F5 Inc (FFIV) 2006 Q4 法說會逐字稿

Good afternoon.

Welcome to F5 fourth quarter conference call. [OPERATOR INSTRUCTIONS]

I'd like to now turn the call over to Mr.John Eldridge, Director of Investor Relations.

Thank you, sir.

You may begin.

Thanks, Angie, and welcome to our fourth quarter fiscal 2006 conference call.

Speakers on today'scall are John McAdam, President and CEO, Andy Reinland, Senior VP and Chief Finance Officer.

John Rodriguez, Senior VP and Chief Accounting Officer, Julian Eames, Senior VP of business operations and global services, Tom Hull, Senior VP of worldwide sales, Dan Matte, Senior VP of marketing, Karl Triebes, Senior VP of product development and CTO, are also with us to answer questions following our prepared comments.

If you don't have a copy of today's release, it's available on our website, www.f5.com.

In addition, you can view an archived version of today's live webcast -- listen to an archived version of today's live webcast from the events calendar page of our website through January 24th.

From 4:30 p.m. today until 5:00 p.m. pacific time October 26th, you can also listen to a replay at 866-484-4215 or 203-369-1593.

Ask code for the replay is F5 earnings.

Before we begin, I want to remind you that our discussion today contains forward-looking statements, which include words such as believe, anticipate, expect, and target.

These forward-looking statements involve risks and uncertainties that may cause our actual results to differ materially from those expressed or implied by these statements.

Factors that may affect our results are summarized in our quarterly release and described in detail on our SEC filings.

Please note that F5 has no duty to update any information presented in this call.

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

Now I'll turn the call over to Andy Reinland.

Thank you, John.

Fiscal 2006ended on a strong note.

Revenue of $111.7 million was above our guided range of $104 to $106 million and up 12% sequentially from $100.1 million in Q3.

Year-over-year, quarterly revenue grew 39% and annual revenue of $394 million grew 40% from $281.4 million in fiscal 2005.

Before I proceed with further discussion of our results for the quarter and the year, I want to summarize the status of the review into F5's option practices.

As reported in today's release, the special committee looking into the Company's stock-option practices has substantially concluded its inquiry and issued preliminary findings that the recorded grant dates for certain stock options granted during the fiscal years 1999 through 2004 should not be relied upon as the measurement date for accounting purposes.

We are currently conducting an analysis, in conjunction with the board's audit committee and professional advisers, to determine what adjustments need to be made to our historical financial statements.

Based on the analysis to date, we anticipate that we will be required to record additional noncash stock-based compensation expense of up to $30 million and will restate our financial statements accordingly.

We do not expect any of these adjustments to affect our cash position or previously-reported revenues.

As soon as we have identified all necessary adjustments and completed all restatements, we intend to file our Form 10-Q for the third quarter of fiscal 2006, which has been delayed pending the final outcome of the special committee's inquiry.

We anticipate that the restatements will be completed in time to file our Form 10-K for fiscal 2006 by the required deadline of December 14th.

Until we complete this process, we are unable to publish our financial statements for the quarter and the year just ended.

Costs related to the inquiry during Q4 were roughly $5 million, at the high end of the $4 to $5 million we had anticipated.

We anticipate additional expenses related to the options inquiry in a range of $2 to $3 million, the majority of which has already been incurred.

I will now discuss the results we can report for Q4 and fiscal 2006, provide limited guidance for the current quarter and summarize our expectations for the year ahead.

Year-over-year, we saw strong quarterly and revenue growth across all geographic regions.

During the quarter, revenue grew sequentially in all regions, except EMEA, which reflected seasonal slowness in Europe.

For Q4, the Americas represented 57% of overall revenue, EMEA accounted for 17%, APAC, 12%, and Japan, 14%.

Product revenue in Q4 represented 77% of the total mix. with service accounting for 23%, comparable to the prior quarter.

Deferred revenue increased 13% to $60.3 million.

Book-to-bill was greater than one.

Total revenue from security products was approximately $8.7 million, up 21% from $7.2 million in Q3.

WAN optimization revenue was $1.7 million in Q4 compared to $5.4 million in Q3.

Total WAN revenue for fiscal 2006 was $9.4 million. within our guided range of $8 to $10 million.

John will provide more information about our WAN optimization business during his remarks.

Excluding security and WAN optimization, Q4 revenue from our core business grew 16% sequentially and 41% year-over-year.

For fiscal 2006, revenue from our core business grew 40% from the prior year.

During the fourth quarter, Ingram Micro and GE Access were our only greater than 10% distributors, each contributing 12.6% of total revenue.

Turning to the balance sheet.

At quarter end, we had $492 million in cash and investments, an increase of $39 million over the prior quarter.

We ended the quarter with $5.8 million of inventory.

Accounts receivable DSO ended the period at 51 days, consistent with the prior quarter.

And we ended the quarter with approximately 1,070 full-time employees, an increase of 60 employees over the prior quarter.

For the Q1 outlook -- for Q1 ending December 31st, we expect revenue in a range of $116 to $118 million.

We are targeting DSOs at or around 50 days.

To support our revenue growth targets, we plan to increase inventory levels to a range of $6 to $8 million, and we expect to add 80 to 100 employees during the quarter.

For fiscal 2007, we anticipate seeing sequential quarterly revenue growth through-out the year, driven by strong growth in our core business and modest growth in security and WAN optimization.

We expect gross margin to be at historic levels, in the upper 70% range.

We plan to increase our investments in product development, sales and marketing to capitalize on the growth opportunities in all of our business segments.

Consequently, we expect our operating margins, excluding stock-based compensation, to trend to the high 20% range.

John will have more to say about our plans in his comments.

DSOs should remain at or around 50 days.

Capital expenditures are expected to be approximately $4 to $6 million per quarter.

And based on current market rates, we expect to earn approximately 4.5% on cash and investments.

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

Thanks, Andy, and good afternoon, everyone.

I will take some time to cover some of the many highlights of fiscal year 2006, talk in some detail about the Q4 results, and then comment on our outlook and key initiatives going into fiscal 2007.

The F5 team should proud of our progress and achievements in fiscal 2006.

With our Q4 performance, we have now delivered sequential revenue growth every quarter for almost four years. 40% annual revenue growth in fiscal 2006 has resulted in F5 being the clear leader in application delivery networking.

As we move into fiscal '07, our balance sheet is very strong, with almost $0.5 billion in cash investments and no debt.

We continued to gain market share in fiscal 2006 in our core application delivery controller markets.

The latest figures from Gartner show F5 as the clear leader, with 34% market share versus our nearest competitor, Cisco, with 27% market share.

We're also the clear leader in the Gartner [inaudible] quadrant for this market in terms of ability to execute and completeness of vision.

We increased our addressable market in 2006 with the acquisition of Swan Labs, bringing WAN optimization and web acceleration products into our portfolio.

I am especially pleased with the acceptance of our strategy in the marketplace.

We enter 2006 determined to leverage our traffic management operating system, TMOS, which we believe occupies a key architectural position in the overall application delivery real estate.

TMOS' unique ability to consolidate application layer solutions on a single platform has been a key reason for our success last year, and has allowed us to drive forward with our hybrid system software business model.

Last year, we added software module solutions to TMOS, including Global Traffic Manager, Link Controller, ESM, our application security manager, and more recently our WebAccelerator product.

Previously these solutions could only have bib implemented by purchasing stand-alone hardware appliances.

These features, combined with our iRules and iControl capabilities, provide a strong competitive advantage.

Driven by iControl, our partnerships with application solutions providers, should as Microsoft and Oracle, have gone from strength to strength and continue to drive a significant portion of our business, which we expect to continue into fiscal 2007.

Our developer's website, DevCentral, for partners and customers continues to grow, with users sharing best practices and iRules solutions.

At the end of fiscal 2006, we had 11 ,500 registered users on DevCentral, clearly demonstrating the value this capability is bringing to the market.

We continue to be impressed by the sophistication of the solutions being developed using iRules to program application optimization and securities solutions.

We have also seen over 2 ,500 downloads of our recently introduced iRule editor, which makes it easier to develop the iRule solutions.

As far as Q4 2006 was concerned, I was delighted with our performance.

Revenue and sales bookings were strong across all geographies..

We saw strong performance in Japan at the half-year close, EMEA had a solid performance, given the usual summer seasonality, and Asia-Pacific continued to deliver quarterly sequentially growth.

We also experienced very strong growth in North American in all regions, including federal, as well as our enterprise business and Service Provider business.

The one area of disappointment in Q4 was with our WAN optimization business.

Sales were down sequentially from the previous quarter, due mainly to a lot of large deals versus the previous quarter.

It is clear to us that we need to accelerate the transition of our WAN optimization product to run on TMOS to achieve the technology leadership in this market, and I will talk more about that later.

I was pleased with the rebound of our security business in Q4, where we saw some strong project wins with FirePass and TrafficShield.

Our service business once again proved to be very strong, and we continued to increase our service deferred revenue backlog, which bodes well for 2007.

We have made significant investments in our service business over the year, both in terms of head count and in terms of infrastructure.

And we are seeing the results of this investment pay off with increased levels of customer satisfaction.

I now would like to comment on some plans we have for our product roadmap, and let you know about some changes we are making.

Our newest application flagship product, the BIG-IP 8800, is continuing in beta phase and we expect to start shipments in the coming months.

Our current flagship product, the BIG-IP 8400, is clearly the highest performer and most functional product in the marketplace and has been well received by our customers.

The BIG-IP 8800 includes clustered multiprocessing, which is a key subsystem requirement for Montreal, our chassis-based architecture.

We believe the 8800, along with other planned products, will continue our product leadership in application delivery networking during fiscal 2007.

It's obvious to us that TMOS is a key competitor advantage for F5 in all the areas of application delivery and networking.

In particular, we believe that we can gain technology superiority in the WAN optimization market by accelerating our plan to have WANJet running on TMOS.

For that reason, we have reprioritized the roadmap and taken a decision to move more development resources onto this project, effective immediately.

We believe the WAN optimization market will be a lucrative one over the next few years, and it is our intention to gain a leadership position with TMOS as the best platform in the marketplace.

We believe that making applications go fast is a key aspect of application delivery networking.

We have already moved WebAccelerator to TMOS, and by making TMOS the underlying architecture for our WANJet solution, we believe that F5 will have a distinct advantage and a more complete solution than other vendors in the marketplace.

We also plan to accelerate the move of our SSL VPN solution to TMOS, also to take advantage of its functionality and scalability.

This will have the effect of delaying Montreal toward the end of calendar 2007, but we remain confident that our core technology will continue to lead the market in performance and functionality.

TMOS brings more SSL capability, massive scalability, functions like rate shaping and world-class enterprise management facilities, as well as iRules and iControl functionality.

We are convinced that TMOS gives F5 clear differentiation in the application delivery, security and optimization markets, and we intend to exploit that to our advantage.

We intend to hold an investor and analyst meeting in New York, currently being planned for February the 6th, where we can go through these plans in some more details.

Looking forward to Q1 and fiscal 2007, Andy has indicated that we continue to see sequential growth in our business, and I believe F5 is well positioned to take advantage of the continued demand for our solutions.

As Andy also pointed out, we believe we can grow our business sequentially each quarter during the upcoming year.

We also believe we are currently operating in a vibrant overall market and we have every intention of taking advantage of our leadership position, so you can expect us to invest for growth during 2007.

And we have already put those plans in motion with an aggressive recruitment campaign.

I would like to thank the entire F5 team and our partners for the effort and support in fiscal 2006.

And with that, we'll open up for Q&A.

Thank you. [OPERATOR INSTRUCTIONS] Our first question comes from Troy Jensen of Piper Jaffray.

Your line is open.

Thanks for the -- congrats on the nice quarter, guys.

Thank you.

So, Andy, is there any way you can give us color here on maybe what margins look like or operating expenses?

And obviously we'd love to know what a pro forma EPS number looked like here in the September quarter.

I think given the situation with the inquiry, we're still not in a position to give you color around that.

But we do intend, when we wrap this up, to do a call where we'll come out with more specific details so you can put a good picture together.

Should we expect any material changes from, you know, prior quarter expense levels as a percentage of sales?

Other than the additional investment we talked about to invest for growth, which John and I both took care to point out is the plan for next year, I wouldn't expect anything different.

Okay, perfect.

And then how about on the BIG-IP 8400 that was launched in March, typically to carrier-focused sales, so the sales cycles are a little bit longer, give us any maybe what the revenue contribution was, or --

Yes, this is John.

We don't break out the revenue by product,, especially within the functional product line.

But it's been well accepted and, obviously, is at the high end, so it's not that the volume [inaudible].

We had some pretty good examples where we competed against our major competitors and they didn't come close to the competitive -- the performance of the product.

So, you know, I think this -- it gives us real product leadership.

Okay.

Last question and I'll get out of queue.

You talked about accelerating the delivery SSL VPN and WANJet modules, but you didn't really give a timeframe.

Do you expect in maybe Q1 of calendar '07, or is it going to come out yet this year?

We're targeting -- this is Karl speaking.

We're targeting the release of both the FirePass on TMOS, as well as the WANJet running on TMOS toward mid next year, summer timeframe.

[Next two] was always first half of calendar year, is that correct?

It's, well, summer.

So I'm going by calendar year, yes.

And the priority is going to be WANJet, because we think that market in the short term is obviously pretty exciting, so we're going after it.

Understood.

Keep up the good work, guys.

Thank you.

Thank you.

Matt Robinson, your line is open.

Please state your company name.

It's Ferris, Baker Watts.

First housekeeping, can you comment on cash from options?

No, we're not --again, with the situation we're not going to be breaking out specifically either cash from options or cash from operations.

The -- I might have missed it, did you comment on DevCentral user numbers?

No, but--

I did, actually.

Oh, you did?

I'm sorry.

Yes, it was -- at the end of the fiscal we had over 11,500, which obviously we're very happy about.

The other thing I said was we introduced a new iRule editor which allows customers and partners to effectively write iRules easier.

And in a pretty short space of time we had 2,500 downloads of that, which is obviously very encouraging.

Yes.

Did you have to pull any of the WANJet products off the market?

That's kind of a dramatic change there.

No.

Anything like that going on?

We had a product fault you had to deal with?

No, we didn't.

Again, what I said in the script -- you may have missed it -- that really it was a combination of big deals versus not having big deals, but we've actually added to the functionality.

Yes, we're still cont -- this is Karl speaking again.

We're continuing to still build on the current code base to push forward with that and adding a lot of the functionality.

But in parallel we're deploying new resources to go attack putting WANJet on top of TMOS.

So we're running in two parallel efforts.

There's been no reduction and there's [inaudible] off the market.

In fact, we're still aggressively pushing products out into the market.

But by pushing out the timeframe for your modular product, how does that impact your market position and what was involved with the decision to do that?

Obviously you mentioned the big market -- the rapidly growing market opportunity for WANJet, but what is it -- how has it handicapped you.

Well, we've taken key architects in that project to have that effect.

But we did it really -- and I figured this is in the script -- but really believing that we're going to have pretty significant product leadership and enjoying that through 2007 without Montreal.

I mean, we're beta testing the 8800.

That are other product points -- products planned during the year.

So we feel very confident about our product position there.

So, the 8800's got enough legs to kind of keep you going a little?

Absolutely.

Did you mention the Service Provider percentage?

No, we didn't.

This is Dan.

Service provider percentage was up to 25% this quarter.

And we saw some really good embracing of some of the solutions, things naming -- or ranging from push-to-talk solutions, voice-over-IP, IP multimedia subsystems, video on demand.

So a very, very broad option of that.

So we did see a jump over the 19% in the previous quarter.

Coming into our fiscal Q1, we know that the Service Providers do lock down their networks for the holiday period and stuff like that.

So we'll be watching that closely.

Okay, Thanks for the information.

Thanks.

Thank you.

Ryan Hutchinson, your line is open.

Please state your company name.

WR Hambrecht.

Hi, guys, great quarter.

Just a couple questions, maybe just on the competitive environment, both on the application front-end space.

Clearly, you guys are excelling there.

But more specifically on the WAN WAFs opportunity, are you seeing the competition heating up there and that's what's driving this move to accelerate this timeline to TMOS?

Or just provide in color, that would be helpful.

Yes, to some degree that's the case.

I mean basically, in certain instances with this WAN WAF feature, we'll get very, very good competitive advantage, you know, data center to data center, areas like that.

In some areas like management, maybe not so [far], and that's why TMOS really leapfrogs the competition.

But the thing -- the think you understand with TMOS, as soon as we put a product on TMOS, we got all the good things that comes with TMOS -- iControl, iRules, the functionality of the modules, like rate shaping -- and that really gives us leadership almost overnight.

So that's why we're really pushing ahead with that.

Okay.

And did you break out the FirePass and TrafficShield revenue?

We didn't.

But --

We did -- did we give the total.

You gave the total, I thought.

You gave the total.

We don't break out the difference.

But you have in the past.

Oh, I did?

Yes, okay.

Yes.

We think we have in the past, so FirePass was 6.8.

That's up from 5.4 quarter-over-quarter.

And TrafficShield was 19, a little bit up from last quarter.

Okay, great.

And then just one more, maybe I'll try it a different way.

X the options charge and what not, I know you not going to give specifics, but was it within your target range on an operating margin basis in the current quarter?

We shouldn't comment on that.

I know what -- I know you want the information, we want to give it, but we can't do that right how.

Okay.

And has the long-term operating margin model changed in 2007?

What Andy said was expected to trend in the high 20s.

We believe we've got a really good opportunity here and we believe the market's vibrant.

And we're going to be making some infrastructure investments, some marketing investments, and some head count investments, just like we did last year.

But it's a pretty good market and we're not going to lose the opportunity.

Okay, fair enough.

And so that would -- I guess, we would assume that will be down from [inaudible] the 30 to 32 range, as we look forward here for the first couple of quarters.

High 20s.

Fair enough, okay.

Thanks, guys.

Thank you.

Tal Liani, your line is open.

Hi, this is actually Stan Kovler dialing in for Tal Liani.

Thanks.

Just wondering if you could talk about the model going forward that you have making a lot of investments in head count, building out the franchise obviously.

And we're wondering if the sort of operating margin that you're talking about in the high-20 range, how that trends sort of throughout the year, because of the R&D investments and the services investments?

Maybe you can help us with that.

Thank you.

Yes, we're probably not going to give you too much color on that, other than to say that we do believe we have a huge opportunity in our core market and want to take advantage of that, as well as accelerate some of these initiatives in R&D.

And we're going to invest and bring the people on in order to accomplish that

Sure.

Just a quick follow-up.

Just wondering if you can address, maybe from a high level, Cisco's continued push into that market and how you view what they're doing with some of the new products and some of the new programs that they're pushing in the market, how you're seeing that in the competitive landscape?

Maybe you can elaborate on that a little bit.

This is Dan.

Really the only big change in terms of the landscape with Cisco is the introduction of their AS module several months ago now.

We continue to encounter that in the marketplace.

We've fared very well against it.

We've won several large accounts against them, as they've been out pushing that.

The things that we can do and the value that we can add to applications traversing the network with BIG-IP are just far, far superior to what the -- what the AS is able to do.

So you take that in conjunction with their inability to integrate any of the acceleration piece or security piece from the [Fingrown] acquisition, I think we're in great shape compared to Cisco.

Thank you.

Jiong Shao, your line is open.

Please state your company name and question.

Lehman Brothers.

Can you hear me okay?

Yes.

Great.

I have a couple clarifications first then I have a couple of questions.

Dan, did you say the Service Provider revenue from last quarter was 25% in the quarter, before it was 19?

Just want to confirm that.

Yes, I did

Okay.

Could you elaborate on sort of where -- which region did you see a lot of strength in Service Providers?

We saw healthy growth worldwide, really.

So it was very, very balanced.

And, you know, I did get sort of a laundry list of types of applications where we were built into, again just as a demonstration of the wide range of applicability for our solutions in the types of services that these Service Providers are rolling out.

So really, really balanced business, which is great.

Because the year over was down sort of sequentially a little bit, is that fair to say that [inaudible] Service Providers was mostly in Asia -- Asia, Japan and then North America?

No, I think --

Or that's not fair?

Yes, I don't think that's fair.

Okay.

Okay, that's fine.

Okay, my second clarification is on the operating margin.

I think John, you said high 20s?

I just wanted to make sure, is that sort of the model for the next couple quarters?

Or how long is this sort of high 20s operating margin may last?

That's actually guidance we want to give you as you look out throughout 2007 and understand what we're going to do in order to take advantage of the opportunities we see.

Got it, okay.

Thanks, Andy.

My last question is on the investigation.

I understand this restatement is sort of a noncash historical.

It's just accounting.

But my concern is that the current leadership team, John, if you look around, many people around you have worked at F5 for several years and have executed very well.

Is any comments you can provide to give us any comfort about the continuity of management team -- senior management team going forward, as this SEC, Justice Department investigation sort of drawing to somewhat of a closure over the next, say, couple of quarters?

I bet you know the answer to this one.

No, I can't give any comment on that while the investigation is still ongoing.

I mean, obviously we said it was substantially complete, but until it is complete, we can't comment.

So, will you be able to say -- should be the conclusion of the investigation will be sometime this quarter or next quarter, the timeline?

Because you say it's substantially completed.

Well, substantially complete really means exactly that.

That's the information we've been given by the special committee, and we're assuming it's close to being complete.

However, while the inquiry's still ongoing, we're really not going to answer any more questions on it.

Okay.

Thanks, guys.

Okay, thank you.

Thank you.

Mark Sue, your line is open.

Please state your company name and you may ask your question.

Hi, this is Jennifer Tennenbaum for Mark Sue, RBC Capital Markets.

Just a question on this federal government.

I wanted to know how you saw the pipeline going into the fourth quarter?

Is it continuing to -- with its momentum?

And then just on head count, you said you were going to add some in the fourth quarter.

Just wondering if that's in sales and marketing mostly, or R&D?

And also a clarification on the legal and accounting expenses for the options investigation.

Did you say that would be $2 to $3 million for the quarter?

Yes.

So taking those questions in reverse, the legal costs related to the inquiry -- well all costs, actually, is $2 to $3 million, most of which has been incurred already this quarter.

And then in terms of adding employees, we said we're going to add 80 to 100.

That's going to be pretty broad across R&D, sales and service.

Yes, this is Tom Hull.

On the federal, we again had a very strong federal last quarter.

And the pipeline does look good for next quarter in federal, so we look for continued strength.

Thank you.

Thank you.

Brent Bracelin, your line is open.

Please state your company name and you may ask your question.

Pacific Crest Securities.

Thank you.

I guess first question's on the guidance.

It looks like you're guiding to 4% to 6% sequential growth, which is slightly below kind of the historical range that you guys have been able to generate in the December-quarter.

Is that tied to conservatism or the spike in Service Provider business in Q4 that you don't expect to see in Q1?

Just elaborate a little bit on kind of the demand trends you're seeing and pipeline that you see for the December quarter.

Yes.

No, that's done using our usual process that we've been doing for a number of years.

And we look at the geographies.

We look at a geography like Japan, it doesn't tend to grow quarter -on-quarter in this quarter.

We obviously do discuss the potential of budget flush, although we tend to be conservative on that.

I think that's only appropriate.

But it's just using the normal process that we've done.

Okay.

And then on the product roadmap, obviously some moving -- things are moving around there on that front.

With the repriorityization and kind of the delay on Montreal, does that impact the launch of the 8800?

Are you still kind of on track for that?

And any update on that would be appreciated.

This is Karl.

No, the roadmap changes aren't affecting the release of the 8800 along with software, which we call []Sonoma.

We're expecting that to be pretty close to what we originally announced, being the [inaudible] the second half of this year.

We're looking at basically like a January, early next year kind of release time frame.

Okay.

And then my last question here is on kind of the decision to accelerate some of the internal investments in R&D.

You know, given the internal investments you'd plan to make next year, does that preclude you from, you know, looking at kind of acquisitions to help accelerate the investment?

Obviously, your cash balance sheet continues to grow here.

How should we look at your strategy on the acquisition front, given the opportunity you see out there in some of these areas and acceleration and at least internal investments?

Yes.

No, that doesn't change our strategy at all in that area.

Our strategy has basically been the same there for a couple of years.

The key motivation we have is that we want to be -- and we are -- the absolute leader in application delivery networking.

Application delivery networking is a growing area from a functionality point of view as well as just a pure market.

So, we're always looking to see if there's an application solution out there that would easily be [inaudible] on TMOS.

Do we do organically?

Do we [inaudible]?

That's a decision we make.

I don't see any change in that because of the investment.

The investment is being done very, very simply because we believe the market potential is there and we want to grab it [inaudible] the leadership position.

Okay.

Thank you.

Thanks.

Thank you.

Samuel Wilson, your line is open.

Please state your company name and you may ask your question.

JMP Securities.

I was going to ask 15 questions on stock options, but I think I'll just pass on that, and just ask one simple question.

A year from now when we hold this conference call, how many employees do you think you'll have?

You have 1,000 now.

I'm just trying to get a sense, John, as you look out, how big do you want to grow F5 over the next year?

Obviously, we're not going to give you a number and for a very good reason.

And that's that we see this quarter, 80 to 100.

But we're not changing the modus operandi that we run the Company, which is like continually looking at the pipeline, almost on a two-weekly basis.

As we see it strengthening, we may even add more head count to that area or more investment.

As we a slightly weakening, we'll reduce it.

We've done that now -- that system for about three years and I think it serves us very well.

But you know, I think that the clue here is that we are obviously upping the investment, moving into 2007.

So, therefore, using that technique is -- if we, we execute and our business continues to grow, we may well add to that.

But we don't ha -- we're not going to give specific numbers out.

Got it.

Thank you.

Thank you.

Thank you.

Kim Anderson, your line is open.

Please state your company name and you may ask your question.

Hi, I'm Kim Anderson, in for Ehud Gelblum at JPMorgan.

Question for operating margins, again.

I know this has been asked a few times now.

But when you say high 20s in '07, is that kind of a new baseline level that's needed to run this business?

Or is this purely a reflection of accelerated R&D and maybe we see it going into the low 30s at some point, you know, in 2006 and 2007 and beyond?

I don't think it's a new business model that's needed to run the business.

It truly is taking advantage of these opportunities that we see and still operating in a very high operating margin percentage.

But as we see we trend through the year, that's what we're targeting.

But the underlying focus is top line growth and market share again.

Okay, got it.

And then separately on Swan, it sounds like what you're saying, the weakness there is not as much of an impact to your competitive -- a reflection of your competitive position, but more a reflection of the lumpy nature of the contracts.

I just wanted to make sure I've got that correct.

And then secondly, could you just comment on the recent Microsoft-Citrix partnership in WAN acceleration?

Just on this one.

The lumpiness was definitely an issue, but we're not underestimating the competitive elements.

And that's why we're making this aggressive move to put this WAN product, WANJet in particular, on TMOS.

We've already put WebAccelerator products on Swan and TMOS, and that's very competitive.

But the beauty of TMOS, as I've said a number of times, is the all extras that it brings with it.

So we think we can go from being a player to being a leader and by having TMOS.

That's the thing there.

Okay.

This is Dan.

Just commenting on the Citrix-Microsoft partnership, that collaboration on a product is going to yield fruit sort of 18-month time or so.

It's a prediction that's out there.

It will be interesting to see how that fares, how networking people accept that.

And it will be direct competitive offer to something that Packeteer has, with their Tacit offering that already runs on this platform.

So, we'll see what happens there.

So that's not necessarily competitive with your products, is that what you're saying?

It's -- it is a competitor.

It's a slightly different take on it.

At the end of the day, when people are looking at moving traffic or resources out of their branch offices and trying to centralize things, it is definitely looking for the -- hitting for the same dollar the customer spends standpoint.

But definitely a different way of approaching the problem from a networking standpoint.

And unlikely, as Don said, to have an effect in fiscal 2007, by which time, of course, we get TMOS and we feel very good.

Yes, got it.

Thank you.

Thank you.

Manny Recarey, your line is open.

Please state your company name and you may ask your question.

Thank you, Kaufman Brothers.

Two questions.

One on the WAN optimization, if you can just review for me how the -- you've introduced that into the channel, where that kind of stands and does the impact of accelerating -- putting on TMOS, what impact that's going to have?

And my second question is on the stock options.

You didn't mention anything about tax -- possible tax liability, so assume that hasn't been determined yet?

Yes.

On this one, I'm not sure I understood the question, to be honest.

Specifically, would you repeat the question on the WANJet issue?

Sure.

It's just introducing that into your channel, with accelerating the investment and putting it onto TMOS, is that going to have any impact you see on the channel selling the product?

No.

No, it's not.

I think it was actually Karl or Dan basically said that, while we're doing that, we're still adding functionality to the WANJet product and will still be selling it through the channel and introducing it and training our sales force and our channel on it.

So, no real change there.

In fact, TMOS will be an upgrade offered as an upgrade to the existing boxes out in the field.

It's not like customers would see some obsolescence of what they've purchase.

It's going to be effectively offered in [inaudible] and they can upgrade and -- just like we did with TrafficShield --

And hi, Manny.

This is John Rodriguez.

The $30 million number we put out regarding the option investigation, basically that's inclusive of all tax benefits and all tax charges, so we've already computed that in.

Okay.

Thank you.

Thank you.

Richard Keiser, your line is open.

Please state your company name and you may ask your question.

Hi, Sanford Bernstein.

Just speaking of the opportunities you've listed, I understand that these are very different markets.

But with respect to some of the activities that Okami does, it seems that you have developed a lot of expertise in the area of routing packets, as well.

And I'm just wondering, in the context of future opportunities, is anything that they do fall into that category for you?

Or in contrast, have you been approached by any of their competitors to leverage some of your technologies around distributing packets and that just overall packet flow?

This is Dan.

I think ultimately, these solutions and the two things that we're doing is all about accelerating applications --

Right.

-- and reducing bandwidth consumption.

Obviously different approaches.

One to service, one to deploying products.

You can make the service out of our products, obviously.

So at the end of the day, from what we're doing and the advances that we're making in terms of WAN optimization, absolutely the more people deploy our products, really the less need there is to go to services outside of them to try and get added benefit.

So I do believe at the end of the day, if somebody fully embraces our solutions, we can provide them with tons of not only economic benefit, but also speeding up their applications on a day-to-day basis.

So it would diminish the need for those other solutions.

So, do you envision, you know, competing against them, let's say, head-to-head, for any types of deals in the next 12 to 18 months or so?

Not directly.

Not directly.

So somebody if is out looking for a basic offload solution --

Right.

-- static images and things like that, that's not our core business.

If somebody has enterprise applications, like [HP] and Microsoft and [Siebel] and things like that, and they would like to have those accelerate and save bandwidth, then F5 is the only logical choice for them.

Great, thank you.

Erik Suppiger, your line is open.

Congratulations on a good quarter.

Thank you.

Say, did you say what contribution federal was for the quarter?

Eric, this is Dan.

I don't think we did highlight that.

Over -- federal, U.S. was 6% in the quarter.

6%?

Okay.

Has Service Provider ever been anywhere close to 25%?

I think that's a record, isn't it?

It is.

We had been at about 19% for several quarters.

Okay.

And since Service Provider was such a strong segment, can you discuss any of the customers that -- you know, that were buyers during the quarter?

No, I'm not going to name names of the customers.

Definitely would be happy to talk about the types of things that they're doing with our products.

But we'd prefer people hold our solutions -- you know, they count them as part of their critical -- a critical piece of their infrastructure, and many times they prefer that we don't name them.

Very well.

Okay, thank you.

Thank you.

[technical difficulty]

Yes, Rohit Chopra, Wedbush Morgan.

Couple of questions.

One, let me come back to the Service Provider business.

Could you comment on, was there more wireless or wireline in there, maybe just a ratio or something to give a little bit of color there?

And also, last quarter, John, you talked a little bit about a buyback and you decided to delay it, but you said it was going to be brought up at the October meeting.

And I was just wondering if there was any more that you could talk to us about regarding the stock buyback?

Okay.

Let me answer that first, actually, and then Dan can talk about the Service Provider.

Yes, we did discuss the topic of share buyback at the board meeting we had last week.

We decided to conduct a study to look at the choices -- whether its buyback, dividend, et cetera -- and report back to the board at the next planned board meeting, when we expect the stock option inquiry will be completed.

So no decision yet, but we're doing an active study to look at the options.

Thank you.

Rohit, this is Dan.

In terms of the balance between wireless and wireline, I don't have a breakdown with me right now.

But it was fairly balanced, seeing anything from [inaudible] optimization, applications on the wireless side, IMF, [inaudible] servers, things like that, to push-to-talk as well.

And on the wireline side, video-on-demand, IPTV, [inaudible] being melded into people's channel guides delivered over cable systems, denial of service protection, as well.

So it's pretty balanced between the two.

Excellent.

Thank you.

Thank you.

Cameron Cook, your line is open.

Please state your company name and you may ask your question.

Hi.

Janko Partners.

I was just wondering if you could repeat the WAN optimization revenue numbers quickly.

Yes.

WAN optimization was 1.7 for the quarter.

Okay.

What was the 9.4?

I missed that.

It was for the year.

For the year, I apologize, okay.

And then bringing the FirePass on before Montreal, can you talk about the performance impact on the platform for doing that?

I presume you're talking about the performance impact to the FirePass?

Actually, will there be any performance impact on BIG-IP bringing FirePass onto the platform that way?

TMOS? [inaudible] FirePass with TMOS?

Exactly.

You have to look at it, you're adding functionality to the full operating system.

So if you run more functionality, you have -- presumably, you're putting more load on these compute resources.

But the way to look at it is FirePass, we expect an order -- at least an order of magnitude improvement in its performance and through-put when it's operating on TMOS.

So I don't know if that answers your question, but obviously, as you put more stuff, more burden on a set of finite computing resources, you're going to get more -- less through-put, right?

The specific advantage you get is that we will be able to support a significant more number of users by putting it on TMOS than we do today.

You're at 250,000?

No, I'm sorry.

That's BIG-IP.

That's a big number. [LAUGHTER] We've got systems running far past -- above 20,000 users.

We don't name the customer.

But that's in multiple boxes.

And you've owned that product for a while, and can you talk about how much integration, if any is done, for bringing on TMOS already?

We've already been working on that roadmap and we're well into it, because it's more than just TMOS.

There's other things that we're doing architecturally to enhance the capabilities.

So it's not just a story of TMOS.

It's a story about scaling and enhancements of existing functionalities.

We're also continuing on the current roadmap aggressively.

So the nonTMOS roadmap so there's a lot of big releases with Internet Explorer 7, Vista, some new competitive features that we put on it.

We have another platform that'll be arriving here in the coming months.

This is Dan.

From the high-level standpoint, as well.

With changing things and bringing FirePass onto TMOS also allows us to address some different market segments that we're not able to address before.

So bringing in more security functions, doing things for whether it's a wireline, wireless or remote access market, as well.

So it does give us a larger addressable market for that product, too.

Okay, Angie, let's take one more question and then we'll call it a day.

Thank you.

Ranjini Chandirakanthan, your line is open.

Please state your company name and --

Hi.

Good afternoon from ThinkEquity.

Great quarter.

I just have one question.

As you look at your last quarter and your pipeline, curious if there's another growing vertical that stands out like Service Provider due to your differentiated features or market growth?

And then with WebAccelerator now in the product, does that allow you to address another vertical?

Right.

The short answer on WebAccelerator is yes.

It's [inaudible] answer, but it's a horizontal market with anybody's using web-based applications.

In fact we're doing a bunch of training in that.

In terms of verticals, [Halst] has been a growing vertical for us, technology continues to grow.

A lot of this stuff we're doing with Microsoft, it's maybe more of a horizontal, but you may want to talk to that, Dan.

Yes, absolutely.

Some of the upcoming launches, too.

One of these -- take a step back.

One of the things that we introduced recently with WebAccelerator was letting people choose specific policies to accelerate specific types of applications.

So making it really easy for somebody to say, hey, I'm a Share Point customer.

And be able to literally in the UI of the product be able to go and select SharePoint and we would automatically configure the product to do the best job of accelerating SharePoint as possible.

Coming up in the new year, Microsoft has several major launches of products lined up, like Communication Server, SharePoint, Exchange, so on and so forth.

And as far as WebAccelerator is concerned, specifically, those are all things that we believe will generate demand for that product.

Okay, thank you.

Okay.

Well, thank you for coming into the conference call and we'll talk to you next quarter.

Thank you.

Thank you.

That concludes today's conference.

Thank you for your participation.