F5 Inc (FFIV) 2003 Q1 法說會逐字稿

Good afternoon.

My name is Leslie and I will be your conference facilitator today.

At this time I want to welcome everyone to the F5 first quarter 2003 financial results conference call.

All lines have been placed on mute to prevent any background noise.

After the speaker's remarks, there will be a question and then an answer period.

If you would like to ask a question during this time, simply press star and then the number one on your telephone key pad.

If you would like to withdraw your question, press the pound key.

Thank you.

Mr. John Eldridge, you can begin your conference.

Thank you.

And welcome to our first quarter 2003 conference call.

Speakers on today's call are John McAdam, President and CEO and Steve Coburn, Senior Vice President of Finance and Chief Financial Officer, Jeff Pancottine, Senior Vice President of Marketing and Business Development, Brett Helsel, Senior Vice President of Product Development and Chief Technology Officer.

Steve Goldman, Senior Vice President of Sales and Jullian Ames, Senior Vice President of Business Operations are also on hand and will be available to answer questions during the Q&A period.

Steve Coburn will begin today's call with the review of the financial results for the first quarter and our current outlook for the second quarter of 2003.

Next, John McAdam will review the company's operations during Q1 and discuss F5's current business strategy market position, recent customer wins, and acceptance of our new products.

We will then open the call up for questions.

Before we begin, let me quickly cover a few preliminary items.

First, if you do not have a copy of our our press release, you can access the release and related documents on our website, www.f5.com.

Second, an archive version of the live web cast will be accessible from our website through February 2nd.

From 4:00 today, you can listen to a telephone replay at 800-642-1687 or 706-645-929.

The conference I.D. for replay is 7304571.

Except for the historical information presented, our discussion contains forward-looking statements which include words such as "believe, anticipate and expect".

These forward-looking statements involve risks and uncertainties that may cause the company's actual results to diffe materiallyr from those expressed or implied statements.

Factors that may F5's results are summarized in our quarterly release and described in detail in our SEC filings.

If you have follow-up questions after today's call, please direct them to me at 206-272-6571.

Now I would like to turn the call over to Steve Coburn.

Thank you, John.

The first quarter of fiscal 2003 was another solid quarter for F5.

Revenue of $27.1 million was in line with guidance of 26.0 to 27.5 million we provided on our October 29th conference call.

Net income of $520,000 or 2 cents per share was better than our guidance of break even to a loss of 2 cents per share.

Our results benefited from further improvement in gross margin as well as operating expenses coming in at the low end of our projected range.

From a geographical perspective we saw a return to normalized historical trends with 70% of our revenue from North America and 30% from international markets as compared with 74% and 26% respectively in the prior quarter.

Sales of new products help boost revenue from application switch base products to 54% of total systems sales.

For the quarter, systems sales accounted for 67% of total revenue with service and software accounting for 28% and 5% respectively.

Increased service revenue for the quarter was attributable to continued success in selling renewal maintenance contracts to enterprised customers.

This was offset by lower product revenue principally in North America.

We did see less Federal business than in Q1 as a result of the previous quarter being the end of the Federal fiscal year.

Further we saw an expected quieting of sales activity in the last two weeks of the holiday period.

Moving down the income statement, gross margin for the first quarter was 77%, a point above the top end of our 74 to 76% target range and 7 basis points better than the 76.3% we reported last quarter.

The increase from the prior quarter was due primarily to change in mix and lower services expenses.

Total operating expenses were $20.6 million, at the low end of the our 20.6 to 21.1 million guidance.

Looking at the balance sheet, accounts receivable DSO ended the period at 64 days, better than our 65 to 70 day target.

Inventories ended the quarter just below $300,000 reflecting our continued aggressive management of this area.

That said, our intention is to increase inventory levels going forward.

More on that later.

Cash flow of $2.7 million represents the 7th consecutive quarter of positive cash flow from operations and helped boost our cash and investments to $85.2 million at quarter end.

As indicated on our balance sheet for the quarter, an increase of approximately $22 million in long term investments reflects the movement of a portion of our cash and short term investments into interest bearing securities with maturities that exceed 12 months in duration.

One final note related to the balance sheet, during the first two weeks of January, Nokia which currently owns 2.4 million shares or 9.4% of outstanding shares declined to exercise its third and final option to acquire up to 10% of additional equity in F5.

Our OEM and technology agreements with Nokia are unchanged and we continue to work closely with Nokia on both fronts.

Moving on to outlook, although revenue visibility remains limited, we believe that end user markets have begun to stabilize.

Within this context, our outlook is for modest sequential growth and improving profitability.

For the second quarter we have set a target revenue range for 27 to $28.5 million.

We expect the gross margin to remain at current levels within a range of 75 to 77%.

Operating expenses are currently targeted in a range of 20.7 to 21.0 million.

Our Q2 earnings target is a profit in the range of 2 to 4 cents per share.

We expect DSOs to be in the in the range of 65 to 70 days.

As previously noted we expect inventory levels to increase over time to a target range of 1 to $2 million.

At the same time we believe our disciplined asset management will continue to enable us to generate positive cash flow from operations.

With that, I will turn the call over to John McAdam who will discuss the key operational issues that contributed to our Q1 results and will provide further details about our outlook in Q2.

Thanks, Steve and good afternoon, everyone.

As Steve indicated in the financial detail, we started our fiscal 2003 with a pretty solid performance in the first quarter.

Obviously it is great to return the company back to profitability in a very challenging environment and as Steve indicated, we made continued progress in nearly all of the P&L and balance sheet metrics.

The company's focus for the remainder of the year is revenue growth wealth maintaining profitability, continued market share growth and technology leadership.

I will comment on our plans for revenue growth later in the call, but let me give you some more details on Q1 just finished.

We had some really good competitive wins last quarter, in particular, we had some really good strategic wins against Cisco on Fortune 500 accounts where the purchases were not just transactional but reflected a decision to implement standard traffic management solutions throughout their organizations.

For example, wins to brand new customers like Boeing and Merrill Lynch totalled nearly $1 million in a quarter.

We also had some wins at Ratheon, Intel, E-Bay, China Unicom, Volkswagen, the Hartford, Chang Lu in Taiwan, Deutsche Telecom and Ericsson, just to name a few.

The new products just announced in late October were very well received by the customer and prospect base.

The new application traffic management functionality included with the universal inspection engine, proved to be a key differentiator in many competitive situations in the quarter.

The capability of the universal inspection engine to direct, to persist filter or switch on any piece of application data in the header or tail order of the packets, allowsour customers and solution partners to optimize their application across the internet.

The universal functionality allows our iControl partners to produce even more sophisticated network solutions for their applications.

Our iControl partnerships leveraged approximately 20% of product revenue this quarter and we believe that percentage will increase over time.

A number of our customer wins that I talked about earlier chose F5 because of a superior application solution they got from applications like Microsoft.net, Siebel, BEA, Web Logic and Oracle when combined with our products via iControl.

Now, with our newly announced solutions center, we can actively demonstrate our solution portfolio to prospective customers who want to optimize their application solutions deployed over the internet.

We can demonstrate added value such as mission critical high availability, security, and improved return on investment by taking perspective customers through our solutions center demos.

Getting back to the specifics of the Q1 results, from a geographic perspective we saw our product sales in North America slightly weaken in the previous quarter mainly due to reduction in Federal sales after a very strong September quarter which, of course is the year end for federal budgets.

From our growth perspective we slight sequential increase in Imia, Japan and the rest versus the previous quarter.

The services revenue continued to grow nicely as the revenue bounds from enterprise customers increased and the usage of our product becomes more mission critical.

The software revenue from Dell and Nokia was essentially flat quarter to quarter approximately 5%, though the resale business from Dell is increasing on a quarterly basis.

Blade Service Software business was still pretty light for the quarter but we do expect that revenue opportunity to increase this current quarter and to grow slowly but steadily throughout the year.

We continue to make progress in our efforts to build the channels for reselling the Blade Software including an agreement with Fujitsu Seimans to include an image of our software preshipped on the Blade and available as an item on their standard price list.

We have also agreed on a distribution strategy with CDW, to ship software service with Shiatsu sales, and we are working with Dell to utilize their standard order ready manufacturing process to ship our Blade software to the customers.

There is just one other item I want to draw your attention to before I comment on our business outlook.

You may have seen the press release we issued yesterday on real world performance test we did via an independent test lab to compare our newly released application switch product with our competitors.

If you have not seen it, then I think it's worth getting hold of.

It's on our website and clearly demonstrates our significant performance advantage over the competition in both the LEA4 and LEA7 environment.

We have always had a significant lead in LEA7 application functionality.

This announcement clearly demonstrates our performance advantagesas well.

Okay, as far as the business outlook is concerned, we do believe we can grow the top line staffing this quarter.

As we said in our earnings release, we see revenue in the 27 to $28.5 million range with EPS in the 2 to 4 cent range.

We expect to see a contribution from the growth from Blade Service Software this quarter, albeit still modest, as well as some sequential growth in most of the geographies.

We also expect to see modest sequential growth in our service revenue business, as our large enterprise customers deferred revenue balance expands.

Obviously, we are still concerned over the tight technology spending environment as well as the concern of global issues-like Iraq but we do believe modest revenue growth is achievable as we leverage our new product range, the expanding applications of controlling traffic management, the mobile internet expansion opportunity, security requirements, Blade service shipments and growing web services applications.

I will now hand the call over for question and answer.

At this time, if you would like to ask a question, please press star then the number one on your telephone key pad.

We will pause for just a moment to compile the queue.

Your first question comes from Alex Henderson with Salomon Smith Barney.

I didn't catch a book to bill rate or employee head count in the commentary I was wondering if you talked about the linearty in the quarter and if you are seeing improvement in your deal closure rates.

I think there has been a betting of the order book at a lot of companies.

Can you give us a sense of whether you are seeing a change in the ability to actually land the deals that are in the pipeline?

Okay, Alex, it's John here.

Let me answer the linearity and the deal closure rate.

And, Steve, if you can get the employee head count and the book to bill.

On the linearity, actually, the quarter started out pretty strong, in fact October and November, and the beginning of December were actually pretty strong.

In fact were stronger than the previous quarter.

We did see some slowness between Christmas and New Year.

So we did absolutely see some slowing.

But it was pretty similar to previous quarters.

There wasn't any big material differences.

And again with the deal closure rate, I haven't seen much there actually.

Much the same it's been over the last year and a half.

Still difficult to actually close the business as budgets are tight.

Our competitive win rate very, very high. and is tending to get higher especially as the customer evaluates our product.

Yeah, book to bill, we read about one which is very typical.

We have very little back log in terms of our product shipment and head count for the quarter was 475 heads, which is comparable to 470 at the end of last quarter.

Thank you.

Your next question comes from Troy Jensen with Doras.

Hello, gentlemen, first of all, congrats on the nice quarter.

John, did you mention what percentage of sales came from iControl related products?

What I said was 20% of the product revenue, approximately 20% of the product revenue.

And then how about on back of the analyst, you spoke about integrating some of the product line with intrusion protection systems, I didn't hear any thoughts on that.

Yeah this is Jeff , you are talking about the interface between the iControl and other devices and we have the dynamic security control architecture, which allows things like intrusion detection systems.

We have done a lot of work, especially at the application level in application fire walling and intrusion detections with companies like Sanctum, for instance and have won joint customers based on that architecture done a fair amount of web and seminar activity as well.

That seems to be going quite well.

Great.

Thanks.

Your next question comes from William Blakley with Commerce Capital Markets.

Hi, thanks.

Could you talk a little bit about going forward as you think about putting your revenue model together?

Could you rank in order the importance of the various items which you think would be the drivers of your revenue growth going forward?

Okay, I kind of alluded to that toward the end of my opening introduction.

I mean the key driver for us is the use of the internet we shouldn't lose sight of that and that is a growing phenomenon.

The thing we focused a lot on over the last couple of years and it has gotten more intense over the last six months and focusing on major accounts and winning business in major accounts where the transaction values starts to get to 100,000 and in some cases $1 million area.

Focusing on major accounts with internet expansion is key.

Getting more specific, Mobile has become a reasonable percentage of our business, running between 5 to 15%, depending, there in the quarter.

Web services, as you see more and more xml application to application traffic is another area.

I mentioned the Blade service potential that we talked about for awhile that has been slow but is definitely coming.

And obviously the security aspects that we talked about where we will know the iControl talking to the security solutions and optimizing them.

The whole area of the new product range with the brand new products in our last quarter where we put more of a wider range, we now have the fastest product in the market.

We weren't in that space before.

And obviously the entry level 1,000, and then the whole area of application management.

The opportunity there is that we get repeatable-type applications because we can do much more in terms of looking at the content of the data.

Thanks.

Can I do a follow on?

Yeah.

My follow on would be SSL acceleration.

That's a feature you had built into your platforms.

You haven't mentioned it much in this call is that contributing to your wins?

Do you expect that to be a bigger factor in the business going forward?

This is Jeff.

It definitely is.

In fact, we are seeing more and more deals requiring ssl.

As you know, we have SSL built in every one of our ip applications which is -- and we had add-in cards for server appliances.

The number of systems going out with SSL was in excess of 75%.

We actually seeing that going up.

And we should have commented on it.

Actually it is a very big component of the feature set as to why people choose F5.

Do you worry that, sorry, I'm getting a little echo.

Do you worry that that feature gets incorporated in things such as fire wall VPN's .

People are trying to take that functionality out of your box and on to another box?

No, actually the traffic management devices where a lot of SSL termination happens on a VPN box today it's usely using ip sect.

Some are using SSL for remote VPNs.

But that's not in replacement on what goes on the actual traffic management device.

The other piece of data is that in phonetics puts out the market statistics for SSL, we were the leader for multi-purpose devices with 75-76% of the market.

And the feedback we were getting from our customers is more and more demand for performance capability in SSL.

That is very very much part of the product road map.

The thing -- this is Brett.

The thing I would point out is the reason to do SSL encryption on the traffic management, it only makes sense there other than the server, one it's cheaper to do on the traffic management devices because the cost of management is significantly less expensive.

Plus, on the traffic manager, the reason is to look for the cookie or the unique identifier like in our universal inspection engine where we can look for any type of identifier that the customer defines within the application and based upon that we make a traffic management decision.

Now, the ability to look for the cookie, the ability to look for the cookie inside of an SSL session is something that we have been granted numerous patents on this year.

So only F5 has the ability to do traffic managment or make traffic management decisions based on information we find in an SSL session based on a cookie.

This is why you won't find the fire walls in the VPN.

I appreciate it.

Thanks.

Your next question comes from Chris Seth from Wells Fargo

Good call.

I got a few questions.

Wondering if you can talk about, you mentioned Boeing, Merrill Lynch, Rathion, Intel and others, do you know what percentage of the internet traffic revenue that you are capturing?

Can you qualify that?

For instance, are they using a dual source?

Are you capturing -- are you and Cisco the two vendors that are in there and have a 50/450 split, 25/75?

How would you characterize those relationships?

I think the way we look at it and John talked earlier about our focus on global and strategic accounts is where we have been able to become the official or unofficial standard.

And depending on the company, like Boeing or Merrill Lynch they have a very detailed process and once you become the official standard, then you get built in as the specs for not only all traffic management solutions moving forward, but then eventually as they replace existing infrastructure.

Merrill Lynch is a good example of where we replaced old Cisco product that was in place as well as being the spec moving forward.

So that's one of our goals is to really become the standard in as many of the global 1,000 as possible so we get as close to 100% of the internet traffic flowing through our systems as possible.

And in terms of what percentage we got, really difficult to answer.

Quite frankly it depends when we got the initial order from that customer and how successful we were or we are at winning more and more projects.

And companies like GE, for example, where we won a lot of projects over a period of 12 months and companies like Fidelity and Bank of America, we got a reasonably high percentage.

But companies like Boeing and Merrill, which are brand new, we are in the start-up phase.

Okay.

Cisco has introduced SSL and doing it on a Blade in their product.

Do you see that as any sort of competition as opposed to your built-in approach?

You are talking about the CSM product and it's-- it's a blade that goes into a catalyst switch the modular switch.

It's an add-on.

We don't see it as competition.

It's a very expensive solution compared to ours.

And it's meant for being inside of a very large switch.

So the pricing difference between what we supply and what they supply is significant as well as the performance difference that we provide relative to Cisco is pretty high.

You can see some of that in the press release we put out yesterday.

Ok.

And then since you brought up chassises, can you give us an update on the chassis product in Montreal, I believe?

Sure.

As you know we delivered our second round of switch based products in November, including our new A-6 base switch and we are looking to deliver next year's switches.

We will see one more version of switches that will be capable of approaching the 10 gig capacity and then the chassis base will follow that in 2004.

Okay, so, one more round of fixed port before moving into the chassis?

Yes.

Because -- one of the things that we have done that was a smart bet was we didn't develop our own fabric.

We have been using the commodity fabric approach and putting the technology into the software.

That has given us a very economical performance pass such that we can get into the 10 gig space without a chassis this year because of costs and technology movement within the chip industry and we will be delivering the chassis base following that.

We will be all architect and plumbed this year and we will make the chassis approach next year.

Just a couple of qualifications here, when we deliver the chassis, we will still be delivering fix switches at the same time.

We will be selling those.

If you look at the market today, about 70% of the market is fix devices and 30% is chassis base.

Within the fixed devices, we have the leading market share with about 30% of the market today when you add our server appliances and ip application switches and then the modular switch, Cisco has the lead because of the catalyst.

Right.

So it's an add-on to the product line?

Exactly.

Okay, thank you.

I will let someone else ask a question.

Next question comes from Preston Rayson with Rayson Capital Management.

Hello, can you hear me?

Yes.

Question, I am curious about the DSO, 65 days, the quarter is linear, it seems to me, you're down slightly but DSO should improve.

Then also internet traffic is growing roughly 30% a year right now.

It seems to me it's a high number, it is maturing.

And in that growth, I would think you would see, you know, for sure kind of higher ISPs, more units, I would think you would see more growth.

If you can tackle those that would be great.

Just a quick one on the DSO, we did in fact, see improvement this quarter from 68 days last quarter to 64 days.

This quarter principally off collection activity.

This is Jeff.

On the growth rate on traffic, traffic is growing, but I think what you are seeing is a phenomenon in the market economy is that people have stopped purchasing as much capital equipment as they did.

It's a different environment.

The utilization rate for technology are higher in terms of their thresholds now.

You are seeing a lot of traffic being supported by similar amounts of network equipment and actually the good news out of that is that at some point in time the thresholds become difficult to manage and new equipment has to be purchased.

So the network traffic is growing, but people are still hesitating because of the economic situations and we all see that in the market today.

So go back to the DSO. 64 days is kind of industry average for your phase?

Well, 64 days is probably the best DSO stat that we have seen in a number of quarters.

Our DSO has been improving over time.

We are pleased with the outcome and I think in the near term we will be around that range.

We give guidance of 65 to 70 and I think that's likely to be our natural range for awhile.

Thanks.

Your next question comes from Matt Marduscus from First Albany.

Thank you, two questions, first of all, it sounds like your visibility going from the first quarter, seems like you are feeling more comfortable with that.

Trying to figure out exactly what is that?

The pipeline has gotten better.

You are getting something off the revenue?

And additionally from breaking down from the services and the product standpoint, the services seem to pick up which in that with the gross margin standpoint on surfaces how did you save a little money for better utilization or something like that?

Let me answer the comfortable question.

Interesting, when I do sales reviews and business reviews with Steve Goldman, our Sales Maager, I don't let him use the word comfortable.

Yes, we believe when we look at our pipeline of business and we look at the service arena where we are and in terms of the deferred revenue, it's the product pipeline and we look at it from a geography perspective, we use the same technique has we used for previous quarters where we have been reasonably accurate that we see modest growth but that's the answer.

Very tactical, all about understanding the business and getting deep into it.

There is nothing specific.

No one event that making out the case.

What was the other?

Just answer the services questions in a second.

On the cost on services which was one part of your question, there is no one single area that's changed dramatically.

When I look through all of the lines across the countries, everything has come down the team has worked on various contracts to push costs down, control t and e and so on so it's just good discipline across every line.

And on the revenue side, we started seeing growth couple of quarters ago in North America.

That growth is continuing and we are seeing the same in Amir and Japan and we believe that will continue to go forward.

Thank you.

Again, if you would like to ask a question, please press star and then the number one on your telephone key pad.

We have a question from Eric Seveeger with Pacific Growth Equity.

Hello.

First of all could you talk about your new products, the new switches that you came out with this quarter?

Can you give us a sense for what kind of uptake you had during the December quarter and maybe you would be willing to give us a feeling of what contribution they represent in the March quarter?

This is Jeff, again.

The new switches actually went out the door really well in the quarter.

The acceptance by the prospect base in the current customers was great.

The 1,000, that's the low-end product was over subscribed.

The 5100 and 2400 met our expectations, in fact we are slightly ahead of it.

And I think Steve mentioned it was -- the ip switches were 54% of product revenue versus the server appliances so 54 and 46 in terms of the mix.

We see the ip application switch mix growing up to a certain level, maybe 7% over time.

There is a set of folks out there who want server appliances and don't want the switching port capability.

The 1000 will help move that forward because now we have a price point at the low end with switching capability which actually we are hoping can help expand the market for us in the low end.

Okay.

In terms of the older -- your older 2000 and 5000 products, are those being end of lifed with the new products that have been brought on?

No, not at this point because we have lots of major customers who standardized on them.

If you look at the big global accounts.

The process they go through is they evaluate, purchase and standardize on a certain configuration and today it is 5,000 and 2,000.

Until they go through the process of recertifying the new platforms, we will continue to sell the platforms and there is still a market for them.

And with the 1000, can you give us a sense for how much cannibilization you might be seeing of the appliances versus how much of that could be incremental given that it's a new low-end product?

I think that it was a little hard to tell this quarter because we just started shipping, obviously.

But certainly at the low end where we have like low-end server appliance.

The 1,000 will basically displace some of that.

But the cannibalization is very minimal.

Most of it is in new prospects and new opportunities.

We see the 1,000, as Jeff said, as a new prospect, new opportunity and also as a door opener for the rest of our products.

It's important because of its -- the fact that it's a low entry level price.

If it were actually cannibalizing heavily, you would have seen the mix rate be much higher than 54%.

What was the mix rate last quarter?

About 45-46%, somewhere in there.

Okay, and then little bit on a different note.

Just looking at your distribution and primarily your reseller channel, have you been making any notable changes in the North American resale or base to target or to better suit the large enterprise accounts, the global accounts that you have been going after?

Have there been any real changes in terms of your strategy there?

Hi, this is Steve Goldman.

One thing you will see is the percentage of North American business through the channel will continue to increase.

And the strategy has been to add to the traditional network reseller channels that we had and to take advantage of the relationship we had with companies like Dell and HP and add server channel partners to that mix.

In addition to the iControl initiatives we have going on, Oracle, Microsoft, et cetera, so all of those things are geared towards the enterprise customer base and I think will continue to both increase the breadth and the it depth of our channel and ability to sell to them.

Last question, in terms of the competition you are seeing from Cisco, is it primarily related to the CFS products or how much of the catalyst modules are you seeing at this point?

Most of it is the CFS product.

And quite frankly we decimate them in performance capability.

If you look at the press release, just to quote some of the statistics, at layer 4, we are over a 1,000% faster and less expensive.

It's pretty dramatic.

Obviously, the catalyst side is a modular switch and people need or want a modular switch or adding to that we don't compete there necessarily.

But in the CFS stage, we compete very well against the css products.

They came out with a new release of the products and already we are way outperforming them.

Thank you, very much.

Your next question comes from Allen Davis with Mac Adams.

Yes, hi gentlemen just a couple of quick questions.

You mentioned that government business being down during the quarter.

Can you give us more flavor on your vertical markets.

Any trends would be help -- helpful.

Expect growth in most of your geographies.

That begs the question, which geographies will be weakened in the current quarter and also the universal inspection engine, is that driving a significant amount of wins yet?

Wanted more color in terms of actual wins you are getting with that and what your expectations are going for in terms of competitive advantage.

Let me answer the geography question.

I did say most of the geography you are right to pick on that.

We are currently looking and remember these changes are through the quarter.

Overall we see growth.

North America we are currently at an assumption it's going to be flat to maybe slightly up.

And the other regions we are forecasting upwards.

In terms of the verticals it's been consistent.

Financial services is the largest around 20%.

We talked a lot about the U.S.

Federal Government vertical which is around 10%.

That's the built in seasonality where September is the peak and then builds steadily through the rest of the year.

We do a lot with Telco ISP, Mobile which is 10% and duel relationships with a lot of those companies where Ericsson or Deutsch might resell products in addition to a lot of the other ones which are end users like Sprint.

And then other assorted verticals like transportation, media, it, each are around 5% and household names within each of them.

No big changes in the quarter other than the government business?

Correct.

On the universal inspection engine, definitely drove business.

We had an oversubscription, over 30 people in the data process to get their hands on the capability.

There is a webcast there on our site about application traffic management and customers and partners and others talking about what they are doing or plan on doing with universal inspection engine.

Just to get a feel for it.

Great.

Thanks.

your next question comes from Grant Graceland with Pacific Crest Securities.

Just wanted to follow-up on a question on the install base.

First question would be are you seeing any interest from the install base and actually upgrading to the new Big-IP software where you have the capability.

Second question would be can you quantify the product revenue mix where folks are actually doing application traffic management today versus kind of internet traffic management.

Question two-- question three, more from a high level perspective, we have seen roughly in the last year SSL go from a future now to a driving 75% of the product revenue.

Is that the same type of way we should look at application management?

Or would that be more of another leg to the growth story for F5?

And the last question, would be a follow-up on the services gross margin and if, indeed, the question would be would the lower services cost in the quarter be sustainable kind of going forward?

Basically on the upgrade, Grant, everybody who is on a maintenance contract gets the new release of the software basically.

We had about 500 downloads so far.

How large is installed base?

Well, 4,000 customers.

And over the years we shipped to over 22,000 Big-IPs.

Remember, certain machines, old machines that are out there couldn't run this software.

Those would have to be upgraded.

Some people are just using it as a layer 4 switch and that's fine.

So the acceptance rate on it is high.

But it does come with a maintenance contract.

People get it for free if they are on maintenance.

I think it's something that's going -- it's not going to be a sudden switch over.

It's a very lengthy application and as customers realize and learn more of the capabilities, they will gravitate toward it.

We have a very big customers up here last week we showed them a product road map and they were taking copious notes.

And they can you do this and do that?

It's that type of thing.

Sounds like we were in the early stages.

Would it be safe to say less than 5% of the product mix is actually enabled than being used to manage application traffic or internet traffic?

The current product is enabled. 100%.

In other words every box that goes out the door from F5 has this capability.

Your question is more to the installed base.

What you have to look at is how old is the box that they have.

So like I said, we had about 500 downloads so far.

Again, it's only been a couple of months.

It's too soon to give you a number yet rather than a profile, it really is.

Fair enough, and then on the gross margins, on the services side, is that a sustainable level? 70% or where you see that kind of more normalized over the course of the next year.

This is Steve.

I think what we see is essentially over relavent range of activity and we got more services revenue this quarter you saw a lift in our services gross margin.

At some point we will be adding more resources into that service delivery mix.

I think we are probably close to optimizing it for the current relavent range.

As we grow, it will likely be down more towards historical levels.

We have still been running 60 to 70% service margins.

It's likely going to be in that range for the foreseeable future.

Congratulations on 2 cents in the quarter.

you have a follow-up from Chris with naubl.

I will take another shot here.

Looking at the blade server market, it's been slow to develop.

Can you talk about what you are seeing there?

Who is shipping them?

What type of numbers you seeing?

Yeah, hp and compact took the lead in terms of shipments and that's still the case.

Dell we started doing beta test towards the December time scale and just a recount what I say was working with them it get their order ready, process going so that we can start to ship from the factory.

So we will see -- we should see some a few orders this quarter from the Dell stream.

Fujitsu Seamans, we know actually installed within a blade software is on that, again that was done this month in January.

So I know it's frustrating, it's early, but over time, I think it will be an aappreciable revenue stream.

IBM, we haven't started it yet.

Probably toward the end of this quarter and second quarter before we see anything there.

for all intents and purposes it's zero at this point.

Not zero.

What I say to be specific, it was small last quarter.

We did take orders and this quarter we expect to see growth and I think albeit modest but start to count towards the numbers.

Did you get feedback from those that are shipping as to what percentage of the servers are utilizing your product?

Not yet.

It's too early.

Thanks, guys.

You have a question from Alex Kurtz with Thomas Weizel Partners.

Quick question about your channel and strategy to move upstream with larger enterprise accounts.

If you look at the channel today and your sales force, is it a direct touch model where they are generating the leads and if not would you consider doing that as you move into larger enterprise accounts?

One of the things we did at the beginning of the fiscal year in October was we launched a new team of folks we called global account managers.

And they typically have a longer time horizon and more strategic objective.

So they call on named fortune account and their goal -- as we were talking about earlier, helping us become the standard in those accounts.

They work in partnership with the F5 geographic sales force and then by extension in our channels so we can get the coverage in far off places.

And had great success so far.

That's why we have so many of these accounts that have been standardized on us that you can appreciate big accomplishment versus Cisco is already entrenched there already.

And we will keep building that as we continue to see the success there.

Sounds like the geographic sales force has the greater responsibility of driving sales and those accounts?

The idea specifically with the largest customers is that you have this teaming effect where individual or team focuses on getting to know that account well and maybe that -- they are based in New York where it's headquartered but then they work with folks in China and Europe to cover all of the other divisions in addition to leveraging the big partners we already have to effectively cover those accounts.

So the geographic folks still drive the lion share of our business globally and will continue to do so.

But this is meant to raise the bar and increase our results with the growing number of the big worldwide corporations.

You have a follow-up with Allen Davis.

One quick question.

I want to get more granular on your revenue guidance for the current quarter and expectations in regard to service revenue versus product revenue in the current quarter?

I will start and Steve can add his comments.

Last quarter we say the range was 26 to 27 1/2.

This quarter we are seeing the range is 27 to 28 1/2.

Last quarter the service revenue growth was more substantial than we expected it to be this quarter.

When I listed where I could see the revenue growth, I mentioned service but I said it was on the modest side.

It's not going to be the same jump as it was the last time.

So almost by definition you will see the product revenue and the geographies going up.

If there is no other question I think that's the end of the call.

Maybe take one more question or are we finished?

There are no further questions at this time.

Thanks for listening and talk to you next quarter

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