F5, Inc. (FFIV) Q2 2008 Earnings Report, Transcript and Summary

Welcome to the F5 second quarter financial results. All parties will be in a listen-only mode until the question-and-answer session. Today’s call is being recorded. If you have any objections, please disconnect. I would now like to turn the call over to Mr. John Eldridge, Director of Investor Relations. Thank you sir; you may begin.

Thanks Rosy. Welcome to our conference call for the second quarter of fiscal 2008. Speakers on today’s call are John McAdam, President and CEO and Andy Reinland, Senior VP and Chief Financial Officer. John Rodriguez, Senior VP and Chief Accounting Officer, Mark Anderson, Senior VP of Worldwide Sales, Julian Eames, Senior VP of Business Operations in both the services, Chris Lynch, Senior VP of Data Solutions, Dan Matte, Senior VP of Marketing and Karl Triebes, Senior VP of Product Development and CTO are also with us to answer questions following our prepared comments. If you don’t have a copy of today’s release, it is available on our website, www.f5.com. In addition, you can access an archive version of today’s live webcast from the events calendar page of our website through July 23, from 4:30 pm today until 5:00pm Pacific Time, April 24 and also listen to a telephone replay at 800-925-5414 or 402-530-8073. During today’s call, our discussion will contain forward-looking statements which include words such as believe, anticipate, expect and target. These forward-looking statements involve risks and uncertainties that may cause our actual results to differ materially from those expressed or implied by these statements. Factors that may affect our results are summarized in our quarterly release and described in detail in our SEC filings. Please note that F5 has no duty to update any information presented in this call. With that, I will turn the call over to Andy Reinland.

Thank you John. During Q2, continuing solid execution enabled F5 to achieve our 21st consecutive quarter of sequential growth. Revenue for the second quarter of fiscal 2008 was $159.1 million within our guided range of $158 million to $160 million. GAAP EPS of $0.21 per diluted share was also within our guided range of $0.21 to $0.22. Excluding stock-based compensation expense, non-GAAP EPS was $0.35 per diluted share. Product revenue of $112.1 million represented 70% of total revenue. Service revenue of $47 million was 30%. Book to bill for the quarter was less than 1. On a geographic basis, the Americas represented 55% of revenue, EMEA had another strong quarter accounting for 23% and APAC was 13%. In what is typically Japan’s strongest quarter, revenue was down approximately $0.5 million from Q1 and accounted for 10% of total revenue, below expectations. Revenue from our core application delivery networking business including application security and WAN optimization was $143.6 million or 90% of total revenue. Revenue from our ARX storage virtualization products contributed $8.1 million or 5% of total revenue. Revenue from FirePass was $7.5 million just under 5% of total revenue. Looking at revenue by vertical the finance sector comprised 25% of total revenue. Telecom represented 19% and the technology sector was 20%. Although we had expected US federal to be up in Q2 it was slightly down from Q1 comprising 3% of total revenue. During Q2 we have one greater than 10% distributor AB-NET technologies which accounted for 12%. Moving down the income statement, GAAP gross margin in Q1 was 76.9%. Excluding approximately $1.1 million of stock based compensation expense non-GAAP gross margin was 77.6%. GAAP operating expenses of $99 million were within our target range of $97 million to $100 million. This includes $14.6 million of stock based compensation. Our GAAP operating margin was 14.8%. Our non-GAAP operating margin which excludes stock based compensation was 24.6%. Our GAAP effective tax rate was 39%. Excluding stock based compensation expense our non-GAAP effective tax rate was 35.3%. On the balance sheet we ended the quarter with $450 million in cash and investments. Cash flow from operations was $36.9 million. During the quarter we repurchased approximately 4.4 million shares of our common stock for $100 million. Accounts receivable DSO ended the period at 58 days consistent with our guidance and with last quarter. Inventories at quarter end were $8.6 million. Deferred revenue increased to 11% from the prior quarter to $122.6 million. Capital expenditures for the quarter were $7.7 million and depreciation and amortization expense was $5.8 million. During Q2 we increased our head count by approximately 40 people ending the quarter with 1,665 full time employees. Moving on to the second quarter outlook clearly the economic environment has made our goal of achieving sequential revenue growth throughout fiscal 2008 more challenging. However we continue to see strength in our pipeline and opportunities in both application delivery and storage virtualization. Taking these factors into consideration we are targeting Q3 revenue in the range of $160 million to $162 million. We expect GAAP gross margin in the 76% to 77% range. This includes approximately $1 million of stock based compensation expense. We believe we have the team in place to execute on the current market opportunities and to meet our near term product development goals. Accordingly hiring will likely be modest and we do not expect to increase head count significantly during the current quarter. For Q3 we anticipate operating expenses in the range of $98 million to $101 million including approximately $14 million of stock based compensation expense. We are forecasting our effective tax rate at 38%. Excluding stock-based compensation, we expect our non-GAAP effective tax rate to be 35%. Our GAAP EPS target is $0.21 to $0.22 per diluted share. Excluding stock compensation, our non-GAAP EPS target is $0.34 to $0.35 per diluted share. We estimate DSOs will be in the mid-to-upper 50 days range. We expect inventory levels within a range of $9 million to $10 million and we expect cash flow from operations to be in excess of $40 million. For a reconciliation of expected non-GAAP third quarter earnings, please refer to today’s press release. With that, I will turn the call over to John McAdam.

Thanks Andy and good afternoon everyone. I was very pleased with the F5 team’s performance in Q2. We now have notched up 21 quarters of sequential growth, a performance we are proud of. I was especially happy that we were able to deliver sequential quarterly growth in product revenue in both our application delivery controller business and in our storage virtualization business. From a geographic perspective, we saw another strong result in EMEA and excellent results in Asia Pacific. Our North America enterprise business was down sequentially from last quarter as a result of a drop in our US Telco vertical. Excluding US Telco, North American enterprise was up slightly quarter-over-quarter. I was pleased with that result, given the usual seasonality issues that we see in North America enterprise in Q2 combined with the current challenges in the economy. We continue to be disappointed with our performance in Japan and with our US federal business both of which were down sequentially from the pervious quarter and below our internal expectations. We continue to see delays in final sign-off on projects where we are confident the F5 solution have been selected but spending has been delayed to future quarter. Our professional services business was very solid and we expect that trend to be maintained throughout the year as deferred revenues continue to increase and renewal rates remain high. Another area of our business that was very encouraging was the number of $1 million plus sales wins that we achieved on a global basis in our major geographies. This was definitely a global trend with sales greater than $1 million in the UK, France, the Netherlands, China, and of course the US. We continue to make good progress with sales of our ARX range of storage virtualization products, knowing our product portfolio from the Acopia acquisition. In the December quarter, approximately 65% of ARX sales within the financial services vertical with a large proportion concentrated in the Wall Street investment banking sector. In Q2, we were able to expand the ARX business and penetrate other verticals to the extent that the finance vertical represented 29% of the ARX business. Our goal is to continue to expand our penetration into other verticals during Q3 and the rest of the year. We made a significant investment in Q2 to train the existing F5 channel on our storage virtualization products and we are seeing that investments starting to pay off in Q3 and expect this payoff to accelerate in Q4. shafay: The interest level for the VIPRION products is definitely increasing, the pipeline of prospects is growing and we should see some solid results in Q3. We believe there is no comparative alternative to VIPRION’s performance capabilities and high availability features. The technology refresh of an existing BIG-IP product range continues to be on track and we have moved into customer beta test phase with our new entry level systems. These new products will enable us to offer our customer significant performance and functionality improvements at a very competitive price. As far as future guidance is concerned Andy indicated that we see Q3 revenue guidance in the range of $160 million to $162 million. We have a competitive leadership position with ARX, BIG-IP and VIPRION. Our business pipeline is solid, internet traffic and unstructured stories continue to grow significantly and F5 products provide our customers a very compelling and substantial return on the investment. However clearly the economic situation makes a conservative spending environment right now and we believe we are taking a cautious but realistic view of our opportunity. That being said I continue to remain very optimistic about the opportunities for F5 and the second half of fiscal 2008 and beyond and I would like to close by once again thanking the F5 team and the partners for their efforts in Q2 and with that we will turn the call over to Q-and-A.

Thank you. (Operator Instructions) our first question comes from Troy Jensen.

Hello can you guys hear me.

Yeah we can hear you Troy.

Hey, congrats on the nice quarter gentleman.

Thank you.

Hey, so a couple of questions quick. Andy I think the last time we spoke and you guys had stated publicly that you felt like a lot of the slow down or kind of decelerating growth had to do with you guys is kind of losing share, just the low end business not performance as well because you are pushing this up for modules. Just curious, the growth that you saw this quarter was it kind of evenly distribute across low and high end or do you think the low end bounces once the new products come up?

Yeah Troy it’s John here. No, we saw the trend actually much the same, in fact slightly increasing in the last quarter as well -- in other words, of 6400 product line obviously I am talking that BIG-IP and VIPRION of course. The 6400 product line growth was actually substantial and we saw another slight drop of in the entry level. So there is always some bad news in the entry level dropping off, but when we think the product refresh is like that, it actually becomes an opportunity. So, apart from Japan every geography saw a very significant in the high end.

Okay and I mean the new products John, did you give a date or time frame?

We didn’t really give a date, but what I did say was it’s in customer beta test phase. So clearly it’s a technology where we are well accustomed to it and know so -- we feel good about that but we won’t get a date until it’s finished the customer test.

Okay, that’s fine. A question on Acopia now. Speculation -- I just wondered if it passed you guys. Speculation is that a lot of the Acopia business is being used as load balancing. Like some of these firms are doing big data center consolidations and that it’s not being used as a file of virtualization once the consolidation is complete. Just -- I was wondering if you guys have any metrics for how the product’s being used or if you consider that topic, it would be great.

Yeah, Chris Lynch is actually dialing in from Boston. So Chris, do you want to do that?

Sure. So obviously migration is one of our key applications to the product and data center consolidation definitely creates an acute requirement for the product but the fact of the matter is that migrations happen daily without moves and changes in provisioning of the backend and so we don’t see the phenomenon that you are suggesting. Quite to the contrary, I would point to the take rate and services and from my perspective, I'm not aware of any situation where a customer has taken us out of line which is really what they would need to do or they would do rather if they were just using us for a one-time event and we are just not seeing that at all. In fact, I would say that since the acquisition, we have seen the emergence of -- probably now, our largest application of product which is caring, allowing customers to move data from tier 1 to tier 2 automatically and seamlessly off their number one application and we need to be in line 7/24 to do that and as most of you probably know, 30% of data in tier 1 is active. 70% that sits there is dormant and we are all about moving that 70% to cheat low-cost manageable storage.

Got it. Perfect. Keep up the good work guys. - Piper Jaffray: Got it. Perfect. Keep up the good work guys.

Thank you.

Our next question comes from Jason Adler of Thomas Weisel.

Yeah, thanks. Hey guys. So, if we look at the performance against expectations by region, John, how would you say it compared to the expectations going into the quarter?

I would say North America, all in track. Obviously, we mentioned US Telco was down a little bit but generally North American enterprise in particular felt good about that. Felt very good about EMEA especially after having a previously really, really strong quarter. Asia Pacific was absolutely fantastic as well, and then I know the Japan team is probably listening to this but we did see some issues there, so that was a disappointment.

Okay, so I mean all things being equal, North America besides the Telco, you have to be pretty satisfied with how you did there given what you are hearing from some of your competitors and some other players.

And then the other thing, Jason, the other thing was that I highlighted the number of $1 million deals that we won on a global basis and we are very, very happy with that as well.

One other things we had picked up was that there were sort of abnormal levels of discounting in North America. Could you make any comment on that? We heard that from some of your channels? Is there any change in behavior there? Certainly didn’t show up in the gross margins but I just kind of curious as to whether there was any difference.

No, really no, none at all. No different trend whatsoever.

Okay. And then could you provide any color on magnifier and went out without giving specific number could you give us some sense of how they did in the quarter.

Yeah, so magnifier really which is known as the application security module, we really measure that intently in two ways; one is actually the number of the modules and the licenses in the software and also the BIG-IP leverage that goes on there and that was very pretty significant. Very, very strong quarter-over-quarter and year-over-year growth and along with that with Web Accelerator; if you look at the actual growth trends say via histogram, it’s an excellent graph. What optimization is still struggling for is I am talking about the 1-J product. We got a whole number of things -- initiatives on the go but frankly we are not going to discuss them until they are ready. We’ve had one or two false starts here, so that’s in process, we haven’t give up but that was actually pretty small. Whoever accelerates of a strong ASM was strong.

If I were to combine that security module together with WebAccelerator that was growth -- strong growth sequentially.

Yeah and -- but remember they are sitting at top of BIG-IP as modules.

Okay.

That.. okay.

Okay and then last question; as we are going into this tougher economy here and certainly North America and lot of their customers going through data center consolidation projects obviously one of the big areas that we hear about is sever virtualization with things like the VMWare; could you comment on what impact that you may have seen or you might see from server virtualization just from a stand point of fewer physical servers out there to low balance. I am wondering if you have any comment on that?

Sure Jason, this is Dan. A couple of phenomenon’s going on in that space. First, of all when people do consolidate their applications down to fewer physical servers it becomes more important for them to protect them with products like our, the sort of more eggs in one basket; they want to make sure that basket is protected as possible. The other thing that we are seeing is that as people role some applications into a virtualized environment they are beginning to run into some performance challenges as well so again things like WebAccelerator can really help out there. So, all-in-all we still believe we are in the beginning phases of people really trying to roll out several virtualization in any big way and we think about it and that’s positive for us. Also I should add during the quarter too we -- you may have seen the announcement that we made with the VMWare. We joined the technology alliance partner program and also we positioned deployment guys and actually opened up a corner down central as well for VMWare and one of the interesting things that we saw was with the white paper and how to clarify us with the VMWare which was into our top ten list more quickly than any other document we ever published.

Great thank you very much guys.

Thank you

Our next question comes from Erik Suppiger of Signal Hill.

Good afternoon, congrats on a good quarter, a tough economy. On Acopia was up about 5%, how was that compared to what you were expecting and it sounds as though given if that was -- it wasn’t real significant growth and the financial piece of it came down significantly. Can you give us any color as to what was going on with your sales strategy there?

Yeah, so it’s pretty much what we were expecting. It wasn’t significant -- it was in the range of what we were expecting, but you are right, that’s why I highlighted the financial vertical especially the Wall Street investment banking side of it. Well, we definitely did see a number of delays happening on projects and some of them could well happen this quarter, some may even be well elongated beyond that, so -- but we have taken that into account, but what we are very happy with was the diversity of verticals and the usage models that Chris was talking about. We still believe that we will exceed that 30 million plus for the fiscal year and feel really good about it. So now that the F5 sales team caught it and trained as I said in my script, we expect that to accelerate in the second half.

Were there any particular verticals that saw a sharp uptick with Acopia?

A range of them, manufacturing, technology, areas like that.

Okay. Then on the low end product, it doesn’t sound like you are going to give a date. Can you at least comment as to whether or not some of the new models would be in the current quarter or in the second quarter? I think you have said in the second half of this year.

We are going to stick to that Erik. We believe these new entry level products have an impact on our business in the second half of this year and just leave it to that. Well, it’s in customer beta phase.

Okay, then last question on the sales force productivity. It looks like you had a marginal improvement over last quarter from sales and marketing as a percentage of revenue, but where do you feel like you are in terms of making some material improvements on sales force productivity and what might we expect going forward?

We did see a marginal improvement on the productivity in the core specifically. We were actually hiring reasonably aggressively last quarter in the data solution space with Acopia. So over time, we will see an improvement in that. Clearly balance that with a tough environment, so it’s not really apples for apples anymore but we think we will still see the productivity increasing as the aging of our sales force increases which we are seeing.

Any sense for where you would like to get sales and marketing as a percentage of revenue?

No, we haven’t set a target, a next demo target, no.

Very good. Thanks a lot.

Okay, thanks.

Our next question comes from Ittai Kidron of Oppenheimer.

Hi guys. Congratulations on a good quarter. John, can you just clarify when you take about second half of the year, talking fiscal year calendar.

They are definitely fiscal sorry.

Fiscal, okay. Just to make sure everybody’s on the same page. Now with regard to your hiring plan, just given the macro environment, I guess the negative would be the environment; on the flip side, you got a product refresh on the entry level and you have VIPRION that’s getting a little bit momentum. At what point do you feel or what will you need to see from a gradual improvement to make you feel more comfortable in starting to hire again more aggressively?

Yeah, I think. It’s going to be pretty simple. This is Andy. We talk a lot about investing behind the revenue and we are committed to that approach to investments over the remainder of the fiscal year and so we will be making those decisions, watching headcount as we do on a daily and weekly basis and making decisions as we see revenue develop.

Okay and John, specifically with regards to Japan, why do you think you are having issues? What’s not working well as to plan there? How do you analyze it?

Yeah, I think it’s a couple of things. First of all, there is definitely economy issues; you can’t describe them at all and we are not hiding behind them but they do exist and then the point I mentioned early about -- if you look at the proportion of entry level systems in the geography. Japan is much more concentrated towards selling lower end products and Mark Anderson who is here has actually been over in Japan and visited and go up on and the plan is basically based on selling higher end products. I think the new low end products will help almost by definition but the real key for us in the longer term is to sell more up value where we get more modules and more solutions and more features.

Yeah If can just add just basically follow the plan that we’ve implemented in APAC, EMEA and North America. I mean all three of those theatres are tugging on very well from a productivity stand point and having success articulating the higher end platforms and the compelling dye proposition.

Okay, and then couple small ones from your house keeping; one on your distributors. It’s seems like that as a percent of your revenues that have been kind of going down more and more and more and I just to want to get a better understanding is that a reflection of a change in the relationship you have with them or a sort of expansion -- natural expansion of your outer shell because it seems like Ingro Micro is not -- you haven’t mentioned that and AB-NET is going down sequentially as well. I just want to understand what’s going on there.

From our perspective there is really no change in the relationships with the distributors and not to talk to about anyone individually but if you take our top distributors as a group, a total percentage really didn’t change that much. It was really a mix issue between the distributors just -- and I think it is primarily tight to their given businesses within this quarter and how they were effected by the economy. Ittai Kidron – Oppenheimer: Alright good and then lastly Andy can you just remind us how much you have left on your buyback.

The total plan was for the calendar year and it was $200 million, so we still have a $100 million left in the plan.

Okay good luck guys.

Thanks very much okay.

Our next question comes from Mr. Matt Robison of Ferris, Baker Watts.

Hey, good afternoon. Have you -- has share point begun to move the needles for you guys in terms of significant application driver or were there any other applications that might have developed for you guys significantly in the quarter.

Bob this is Dan; share point absolutely is making impact for us. The efforts that we are doing with Hewlett Packard and we are seeing a dry business and large opportunities really globally, so we have been very pleased with that. I can’t bring out any numbers on it specifically but other things like Office Communication Server 2007 which had some new stuff come out for Windows Server 2008; we have an application ready Networks Solution for that dynamics as well from Microsoft, a new step on the Oracle front as well. Oracle communication and it’s mobility server, so multiple, multiple things going on there, so we continue to be very pleased.

Is this moving your business towards system integrators from the kind of channel partners that were distributor type partners?

I don’t think in any meaningful way it’s moving away from them but we are seeing systems integrators that we partner with speaking about more of an impact for us. It looks like Hewlett Packard, like CST, like EDS are all doing very well.

And we are also seeing our partners uplift their capabilities by going in and selling with application deployments. So the application ready networking phenomena that we’ve trained our world wide sales team on; we’ve actually extended great effort to train our partners as well. So, their value statements are increasing just as ours are.

Are you seeing some of the small distributors doing relatively more fulfillment? Is that -- for these integrators is that part of the backdrop for the decline in the percentages from the traditional large ones?

I think it’s just more evenly spread over a larger number of distributors. As Andy said, the percentage of business that went through distributors hasn’t changed materially. It’s just that we have done a more surgical job in each theater to choose distributor that are going to suit our needs and suit our customer needs.

Okay, I guess, yeah. You talked a little bit about Japan. How are you going to improve federal? What’s the backdrop for what’s going on there?

I mean federal -- and we are pretty clear on this is that as I said in my introduction, most of the federal projects we talked about, we are very confident we have won the deal. Frankly, our federal team with these types of projects are doing are tracking them through the system and it’s really a matter of that happening. So I think you are going to see it but it’s definitely going to be linked to projects being in contract and coming out of contract and it’s just -- the decision is at the moment.

If I remember right, the last call you had one that slipped. Did that just continue to slip or did you pick that one up and just lose some others?

We have more than one that slipped last quarter and some we picked up and some we didn’t.

Okay. Was there anything particularly noteworthy in terms of the CapEx spend? Any particular area of emphasis?

Only in that we do have some new facilities coming on board. So a lot of increase over our run rate has been related to IT but beyond that, no.

I can't get off the phone without asking the number of debt central users.

We would have been disappointed if you didn’t ask that. It’s -- we are at 25,761.

Lets see, remember your last time was 21,833. So that’s quite a step-up. That seems like maybe the biggest sequential move you have had.

It is, yes, really -- sequentially just seeing lots of tremendous stuff. We are adding lots of capabilities to that central, more podcast, video casts as well and changed as well -- actually I had leveraged some I rules to make the content on that central, more accessible to search engines like Google.

Hey Matt, we are going to let you, but one clarification as I said, IP spend I mean TI’s related to facility, so 10 are improvements just to clarify that.

Okay, good. Thank you.

Our next question comes from Saud Masud of UBS.

Great. Thank you for taking my question here guys, great quarter. Just some clarification around the average deal you were talking about before. You kind of hinted on $1 million deals, we are trying to see more of those but in a soft market how do you sort of reconcile that with -- there is a sense that locker deals are getting harder to get approved. There is an added layer of approvals if you will. Can you maybe provide some color around how you are able to succeed in actually stealing up some of these deals and actually converting on them?

I do, I think it’s very much a value proposition that your products going through the growth for the term investment that they bring the growth of internet, the fact that Internet is so much and critical to verticals including finance. I mean we are well aware that our percentage of finance vertical is of some concern to investors given the problems there but the reality is -- and we have said this now for three quarters. We think we are pretty robust in that area and resilient. You are never resilient completely but because these applications because these applications are mission critical they get compared to the advantage and they are growing at the same time. So, I think it’s where you sit and the layout of spending.

Right, right and just another sort of side question on VIPRION actually. I think last time -- in the last earnings call you mentioned that most of your VIPRION e-valves are with the carriers. Now maybe just extrapolating this, but you saw some weakness in the Telco vertical -- how do you see that vertical spending potentially impact VIPRION adoption as we go through the first half here.

Yeah and I actually say that. I use the word cool up probably when we talk to the some of the VIPRION order. It’s interesting; we’ve expected VIPRION to be good in Telco and good in dot com and good -- and possibly the large enterprises and that’s the way we think it’s going to track. The big dot com has been quicker in terms of opportunity and we expect Telco actually to be reasonable with VIPRION this current quarter. We are pretty co-incident of that, so I think VIPRION this quarter is probably going to exceed our expectations.

Okay great, all the questions I had thank you.

Thanks.

Our next comes from Samuel Wilson of JMP Securities.

Just two quick accounting questions; first can you give us the 123 R charges side by segment on the OpEx side. How much is R&D and how much is SG&A?

Yeah, it’s on the P&L I think for you Sam working up there if you look at the press release.

I didn’t -- immediately I did not look that close, I will look again and the second thing is -- ah there it is, I got it and the second thing is allowance for doubtful accounts was up 50% quarter-on-quarter. Is anything going on there?

Could you ask that again Sam, I sorry.

Allowance for doubtful accounts at $4.5 million was up 50% quarter-on-quarter. Is there anything going on there?

No, that doesn’t sound right to us. Actually our accounts receivable very clean and we had no collection issues and no reason to take that up, so that’s not ringing a bell with us.

You said accounts receivable net of allowance is $4.491 million versus $3.1 last quarter basically a $3.2 two quarters ago.

That was two quarters ago?

Yeah, two quarters ago. Last quarter I pulled it from our queue, it was $3.1million.

Right, in September it was $3.1, so this did some natural increases due to size of the DR balance but the 18 is clean, it’s completely current, so there is a couple other reserves to go in others. There is a reserve for basically rebates and stuff like that, so it will fluctuate a little bit, but there is nothing major going on there.

Thanks John.

I think in our DSO the consistency that we are seeing there we see as very positive.

Got it okay. Thank you.

Thank you.

Thanks Samuel.

Our next question comes from Mark Sue of RBC Capital Markets. Please check your mute button or lift your handset we are unable to hear you.

Can you talk about the overall closer rates and can you quantify perhaps the total deals that slipped from March to June and whether all of these are slipped, do you have something recovered.

Yeah Sue, on the closure rates as we looked at the pipeline we talked last quarter about having seen the percentage of closure rates on our factored pipe line coming down and we saw that trend continue in the quarter. So it’s still not huge percentages but meaningful and we definitely factor those in. As far as deal slippage, John mentioned that we saw deals elongate and we are watching closely there but we really don’t quantify or talk about specific deals. So I think we will leave his comments as it is.

Okay and so sort of guidance for the next quarter. Are you assuming the closure rate you saw in the March quarter or are you assuming a normal seasonal closure rate for June.

I think we are definitely factoring in what we are seeing in the most recent closure rates.

Okay, got it. And lastly, the decline in Telco, I mean is that all related to evaluations of the VIPRION so that Telco there’s a lot of pent-up demand, is that how we should read it?

Yeah, it’s not all related to that. I do believe that we have got some good opportunities coming in this current quarter with VIPRION and Telco but it’s like a law of the enterprise. Well at the moment, spending is tight, so some of it’s attributed to that but yeah, we think VIPRION is definitely a candidate for some upside down.

Okay. Thank you gentlemen and good luck.

Thank you.

Our next question comes from Tim Long of Banc of America Securities.

Good afternoon. Hi, this is Jeff Stallion for Tim. Can you just provide a little bit more color regarding the business environment and particularly within North America and Europe and what you are factoring into the guidance? It sounds like your North American commercial business held up okay during the quarter. How do you expect that to materialize going forward and then have you picked up any sense that the strength or I guess some of the weakness in the US is starting to trickle overseas particularly in Europe and our clients taking note of that and maybe becoming more cautious?

Yeah, we haven’t seen -- I mean they sort of were expecting a similar type environment in this current quarter as we saw in the March quarter. Maybe it is slightly conservative on that in fact, but I guess back to execution. It really does. It comes down to making sure you are on that revenue daily, you are on the forecasting weekly, you’ve looked at -- what you have set in the sales cycle. It’s really is -- that’s the environment we are in and we think we are pretty good at handling that. So that’s why we get our guidance from. In terms of geography wise, EMEA has now had three fantastic quarters. We are hearing optimistic stuff from the EMEA team for this current quarter and I think that’s going to continue that way. The big difference in EMEA for us is that and I am sure Mark would repeat this is that we have really started to penetrate major accounts now. If you go back nine months ago, a year ago, US did stood out pretty significantly when you looked at the order size, many million dollars, many $0.5 billion dollar orders. We are starting to see similar order size is coming in EMEA and that’s where we are seeing a lot of the growth. If we can keep that execution going, and I think we can, we should have another solid quarter there.

All right. And then moving in a slightly different direction; product revenues continue to accelerate on a year-over-year basis. As we look into the June quarter, are you anticipating sequential growth in product revenues or should we expect most of the strength to come from services?

Well, we haven’t got into that detail, we wouldn’t but the one thing I would put your attention to and I said at the beginning of my introduction was that we saw sequential product growth in Acopia, the ARX costs and in the ADC core business last quarter and I think that’s pretty significant. Given the environment was such an economic tough environment, so we went from December end to March end for the increased sequentially that year-over-year you are right; if we maintain that trend then obviously the year-over-year comparisons are easier, but, I think that was a really key milestone for us in a tough economy, a tough quarter over a lot of fears, I clearly saw some tough times as well but we managed to grow our core business sequentially.

And have you talk to your customers about some of these new low end hardware platforms that are coming and any feeling that that could may be slow up business here in the near term as they wait for that new hardware.

No, I am going to say no and we watch like a hawk and we were suitably paranoid of it that the Osborn effect that is well know that you are describing. We don’t think that is going to be an issue at all where we have our products and customer base at that so, clearly by definition our customers are aware of the products and -- but we have never seen that in the past. It’s a good news, bad news thing. In other words when we introduced new products the customers are very conservative of it taken them up because it is mission critical that’s the bad news, the good news is, our lows is to actually integrate new products very smoothly and we think it’s going to be exactly the same with the entry level.

Alright thanks guys.

Thank you.

Our next question comes from Kimberly Watkins of JP Morgan.

Thank you, thanks for taking my question. I had a question on Acopia. You might have said this; I have heard you say it in the past I think last call that you though you are a bit disappointed is you didn’t see revenue of about $30 million this year into that business; you just provided some update on that and then also wanted to dig into gross margins. I know in the past you have laid out an expectation or goal I guess to get to 80% at some point in the future. Where you see your self on that, on the path to an 80% level.

So, for Acopia and John mentioned to us earlier that what we would be disappointed not to exceed that $30 million target is what we have been saying, so we still feel that way, we see great opportunity there. As far as that gross margin goes on the 80% I think specifically with we are talking as a target for us related to our product sales and in Acopia in particular we are paying attention to because they came in quiet a bit lower than our other product line but we saw great improvement over the last quarter for the second quarter in a row driven by lower discounting and then some design and supply chain efforts that have started to pay off for us, so we feel very good about how we are managing our gross margin overall.

Okay so where are you right now in that cycle I think that when you acquired them you are talking about a low 60’s number.

Yeah and I think last quarter we said that we’d gotten that up to the high 60’s and now I don’t know exactly where we are Kim, but I know it was improved from there.

Okay and then just to update on that total adjustment market I remember at your analyst day in New York, Chris talking about $300 million market going to billion in a couple of years. Is that still kind of the opportunity that you are seeing for that product? Any reason to change up one way or another increase or decrease?

Yeah, I mean the numbers are mainly from our analysts, but the way we do it is very simple and I assume you talking about Acopia in specific.

Right

Yeah, we see the market there as a Fortune 500 whether -- we have limited penetration rate right now and good penetration and finance vertical, but pretty limited overall and that’s a massive opportunity for us and then as you allude from a geography point of view where we are really just starting. I mean we are just had something in France, for example, Japan, opportunities there, Asia. We don’t see any restriction whatsoever in the addressable market.

Okay, great. And then one last kind of housekeeping question. Can you give us the total government percentage this quarter?

Yeah, total government was 7%.

Okay, so roughly flat with last quarter.

Yeah.

Thank you.

Thank you.

Our next question comes from Ken Muth of Robert Baird.

Thank you. Andy, do you still expect kind of operating margins to improve through the rest of this fiscal year?

I think given our revenue guidance and our expense run rate, I think that’s probably going to delay out the quarter or two just as we execute. Think we still want to invest behind revenue definitely but given the position we are in especially in the current quarter with our run rate of additional employees in marketing, it’s going to be tough, we are going to try to manage it flat but our longer term goal is definitely to improve that as we see revenue improve.

Okay, and then just trying to put together a couple of pieces you talked about earlier. John on the call you talked about how the book to bill is slightly below one I think and the guidance is up sequentially. Is there something that is may be changed in April and what gives you a confidence that things can improve sequentially like that?

Yeah, I mean -- first of all, obviously, toward the end of April and we have given our guidance it would take a lot of that trend into accounting but it’s -- there is nothing different. As we look at our pipeline, what was the sales management team extremely closely; we look at a effective pipeline, we think we are taking a pretty conservative approach there. Clearly, we have got very good visibility into the service part of our business as well and then we look at areas VIPRION. We are looking areas like ARA and that’s what gives us some pretty good confidence moving into this quarter.

Okay and then just a quick follow-up. The guidance you gave, how does that favor in -- factor inside the US enterprise market, that it would be flattish, up sequentially, or how does that get factored in?

Yeah. We didn’t go through the geographies and we have done that in the past but just to give a very, very high level summary, we would expect North America enterprise, generally North America business to be up this quarter, EMEA to be flat to slightly up, Asia Pacific to be flat to slightly up and Japan to actually be down. That’s what we would expect in the current first quarter of the financial year.

Okay, thank you for your help.

Thank you.

Okay, Rosy we are going to take one more caller and then we will end the call.

Our last question comes from Rohit Chopra of Wedbush Morgan.

Hi guys, thanks for taking the call. Just want to ask you a little bit about the competitive landscape. I heard that Cisco is being a little bit more aggressive especially on the support side, so I just want to get a sense of what you saw there and then also, with the Acopia product, we also heard from some channel people that Brocade and EMC are also getting a little bit more aggressive in the file virtualization area. I want to get a sense of your take on that.

Sure Rohit. This is Dan and then I’ll go ahead after Chris for the Acopia piece. Basically, in terms of Cisco, we really haven’t seen it as a lot of data, haven’t seen any changes last quarter, calendar Q4 of the last market share numbers that got published, we actually gained market share on them and then what our sales force is reporting back to us is with the introduction of the 4710 they had some months ago now, still not impacting things in the market place. Chris?

Yeah, so with respect to EMC I think it would be hard to them to get anymore aggressive than they already have been through my Acopia tenure and definitely through my first couple of quarters at F5, but unfortunately for them they don’t have a product that suits behind enterprise. So, while we see them and locate with the new view product in the low end and probably in the channel you are referring to, we don’t see them in the high end enterprise, we don’t see located all in my enterprise and when we do see EMC we are highly successful in the fact that in competing against them and given the enterprise class part that we have versus theirs.

And then I just want to end it.

We actually did a business of you -- Chris’s team last week and we went through all the sales wins and their win rate is incredibly high. I mean it’s approaching a 100% just to put things in perspective.

Okay, and then I know you sort of you talked a little bit around this but talk a little bit about when early to the quarter but and if you can add some qualitative comments on how things progress throughout the quarter, did it start to get worse as you got towards March and at the beginning of April. How did it progress just gives an idea of…?

So, we source of like I would describe as an average January. We saw a very strong February, we saw a weak March in the middle and then it got strong at the end.

Okay

And the linearity was pretty typical for normal quarters.

Yeah ,I think that third month was just under 50%.

Can I just ask you one other thing and other thing one our channel contacts indicated the number of deals has decreased out there but the size of the deals has gone up, so you mentioned that the size of the deals has gone up but is it true that there are fewer deals on the table and it’s becoming a little bit more difficult out there just not the economy but

I am looking over at Mark Anderson and he is nodding no, we are not at all.

Okay

The issue with deals in the pipeline is getting them closed. That is the not the size of the pipeline or the number of the deals.

Okay thank you

Okay

Thanks very much for joining us and we look forward to talking to you all next quarter.

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