NETSCOUT SYSTEMS, INC. You should read the following discussion and analysis of our financial condition and results of operations in conjunction with the condensed consolidated financial statements and notes thereto included elsewhere in this Quarterly Report and in our Annual Report on Form 10-K for the fiscal year endedMarch 31, 2020 , filed with theSecurities and Exchange Commission . This discussion contains forward-looking statements that involve risks and uncertainties. When reviewing the discussion below, you should keep in mind the substantial risks and uncertainties that could impact our business. In particular, we encourage you to review the risks and uncertainties described in Part I, Item 1A "Risk Factors" in our Annual Report on Form 10-K for the fiscal year endedMarch 31, 2020 . These risks and uncertainties could cause actual results to differ significantly from those projected in forward-looking statements contained in this report or implied by past results and trends. Forward-looking statements are statements that attempt to forecast or anticipate future developments in our business, financial condition or results of operations. See the section titled "Cautionary Statement Concerning Forward-Looking Statements" that appears at the beginning of this Quarterly Report. These statements, like all statements in this report, speak only as of the date of this Quarterly Report (unless another date is indicated), and, except as required by law, we undertake no obligation to update or revise these statements in light of future developments. Overview We are an industry leader with over 35 years of experience in providing service assurance and security solutions that are used by customers worldwide to assure their digital business services against disruption. Service providers and enterprises, including local, state and federal government agencies, rely on our solutions to achieve the visibility necessary to optimize network performance, ensure the delivery of high-quality, mission-critical applications and services, gain timely insight into the end user experience and protect their networks from attack. With our offerings, customers can quickly, efficiently and effectively identify and resolve issues that result in downtime, interruptions to services, poor service quality or compromised security, thereby driving compelling returns on their investments in their networks and broader technology initiatives. Some of the more significant technology trends and catalysts for our business include the evolution of customers' digital transformation initiatives, the rapidly evolving security threat landscape, business intelligence and analytics advancements, and the 5G evolution in both the service provider and enterprise verticals. Our operating results are influenced by a number of factors, including, but not limited to, the mix and quantity of products and services sold, pricing, costs of materials used in our products, growth in employee-related costs, including commissions, and the expansion of our operations. Factors that affect our ability to maximize our operating results include, but are not limited to, our ability to introduce and enhance existing products, the marketplace acceptance of those new or enhanced products, continued expansion into international markets, development of strategic partnerships, competition, successful acquisition integration efforts, and our ability to achieve expense reductions and make improvements in a highly competitive industry. COVID-19 Impact InMarch 2020 , theWorld Health Organization declared the novel strain of coronavirus (COVID-19) a global pandemic and recommended containment and mitigation measures worldwide. The pandemic and these containment and mitigation measures have led to adverse impacts on theU.S. and global economies. Due to the critical nature of our products and services, we are considered critical under State and Federal guidelines. While we have begun a phased reopening at some of our facilities, we remain focused on protecting the health and well-being of our employees and continue to maintain work from home policies for a vast majority of our employees where possible. We are closely monitoring the impact of the outbreak of COVID-19 on all aspects of our business, including how it has impacted and will continue to impact our customers, employees, supply chain, and distribution network. While COVID-19 did not have a material adverse effect on our reported results for the first quarter of our fiscal year 2021, the pandemic did impact the timing of some transactions, with some customers accelerating their investments as others exercised caution with their purchasing decisions as they react to the pandemic and economic environment within their own organizations. There is a great deal of uncertainty in the global economy, and we are unable to predict the ultimate impact that it may have on our business, future results of operations, financial position or cash flows. The extent to which our operations may be impacted by the COVID-19 pandemic will depend largely on future developments, which are highly uncertain and cannot be accurately predicted, including new information which may emerge concerning the severity of the outbreak and actions by government authorities to contain the outbreak or treat its impact. Furthermore, the impacts of a potential worsening of global economic conditions and the continued disruptions to and volatility in the financial markets remain unknown. Although there is uncertainty related to the anticipated impact of the recent COVID-19 outbreak on our future results, we believe that our products offer customers a unique solution set that can assist them in dealing with unexpected network, security and capacity challenges during and after the pandemic. Despite high customer interest in our products, the timing of the receipt of orders is challenging to predict. We believe our current cash reserves leave us well-positioned to manage our business through this crisis as it continues to unfold. We expect net cash provided by operating activities combined with cash, cash equivalents and marketable securities and borrowing availability under our revolving credit facility to provide sufficient 25 -------------------------------------------------------------------------------- Table of Contents liquidity to fund current obligations, capital spending, debt service requirements and working capital requirements over at least the next twelve months. We are taking actions to reduce costs and increase productivity throughout our company. This includes limiting discretionary spending and reducing hiring activities. We have temporarily halted our stock repurchase program, although the repurchase authorization remains effective, as we preserve capital given the uncertainties in the current environment. In addition, based on covenant levels atJune 30, 2020 , we have an incremental$304 million available to us under our$1.0 billion revolving credit facility. The extent of the impact of the global COVID-19 outbreak on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak, its impact on our customers and suppliers and the range of governmental and community reactions to the pandemic, which are uncertain and cannot be fully predicted at this time. We will continue to proactively respond to the situation and may take further actions that alter our business operations as may be required by governmental authorities, or that we determine are in the best interests of our stakeholders. Results Overview Total revenue for the three months endedJune 30, 2020 was supported by strong sales in our enterprise vertical for both network performance management and DDoS offerings which were partially offset by a decrease in service provider vertical revenue for both network performance management and DDoS offerings. Our gross profit percentage remained relatively flat during the three months endedJune 30, 2020 as compared with the three months endedJune 30, 2019 . Net loss for the three months endedJune 30, 2020 was$17.4 million , as compared with a net loss for the three months endedJune 30, 2019 of$29.3 million , a decrease of$11.9 million . The decrease in net loss was primarily due to a$7.9 million decrease in expenses related to trade shows and other sales and marketing related events attributable to continued cost control and COVID-19 related restrictions, a$6.8 million decrease in travel expenses primarily attributable to COVID-19 related restrictions, a$3.3 million decrease in interest expense, a$2.7 million decrease in amortization of intangible assets, and a$2.5 million decrease in inventory related charges. These decreases were partially offset by an$11.8 million increase in employee-related expenses largely due to an increase in variable incentive compensation, and a$2.2 million increase in legal-related expenses and penalties. AtJune 30, 2020 , we had cash, cash equivalents and marketable securities (short-term and long-term) of$426.5 million . This represents an increase of$37.4 million from$389.1 million atMarch 31, 2020 . This increase was primarily due to cash provided by operating activities of$44.9 million , partially offset by$4.2 million used for purchases of intangible assets and$3.1 million used for tax withholdings on restricted stock units during the three months endedJune 30, 2020 . Use of Non-GAAP Financial Measures We supplementthe United States generally accepted accounting principles (GAAP) financial measures we report in quarterly and annual earnings announcements, investor presentations and other investor communications by reporting the following non-GAAP measures: non-GAAP total revenue, non-GAAP gross profit, non-GAAP income from operations, non-GAAP operating margin, non-GAAP earnings before interest and other expense, income taxes, depreciation and amortization (EBITDA) from operations, non-GAAP net income, and non-GAAP net income per share (diluted). Non-GAAP revenue eliminates the GAAP effects of acquisitions by adding back revenue related to deferred revenue revaluation. Non-GAAP gross profit includes the aforementioned revenue adjustments and also removes expenses related to the amortization of acquired intangible assets, share-based compensation, and acquisition-related depreciation. Non-GAAP income from operations includes the aforementioned adjustments and also removes business development and integration expense, compensation for post-combination services, legal judgments expense, restructuring charges, and costs related to new accounting standard implementation, and adds back transitional service agreement income. Non-GAAP net income includes the foregoing adjustments related to non-GAAP income from operations, net of related income tax effects while removing transitional service agreement income and changes in contingent consideration. Non-GAAP EBITDA from operations includes the aforementioned items related to non-GAAP income from operations and also removes non-acquisition-related depreciation expense. Non-GAAP diluted net income per share also excludes these expenses as well as the related impact of all these adjustments on the provision for income taxes. These non-GAAP measures are not in accordance with GAAP, should not be considered an alternative for measures prepared in accordance with GAAP (revenue, gross profit, operating profit, net income (loss) and diluted net income (loss) per share), and may have limitations in that they do not reflect all our results of operations as determined in accordance with GAAP. These non-GAAP measures should only be used to evaluate our results of operations in conjunction with the corresponding GAAP measures. The presentation of non-GAAP information is not meant to be considered superior to, in isolation from, or as a substitute for results prepared in accordance with GAAP. 26 -------------------------------------------------------------------------------- Table of Contents Management believes these non-GAAP financial measures enhance the reader's overall understanding of our current financial performance and our prospects for the future by providing a higher degree of transparency for certain financial measures and providing a level of disclosure that helps investors understand how we plan and measure our business. We believe that providing these non-GAAP measures affords investors a view of our operating results that may be more easily compared with our peer companies and also enables investors to consider our operating results on both a GAAP and non-GAAP basis during and following the integration period of our acquisitions. Presenting the GAAP measures on their own may not be indicative of our core operating results. Furthermore, management believes that the presentation of non-GAAP measures when shown in conjunction with the corresponding GAAP measures provide useful information to management and investors regarding present and future business trends relating to our financial condition and results of operations. The following table reconciles revenue, gross profit, income (loss) from operations, net income (loss) and net income (loss) per share on a GAAP and non-GAAP basis for the three months endedJune 30, 2020 and 2019 (in thousands, except for per share amounts): Three Months Ended June 30, 2020 2019 GAAP revenue$ 183,815 $ 186,024
Service deferred revenue fair value adjustment 2
48
Non-GAAP revenue $ 183,817 $ 186,072
GAAP gross profit $ 130,835 $ 131,281
Service deferred revenue fair value adjustment 2 48
Share-based compensation expense 1,595
1,734
Amortization of acquired intangible assets 4,735
6,230
Acquisition related depreciation expense 6 13 Non-GAAP gross profit$ 137,173 $ 139,306 GAAP loss from operations$ (14,487) $ (24,448) Service deferred revenue fair value adjustment 2
48
Share-based compensation expense 12,096
12,743
Amortization of acquired intangible assets 19,996
22,373
Business development and integration expense 16
(21)
New standard implementation expense -
9
Compensation for post-combination services 64
193
Restructuring charges 93
123
Acquisition related depreciation expense 61 121
Transitional service agreement income - 909
Legal judgments expense 2,804 -
Non-GAAP income from operations $ 20,645 $ 12,050
27--------------------------------------------------------------------------------
Table of Contents
Three Months Ended
June 30,
2020 2019
GAAP net loss $ (17,420) $ (29,343)
Service deferred revenue fair value adjustment 2 48
Share-based compensation expense 12,096 12,743
Amortization of acquired intangible assets 19,996 22,373
Business development and integration expense 16 (21)
New standard implementation expense - 9
Compensation for post-combination services 64 193
Restructuring charges 93 123
Acquisition-related depreciation expense 61 121
Change in contingent consideration - 523
Income tax adjustments (5,496) (1,175)
Legal judgments expense 2,804 -
Non-GAAP net income $ 12,216 $ 5,594
GAAP diluted net loss per share $ (0.24) $ (0.38)
Per share impact of non-GAAP adjustments identified above 0.41 0.45
Non-GAAP diluted net income per share $ 0.17 $ 0.07
GAAP loss from operations $ (14,487) $ (24,448) Previous adjustments to determine non-GAAP income from operations 35,132
36,498
Non-GAAP income from operations 20,645 12,050
Depreciation excluding acquisition related 5,952 6,841
Non-GAAP EBITDA from operations $ 26,597 $ 18,891
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with GAAP consistently applied. The preparation of these
consolidated financial statements requires us to make significant estimates and
judgments that affect the amounts reported in our consolidated financial
statements and the accompanying notes. These items are regularly monitored and
analyzed by management for changes in facts and circumstances, and material
changes in these estimates could occur in the future. Changes in estimates are
recorded in the period in which they become known. We base our estimates on
historical experience and various other assumptions that we believe to be
reasonable under the circumstances. Actual results may differ from our
estimates.
While all of our accounting policies impact the consolidated financial
statements, certain policies are viewed to be critical. Critical accounting
policies are those that are both most important to the portrayal of our
financial condition and results of operations and that require management's most
subjective or complex judgments and estimates. We consider the following
accounting policies to be critical in fully understanding and evaluating our
financial results:
•marketable securities;
•revenue recognition;
•valuation of goodwill, intangible assets and other acquisition accounting
items; and
•share-based compensation.
Please refer to the critical accounting policies set forth in our Annual Report
on Form 10-K for the fiscal year ended March 31, 2020 , filed with the Securities
and Exchange Commission (SEC) on May 20, 2020 , for a description of all of our
critical accounting policies.
28
--------------------------------------------------------------------------------
Table of Contents
Three Months Ended June 30, 2020 and 2019
Revenue
Product revenue consists of sales of our hardware products and licensing of our
software products. Service revenue consists of customer support agreements,
consulting, training and stand-ready software as a service offering. During the
three months ended June 30, 2020 and 2019, no direct customer or indirect
channel partner accounted for more than 10% of our total revenue.
Three Months Ended
June 30,
(Dollars in Thousands)
2020 2019 Change
% of % of
Revenue Revenue $ %
Revenue:
Product $ 71,693 39 % $ 75,719 41 % $ (4,026) (5) %
Service 112,122 61 110,305 59 1,817 2 %
Total revenue $ 183,815 100 % $ 186,024 100 % $ (2,209) (1) %
Product. The 5%, or $4.0 million , decrease in product revenue compared with the
same period last year was primarily due to a decrease in revenue from network
performance management offerings for service provider customers, partially
offset by an increase in revenue from distributed denial of service (DDoS)
offerings.
Service. The 2%, or $1.8 million , increase in service revenue compared to the
same period last year was primarily driven by an increase in revenue from
maintenance contracts due to an increase in new maintenance contracts and
renewals from a growing support base.
Total revenue by geography was as follows:
Three Months Ended
June 30,
(Dollars in Thousands)
2020 2019 Change
% of % of
Revenue Revenue $ %
United States $ 107,323 58 % $ 107,103 58 % $ 220 - %
International:
Europe 34,758 19 31,309 17 3,449 11 %
Asia 13,696 8 12,552 6 1,144 9 %
Rest of the world 28,038 15 35,060 19 (7,022) (20) %
Subtotal international 76,492 42 78,921 42 (2,429) (3) %
Total revenue $ 183,815 100 % $ 186,024 100 % $ (2,209) (1) %
United States revenue increased $0.2 million , primarily due to an increase in
revenue from the enterprise vertical for network performance management and DDoS
offerings, partially offset by a decrease in revenue from the service provider
vertical for network performance management and DDoS offerings. The 3%, or $2.4
million , decrease in international revenue compared with the same period last
year was primarily driven by lower revenue from network performance management
offerings, partially offset by an increase in revenue from DDoS offerings. The
lower revenue in the rest of the world was driven by revenue timing and orders
in the service provider vertical during the three months ended June 30, 2019 .
Cost of Revenue and Gross Profit
Cost of product revenue consists primarily of material components, manufacturing
personnel expenses, packaging materials, overhead and amortization of
capitalized software, acquired developed technology and core technology. Cost of
service revenue consists primarily of personnel, material, overhead and support
costs.
29--------------------------------------------------------------------------------
Table of Contents
Three Months Ended
June 30,
(Dollars in Thousands)
2020 2019 Change
% of % of
Revenue Revenue $ %
Cost of revenue
Product $ 21,152 12 % $ 26,935 14 % $ (5,783) (21) %
Service 31,828 17 27,808 15 4,020 14 %
Total cost of revenue $ 52,980 29 % $ 54,743 29 % $ (1,763) (3) %
Gross profit:
Product $ $ 50,541 27 % $ 48,784 26 % $ 1,757 4 %
Product gross profit % 70 % 64 %
Service $ $ 80,294 44 % $ 82,497 44 % $ (2,203) (3) %
Service gross profit % 72 % 75 %
Total gross profit $ $ 130,835 $ 131,281 $ (446) - %
Total gross profit % 71 % 71 %
Product. The 21%, or $5.8 million , decrease in cost of product revenue was
primarily due to a $2.3 million decrease in direct material costs due to the
decrease in product revenue, a $1.8 million decrease in the amortization of
intangible assets, a $1.4 million decrease in inventory obsolescence charges,
and a $0.7 million decrease in overhead costs. These decreases were partially
offset by a $0.8 million increase in costs to deliver model calibration
products. The product gross profit percentage increased by six percentage points
to 70% during the three months ended June 30, 2020 as compared with the three
months ended June 30, 2019 . The 4%, or $1.8 million , increase in product gross
profit is attributable to the 21%, or $5.8 million , decrease in cost of product
revenue, partially offset by the 5%, or $4.0 million , decrease in product
revenue.
Service. The 14%, or $4.0 million , increase in cost of service revenue during
the three months ended June 30, 2020 when compared with the three months ended
June 30, 2019 was primarily due to a $4.4 million increase in employee-related
expenses associated with an increase in variable incentive compensation and the
timing of certain projects, partially offset by a $0.5 million decrease in
travel expense. The service gross profit percentage decreased by three
percentage points to 72% for the three months ended June 30, 2020 as compared
with the three months ended June 30, 2019 . The 3%, or $2.2 million decrease in
service gross profit is attributable to the 14%, or $4.0 million , increase in
cost of service revenue, partially offset by the 2%, or $1.8 million , increase
in service revenue.
Gross profit. Our gross profit decreased $0.4 million during the three months
ended June 30, 2020 when compared with the three months ended June 30, 2019 .
This decrease is attributable to the decrease in revenue of 1%, or $2.2 million ,
partially offset by the 3%, or $1.8 million , decrease in cost of revenue. The
gross profit percentage remained flat at 71% for the three months ended June 30,
2020 as compared with the three months ended June 30, 2019 .
Operating Expenses
Three Months Ended
June 30,
(Dollars in Thousands)
2020 2019 Change
% of % of
Revenue Revenue $ %
Research and development $ 45,381 25 % $ 43,727 24 % $ 1,654 4 %
Sales and marketing 59,434 32 73,525 40 (14,091) (19)
General and administrative 25,153 14 22,211 12 2,942 13
Amortization of acquired intangible assets 15,261 8 16,143 9 (882) (5)
Restructuring charges 93 - 123 - (30) (24)
Total operating expenses $ 145,322 79 % $ 155,729 85 % $ (10,407) (7) %
30-------------------------------------------------------------------------------- Table of Contents Research and development. Research and development expenses consist primarily of personnel expenses, fees for outside consultants, overhead and related expenses associated with the development of new products and the enhancement of existing products. The 4%, or$1.7 million , increase in research and development expenses was primarily due to a$4.7 million increase in employee-related expenses associated with an increase in variable incentive compensation offset by a reduction in headcount. This increase was partially offset by an$0.8 million decrease in travel expense, a$0.6 million decrease in depreciation expense, and a$0.6 million decrease in contractor fees in the three months endedJune 30, 2020 when compared with the three months endedJune 30, 2019 . Sales and marketing. Sales and marketing expenses consist primarily of personnel expenses and commissions, overhead and other expenses associated with selling activities and marketing programs such as trade shows, seminars, advertising and new product launch activities. The 19%, or$14.1 million , decrease in total sales and marketing expenses was primarily due to a$7.9 million decrease in expenses related to trade shows, user conference and other events attributable to continued cost control and COVID-19 related restrictions, a$5.1 million decrease in travel expense primarily attributable to COVID-19 related restrictions, and a$2.1 million decrease in other marketing related programs in the three months endedJune 30, 2020 when compared with the three months endedJune 30, 2019 . These decreases were partially offset by a$0.7 million increase in employee-related expenses largely due to an increase in variable incentive compensation offset by a reduction in headcount. General and administrative. General and administrative expenses consist primarily of personnel expenses for executive, financial, legal and human resource employees, overhead and other corporate expenditures. The$2.9 million , or 13%, increase in general and administrative expenses was primarily due to a$2.2 million increase in legal-related expenses and penalties, and a$1.4 million increase in employee-related expenses largely due to an increase in variable incentive compensation during the three months endedJune 30, 2020 . Amortization of acquired intangible assets. Amortization of acquired intangible assets consists primarily of amortization of customer relationships, definite-lived trademarks and tradenames, and leasehold interests related to our acquisitions of Danaher Corporation's communications business (Comms Transaction),ONPATH Technologies, Inc. (ONPATH),Simena, LLC (Simena),Psytechnics, Ltd (Psytechnics),Network General Corporation (Network General ),Avvasi Inc. (Avvasi) andEfflux Systems, Inc. (Efflux). The 5%, or$0.9 million , decrease in amortization of acquired intangible assets was largely due to a decrease in the amortization of intangible assets related to the Comms Transaction. Restructuring. During the fiscal years endedMarch 31, 2020 and 2019, we restructured certain departments to better align functions. As a result of the workforce reductions, during the three months endedJune 30, 2020 and 2019, we recorded a restructuring charge totaling$0.1 million related to one-time termination benefits. Interest and Other Expense, Net. Interest and other expense, net includes interest earned on our cash, cash equivalents and marketable securities, interest expense and other non-operating gains or losses. Three Months Ended June 30, (Dollars in Thousands) 2020 2019 Change % of % of Revenue Revenue $ % Interest and other expense, net$ (4,780) (3) %$ (4,399) (2) %$ (381) (9) % The 9%, or$0.4 million , increase in interest and other expense, net was primarily due to a$1.9 increase in foreign exchange expense, a$1.4 million decrease in interest income received on investments, and a$0.9 million decrease in transitional services agreement income related to the HNT business divestiture. These increases in expense were partially offset by a$3.3 million decrease in interest expense due to debt repayments on the credit facility as well as a decrease in the average interest rate, and a$0.5 million decrease in other expense due to a change in the fair value of the contingent consideration related to the HNT business divestiture recorded during the three months endedJune 30, 2019 . 31 -------------------------------------------------------------------------------- Table of Contents Income Taxes. Our effective income tax rate represented a benefit of 9.6% and an expense of 1.7% for the three months endedJune 30, 2020 and 2019, respectively. The effective tax rate for the three months endedJune 30, 2020 differed from the three months endedJune 30, 2019 , primarily due to a significant discrete tax expense related to elections made to treat several of our foreign subsidiaries asU.S. branches for federal income tax purposes in the three months endedJune 30, 2019 . As a result, we recorded additional tax expense due to establishing newU.S. net deferred tax liabilities resulting from the differences between the GAAP basis and theU.S. federal tax basis of the existing assets and liabilities of those foreign subsidiaries. Three Months Ended June 30, (Dollars in Thousands) 2020 2019 Change % of % of Revenue Revenue $ % Income tax (benefit) expense$ (1,847) (1) %$ 496 - %$ (2,343) (472) %
Off-Balance Sheet Arrangements
AtJune 30, 2020 and 2019, we did not have any off-balance sheet arrangements as defined in Regulation S-K, Item 303(a)(4)(ii). Commitments and Contingencies We account for claims and contingencies in accordance with authoritative guidance that requires us to record an estimated loss from a claim or loss contingency when information available prior to issuance of our consolidated financial statements indicates that it is probable that a liability has been incurred at the date of the consolidated financial statements and the amount of the loss can be reasonably estimated. If we determine that it is reasonably possible but not probable that an asset has been impaired or a liability has been incurred, or if the amount of a probable loss cannot be reasonably estimated, then in accordance with the authoritative guidance, we disclose the amount or range of estimated loss if the amount or range of estimated loss is material. Accounting for claims and contingencies requires us to use our judgment. We consult with legal counsel on those issues related to litigation and seek input from other experts and advisors with respect to matters in the ordinary course of business. Acquisition related - We had a contingent liability atJune 30, 2020 for$0.7 million related to the acquisition of Gigavation inFebruary 2020 for which an escrow account was established to cover damages we may suffer related to any liabilities that we did not agree to assume or as a result of the breach of representations and warranties of the seller as described in the acquisition agreement. Except to the extent that valid indemnification claims are made prior to such time, the$0.7 million will be paid to the seller inFebruary 2021 . The contingent purchase consideration of$0.7 million was included as accrued other in our consolidated balance sheet atJune 30, 2020 andMarch 31, 2020 . We had a contingent liability atMarch 31, 2020 related to the acquisition ofEastwind inApril 2019 . The contingent purchase consideration represents amounts deposited into an escrow account which was established to cover damages NetScout may have suffered related to any liabilities that NetScout did not agree to assume or as a result of the breach of representations and warranties of the seller as described in the acquisition agreement. The contingent purchase consideration of$1.0 million was included as accrued other in the Company's consolidated balance sheet atMarch 31, 2020 . The contingent purchase consideration of$1.0 million was paid to the seller inApril 2020 . Legal - From time to time, NetScout is subject to legal proceedings and claims in the ordinary course of business. In the opinion of management, the amount of ultimate expense with respect to any current legal proceedings and claims, if determined adversely, will not have a material adverse effect on our financial condition, results of operations or cash flows. As previously disclosed, inMarch 2016 ,Packet Intelligence LLC (Packet Intelligence or Plaintiff) filed a Complaint against NetScout and two subsidiary entities in theUnited States District Court for the Eastern District of Texas asserting infringement of fiveUnited States patents. Plaintiff's Complaint alleged that legacy Tektronix GeoProbe products, including the G10 and GeoBlade products, infringed these patents. NetScout filed an Answer denying Plaintiff's allegations and asserting that Plaintiff's patents were, among other things, invalid, not infringed, and unenforceable due to inequitable conduct. InOctober 2017 , a jury trial was held to address the parties' claims and counterclaims regarding infringement of three patents by the G10 and GeoBlade products, invalidity of these patents, and damages. OnOctober 13, 2017 , the jury rendered a verdict finding in favor of the Plaintiff and that Plaintiff was entitled to$3,500,000 for pre-suit damages and$2,250,000 for post-suit damages. The jury indicated that the awarded damages amounts were intended to reflect a running royalty. InSeptember 2018 , the Court entered judgment and "enhanced" the jury verdict in the amount of$2.8 million as a result of a jury finding. The 32 -------------------------------------------------------------------------------- Table of Contents judgment also awards pre- and post-judgment interest, and a running royalty on the G10 and GeoBlade products until the expiration of the patents at issue, the last date beingJune 2022 . Following the entry of final judgment, onJune 12, 2019 , we filed our Notice of Appeal. OnJuly 14, 2020 , theCourt of Appeals for the Federal Circuit issued a decision vacating the$3,500,000 pre-suit damages award, affirming the$2,250,000 post-suit damages award, and remanding to the district court to determine what, if any, enhancement should be awarded. NetScout is considering its legal options. NetScout has concluded that the risk of loss associated with the post-suit damages award is "probable" in accounting terms, regardless of the options NetScout may pursue, and that the risk of loss associated with pre-suit damages is now remote. Accounting rules require us to provide an estimate for the range of potential liability. NetScout currently estimates that the range of liability is the sum of post-suit damages, plus pre- and post-judgment interest amounts and royalties owed on post-trial sales of the accused G10 and GeoBlade products. Any potential enhancement is not reasonably estimable, but is likely within the range of$0 to$2,800,000 . Other contingent liabilities - During fiscal year 2020, one of our subsidiaries, located in theUnited Kingdom (UK ), determined that value added tax (VAT) was not properly applied to certain supplies of service to theUK . We filed a blank disclosure withHM Revenue & Customs (HMRC) notifying HMRC of these application differences, and subsequently filed a voluntary disclosure agreement (VDA). The VDA covered the period fromMarch 1, 2016 throughFebruary 29, 2020 . The penalties associated with the application differences can range from 0%-30% of the underpayment and are based on objective and subjective determinations to be made by HMRC. AtMarch 31, 2020 andJune 30, 2020 , we have accrued the penalties that we believe are probable and estimable of assessment by HMRC. A majority of the difference in our application of the VAT rules relates to services for which the subsidiary did not collect VAT from its customers and for which customers would have been eligible to reclaim under theUK VAT regime. Based on these facts, we currently believe that it is probable that we will not be required to settle these amounts separately with our customers and HMRC, hence we have not recorded a payable to HMRC and a receivable from our customers for these amounts. We believe that it is reasonably possible that HMRC will require separate settlement; if that occurred, we would be required to collect approximately £16 million from our current customers and remit that amount to HMRC. Liquidity and Capital Resources Cash, cash equivalents and marketable securities consisted of the following (in thousands):June 30 ,March 31, 2020 2020
Cash and cash equivalents $ 403,306 $338,489
Short-term marketable securities 23,202 47,969
Long-term marketable securities - 2,613
Cash, cash equivalents and marketable securities
Cash, cash equivalents and marketable securities AtJune 30, 2020 , cash, cash equivalents and marketable securities (current and non-current) totaled$426.5 million , a$37.4 million increase from$389.1 million atMarch 31, 2020 , This increase was primarily due to cash provided by operating activities of$44.9 million , partially offset by$4.2 million used for purchases of intangible assets and$3.1 million used for tax withholdings on restricted stock units during the three months endedJune 30, 2020 . AtJune 30, 2020 , cash and short-term and long-term investments inthe United States were$300.1 million , while cash held outsidethe United States was approximately$126.4 million . Cash and cash equivalents were impacted by the following: Three Months EndedJune 30 , (in thousands) 2020 2019
Net cash provided by operating activities $ 44,931 $49,458
Net cash provided by (used in) investing activities
Net cash used in financing activities $ (4,103) $(83,720)
33
--------------------------------------------------------------------------------
Table of Contents
Net cash from operating activities
Cash provided by operating activities was $44.9 million during the three months
ended June 30, 2020 , compared with $49.5 million of cash provided by operating
activities during the three months ended June 30, 2019 . This $4.6 million
decrease was due in part to a $4.6 million decrease from deferred income taxes,
a $4.4 million decrease from prepaid expenses and other assets, a $4.3 million
decrease from inventories, a $3.3 million decrease from depreciation and
amortization expense, a $1.8 million decrease from accounts payable, a $0.6
million decrease from share-based compensation expense, a $0.6 million decrease
from deferred revenue, and a $0.5 million decrease from net change in fair value
of contingent and contractual liabilities. These decreases were partially offset
by a $11.9 million increase from a smaller net loss, a $3.1 million increase
from accrued compensation and other expenses, and a $0.8 million increase from
operating lease liabilities during the three months ended June 30, 2020 as
compared with the three months ended June 30, 2019 .
Net cash from investing activities
Three Months Ended
June 30 ,
(in thousands)
2020 2019Cash provided by (used in) investing activities included the following: Purchase of marketable securities
$ (5,743) $ (41,039) Proceeds from sales and maturity of marketable securities 33,026 28,995 Purchase of fixed assets (2,605) (3,287) Purchase of intangible assets (4,237) - Decrease in deposits 102 - Acquisition of businesses - (4,154)$ 20,543 $ (19,485) Cash provided by investing activities increased by$40.0 million to$20.5 million during the three months endedJune 30, 2020 , compared with$19.5 million of cash used in investing activities during the three months endedJune 30, 2019 . The overall increase in cash inflow from marketable securities was primarily related to a decrease of$35.3 million in the purchase of marketable securities and a$4.0 million increase in proceeds from the maturity of marketable securities during the three months endedJune 30, 2020 when compared with the three months endedJune 30, 2019 . During the three months endedJune 30, 2020 , there was a$4.2 million cash outflow related to the purchases of intangible assets. During the three months endedJune 30, 2019 , there was a$4.2 million cash outflow related to the acquisition ofEastwind . Our investments in property and equipment consist primarily of computer equipment, demonstration units, office equipment and facility improvements. We plan to continue to invest in capital expenditures to support our infrastructure through the remainder of fiscal year 2021. Net cash from financing activities Three Months Ended June 30, (in thousands) 2020 2019
Cash used in financing activities included the following:
Payment of contingent consideration (1,000) -
Repayment of long-term debt - (50,000)
Treasury stock repurchases - (30,708)
Tax withholding on restricted stock units (3,103) (3,012)
$ (4,103) $ (83,720)
34-------------------------------------------------------------------------------- Table of Contents Cash used in financing activities decreased by$79.6 million to$4.1 million during the three months endedJune 30, 2020 , compared with$83.7 million of cash used in financing activities during the three months endedJune 30, 2019 . During the three months endedJune 30, 2019 , we repaid$50.0 million of borrowings under the Amended Credit Agreement. During the three months endedJune 30, 2019 , we repurchased 1,297,400 shares of our common stock for$33.2 million under the twenty-five million share repurchase program. There were no repurchases during the three months endedJune 30, 2020 . In connection with the delivery of the Company's common stock upon vesting of restricted stock units, we withheld 113,163 and 121,549 shares at a cost of$3.1 million and$3.0 million related to minimum statutory tax withholding requirements on these restricted stock units during the three months endedJune 30, 2020 and 2019, respectively. These withholding transactions do not fall under the repurchase program described above, and therefore do not reduce the number of shares that are available for repurchase under that program. Credit Facility OnJanuary 16, 2018 , we amended and expanded our existing credit agreement (Amended Credit Agreement) with a syndicate of lenders by and among: NetScout;JPMorgan Chase Bank, N.A . (JPMorgan), as administrative agent and collateral agent;J.P. Morgan Securities LLC ,KeyBanc Capital Markets ,Merrill Lynch, Pierce, Fenner & Smith Incorporated ,RBC Capital Markets andWells Fargo Securities, LLC , as joint lead arrangers and joint bookrunners;Fifth Third Bank ,Santander Bank, N.A .,SunTrust Bank, N.A. andU.S. Bank National Association , as co-documentation agents; and the lenders party thereto. The Amended Credit Agreement provides for a five-year,$1.0 billion senior secured revolving credit facility, including a letter of credit sub-facility of up to$75.0 million . We may elect to use the new credit facility for general corporate purposes or to finance the repurchase of up to twenty-five million shares of common stock under our common stock repurchase plan. The commitments under the Amended Credit Agreement will expire onJanuary 16, 2023 , and any outstanding loans will be due on that date. AtJune 30, 2020 ,$450 million was outstanding under the Amended Credit Agreement. At our election, revolving loans under the Amended Credit Agreement bear interest at either (a) an Alternate Base Rate per annum equal to the greatest of (1) JPMorgan's prime rate, (2) 0.50% in excess of theNew York Federal Reserve Bank (NYFRB) rate, or (3) an adjusted one month LIBOR rate plus 1%; or (b) such adjusted LIBOR rate (for the interest period selected by us), in each case plus an applicable margin. For the period from the delivery of our financial statements for the quarter endedMarch 31, 2020 , until we have delivered financial statements for the quarter endedJune 30, 2020 , the applicable margin will be 1.50% per annum for LIBOR loans and 0.50% per annum for Alternate Base Rate loans, and thereafter the applicable margin will vary depending on our leverage ratio, ranging from 1.00% per annum for Base Rate loans and 2.00% per annum for LIBOR loans if our consolidated leverage ratio is greater than 3.50 to 1.00, down to 0.00% per annum for Alternate Base Rate loans and 1.00% per annum for LIBOR loans if our consolidated leverage ratio is equal to or less than 1.50 to 1.00. OnJuly 27, 2017 , theU.K. Financial Conduct Authority (FCA) announced that it will no longer require banks to submit rates for the calculation of LIBOR after 2021. Our Amended Credit Agreement provides for the Administrative Agent to determine if (i) adequate and reasonable means do not exist for ascertaining the LIBOR rate or (ii) theFCA or Government Authority having jurisdiction over the Administrative Agent has made a public statement identifying a specific date after which the LIBOR rate shall no longer be used for determining interest rates for loans and the Administrative Agent determines that (i) and (ii) above are unlikely to be temporary, then the Administrative Agent and NetScout would agree to transition to an Alternate Base Rate borrowing as described above or amend the Credit Agreement to establish an alternate rate of interest to LIBOR that gives due consideration to the then prevailing market convention for determining a rate of interest for syndicated loans inthe United States at such time. Our consolidated leverage ratio is the ratio of our total funded debt compared to our consolidated adjusted EBITDA. Consolidated adjusted EBITDA includes certain adjustments, including, without limitation, adjustments relating to extraordinary, unusual or non-recurring charges, certain restructuring charges, non-cash charges, certain transaction costs and expenses and certain pro forma adjustments in connection with material acquisitions and dispositions, all as set forth in detail in the definition of consolidated adjusted EBITDA in the Amended Credit Agreement. Commitment fees will accrue on the daily unused amount of the credit facility. For the period from the delivery of our financial statements for the quarter endedMarch 31, 2020 , until we have delivered financial statements for the quarter endedJune 30, 2020 , the commitment fee will be 0.25% per annum, and thereafter the commitment fee will vary depending on our consolidated leverage ratio, ranging from 0.30% per annum if our consolidated leverage ratio is greater than 2.75 to 1.00, down to 0.15% per annum if our consolidated leverage ratio is equal to or less than 1.50 to 1.00. Letter of credit participation fees are payable to each lender on the amount of such lender's letter of credit exposure, during the period from the closing date of the Amended Credit Agreement to but excluding the date which is the later of (i) the 35 -------------------------------------------------------------------------------- Table of Contents date on which such lender's commitment terminates or (ii) the date on which such lender ceases to have any letter of credit exposure, at a rate per annum equal to the applicable margin for LIBOR loans. Additionally, we will pay a fronting fee to each issuing bank in amounts to be agreed to between us and the applicable issuing bank. Interest on Alternate Base Rate loans is payable at the end of each calendar quarter. Interest on LIBOR loans is payable at the end of each interest rate period or at the end of each three-month interval within an interest rate period if the period is longer than three months. We may also prepay loans under the Amended Credit Agreement at any time, without penalty, subject to certain notice requirements. Debt is recorded at the amount drawn on the revolving credit facility plus interest based on floating rates reflective of changes in the market which approximates fair value. The loans and other obligations under the credit facility are (a) guaranteed by each of our wholly owned material domestic restricted subsidiaries, subject to certain exceptions, and (b) are secured by substantially all of the assets of us and the subsidiary guarantors, including a pledge of all the capital stock of material subsidiaries held directly by us and the subsidiary guarantors (which pledge, in the case of any foreign subsidiary, is limited to 65% of the voting stock), subject to certain customary exceptions and limitations. The Amended Credit Agreement generally prohibits any other liens on the assets of NetScout and its restricted subsidiaries, subject to certain exceptions as described in the Amended Credit Agreement. The Amended Credit Agreement contains certain covenants applicable to us and our restricted subsidiaries, including, without limitation, limitations on additional indebtedness, liens, various fundamental changes, dividends and distributions, investments (including acquisitions), transactions with affiliates, asset sales, including sale-leaseback transactions, speculative hedge agreements, payment of junior financing, changes in business and other limitations customary in senior secured credit facilities. In addition, we are required to maintain certain consolidated leverage and interest coverage ratios. These covenants and limitations are more fully described in the Amended Credit Agreement. AtJune 30, 2020 , we were in compliance with all of these covenants. The Amended Credit Agreement provides that events of default will exist in certain circumstances, including failure to make payment of principal or interest on the loans when required, failure to perform certain obligations under the Amended Credit Agreement and related documents, defaults under certain other indebtedness, certain insolvency events, certain events arising under ERISA, a change of control and certain other events. Upon an event of default, the administrative agent with the consent of, or at the request of, the holders of more than 50% in principal amount of the loans and commitments may, terminate the commitments and accelerate the maturity of the loans and enforce certain other remedies under the Amended Credit Agreement and the other loan documents. In connection with the Amended Credit Agreement described above, we terminated our previous term loan dated as ofJuly 14, 2015 , by and among NetScout;JPMorgan Chase Bank, N.A . (JPMorgan), as administrative agent and collateral agent;J.P. Morgan Securities LLC ,KeyBanc Capital Markets ,Merrill Lynch, Pierce, Fenner & Smith Incorporated ,RBC Capital Markets andWells Fargo Securities, LLC , as joint lead arrangers and joint bookrunners;Santander Bank, N.A .,SunTrust Bank, N.A. andU.S. Bank National Association , as co-documentation agents; and the lenders party thereto. We have capitalized debt issuance costs totaling$12.2 million atJune 30, 2020 , which are being amortized over the life of the revolving credit facility. The unamortized balance was$4.4 million as ofJune 30, 2020 . The balance of$1.7 million was included as prepaid expenses and other current assets and a balance of$2.7 million was included as other assets in our consolidated balance sheet. Expectations for Fiscal Year 2021 As we cannot predict the duration or scope of the COVID-19 pandemic and its impact on our customers and suppliers, the potential financial impact to our results cannot be reasonably estimated, but could be material. We are actively managing the business to maintain cash flow and believe that we currently have adequate liquidity. We believe that these factors will allow us to meet our anticipated funding requirements. We expect net cash provided by operating activities combined with cash, cash equivalents, and marketable securities and borrowing availability under our revolving credit facility to provide sufficient liquidity to fund current obligations, capital spending, debt service requirements and working capital requirement over at least the next twelve months. Additionally, a portion of our cash may be used to acquire or invest in complementary businesses or products or to obtain the right to use complementary technologies. From time to time, in the ordinary course of business, we evaluate potential acquisitions of such businesses, products or technologies. If our existing sources of liquidity are insufficient to satisfy our liquidity requirements, we may seek to sell additional equity or debt securities. The sale of additional equity or debt securities could result in additional dilution to our stockholders. 36 -------------------------------------------------------------------------------- Table of Contents Recent Accounting Pronouncements For information with respect to recent accounting pronouncements on our consolidated financial statements, see Note 1 contained in the "Notes to Consolidated Financial Statements" included in Part I of this Quarterly Report on Form 10-Q. 37
--------------------------------------------------------------------------------
Table of Contents
© Edgar Online, source
