Bottom Line: Great technology, increasing competition, not cheap. Overall neutral, but would consider it if the market gives me lower levels. Probably would not be selling if I already owned it.
Details: I generally comment mostly on companies that I have had direct contact with, but Cody asked me to look at F5 (NasdaqNM:FFIV) a while back, so I thought I'd have a quick peek and see what's there.
F5 is in the business of Application Traffic Management, which is a relatively new piece of the networking world. The general idea is that you can use their products to direct and prioritize the traffic through your network depending on your business needs. For example, you might give the highest priority to two-way, real-time applications like VOIP, lower priority to a real-time, but one-way business intelligence application, and lowest priority to something that has inherent delays anyway like email.
It gets more complex than that, of course. You may have a large corporate application that runs on multiple machines in multiple locations. The ATM product could help to balance the overall load on your various servers as well as the network pipes connecting users to them. And it would adjust things in real time to keep things running as efficiently as possible.
This is important stuff, and it grows more important by the day, because networked applications like VOIP depend on an efficient network to work well. A VOIP system running over an overloaded, unbalanced or inefficient network will sound a lot like the early digital cellphones: dropped words, phrases, sudden delays and a general "jerkiness" to the sound that makes it bad news for you and your customers. And VOIP is only one of the many real-time and bidirectional applications coming along right now.
F5 is an innovator in this business and claims as much as 44.1% market share in their own (somewhat self-defined) niche, with nearly 12% of the overall L4-7 switch segment. I have not used the product nor seen it working, but the information available on their website is compelling.
More than a year ago, I was looking at Cicso's (NasdaqNM:CSCO) solutions to these problems, and was not impressed. For the company that I was then working with, they were recommending that despite a very robust network, a VOIP solution would do better with a completely separate subnet, in order to ensure that the VOIP trafffic was not interfered with. I was not happy with that solution as it would have been far more expensive than being able to deploy VOIP terminals from our existing desktop connections. Today, it appears that Cisco's offering has improved, but the specs and literature from F5 still appear to be more compelling.
F5 has expanded somewhat beyond the ATM business and are also now into security appliances, firewalls and other related businesses. They have gotten there with a series of targeted acquisitions that mostly appear to make sense and to have been done at decent valuations. Here, their products are competitive with others in the industry.
At 40x current earnings, 8x sales and 30x next year's best guess earnings, FFIV is not cheap. However, this is a growing market (the CEO -- who should always be taken with a grain of salt -- claimed the market for it's products could hit $5b in the forseeable future, and it is currently only a fraction of that). Also they appear to be the only pure play on this market segment.
The major downside for these guys, as well as for every single networking or networked-device company out there is competition and consolidation. A list of the competitors taken from their most recent 10K tells the story: Cisco Systems, Inc., Nortel Networks Corporation, Foundry Networks, Inc., NetScaler, Inc., Redline Networks, Inc., Radware Ltd. and Juniper Networks, Inc. [note: Redline have been acquired by Juniper (NasdaqNM:JNPR) and Netscaler has been acquired by Citrix (NasdaqNM:CTRX). In addition, Cisco has acquired FineGround Networks, which also competes in this area.] Some of these companies are similar in size or smaller. A couple of them are much, much bigger. It can be really tough for a smaller player to gain traction in markets dominated by other equipment makers whose older products are already in use by, and whose salesforce already is connected to, many of your target clients.
So F5 are in a tough competitive situation, from my perspective. Putting on my (former) hat as the guy making equipment decisions for a company, it was always easier to go with the company that we already had in house -- in that case, Cisco -- than to try to integrate somebody else's product, even when the other product was better. A year and a half ago I didn't really like what Cisco was selling, but from the literature I've seen, I have to guess that today the decision would be easy.
To justify their current valuation, F5 have to stay ahead of the big guys, hang on to a good chunk of their existing market share, and do so in an environment where their target market is growing big enough to attract a lot of attention.
A flip side to this is that F5 could become an attractive acquisition for somebody who wants to add their capabilities. Nortel (NYSE:NT) have not made an acquisition in this area yet.
Analysts are mixed. The most recent report I've seen, from Piper Jaffray expects FFIV to continue its growth into the June quarter when it reports on July 20.
The stock's been choppy, rallying from the April lows, falling off sharply after the June conference call and the resignation of the CFO, and since bouncing back.
Personally, I'm fairly neutral on this one at this point. Earnings could hit this one in either direction or not at all, and I tend to avoid trades where I don't feel much of an edge. I would be interested in this one as a somewhat speculative longer-term buy, at somewhat lower levels. As my personal belief is that the markets will remain choppy regardless of overall direction, I would be waiting for a a more significant downturn to buy.
