Home / Networking / Under pressure from investor, F5 Networks walks a tightrope after spending $1.6B on acquisitions – GeekWire

Under pressure from investor, F5 Networks walks a tightrope after spending $1.6B on acquisitions – GeekWire

F5 Networks CEO François Locoh-Donou addresses analysts and investors on Wednesday, two weeks after activist investor Elliott Management that it had taken a stake in F5, pushing the company to take steps to boost its share price. (Image from F5 webcast)

Deep into the third hour of F5 Networks‘ analyst and investor meeting this week, CEO François Locoh-Donou spoke carefully as he addressed a question about the prospects for future acquisitions by the Seattle-based company.

F5’s top priority, he said, is to keep building and investing in its existing lineup of behind-the-scenes technologies for delivering and securing cloud-based software.

“There are a ton of exciting things that we’re doing in AI, in security, in modern applications, and even in traditional application delivery in multi-cloud that will continue to further this vision for adaptive applications,” Locoh-Donou said, referring to F5’s bet on a future in which software adapts “like a living organism.”

Then he delivered what might have been his most important message of the day. If the company does pursue additional acquisitions, he vowed, it would not make any deals that would reduce its profit margin targets, or force it to pull back from a commitment to repurchase $1 billion of its own shares over the next two years.

The backdrop for those comments went unstated, but it has been playing out for the past two weeks. F5’s financial outlook and underlying business have been in the spotlight since activist investor Elliott Management — known for pressuring EMC and others to put themselves up for sale in the past — took a stake in the company.

Citing unnamed people familiar with the matter, the Wall Street Journal broke the news about Elliott’s stake in F5 on Nov. 8, reporting that Elliott representatives had spoken to F5’s management about ways to boost its stock.

The Journal reported that “Elliott managers question the company’s recent acquisitions of Shape Security Inc. and Nginx Software Inc., suggesting it may have overpaid without a clear integration strategy.”

Dmitry Risukhin, director of F5 customer engagement, left, and Marius Marcu, senior product manager, give a presentation in the new F5 Tower last year. (GeekWire Photo / Kurt Schlosser)

That was a reference to two major acquisitions made by F5 over the past two years: a $670 million deal for Nginx, the company behind the widely used web and application server technology, announced in March 2019; and its $1 billion purchase of Shape Security, completed in January of this year.

F5 describes the acquisitions as key steps in a broader evolution beyond its traditional networking hardware business, moving further into software and services. However, those deals also contributed to a decline in operating profit margin, slipping to 30% as of the fourth quarter, from 36% previously.

F5 was founded in Seattle in 1996, and moved into an iconic downtown skyscraper last year. The company says it remains committed to its hometown, where it has grown from 1,200 people to more than 1,400 people in the past two years. Its total worldwide employee base has grown from 4,400 people to more than 6,100 employees over the same time frame.

Like many other enterprise technology companies, F5 has weathered the economic turmoil from the pandemic largely unscathed, benefitting from faster adoption of digital technologies by businesses.

However, the company is under growing pressure from investors to boost its profit margins. F5 was already seeking to save money by expanding its engineering operations further beyond Seattle to lower-cost locations, including an engineering center that opened two years ago in Hyderabad, India. F5 now has more than 500 people there, mostly engineers, developers and data analysts.

In a slide shown to investors this week, F5 sketched out the expected growth in its total addressable market, including business from its acquisitions of Shape Security and Nginx. (F5 Chart)

On Nov. 9, a day after the Wall Street Journal report, F5 issued a news release to “preview” its annual analyst and investor day, promising to boost that margin to as much as 34% over the next two years, while growing its software revenue to at least 50% of its overall product revenue, from 35% in its recently completed fiscal year. The company also committed to accelerating its share repurchases, a common tactic to boost earnings per share, often impacting share price.

Reached via email this week, an Elliott Management representative declined to comment on its F5 investment. The size of the firm’s investment in F5 hasn’t been disclosed, which means that it’s less than the 5% stake that would require disclosure to the Securities and Exchange Commission.

In an interview with GeekWire after his presentation to investors, Locoh-Donou declined to discuss any conversations he’s had with Elliott Management.

“I saw the Wall Street Journal article, and the rumors there,” he said. “I spent quite a bit of time with shareholders and investors this week, but we can’t comment on any single one of them.”

However, he added, “in the conversations I’ve had with investors since [the new financial outlook] was released, they are generally very, very pleased with the direction of the capital return programs, but also the growth of the company and our confidence in our software growth in particular.”

F5 Networks (FFIV) share price, year to date (NASDAQ Chart)

F5 shares closed Thursday at $160.20, up 23% over the past month.

Elliott doesn’t appear to be pressuring F5 executives to put the company up for sale, yet. That would be a “plan B,” if seeking operational efficiencies doesn’t sufficiently boost the company’s value, wrote Ken Squire, founder and president of institutional research service 13D Monitor, assessing Elliott’s F5 investment in a Nov. 14 CNBC commentary.

Asked about concerns that the company overpaid for Nginx and Shape without a clear integration strategy, as cited in the Journal article, Locoh-Donou again made it clear that he wasn’t responding specifically to any investor. However, he said, the acquisitions “were absolutely the right strategic decisions, and I stand by them.”

Locoh-Donou defended the integrations of Nginx and Shape as “best in class,” noting that he was involved in 15 acquisitions in his prior role as an executive at Ciena, the network strategy and technology company.

F5 points in particular to its more than $750 million in annual security-related revenue, due in part to the Shape acquisition, making the company a leader in a market estimated to grow to $32 billion by 2030. Overall, the company’s annual revenue increased 5% to $2.35 billion in its 2020 fiscal year, which ended in September. Profits were $575 million, down from $626 million the year before.

Locoh-Donou showed investors and analysts the slide above this week, outlining plans for reaching $150 million in annual cost savings in the next few years. F5 has already cut $100 million in annual costs over the last three years.

“Perhaps the biggest and most visible example of that is how we have rebalanced our resources around the globe,” he said. “Three years ago, less than 5% of our resources were in low cost locations. If you look at R&D and IT specifically, we have more than 30% of our resources today that are in low-cost locations. And we have looked at that across functions.”

He said the company will be looking to save costs in part by using AI and automation to improve its marketing and sales efforts. It will also be looking closely at its facilities costs in a post-COVID world, he said.

In April, amid the initial uncertainty of the pandemic, Locoh-Donou committed to not make any layoffs during the 2020 fiscal year, joining other industry executives at the time in offering reassurances to employees rattled by economic turmoil. With the fiscal year now over, he hasn’t reiterated that commitment, but he said in the interview that he’s averse to job cuts, and doesn’t have anything planned, again expressing his optimism in the company’s growth potential.

“The F5 team has been extraordinary through this period of time,” he said. “They have kept the business going, despite the macro environment.”

The F5 Tower as seen in Seattle’s skyline, the pointed, glass skyscraper to the left of the tall Columbia Center. (GeekWire Photo / Kurt Schlosser)

The company’s 515,000-square-foot lease at its landmark Seattle headquarters, the F5 Tower, expires in 2033 with an option for renewal, according to its 10-K filing with the SEC, released this week. Its lease for 320,000 square feet across three buildings at its former Seattle waterfront site expires in July 2022, the filing says.

Like other companies, F5 is taking a close look at its overall real estate footprint, Locoh-Donou said, under the theory that many employees will stick to flexible work arrangements even after the pandemic ends — coming into the office more than now, but still not five days a week.

However, he was emphatic that the company won’t be exiting it namesake skyscraper. “To be very clear,” he said, “we’re staying in the tower.”


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