Netscout Systems Inc (NTCT) 2016 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to NetScout's Second Quarter Fiscal Year 2016 Results Conference Call. As a reminder, this call is being recorded. Andrew Kramer, Vice President of Investor Relations and his colleagues at NetScout are on the line with us today. I would now like to turn the call over to Andrew Kramer.

Thank you, Operator, and good morning, everybody. Welcome to NetScout's Fiscal Year 2016 Second Quarter Conference Call for the period ended September 30, 2015. Joining me on this morning's call are Anil Singhal, NetScout's co-founder, President, and CEO, Michael Szabados, NetScout's Chief Operating Officer, and Jean Bua, NetScout's Executive Vice President and Chief Financial Officer.

We've included a slide presentation of key financial data that accompanies the financial section of our prepared remarks. For those listeners who have dialed in to the call this morning and would like to view this slide presentation, you can find it by going to our website at www.NetScout.com/Investors and then clicking on today's webcast. That should be posted now. You can advance the slides in the webcast viewer to follow along with our commentary and we'll try to remember to call out the slide number we are referencing in our remarks.

As you know, our Q2 results reflect the first quarter of combined operations since completing our acquisition of Danaher Communications business in mid-July. In terms of our agenda for today's call, Anil Singhal will first provide an overview on the results and share his perspective on the opportunities and challenges that lie ahead. Our COO Michael Szabados will offer some insights on near-term integration activity and key drivers for customer adoption with a focus on the enterprise marketplace. CFO Jean Bua will then provide additional detail on our second quarter financial performance, as well as discuss our guidance.

Moving on to slide number 3, I would like to remind everybody listening that forward-looking statements on this presentation are made pursuant to the Safe Harbor provisions of Section 21E of the Securities Exchange Act of 1934, as amended, and other federal securities laws. Investors are cautioned that statements in this presentation, which are not historical statements constitute forward-looking statements which involve risks and uncertainties.

These include without limitations, statements relating to our financial guidance, anticipated share repurchase, integration and product development plans and expenses, adoption of our products and solutions by our customers, our ability to effectively compete for service provider opportunities, being well-positioned to drive top line growth in the enterprise segment, the anticipated benefits of NetScout's acquisition of the communication business lines of Danaher Corporation and the performance of the combined Company. Actual results could differ materially from the forward-looking statements.

Risks and uncertainties which could cause actual results to differ include, without limitation, the other risk factors outlined in today's press release and slide presentation and NetScout's Annual Report on Form 10-K for the fiscal year ended March 31, 2015, which is on file with the Securities and Exchange Commission and available on our website. NetScout assumes no obligation to update any forward-looking information contained in this press release or with respect to the announcements described herein.

Finally, I would like to remind you all that while the slide presentation includes both GAAP and non-GAAP results, unless otherwise stated, financial information discussed on today's conference call will be on a non-GAAP basis only. Non-GAAP items are described and reconciled to the GAAP results in today's press release and they are included at the end of the slide presentation that's made available online on our website. As Jean will note, the timing of the acquisition will skew period to period comparisons and the potential discussions related to growth rate. If we note growth rate, we will strive to clarify the nature of the comparison.

As detailed in our press release today, NetScout reported solid second quarter results highlighted by a two plus month contribution from the acquired businesses. We've also made good progress in our efforts to advance the integration initiatives that are critical for driving the company's performance.

At this point, I'll turn the call over now to Anil and then my other colleagues to expand on these and other points. Anil, please go ahead.

Thank you, Andy. Good morning to everyone listening and thank you for joining us today. As Andy mentioned, our second quarter results reflected the two plus month contribution of the acquired Danaher Communications business. At the high level, our non-GAAP revenue of $281.8 million reflected good execution across our Company. In terms of profitability, we reported non-GAAP EPS of $0.47 thanks to the solid revenue performance in combination with prudent cost management and our share repurchase activity.

As we've discussed with you previously, the acquisition helps accelerate our strategic progress, enabling us to double our total addressable market to over $8 billion with a broad portfolio of market-leading products, extensive domain expertise, and stronger go to market capabilities that can help us address the dynamic requirements of a larger, more diverse, and more global customer base.

With a compelling value proposition, better market access and substantially greater operational scale, we believe that the new NetScout is well positioned to create substantial value for our stakeholders as we focus on driving solid revenue growth and expanding operating margins, cash flow, and earnings per share over the long term.

An important element of our strategy to help realize NetScout's full potential involves driving tighter integration, collaboration, and coordination within and across this asset base. NetScout has used this approach before with our other acquisitions but it is quite different from how the acquired assets had been managed under their prior ownership.

For these reasons and due to the impact of various accounting considerations related to the closing of the transaction, comparisons with the prior year periods may not be representative and should be made with caution. Nevertheless, we will try to highlight notable performance metrics and trends in our commentary when appropriate.

In our service provider segment, our performance was highlighted by good traction with customers deploying our nGeniusONE solutions, along with the successful execution of a significant and exciting project with one of our Tier-1 service provider customers. This project, which involved achieving acceptance at dozens of different customer sites, was completed on

schedule thanks to the diligence and hard work of our sales, engineering, and professional services teams.

Our success this quarter helps underscore the importance of our collective capabilities in helping the world's largest and most innovative service providers seeking to differentiate their services on the overall quality, resiliency, and stability of their network.

NetScout's security business, Arbor Networks, is a new and important part of our story. Arbor is recognized today as the market leader in helping both service providers and enterprises worldwide protect their networks from high-volume and application-specific distributed denial of service attacks. During the quarter, Arbor continued to make progress fortifying its relationships with major service providers, closing a number of six and seven figure deals during the quarter.

Overall, approximately 61% of our total revenue came from our service provider customers, which is generally in line with our view on revenue by segment that we shared at our Investor Day event. With that said, given the large and lumpy nature of certain service provider projects, the mix is likely to vary considerably from quarter to quarter.

In our enterprise segment, we worked diligently to address near-term customer

requirements. In terms of order trends, we have seen healthy demand remain in certain verticals such as government and high tech. As Michael will highlight, we've been very pleased that a growing number of US government agencies and branches of the armed forces have standardized on nGeniusONE as part of new infrastructure initiatives and technology refresh projects. This

dynamic helped partially offset softness in other verticals such as financial services as well as foreign exchange headwinds.

In terms of security, Arbor continued to gain traction in the enterprise while taking important steps to further extend its market leadership by broadening its product portfolio.

We have been pleased with the overall market reception following the acquisition. While there are minimal levels of overlap between Fluke and NetScout in terms of the enterprise customer base, we did experience some disruption with certain enterprise sales and distribution channels. We do not believe that these issues will impact our performance over the long term, and we have taken and will continue to take steps to not only address those issues but to also leverage NetScout's broad product portfolio and global sales footprint.

As we make further progress in refining our go to market approach and advancing some exciting development initiatives, we believe we will be well positioned to drive solid top line growth in the enterprise segment moving into fiscal year 2017.

During the past two months, I've spent considerable time with many of our largest service provider customers around the world. There is a healthy level of enthusiasm from customers about how the new NetScout can support their efforts to achieve key business objectives by improving the way they manage and protect their infrastructure.

In particular, we've received positive feedback from customers about our efforts to offer an integrated solution that can support the best in class troubleshooting capabilities from TekComms along with NetScout's best of breed monitoring, and our development activities on this front are moving forward.

Nevertheless, our optimism is tempered by the fact that the service provider capital spending environment remains very fluid, and we are seeing certain

service providers move cautiously to advance major new infrastructure projects in light of their broader capital spending and operational expense objectives.

Another product area where we have made initial progress is in our packet flow switch where we have brought together our own capabilities with the VSS Monitoring operation. As some of you know, during the past three years, we have been very successful in selling our packet flow switch as a complementary accessory to our broader network monitoring solution.

VSS allows us to compete much more effectively for service provider opportunities where legacy NetScout is not the primary incumbent as well as in supporting security applications for enterprise customers. We are taking steps to further integrate the development teams and refine our technology roadmaps and go to market plans as we focus on the platforms and capabilities required to bring the most value to our customers and prospects.

In summary, our progress, achievements, and performance in the initial quarter of combined operations reflected positively on the way we have brought our companies together. We've accomplished a lot in our very first quarter together while remaining focused on addressing the needs of our customers. We have unified our sales organizations and other corporate functions. We have also rolled out our vision and plans to the senior team and the broader employee base and we've begun to execute on those plans.

On the product front, we have taken important steps to align our product portfolios, and we have kicked off several exciting product integration initiatives, all of which will be critical to driving long-term adoption by customers and prospects. While we've made good progress, we recognize that there is more work to be done in order to achieve our goals for the fiscal year and beyond.

Looking ahead, we remain confident in our strategic direction, value proposition, and in our ability to execute on a wide range of opportunities in front of us. Accordingly, we've left our non-GAAP revenue guidance for the fiscal year unchanged while adjusting our non-GAAP earnings per share outlook to reflect the net effect of accretion resulting from our year to date stock repurchase activity and the anticipated full year interest expense.

I'd like to conclude by noting that the overall level of investor interest and support for our Company has been very gratifying thus far. And finally, I want to be sure to thank the 3,100 plus individuals who are part of the new NetScout team for their hard work, focus, and good execution during the quarter.

With that said, I will now turn the call over to Michael.

Thank you, Anil, and good morning, everyone. It was a very busy and productive quarter for NetScout from an operational perspective. We made tangible progress in smoothly transitioning over 2,000 Danaher employees to NetScout's payroll and benefits while also establishing an interim IT and financial control infrastructure.

Because of the carve-out nature of the acquired entities, we are continuing to receive transitional services from Danaher in certain areas pending the establishment of the corresponding functions at NetScout. These transitional services agreements which span certain facilities, select manufacturing, human resources, and information technology services, as well as the use of Fluke and Tektronix brands, are expected to conclude by the second quarter of fiscal 2017.

As we wind down these agreements, we expect to improve our expense base and streamline operations in a number of areas. For example, we plan to standardize our global sales organization on a common order management and sales CRM platform as we move into fiscal year 2017.

Our other near-term priorities include cross-training our sales teams on their expanded product and solution portfolios, transitioning reseller partners to NetScout, and developing demand generation campaigns that can leverage our extended and expanded skills and capabilities brought in through the acquisition.

Our goal, whenever possible, will be to complete as much of this activity as possible during the next two quarters in order to enter fiscal 2017 with good sales and marketing momentum. An early example of this was our announcement last week that we have aligned our go to market activities in the Middle East under the NetScout banner.

In terms of progress with our customers, I'd like to call several wins to your attention. These wins help underscore the unique value of NetScout's technology in helping its customers innovate with confidence in order to advance their technology projects and achieve key business and financial objectives.

First, as Anil mentioned, we've won a number of significant deals within the government market. Some of the largest Federal agencies and branches of the military in the United States continue to rely on NetScout's nGeniusONE platform to standardize the way they are managing their networks and broader IT infrastructures.

In particular, we are helping a major legal agency modernize their monitoring infrastructure as they've been challenged to support a broader range of public-facing applications and rising voice and video traffic. This project encompasses deploying close to 200 InfiniStream appliances across their data centers and remote sites, enabling them to increase and assure service levels in their nation-wide, public-facing voice and video network.

With over $20 billion annually spent by companies around the world to build, maintain and expand their unified communications or UC infrastructures, this is an area in which NetScout shines due to the scalability of our solutions in combination with a range of analytics that enables enterprises to effectively monitor data, voice, and video over a converged IP infrastructure and thus accurately measuring call quality and quickly, efficiently triaging UC performance issues.

During the second quarter, one of the world's largest and most innovative providers of personal technology decided to use our solutions in their key data centers to help them gain visibility into their call center and internal voice communications by deploying a combination of nGeniusONE servers, our unified communications software, and InfiniStream probes.

In the service provider marketplace, we are seeing leading mobile carriers offload their wireless traffic onto Wi-Fi infrastructures while cable MSOs are seeking to further monetize the expansive Wi-Fi footprints that they've have built out over the past several years.

We recently closed a multimillion dollar agreement to help one of the largest cable MSOs in the US monitor its Wi-Fi network with NetScout's nGeniusONE. This customer determined that our solution was a superior alternative for monitoring this infrastructure and ensuring a high quality user experience. Previously, the customer used log file collection tools and found that this

approach could not deliver the breadth and depth of performance data that would allow them to confidently manage this strategic asset.

We've continued to advance key product development activities that can enable us to address important customer requirements, particularly in growth oriented market sectors. We believe that Wi-Fi is an attractive growth market for NetScout's technology in terms of how we can bring value to both service provider and enterprise customers.

Moving forward, we are looking to leverage the wireless network design and analysis capabilities we acquired with Fluke. Fluke has continued to keep pace with the ongoing evolution of wireless standards as reflected in our

announcement last week that some of Fluke's most popular network analysis and troubleshooting tools are now supporting the latest wireless standard.

Security is another growing market where we are much better positioned as a result of the acquisition. In particular, our Arbor Networks division has continued to take steps to extend its market leadership.

Earlier this month, Arbor announced a major product initiative to further

expand the breadth and depth of its DDoS or distributed denial of service capabilities. By bringing enhanced and new offerings to the marketplace, including new on premise and cloud capabilities that provide greater deployment flexibility along with new managed services, Arbor is extremely well positioned to protect and extend its market leadership.

We are pleased with the market reception of NetScout following the completion of the acquisition. We continue to win mindshare with leading industry experts and top trade publications. For example, Ovum, a top global technology research and advisory firm, published an executive update about the growing strength of Newfield Wireless, a unit within Tektronix Communications that is focused on radio access network optimization.

Last month, Network World, the foremost provider of news and insight for network and IT executives, recognized NetScout as one of the world's top 25 most powerful enterprise networking companies.

In closing, we have been pleased with our initial progress in uniting over 3,100 talented individuals. As we move forward, we're focused on building on our momentum with current and prospective customers in our service provider and enterprise segments. I look forward to sharing additional news about our success on these fronts with you the next quarter.

That concludes my remarks at this point. I'll turn it over to Jean for the financial review.

Thank you, Michael, and good morning, everyone. This morning I will review our performance for the second quarter and then discuss our guidance for the upcoming fiscal year. As a reminder, our results this quarter reflect the two and one half months' contribution of the acquired Danaher Communications assets. As expected, there were a number of acquisition-related items that impacted our GAAP results so our convention will be to refer to our non-GAAP results unless otherwise noted.

On a related note, and consistent with our comments earlier on the call, the timing and magnitude of the acquisition will impact comparisons with the prior year periods and any other extrapolations of our second quarter results may not be representative. When possible, we will frame our results against prior periods on a pro forma basis.

To begin our financial discussion, we will be starting with slide number 7 of our presentation which is accompanying this call. As a reminder, the slides are posted on our website.

For our second fiscal quarter, total non-GAAP revenue was $281.8 million. As Anil noted, our revenue performance was driven by the completion of a large project for a tier one service provider, along with efforts to address the near-term demands of our broader customer base.

On a pro forma, foreign exchange neutral basis, the revenue growth would have been approximately 8%. We were generally pleased with the overall level of demand in a number of our core product areas, most notably in security and within nGeniusONE. Product revenue was $181.5 million, or 64% of total revenue with service revenue comprising the remainder. This is generally in line with the information we shared at our Investor Day event earlier this summer.

Gross profit was $212.4 million. Our gross margin percentage for the quarter was 75.4%, which reflects the overall product mix for the quarter. Operating income for the quarter was $67.4 million with a 23.9% operating income margin. This reflects the overall top-line performance of the business in combination with prudent expense management as we advanced our integration activities.

For the second quarter, we reported net income of $43.6 million, or $0.47 per diluted share. Our original estimate of the tax rate for the quarter was 45% to 47%. However, the actual results reflect a tax rate of approximately 35%. The difference between the estimated tax rate and the actual tax rate resulted in $0.08 of earnings per share.

While we also repurchased shares this quarter, the reduction in the fully diluted share calculation was offset by the increased interest expense for the $250 million in debt. The net income margin was 15.5%.

In terms of our first-half non-GAAP performance, total revenue during this period was $382.6 million. Product revenue for the first two quarters was $235.1 million with service revenue coming in at $147.5 million. For the first six months of fiscal year 2016, EPS was $0.86.

Slide 8 illustrates our second quarter and first half revenue performance for fiscal year 2016 by segment. We've modified our customary year to date reporting to focus on the second quarter performance since this is the first quarterly reporting period of the combined business.

Approximately 61% of total quarterly revenue came from our service provider

segment with the remainder coming from enterprise. As Anil mentioned, the legacy TekComms business had a very strong quarter, completing a major project for a tier one service provider that spanned dozens of sites. It is worth noting that this business returned to positive revenue growth following five consecutive declining quarters.

In terms of some color within the segments, on a pro forma basis, we generated robust revenue growth from service provider customers as the results at TekComms were complemented by a more modest increase in revenue within the legacy NetScout service provider customer base.

This growth was partially offset by a more modest revenue decline from enterprise customers due primarily to the timing of certain large enterprise orders last year, sluggish spending in certain verticals such as financial services, and headwinds related to changes in foreign exchange rates, most notably with the Euro, the Brazilian Real and to a lesser degree the Japanese Yen.

Let's turn to slide 9 for a review of revenue by geography. For this slide, we'll focus on the quarterly revenue mix, which was 75% domestic and 25% international. As previously mentioned, the large tier one project skewed the mix more in favor of the United States. Within our international second quarter revenue, Europe represented 14% of revenue with 5% for Asia and 6% for the rest of the world.

In terms of other revenue detail, we had one customer that represented greater than 10% of revenue. The majority of the revenue from this customer was associated with the large project we've referenced, although this customer did purchase projects -- products from multiple NetScout units during the quarter.

Thank you, Operator. I appreciate everybody -- for those of you who have dialed back in. We apologize for the technical issues that our call service provider has experienced. We're going to try to pick up as -- where we believe we left off. In the interest of time, we'll try to keep those comments as brief as we possibly can. We recognize your time is important. I'm going to turn the call back to Jean Bua who was in the midst of her financial review.

Hi, everyone. Why don't we just start at slide 7 which is the income statement for the quarter and for the year to date? And rather than reliving the highlights of what we did I'll just give you some of the pertinent points again.

Our revenue on a non-GAAP basis, our total revenue on a non-GAAP basis was $281.8 million. On a pro forma, foreign exchange neutral basis, the revenue growth would have been approximately 8% for the quarter. Product revenue was $81.5 million or 64% of total revenue. And service revenue comprised the remainder. Gross profit was $212.4 million and our margin for the quarter was 75.4%. Operating income for the quarter was $67.4 million with a 23.9% operating income.

For the second quarter, we reported net income of $43.6 million, or $0.47 per diluted share. The original estimate of the tax rate for the quarter was 45% to 47%. However, when we finished the actual tax provision, the actual results reflected a tax rate of approximately 35%. The difference between the estimated tax rate and the actual tax rate resulted in $0.08 of earnings per share.

While we also repurchased shares this quarter, the reduction in the fully diluted share calculation was offset by the increased interest expense related to the $250 million in debt that we drew down. The net income margin was 15.5%.

If we turn to slide 8, this is our revenue composition. Approximately 61% of total quarterly revenue came from our service provider segment and the remainder came from enterprise. As Anil had mentioned, the legacy TekComms business had a very strong quarter, completing a major project for a tier one service provider that spanned dozens of sites. And it's worth noting that this business, this piece of our business returned to positive revenue growth following five consecutive declining quarters.

In terms of color within the segments, on a pro forma basis we generated robust revenue growth from service provider customers as the results at TekComms were complemented by a more modest increase in revenue within the legacy NetScout service provider customer base. The growth was partially offset by a more modest revenue decline from enterprise customers.

Slide 9 is our revenue by geography. For this slide, we'll focus on the quarterly revenue mix, which was 75% domestic and 25% international. As previously mentioned, the large tier one project skewed the mix more in favor of the US. Within our international second quarter revenue, Europe represented 14% of revenue with 5% for Asia and 6% for the rest of the world.

In terms of other revenue detail, we had one customer that represented greater than 10% of revenue. The majority of the revenue from this customer was associated with the large project that we've referenced, although this customer did purchase products from multiple NetScout units during the quarter. We expect purchasing from this customer will continue into

future quarters, but it is expected to moderate from our second quarter levels. No other customer represented more than 2% of revenue.

Slide 10 details our balance sheet highlights and free cash flow. We took steps during the quarter to strengthen the Company's liquidity, and increase its financial flexibility while also improving balance sheet efficiency by completing a new five year, $800 million senior secured revolving credit facility in conjunction with the closing of the transaction.

We drew down $250 million on this line during the quarter to support the combined companies initial post-acquisition working capital needs as well as to execute on our share purchase plan. We ended the quarter with cash, short-term market securities and long-term marketable securities of $351.4 million. This puts our total liquidity at just over $900 million.

Our second quarter fiscal year 2016 free cash flow for the quarter was a use of $8 million dollars. This reflects $2.3 million in cash used by operations plus $5.7 million in capital expenditures and the purchase of intangible assets. Our free cash flow this quarter was effected by the timing of remittances from Danaher for certain accounts receivables collected under our transitional services agreement and other reimbursable items totaling approximately $29 million.

Adjusting for this amount, our free cash flow for the quarter would have been

$21 million. These remittances will be transferred in the next few weeks and will be included in our third quarter cash flows. Also of note, within our cash flow this quarter was a one-time item involving the payment of $14.5 million for business development related activities such as investment banking fees and other professional services related to the acquisition.

Accounts receivable net of allowances was $165.1 million and, is up significantly from $82.2 million at the end of fiscal year 2015. This reflects the incremental receivables from the acquired businesses. Days sales outstanding was 50 days for the quarter versus a DSO of 43 days for the same period in the prior year.

Our total deferred revenue was $272.6 million. Generally, the trend line across the combined companies' operations was consistent with our expectations entering the quarter. As many of you may recall, in conjunction with the recent Danaher transaction, the Board authorized a 20 million share repurchase plan and there is no stated timeframe for completion.

Our primary financial objective is to maximize total shareholder return and we consistently evaluate our share repurchase activities as well as other value creating vehicles such as M&A, strategic partnerships, and dividends. Our on-going capital allocation policy incorporates detailed financial planning and analysis, and we consider multiple factors including operations,

strategic business investments, prudent leverage, liquidity, free cash flow, cost of capital, market conditions, and other metrics.

Our target share repurchase strategy relies on three primary components. The first component is compensation neutrality, which is oriented around repurchasing shares for employee compensation. A second component is opportunistic repurchases based on market, economics, and other conditions. The third component is overall prudent financial management for any excess capital.

To that end, in the past three years, we have continuously repurchased shares representing the compensation neutrality portion. Additionally, in this past

quarter, we repurchased 4.5 million shares for a total of $176 million. At this time, we are currently anticipating being active in the market during our third quarter. We continue to evaluate share repurchase opportunities and will provide more information on this topic as appropriate.

Turning to our guidance for fiscal year 2016 on slide 11, as we outlined in today's press release, NetScout refined its fiscal year 2016 guidance that we originally issued at the end of July. Our guidance today reflects updated estimates related to the anticipated impact of the Company's share repurchase activity through the second quarter of fiscal year 2016 as well as the anticipated full year interest expense as we seek to optimize our capital structure.

Focusing more specifically on our non-GAAP guidance for fiscal year 2016, our revenue guidance is unchanged and it ranges from $1.05 billion to $1.1 billion. Our non-GAAP earnings per share guidance was adjusted to reflect the net effect of anticipated full year 2016 interest expense of approximately $4.6 million and the Company's incremental repurchase of nearly 4.5 million shares in the September quarter. As a result, we now anticipate that non-GAAP net income per diluted share will be in the range of $1.82 to $1.97. Our fiscal year 2016 guidance does not include any additional share repurchase activity at this time.

As we stated last quarter, our guidance assumes the majority of the full year revenue and EPS guidance will be generated in the second half of the fiscal year. More specifically, we currently anticipate that the third quarter will represent approximately 28% to 30% of the midpoint of our full year revenue guidance range.

Based on this revenue outlook, we would expect that earnings per share for the third quarter would contribute about 20% to 22% of the midpoint of our full year earnings per share guidance range.

In terms of more detailed modeling assumptions with regard to the tax rate we anticipate a full year effective tax rate in the range of approximately 35% to 37%. As is our past practice, if additional events occur such as the reinstatement of the R&D tax credit, we will note it in our EPS performance and factor that into EPS guidance on a go forward basis accordingly.

Given our second quarter share repurchase activity, we now expect the average

weighted diluted shares outstanding for fiscal year 2016 to be just north of 99 million shares for each of the next two quarters with the average weighted diluted shares for the year being 83 million.

Within our reconciliation of GAAP earnings to non-GAAP earnings, there are a couple of items worth noting. First, we incurred $14.5 million of business development and integration expenses, which represent investment banking fees, attorney fees, and other professional fees associated with the closing of the transaction.

We currently anticipate that we will continue to incur certain integration expenses going forward. At this time, we estimate that these integration expenses will be less than $4 million per quarter for the next two quarters. These integration expenses represent one-time incremental costs generally to outside professional firms related to transitioning from certain support agreements with Danaher.

As additional plans develop over the course of this year and the next, we will update our GAAP guidance accordingly.

Secondly, the deal related, post-combination services costs of $21.7 million

represent the costs of several retention programs that were put in place by

Danaher for certain of Danaher's former employees. These former employees were part of the transition plan to NetScout as a result of the transaction. These programs require retention dates that span through the remainder of calendar year 2015 with one program continuing until the second quarter of the next fiscal year.

Although these costs are fully reimbursable to NetScout by Danaher, under GAAP guidance, they are required to be expensed given that they relate to a period after the close, hence these expenses are consider compensation under GAAP reporting requirements. We anticipate that the additional milestones related to these programs will affect the next quarter by approximately $9 million and they will impact the fourth quarter by approximately $3 million.

That concludes my formal review of our financial results. But before we transition to Q&A, I would like to thank all of our shareholders for their support since the closing of our acquisition and especially for helping to approve each proposal at our annual meeting last month by an overwhelming majority of the votes cast.

Finally, NetScout will continue to be proactive in messaging our strategy and explaining our execution. To that end we will be presenting at the Mizuho and RBC conferences in New York City during the week of November 8 and we will also attend the NASDAQ Investor Conference in London on December 2.

So, that concludes our prepared remarks this morning. Thank you again for joining us and we're now ready to answer questions.

(Operator Instructions) Alex Kurtz, Sterne CRT.

Thanks, guys for taking the questions here. So, Anil, can you just give us a little bit of visibility into the service provider pipeline post-close? I know some of your peers in the networking space have had some challenges with service provider spending outlook for the last couple quarters. So, given you're reaffirming the guidance today, obviously you're seeing something good about the post-close pipeline in that vertical. That would be my first question to you.

Yeah. Thanks, Alex. So, when we look at that, as we mentioned, I've been traveling around the world and probably have met every single major provider, most of whom are like the Tektronix, TekComms, and NetScout customers. So, we see a lot of OpEx and CapEx challenges which could delay some of the spending. But we think there is a strong reaction to -- positive reaction to what we can do together as a company, as a solution. I think because of that we still feel that the guidance we have provided is still -- it looks like in good shape and we'll be cautiously watching this as we have the end of year spending materializes in December. So, overall, we feel comfortable because we have the best solution, not withstanding some of the internal challenges we are facing on the spending side.

Just to add some color, Alex, because clearly it's a key vertical in our company, the service providers right now are very competitive amongst themselves. They are focusing on quality because they want to reduce churn. They are being very price competitive in their pricing. They're also trying to determine how they're going to monetize their large LTE investments. A lot of the traffic that is going over their network is called over the top.

So, they don't necessarily get any monetization of those OTT services. They just generally get them through their data plans. So, what they're doing right now is focusing on customer retention. And because churn is the worst thing that they hate, they're really focusing on quality. And along that way they're also looking at cost.

So, as we talked about before, we have a very competitive solution. It's high quality and it's very cost competitive. What we're just seeing right now is that dynamic between quality and cost consciousness is making a slightly elongated purchasing cycle.

Jean, you said the discount rate that you're using on that vertical, you feel comfortable with as far as like -- ?

Yes. We generally always have economics that we consistently maintain. We've talked in the past about how there are certain areas around the globe that are slightly more price sensitive and have slightly more Ts & Cs that we're not comfortable with. But overall we don't -- we haven't changed our discounting or anything. We're still comfortable with that.

Thanks, guys,.

Thank you.

Mark Kelleher, DA Davidson.

Great. Thanks for taking the question. Just wondering if you could provide any more insight into that large deal with the tier one service provider just in terms of maybe what products that involved? Was it the NetScout side? Was it the Danaher side? And maybe tie that into how Tektronix is doing and how you view that? I know you commented that it's returning to growth but maybe some more detail on that? Thanks.

So, this remark was merely that our big deal we were talking about is mainly coming from the tech side of the house and it was -- and we talked about earlier it was sold earlier and there were some acceptance clauses and those were all delivered. That's what the one we talked about in the last quarter also that we are not sure whether we're going to close this quarter. But it happened. And it went very well. So, it's mainly in this provider we do business on both sides, both from NetScout and TekComms. And both are going well. But this particular deal was about TekComms.

So, how is Tektronix doing otherwise?

I think it's going as well as we -- pardon? Sorry? Go ahead again.

I'm just wondering if it's growing, what your expectations are for that now, post-merger?

Yeah. I think it's -- all plans are as we expected and as reflected in our guidance. A lot of people are anxiously waiting for the combined solution also. And we are making a lot of good progress. Overall I think we have good retention of key people. We have retention of customers and renewed interest in our solution despite some of the spending challenges they're facing.

Okay. Thanks.

Thanks, Mark. Why don't we go to the next question?

Eric Martinuzzi, Lake Street Market.

Thanks. Curious to know -- just a clarification first and then a question. The change in the EPS guidance to non-GAAP EPS guidance for the year, $1.80 low end, moving up to $1.82, so basically a $0.02 delta. Is that entirely share count? Or does that capture some of the tax change as well?

No. It's actually two components, Eric. It's about a $0.05 reduction for the -- sorry, $0.05 increase for the reduction in the outstanding share count offset by about $0.03 in the -- for incremental interest expense. That gives you the $0.02 net delta for the year.

Okay. So, there wasn't a tax element to it? It was just the --

No, no, no. The tax rate, what we had predicted before was that the annual tax rate would be still in the line around 35% to 37%. It was just the timing within quarters. So, when you do a tax provision in this way with certain transaction costs going through, then a deductible and intangibles being pushed down to different jurisdictions, you could get amongst the quarters some kind of different timing differences.

So, that's why we were anticipating a higher Q1 tax rate -- sorry, a higher Q2 tax rate which would've been offset by a lower Q3 tax rate. But it came out to be 35% for the quarter. So, we anticipate that for the year it will be 35% to 37%.

Got you. And then the question, just of the $100 million in non-GAAP service revenue that you guys did in the September quarter, what's the mix there between pro service versus maintenance.

I would say that generally professional services in the NetScout world was a very low percentage. In the TekComms world it was a higher percentage. So, why I don't think I have it off the top of my head, I really would probably tell you it was maybe 10% to 20% maximum professional services.

Thanks for taking my questions.

Scott Zeller, Needham & Company.

Hi. Thank you. And congratulations on a good start as a combined company.

Thank you.

The initial thoughts you shared with us, Jean and Anil, around cost synergies, if I recall it was around 5% annualized. Could you share with us what your latest thoughts are? Are you seeing opportunities for additional cost cuts? Or are you maintaining the original plan?

I think it's basically on the hiring front and we think we have enough people. So, some of the head count savings, potentially we could have hired this year are not needed. So, some savings are coming from there. The rest of them are coming with the gross margin improvements which we talked about and you'll see more towards the end of the year or next year as we have the combined solution. I think those areas are coming in line, maybe slightly better than what we talked about earlier.

Okay. And the -- I thought I picked up a tone maybe, a slightly cautious tone around Fluke. Could you explain the prepared remarks and just sort of what the tone is around Fluke at this point and the prospects for it?

I think what we have done is we had focused on initial integration of the sales force on day one for the TekComms side. Our business was sort of stand-alone. So, there was no confusion there. On the Fluke side, we basically delayed the integration and that created some confusion and we lost a few people. But overall that's what we are saying, that there was some disruption in the business but nothing significant which will impact the guidance.

Okay. Thank you very much.

Thanks, Scott.

Mark Sue, RBC Capital Markets.

Thank you. Good morning. Anil, for the combined entity, do you have a sense of what percentage of your business comes from carrier CapEx versus OpEx, recognizing that the change in requirements for the service provider, as their complexity increases might count for more on the OpEx side?

We are not able to break that down because they're looking for deals -- more deals sometimes so that they can capitalize it. So, perhaps for them, for the service provider, it's capitalized. But as we mentioned, at least 60% of the total business will come from service providers, about 35% or so of what the enterprise and service provider total business is going to service and support, the rest on product. Beyond that it's very hard to separate out CapEx versus OpEx division for service provider or any customer.

Okay. I understand. Anil, likewise, if we look at the percentage of your business that comes in December from a carrier spending flush, is there a way to kind of think about what amount that typically the combined entity might get? And is that kind of factored into the near-term?

Yeah. I think we have already accounted for that. As you know these deals, the closing cycles are much longer, three, four months. So, that's all accounted for in the guidance we have provided. Year end spending estimates and everything are all included in the guidance. Everything is all included.

Operator, why don't we go to the next question?

(Operator Instructions) Chad Bennett, Craig-Hallum.

Good morning. Nice job, first quarter, out of the gate on the combined company.

Thank you, Chad.

So, I think this may be following up on a previous question but can you give us a sense of how the acquired business did relative to your targets thus far? I know it's early. But just the targets you gave prior to closing the deal for the segments?

So, they were basically in line with our expectations and I would say that their revenue contribution was in line with their component of the scale of the business.

Okay. And then, Anil, can you speak to if you're seeing any penetration or competitive kind of bidding from within the service provider segment, from software players in the NFV or SDN landscape for network performance management or anything of that nature?

Yeah, so there is competition from a lot small vendors, some vendors internationally. We see more and more RSPs as the way to reduce the spending or get the best deal. As we mentioned earlier, we need to continue to deal with that but we still are ahead both in terms of software and NFV solution as well as the traditional solution.

So, we released the NFV based over a year ago. So, we're all ready for it. I think there could be a little bit of disruption as people move more from an appliance model to a software model but I think long-term it's going to be blessing in disguise because we'll have deeper penetration and better margins. So, we think we have to manage this trend. We have tried to address that as part of our guidance and reiterating it and we have very hopeful that all these will turn out to be positive trends for us.

Okay. And then last one for me, Anil, maybe for you also, can you just talk about nGeniusONE traction? Kind of barring the go to market with Fluke that happened this quarter, nGeniusONE traction in the enterprise and kind of how that up take has progressed?

I think it's basically in line with what you saw in the previous quarter. I think we have not been -- we are not targeting Fluke customer with nGeniusONE for another six months. So, the impact of acquisition is not going to be reflected in nGeniusONE traction until maybe 6 to 12 months from now and we have a big user group meeting in May. That's the time we'll be unveiling our plan for integrating the enterprise product line. We have done some sales force integration but most of that will be put in operation in six months.

Okay. Great. Thanks for taking my questions.

Thank you.

Thanks, Chad.

We have no further questions in the queue at this time.

Great. I'd like thank everybody for their persistence and understanding in dialing in twice for this call, for your time with us and again, apologies on behalf of our telecommunication service provider for the technical issues. We will look to see you as we get out to various conferences and of course for our next quarter's call. Thank you again for dialing in.

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