The F5, Inc. Second Quarter Fiscal 2024 Financial Results Conference Call is beginning, with the operator introducing the speakers and explaining the format of the call. The call will be recorded and archived on the company's website. The speakers will make prepared remarks and other members of the executive team will be available for questions. The call will contain forward-looking statements and non-GAAP metrics will be referenced.

In the second paragraph, the speaker, Francois Locoh-Donou, discusses the highlights of the company's Q2 results and their expectations for Q3. He mentions that despite cautious customers and flat IT budgets, they delivered solid results with strong software subscription renewals and a 15% growth in non-GAAP earnings per share. He also mentions their commitment to operating discipline and raising their non-GAAP EPS outlook for FY '24. He then talks about the challenges faced by IT teams in managing the hybrid multi-cloud environment and how F5's solutions address these challenges. He also highlights some notable customer wins from Q2.

The increasing complexity and cost of managing applications across multiple environments is creating challenges for organizations, with 88% currently operating across a combination of on-premises and cloud environments. The use of modern applications and the adoption of AI will further intensify these challenges. F5's distributed app security and delivery platform aims to mitigate these challenges and support the demands of today's hybrid multi-cloud application infrastructures.

F5 is the only solution provider that offers comprehensive app and API security, simplifies hybrid multi-cloud environments, and streamlines operations with consistent policies, automation, and analytics. This allows customers to consolidate solutions, simplify IT operations, and reduce costs.

F5's unique position and capabilities allow them to provide solutions for customers' real-world use cases. This includes their application security capabilities, specifically in API security. F5 offers a comprehensive and AI-ready solution that goes beyond API discovery and provides complete visibility and management through a single pane of glass. In Q2, a large multinational company with a high volume of financial transactions required F5's solution to mitigate API and web application attacks on their digital wallet solution.

In Q2, F5's Distributed Cloud Services were utilized by a multinational beverage company for advanced bot mitigation, resulting in millions of dollars saved in fraud. Another customer, an energy company in APAC, chose F5's hardware and cloud services to simplify their hybrid multi-cloud infrastructure. Additionally, an American auto insurance provider selected F5's Distributed Cloud Services for automation and increased business velocity. These examples demonstrate F5's success in providing security, simplifying infrastructure, and streamlining operations for its customers.

The customer's multi-cloud infrastructure led to issues such as tool fragmentation, inefficient deployment, inconsistent security, and lack of manageability and visibility. After evaluating various solutions, they chose F5's platform approach for automation, improved security, and faster response times. Another example of F5's success is a multinational bank and financial services company that expanded their F5 BIG-IP usage and saw a 2x increase in spend. F5 is also innovating to target and capture emerging AI opportunities, as AI will accelerate the growth of applications and APIs. F5 is working with customers on API security, as it is crucial for AI security.

In the paragraph, the speaker discusses the need for a solution to automatically discover and secure APIs, as well as challenges related to secure multi-cloud networking and high-speed data ingestion in the context of AI adoption. They also mention F5's comprehensive AI-ready API security solution and their role in partnering with customers to address these challenges. The speaker then turns to discussing the company's Q2 results, which saw a 3% decrease in sales and a 5% increase in global services revenue. They also provide an outlook for Q3 and FY '24.

In the second quarter, the company's product revenue decreased by 12% due to a lower level of backlog related systems shipments compared to the previous year. However, software revenue increased by 20% with subscription-based revenue contributing the majority. Recurring revenue, including subscriptions and maintenance, accounted for 75% of the quarter's revenue. The Americas region saw growth, while EMEA and APAC declined. Enterprise customers were the main source of product bookings, followed by government and service providers. The company's operating results reflected seasonal patterns and operating discipline, with an improvement in gross margin. Operating expenses increased due to payroll tax resets and costs related to events. The company's GAAP operating margin was 20.5%.

F5's non-GAAP operating margin was 30.9%, a 370 basis point improvement from the previous year. Their GAAP effective tax rate was 18.4% and their non-GAAP effective tax rate was 20%. Cash flow and balance sheet remained strong with $222 million in cash flow from operations and $910 million in cash and investments. Deferred revenue was $1.81 billion, up 1% from the previous year. They also repurchased $100 million worth of shares in Q2 and have used 68% of their free cash flow for share repurchases so far this year. They expect Q3 revenue to be between $675 million to $695 million and non-GAAP EPS to be between $2.89 to $3.01 per share. They also expect share-based compensation expense of $55 million to $57 million.

F5 has good visibility and confidence in their subscription renewals for the second half of FY '24, leading them to expect a stronger second half compared to the first half. They do not anticipate a significant improvement in the macro environment and are maintaining their revenue, gross margin, and operating margin targets for FY '24. However, they are raising their non-GAAP EPS growth expectations. F5 is the only provider capable of securing, delivering, and optimizing any application or API regardless of its location, which is crucial in the current hybrid and multi-cloud reality. The broad adoption of AI will only add to the challenges faced by enterprises.

F5's three points of differentiation, including their best of breed app security, ability to simplify connecting disparate infrastructures, and ability to streamline operations through standardization and automation, set them apart from their competitors. These differentiators, combined with their role in application traffic, allow them to effectively support their customers' needs. During the Q&A session, Francois Locoh-Donou also discussed F5's competitive landscape and their plans for utilizing AI in high capacity load balancing for data ingestion in enterprise environments.

The need to ingest and send data to various environments is creating a demand for high capacity and low balancing, particularly among large enterprises that have invested in digital transformation. API security and networking applications across multiple clouds are also emerging as important capabilities for AI workloads. The competitive landscape in the traditional ADC space is seeing good traction and momentum has accelerated compared to last year.

The company has seen strong momentum in its software subscription revenue, with several examples of consolidating multiple capabilities and displacing competitors. This is particularly true for F5 Distributed Cloud Services, which offers a single platform for all application security needs. However, there has been a slight decline in perpetual software revenue, which may fluctuate quarter-to-quarter.

The company had a successful quarter due to large perpetual deals, but expects software revenue to decrease in the next quarter. They are seeing an increase in subscription revenue and expect it to continue to rise. The use of AI in enterprises is leading to multi-cloud implementations, with customers utilizing various environments for training, inference, and data storage. The company believes that the majority of their customers are now in hybrid and multi-cloud environments, with 40% using six or more cloud environments.

The speaker believes that the implementation of AI will lead to a growth in application usage, creating complexity for businesses. However, the company's platform can help simplify this process. They also expect a reacceleration in application growth, potentially due to the acquisition of Hashi and an increase in cloud usage. This could have a positive impact on the company's distribution through VAR channels.

The speaker discusses two potential implications of recent market developments for their company. One is the potential for increased security and networking requirements across clouds, which they see as a net positive. The other is the need for more automation, which they believe they can address with their solutions. They do not expect the recent acquisition of HashiCorp by IBM to have a significant impact on their business, and they plan to continue working with HashiCorp in the market. They do not anticipate any changes to their distribution approach or channel strategy. The speaker also mentions the current cautiousness of customers and flat IT budgets, but does not provide further details on this topic.

The speaker discusses the current macro environment and how it is affecting customer spending. They mention that there has been a decrease in unpredictability and deal delays, but customers remain cautious. There is no evidence that customers are prioritizing AI investments due to FX or budget prioritization. In terms of deals, there is a focus on sweating assets in the service provider space. The speaker also mentions that there is a mix of sales across the portfolio, with some customers focusing on ADCs while others are looking at multi-cloud or security elements.

The company is seeing more opportunities with existing customers for both ADC and other portions of the portfolio, particularly in multiyear subscription agreements. There is also an increase in deals for security, specifically in API security. Customers are also looking for ways to network their applications across clouds and are interested in the company's distributed cloud solutions. In terms of subscription software, there is a mix of term base and SaaS, and services growth is expected to be around 5% going forward. The company also periodically increases pricing on services.

Frank Pelzer discussed the components of the subscription business, specifically SaaS and ARR, and the company's excitement about the adoption of distributed cloud, WAF, API security, and multi-cloud networking. He noted that while AI is expected to have a significant impact on application demand in the coming years, it is not expected to contribute a significant amount of revenue in FY '24. The high end of the bot market is also facing challenges. Pelzer mentioned strong renewals in multiyear flexible consumption programs as well as the last time the company raised prices for services in July of '22. He stated that they continue to evaluate the best strategic use of price increases for customers and do not have any new updates at this time. The company has seen a decrease in services revenue due to price increases and spending of assets, with 7% in Q1 and 5% in Q2, and expects this trend to continue in Q3 and Q4.

In the paragraph, the speaker discusses the company's software growth and expectations for the rest of the year. They mention that the software growth in the first half of the year has exceeded expectations and they hope to continue this trend in the second half. They also mention their focus on solving the "ball of fire" problem for their customers, which they believe sets them apart from their competition.

The first aspect of solving the "ball of fire" problem is having a complete set of application services, which few companies have. F5 is unique in being able to offer all these services in any public cloud or on-premise location. This quarter, F5 helped a large bank in the U.S. connect applications to multiple clouds, and similar bank customers in Europe have also utilized F5's services.

The company successfully combined on-prem and cloud capabilities to win a customer and believes they have a unique advantage in the market. The CFO explains that the softer performance in the current quarter was on the system side, not the software side, and they expect stronger renewals in the second half of the year due to a strong pipeline and deals from three years ago. This accounts for the expected $40 million sequential ramp in fiscal Q4.

The company has seen strength in renewals and an increase in available products to renew in the fourth quarter. The duration of deals has remained consistent at three years. The cash flow dynamics are expected to continue to improve as renewals become a larger portion of the mix and product availability increases. The company has been working towards simplifying the management of hybrid multi-cloud environments.

The distributed cloud console announced at AppWorld has received a positive reaction from customers, with over 500 customers currently using it. Two-thirds of these customers are existing F5 customers who see it as a complement to their on-prem hardware or software, while the remaining one-third are new customers who have entered into hybrid or multi-cloud environments. F5 is working with these customers to help them do multi-cloud right, with consistent security policies and automated provisioning of application services.

The speaker discusses the positive response from customers about the ability to use distributed cloud, which reduces headaches and risks associated with manual operations and inconsistent security policies. The company is excited about the future and the potential for growth. The question is then asked about competition and how F5 displaces them, as well as how the company uses AI to address cyber attacks. The speaker explains that they already use AI to block attacks, including billions of API attacks in the current quarter.

The speaker discusses the increasing sophistication of attackers and their use of generative AI, and how the company is investing in security solutions to stay ahead. They also mention displacing competitors in the ADC market, both in hardware and software, due to their investments in new technology. Some deals involve both hardware and software for customers in hybrid multi-cloud environments.

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