Netscout Systems Inc (NTCT) 2003 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to NetScout's fourth quarter operating results conference call. At this time, all participants are in a listen-only mode. Later, we will be conducting a question-and-answer session, and instructions will be given to you at that time. As a reminder, this conference call is being recorded.

With us today is NetScout's President and CEO, Mr. Anil Singhal. He is accompanied by NetScout's CFO, Mr. David Sommers. Also with Mr. Singhal is NetScout's Director of Investor Relations, Ms. [Cathy Taylor]. At this time for opening remarks, I would like to turn the call over to Mr. Singhal. Please go ahead, sir.

Thank you, and good afternoon, everyone. Welcome to NetScout's first quarter fiscal year end 2003 conference call. I will begin our call today with a brief overview of our financial results achieved this quarter, followed by a summary of our operating accomplishments for this quarter and the fiscal year. David will then review financial results for the quarter in detail.

First, let me introduce you to [Cathy Taylor], Director of Investor Relations, who will read the Safe Harbor statement.

Thank you, Anil.

During the course of this conference call, we will be providing you with a discussion of factors we currently anticipate, that may influence our results, going forward. Before doing so, we want to emphasize these forward-looking statements may involved judgment, and that individual judgments may vary.

Forward-looking statements include expressed or implied statements regarding future economic and market conditions, revenues, profitability, growth, delivery and market acceptance of NetScout products. It should be clearly understood that the projections on which we base our guidance are our perception of the factors influencing those projections are highly likely to change over time. Although those projections and the factors influencing them will likely change, we will not necessarily inform you when they do.

Our company policy is to provide guidance only at certain points in the year, such as during the quarterly earnings call. We do not plan to otherwise update that guidance. Actual results may differ materially from what we say today, and no one should assume later in the quarter that the comments we provide today are still valid. These and other specific factors could change, causing our projections not to be achieved.

Specific risks and uncertainties are discussed in NetScout's Form 10K for the year ended March 31, 2002, and it's quarterly report 10Q for the quarter ended December 31, 2002, on file with the SEC.

During this conference call, we will also disclose various non-GAAP financial measures, as defined by SEC Regulation G, including acquisition and stock-based compensation costs. The most directly-comparable GAAP financial measures and a reconciliation of the differences between the GAAP financial measures and the non-GAAP financial measures can be found on our earnings release dated April 30, 2003, which is posted on our website at NetScout.com/investors. I will now turn the call back over to Anil Singhal, our CEO.

Thank you, Cathy. Our results for this quarter were roughly in line with the guidance provided at the beginning of the quarter. While our revenues were slightly lower than the guidance said, we managed to hit the high end of the EPS rate. This effort to continue tight spending control despite seasonably-high operating expense pressures.

Our revenue for this quarter was $17.7 million compared to last quarter's revenues of $18.2 million. On a GAAP basis, our net loss for the quarter was $354,000, or a $0.01 loss per share compared to a net loss of $[328],000 or $0.01 per share for the previous quarter.

Our pro forma net loss for the quarter was $37,000, or $0.00 per share, with a pro forma net income of $10,000 or $0.00 per share in the prior quarter. The balance sheet remains healthy, with no debt. And we are pleased to have increased our cash by $949,000-brining us to a total cash balance of $71.3 million.

During this quarter, we introduced two new probes that will extend our base into additional parts of our customers' network. The first probe is targeted at remote sites, and it offers remote monitoring capability of frame relay and [third-party alternate] links at a much lower cost than other automateds available today.

The second probe is for the gigabit environment, using copper cable link. This probe is targeted toward enterprises that have operated the network for a [inaudible] gigabit internet, yet want the leverage that exists in copper cabling through [the uplink].

We also credit our foreign sales alliances by adding two major big sellers. CS networks has signed up with us to resell our products to enterprise and government customers in Singapore. And in Europe and Asia, we added dimensions to represent us in Germany and the UK. Through this alliance, we have already added a new large financial services customer in the UK.

Overall, fiscal year 2003 ending March 31 was a challenging but important year for NetScout. We met these challenges by improving operating efficiency that resulted in resulted in continued quality cash flows in every quarter, despite downward pressures on revenue created by external economic conditions. We maintained high growth margins and improved our inventory positions while preserving precious internal resources.

In spite of these challenges, we announced our product strategy today in the form of CDM. We introduced several new products, extended our leads into the storage and security markets, filed multiple technology basis applications and developed several new partnerships.

One of our major achievements this past year was the announcement and initial delivery of our common data model initiatives that we believe significantly advances the state-of-the-art for integrated network and application performance management.

CDM represents a major engineering effort for NetScout, and we are pleased to see that our Performance Manager 1.4, which is an initial step in unified performance management, continued to gain momentum and was well received by our customers. We have a growing list of customers who are adopting Performance Manager as a full network performance management solution.

We are making solid progress on our next elevation release of the nGenius Performance Management System, which extends to include data collected from a wider range of network devices and sources, in addition to [inaudible] such as routers, switches and software agents, and integrates that data into seamless, real-time historical and [trend use].

This next release, representing the full implementation of our CDM architecture and vision is now at multiple data sites, and is on schedule to be released within the next three months. In conjunction with the new CDM strategy in 2003, we increased the pace of introducing new, nGenius probes, bringing out seven new products, all incorporating broader functions and higher speed, with cost savings [needs met] on the part of our customers.

Most of the probes now come in the smaller chassis size-they're used from a CU form factor down to a 1U form factor-saving considerable [back] space for those customers. Further, we introduced probes that met customer demand for monitoring core distribution, access and storage network-as well as integration options such as network security adapters. That allows even greater flexibility, and it's [done on investment for strategic implementation].

Turning to our partnerships. We introduced in the last program, targeted at both network infrastructure vendors and network management application providers. The initial integration of Foundry and Extreme products with our nGenius system will be available with our next release. We anticipate announcing future alliances, going forward.

We continue to strengthen our partnership with [OpNet] as we integrated real-time practice and performance data in their products, and we are pleased to have gained some mutual customers. We also added a number of new sellers added to our channel partner program in Fiscal 2003, to a total of 51. We are putting additional emphasis on growing our international business through new alliances such as these, and we are looking forward to forging new relationships in the upcoming year.

I would like to conclude by thanking all of our employees and partners for the dedication, hard work and support in Fiscal 2003. As a result, I believe we have built a new and stronger product platform for increased market share and profitability in the future. I would like to thank our shareholders for their support and understanding during this tough year.

Looking ahead into Fiscal 2004, we will remain focused on operating executions, maintaining expense controls, remaining cash flow positive and most importantly, brining the full potential of CDM technologies and the nGenius product line to the market. We believe that the tremendous investments we made during the past year will start paying off in the coming fiscal year, and we look forward to sharing the success stories with you in coming quarters. With that, I'll turn the call over to David.

Thank you, Anil. I would now like to review our quarterly financial results. Our GAAP results are contained in the financial statements included with our press release. I will explain the difference between our pro forma earnings and our GAAP earnings in some detail. This discussion will be principally on a pro forma basis, which means that I will be including non-cash charges to cost expense, but derived principally from our acquisition of NexPoint's Networks in July 2000.

Revenue for the fourth fiscal quarter of 2003 was $17.7 million; a modest decrease of 2% over last quarter, and 23% below fourth quarter of fiscal year 2002. Our product revenue decreased this quarter-down 4% from last quarter and down 32% versus a year ago. Service revenue was up 1% over last quarter, and up 7% year-over-year. License and royalty revenue, principally from Cisco's resale of our real-time monitor software was down 5% from last quarter. Revenue from our direct sales force was 41%--down from 49% of revenue last quarter. Reseller revenue, correspondingly, was 59% of total revenue, compared to 51%.

During this quarter, we added 43 new customers worldwide, representing 11% of total orders. Among some of our largest new customers are Bank North, a regional commercial bank located in New England; Cummins, a $5.7 billion manufacturer; CalPine, a $7.5 billion company from the energy and utilities sector; H3G, a mobile phone company in Italy; Orient Corporation, a Japanese credit card company; and Hallmark Cards, representing the consumer sector.

Orders from our install base increased this quarter, with 32 repeat customers-up from 286 last quarter-representing 89% of order volume this quarter from customers such as Johnson Control, Dak, a healthcare company in Germany, KTMG, Hewlett Packard, A T and T Wireless, and Lloyd's TST Group.

We had 46 orders received, valued at $100,000 this quarter. Despite another quarter of tight IT spending, we had four customers with deals greater than $500,000. Competitive win orders totaled about $1 million in the fourth quarter, involving approximately 18 deals against other leading network management vendors.

Turning now to our vertical markets. During the quarter, we saw continued support from the financial services sector, representing over 30%, with orders coming from commercial banks and transaction processors. This was followed by the government sector, where we are seeing strength, this quarter. We also had significant orders from the high-tech telecommunications, manufacturing, medical and consumer sectors.

We are pleased with the business from the government sector, this quarter. From agencies within the Department of Defense, where our nGenius implementations are providing real-time planning and intelligence capabilities, supporting US war-fighting capabilities.

New business came from DISA-the Defense Information Systems Agency-that provides total information systems management for the Department of Defense. NetScout products are being implemented in support of an annual wartime simulation project called JWID. The Joint Warfare Interoperability Demonstration.

NetScout probes will monitor the performance of a combined federated battle [lab] network, which is a research and development network that brings together six member nations to simulate a secure multinational network, and determine how coalition networks interoperate during wartime.

Additional business came from the US Central Command Air Forces, or [CenPath]-one of six Command components making up the Department of Defense's US Central Command. US Central Command is one of nine unified combat commands that have operational control of US combat forces around the globe.

CenPath, responsible for the command of air operations throughout Southwest Asia-including Iraq, purchased NetScout's nGenius solution to aid in managing performance of its WAN that integrates tactical aircraft operations, strategic reconnaissance and intelligence operations in that area.

Prompted by increased pressure to ensure performance of real-time defense systems used in our recent war efforts in Iraq, the Air Force chose to implement our nGenius solution to provide real-time monitoring on critical links throughout the Middle East. This deal was the result of joint sales activities with our partner, [OpNet].

One of our repeat customers this quarter was Johnson Controls-a multi-billion dollar global automotive parts supplier. Johnson Controls is a prime example of a customer validating our CDM strategy. Johnson Controls is using nGenius to perform network management functions and saving money by reducing the number of tools needed to monitor the global WAN connecting 600 sites across 62 countries.

When Johnson Controls evaluated other products on the market, they were both more expensive and less comprehensive, necessitating multiple tools or expensive customization to do what NetScout's single solution provides.

Using NetScout products, they've now integrated an easy-to-use, centralized network management system that gives them superior data for planning and monitoring the performance of their network. One example of the benefits of nGenius' broad range of capabilities-Johnson Controls was able to quickly see a virus attack, identify the source of the virus, and rectify the situation before it affected much of their network-avoiding a large, costly virus-recovery effort. Another customer this quarter was Hewlett Packard, who is deploying our nGenius probe solution to provide an extended worldwide visibility into their core enterprise WAN.

Turning back to our financial picture. Our gross profit for the quarter was $13.4 million; down 1%, sequentially and down 20% year-over-year. Gross margin was 76% in the quarter-up 1 point over last quarter and up 2 points over last year. This is principally due to hardware margin improvement and higher service content. We expect to remain in our gross margin target range of 72-75%, going forward.

Our revenue from international sales was 25% of total revenue, up from 16% last quarter. This increase is due to strength in Europe, which offset weakness in the US-due principally to the chilling effect of the global political situation on US business-an effect which does not appear to be present in Europe.

Pro forma operating expenses in total were $13.8 million-down 3% from last quarter, and down 15% year-over-year due to expense controls that remain in place. Pro forma operating expenses are calculated by deducting $54,000 of stock-based compensation and $272,000 of amortization of goodwill and intangible assets from the GAAP operating expenses of $14.1 million.

Within pro forma operating expenses, research and development was 24% of revenue. Sales and marketing was 46% of revenue, and G and A was 8%. When revenue growth returns, we expect to return to our target business model expense-to-revenue ratios.

Pro forma net loss for the quarter was $27,000 versus a pro forma net profit of $10,000 last quarter, and down from a pro forma profit of $1.4 million a year ago. Pro forma net loss and pro forma net income excludes acquisition and stock-based compensation costs that are part of our GAAP results. The cost and expense amounts associated with these items are disclosed in the parentheses on the face of the GAAP income statement in our press release, and summarized as supplemental information at the bottom of the statement.

We believe these non-GAAP financial measures enhance your overall understanding of our current financial performance, and our prospects for the future-and additionally, for the general purpose of analyzing and managing our business. Specifically, we believe the non-GAAP financial measures provide useful information to both management and investors by excluding certain charges that we believe are not indicative of our core operating results.

In addition, we believe that the investment community has historically used our non-GAAP financial results to evaluate our financial performance, and we have historically reported both GAAP and non-GAAP results to the investment community.

The amounts removed from the GAAP line items for the fourth quarter were approximately $1,000 from costs, $2,000 from research and development, $11,000 from sales and marketing and $1,000 from G and A. Amortization of acquisition costs of $272,000 was also removed to calculate pro forma earnings. Our GAAP net loss for the quarter was $354,000.

Turning now to key balance sheet measures. Cash and marketable securities were $71.3 million-up $949,000 from last quarter and up $2 million for the same period of fiscal 2002-mainly due to positive operating cash flow. Accounts receivable net allowances were $11.9 million, compared to $10.6 million last quarter. Days sales outstanding were 59 days for the quarter-up from 51 days in the prior quarter, and above our target range of 45-55 days. Accounts receivable and DSO increased principally as the result of a large maintenance deal that came in at the end of the quarter. Inventories were $3 million-down 5% from last quarter, and down 19% year-over-year.

Now for our guidance. We're only issuing guidance for the June quarter, today. Our near-term expectations are based on the current climate of the enterprise IT spending, and the uncertain timing of the impact of improving general economic conditions, and on our view of our sales pipeline. For our first quarter, ending June, we expect revenue to show little change from the fourth quarter, and pro forma earnings per share to be in the range of breakeven to minus $0.01.

Our GAAP earnings expectation is in the range of $0.01-0.02 loss per share. We expect to be cash-neutral in the quarter. This is the conclusion of our guidance. We plan to provide further guidance at the end of each quarter, in our succeeding conference calls. We do not plan to and disclaim any obligation to provide updates to this information, even though our expectations may change during the quarter.

Now before we go on, I need to correct a misstatement that I made regarding repeat customers. I'm told I said we had 32 repeat customers. The number should have been 320 repeat customers. I apologize. Now, Anil and I will take your questions.

Ladies and gentlemen, if you wish to ask a question, press the 1 on your touchtone phone. You will hear a tone indicating you've been placed in queue. If you pressed 1 prior to this announcement, we ask that you do so again at this time. You may remove yourself from queue at any time by pressing the # key. If you're using a speakerphone, please pick up your handset before pressing the number.

Once again, if you have a question, press the 1 on your phone at this time. One moment, please.

We have a question from the line of Kim Caughey from Parker/Hunter, Inc. Please go ahead.

I was kind of anticipating better results-probably more in line with my model. That being said, when comparing you guys against Network Associates, they seem to have trouble with their [Sniffer] sales, as well. Did you see any strength in the software portion of your product portfolio?

Kim, we continue to see strength. It was not noticeably higher this quarter than in the past. But we continue to see strength in the software portion of our portfolio, driven principally by acceptance of TM14. We're pleased with that, because as Anil said, it's a precursor for our new release planned in sight of three months.

The continuing strength of that wasn't greater than last quarter, but it's what has helped our gross margins go slightly beyond our target range this quarter.

Did you see any severe drop-off at the end of the quarter?

No. I know we heard that from some other companies. We did not see that. The quarter finished fine and strong for us. We obviously were below the guidance range, so it didn't come in exactly where we would have liked. But it was not due to a sudden drop-off at the end of the quarter.

That's all I have, now.

Thank you, Kim.

Our next question comes from the line of Richard Sherman from Janney Montgomery Scott. Please go ahead.

Richard Sherman, Jr: Yes. Good afternoon, guys. I had a couple questions, here. On Kim's first question about Sniffer. I think Sniffer was noted as weak in Europe, yet you seem to have done remarkably well in Europe and were weaker in the US market. What's your perspective on why that might have happened? Was it a competitive win typically in Europe? The 18 wins that were $1 or so...was that specifically in Europe?

No. Not to a larger extent, Rich. As was noted, we signed up a new strong reseller in Europe, and that reseller brought us a deal. We've been focusing on strengthening our reseller position in Europe. We have for the last two quarters seen an up tick in our business in Europe. I can't compare us to anyone else's results of course, but it was not, I think, a surge of competitive wins versus anything else in Europe.

We continue to do well competitively versus all the competition, including the one we mentioned, and our loss rates continue to be low. But I don't think that's really the cause of our up tick in Europe.

Richard Sherman, Jr: A couple of other questions. The [CalPine] energy win. Are they using network management as well as your storage and security products?

Anyone can operate their probes to use the security stuff, but they're not right now using the security option, there.

Richard Sherman, Jr: Looking at the business going forward, given sort of a moderate guidance for the next quarter-as the business grows here, Anil and David, where's the girth going to come from? Can you characterize, either geographically or by product area? Or ideal type? Where should we be looking for the growth to come out of the business?

We were looking for a little bit of growth driver than the current quarter, which apparently didn't really materialize. Could you give us a perspective of when the [inaudible] begin to grow, where the growth you think will come from?

I think, Richard, it's like David said. We've already seen some improvement in Europe. I think we can foresee improvement across the board in US and in Europe. We think we have some good things coming down the pipe. As soon as things improve, I think we should see impact all over the place. Also, in terms of product, we have basically two major products, and they work hand-in-hand. The [CM] and the probe. They fuel the [inaudible] of each other.

We can see that basically there'll be improvement in both areas, though it's hard to quantify, right now. Two others areas which we didn't announce in the past. We're still looking at how much [inaudible] we see there, which is one in particular] [Security Adapter] and the other one is the [SandSpace] which is still developing. Other players are coming into the market for [sand switching].

These are basically the four here, but I think that as we see improvement, we should see across the board.

Richard, let me just add one thing. You know as Anil mentioned at the beginning, that the products implementing our new strategy roll out in the early summer time frame. That we expect to be a significant driver to growth. It will take a while to roll out and have an impact. As long as the external market stays difficult, that impact will be muted. But when those two drivers-the external market particularly and financial services, which is our core customer as it has been for some time-when those things start to kick in again, we expect to see significant growth.

Richard J. Sherman, Jr: That's fine. Thanks very much.

Thank you, Rich.

Our next question is from the line of Victor Valdivia from Hudson River Analytics. Please go ahead.

Great. Thank you. Good afternoon. Let me start with a couple of quick questions. What was the linearity for the quarter?

Our linearity we don't disclose, exactly. But our linearity was a little less this quarter than in normal quarters-a little more back-end loaded.

Was there any impact on pricing?

No. This is typically not a price-competitive issue. The issue typically with our deals is whether or not the customer is going to make the decision to spend now versus spend later. Our sales cycles, as we've been seeing for some time, continue to be lengthened. So the question really is when is the customer's budget going to be available, rather than going head-to-head against any particular competitor on a price basis.

Can you comment a little more on the declining revenues contribution from Cisco? How do you see that, going forward?

Cisco continues to resell our real-time monitor. A while ago, we extended the contract with Cisco. We expect that as they continue to resell our real-time monitor version of our software through their CiscoWorks bundle, that we will continue to see a royalty from them. However, we expect that royalty stream to continue to be a declining portion of our total revenue-and to perhaps even decline in absolute dollar terms, as I think we've said in the past.

What was the headcount at the end of the quarter?

Headcount was 344.

Was there any change in the number of sales people?

No. We have had and continue to have organizational realignment and management, so we've had some turnover in the sales force. But it's a momentary thing. So part of the 344 was the decrease in the sales force, as it did from other organizations. But that was just a momentary management effect, and we'll be replacing those sales people.

Back to the original levels?

Yes. Our sales levels will be maintained.

Can you comment on the alliances with [Foundry] and [Extreme]-and the integration of your products? When do you see that they'll start having an impact? And what kind of impact do you anticipate from those alliances? Then also, what other alliances are you seeking with other vendors?

First of all, what we've done is really one of the several things that involve the latest part of this new release in about three months. So the impact from those will be in a similar timeframe as a general impact of the release of CDM. We've been talking about the second half of the fiscal year.

In terms of alliances, like David mentioned in his portion, we have two kinds of alliances. People who get data produced by CDM and by [Everett Ross] in our database. Those are companies like [OpNet] and all those. We're looking at several partners, there. I think [inaudible] now.

Second is where we take data from other data sources. Initially, we used to only do that from Cisco. Now we're doing some ordering from [Extreme]. And there are other infrastructure vendors who'll be looking to us for our application as a basis to leverage that instrumentation. Those are the two broad categories a partner should have.

Finally, what is the contribution of the government? Total government?

Our government sector was a more-than-10% sector this quarter. So it was our second-largest sector behind financial services.

Thank you.

Thank you very much, Victor.

We have a follow-up from Richard Sherman from Janney Montgomery Scott. Please go ahead.

Richard Sherman, Jr: Yes. My question went back to the sales organization. With the summer rollout of the product forthcoming, could you talk maybe a little bit about the preparedness of the sales organization for the CDM? The next steps in the CDM Market Catcher? And how long, and what are some of the activities that have been underway to prepare the sales organization? Thank you.

For the last quarter, we've had a lot of internal marketing and training of the sales force going on, and we have two or three very big events planned for this month. One's from the sales perspective and the other is from a technical training perspective. So we have close to two one-week sessions planned this month. Almost every single person from sales will be here, and will be getting one or both of those trainings.

That's the month of May.

Richard Sherman, Jr: So by early June, the sales organization for all intents and purposes will be fully-trained and ready-to-go with the next-gen products coming this way.

That's right. Product training will continue into June and July. But I'm saying that yes, essentially we're launching our new release, and what we've been announcing for [3DM] for the sales force this month.

Richard Sherman, Jr: Those were my questions. Thank you.

Thanks again, Rich.

If there are any additional questions, please press the 1 at this time. We show no further questions. Please continue.

Thank you all for coming to our conference call. We look forward to talking to you again on our Q1 conference call in July. Thanks for your interest in NetScout.

Ladies and gentlemen, this conference will be available for replay after 8 PM Eastern Time today until May 14, 2003, at 11.59 PM Eastern Time. You may access the A T and T Executive Playback Service at any time by dialing 800.474.6701 and entering the access code 678639. International participants may dial 1.320.365.3844.

Again, those numbers are 1.800.475.6701 and 1.320.365.3844, with the access code 678639. That does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.