睿科網路 (ATEN) 2015 Q1 法說會逐字稿

Good day, and welcome to this A10 Networks first-quarter 2015 financial results conference call. All lines have been muted to prevent background noise. Please note today's conference is being recorded. (Operator Instructions)

And now I would like to turn the conference over to Ms. Maria Riley. Please go ahead, ma'am.

Thank you. And thank you all for joining us today. I'm pleased to welcome you to A10 Networks' first-quarter 2015 financial results conference call. This call is being recorded and webcast live and may be accessed for 90 days via the A10 Networks website, www.a10networks.com.

Joining me today are A10bs Founder & CEO, Lee Chen; A10bs CFO, Greg Straughn; and our VP of Global Sales, Ray Smets.

Before we begin, I would like to remind you that shortly after the market closed today, A10 Networks issued a press release announcing its first-quarter 2015 financial results. Additionally, A10 published a presentation along with its prepared comments for this call and supplemental trended financial statements. You may access the press release presentation with prepared comments and trended financial statements on the investor relations section of the Company's website.

During the course of today's call, management will make forward-looking statements, including statements regarding our projections for the second quarter, operating results, our expectations for future revenue growth, profitability and operating margin, expectations of customer buying patterns, and the growth of our business generally. These statements are based on current expectations and beliefs as of today, May 4, 2015. A10 disclaims any obligation to update information contained in these forward-looking statements whether as a result of new information, future events, or otherwise. These forward-looking statements involve a number of risks and uncertainties, some of which are beyond our control that could cause actual results to differ materially. We disclaim any obligation to update these forward-looking statements as a result of future events or otherwise. For a more detailed description of these risks and uncertainties, please refer to our 10-K filed on March 11.

Please note that with the exception of revenue, financial measures discussed today are on a non-GAAP basis and have been adjusted to exclude certain charges. A reconciliation between GAAP and non-GAAP measures can be found in the press release issued today and on the trended quarterly financial statements posted on the Company's website.

We will provide our current expectations for the second quarter of 2015 on a non-GAAP basis. However, we will not make available a reconciliation of non-GAAP guidance measures to corresponding GAAP measures on a forward-looking basis due to high variability and low visibility with respect to the charges which are excluded from the non-GAAP measures.

Before I turn the call over to Lee, I'd like to announce that management will attend the RBC Mobile and Cloud Networking Investor Day in Boston on this Thursday, May 7, and present at the JPMorgan Global Technology, Media, and Telecom Conference on May 19 in Boston, and at the Bank of America Merrill Lynch Global Tech Conference on June 3 in San Francisco. We hope to see many of you there.

Now I would like to turn the call over to Lee for opening remarks. Lee?

Thank you, Maria. I would like to thank you all for joining our first-quarter 2015 financial results conference call.

Overall, the team executed well during the quarter. We delivered revenue within our guidance and drove leverage throughout operating structures, resulting in a 24% sequential improvement in our bottom line.

Looking at our results in more details, our first-quarter 2015 revenue came in at $44 million, reflecting stronger than expected demand in North America, offset by Q1 seasonality and continued weakness in the service provider segment. While we continue to see a cautious service provider spending environment, we gained traction with our security product, and we made good progress toward growing our presence in the enterprise and diversifying our revenue base. Our pipeline remains very strong. Our win rate remains consistently high, and we are pleased to report that in Q1, we returned to year-over-year product bookings growth.

Revenue from the enterprise grew 26% from the prior year and 6% sequentially and accounted for 57% of our total first-quarter revenue. In total, we added close to 200 new customers in the quarter, and we now serve over 4,000 customers.

We saw good demand for our ADC solutions driven by our rich security features including SSL insight and Web application firewall. Industry analysts currently estimate that 20% to 35% of enterprise traffic is encrypted, and they expect this to grow rapidly throughout 2015 and beyond. With the growth in encrypted traffic, we believe we are very well positioned to gain market momentum.

Our Thunder ADC solution is the first ADC to offer SSL Insight features, and we provide a comprehensive and high-performance SSL insight solution. In the first quarter, we landed a new Fortune 50 customer with our Thunder ADC SSL insight solution. This customer chose A10 to help protect their network from incoming threats because of our ability to seamlessly scale and inspect SSL traffic as well as load balancing between their firewalls. We are very proud of this new win, as it was our first sale into this very large enterprise where our largest competitor had a strong hold.

We also continue to gain momentum for our Thunder TPS DDoS mitigation security solution, and we are receiving positive customer feedback from the recently released fully programmable policy engine. Although TPS revenue remains a small percentage of our total revenue, we are very excited by our momentum among both enterprise and service provider customers. Based on conversations with our customers, we estimated that our TPS opportunity within certain customers could grow to be between 3 to 8 times the initial buy within a two-year period. In Q1, we added a record number of new TPS DDoS mitigation customers, many of which were international.

It is important to know that 50% of our TPS customers in Q1 are new to A10, providing us with an opportunity to expand into new areas of their networks. Let me share with you a few of our new TPS customer engagements.

A North America-based broadband provider chose our Thunder TPS solution after repeated outages due to DDoS attacks. In this competitive win, we believe we won because our high-capacity, small form factor product is helping provide both CapEx and OpEx savings to the customer while, at the same time, increasing the protection of their networks. C4L, a data center co-location provider, chose our Thunder TPS solution because we demonstrated a fourfold increase in the available DDoS mitigation performance on their network versus the competition. And in Japan, both an industry-leading enterprise and a marquee service provider customer chose our Thunder TPS solution for a initial deployment.

It has been close to one year since we launched our Affinity channel program, and we have seen a nice uptick in channel-led, closed and initiated deals compared with this time last year. Additionally, our channel pipeline has grown over 75%.

In summary, our high-performance Thunder product suite continues to gain momentum in the market driven by our high-performance, flexibility and advanced security features as well as our ability to integrate with other leading networking, security and cloud providers. A10 addresses some of today's most critical application and security challenges.

As cyber attacks grow in size and sophistication, the manageability, scalability and flexibility of the network becomes even more important in order to conserve and protect network resources. Our ACOS-based Thunder platform enables an open, programmable interface that can easily scale from megabit to terabit of throughput and deliver 2 to 5 times the performance of our competitors. Our recently introduced proprietary ACOS 4.0 automatically generates application programming interface, API, and provides A10 the agility to deliver new modules, new functions and new features as well as rapidly integrate with other solutions. We believe we are well positioned competitively, and we are encouraged by the opportunities we see ahead.

Furthermore, we strengthened our executive team with the recent appointment of Sanjay Kapoor as VP of Marketing. Sanjay is well recognized for developing global marketing programs that help accelerate growth and increase brand awareness at some of the most well-known technology companies.

With that, I would like to turn the call over to Greg to review the details of our first-quarter financial performance and second-quarter guidance. Greg?

Thank you, Lee. And thank all of you for joining us today.

We delivered first-quarter revenue of $44 million, compared with $45.7 million in the prior-year first quarter. Deferred revenue, consisting almost entirely of customer maintenance and support contracts, was up 36% year over year, totaling $59.7 million. First-quarter product revenue totaled $30.5 million, representing 69% of total revenue. This compares with $36.4 million, or 80% of total revenue in the prior-year first quarter.

As we mentioned, first-quarter product bookings grew on a year-over-year basis. Service revenue was $13.5 million, accounting for 31% of total revenues, compared with $9.3 million, or 20%, in the first quarter of 2014. First-quarter revenue from the United States grew 26% year over year and 12% sequentially to reach $22.9 million, representing approximately 52% of total revenue. First-quarter revenue from Japan was $8.8 million, representing 20% of total revenue, compared with $17.3 million, or 38% of total revenue, in the same quarter of the prior year, which was unusually high given the backlog from Japan we carried into that quarter.

Revenue generated from EMEA was $6.2 million, an increase of 50% over Q1 of the prior year, and represented 14% of total revenue. Revenue from APAC excluding Japan was $4.6 million, representing 10% of revenue, compared with $4.3 million, or 9%, in the prior-year first quarter.

Our enterprise and service provider revenue split this quarter was 57% and 43% of total revenue respectively. Revenue from enterprise customers totaled $25 million, up 26% from Q1 in the prior year and up 6% sequentially. Service provider revenue was $19 million, compared with $21.7 million in the prior quarter and $25.8 million in the first quarter of 2014. Consistent with the revenue diversification we have seen over recent quarters, we did not have any 10% or greater customers in Q1.

Moving beyond revenue, all further metrics discussed on this call are on a non-GAAP basis unless expressly stated otherwise. We delivered a first-quarter total gross margin of 76.6%, down 60 basis points when compared with Q4 of 2014. On a constant currency basis versus Q1 of 2014, gross margin was reduced by 50 basis points on a year-over-year basis due to changes in the yen to dollar conversion rate. While product gross margin remained relatively in line with the prior quarter, it came in at 77.1%. Our services gross margin came in at 75.5%, a decline of 167 basis points compared with Q4 2014 and an increase of 280 basis points over Q1 of 2014. Services gross margin was impacted by our investment in building out our professional services organization.

We ended the quarter with staff of 761, up from 759 at the end of 2014. In Q1, sales and marketing expense was $22.5 million compared with $24.9 million in Q4 of 2014. By a percentage basis, sales and marketing expense was 51% of revenue compared with 55% in the prior quarter. In Q1, R&D expenses totaled $12.7 million, or 28.9% of revenue, compared with $13.1 million and 29% in the preceding quarter. First-quarter combined G&A and litigation expense was approximately $7.5 million, or 17% of total revenue, compared with $6.8 million, or 15% of revenue, in Q4. This increase was primarily related to indirect taxes in Q1 and litigation expenses.

In total, first-quarter non-GAAP operating expenses were $42.6 million. First-quarter non-GAAP operating loss was $8.9 million, compared with $9.8 million in the fourth quarter. Our non-GAAP net loss in the first quarter was $9.1 million, or $0.15 per share, a 24% improvement when compared with a net loss of $12 million, or $0.20 per share, in Q4. Basic and diluted weighted outstanding shares for the quarter were approximately 61.5 million shares.

Moving to the balance sheet, at March 31, 2015, we had $85.6 million in total cash and equivalents. During the quarter, cash used for operations was $5.5 million. We ended Q1 with $52.8 million of net accounts receivable, compared with the Q4 2014 balance of $54 million. Average days sales outstanding were 110 days, up from 97 days in the prior quarter. The increase in the Q1 value is primarily related to the above-average opening balance at the beginning of Q1 and its impact on calculating the average accounts receivable balance.

Moving on to our outlook, to establish our Q1 guidance, we are balancing -- I'm sorry -- to establish our Q2 guidance, we are balancing our Q1 backlog carried into the quarter, bookings to date, growing customer interest in our TPS solution and our growing pipeline with the appropriate conservatism related to the service provider vertical. We expect second-quarter revenue to be in the range of $44 million to $47 million. Further, we expect gross margin to remain in the 76% to 78% range. On the income side, we expect operating expenses in Q2 to be between $44 million and $45 million, and therefore expect to report a non-GAAP net loss of between $0.14 and $0.18 per share using approximately 62 million shares on a basic and diluted basis. In setting this, we are assuming the yen exchange rate remains in the range of 118 to 120.

As we progress to 2015, our goal is to continue to drive top-line growth while improving our operating margin. And based on our current initial forecast, we expect to reach profitability on a non-GAAP basis during fiscal 2016.

With that, I would like to open up the call for your questions. Operator?

(Operator Instructions) Mark Sue, RBC Capital Markets.

I want to pose a question as it relates to the dynamics with the service provider customers. Any thoughts there considering some of your competitors were actually seeing good growth from the service providers? So is it mostly Japan for A10, or is it more broad within the telcos and the cable operators? So perhaps you could give us some qualitative comments with the service providers and how you might be seeing that pipeline shape up within that segment.

Maybe I will start the -- Ray will finish. We have a very strong footprint in the service provider vectors. We really have not seen any change in these competitive dynamics. And service provider is always about timing. Service providers spend on different projects at different times. We look at our pipeline remains very strong, and we have not lost any of the large service provider customers. The service provider win rate we look at Q1 remains the same as the previous quarter.

Yes, just to pick that up, Lee mentioned the win rate. The win rate remains very strong. That's actually quite good. And we do a large deal analysis, we're seeing about the same number of service provider deals in our large deal analysis. These are deals greater than $1 million in the quarter. But we are seeing those service provider deals a little bit smaller than what we've seen in the past. So we're definitely seeing the service provider headwinds, but we're still seeing the volume of deals in the pipeline. So -- and that is also the case in Japan as well.

Okay, that's helpful. And then on the Fortune 50 competitive -- with the ADC SSL win in the Fortune 50, was that a competitive displacement or is that something -- was that an existing A10 customer? I'm just trying to see how you were able to get into this account and how you might potentially grow in that account.

Yes, good question. That was not an existing incoming customer. Yes, it was competitive one.

Okay, that's helpful. Lastly, Greg, the DSOs above 90 days, once again, how should we think about mining for bad debt expense? Any thoughts or allowance for the doubtful accounts?

Yes, there's really nothing of note within this quarter. It's really more of a statistical aberration because we started with such a high balance at the prior quarter. But as far as the quality of receivables there, we're not seeing any changes in that grouping.

Okay, that's helpful. Thank you. Good luck.

Ehud Gelblum, Citi.

A couple questions. First of all, just to stick on the balance sheet for a moment, the 110 DSOs, Greg, I understand how the math works from the beginning of the quarter, but still is a very high number. A couple questions. Was any of that related to the Fortune 50 customer win? As in, did you have to give terms that were above and beyond?

And I'm still a little confused as to why, when your competitors have numbers that are literally half of these numbers -- how did we end up in this situation in the first place? And is it more service provider that's forcing this? Is it enterprise? And is there a way of kind of just putting stricter terms on some of the deals so that we don't end up in these situations with the balance sheet better just a little bit tenuous? Then a follow-up.

So on the first part of the question, having to do with the large customer we talked about, no, they were not given special terms, and the deal closed fairly late in the quarter. So at the end of the quarter, their balance was still well within terms and it was in the current period. So that was no impact on the number.

In terms of the AR balances themselves, I think that we're in a situation where our -- the mix of business that we have tends to be longer-paying customers. I think when you look into markets like Japan where the payment expectations are -- it's like 45 days plus the first of the month. You get very long standard terms, so that causes the amount that's in AR at any given time to be a large even though they are in the current bucket.

So when we look at the aging of our accounts, we don't see anything that's unusual. Our current bucket represents the great majority of these. And so we don't see any payment jeopardies. We see just long times that these amounts are outstanding. And so when you look at the payment history, we see fairly consistent payment by these customers. So it's not something that we worry about; it's something we're trying to improve because we would like to see that shortened up. But it's not an item where we see any particular jeopardies.

All right. Okay, appreciate that, although I do find it concerning and it's the kind of thing that does worry a lot of investors. Sticking on the topic of Japan, obviously there's been issues and troubles there since it peaked a year and a little bit ago. But I thought maybe we were dovetailing out of that at the end of the last calendar year. This is their fiscal year in Japan, and yet Japan still came down about 20% or so -- maybe a little less, but still in this quarter. When do we get to the bottom of Japan where it bottoms out and you could start seeing seasonality?

I think it's clearly -- we see economic headwinds and -- so even in that market, we're seeing opportunity. You look at Japan. Historically, we have a lot of revenue in Japan. It depends on one large customer. Since now we are diverse, our revenue base in Japan and those are TPS are really getting a lot of traction in Japan. So we see Japan as the opportunity. But I can never call a bottom until I see a clear rearview mirror.

Right. Was FX, given the weakness in the yen -- did that have any impact -- not that much on a quarter-over-quarter basis. But still, did that have an impact on the Japanese revenue?

Yes, it certainly does. I'm glad you asked that because quarter over quarter, Q4 to Q1 there's really not much impact because the yen was flat. But if you look at constant currency and go back to Q1 of 2014, there's about a 12% impact. So on a constant currency basis, our Japan revenue would've been a little bit over $1 million higher than we saw today. And our gross margin would've been about 50 basis points higher as well. So, yes, it does have a lingering effect, not in the -- it doesn't show in the income statement. It's kind of that opportunity cost.

Right. No, that's actually very helpful to know. And then can you remind me again, Greg, you talked about breakeven in fiscal 2016. Was that an EPS or operating margin? And when do you expect to get to a cash breakeven?

So that was on an operating income basis. We're talking about that in 2016. And then cash flow breakeven should be about that same time, perhaps slightly earlier because of the depreciation effect. But our cash and book run relatively close to one another. Does not be gaps between the two.

Okay. I appreciate it. Thanks, guys. Good luck.

James Faucette, Morgan Stanley.

Hi, it's Meta Marshall in for James. A couple quick questions. The US market seemed to rebound this quarter after weakness in Q3 and Q4. What you think was most responsible for that? And then if you could just give us a -- what is the characteristic of the 200 new customers? Understanding you have the one Fortune 50 customer, but do they tend to be smaller deals? Are they large enterprises? Just what some characteristic of those 200 customers are would be helpful.

I would be happy to talk about that, Meta. This is Ray Smets. From a North American perspective, really the underpinning of North America's success was really two key factors. The first one was enterprise growth without a doubt. Obviously, I was helped with the significant Fortune 50 win we had.

But also, we had been making this investment in building our channel, the Affinity channel program for A10 Networks. And that channel was actually working quite well for us. As Lee mentioned in his prepared remarks, we saw an uptick in channel close deals as well as channel pipeline development for us in North America, and we saw that as a positive. So despite some of the challenge we saw -- the headwinds, I would say, we saw in deal size on the service provider side, it was enterprise and channel investment that really helped.

Yes, and I think just dovetailing off of that is when you look at across those 200 customers, that's the same thing that you see. It's penetration within all sides of enterprise. And a large number of these customers started to come through the channel programs. And so what we're seeing with those customers is kind of the completions of strategy we have been putting in place. And it does help the diversity that we have been trying to foster in our revenue stream over the last couple of quarters.

Great. And just one follow-up on that. Are the deals that come through the channel -- do they tend to be smaller? Do they take a longer or shorter amount of time to close? Is there any distinguishable difference between sales in the channel and sales through your direct sales -- traditional sales?

It's actually -- it's pretty characteristic of what we see normally through our normal indirect touch. So we see deals of various sizes. We like to see the big ones, of course, but what's really positive about the investment on the channel is that yield volume continues to go up and the total opportunity value continues to go up. So we think the investment long-term will actually pay off.

Okay (multiple speakers) --

The new Fortune 50 enterprise customer this quarter in Q1 actually was channel initiated.

Great. Thank you so much.

Catharine Trebnick, Dougherty & Company.

So more back to the enterprise. Are there any markets that you seem to be having more traction in through your channel? That's one. The other one, has the number of channels that you are now reaching increased? Those are two of the questions. Thank you.

So Catharine, a lot of things haven't changed from the channel after -- as you said, the enterprise opportunity. We're seeing them from different categories, the Web 2.0, the cloud providers, the gaming providers, and also from the finance sector. So no particular change there. But the investment and channel and our visibility into the marketplace gives us more access to these opportunities. And from a close rate perspective, our win rate continues to do quite well. We qualify the deals very carefully, and then we typically win with a TOC. So from an enterprise perspective, it's basically steady as she goes. The real challenge here is getting more at-bats.

Oh, okay. That's a good way to put it. And then I know that -- oh, and the service provider, what would you say would be the opportunities you are getting there? GNAD? And about any of the new DDoS opportunities. How are you -- are you getting enough at-bats off the DDoS, and are there still opportunities for GNAD?

I think in the general securities area, a lot of service providers talk to us about that. Also, the ADC really merged with securities. It's another area. Some of the service provider customers are talking to us. Those really are the future -- the revenue opportunity within the service provider segment. Pretty sure we're under the NDA. We cannot disclose some of the projects we are working with some of these service providers.

Okay (multiple speakers) --

GNAD is definitely one area.

Just to expand on that a little bit, Catharine -- this is Ray again. Our strategy for land and expand is working really nicely. So we engage a service provider on the ADC front, for example. We typically get a good at-bat for the carrier-grade NAT. We are certainly leveraging those positions as well to get into the DDoS space as well.

So I think it's really what's our starting point and then where do we expand from. But we are really taking all products to all service providers where possible.

All right. Thank you.

Rohit Chopra, Buckingham.

I just wanted to get a sense on the competitive environment. I know Lee mentioned win rates are the same, but I just want to get a sense of what you're seeing as you move into the security area, if you're bumping into new people there and what that environment is like.

And then the second question, Greg, is for you. I just want to get a sense of what the minimum level of cash is that you expect at the business. Because it looks like you continue to burn a lot of cash. I just want to get a sense of what your level of comfort is for a minimum if you don't mind.

I think we are very excited about the security offer including TPS and some of the ADC security features such as SSL Insight and the Web application firewall. On TPS, in Q1, we have the most TPS customers of any quarter in Q1. And 50% of our TPS wins -- 50% of our TPS customers are new customers to A10. And we are competing with it being the usual suspects, and we actually like our positioning. And the fact is really the -- our TPS has something really unique in terms of performance in terms of the policy engine for the API that can easily integrate with some of the detection solution in the market today. So that put us in a good position.

And relative to the gas position, I think that, this quarter, the cash burn rate came pretty significantly off of what we saw last quarter, primarily as the AR balances got large last quarter, it's a big use of cash. But this quarter we are back down more in that norm of $5.5 million cash used in operations.

So when we couple that with our expectation of becoming profitable both on a book and a cash flow basis in 2016, we think of cash levels in a $65 million to $70 million range. With the trajectory that we're on, we're pretty comfortable that we don't see any jeopardy coming from the cash side of the business.

That's helpful, Greg. Thank you.

(Operator Instructions) Rod Hall, JPMorgan.

Hi. This is [Ashwin] on behalf of Rod. Thanks for taking my question. Greg, I wanted to understand the OpEx guidance a little. I thought the initial idea heading into 2015 was to maybe not invest much more in R&D and control (inaudible). But as a percentage of sales, Q2 OpEx guidance is still running high. Can you probably refresh us on your OpEx thinking for the rest of the year and maybe do a run rate here? And then I had a follow-up.

Sure. I think that the run rate on OpEx as we communicated both last quarter and reiterated this quarter is that we are -- our expectation is that over the course of the year that the revenue growth rate will exceed the expense growth rate. And that there be some ups and downs as we go through the year. And clearly Q1 was a place where we grew much more on the revenue side than on the expense side. Q2, we have a little bit of reshuffling of that deck. The direction is we pick up some headcount and select organizations. But over the course of the year, it's very much still our expectation that revenue will outgrow expenses and that that's what sets us up allows us to focus on becoming profitable in 2016. So I wouldn't extrapolate the rev -- the expense trend from Q1 to Q2 and make that a straight -- extend that out for the balance of the year. I think it will moderate beyond Q2 and out.

All right. Thank you. Then my follow-up is on revenue. If I look at this graphic which shows top 25 customer repeat purchases, it looks like six of your top 10 customers -- 25 customers have not put any repeat orders. Given that, can you comment on your growth outlook probably for the rest of this year? Thank you.

Yes, so a couple things to note on that topic is this is what it starts to speak to what we mentioned earlier about revenue diversity. And I think that -- I noted in the script that this quarter we had no 10% customers. If you rewind back 12 months ago, in order to roughly the same amount of revenue, little bit less, we had three 10% customers that accounted for 38% of our revenue. Additionally, if we looked at our top 10 customers at that point in time, they were 54% of our revenue, and now they are 32%. So we've seen a very sizable shift when growth in our business in the mid-tier enterprise customers. So that's been a real growth driver for us.

When we look at our top 25 customers, obviously there are service providers in there and there are large enterprise customers in there, and they are very subject to quarter-over-quarter timing. And coming into the quarter, we have seen fairly consistent buying. This just happened to be a quarter where for the timing of projects, fewer bought this quarter. We've seen other quarters where four or five may have fallen off and not purchased. But these are all customers that we continue to be engaged with, and they all have projects that are in various stages of our pipeline.

So I think the important thing to note is that it's a timing issue, not a competitive loss or competitive dynamic that has changed. And as we have said more than a few times -- as you know, one quarter does not a trend make. The same way we didn't think when 24 at 24 (inaudible) bought that they would continue that at every quarter beyond that.

So I think it's just a statistical thing, and the next quarter we expect that to go back to something that's not seven or six out of that list.

That's very helpful. Thank you.

And ladies and gentlemen, we are out of time for questions. I would like to turn the conference back over to Mr. Lee Chen for any closing remarks.

Thank you all of our shareholders for joining us today and thank you for your support. Thank you and good day.

Ladies and gentlemen, that does conclude today's conference. We do thank you for your participation. You may now disconnect. Have a great rest of your day.