the different components, FX being about $55 million. Russia, you could say it's about 1%, so call it about $30 million, give or take. But the rest of it is the delivery. I think one of the things we tried to make clear in our prepared remarks was the compute business is going great. We don't have any -- we've only owned the business for a little while, so there's no change there in terms of our outlook, but certainly good early returns. And then security is going great, did better than we expected this quarter.

So it is limited to a delivery issue. And it is, I would say, primarily almost all volume driven that we're seeing. So what we did basically is just adjust the growth rate that we expected for the remainder of the year. And then obviously, things can change over time, but based on what we've seen so far in the last couple of weeks of March and the beginning of April, we just thought it was prudent to adjust that. So you're thinking about it right in terms of the different pieces.

Great. And then just maybe one for Tom. Just on the strategy around Linode, you've owned it now for a little over a month. They were focused a lot on to the small- and mid-size's business space in terms of the compute and the storage, have you seen any traction with that product with some of your larger customers now that it's starting to get integrated?

Yes. Obviously, very early days, but we're really excited about the potential for that traction. I give you just one anecdote. I was in Europe meeting customers last month and met with one of our major media workflow partners. And I was going to go to talk to them about Linode because they have a big cloud spend, and we feel that could be really relevant for moving to Linode. They're very happy Akamai partners and customers. And I was going to tell him about the acquisition, but I get there, we shake hands. First thing he says is, wow, great acquisition. And he's the CEO, but it turns out he has a pass as a developer, knew about Linode, loves them. And he's into multi-cloud and he said, look, what we did is we already have our workflow apps and containers. And so thought what the heck, let's try it. So they moved over to Linode and he said it worked great. And he said we're going to save money to boot. And it's really easy to use. And we didn't even know because Linode really is easy to use, that we didn't know this was even taking place.

So I do think we're in an excellent position to not only increase their existing Linode customer base, but provide Linode capabilities to major enterprises. And of course, Linode really appeals to developers. And increasingly, developers are making the decisions or heavily influencing the decisions at major enterprises as was an example in this case.

Our next question comes from Rishi Jaluria with RBC.

Wonderful, guys. I appreciate all the details around the moving pieces. First, I wanted to start with maybe better understanding some of the macro factors. I think, look, the FX, well understood, Russia as well, the moderating traffic with reopenings. But at the beginning, you had mentioned kind of the inflation side as well as fears of recession be it in Western Europe or globally. Can you talk a little bit more about how those macro factors are impacting your business? Is this resulting in longer sales cycles, smaller initial deal land? Just more hesitation around new deals? Any color there that you can give would be helpful? And then I have a follow-up.

Rishi, this is Ed. I'll take that and Tom if you want to add some color, if I missed something here. So in terms of inflation and the impact on our business today, we're not seeing a significant impact from inflation, whether that's with labor costs or with our cost of our network and that sort of thing. We're seeing a little bit of higher energy prices in Europe and that sort of thing, but our team does a pretty good job of trying to bake that into their deals when they sign colo deals and that sort of thing. That could obviously change. Obviously, the labor markets are pretty tight and that sort of thing.

But I think the biggest macro impact from our business in terms of our change in outlook is really around the change in behavior where we're seeing mask mandates lifted and people going out, more shopping, more in-stores and that sort of stuff and the impact on the traffic growth rate is probably the biggest impact. Obviously, if we get a major recession that could potentially have a greater impact, but we're not seeing that certainly in the security business, we're not seeing customers pulling back, we're not seeing deal size -- the deals getting elongated or anything along those lines. It's really more of that impact on the traffic business.

Yes. And to Ed's point, it's not direct on us. But there is some concern among our media customers in terms of subscriptions and how their business is doing. And so we're just keeping an eye on that in terms of the end users reacting and cutting cost and consuming less online. So I don't think that's a major factor yet, but it's something we're keeping an eye on.

Got it. That's really helpful. And then just going back to Linode. I guess, number one, if we do the math back of the envelope, it's about a $4 million contribution in Q1. Is that directionally correct? Number one. And I think number two, when you made the acquisition, you talked about incremental investment opportunities to accelerate the growth rate. Can you maybe remind us about where you find those opportunities, especially where there's low-hanging fruit? And what would be an ideal growth rate for the Linode asset?

Yes. So I'll start off with the question first, just a housekeeping item. We had about $3.5 million of revenue we see in the quarter from Linode. And then as far as the growth rate is concerned, we'll get into a lot more details when we see you in New York in a couple of weeks. But obviously, this is a very, very fast-growing business. And Linode's growth rate before we acquired them was at 15%. We think we can accelerate that pretty significantly as we introduce more features, more locations, more capabilities and we start to tap into our enterprise customer base, and we think that growth rate can accelerate pretty significantly.

Yes. Just to add to that, in terms of investment and opportunities, obviously, scale is something we're really good at and distribution, which we're putting a lot of effort into. And our customer banks, which Linode really hadn't tapped into.

And being a smaller company, probably a little harder for them to go after major enterprises in terms of the credibility and so forth, but that's really easy for us to do. And just as I talked about with examples before, you take Linode's ease of use and our customer base and those customers that are multi-cloud and have their apps and containers, they can move them over, and save money when they do it and bring it closer to their delivery and security, which is -- has been Akamai and where the market leader is at. So I think there's a really great opportunity to jump-start significant growth among major enterprises for Linode.

Our next question comes from Tim Horan with Oppenheimer.

Tom, on that point, with apps and containers, is it -- have we seen many apps kind of port over to other clouds at this point? And if they are tying into other value-added products and other software products that the cloud guys have, does it make it harder to do? Or can they still do it relatively easily?

Yes. That's another great point. The hyperscalers have a lot of managed services and added functionality on their platform, which Linode does. Now if you're the kind of company that likes to do those things yourself, well, that's easy to do on Linode. If you're the kind of company that wants that done by your cloud provider, well, Linode doesn't do that today. Now over time, we will be adding more and more capabilities there. So it really -- so today, I wouldn't say that every customer would be in a position to move everything over to Linode. That is certainly not the case. But I think there is a pretty significant segment where it can be done and does make sense to do. And over time, we want to grow the kinds of -- the number and the types of applications that will make sense to move on to Linode.

And it is helpful that certainly, our customer base is already using us for market-leading delivery, market-leading app acceleration and market-leading security. So there's a lot of synergy there. And I think the combination of that synergy, ease of use and cost savings is a pretty exciting combination.

And just on the traffic volumes, could you give us a sense, the last 2 years in COVID, were -- will be like 25% above trend, 50% above trend? And do you think it kind of reverses however much it was above trend? I'm not looking for exact numbers, but just on some color.

Yes, it was way above certainly the first year and very strong the second year. And I would say in comparison to small decrease in growth rate. Still growing very strong, but less than, I think, had been expected. And we're seeing that the same for the Internet as a whole. Now -- and we're also seeing our growth be stronger than the Internet as a whole, which is good. That's what we want to keep seeing because it means we're taking more of the Internet traffic when that happens.

So I would say the step down we've seen so far is less than the step-ups that we've seen. And I think that's because a lot of the increased use of the Internet for everything, for video, for gaming, for commerce, remote work. I think a lot of that is here to stay. But right now, with all the restrictions coming off, except for China, I think that's a big part of why we're seeing a little bit of a decrease in traffic growth rates right now.

Our next question comes from James Fish with Piper Sandler.

I wanted to first start on the delivery side, where, frankly, we're not surprised to see slowing traffic given our tracking of what's going on in the space, but it seems like it was a little bit worse for you guys. Can you just help break down where the main weakness was between web delivery versus media delivery this quarter? Because it sounds like the media was a bit more of a surprise for you guys as it was a former growth driver is slowing, and you guys had a bunch of renewals there, while we didn't have the recovery in web despite travel and hospitality traffic coming back. Can you just help us kind of triangulate where we are between some of the underlying verticals?

Jim, this is Ed. I'll take that one. So yes, the bigger impact was definitely on the media side. So I called out that we had renewals. And when you have renewals, big renewals concentrated in a short period of time and you have a slowdown in your traffic rate, it does accentuate the impact of revenue. Typically, we see in a normal year, you'd start to get back to flat line after several quarters and that sort of thing. We just think it might take a little bit longer based on the type of direct traffic growth rates we're seeing.

In terms of the hospitality and retail, 2 things to think about there. We are seeing a bit of traffic increase, specifically in travel. Small vertical for us at 4%, give or take. But remember, both travel and the media -- sorry, the commerce vertical tend to buy our 0 overage. So it's a little bit -- traffic doesn't have as much of an impact on revenue. But in terms of the biggest impact, it's really on the media side in terms of the change in traffic.

And also, in terms of a percentage of overall traffic, media represents a significant portion, greater than 90% of our total traffic.

Got it. And switching over to security side. How are you guys thinking about the current balance of term subscription versus SaaS for Guardicore now that you've had it for about 1.5 quarters. How do you think this settles down given certain verticals like financial services want those term subscriptions? And lastly, any sense to what other large deals for Guardicore could be in the pipeline over the next few quarters that can swing? I think it was $50 million to $55 million expected for -- expectations for Guardicore this year.

Yes. Good question. So I called out on the call that there was about 4 customers that had term licenses. And what I'll do going forward to the extent that there's anything material, we'll call it out. I'd say, the majority of customers have the more traditional subscription-based model. But there are customers, especially financial services that do like to have the management controller on-premise. And that's what really drives the term license aspect of it and what requires us to take the revenue upfront. But again, I think the majority will be in that category.

Now keep in mind, with the term license, you do have to renew that subscription when the term goes up. The typical term is 1 to 3 years. Tom mentioned that we did sign up a fairly large 3-year term deal. So there'll be some of that maintenance and whatnot that gets spread out, but you are required to take a fair chunk of that upfront. But in general, I would say that the majority would be the SaaS type deals. And as far as the pipeline goes, it's always hard to call when the deal is going to hit in any particular quarter. I don't see anything significant here in Q2. I'm expecting more of a normal quarter. But to the extent there's anything, we'll certainly let you know.

Our next question comes from Amit Daryanani with Evercore ISI.

I guess I have 2 as well. Maybe just to ask a little bit more on the core delivery business, the CDM business. I guess, do you think this business just sort of declines 4% or 5% a year for the rest of calendar '22? Or do you think to see sort of a bottom and the decline rate should improve as you go through the year?

Yes. So I think for the rest of the year, you'll see the business in decline because of the renewals that we have. We had half of them hit so far in the first quarter, the other half will in the second quarter. So you'll probably see a little bit of a step down in Q3 and then in Q4 tends to be your seasonally strong quarter. But you do have a tough compare. So I would say expect it to be negative for the rest of this year. And obviously, it will fluctuate depending on the specific traffic levels. But Q4, we do typically see a strong season, both with commerce and media, commerce has a less muted impact these days with a lot of customers. I think it was about 65% or greater have a 0-overage contract. So commerce doesn't have as big of an impact. But media, we've typically seen a pretty strong traffic in Q4. We expect to see a pickup in traffic probably a little less so this year, that's what we've modeled in.

Got it. And then hopefully, I have all these numbers correctly. If not, please correct them. But as I think about the revisions to the calendar '22 guide that you both provided, it looks like sales versus the streets was with all the adjustments is coming down by about $100 million, give or take, 2.5%, 3% of initial expectations. But the EPS numbers that we are coming down much more severely closer to 8%, 9% versus what the prior expectations were. Maybe just walk me through -- there's a much more outsized EPS adjustment to the full year numbers versus revenue. Is that just the tax rate? Or what are the moving pieces that are magnifying the correction on the bottom line on the EPS line versus the top line.

Yes, sure. So let me try to walk you through that, Rishi. So first of all, the tax impact is about $0.11. And that obviously has no -- that's outside of any sort of change in the revenue. Then you got the FX impact of about $0.16. And then the Russia impact is, call it, another $0.09-ish, give or take. So you've got about 60% of it is related to some of those external factors and the remainder of it is related to just the revisions that we see in delivery.

Our next question comes from Frank Louthan with Raymond James.

Right. Great. So on the traffic thing, just to be clear, this isn't end user slowing down with the pie shrinking. It's just more of the pie is growing more slowly. And -- or is some of this traffic going elsewhere? And if that's the case, who are you losing share to?

No, you're right. It's just the pie is not growing as fast. The pie is not shrinking. The pie is just not growing as fast. And we believe, based on talking to our customers and our carrier partners and what we see that our share of the pie is stable or growing, and that we are not on balance losing share of the pie.

Okay. Great. And what sales investments do you need to make for the rest of the year to sell more sell-through with Linode and to sell more Guardicore, et cetera. Where are you on that?

Yes. So the nice thing with the Linode acquisition is we're not required to make any additional investments in sales per se. We're going to be obviously bringing this to our channel partners and our sales reps can sell it. As a matter of fact, a lot of our customers, if you look at their CDN spend to cloud spend, it's orders of magnitude, larger on the cloud side. So we're talking to the same people that are spending money there. Our teams are -- will be trained up and ready to go for being able to sell Linode.

On the security side, you do tend to hire more specialists. And if I look at sort of where PJ is investing in sales, we are investing a lot in Guardicore, not only just with sales reps, but also with technical specialists that help the sales team and professional services folks as well. So you're seeing the investment more leaning in towards the sales side and you're getting a lot of leverage from a Linode standpoint.

Thank you. We have a question from Rudy Kessinger with D.A. Davidson.

Great. On the OTT or Media, just how are your OTT customers attributing that slower traffic growth maybe between end users eliminating or reducing the number of OTT services they subscribe to, a shortage of new content or just people getting out more with COVID mandates lifted?

Well, as best we're hearing as sort of the first and third, there's fewer subscriptions in some cases. Some cases, subscriptions reversing. Some cases, when the subscriptions are okay, there's traffic growth, but slower traffic growth than they had anticipated and that they had seen before.

And so I think part of that is that people are just out more right now. Also on the commerce side, and there's been public reports about this, that more brick-and-mortar sales than there have been and a little bit less on the online side, which is understandable, I think, given that people are apparently out and about more with less restrictions.

So I think there's sort of a variety of factors and it's early days here, and probably we'll learn a lot more over the next couple of months.

Got it. And then just on delivery, you said the pricing on those large customers that renewed this quarter was about as expected. But just as you look more broadly in delivery, how is pricing pressure faring versus years past? I guess just as I piece it together, understanding traffic growth growing more slowly, but still growing and your guys' position that you're still gaining share of that growing pie, but delivery revenue being down several points. Just how is pricing pressure faring in the broader market?

Yes. Good question. So I would say a couple of things to respond to that. So the renewals, like I said, are coming in largely as expected. The big change is the rate of growth. So that also impacts your conversations going forward. So we've talked for years about how the pricing in the market is fairly efficient in terms especially with the high-volume media environment.

And it's really driven by volume. So to the extent that customers have less volume, the discount rates will start to come down going forward. So I would expect to see over time, if customers aren't growing at the same type of rate, they're not going to get the same kind of discount. So we may see that take hold over the next several quarters as we go through more renewals and that sort of thing.

We have a question from Fatima Boolani with Citi.

Just a really quick one for you in the security business. I think we -- you spent a lot of time sort of flushing out the Guardicore performance in the quarter, which was pretty substantial. I think you also tipped your hat on the recovery or reacceleration on the application security side of the security portfolio. But I'm curious if you have any comments or observations around what the network security side of the fence within that business segment is doing? Just any color there with respect to sort of competitive dynamics, sales dynamics, that would be really helpful.

Yes. This is Tom. On the network side, that would be Prolexic, which is our DDoS mitigation service doing very well. And we've seen a lot of attacks over the last year, especially around ransom or extortion DDoS attacks, and we've been in a great position to -- I had a lot of customers, major enterprises that were going to be potential victims of those attacks. Also, we have DNS capabilities, which are widely used as part of the network security product lines. And I would say, doing very well.

One other thing I would add, Tom, just that if I look at the product portfolio, Bot Manager continues to do extremely well and growing at a very, very healthy clip. And we introduced our account protector this quarter and saw a very, very high uptake with that. And early returns on that look great. Obviously, it's a newer product, so it will take time for that to become a material contributor to revenue. But so far, the early returns on that have been very good.

Yes. And those are all part of our app and API protection group, which is where we're seeing the reacceleration Ed talked about.

Got it. And just a quick one for you in terms of the housekeeping around free cash flow. So I appreciate some of the puts and takes on the margin side of things, mostly stable, but curious about how we should think about free cash flow kind of given the near-term step-up in CapEx, which is expected to moderate based on your guidance over the course of the year. But anything you can help us from the free cash flow margin side, given the FX movements as well. And that's it for me.

Yes, sure. So the -- on the free cash flow side, you'll notice that Q1 tends to be a little bit lighter on the free cash flow side, and a lot of it has to do with the timing of when bonuses get paid. You could look -- if you look kind of year-over-year, it's sort of in line Q1 to Q1. It will expand as we go out throughout the year. But I think one big key takeaway, if you go to the CapEx section, which, obviously, impacts free cash flow quite a bit . We had originally talked about the sort of, call it, Akamai, excluding Linode being 13% to 14% from a CapEx perspective and that Linode would add about 2 points.

One of the things that we're able to do is take advantage of the slowdown in growth rate of traffic to be able to pull in some of the CapEx associated with Linode and build out a little bit faster. But in addition to that, we've taken down our total CapEx. So I gave guidance for about 14% of total revenue for the year, which is about 2% better than what we had expected. So think of it as sort of folding in the Linode CapEx under the original umbrella. So that will obviously help our free cash flow.

Our next question comes from Michael Elias with Cowen and Company.

Two, if I may. So you're expecting to hold an Analyst Day later this month. Any color on what we should expect to hear? And as part of that, should we expect similar long-term guidance to what you gave your last Analyst Day, just including the new compute segment. That's my first question.

And the second question is you highlighted at the beginning of the call, the inflation, and you said that you aren't seeing the impact of that. I'm just wondering, as you think of the business and to the extent that did become a bigger issue, what are the levers that you could pull vis-a-vis pricing in order to combat inflation to the extent that had manifested itself?

Yes. On the first question, I think Analyst Day structurally look a lot like it did last year. So we will look at long-term CAGRs, what we're trying to achieve. We'll talk a lot about the compute business and our overall strategy. So high level, similar to what you saw last year in terms of the structure. Obviously, there's a lot of cool new things to talk about with our new products, the acquisitions, Guardicore, Linode and the compute product line, we're pretty excited about.

Yes. On the inflation front, a couple of things there. Obviously, I guess you could argue that inflation is causing rates to go higher, which is impacting the U.S. dollar. So there's the FX impact of that. So that's one thing to keep in mind, I guess. But one the advantages of sort of the hybrid work environment is it enables you to look at acquiring talent from all over the place instead of just on the coast, you can look in the middle of the country and look at other lower-cost areas. So that's 1 tool in our toolkit.

The team has done a great job on the network side with our supply chain in terms of negotiating and leverage power. A lot of our traffic on our network today is free in terms of bandwidth. So we're somewhat insulated from that. Obviously, we'll keep a close eye on the labor market.

But as Tom mentioned, there could be some impact to some of our customers and the decisions that they make in terms of their spending. Are they going to be spending on subscriptions for video or buying the next title for gaming or the gaming console and that sort of thing? So that could have an impact on traffic.

So what we're doing there is obviously pulling back a little bit on our CapEx for the core network. We're actually able to redeploy some of those resources that we have that know how to build out and scale the network and just go faster in Linode, which is great.

So we're sort of taking advantage of some of the opportunities that this gives us and trying to insulate ourselves from any significant impact that inflation may have on the business.

Yes. And that's one of the really nice things about our business now as we really are diversified. The majority of our revenue is now security and compute, not delivery, which is a pretty big milestone for a company that not too long ago was known as a CDN or a delivery company. And so when you do have these external factors that can hurt one side of the business, they might help other sides of the business. For example, security being tied to the war in Ukraine, or inflation driving a need to cut costs and now we have a really good answer for our customers with Linode. So it puts our business in a much stronger position, and we're much more diversified than we've ever been.

We have a question from Jeff Van Rhee with Craig Hallum.

Just a couple of cleanups for me. On the -- on Guardicore in terms of the term licenses, were there any terms in Q4?

Nothing material. There may have been about $1 million or so, but nothing really material there.

Okay. And then as it relates to Linode, how should we think about sales cycles there? As obviously we're going to try to blow out the sales effort and take that into the enterprise base. Just how do we think about 2 things there. One, the sales cycles? And then two, to date, for Linode, what was a large customer? I mean if you take a look at kind of the -- maybe their top 10 customers, what would it take for somebody to crack that large customer criteria sort of into the top 10, obviously, thinking to being able to measure your success in bringing that product to your enterprise base?

Yes. Good question. So the sales cycles will vary. As Tom mentioned, there are certain workloads that are built in a container that's easy to move, so those can move relatively quickly. We've started our training, rolled out our compensation plan, so our sales team is starting to build the funnel. We're having good conversations with customers. We're starting to build out additional functionality. We put out a press release about our managed database capabilities the other day. We'll be building out more locations. You'll hear a lot more from Adam when we get to the Analyst Day about specifically what we're doing and where we're heading.

I would say you start -- in terms of how I'm looking at success, which we should start to see some of that materialize towards the back half of the year and really looking at what is our exit run rate going into next year and then what does that funnel look like. But we should start to see a lot of this materialize towards the back half of the year. It's probably a normal sales cycle. You got some early wins. You've got developers from customers that can start playing around adding new applications and that sort of stuff. But I think in terms of the more meaningful, impactful deal sizes, those should happen towards the back half of the year and into next year.

Okay. That's helpful. Last one for me. I think on the traffic side, you mentioned OTT as well as gaming and in particular, in general, being most visible in the most recent quarter. I mean, anything notable difference in the trends of those 2 traffic types. Or is it just generally, behavior you would expect from people getting outside and unlocking? Any differences there?

Yes. Good question. I'd say sort of the latter, what you just said there that is probably more of that people getting out. That's -- you see that more on the video side in terms of less hours streamed, if you're watching 10 hours a day, you're maybe doing 8 or 6 or whatever.

But gaming is more of a seasonal issue. I'd say we saw more of an impact on gaming, not as many releases that had probably a bit weaker than we would have expected. I think in terms of the trends, it depends on what the cycle looks like going into the back half of the year in terms of major gaming releases. But the video side, I think, is a lot more behavioral.

Our last question comes from Will Power with Baird.

Okay. Great. Maybe, Tom, I'd love to get a little more color on the strength within compute. Anything else you could provide with respect to key drivers in the quarter would be great.

Yes. We've been working on edge computing, doing edge computing services for close to 20 years. We have the edge worker solution that has function as a service and thousands of POPs around the world, HKB database capability. And more and more applications having -- our customers having an interest in having them work at the edge. You get tremendous scalability, instant scalability, you can spin up your edge worker app a few milliseconds and be really close to the end user. And I think we get more business there as you go forward, more and more of our customers are using it as they move to the -- an API model and as you get 5G and as you get IoT and you have more demand for lower latency and scalability at the edge.

And of course, Linode is really exciting because now you get the core cloud compute capability. So you can just take your container -- your app and the container and move it over to Akamai, and have the whole thing end-to-end from the core of the cloud to the edge. You can build your app on Akamai. You can run it on Akamai. You could deliver it on Akamai. You can do the compute you need at the real edge in thousands of places. And of course, we'll wrap it all in security for you.

So I think compute is strong on its own from what we had. Now you get more strength with Linode and then you wrap it all together in the Akamai platform, which is really unique in terms of having 4,000 POPs. There is nothing like it in terms of having a true edge network, the scalability you get and the performance you get from that.

Okay. Great. And then maybe just a quick question on thoughts around potential M&A from here given valuation compressions in the market. How does that change the landscape for you? How you look at things and maybe appetite here, particularly coming on the heels of the Linode deal?

Yes. We're continuing to look at possible acquisitions. Obviously, we've done 2 large ones in a short period of time. I don't expect that to be the norm. We're generating a lot of cash, and we're going to use that to reinvest in the business, particularly in security and compute. So it's not impossible over time. You'll see other acquisitions like that. And probably, several smaller acquisitions like we've always done. Tech tuck-ins, adjacent products.

So I think what you've seen is what you'll get, but not 2 big ones right away. That's not the norm. But we saw a real chance to have a game changer in enterprise security with Guardicore. Really, the right product to stop ransomware and a game changer in Linode, a leading alternative cloud that gives us -- really completes the Akamai picture, I would say, in terms of powering and protecting life online, being able to build, run, deliver, accelerate and secure your app all in 1 platform is really exciting for us.

Thank you, everyone, for joining us tonight. I know we ran a little long, so we appreciate your patience. And in closing, we will be presenting at several investor conferences and road shows throughout the rest of the second quarter, including our Analyst Day in New York City on May 18. Details of all these events can be found in the Investor Relations section of akamai.com. Thanks for joining us and all of us here at Akamai wish you and yours continue good health. Have a great evening.

This concludes today's conference call. Thank you for participating. You may now disconnect.