Netscout Systems Inc (NTCT) 2009 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to NetScout's fourth quarter and fiscal year end 2009 operating results conference call. (Operator Instructions). 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 Chief Financial Officer, Mr. David Sommers; and NetScout's Chief Operating Officer, Mr. -- excuse me -- Michael Szabados. Also with Mr. Singhal is NetScout's Director of Investor Relations, Ms. Cathy Taylor.

At this time, I will now turn the call over to Ms. Taylor to -- excuse me -- provide the opening remarks.

Thank you and good afternoon, everyone. Welcome to NetScout's fourth quarter and fiscal year end 2009 conference call for the period ended March 31.

In terms of the format of this call, Anil will begin with an overview of our financial and operating results. And David will then discuss our financial results and Company performance in more detail. At the conclusion, Anil and David will take your questions.

Before we begin, however, let me remind you that during the course of this conference call we will be providing you with a discussion of the factors we currently anticipate that may influence our results going forward. Such statements are forward-looking statements made pursuant to the Safe Harbor Provisions of Section 21E of the Securities Exchange Act of 1934 and other federal securities laws.

These forward-looking statements may involve judgment and individual judgments may vary. Forward-looking statements include expressed or implied statements regarding future economic and market conditions, our guidance for fiscal year 2010 and our new product releases. It should be clearly understood that the projections in which we base our guidance and other forward-looking statements and 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 make today are still valid. For the further discussion of the risks and uncertainties that could cause our actual results to differ, see the specific risks and uncertainties discussed in NetScout's Form 10-K for the year ended March 31, 2008 [sic] and subsequent quarterly reports on Form 10-Q on file with the Securities and Exchange Commission.

Also, in our discussion, the non-GAAP revenue excludes the effect of purchase account adjustments, representing the fair value Network General's deferred revenue and non-GAAP net income excludes share-based compensation expenses, amortization of acquired intangible assets and integration expenses and related income tax adjustments.

I will now turn the call over to Anil Singhal, our Chief Executive Officer.

Thank you, Cathy. Today we are reporting our fourth quarter results, which cap a successful 2009 fiscal year. Our results came in toward the mid range of our EPS guidance and towards the lower end of the revenue guidance.

2009 was a forceful fiscal year combined financial results after our acquisition of Network General. The first three quarters produced steady revenue growth. But our fourth quarter, although within our expectation, was not as strong, showing the effects of a worldwide recession and the tightening of IT spending across most sectors.

Our fourth quarter GAAP revenues were $66.1 million, up 15% year over year but down 8% sequentially. Non-GAAP revenue was $66.8 million, up 4% year over year but down 10% sequentially.

GAAP net income for the quarter was $5.7 million, with earnings per diluted shares of $0.14, up substantially over last year's fourth quarter loss of $4.9 million and a loss of $0.13 EPS.

Non-GAAP net income was $8.3 million, with earnings per diluted share of $0.20, an increase in profitability of 73% year over year.

Our full-year fiscal 2009 results were strong despites economic headwinds we experienced in the fourth quarter. GAAP revenues were $267.6 million, up 58% year over year. Non-GAAP revenues for the fiscal year were $279.4 million, up 54% year over year.

Looking back over the year, (inaudible) strong quarterly results. We raised our full-year guidance at the end of the third quarter and hit it, of course. We raised our long-term operating margin model by five points, and we felt a strong benefit from the acquisition in our cost and gross margin performance and achieved a top end of the range in Q3.

We expect that strong margin performance to continue. We finished fiscal year 2009 with a 40% GAAP and 32% non-GAAP operating margin and ended the year with a strong cash and investment position of $136 million.

We achieved our goals in 2009, despite the ill effects of the current economy. We completed the integration of Network General on schedule, including assimilation of sales force and product integration. We entered a new vertical market by focusing our product strength on the growing challenges of managing the modernized network, serving the need for high-speed, high-resolution package with application management.

Our goal is to be the leading IT management provider and become the most (inaudible) service (inaudible) for our customers worldwide.

Looking ahead, our growth verticals continue to be wireless service providers, high-speed training, and the rest of financial services as well as government.

In the new fiscal year we expect to announce major releases of new products targeted at several of those verticals, with improved speed, function and competitive pricing to further increase market leadership and penetration.

One of the releases includes the new product that moves us into the securities biz focused on network behavioral analysis and anomaly detection, a natural segue for our technology that will give network managers a proactive tool in responding to security threats.

We have already released a lower price InfiniStream model of our dPacket capture appliance that is targeted to expand over existing markets by [extending the missing] technology to more places in the network and at a lower price entry point for medium-size businesses.

Now, with our combined -- larger combined product portfolio, we'll be capitalizing on the many cross selling and upselling opportunities with both NetScout and Network General customers.

Despite our overall spend and leadership in the market, our outlook for fiscal year 2010 remains cautious. In the face of lower overall IT spending, our goal is to maintain stable revenue and to continue to drive operating margins through cost reduction and improving operating efficiencies. We are further raising our long-term operating margin model by two points to 24% to 27% as a result of confidence in our market position. This is not a target for fiscal 2010 but a long-term goal.

Our caution about the economy does not alter our confidence in the strong value proposition of (technical difficulty) and market leadership. The micro trends in the IT industry that are expanding over market opportunity or our ability to build on our technological and financial strengths to take increasing advantage of that opportunity.

We expect to use our growing cash balance and our soft currency to continue to be an industry consolidator, to expand our technology lead, to be a market share and to drive revenue and EPS growth. We will continue to do all of our technology and revenue products, and we are focused on expanding and deepening our customer base, especially in our high-growth vertical which have had growth and market share organically.

We plan to take advantage of increasingly favorable market conditions to expand our partnership footprint, which will help us grow our market penetration.

We expect to announce an exciting new partnership with a major industry leader within the next few weeks.

As always, I would like to thank all of our employees, customers, investors and other stakeholders for their continued support. Without it we could not have it -- without it, we could not have achieved our goals last year and will not be able to achieve them going forward. We look forward to sharing our exciting, unfolding story of new accomplishments, growth and profitability with you throughout the coming year and beyond.

I would like to now turn the call over to David.

Thank you, Anil. Our quarterly results are in the financial statements, which are a part of our earnings press release. We are reporting our results on a GAAP basis as well as a non-GAAP basis. To summarize the difference, we removed the GAAP purchase accounting effects of the acquisition of Network General by adding back revenue related to deferred revenue revaluation. And we have removed the cost and expense of various acquisition related items.

In addition, we've removed the GAAP effects of stock-based compensation, which significantly increased as a result of the acquisition.

I will give you specifics about the difference between our GAAP and non-GAAP earnings as I discuss our results.

The adjustments to GAAP revenue costs and expense are disclosed in a reconciliation table in the financial tables attached to the press release. We believe these adjusted financial measures will enhance your overall understanding of our current financial performance and our prospects for the future. We used these adjusted financial measures internally for the purpose of analyzing, managing and forecasting our business.

For the fourth quarter, GAAP revenue was $66.1 million. Non-GAAP revenue was $66.8 million. Non-GAAP revenue excludes a $763,000 purchase accounting adjustment to record at fair value the acquired Network General deferred revenue.

Product revenue, on a GAAP basis, was $36.8 million, up 9% year over year and down 14% sequentially. Service revenue on a GAAP basis was $29.3 million, up 22% year over year and relatively flat sequentially.

Non-GAAP product revenue was $36.8 million, up 9% versus last year and down 15% versus the third quarter. Non-GAAP service revenue was $30 million, relatively flat year over year and down 3% sequentially.

GAAP net income for the quarter was $5.7 million, yielding an earnings per diluted share of $0.14. GAAP net after tax margin was 9%. GAAP income from operations was $10 million. GAAP operating margin was 15%.

Non-GAAP income from operations was $14.3 million and operating margin of 21%.

The following items, totaling $4.3 million, are adjustments to arrive at the non-GAAP operating income. The purchase accounting adjustment that recorded fair value the acquired Network General deferred revenue of $763,000 was added back to GAAP revenue. Amortization of acquired intangible assets of $1.5 million, which was principally for the Network General acquisition, was removed from GAAP cost and expense.

Nonrecurring integration expense of $488,000 was removed from GAAP expenses, as was share-based compensation of $1.5 million.

Non-GAAP net income was $8.3 million, or $0.20 per diluted share. Non-GAAP net after tax margin was 12%.

We've used the statutory tax rate of 38% to tax effect the $4.3 million total non-GAAP adjustment amount, removing $1.6 million from GAAP tax expense. The non-GAAP adjustments to our GAAP results are summarized in the reconciliation table included in the press release.

The full year provision for income taxes is an effective rate of 38% on both a GAAP and non-GAAP basis.

Our GAAP gross profit for the quarter was $50.7 million. GAAP gross margin was 77% in the quarter. On a non-GAAP basis, gross profit was $52.6 million and on a non-GAAP gross margin was 79%.

We made the following adjustments to non-GAAP gross profit. $763,000 was added back from revenue. We removed $105,000 of share-based compensation expense, $995,000 of amortization of acquired intangible assets and $50,000 of nonrecurring integration expense. Both GAAP and non-GAAP gross margin was down -- were down 1% from last quarter.

As Anil mentioned, we raised our operating margin model in the third quarter by five points. And we hit it at the high end of the range during the third quarter. We are now raising our non-GAAP operating margin model again. This time by another two points as we plan to realize further efficiencies over time, principally in gross margin.

Our current model is now the following. Non-GAAP gross margin is 78% to 81%. R&D expense to revenue is 13% to 15%. Sales and marketing expense to revenue is 33% to 35%. And G&A expense to revenue is 6% to 8%, yielding an operating margin range of 24% to 27%.

Our Q4 non-GAAP result with an operating margin of 21 points is 3 points below the low end of the model range.

Looking back over the 2009 fiscal year, revenues were strong in a tough economy, and we achieved significant margin improvements. We exceeded the full year guidance that we gave in January 2008. We did that, in large part, by driving up gross margins through price actions and cost reductions.

Full year GAAP gross margin was 76%, up four points year over year. Non-GAAP gross margin was 79%, up three points compared to last year.

GAAP operating margin was 14% compared to an operating loss the prior year, and non-GAAP operating margin was 22%, an increase of seven points over the prior year.

GAAP net margin was 7%, compared to a loss in the prior year. Non-GAAP net margin was 13%, up three points.

This is the result of steady margin expansion, which we achieved over the last six years through both organic and acquired revenue growth, combined with diligent cost and expense management.

Because of our historically improving operating performance, our balance sheet remains strong. Cash in short- and long-term marketable securities were $135.9 million, compared to $119.2 million in the previous quarter, up $16.7 million in the quarter.

Long-term marketable securities include investments in auction rate securities, which we value at $29.5 million. As of March 31, 2009, the value of these securities include the temporary decline in value of $3.6 million below par to reflect liquidity concerns. All these securities are rated A or above, with underlying support from the federal government through the Federal Family Education Loan Program. And we believe they have no credit issues, only short-term liquidity.

We have classified these securities as long term on our balance sheet and reported the temporary decline in value to accumulated other comprehensive income and loss on the balance sheet.

With our strong cash position and positive cash flow, the ill-liquidity of these securities poses no liquidity problems for us as a Company. We believe we will achieve liquidity well before the maturity of the underlying bonds and our temporary valuation adjustment reflects that outlook.

Accounts receivable net of allowances was $39.8 million, down from $46 million last quarter. Day's sales outstanding were 53 million -- 53 days for the quarter based on GAAP revenue. And our typical DSO range -- above our typical DSO range of 40 to 50 days. This is down from 57 days in the prior quarter.

Using non-GAAP revenue, DSO were 52 days.

Inventories were $6.9 million, down from $8 million in the prior quarter. Inventory turns were 3.7 times.

Turning to some other metrics, revenue contribution from direct customers was 33% with reseller revenue at $67 million. Revenue from international sales was 33% of total revenue, up from 23% last quarter. Europe, Middle East and Africa were 22 points of that; Asia was 3. Americas outside of the US was 8 points. The main driver of international business outside the US was wireless service provider sector.

Summarizing large deals that we booked in the quarter, 107 customers gave us orders of $100,000, down from $134,000 in the third quarter. 25 customers gave us orders over $500,000 and 9 orders over $1 million. Five of the $1 million orders came from the wireless sector, three from financial services and one from high-tech.

For the full fiscal year we had 436 customers with orders over $100,000, 88 with orders over $500,000, and 41 customer orders over $1 million.

We continue to see strong bookings coming from the telecommunications sector with 24% of order volume -- total order dollar volume.

Financial services sector was stable with about 22%. And the government sector was 16%. High-tech sector was strong this quarter at 14%, and healthcare followed with 6%.

Bookings for the fiscal year 2009 were led by financial services with 27% of total dollar volume. Telecom was next with 20%. Government close behind with 18%. Following that we had both high-tech and healthcare at 7% each.

As of March 31, our product backlog and product deferred revenue totaled $10 million, down from $20 million last quarter. This quarter we consider product backlog to be firm and the sum of product backlog and product deferred revenue to be material to the understanding of our financial results and guidance. The product backlog decline was clearly a result of the weak spending environment during last quarter.

And now to guidance. As we did last year we're providing only full-year guidance. We do not intend to provide quarterly guidance during the year.

Based on the current state of the economy, our outlook for 2010 remains cautious. We're planning flat revenue with growth in net income per share through higher operating margins. We expect GAAP revenue to be in the range of $257 million to $277 million and the non-GAAP revenue range to be $260 million to $280 million.

GAAP net income per diluted share is expected to be in the range of $0.60 to $0.75 and non-GAAP net income per diluted share between $0.80 and $0.95.

The fiscal year 2010 non-GAAP revenue and net income per share estimates exclude a purchase accounting adjustment to fair value of approximately $1.3 million of Network General's deferred revenue. Amortization of intangible assets of approximately $6 million. Share-based compensation expenses of approximately $5.1 million. Plus, the related impact of these adjustments on the provision for income taxes of $4.7 million.

In the event that the economy improves in the second half of our fiscal year, which analysts and economists are beginning now to project, we would expect to exceed this guidance. However, we're not basing our guidance on uncertain economic and business spending outlooks. It is also clearly possible that economic conditions could continue to worsen. In which case, the low end of our guidance range would be more relevant.

That concludes our financial discussion this afternoon. Thank you for joining us and we look forward to taking your questions. Tim, would you go ahead, please?

(Operator Instructions). Your first question is from Jonathan Ruykhaver from ThinkEquity.

Good afternoon. Hey, Dave, for a backlog down by $10 million sequentially entering the 1Q of fiscal '10, what does that imply in terms of product revenues for the quarter? Should we be expecting a similar type of magnitude of decline sequentially?

You're talking about going forward, Jonathan?

In the current quarter, yeah, from the March quarter looking at product revenues.

Well, obviously our past is, to some extent, prologue. We're not giving quarterly guidance, so I can't comment on the June quarter specifically. But if you take our overall -- service revenue is relatively stable. Slower moving. So if you take the overall annual guidance and spread it out quarterly I think you can draw your own conclusions at a $66 million non-GAAP revenue for the March quarter we're about in the range, toward the low end of the range, of our GAAP guidance.

So we would project, as we said, we're planning flat, which is the $280 million end of the guidance range.

Yeah.

So we would expect product revenue, and following that, service revenue, to grow from the Q4 number over the year. Whether that happens in Q1 or not I can't comment.

Okay. Okay. And then just looking beyond the current slowdown, I think that historically the market you serve has grown with mid single-digit, high single-digits. What is your thought as it relates to adoption or growth of IP networks and further adoption of the technology around supporting critical application over those IP networks? Are those trends likely to change what we have come to see in terms of the historic growth?

I think those trends, all those positive trends are expected to continue. But how much of them will be impacted by the economy is not really clear. I mean, there could be a great impression of the product, but the spending could still be impacted. Overall, our goal is to grow faster than the market. And so if people are talking about low-end single digits, then we hope we can grow into high-single digits. It all depends on the economic conditions and the spending climate.

Okay. And then just final question. How does the trend towards increasing data rates from megabits per second to gigabit throughputs impact your business?

I think it's impacted in a positive way because there is a transition going on from 1 gig to 10 gig right now. And it takes the same level of effort to sell a 10 gig device as the 1 gig device, yet the prices are two to three times higher for the 10 gig device versus 1 gig. So overall, the sales cycle is about the same, but we get bigger revenue as the speeds are increasing.

Are you seeing customer activity or potential customer activity in development because of that trend towards 10 gig?

Yes.

And can your product work effectively today in a 10 gigabit environment?

That's right. Yeah. We have made several changes to the product and the architecture to make it work in that way.

Okay. So can it work today or do you have to make some changes in the hardware and software side in that --

No, we have been serving the product for over a year now. And we had to make the changes, but those changes are already in place.

Okay. Good. Okay. Thanks a lot.

That was a long question, Jonathan.

And your next question is from Eric Martinuzzi from Craig Hallum.

First a point of clarification and then a question. Your script talks about a difference between the GAAP and non-GAAP revenue guidance for the year, and your press release talks about those being the same number. Is the script correct on that point?

The script is a little more accurate. The ranges are pretty close; $3 million apart. So in the script we chose to make that distinction clear.

Okay. All right. And then my question has to do with a new partnership with the major industry leader. We've waited a long time for this. I'm curious to know -- obviously if you could say the name you would have, but is this relationship going to be sold via an OEMing or a reseller relationship? And then could you comment on whether it's a global or a North American relationship?

Right now I think we prefer not to give any comment because if we start answering part of your question then we'll -- indirectly we're disclosing the name.

Okay. Well, then maybe I'll defer to my backup question. You're going to be cross selling security. Right now you kind of sell to a network manager. How do you expect, you know, security doesn't lack for product vendors. How do you propose to penetrate that market?

Well, just like in the performance area, our big difference is every product in the network management, performance management area has a quality of data and then analysis of the data. And the way we defer it would be the backup (inaudible) instrumentation. The quality of data is quite different than other data sources.

Similar to that in the security area, we see that the quality of data, which is [back in base], can provide different kind of security information and point out the security -- potential security threat and anomalies. And that will be the differentiator, just like in the performance area. I know there are a lot of products out there, but the type of products we'll be solving will be complimenting some of those and competing with those.

Thank you.

And your next question comes from Alex Kurtz from Merriman, Curhan & Ford.

Yeah. Thanks, guys. You know, when you guys look at your non-GAAP revenue guidance, can you just take us through the assumptions you're making by vertical and sort of what you're thinking about as far as growth rates? And as a follow-up to that what have you seen as far as any kind of stability in the last couple of weeks or the first part of April as far as demand? Can you give us a sense of that, too? Thank you.

Alex, as far as the growth rates by vertical, we really can't comment on the details of vertical growth. We can say things that we've said in the past about the continuing strength of the wireless business and the continuing spending and build-out by wireless carriers.

Weakness in financials, offset partially by interest in financial trading, continuing a growth and demand in financial trading segments of the financial services. And clearly the government has no spending constraints at the moment. So that's -- you knew that before. I didn't tell you anything we haven't already said. I'm sorry. That's about the limit of what we can do.

And what was the second part of your question again? I'm sorry.

Demand trends toward the end of March and beginning of April. Have you seen any change?

It's too early for us to know that, to really have a good feel for that. And the reason for that is, of course, this is the end of our fiscal year, so a lot of things change. We spent a lot of focus -- the sale -- we just had our worldwide sales meeting. The salesmen are all -- we're all sort of focused inward for the first -- most of the month of April. So we don't have a good read on it yet.

Okay. And we -- sorry, European had a big increase sequentially and obviously Americas came down on an absolute basis. Is that -- should we expect that to continue or are there very specific customers that you'd expect to come back in the first part of the year in North America?

Well, we expect North America to continue to be a strong contributor, the major contributor. You have to keep in mind that even with the larger size of our revenue, some of the -- as a Company, deals for large customers, particularly service providers, can be large enough in one area to swing the numbers, swing the percentages.

Right.

And that's happened in Europe in our recent past. There will be times when we won't get one of those big deals from a big service provider in Europe or Latin America or elsewhere, and then you'll see the numbers swing back. But we do expect to continue to get -- gain share outside the US and to have the US portion of our business grow faster because there is more opportunity outside the US, particularly in wireless carriers, than we've yet tapped.

Okay. Okay. Great. And just a housekeeping item. Just free cash flow in the quarter.

Hold on one second. Why don't we -- if you'll -- if that's your last question we'll get the free cash flow question and yell it out a little later. It'll take us a minute to dig it up.

All right. I'll yield the floor. Thanks.

Thank you.

And your next question is from Rohit Chopra with Wedbush Morgan.

Hi, guys. I just had some clarification. So while you're looking for that can you add a couple other things in there? CapEx, depreciation, amortization and headcount?

Okay. Well, we've got some of those numbers already.

All right. And then --

Yeah.

Go ahead. Go ahead.

CapEx was $1 million. Depreciation was $1.5 million. Amortization -- I think we're going to have to dig that one. And headcount was 789.

789. And --

So we owe you amortization and free cash flow.

That's okay. I'll wait for that. It's not a problem. And then I was wondering if you could talk about two things. The -- coming in at the low end of your guided range, would you say that it was possibly some deal slippage or some push-outs, or are they canceled deals that you're seeing in the pipeline? Is that what's going on there?

We don't -- it was not. And I personally don't believe in deal push-outs as a reason that people miss quarters. Obviously deals don't happen when you expect them most of the time, a lot of the time, and you have to have enough stuff in your pipeline to recover from that if things are going well.

We did not see major deals that slipped over the line. That wasn't the issue. We saw a general weakness starting pretty early in the quarter and relatively clearly not going to recover, not likely to recover. And it was the -- really the uncertainty of budgets early in the year, which we knew when we announced -- or chose not to announce full-year guidance in January, that we had to assess. As we assessed it, it became clear that we were not -- there was not going to be certainty of budgets for several months for many of our customers.

And that's really what we saw. We didn't see customers saying, "I thought I was going to use your product and now I'm not." We saw customers saying, "Not now. I don't know what my budget is going to be, so I can't decide right now."

We believe that the opportunities that we faced, that we saw six months ago, if they haven't happened yet they're still on the boards.

Okay.

Not to say there isn't competition, but that's not the -- that's not the issue. It's really the overall spending climate.

Okay. And the other question I had was the relationship that you have with Cisco for the wireless LAN product I think that they have, how big an opportunity do you think that is?

Well, we think that our wireless opportunity is a significant opportunity for us ahead.

Okay. Thanks.

You're welcome.

And your next question comes from Scott Zeller with Needham & Company.

Hi. Good afternoon.

Hello.

Could you tell us what the assumptions would be looking forward in the gross margin area for the next several quarters?

Yeah. Well, we expect to continue to make improvements in cost. We are continuing to rationalize our product line and take -- and find other ways, besides that, to take cost out. In this economy everybody is squeezing their vendors, and so are we. And it's a good opportunity to do that. And we're finding that we're -- we're finding ways to reengineer and compete cost out. It's nothing more dramatic than that. It is something we expect for much of the fiscal year to be able to continue to succeed at as we have.

Okay. Was there a -- I may have missed it in the script, but was there a percentage of revenue from existing customers given?

No. We didn't give that. We maybe -- we've stopped talking about that. It's fair to say that it continues about in the same range of very high 90% range from existing customers. Perhaps a little higher this quarter just directionally than in an average quarter. That often happens in Q4 as -- particularly in a downturn as the sales force is able to work more closely with existing large customer than they are with new customers on typically smaller deals. So I would expect it's a little higher than average.

And then the last question is on cross selling revenue impact. Do we have a measure of that for the quarter? Can you quantify?

Well, you know, we haven't quantified. We don't quantify it internally, Scott. Sorry. So I can't really shed light on that. But we do expect -- the thing to keep in mind is that when we integrate it -- completed integrating the product, we rolled that out basically around the first of the calendar year. And the integrated product, therefore, is relatively newly in the hands of the sales force and the customer set. And so we expect most of that impact from selling the NetScout function to Network General at the customers and vice versa, to begin in earnest now. So we do expect that that's -- that's part of what gives us confidence that we can, in a weak economy, target flat revenue.

I guess the follow-up on that is I understand that it's not quantifiable right now, but do you think going forward, given that the product is integrated, will it be possible to actually measure cross sale?

Not -- no, because everything is sort of intertwined now. So when we sell an integrated product, is that -- to a Network General customer, did he buy it because it was -- it has the function he was used to buying or did he buy it because it has the new function? We'll never know.

And plus, many of the customers were joint customers. That makes it even more difficult.

Okay.

So we're not going to try to measure it. We do -- we are focusing the -- you know, the sales force with the value proposition from the -- from NetScout, particularly at Network General customers because we think there's a strong value proposition there to be made. But we're never going to be able to measure it.

Okay. Thank you.

You're welcome. If I can take a quick segue here, we have amortization, for those of you waiting eagerly for that number. $1.5 million of amortization of intangibles. And free cash flow was $18.6 million. That's the end of my segue.

Okay. And your next question comes from Gabe Lowy with Noble Research.

Thank you. Good afternoon.

Hello.

Hi.

Few questions. First, David, if you can drill down a little bit on color on what you might be doing in the way of cost initiatives. You sort of touched on that in the script. Besides at the gross margin line with squeezing the vendors, getting better engineering out of the product. Do you have room or flexibility in the operating expenses as well?

Well, we do and we are being very prudent in our operating expense. I think you'll see in the -- when you look at the EPS versus the revenue guidance that we are basically holding operating margins at lower revenue, at the low end of that range. And growing operating margins at flat revenue at the higher end of that range. And obviously in order to do that we have to be circumspect about incremental spending. So we are doing that, starting now. Starting actually before now. We started before the end of last year to put those things in place.

We are obviously being prudent in terms of spending reductions in areas that we think will provide long-term strategic advantage for us. So we are continuing to invest in the sales force. We are maintaining investment in R&D. And but what we're doing is we're cutting out programs and reducing programs that we think won't have a significant long-term impact.

Okay. Also, if you can address what you're seeing in the competitive environment here over the last quarter and currently looking out, has the behavior of competitors changed besides pricing? Anyone emerging? Anyone falling back from your field observations?

Well, in the enterprise area we have basically claimed the two major segment, enterprise and service provider. In enterprise segment we have a lot of small competitors. And by the way, neither of those competitive environments have changed recently. But we have dominated by a lot of small competitors, and we are not seeing any pricing pressure because of that.

On the service provider side we have some big competitors, like Tektronix and Agilent and -- who basically are the incumbent in that space. So we see a lot of competition from that area. Again, that landscape has not really changed recently.

I'm intrigued by this entry into the network behavior analysis market. Is that coming with a standalone appliance, or is this software that will eventually find your way onto the converged nGenius InfiniStream appliance?

I think you got it right. The biggest differentiator we have is in order to take advantage you don't have to buy any appliance. It will work with your existing appliance, which we bought -- which they have bought recently over the last year or so. And --

So it's a software upsell?

Yeah, software upsell. And but the prices for the end user are dramatically different, dramatically lower than other solutions who will require you to buy appliance also in addition to the analysis application. In our case they'll be just buying the software application, which is -- so we think that that's a big competitive advantage we have in the behavior analysis area.

Okay. And my last question is are you sensing from the field, not only in the three core verticals but beyond that, in the three verticals it's pretty apparent -- at some point we viewed the technology or the market rather as catching up with the technology. And as network complexity grew, customers started to view this type of product more strategically. Is that still occurring and it's just being squeezed by budget, or has it sort of become more backburner? Again, nice to have type product that we'll have to wait out until other priorities get funded first.

Gabe, this is David. It is still occurring. It is impacted and slowed down by the spending constraints. But that's not changing the underlying trend. It is a -- one way to think about it is as customers of ours, potential customers of ours, increasingly begin to compete amongst themselves with their -- in their core business with their technology, that is the trend that drives them more and more toward expensive solutions, high-end solutions like ours, as opposed to software-only solutions.

So it has happened clearly in high-speed algorithmic trading, versus the trading that occurred -- used to occur typically five, six years ago. And that has driven demand in that market. It's obviously occurred in the wireless carrier space where data has arisen. IP-based data has arisen as a major traffic element. And they're clearly competing on the basis of their technology performance in both cases.

And we think that's going to continue over time in other sectors, but it takes time for people to decide they're going to make that commitment to compete based on the performance of their technology. They tried to differentiate themselves on that basis. But there's no doubt that the growth of the use of technology in amongst organizations, whether they're governmental or service provider or enterprise, is growing, not shrinking.

Think about the healthcare initiative that the government is pushing for electronic records. It's not clear exactly what the path is through that. But one thing is clear is it's going to put more demands and strains on healthcare networks around the nation and for performance. And that's good for us. That's only the most -- one of the more obvious sectors where that trend is playing out.

Does that help?

Thank you. Last one was -- I didn't quite catch you, but there were two product areas mentioned. The MBA was one of them. And then there was -- I didn't quite catch it. It was something about a dPacket appliance as well that's a new product coming, is that right?

Yeah. There's a new product coming at the low end of the price range. And that's what we were talking about. It works like InfiniStream but it's a lower end. It's for small- to medium-size customers. But basically we have the same way as (inaudible) InfiniStream except it's a low-end product.

Right. So it basically takes us down market, both in terms of ability to serve our large customers in smaller locations with the same solution -- a lower cost, a lower price point for the same solution. And also to compete more for smaller customers.

And is that going to be through channel, or are you still going to market that more through direct sales?

It will be through our sales that exist.

Right. We're increasingly getting the channels interested in -- this is a long process, but getting the channel more interested in being more proactive, one channel partner at a time. So we do expect that more of our overall solution, and particularly some low-end products that we're going to be talking about in going forward, will be picked up by the channel. But this product will be -- is really part of our overall solution and will be carried by the direct sales force.

Thank you.

Thank you.

And at this time there are no more questions in queue.

All right. Well, thank you all very much for your interest and your time today. And we look forward to seeing you at the end of our first quarter toward the end of July. Thanks again and have a good evening.

That concludes today's conference call. You may now disconnect.