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RVBD > SEC Filings for RVBD > Form 10-Q on 31-Jul-2014All Recent SEC Filings

Show all filings for RIVERBED TECHNOLOGY, INC.

Form 10-Q for RIVERBED TECHNOLOGY, INC.


31-Jul-2014

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements and related notes included elsewhere in this Form 10-Q. The information in this Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 (Securities Act) and
Section 21E of the Securities Exchange Act of 1934 (Exchange Act). Such forward-looking statements include statements related to: our business and strategy, trends affecting our business and financial results, international expansion plans, direct and indirect sales plans and strategies, growth of our revenue, costs and expenses (including sales and marketing expenses), gross margins, our share repurchase program, our acquisitions, the effect of fluctuations in exchange rates and our hedging activities on our financial results, our effective tax rate and our liquidity and capital requirements. Such statements are based upon current expectations that involve risks and uncertainties. Any statements contained herein that are not statements of historical facts may be deemed to be forward-looking statements. For example, words such as "may," "will," "could," "would," "should," "estimates," "predicts," "potential," "continue," "strategy," "believes," "anticipates," "plans," "expects," "intends" and similar expressions are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ significantly from the results discussed in the forward-looking statements. Factors that might cause or contribute to such a discrepancy include, but are not limited to, those discussed elsewhere in this Form 10-Q in the section titled "Risk Factors" and the risks discussed in our other SEC filings. We disclaim any obligation to publicly release any revisions or updates to the forward-looking statements after the date of this Form 10-Q.

Overview
We were founded on May 23, 2002 and are a leader in application performance infrastructure. Riverbed enables organizations to embrace location-independent computing through the Riverbed Application Performance Platform, a set of integrated solutions that give companies the flexibility to host applications and data in the locations that best serve the business while ensuring the flawless delivery of those applications to better leverage global resources, radically reduce the cost of running their business, and maximize employee productivity. Riverbed's solutions dramatically improve application performance, reduce IT costs, and substantially increase business agility. We have two product lines:
•Application Acceleration product line, which includes our wide area network (WAN) optimization products, including SteelHead and SteelFusion (formerly Granite), our SteelApp (formerly Stingray) virtual application delivery controllers (ADCs), and our SteelStore (formerly Whitewater) cloud storage delivery products; and
•Performance Management product line, which includes our SteelCentral performance management and control suite. The Performance Management product line combines our former Cascade products and the products acquired from OPNET Technologies, Inc. (OPNET). We are headquartered in San Francisco, California. Our personnel are located throughout the U.S. and in more than 35 countries worldwide. We expect to continue to add personnel in the U.S. and internationally to provide additional geographic sales, research and development, general and administrative and technical support coverage.

The Riverbed Strategy
Our goal is to develop solutions that are widely recognized as the preeminent performance and efficiency standard for organizations of all sizes and geographies. Key elements of our strategy include:
• Enhance our customers' performance - Riverbed is the performance company. Our vision is to provide the most complete platform for location independent computing to ensure flawless application performance and the best user experience. This will allow customers to turn distance and location into competitive advantage by letting business objectives - not technical constraints - drive where and how applications and data are hosted and delivered for optimal business performance. Our vision focuses on the intersection of applications, networks, and storage, and brings customers a single, unified view of performance in their distributed environment.

• Maintain and extend our technological advantages - We believe that we offer the broadest ability to enable rapid and reliable access to applications and data for our customers. We intend to enhance our position as a leader and innovator in the WAN optimization, branch converged infrastructure, application delivery controller and performance management markets. We also intend to continue to sell new capabilities, such as our solutions oriented toward cloud environments, into our installed base and to new customers. Continuing investments in research and development are critical to maintaining our technological advantage.

• Transform from a single-product to platform company - We have introduced enhancements to our product capabilities in order to address our customers' size and application requirements. We have also introduced new products to extend our market and utilize our technology platform to extend our capabilities.


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• Extend our technology partner ecosystem - We work with a broad and diverse ecosystem of partners to extend the value of our platform and deliver a range of implementation, integration and value added services. We have enhanced our product capabilities via integration of and interoperability with partner technologies.

• Increase market awareness - To generate increased demand for our products, we will continue to market the effectiveness of our comprehensive IT performance solutions.

• Scale our sales force and distribution channels - We sell our products directly through our sales force and indirectly through channel partners. We intend to leverage, innovate and grow our sales force and our indirect channels to extend our geographic reach and market penetration.

• Enhance and extend our support and services capabilities - On an ongoing basis, we plan to enhance and extend our support and services capabilities to continue to support our growing global customer base. For example, we host Splash, a new feature-rich community site for customers.

Major Trends Affecting Our Financial Results Company Outlook
We believe that our current value proposition, which enables customers to improve the performance of their applications and access to their data across WANs by integrating performance acceleration and performance management solutions, while also offering the ability to simplify IT infrastructure and realize significant capital and operating cost savings, should allow us to continue to grow our business. Our product revenue growth rate will depend significantly on continued growth in the WAN optimization, storage delivery, performance management and control, and ADC markets, our ability to continue to attract new customers in those markets and our ability to generate additional sales from existing customers. Our growth in support and services revenue is dependent upon increasing the number of products under support contracts, which is dependent on both growing our installed base of customers and renewing existing support contracts. Our future profitability and rate of growth will be directly affected by the continued acceptance of our products in the marketplace, as well as the timing and size of orders, product mix, average selling prices and costs of our products and general economic conditions. Our ability to achieve profitability in the future will also be affected by the extent to which we must incur additional expenses to expand our sales, support, marketing, development, and general and administrative capabilities to grow our business. The largest component of our expenses is typically personnel costs. Personnel costs consist of salaries, benefits and incentive compensation for our employees, including commissions for sales personnel and stock-based compensation.
Revenue
Our revenue has grown rapidly since we began shipping products in May 2004, increasing from $2.6 million in 2004 to $1.0 billion in 2013. Revenue grew by 6% in the three months ended June 30, 2014 to $264.0 million from $249.9 million in the three months ended June 30, 2013. Revenue grew by 7% in the six months ended June 30, 2014 to $529.4 million from $496.0 million in the six months ended June 30, 2013. We believe that our revenue growth is a positive sign that our products, support and services have a significant value proposition to our customers and that the markets that we compete in are still expanding. Costs and Expenses
Operating expenses consist of sales and marketing, research and development, general and administrative expenses, and acquisition-related costs. Personnel-related costs, including stock-based compensation, are the most significant components of each of these expense categories. The timing and number of additional hires has and could materially affect our operating expenses, both in dollar amount and as a percentage of revenue, in any particular period.
Stock-based Compensation Expense
Stock-based compensation expense and related payroll taxes were $22.8 million and $26.6 million in the three months ended June 30, 2014 and 2013, respectively, and $44.8 million and $51.5 million in the six months ended June 30, 2014 and 2013, respectively. We expect to incur increasing stock-based compensation expense as we expect stock-based compensation to continue to play an important part in the overall compensation structure for our employees. Seasonality
Our operating results may be affected by seasonal buying patterns. Historically, we have experienced a stronger seasonal revenue cycle in the fourth fiscal quarter and lowest in our first fiscal quarter.


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Critical Accounting Policies and Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (GAAP). These accounting principles require us to make certain estimates and judgments that can affect the reported amounts of assets and liabilities as of the date of the condensed consolidated financial statements, as well as the reported amounts of revenue and expenses during the periods presented. We believe that the estimates and judgments that we make and upon which we rely are reasonable based upon information available to us at the time that these estimates and judgments are made. To the extent there are material differences between these estimates and actual results, our condensed consolidated financial statements could be adversely affected.
The accounting policies that reflect our more significant estimates, judgments and assumptions and which we believe are the most critical to aid in fully understanding and evaluating our reported financial results include the following: revenue recognition, accounting for business combinations, stock-based compensation, accounting for income taxes, and inventory valuation. Please refer to Management's Discussion and Analysis of Financial Condition and Results of Operations contained in Part II, Item 7 of our Annual Report on Form 10-K for our year ended December 31, 2013 for a more complete discussion of our critical accounting policies and estimates including revenue recognition, accounting for business combinations including the fair value measurement of contingent consideration, goodwill, intangible assets and impairment assessments, stock-based compensation, accounting for income taxes, and inventory valuation. Our critical accounting policies have been discussed with the Audit Committee of the Board of Directors. We believe there have been no material changes to our critical accounting policies and estimates during the three and six months ended June 30, 2014, compared to those discussed in our Form 10-K for the year ended December 31, 2013.


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Results of Operations
Revenue
We derive our revenue from sales of our appliances and software licenses and from support and services. Product revenue primarily consists of revenue from sales of our Application Acceleration and Performance Management products and is typically recognized upon delivery. Support revenue provides customers the right to receive unspecified software product upgrades, maintenance releases issued when-and-if-available during the support period, hardware repair, and access to technical support personnel. Support revenue is recognized ratably over the contractual period, which is typically one to three years. Service revenue includes professional services and training and is recognized as the services are performed.

                                     Three months ended           Six months ended
                                          June 30,                    June 30,
(in thousands)                       2014          2013          2014          2013
Total Revenue                     $ 264,026     $ 249,910     $ 529,442     $ 496,049
Total Revenue by Type:
Product                           $ 144,914     $ 143,483     $ 295,075     $ 291,523
Support and services              $ 119,112     $ 106,427     $ 234,367     $ 204,526
% Revenue by Type:
Product                                  55 %          57 %          56 %          59 %
Support and services                     45 %          43 %          44 %          41 %
Total Revenue by Geography:
United States                     $ 145,223     $ 147,371     $ 298,184     $ 297,968
Other Americas                    $   9,521     $   9,479     $  17,378     $  17,024
Americas                          $ 154,744     $ 156,850     $ 315,562     $ 314,992
Europe, Middle East and Africa    $  69,421     $  59,397     $ 138,451     $ 117,231
Asia Pacific                      $  39,861     $  33,663     $  75,429     $  63,826
% Revenue by Geography:
United States                            55 %          59 %          56 %          60 %
Other Americas                            4 %           4 %           4 %           3 %
Americas                                 59 %          63 %          60 %          63 %
Europe, Middle East and Africa           26 %          24 %          26 %          24 %
Asia Pacific                             15 %          13 %          14 %          13 %
Total Revenue by Product Line:
Application Acceleration          $ 205,037     $ 196,506     $ 409,493     $ 381,468
Performance Management            $  58,989     $  53,404     $ 119,949     $ 114,581
% Revenue by Product Line:
Application Acceleration                 78 %          79 %          77 %          77 %
Performance Management                   22 %          21 %          23 %          23 %
Total Revenue by Sales Channel:
Direct                            $  22,519     $  42,988     $  53,918     $  91,957
Indirect                          $ 241,507     $ 206,922     $ 475,524     $ 404,092
% Revenue by Sales Channel:
Direct                                    9 %          17 %          10 %          19 %
Indirect                                 91 %          83 %          90 %          81 %

Quarter Ended June 30, 2014 Compared to the Quarter Ended June 30, 2013: Total revenue increased by 5.6% in the three months ended June 30, 2014 as compared to the prior year period.


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Product revenue increased by 1.0% in the three months ended June 30, 2014, as compared to the three months ended June 30, 2013. As of June 30, 2014, our products have been sold to over 25,000 customers, compared to over 23,000 customers as of June 30, 2013.
Substantially all of our customers purchase support when they purchase our products. Support and services revenue increased 11.9% in the three months ended June 30, 2014, as compared to the same period in the prior year due primarily to growth in our customer base and revenue from OPNET support contract renewals. Support and services revenue as a percentage of total revenues increased over the prior year due primarily to growth in our customer base. As our customer base grows, we expect our revenue generated from support and services to increase.
In the three months ended June 30, 2014, we derived 91% of our revenue from indirect channels compared to 83% for the three months ended June 30, 2013. The increase in revenue from indirect channels is primarily due to the conversion of the customers acquired from OPNET to relationships with our channel partners. We expect indirect channel revenue to continue to represent a substantial majority of our revenue.
We generated 45% of our revenue in the three months ended June 30, 2014 from international locations, compared to 41% in the three months ended June 30, 2013. The increase in international revenue as a percent of total revenue was due primarily to a higher proportion of European-based sales. We continue to expand into international locations and introduce our products in new markets and expect international revenue to increase in dollar amount over time. Six months ended June 30, 2014 Compared to the Six months ended June 30, 2013:
Revenue increased by 6.7% in the six months ended June 30, 2014 as compared to the prior year period.
Product revenue increased by 1.2% in the six months ended June 30, 2014, as compared to the six months ended June 30, 2013.
Support and services revenue increased 14.6% in the six months ended June 30, 2014, and as a percentage of total revenues as compared to the same period in the prior year due primarily to growth in our customer base and revenue from OPNET support contract renewals.
In the six months ended June 30, 2014, we derived 90% of our revenue from indirect channels compared to 81% for the six months ended June 30, 2013. The increase in revenue from indirect channels is primarily due to the conversion of the customers acquired from OPNET to relationships with our channel partners. We generated 44% of our revenue in the six months ended June 30, 2014 from international locations, compared to 40% in the six months ended June 30, 2013. The increase in international revenue as a percent of total revenue was due primarily to a higher proportion of European-based sales.

Cost of Revenue and Gross Margin
Cost of product revenue consists of the costs of the appliance hardware, personnel costs of manufacturing management, manufacturing, shipping and logistics costs, expenses for inventory obsolescence, warranty obligations, and amortization of acquisition-related intangibles. We utilize third parties to assist in the design and manufacture of our appliance hardware, embed our proprietary software on our appliance hardware and perform shipping logistics. Cost of support and service revenue consists of personnel costs of technical support and professional services personnel, spare parts, and logistics services. As we expand internationally and into other sectors, we may incur additional costs to conform our products to comply with local laws or local product specifications. In addition, as we expand internationally, we will continue to hire additional technical support personnel to support our growing international customer base.
Our gross margin has been and will continue to be affected by a variety of factors, including the mix and average selling prices of our products, new product introductions and enhancements, the cost of our appliance hardware, expenses for inventory obsolescence and warranty obligations, cost of support and services personnel, and the mix of distribution channels through which our products are sold.


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                                           Three months ended           Six months ended
                                                June 30,                    June 30,
(in thousands)                             2014          2013          2014          2013
Cost of revenue:
Cost of product                         $  36,388     $  40,463        74,669        81,363
Cost of support and services               32,633        29,893        64,264        57,935
Total cost of revenue                   $  69,021     $  70,356       138,933       139,298

Gross profit:                           $ 195,005     $ 179,554     $ 390,509     $ 356,751

Gross margin for product:                      75 %          72 %          75 %          72 %
Gross margin for support and services          73 %          72 %          73 %          72 %
Total gross margin                             74 %          72 %          74 %          72 %

Quarter Ended June 30, 2014 Compared to the Quarter Ended June 30, 2013: The total cost of product revenue decreased $4.1 million, or 10.1%, in the three months ended June 30, 2014 compared to the three months ended June 30, 2013, due primarily to a decrease in direct product costs of $0.9 million and a decrease in the amortization of certain acquisition-related intangible assets of $1.3 million.
Cost of support and services revenue increased $2.7 million, or 9.2%, due primarily to increased logistics and spare parts costs and higher headcount and payroll related costs to support the installed base growth.
Gross margin increased to 74% in the three months ended June 30, 2014 as compared to 72% in the three months ended June 30, 2013. Product gross margin increased to 75% in the three months ended June 30, 2014 from 72% in the three months ended June 30, 2013 primarily as a result of a decrease in amortization of the acquisition-related intangible assets. Gross margins for support and services increased to 73% in the three months ended June 30, 2014 from 72% in the three months ended June 30, 2013. Gross margin for support and services was positively impacted by the growth in support revenue due to an increased installed base. Additionally, the gross margin in the second quarter of 2013 was impacted by the reduction to service revenue related to the fair value adjustment to the deferred support revenue as required by the business combination accounting for the OPNET acquisition.
Six months ended June 30, 2014 Compared to the Six months ended June 30, 2013:
The total cost of product revenue decreased $6.7 million, or 8.2%, in the six months ended June 30, 2014 compared to the six months ended June 30, 2013, due primarily to a decrease in direct product costs of $1.4 million, a decrease in the amortization of certain acquisition-related intangible assets of $2.1 million, and a decrease in the inventory fair value adjustment related to the acquisition of OPNET of $1.7 million.
Cost of support and services revenue increased $6.3 million, or 10.9%, due primarily to increased logistics and spare parts costs and higher headcount and payroll related costs to support the installed base growth.
Gross margin increased to 74% in the six months ended June 30, 2014 as compared to 72% in the six months ended June 30, 2013. Product gross margin increased to 75% in the six months ended June 30, 2014 from 72% in the six months ended June 30, 2013 primarily as a result of a decrease in amortization of the acquisition-related intangible assets and a decrease in the inventory fair value adjustment related to the acquisition of OPNET. Gross margins for support and services increased to 73% in the six months ended June 30, 2014 from 72% in the six months ended June 30, 2013. Gross margin for support and services was positively impacted by the growth in support revenue due to an increased installed base. Additionally, the gross margin in 2013 was impacted by the reduction to service revenue related to the fair value adjustment to the deferred support revenue as required by the business combination accounting for the OPNET acquisition.
Sales and Marketing Expenses
Sales and marketing expenses represent the largest component of our operating expenses and include personnel costs, sales commissions, marketing programs and facilities costs. Marketing programs are intended to generate revenue from new and existing customers, and are expensed as incurred. We plan to continue to make investments in sales and marketing with the intent to add new customers and increase penetration within our existing customer base by further leveraging sales personnel worldwide, expanding our domestic and international sales and marketing activities, increasing channel penetration, building brand awareness and sponsoring additional marketing events. We expect future sales and marketing expenses to increase and continue to be our most significant operating expense. Generally, sales personnel are not immediately productive and sales and


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marketing expenses do not immediately result in increased revenue. Hiring additional sales personnel reduces short-term operating margin until the sales personnel become productive and generate revenue. Accordingly, the timing of sales personnel hiring and the rate at which they become productive will affect our future performance.

                                  Three months ended           Six months ended
                                       June 30,                    June 30,
($ in thousands)                  2014          2013          2014          2013
Sales and marketing expenses   $ 110,690     $ 113,373     $ 225,435     $ 229,094
Percent of total revenue              42 %          45 %          43 %          46 %

Quarter Ended June 30, 2014 Compared to the Quarter Ended June 30, 2013: Sales and marketing expenses decreased by $2.7 million, or 2.4%, in the three months ended June 30, 2014 compared to the three months ended June 30, 2013, primarily due to decreases in amortization of the intangibles acquired in the OPNET acquisition of $3.2 million and decreases in marketing-related programs and travel of $0.3 million, offset by increases in information technology and facilities costs of $0.8 million.
Six months ended June 30, 2014 Compared to the Six months ended June 30, 2013:
Sales and marketing expenses decreased by $3.7 million, or 1.6%, in the six months ended June 30, 2014 compared to the six months ended June 30, 2013, primarily due to decreases in amortization of the intangibles acquired in the OPNET acquisition of $6.7 million and decreases in personnel-related costs of $0.7 million, offset by increases in information technology and facilities costs of $3.7 million.
Research and Development Expenses
Research and development (R&D) expenses primarily include personnel costs and facilities costs. We expense R&D costs as incurred. We are devoting substantial resources to the continued development of additional functionality for existing products and the development of new products. We intend to continue to invest significantly in our R&D efforts because we believe they are essential to maintaining our competitive position.

                                       Three months ended          Six months ended
                                            June 30,                   June 30,
($ in thousands)                       2014          2013         2014          2013
Research and development expenses   $  51,298     $ 51,018     $ 101,945     $ 99,979
Percent of total revenue                   19 %         20 %          19 %         20 %
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