A10 Networks, Inc. (NYSE:ATEN) Q3 2023 Earnings Call Transcript

A10 Networks, Inc. (NYSE:ATEN) Q3 2023 Earnings Call Transcript November 7, 2023

A10 Networks, Inc. misses on earnings expectations. Reported EPS is $0.08534 EPS, expectations were $0.13.

Operator: Hello. And welcome to the A10 Networks’ Third Quarter 2023 Earnings Conference Call. My name is Elliott, and I will be coordinating your call today. [Operator Instructions] I’d now like to hand over to Rob Fink with FNK IR. The floor is yours. Please go ahead.

Rob Fink: Thank you, Operator, and thank you all for joining us today. This call is being recorded and webcast live and may be accessed for at least 90 days via the A10 Networks’ website at a10networks.com. Hosting the call today are Dhrupad Trivedi, A10’s President and CEO; and Brian Becker, CFO. Before we begin, I would like to remind you that shortly after the market close today A10 Networks issued a press release announcing its third quarter 2023 financial results. Additionally, A10 published a presentation and supplemental trended financial statements. You may access the press release presentation and trended financials on the Investor Relations section of the company’s website. During the course of today’s call, management will make forward-looking statements, including statements regarding projections or future operating results, including their potential revenue share, revenue growth industry and customer trends and capital allocation strategy, supply chain constraint, and expectations, positioning, or repurchase and dividend programs and market share.

These statements are based on current expectations and beliefs as of today, November 7, 2023. These forward-looking statements involve a number of risks and uncertainties. So much are beyond management’s control such as the potential impact that the COVID-19 pandemic and these could cause actual results to definitely materially and you should not rely on them as predictions for future events. A10 does not intend to update information contained in these forward-looking statements whether as a result of new information, future events or otherwise unless required by law. For a more detailed description of these risks and uncertainties, please refer to the company’s most recent 10-K. Please note that with the exception of revenue financial measures discussed today are on a non-GAAP basis and have been adjusted to exclude certain charges.

The non-GAAP financial measures are not intended to be considered in isolation or a substitute for results prepared in accordance with GAAP and they may be different from non-GAAP financial measures presented by other companies. A reconciliation between GAAP and non-GAAP measures can be found in the press release that was issued today and on the trended quarterly financial statements posted on the company’s website. With all that said, I’d now like to turn the call over to Dhrupad. Dhrupad, the call is yours.

Dhrupad Trivedi: Thank you, Rob, and thank you all for joining us today. The industry headwinds we discussed on our previous earnings calls impacted our results in the third quarter resulting in revenue of $57.8 million, which is in line with our preliminary results. Despite these headwinds, year-to-date we have achieved our stated EBITDA goals of 26% to 28% and we continue to generate cash. For the past three years, we have been speaking about the importance of our diversified business model and A10 structural profitability. This diversification has enabled us to outperform the market, transition to consistent profitability and support a buyback program and then a cash dividend. But the real value of our business model, both in terms of diversification and resource allocation relates to how we adapt to challenging macroeconomic circumstance.

In February 2021, we had guided to a business model of 80% to 82% gross margin, 26% to 28% EBITDA and expanding EPS. In spite of a challenging topline environment, we are on track year-to-date to deliver on these as a result of our focus on execution and being customer-centric. To put it in perspective, our non-GAAP EPS for Q3, 2023 of $0.16 was higher than our full year non-GAAP EPS in 2018 and 2019. This demonstrates the progress we have made in establishing durable earnings power, building upon a strong technical foundation. We monitor growth opportunities and our sales cycles closely using multiple points of view. During the quarter and the first few weeks of the third quarter, we saw improving market conditions, but as the quarter progressed, decisions were delayed and our visibility decreased.

Even so we expected higher revenue levels based on several late-stage opportunities that we expected to close in the last few weeks of the third quarter. As conditions worsen, these orders shifted from the third quarter into future periods, during the last two weeks of the quarter. As a result, we made the decision to pre-announce our revenue just after the quarter ended. As has been widely reported, subsequent to our announcement, the North American market, especially with Service Providers has been difficult for all of our peers. Buying decisions are being delayed, projects are being pushed and inventory gluts are being worked through in response to rising interest rates and inflation concerns. A10 has not been completely immune to these headwinds despite Enterprise segment growth both year-to-date and in the quarter.

Visibility is reduced, customer cycles are elongated and quarter-to-quarter volatility has increased. However, our global reach, customer diversification and effective supply chain management has enabled us to navigate these challenges as evidenced by performance viewed over longer time periods and we are confident that as the market normalizes our solid foundation and commitment to execution will help us to drive sustainable financial results. Our business model enables profitability even when we experienced revenue challenges. Few years ago, such challenges would have resulted in significant losses and cash burn. Today that is clearly not the case as we reported GAAP profitability and generated cash, even as we continue to return capital to shareholders, while driving innovation.

In the last 12 months we have returned $95.2 million to shareholders in the form of dividends and repurchase. In part, we have adjusted our business priorities to aggressively reallocate and reduced spending amidst a challenging revenue environment. We remain focused on preserving growth-oriented investments, while being cognizant of our overall spending. Subsequent to the end of the quarter, we launched a new component of our already strong security product portfolio. Our new A10 Defend Detector available as part of A10 Solution portfolio provide early warning capabilities to facilitate even more effective and advanced threat mitigation. This product targets the growing threat of DDoS attacks. A10 Defend Detector helps customer bills DDoS defenses before attack occur.

We believe that our portfolio including A10 Defend Detector, orchestrator and mitigator provides the highest levels of scalability and efficacy available in the market today, delivering automated DDoS defenses for the most demanding Service Provider and Enterprise environment. We are also in early trials with Enterprise customers for our new DDoS Threat Intelligence Service and we plan to integrate this into our solution portfolio in early 2024. Our security research team already tracked more than 15.4 million DDoS weapons globally. Our Threat Intelligence Service leverages this expertise. Our global pipeline of opportunities remained strong in both Service Provider and Enterprise segments. Projects have been delayed, but revenue has not been lost.

In reality, security and network expansion remains business critical investments, and while higher interest rates and broad economic uncertainty impacting the sales cycle, these projects cannot be permanently default. Our visibility has been reduced but we continue to believe that we are well positioned to navigate these challenges and poised to rebound as the market normalizes. This is based on a customer-centric approach combined with innovation. With that, I’d like to turn the call over to Brian for a detailed review of the quarter and the first nine months of the year. Brian?

Brian Becker: Thank you. Dhrupad. The results we are announcing today are in line with preliminary results reported on October 3rd. Third quarter revenue was $57.8 million, a decrease of 20% year-over-year, reflecting the headwinds Dhrupad described earlier. Product revenue for the quarter was $30.3 million, representing 52.4% of total revenue. After modest improvements in the second quarter, market conditions deteriorated with several projects that we expected to close at the end of the quarter being pushed into future periods during the last month. Services revenue, which includes maintenance and support revenue, was $27.5 million or 47.6% of total revenue. Moving to our revenue from a geographic standpoint, revenue from the Americas, including Latin America was $25.8 million, down 28% year-over-year.

This reflects slowing purchasing from large customers primarily Service Providers due to economic concerns. Revenue from the Americas was down 36% primarily related to reduced spending from Tier 1 Service Providers. As you can see on our balance sheet, our deferred revenue was $135.7 million as of September 30, 2023, up 8% year-over-year. With the exception of revenue, all the metrics discussed on this call on a non-GAAP basis unless otherwise stated. A full reconciliation of GAAP to non-GAAP results are provided in our press release and on our website. Gross margin in the third quarter was 81.8%, in line with our expectations. Adjusted EBITDA was $14.4 million for the quarter, reflecting 24.9% of revenue. I’d like to note that we were able to maintain EBITDA margins in excess of 20% even as revenues declined by 20% in the quarter.

Non-GAAP net income for the quarter was $12 million or $0.16 per diluted share, down from $15.9 million or $0.20 per diluted share in a year ago quarter. Maintaining our non-GAAP net income on lower revenue is a significant accomplishment demonstrating the earnings power we have built into A10. Diluted weighted shares used for computing non-GAAP EPS for the third quarter were approximately 75.8 million shares, compared to 77.7 million shares in the year ago quarter. On a GAAP basis, net income for the quarter was $6.5 million or $0.09 per diluted share, compared with net income of $12.1 million or $0.16 per diluted share in the year ago quarter. Turning to the year-to-date results, revenue was $181.2 million down 10.6% year-over-year. Product revenue was down 18.7%, representing approximately 55.5% of total revenue and services revenue was up 2%, representing about 44.5% of total revenue.

Year-to-date, non-GAAP gross margin was 81.6%. Adjusted EBITDA was $47.2 million, reflecting 26.1% of total revenue in line with our profitability targets. Non-GAAP net income for the first 9 months was $36.5 million or $0.48 per diluted share, compared to $39.3 million or $0.50 per diluted share in the year ago period. On a GAAP basis, net income for the first nine months was $22.1 million or $0.29 per diluted share, compared with net income of $28.9 million or $0.37 per diluted share in 2022. Year to date we have generated $41.8 million in cash from operations. Turning to the balance sheet. As of September 30, 2023, we had $169 million in total cash, cash equivalents and marketable securities, compared to $150.9 million at the end of 2022, an increase of 12% compared to the end of 2022.

In the quarter we paid $4.5 million in cash dividends and repurchased 168,000 shares at an average price of $14.52 for a total of $2.4 million. We continue to carry no debt. The Board has approved a quarterly cash dividend of $0.06 per share to be paid on December 1, 2023, to shareholders of record on November 17, 2023. The Board also approved a new $50 million share repurchase plan. As discussed in our preliminary results, we expect Q4 2023 revenue to be between $70 million and $80 million and year-over-year growth in full year 2023 non-GAAP EPS. Based on current market conditions and in line with our broader peer group, we expect 2024 for revenue and EPS growth. I will now turn the call back over to Dhrupad for closing comments.

Dhrupad Trivedi: Thank you, Brian, A10 remains well positioned to generate improved results as market conditions improve and we expect our performance to benefit from our diversification and global presence. Our security-led solutions remain in high demand align with durable secular catalysts. Additionally, our investments in supporting hybrid solutions that work on-prem and in the cloud are well aligned with customer’s business outcomes. Operator, you can now open the call up for questions.

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Q&A Session

Operator: Thank you. [Operator Instructions] The first question today comes from Gray Powell with BTIG. Your line is open.

Gray Powell: Okay. Great. Thanks for taking the question. So I had a couple here. So I am sort of — some of the companies on the network security side of the world, some companies like Fortinet are talking about how a portion of growth the last couple of years was driven by temporary factors like COVID and supply chain and now we are in sort of this digestion phase. I know you all are a little bit different, but how long do you think this digestion phase last? And admittedly a tough question, but what do you think growth looks like, would we do come out it?

Dhrupad Trivedi: So, no, no, thank you, Gray. So maybe I will address those separately. So first, as it relates to supply chain, you are correct, right? I think if you look at some of the networking infrastructure, as well as security companies in the last 12 months to 18 months, a lot of them went through this kind of inventory correction cycle, if you will, where they could not supply for a while, had a lot of backlog, built up a lot of it and then are now kind of working through it and normalizing it. For A10, I think, because of our footprint and the way we manage some of these operational items, we were never in a situation of having excessive backlog either direction, right? So in some ways, for us, it’s more reflective of the actual market opportunity, because most of our business is book and turn and so it gets affected quickly.

So we don’t expect or we are not — the Q3 challenges for us had very little or nothing to do with supply chain or inventory levels, but certainly, that’s a phenomenon we are mindful of. And indirectly right, we, of course, always look at the equipment customers that purchase, what is the utilization and because our customer base is predominantly Service Provider or large Enterprise rather than say, small Enterprise, we are very well-integrated technically to track those things. So I do think that in itself is not a major factor. Certainly, where customers will be slower to use inventory they have already purchased in the past is harder to predict. But I think we see deferral of new CapEx projects like building new datacenters more so than kind of the cancellation of that, right?

So that’s sort of the supply chain perspective and if you see some of the peer companies, you see their growth over the last three years, year-over-year, you can see that bubble, right, and then it normalizes out. So that’s something we are mindful of, but unknown products would be more customers taking longer to consume what they had, not that they have so much that they don’t plan to buy anything. As it relates to COVID, I think we had mentioned this earlier, right, that because our business is predominantly in the core of the network, when things move to more remote or more distributed working models, it had a much more profound impact on companies that supported sort of work-from-home or remote applications and things like that. For us ultimately what mattered was that that data gets aggregated into a core network, and so for us, we didn’t see a dramatic demand change, again, because of the customers that we are exposed to, right, who would see more data, whether it was from home or the office, for example.

So — but those are factors we certainly think are germane and it’s hard for me, Gray, to differentiate that from normal CapEx cyclic behavior that you see from those customers, right? So how it is due to these factors versus the normal cycles, hard to know. But hopefully, that gives you a flavor for at least what A10 is facing. And your next question around how do we think growth resumes. So if you think of our business, two-third Service Provider, one-third Enterprise. Enterprise is predominantly large Enterprise, and I would say that is certainly becoming more stable and not on a negative trajectory and if you see our segment results, right, you will see that as well. We expect that to be driven more for us in two ways. One is they are supporting more complex configurations where more and more of their larger customers want a mixed operating environment on-prem and cloud, and we have invested a lot in those products and commercial activities, right?