F5 Inc (FFIV) — Q3 2019 Earnings Call Transcript

Hello and welcome. I'm Suzanne DuLong, F5's Vice President of Investor Relations. Francois Locoh-Donou, F5's President and CEO; and Frank Pelzer, F5's Executive Vice President and CFO, will be making prepared remarks on today's call. Other members of the F5 executive team are also on hand to answer questions during the Q&A portion of the call. A copy of today's press release is available on our website at f5.com where an archived version of today's call also will be available through October 24, 2019. A replay of today's discussion will be available through midnight Pacific Time tomorrow, July 25th by dialing 800-585-8367 or 416-621-4642. For additional information or follow-up questions, please reach out to me directly at s.dulong@f5.com. Our discussion today will contain forward-looking statements, which includes words such as believe, anticipate, expect, and target. These forward-looking statements involve uncertainties and risks 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 the press release announcing our financial results and described in detail in our SEC filings. Please note that F5 has no duty to update any information presented on this call. With that, I'll turn the call over to Francois.

Thank you, Suzanne, and good afternoon, everyone. Thank you for joining us today. I'll talk briefly to our business drivers before handing over to Frank to review the quarter's results in detail. We continue to aggressively execute our strategy of transitioning F5 to a software-driven model. From our efforts to reprioritize our development resources to the introduction of new, flexible consumption models, and most recently, the acquisition and integration of NGINX, customers are seeing a new F5. We believe the steps we have taken including very deliberate go-to-market changes are accelerating our transition to a software-driven business while driving overall product revenue growth. As a result, it is no longer accurate to view F5 through the narrow lens of a traditional ADC player. In Q3, we delivered 4% total revenue growth and 3% product revenue growth with 79% organic software growth. If we include the partial quarter of NGINX, our software growth was 91%. Our exceptional software growth in the quarter is being driven by security use cases, including web application firewall, and bot-defense and mitigation. The quarter also included a few multimillion dollar ELA deals. Software growth was partially offset by our systems business, which was down 11%. Our services business delivered 4% revenue growth in the quarter and continues to produce robust gross margins with consistently strong attach rates. I will speak more to our business dynamics and the NGINX integration later in my remarks. Overall, the team is executing very well against our long-term strategy. We believe with the combination of NGINX, we are exceedingly well-positioned to capitalize on continued application growth in a rapidly evolving application services landscape.

Thank you, Francois, and good afternoon, everyone. As Francois noted, we delivered another quarter of strong revenue and EPS growth. As you know, we closed the acquisition of NGINX on May 8th, and our Q3 results include NGINX from that point through quarter-end. As a reminder, our guidance for Q3 revenue and earnings was set prior to the close of the NGINX acquisition, and accordingly did not include any impact related to NGINX' results. For this quarter only, during my remarks I will break out NGINX's contribution to several Q3 performance metrics. Going forward, NGINX's contribution will be fully integrated into our results and guidance. Third quarter revenue of $563 million was up approximately 4% year-over-year. NGINX contributed $5.1 million in the period. Excluding NGINX's contribution, we delivered revenue of $558 million, near the top end of our guided range of $550 million to $560 million. GAAP EPS was $1.43 per share, and non-GAAP EPS was $2.52 per share. Excluding the impact of NGINX, non-GAAP EPS would have been $2.57 per share, at the top end of our guidance range. Q3 product revenue of $249 million was up 4% year-over-year and accounted for approximately 44% of total revenue. NGINX contributed $4 million to product revenue in the quarter, all of which was subscription software revenue. As Francois mentioned, software grew 91% year-over-year and represented approximately 27% of product revenue, up from Q2 when it was approximately 19% of product revenue. Excluding NGINX, software revenue grew 79% year-over-year and represented 26% of product revenue. In the quarter, we had very strong uptake on our software solutions sold as ELAs and annual subscriptions. Under the modified retrospective approach to ASC 606, we are required to compare our results under 606 to what they would have been under 605 during the first year of adoption. In the quarter, the implementation of 606 resulted in $29 million more in recognized revenue, compared to what it would have been under 605, excluding any impact of NGINX. I would like to remind everyone of one point about our business. In the year-ago quarter, almost all our revenue was being driven by perpetual licenses or other consumption models that are not impacted by the adoption of 606. Had ASC 606 been applied to our Q3 2018 quarter, you would have seen a de minimis difference in revenue. Therefore, the adoption of 606 had little impact on our revenue growth in the quarter. Systems revenue of $181 million made up approximately 73% of product revenue and was down 11% year-over-year. Services revenue of $314 million grew 4% year-over-year and represented approximately 56% of total revenue. NGINX contributed $1.1 million in services revenue in the quarter. On a regional basis, in Q3, Americas revenue declined 1% year-over-year and represented 53% of total revenue. EMEA was up 2% year-over-year and accounted for 24% of overall revenue. APAC was very strong in the quarter with revenue growth of 22% year-over-year, representing 23% of total revenue. Looking at our bookings by vertical. Enterprise customers represented 60% of product bookings and service providers accounted for 20%. Our government business was very strong, representing 19% of product bookings including 8% from U.S. Federal. In Q3, we had three greater than 10% distributors. Ingram Micro, which accounted for 18% of total revenue; Tech Data, which accounted for 11%; and Westcon, which accounted for 10%. Let’s now turn to operating results. GAAP gross margin in Q3 was 83.9%; non-GAAP gross margin was 85.4%, in line with our expectations. GAAP operating expenses were $370 million; non-GAAP operating expenses were $295 million. Non-GAAP operating expenses excluding NGINX were on the higher end of our expectations as a result of higher sales commissions related to software sales. Our GAAP operating margin in Q3 was 18.2% and our non-GAAP operating margin was 33.1%. Excluding NGINX, non-GAAP operating margin was 34.2%, which was in line with our expectations. Our GAAP effective tax rate for the quarter was 20.1%. Our non-GAAP effective tax rate was 20.7%. Turning to the balance sheet. In Q3, we generated $150 million in cash flow from operations, down from recent levels, mainly due to the strength in subscription sales including ELAs where revenue proceeds the collection of cash. Cash and investments totaled $1.15 billion at quarter-end. DSOs at the end of the quarter were 51 days. Capital expenditures for the quarter were $33 million, up sequentially as we approached the final phases of building out our new facility in Downtown Seattle and our new facility in Hyderabad. Deferred revenue increased 14% year-over-year to $1.17 billion, a little less than half of the increase over the prior year quarter relates to the adoption of 606. We ended the quarter with approximately 5,195 employees, up 400 people from Q2, reflecting the addition of NGINX and our continued hiring in growth areas including sales, and research and development. In Q3, we did not repurchase any of our common stock, opting instead to rebuild our cash balance, following the NGINX acquisition. We continue to view cash as a strategic asset for our future growth. Though our primary focus with cash generation is augmenting our strong balance sheet, we may opt to repurchase shares during any open trading window. Now, let me share our guidance for fiscal Q4 of 2019. Unless otherwise stated, please note that my guidance comments reference non-GAAP operating metrics and include our NGINX business. We continue to make strong progress transitioning our business to a software-driven model. We remain confident in our position in the market and expect our growth will be driven by the growth of applications and increasing demand for our multi-cloud application services. We also expect continued strong demand for our software solutions, including subscription and ELA offerings. With this in mind, we are targeting Q4 ‘19 revenue in the range of $577 million to $587 million. We note, for Q4, we expect NGINX to contribute less than $8 million in revenue, which includes the impact of purchase accounting write-down of deferred revenue. We do not expect to provide NGINX-specific guidance after this quarter. We expect gross margins of approximately 85.5% to 86%. We estimate operating expenses of $301 million to $313 million. We anticipate our effective tax rate for Q4 will remain in the 21% to 22% range, as previously provided for the full fiscal year. Our Q4 earnings target is $2.53 to $2.56 per share. In the quarter, we expect share-based compensation expense of approximately $43 million, and $4.6 million in amortization of purchase intangible assets. We expect Q4 CapEx of $25 million to $35 million as we complete the buildout of our new corporate headquarters. With that, I will turn the call back over to Francois.

Thank you, Frank. I'll spend just a few minutes on the trends we're seeing in the business as well as the NGINX integration before moving to Q&A. F5 today is very different than the F5 of even 24 months ago. A year ago in March, we laid out our strategy for transitioning F5 to a software-driven model. Since then, the team has been executing on that strategy and making deliberate changes that have substantially reshaped F5 and our growth opportunities. What do I mean by that? In the last 24 months, we have, number one, executed a wholesale reprioritization of our resources, aligning the business with our growth priorities; number two, introduced new consumption models like subscriptions and ELAs that make it easier for customers to purchase and deploy F5 application services and software; number three, we have doubled down on security, including investments in WAF and bot mitigation; and number four, we have also brought new solutions to market, solutions like Cloud Edition and central management, orchestration and APIs, all of which have opened new opportunities for us. As a result, it is no longer accurate to view F5 through the narrow lens of a traditional ADC player. Our efforts to expand our reach and broaden our role have accelerated our software transition, and it is becoming evident in our performance. And this is true even before we factor in future software growth catalyst, including NGINX and F5 Cloud Services. Today, F5 is a leader in an emerging and rapidly expanding multi-cloud application services space, a space that has arguably been underserved, which is why we are generating the kind of software growth we are. The multi-cloud application services opportunity differs from the traditional ADC opportunity in three fundamental ways. First, multi-cloud application services offer customers a much broader range of application services beyond load balancing and traffic management to include security, analytics, API management, application performance management and service mesh. Second, multi-cloud application services reach beyond the data center to public cloud and to containers. They are more versatile and agile. And as a result, they can support a much larger universe of applications. And third, multi-cloud application services are easier for customers to deploy, consume and manage. It is clear that customers view F5 as a multi-cloud application services player. For instance, we continue to see security use cases driving software growth and accounting for a higher share of our overall product business. In particular, we continue to drive strong traction with our web application firewall, anti-bot and machine-generated traffic monitoring and blocking capabilities. During Q3 for instance, we secured our largest global web application firewall deployment yet with an international financial institution. This customer had been using multiple WAF platforms to protect its applications and selected F5 as their enterprise-wide WAF solution after thorough evaluation of a number of competitors. Customers are also increasingly choosing F5 for our advanced capabilities in automation, orchestration and central management. We have been simplifying an increasingly complex combination of environment and sprawling deployments. During Q3, we secured a win with a government customer that selected BIG-IQ to manage a large and growing number of BIG-IP deployments. The customer also expects to deploy our Application Security Manager to manage web application firewall policies. We also continue to see customers who are migrating to cloud environment, demanding the same level of application security and agility as they have in their data centers. This was the case with a U.S. enterprise customer that selected our Cloud Edition during the quarter. The customer expects the transition individual applications to cloud environments over time which made a Cloud Editions per app consumption and deployment model and ideal solution. Finally, our new subscription consumption models continue to facilitate software growth across our customer base with both enterprise and service provider customers leveraging friction-free F5 services procurement and deployment. As an example, one of the ELAs closed in the quarter was with a large next generation mobile carrier in APAC. F5 5G-ready NFV solutions will address the needs of this customer’s growing 4G mobile broadband consumer services. We will enable connectivity and security for Voice-over-LTE IMS services and enterprise IoT services. Our solution reduces both capital and operating expenses, while increasing service agility with faster build, test and deployment cycles. We also simplified the network with software-based network functions and the ability to dynamically manage and orchestrate services. This enables the customer to tailor innovative services to subscriber preference and usage. A word on our systems business and how it fits into our multi-cloud application services opportunity. We believe our systems business is seeing the effects of two factors. The first relates to the actions that we have taken to make it easier for our customers to consume F5 as software, reducing friction with new consumption models and sharing easier provisioning of software, simpler licensing management and models and generally reducing operating complexity. The second is that our customers are better able to operationalize and manage a virtualized infrastructure environment. And as a result a number of them are implementing software first policies. As a result of these two factors, we are seeing an accelerated shift in our product mix towards software. Before we move to Q&A, let me talk to our combination with NGINX. With the NGINX acquisition completed on May 8, the teams have come together well, and we are executing our integration and value creation plan at a rapid pace. I will highlight progress on two key work streams in particular for this audience, one, go-to-market; and two, product integration. First, on go-to-market. NGINX’s sales team has worked hard to maintain the momentum of NGINX current offerings, and since close has been operating as an overlay to the F5 sales team, all of whom have been trained on NGINX. Our ability to bridge the gap between NetOps and DevOps is resonating with customers, and we are already seeing the power of our combined sales efforts. We estimate that the joint F5 NGINX and F5 initiated sales efforts have increased NGINX’s net new Q4 pipeline by roughly 20%. As an example, during Q3, we secured a joint F5 and NGINX win with an APAC-based international telecommunications provider. The customer needed a security solution for its private cloud distributed over 10 major city points of presence. They selected F5’s software-based WAF to protect traffic ingress points. They selected NGINX for micro service security including protection for API gateways, cloud governance and reverse proxies. The combined F5-NGINX solution resolved scaling issues in central controls and provided a consistent approach to security postures across the business while underpinning faster application delivery. Briefly on F5-NGINX products integration. As planned, the F5 cloud-native product development team has been combined with the NGINX team, reporting to Gus Robertson. The teams have come together well and have made very strong progress on engineering and product integration. As the first priority, the teams are moving quickly to converge NGINX’s controller and F5’s cloud-native application services platform. In fact, we expect the first release of a converged F5 NGINX offering within the next six months. We expect the converged F5 NGINX controller will be an accelerator for our NGINX business, expanding, both the addressable market and potential deal size by spanning a broader set of used cases across DevOps and Super-NetOps customer personas. Overall, we are more enthusiastic than ever about the opportunities we are pursuing as a combined F5 NGINX team. In near-term, we are addressing a critical challenge for customers by bridging the NetOps, DevOps divide. The combined F5 NGINX provides the management ease of use features that traditional infrastructure buyers, including network buyers expect enabling F5 to cover the full spectrum of application and modernization needs. Going forward, we believe applications will be increasingly disaggregated into smaller components, containerized and distributed across multi-cloud environment. NGINX is true software, ideal for this container-based DevOps environment, which means unparalleled agility and lower cost for our customers. We are confident that F5 and NGINX with our combined solutions and application expertise bring significant advantages to these cloud-native and containerized environments. In summary, we are very pleased with the progress we are making overall, and we are confident we can continue to drive software momentum. One of the things we find most encouraging is that the software growth we have delivered thus far is largely from solutions that have been in the market for over a year, including our BIG-IP Virtual and Cloud Edition. As we look ahead, we see even more growth coming from new offerings, including our recently introduced SaaS platform, F5 Cloud Services and our combined F5 NGINX offerings. In closing today, my thanks to our partners, our customers and our shareholders, my thanks too to the entire F5 team, and especially to those working to ensure the combined F5 NGINX is as successful as we believe it can be. With that, operator, we will now open the call to Q&A.

Thank you for taking my question. It's great to see the impact from software this quarter, Francois. Can you share any insights on how customers are using it, excluding NGINX for now? What does it indicate about deal sizes, and how should we view the revenue recognition for the quarter in relation to the systems business?

Hey, Alex, I'll address the first part and Frank can discuss the revenue recognition aspect. Our customers are using our software through both perpetual licenses and extended license agreements, which usually span three years, as well as one-year subscriptions. The fastest growing segment within our software business is the subscription area because it provides our customers with greater flexibility regarding their costs and the ability to utilize features as needed. We're experiencing significant demand for these consumption models. Regarding your question about deal sizes, they vary from smaller one-year subscriptions worth tens of thousands of dollars to multimillion-dollar, three-year enterprise license agreements.

And Alex, with the adoption of 606 this year, the revenue recognition associated with a lot of subscription deals look exactly like what we would have had as perpetual deals in previous years. And so, instead of radically recognizing, you split out the value components and recognize that proportion of the revenue, which is frankly modeled after our perpetual. So, on a year-over-year comparison, it's very, very close.

I appreciate it. A couple if I may. First off, my math must be wrong, but on the software revenue, I'm coming out to $67 million in the current fiscal Q3, $65 million, if we exclude NGINX, this is what you said versus $45 million a year ago, that will work out to 42% year-over-year growth, not this 79% organic and 91% in total. Can you just help me out with the numbers? Because I mishear you all, it was 19% of product revenue a year ago and 27% in the current quarter, 26% ex-NGINX?

So, I think, your number, Paul, for this year is correct, so the number for last year is not. It's much lower. I think it's something close to $34 million or $35 million.

Did you all not do $239 million of product revenue last quarter in the year ago quarter?

Yes, about 239.

19% of $239 million is $45 million.

19% that I referenced was last quarter, not a year ago quarter.

My apologies. What was it in a year ago quarter?

I believe it was around 14%.

14? All right. I'll come back to you after the call on that. Secondly, related to software NGINX in particular. I think, there's a view out there among most investors that NGINX displaces existing F5 platforms. And you all bought Silverline back when previous acquisition; you were working hard on it, if I recall the past two plus years. Can you just clarify whether NGINX totally displaced what you've done with respect to cloud platforms, whether it augments? And then, I've got a quick question on VMware, Avi.

Paul, thanks for the question. On NGINX, no, it does not displace either our perpetual software, sort of virtual edition offerings or Silverline. So, Silverline is essentially a managed security services platform for customers that want to consume WAF and DDoS and other security services with associated 24x7 support and leveraging our infrastructure to scrub the traffic and provide managed services to them. NGINX is a great platform for DevOps' environment, essentially injecting application services in the code of application logic. And it plays to a very different market than the market we have played in to-date, either with Silverline or with our Virtual Editions.

Frank, before I ask the Avi question, what percent of your total revenue is now recurring?

I would say, it’s north of 70%, including the services fees.

Do you know what it was a year ago?

I’d have to get back to you on that one, Paul. I don't have that off the top of my head.

If you could, that’d be appreciated. Now, for the Avi question. So, Avi was talking really good game before got acquired and it just got acquired by VMware. Obviously that wins resources, incumbency, customer base all things are needless to say. I know, it hasn't been a long time, but what are you seeing in terms of their success or lack thereof currently, versus whatever degree of success they were having previously in competition against you?

I understand this topic has received a lot of attention following the VMware acquisition, so I want to address your question thoroughly and present some facts. Avi functions primarily as a software load balancer, offering strong analytics and a good user experience. The value it provides mainly resonates in scenarios where customers prioritize these features over the benefits of a lightweight, scalable solution. However, this represents a very small part of the market. Historically, we've encountered Avi in less than 2% of our deals, and we win most of those. Even in the accounts they've identified as lighthouse accounts, F5 typically holds over 95% of the market share in those areas. Additionally, several customers have returned to F5 from Avi due to problems with scalability, features, or operational integration. I wanted to clarify these facts. VMware is a respected company that we partner with, and their support will undoubtedly offer broader distribution for Avi. However, I believe the appeal of the VMware Avi solution will be limited to customers who are fully invested in NSX and seek deep integration with their software load balancer, rather than a true multi-cloud architecture with extensive application services. Regarding our competition in this space, we are addressing the aspects of user experience and analytics with our new controller, which combines the NGINX and F5 technologies. This merger has generated considerable excitement. Our acquisition of NGINX was an offensive move aimed at the future architectural trends. We swiftly recognized NGINX as a prime asset in the virtual ADC market due to its minimal footprint, making it a suitable choice for microservices environments. It also boasts proven scalability, as it supports the largest public cloud infrastructures globally. Moreover, NGINX offers a comprehensive platform that covers a range of application services like API gateways, application security, and application servers, without the limitations of a virtual appliance. All these factors make NGINX an ideal solution for DevOps and application development teams, which is why we are enthusiastic about the synergy between F5 and NGINX in the market.

Thank you. So, I just had a quick question first on some of your cash, right, and where your cash balance is going to be by about mid-year 2020, or like at least the next fiscal year, basically two to three quarters from where we are today? I just wanted to understand maybe what the corporate plan was, what you're going to do with this cash balance? Are you going to consider more M&A? Are you going to potentially reinstate your cash buyback? Would you consider some other factors? Just to give us a bit of an idea on what you're going to do with this quickly escalating cash balance?

Hi, Sami. I think you can look at it this way. For now, we're placing significant emphasis on strengthening our balance sheet and rebuilding our cash balance. However, we will continue to explore opportunities in the market, whether through potential mergers and acquisitions or possibly even more stock buybacks if the opportunity arises. All these options are available to us. But in the very short term, there is a greater focus on rebuilding our cash balance.

Got it. Thank you. And then, my next question had a lot to do with, given the formation of some of the new offerings, F5 and NGINX are coming together and go to market with, would it would it be safe to assume that systems revenues specifically, or at least, the growth rate, or I guess you said, the declines could accelerate in probably six months out from today, given that the fair majority of the new offerings coming to market are more software-based versus hardware. And this is also probably a bit more correlated with the IT backdrop that you kind of see, see some metrics start to decelerate in a broader macro IT world, could you potentially see further deceleration of growth in the system side and then naturally see some acceleration further in the software side?

I don't necessarily think that the factors you mentioned, Sami, would lead to further deceleration on the hardware side, because there are also other sort of compensating factors when you look in 2020. I think, we should probably see a bit more from service providers around sort of capacity upgrades that are more naturally hardware driven. We also have some evolution of our own platforms, hardware platforms that would contribute to that. So, I think, there are factors on both sides of that equation. We've taken all of that into account when we have given our guidance for Horizon 1 around mid-single-digit growth. And I think we're still comfortable with that guidance. Now, in that guidance, Sami, what our thought was that hardware would decline sort of low-single-digit to flat and software would go in the 35% to 40% range. Given what we've seen over the last six months, I think, it's fair to say that software is going to grow a little faster and hardware is going to decline, also a little faster than what we thought. But at this point, it's hard to give you a hard answer on the exact numbers for each. But overall, we're still seeing the balance of revenue growth is going to be what we thought.

Got it. Thank you. And then, my last question has to do with the APAC deal regarding the carrier. And just to give us an idea, could you give us an idea on mix on software versus hardware in terms of what this carrier bought from you guys, just so we have like maybe some kind of illustration on what future carrier deals could look like?

Sami, it's a good example of a carrier that is moving to NFV in anticipation of the 5G rollout. And in this case, they bought software, essentially. It was a 100% software ELA with a number of virtual functions included in the deal.

I guess, I wanted to go back to this question of systems and systems decline and ask you what you think your market share position looks like for the quarter? Like, do you think you've maintained share? Do you think you lost share? And then, what would you expect to happen in the future, like the next few quarters? Do you think that within the systems business for ADC you’ll be able to maintain share and just kind of track more performance or would you expect to kind of outperform the market itself?

Rod, I believe that focusing solely on the ADC markets is too narrow for F5. As I mentioned in my prepared remarks, we are evolving into a multi-cloud application services provider, which presents a wider opportunity. However, if we examine the ADC market specifically, including both hardware and software, I believe we are gaining market share. I can't determine our exact share gain in hardware this quarter or provide answers until market share reports are released in a couple of months. However, I can confirm that we have taken specific actions to transition some of our hardware business to software. This involves making our software solutions easier to adopt and reducing obstacles for customers. It also includes restructuring our commercial offerings and contracts, as well as enhancing our go-to-market strategies and incentives for our field teams to support customers transitioning to software more quickly. These initiatives are driven by us, but there are also market factors at play, including customer preferences for software solutions and multi-cloud capabilities. These elements contribute to the decline in systems, though some is a result of our decisions. Lastly, I want to emphasize that we have not been losing hardware deals. If this was your concern, we are quite satisfied with our success rate in hardware sales.

Yes. My question was focused on your hardware market share gains. Do you believe you can maintain this momentum, or do you think your performance might align more closely with the overall hardware market? Additionally, Francois, considering the significant software growth in the quarter, can you share your thoughts on how this growth compares with the market? Looking ahead to the next year, do you expect to sustain this level of growth, or could this be a unique occurrence? What growth do you predict as we move forward?

I think if you look at the analysts’ reports on ADC’s software growth, excluding ADC-as-a-service, which is largely our latest cloud offering, the reports indicate a growth rate of around 20% in the ADC software market. We believe we are gaining significant market share in this area, and our software growth is not solely driven by ADC; it also includes a strong component of security, which is experiencing robust growth. Regarding your question about maintaining software growth in the upcoming quarters, I don’t anticipate a 90% growth rate every quarter. However, my expectation is that we will likely exceed the 35% to 40% software growth outlined in our Horizon 1 guidance. This is partly due to growth catalysts like NGINX and F5 Cloud Services, which are expected to contribute more significantly in the latter half of 2020 and certainly in Horizon 2. Overall, when combining this with hardware trends, I believe our previously shared overall aggregate revenue growth for Horizon 1 remains accurate.

Thank you. Yes, I have two questions. I think, first Francois for you. There is a tremendous success in software this quarter, does put you on a much higher trajectory when it comes to that piece of the business. But, it doesn’t seem as though your overall corporate growth rates have picked up, despite the software explosion. And I guess I would have expected there to be a little bit of uptick in the overall corporate growth rate, if you are expanding into standalone security et cetera, et cetera. So, I was wondering if you could offer some thoughts about that. And then, Frank, on your side, the OpEx number that you are offering us for the September quarter is a little higher than we’ve modeled, and there is integration of an acquisition, so I get that. But I was just wondering if you could help us understand where the OpEx is and where it might go over the course of the fiscal year, to the extent you can. Thank you.

I'll address the first part. Overall, our revenue growth is largely aligning with what we communicated during AIM and at the time of the NGINX acquisition in terms of total revenue growth. We've previously indicated that we anticipate an increase in our Horizon 2 phase, and we maintain that outlook. For Horizon 1, considering the transition our company is navigating, moving from a substantial hardware base to a primarily software-focused business, the growth rate currently reflects that shift.

And Jeff, in terms of non-GAAP operating margin for the rest of our fiscal year, the coming quarter that we have is the rest of our fiscal year. And so, we're not providing any guidance at this point for FY20. But, as we talked about in the acquisition of NGINX, we expected that our non-GAAP operating margin in Horizon 1 was going to be in the range of 33% to 35%. This is absolutely in that range. And we did that with the anticipation of the expenses that were going to come on through the NGINX acquisition. So, that's exactly what we're seeing.

Hi. Thanks for taking the question. Francois, I just wanted to start off with a more broader question on what are you seeing in terms of spending trends from enterprise customers? I think, last quarter, particularly there were few companies that had mentioned, given the uncertain macro, there was some kind of softness in signing large deals. What are you seeing on the ground? Are you seeing kind of any hesitation in signing those large deals at this point?

Hi, Samik. I can provide a few insights. Generally, the macro environment is not as robust as it was a year ago. While I wouldn't describe it as particularly challenging, it lacks the health it had previously. We are observing softness mainly in the UK and Germany, with ongoing uncertainty in the UK leading to delays or cancellations of several deals. Additionally, there is increasing scrutiny on hardware deals, especially for companies prioritizing software, which is likely extending the deal cycle for hardware transactions.

Got it. Frank, I want to quickly follow up with a question about the software side. You experienced strong sequential growth in software revenues, and you mentioned that much of it was driven by the security products. You also launched new SaaS offerings in March. Can you help us understand the contribution to sequential growth from the new SaaS offerings, or if it's negligible now, how long you anticipate it will take for them to become significant to your outlook?

Yes, Samik. We launched F5 Cloud Services, our SaaS platform, in March, along with our initial service, DNS-as-a-service. We're currently preparing to launch our next service, global server load balancing, which will be available soon, followed by WAF-as-a-Service and others. At this stage, we are in the early days with just the first service, but we already have our initial paying customers on the platform, along with a significant number of customers in trial. We anticipate that growth will accelerate as we roll out new services like GSLB and WAF. However, this has not contributed to the quarter, and we do not expect it to be significant in the next three quarters. SaaS businesses typically take time to ramp up. Looking ahead to FY21 and FY22, when we enter Horizon 2, we expect our F5 Cloud Services platform to become a meaningful contributor to our overall business and especially to our software growth.

Great. This is Meta Marshall for James. My first question is about the 33% to 35% operating expenses you mentioned in Horizon 1. I want to understand how much of this is due to incorporating NGINX and how much is related to the changes in your go-to-market strategy. Additionally, could you clarify the impact of purchase accounting on NGINX regarding your forecast? You mentioned it contributed $8 million this quarter; what would that figure have looked like without the purchase accounting adjustment? Thanks.

Meta, I'll take the first part, and Frank will take the second part. On the 33% to 35% operating profit guidance for Horizon 1, Meta, this is mainly due to investments in our software platforms, largely NGINX and the investments we have to do there, some of F5 Cloud Services, but it's mainly NGINX. And it's not really about the go-to-market, it’s a change in the go-to-market models. Even though we have increased the size of our go-to-market teams with the addition of NGINX, this is more about the platforms than a fundamental change in our go-to-market.

I mean, in relation to the $8 million, that was a discussion about the contribution of NGINX next quarter. Without a purchase accounting, my assumption is that would be just approximately $10 million, maybe slightly more than $10 million next quarter?

I wanted to maybe come at the OpEx question a little bit differently. I want to reflect on the June quarter. Excluding the acquisition you had forecast, I believe, $275 million to $287 million, which would imply something like 60ish million coming from the acquisition. If you could maybe unpack what occurred in the June quarter and then help us understand what's maybe one-timeish, what's sort of ongoing from the acquisition, because obviously you're forecasting significantly lower operating expenses in September. So, I just want to make sure I understand the moving parts or components to operating expenses?

Sure, Simon. So, all that $60 million, I think where you're getting that figure is when we talk about not just contribution from NGINX, but also some of our non-GAAP things that we have to split out. And that reconciliation can be found in the press release. And so, I'd point you to that. But some of the bigger items where there was a portion of the NGINX acquisition where it was part of the consideration but accounting makes us take that as an expense in the quarter and it was effectively a holdback for key employees that was part of the deal negotiation. And so that was a large portion of that. There were some facility exit charges. And then the rest of what we would discuss would be the inflow of the new NGINX employees. So, all of that was anticipated as part of our guidance and our guidance going forward.

And so, the incremental expenses from NGINX by itself in terms of what is going to operating expenses is in kind of a $25 million to $30 million range per quarter?

I think it's actually a little bit less than that, but it's not a number that we're breaking out for practical purposes. We've already merged some of the teams together, and it's not how we are tracking the business.

Okay. And maybe just to pivot, in terms of the cash position, I understand this is I think the first quarter in more than 10 years that F5 has not bought back stocks, so sort of a significant break in the pattern. What is the cash level that you feel is necessary to run the business because it seems as if you certainly got adequate cash to do everything you’d like and could still buyback stock. So, I guess, I'm trying to really, even if you’re not ready to give us a number, if you can maybe explain your philosophy.

Sure, Simon. I mean, for a long time, we’ve had plenty of cash to run the business and have chosen to do share repurchase as opposed to other things that you can do with cash, including inorganic expansion. And so, we are adding back up that flexibility to continue to use our cash for multiple purposes and we’ll be strategic with it. I can’t say that there is ultimately one level where the cash balance has to be before go back in the market and repurchase shares. That could be this quarter.

Could you maybe just follow that with your thought on instituting a dividend?

Yes. We don’t have any anticipation at this point of instituting a dividend. We think that that’s actually not a great tax efficient way of redistributing cash to our shareholder base, and we’d be much more off to do share repurchases as that vehicle to redistribute cash.