The operator welcomes listeners to the F5, Inc. Fourth Quarter Fiscal 2023 Financial Results Conference Call and introduces the speakers. The call will be recorded and a replay will be available on the company's website. The speakers will be discussing forward-looking statements and non-GAAP metrics, and a summary of factors that may affect the company's results can be found in the press release and SEC filings.

F5 had a solid Q4 and fiscal year 2023, with revenue near the high end of guidance and strong growth in global services and software. The company adjusted to environmental challenges and improved operating margins, resulting in 15% EPS growth. They also returned a significant portion of annual free-cash flow to shareholders through share repurchases.

In the third quarter, F5 saw strong performance in subscription renewals, with 29% of new customers for their Distributed Cloud SaaS offerings. They also successfully displaced a traditional competitor in both software and hardware. Operating margins improved and they are cautiously optimistic about the demand from enterprise customers in the coming year. They expect continued growth in applications and APIs, but also anticipate customer spending caution. Additionally, they predict a tipping point where customers will reinvest in their application infrastructure in FY '24. They also consider a revenue headwind and expect flat to modest software revenue growth due to various factors.

F5 expects positive trends in their SaaS and managed services offerings, but this will be offset by transitions. They anticipate flat to low-single-digit revenue growth in FY '24, with a return to mid-single-digit growth in FY '25. However, they are committed to driving strong profitability and managing their operating model with discipline. F5 is uniquely positioned to deliver, secure, and optimize any app or API, with solutions for both modern and legacy apps. Their combination of deployable software and hardware, as well as SaaS and managed service offerings, allows them to serve every app and API across all environments. They aim to make it easier for customers to secure and deliver their apps in all infrastructure environments through further integration and convergence of their solutions.

The converged portfolio of F5 is gaining traction with customers as they are able to deploy solutions for their multi cloud journey. The BIG-IP family is successful in serving traditional applications and is winning against competitors. The value proposition of next generation platforms is resonating with customers, with rSeries and VELOS platforms representing majority of Q4 systems bookings. In one example, F5 displaced a competitor for a North American healthcare customer due to their advanced application delivery capabilities and partnership with their healthcare records platform. F5 NGINX had a strong Q4, with large enterprises adopting it for their cloud and Kubernetes workloads. Customers are also using NGINX for app layer security for containers.

F5 has invested in building their F5 Distributed Cloud Services, which includes SaaS and managed services. They are excited about the future growth potential in web app and API protection (WAAP) and secure multi-cloud networking (secure MCN). One example of a WAAP win is with a banking customer in EMEA who needed a more comprehensive solution for web application firewall, API protection, bot defense, and Layer 7 DDoS protection. F5 was able to demonstrate the superiority of their offering against multiple competitors. They also had a Q4 win with a large retailer in Latin America for their secure multi-cloud networking solution, which will help the customer manage their expanding body of cloud native applications and migrate their existing virtual machines and on-premises appliances to the cloud.

During the fourth quarter, F5 secured a win with a financial services provider in APAC. The customer needed help with managing traffic growth and stopping automated attacks, and F5's combination of BIG-IP and Distributed Cloud Bot Defense won out in a competitive bid. This showcases how F5 is helping customers in a complex hybrid multi-cloud world. In terms of financial results, F5 saw 1% growth in revenue, with strong growth in global services and a decline in product revenue. Systems revenue declined due to lower backlog shipments, while software revenue reached a new high of $191 million.

In the fourth quarter, the company's subscription-based revenue grew by 27% to $166 million, representing 87% of total software revenue. Recurring revenue, including subscription-based revenue and maintenance services, contributed 76% of total revenue. The company saw growth in EMEA and APAC regions, and enterprise customers accounted for 72% of product bookings. The company's operating results were strong, with improved gross margin and operating margin. The GAAP net income for the quarter was $152 million, while the non-GAAP net income was $209 million, exceeding the top end of the company's guidance range.

In summary, the company has seen improvements in gross margin and operating expenses, leading to a positive impact on cash flow and the balance sheet. They generated $190 million in cash flow from operations in Q4 and have a strong cash and investment balance. Deferred revenue has also increased, and the company has been successful in meeting their share repurchase commitments. For the year, revenue grew by 4%, with global services revenue representing the majority. While software revenue was initially expected to grow by 15-20%, it remained flat due to delays in large projects. The company has provided additional details on their SaaS and managed service transitions.

In FY '23, the company began transitioning to a SaaS and managed service model, which may cause short-term revenue fluctuations. They expect to return to mid-single-digit revenue growth in FY '25. In FY '23, term subscriptions brought in $353 million in software revenue, with the majority being recognized upfront. Renewals and true forward/expansion revenue showed strong growth, indicating that customers are satisfied with the value they are receiving and the company's renewal process is effective.

In FY '23, the second component of software revenue, SaaS and managed services, contributed $203 million, up 2% year-over-year. This includes F5 Distributed Cloud SaaS offerings, managed services, and legacy SaaS offerings. SaaS and managed service sales are recognized over the term of the subscription. At the end of FY '23, SaaS and managed services ARR was $198 million, down 2% year-over-year due to several factors including customer spending caution and customer migrations. The third component of software revenue, perpetual licenses, contributed $108 million, down from the previous year. 71% of total revenue was recurring, and total security revenue was approximately $1.1 billion or 40% of total revenue. Standalone security product revenue grew 5% to approximately $475 million.

In the fiscal year 2023, the company saw good growth in their lower-end anti-bot offering and returned to normal levels of product backlog. Despite facing supply chain challenges, the company was able to maintain a GAAP gross margin of 78.9% and a non-GAAP gross margin of 81.5%. The GAAP operating margin was 16.8% and the non-GAAP operating margin was 30.2%, showing an increase from the previous year due to cost reductions. The company expects customer spending caution to continue in the fiscal year 2024, but also anticipates reinvestment from customers at some point during the year. They also expect their global services revenue to return to low-single-digit growth.

F5 Networks expects to continue taking share in the traditional ADC space with BIG-IP, and anticipates revenue growth from term subscription renewals and F5 Distributed Cloud SaaS offerings. However, there will be planned revenue churn due to transitions to SaaS and managed services, which is expected to be completed by FY '25. This will result in a $65 million decrease in ARR in FY '23. As a result, FY '24 revenue is expected to be flat to down low-single-digits from FY '23, excluding a $180 million headwind from backlog reduction. The company remains committed to driving strong profitability and expects gross margin to improve in FY '24, with operating expenses in line with 2018 levels.

In fiscal year 2024, the company expects a 21-23% effective tax rate and 5-7% non-GAAP earnings growth. They plan to use at least 50% of their annual free cash flow for share repurchases and expect mid-single-digit revenue growth in fiscal year 2025. The company prioritizes profitability and plans to use at least 50% of their annual free cash flow for share repurchases. In the first quarter of fiscal year 2024, they expect revenue of $675-695 million, gross margins of 82-83%, and operating expenses of $332-344 million. They also mention their belief in the growth of AI and its impact on their business.

The company predicts that AI inference will become more distributed and will require security and traffic management. They believe they are uniquely positioned to secure AI workloads and simplify deployment and management for customers. They are encouraged by early signs of stability and their converging portfolio's reception with customers. They have a large customer base and see potential for SaaS growth in the future. Their long-term operating model includes delivering sustained revenue growth and focusing on their high-margin global services business.

The company plans to drive non-GAAP operating margin expansion through gross margin improvement and operating discipline. They also aim to return cash to shareholders through share repurchases using at least 50% of annual free-cash-flow. During the question-and-answer session, the company revealed that the headwinds from their business transition on the managed services side are around $65 million, with more than half of that coming from a legacy managed services platform that will be retired and customers will be migrated to Distributed Cloud. The remaining amount comes from offerings that will be completely retired due to underperformance.

The company has decided to retire certain offerings in order to focus on more successful products and improve efficiency. The CFO mentions encouraging signs from enterprise customers in the September quarter, with North America being more stable than Asia and Europe. The enterprise market is showing more stabilization, while the service provider market remains soft due to asset sweating and slower 4G to 5G transition. However, there has been a rebound in hardware orders from enterprise customers in the fourth quarter.

In Q4, some customers who received their hardware were able to start ordering again, which was encouraging. In the long term, the company still expects growth in software to be over 20%, while systems may experience slight declines. For FY '24 and '25, the company expects flat to modest growth in software, with the potential for some growth in term subscriptions. Revenue growth is not expected in perpetual or SaaS and managed services due to ongoing transitions, but there is strong visibility in renewals and expansion in the term subscription business.

The speaker discusses the strong expansion and expected growth in software in 2025, driven by term subscriptions. They also mention that the normalization of component costs has largely been achieved, but there may still be some impact in FY '24. In terms of the outlook for fiscal '25, they mention mid-single-digit growth and potential increase in demand for systems and AI-related software.

The hardware business is expected to decline slightly over time, but there are signs of a rebound in 2024. In the long term, AI workloads are likely to be supported by the software business, and F5's distributed cloud capabilities make it uniquely positioned to run AI inferences in any environment.

The speaker discusses the potential growth of their software business and the recent green shoots in enterprise spending. They mention a possible budget flush at the end of the year, but state that they do not have visibility into next year's budgets. They have a strong hardware pipeline and have seen positive close rates in the previous quarter, but remain cautious due to uncertainty in the macro environment. Some customers are still delaying deals and scrutinizing budgets.

The speaker discusses the company's cautious outlook for the year and addresses questions about the pipeline and potential growth in multi-cloud projects. They mention that the hardware pipeline is strong due to customers sweating their assets and deploying capacity. However, there has not yet been a substantial resumption of transformational software projects, as customers are still cautious.

The company's outlook for the year remains consistent with previous patterns, with a focus on productizing AI capabilities and promoting them to customers. The majority of the expected software growth is coming from renewals and trueforwards of term subscription agreements. The company has taken into account the lack of transformational projects in their guidance. An analyst asks about the visibility into the term business and the company's outlook for software.

In response to a question about the potential for double-digit software revenue growth in fiscal years 2024 and 2025, Frank Pelzer discusses the positive impact of term subscriptions and expansions on revenue. He also mentions a migration from Silverline to DCS, which has been a headwind for ARR in fiscal year 2023 and will continue to be a challenge in fiscal years 2024 and 2025. Pelzer notes that the company is seeing strong utilization from its deployed flexible consumption programs and is confident in the outlook for software revenue in the coming years.

In the paragraph, Francois Locoh-Donou discusses the company's high visibility revenue streams and the reasons for the flat to slightly down ARR in FY '22 to FY '23. This was due to transitions and budget scrutiny from customers. However, they expect the $65 million of revenue stream to work itself out over the next couple of years. They are excited about the traction of their SaaS offerings, particularly the WAF offering, which has won over 500 enterprise customers in the past 18 months.

In a recent earnings call, F5 Networks discussed their rapid growth in the multi-cloud networking market and their expectation for it to become the majority of their SaaS and managed services portfolio. They also mentioned replacing competitors in the ADC market and their transition to a more modern platform for their managed services offering. This change is not due to lack of synergy, but rather to provide a more advanced architecture for their customers.

The company's plan to transition to a new platform and retire certain revenue streams is on track for 2023. The decision to retire these revenue streams was due to market conditions and a focus on more profitable investments. However, there are synergies between the different products in the company's portfolio, particularly in terms of security capabilities, which are expected to accelerate in the coming years.

The company has been investing in the future of their ADC franchise, which has resulted in gaining market share and displacing traditional competitors. They expect this trend to continue with the introduction of a new software platform. The company is also making changes to their software portfolio to simplify and converge solutions, with a focus on accelerating adoption and capturing potential churn. The priorities for Distributed Cloud next year will be to continue this trend.

The main goal of the company is to make it easy for customers to secure and deliver their applications, and the Distributed Cloud service is gaining popularity for doing just that. The priorities for next year include scaling the platform and adding more services. The company is targeting existing F5 customers as well as new ones, with a focus on large enterprise customers. The company is also focused on increasing operating margins and EPS growth.

The speaker is discussing the projected cash flow margins for fiscal year 2024, stating that it is difficult to predict, but should grow in line with operating income, excluding some tax and restructuring expenses. They also mention that subscription renewals are performing well, particularly for their BIG-IP software and NGINX products, but there is a headwind of $65 million in the SaaS and MSP business. The speaker is asked about net retention rates, but does not provide a specific answer.

The speaker discusses the difficulty of converting a term into an ARR business due to the many moving parts involved. However, the company has been successful in doing so and has seen an expansion rate and net revenue retention rate higher than the industry norm. They have a strong go-to-market strategy in place and do not anticipate major changes in the incentive plans for the upcoming year. They also mention that the systems business is stabilizing at a level of $120-130 million per quarter and the impact of the Silverline exit on software will likely be gradual throughout the year.

Frank Pelzer and Francois discussed the company's bookings and demand for systems in FY '23. They believe they hit a trough in bookings in FY '23, but saw an increase in utilization in Q4. They expect fluctuations in bookings, with potential improvement in the enterprise side but hesitation from service providers. The federal government shutdown may also impact bookings in Q1. The company expects a four to six-quarter long process to return to higher levels of bookings.

The speaker explains that their company's revenue will be lower due to a $180 million headwind, but their bookings will improve. They also mention that the impact of Silverline will be spread out over the next couple of years and will be seen during customer renewals or migrations. The impact will be seen over the next six to eight quarters. The operator then concludes the call.

This summary was generated with AI and may contain some inaccuracies.