Edgar Filing: A10 Networks, Inc.

Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)



x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2016



¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number: 001-36343

A10 NETWORKS, INC.

(Exact Name of Registrant as Specified in its Charter)



Delaware		20-1446869
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)
3 West Plumeria Drive San Jose, California		95134
(Address of Principal Executive Offices)		(Zip Code)

(408) 325-8668

(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):



Large accelerated filer	¨		Accelerated filer	x

Non-accelerated filer	¨	(Do not check if a smaller reporting company)	Smaller reporting company	¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of October 28, 2016, the number of outstanding shares of the registrant’s common stock, par value $0.00001 per share, was 67,205,810.

A10 Networks, Inc. Quarterly Report on Form 10-Q For the Three and Nine Months Ended September 30, 2016 TABLE OF CONTENTS

	Page
PART I. FINANCIAL INFORMATION	2
Item 1. Condensed Consolidated Financial Statements (unaudited):	2
Condensed Consolidated Balance Sheets as of September 30, 2016 and December 31, 2015	2
Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2016 and 2015	3
Condensed Consolidated Statements of Comprehensive Loss for the Three and Nine Months Ended September 30, 2016 and 2015	4
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2016 and 2015	5
Notes to Condensed Consolidated Financial Statements	6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	21
Item 3. Quantitative and Qualitative Disclosures About Market Risk	33
Item 4. Controls and Procedures	33
PART II. OTHER INFORMATION	35
Item 1. Legal Proceedings	35
Item 1A. Risk Factors	35
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	58
Item 3. Defaults Upon Senior Securities	58
Item 4. Mine Safety Disclosures	59
Item 5. Other Information	59
Item 6. Exhibits	60
Signatures	61
Exhibit Index	62

PART I. FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

A10 NETWORKS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(unaudited, in thousands, except par value)



	September 30, 2016			December 31, 2015
ASSETS
Current Assets:
Cash and cash equivalents	$	31,380		$	98,117
Marketable securities	85,385			—
Accounts receivable, net of allowances of $4,048 and $4,067 as of September 30, 2016 and December 31, 2015	48,903			57,778
Inventory	14,537			18,291
Prepaid expenses and other current assets	4,652			5,064
Total current assets	184,857			179,250
Property and equipment, net	8,851			8,903
Goodwill and intangible assets	8,300			867
Other non-current assets	3,752			3,531
Total Assets	$	205,760		$	192,551
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Accounts payable	$	9,419		$	10,508
Accrued liabilities	29,427			27,757
Deferred revenue, current	53,484			49,572
Total current liabilities	92,330			87,837
Deferred revenue, non-current	29,759			23,232
Other non-current liabilities	1,052			1,414
Total Liabilities	123,141			112,483
Commitments and contingencies (Note 5)
Stockholders' Equity:
Common stock, par value $0.00001 — 500,000 shares authorized as of September 30, 2016 and December 31, 2015; 67,089 and 64,172 shares issued and outstanding as of September 30, 2016 and December 31, 2015	1			1
Additional paid-in capital	323,555			301,886
Accumulated other comprehensive income	36			—
Accumulated deficit	(240,973		)	(221,819		)
Total Stockholders' Equity	82,619			80,068
Total Liabilities and Stockholders' Equity	$	205,760		$	192,551

See accompanying notes to the Condensed Consolidated Financial Statements.

A10 NETWORKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited, in thousands, except per share amounts)



	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Revenue:
Products	$	35,275		$	34,990		$	110,446		$	98,837
Services	19,793			15,788			55,556			43,494
Total revenue	55,068			50,778			166,002			142,331
Cost of revenue:
Products	8,795			8,529			27,297			23,501
Services	4,153			4,186			13,087			11,601
Total cost of revenue	12,948			12,715			40,384			35,102
Gross profit	42,120			38,063			125,618			107,229
Operating expenses:
Sales and marketing	24,331			25,774			77,872			75,258
Research and development	15,968			13,562			45,231			41,542
General and administrative	6,305			6,892			20,196			20,122
Litigation and settlement expense	66			469			2,059			1,939
Total operating expenses	46,670			46,697			145,358			138,861
Loss from operations	(4,550		)	(8,634		)	(19,740		)	(31,632		)
Other income (expense), net:
Interest expense	(145		)	(151		)	(397		)	(382		)
Interest income and other income (expense), net	309			22			1,544			(167		)
Total other income (expense), net	164			(129		)	1,147			(549		)
Loss before income taxes	(4,386		)	(8,763		)	(18,593		)	(32,181		)
Provision for income taxes	298			204			561			497
Net loss	$	(4,684	)	$	(8,967	)	$	(19,154	)	$	(32,678	)
Net loss per share:
Basic and diluted	$	(0.07	)	$	(0.14	)	$	(0.29	)	$	(0.53	)
Weighted-average shares used in computing net loss per share:
Basic and diluted	66,260			62,753			65,146			62,009

See accompanying notes to the Condensed Consolidated Financial Statements.

A10 NETWORKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(unaudited, in thousands)



	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Net loss	$	(4,684	)	$	(8,967	)	$	(19,154	)	$	(32,678	)
Other comprehensive income (loss), net of tax:
Unrealized gain (loss) on marketable securities	(52		)	—			36			—
Comprehensive loss	$	(4,736	)	$	(8,967	)	$	(19,118	)	$	(32,678	)

See accompanying notes to the Condensed Consolidated Financial Statements.

A10 NETWORKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited, in thousands)



	Nine Months Ended September 30,
	2016			2015
Cash flows from operating activities:
Net loss	$	(19,154	)	$	(32,678	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization	5,919			6,784
Stock-based compensation	13,069			13,246
Other non-cash items	1,798			1,589
Changes in operating assets and liabilities:
Accounts receivable, net	7,311			11,223
Inventory	2,303			922
Prepaid expenses and other assets	349			(97		)
Accounts payable	(878		)	(1,086		)
Accrued liabilities	906			(1,492		)
Deferred revenue	10,440			9,118
Other	(224		)	104
Net cash provided by operating activities	21,839			7,633
Cash flows from investing activities:
Purchases of marketable securities	(109,268		)	—
Proceeds from sales and maturities of marketable securities	23,787			—
Payment for acquisition	(4,380		)	—
Purchases of property and equipment	(4,256		)	(2,558		)
Purchase of intangible asset	(1,500		)	—
Net cash used in investing activities	(95,617		)	(2,558		)
Cash flows from financing activities:
Proceeds from issuance of common stock under employee equity incentive plans, net of repurchases	7,116			3,238
Other	(75		)	306
Net cash provided by financing activities	7,041			3,544
Net increase (decrease) in cash and cash equivalents	(66,737		)	8,619
Cash and cash equivalents—beginning of period	98,117			91,905
Cash and cash equivalents—end of period	$	31,380		$	100,524
Supplemental Disclosure of Non-Cash Investing and Financing Activities:
Common stock issued under asset purchase agreement	$	1,313		$	—
Inventory transfers to property and equipment	$	1,451		$	2,213
Purchases of property and equipment included in accounts payable	$	275		$	327
Vesting of early exercised stock options	$	169		$	366

See accompanying notes to the Condensed Consolidated Financial Statements.

A10 Networks, Inc.

Notes to Condensed Consolidated Financial Statements

(unaudited)

1. Description of Business and Summary of Significant Accounting Policies

Description of Business

A10 Networks, Inc. (together with our subsidiaries, the “Company”, “we”, “our” or “us”) was incorporated in California in 2004 and reincorporated in Delaware in March 2014. We are headquartered in San Jose, California and have wholly-owned subsidiaries throughout the world including Asia and Europe. Our solutions enable enterprises, service providers, Web giants and government organizations to accelerate, secure and optimize the performance of their data center applications and secure their users, applications and infrastructure from internet, web and network threats at scale. We offer four software based advanced application networking and network security solutions to address end-customer needs, including Application Delivery Controllers ("ADC") to optimize web and back-office application performance, Carrier Grade Network Address Translation ("CGN") to provide network address, protocol translation services for service provider networks, Threat Protection System ("TPS") for network-wide multi-vector DDoS security protection and Convergent Firewall ("CFW") for protecting data centers and mobile infrastructure, improving web security, and encrypting site-to-site communications. Our solutions are cloud-ready and available, in a variety of form factors such as optimized hardware appliances, in the cloud as software, and as virtual appliances.

Basis of Presentation

The accompanying unaudited Condensed Consolidated Financial Statements include the accounts of A10 Networks, Inc., and our wholly owned subsidiaries. All inter-company balances and transactions have been eliminated in consolidation.

The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) and following the requirements of the Securities and Exchange Commission (“SEC”) for interim reporting. As permitted under those rules, certain notes or other financial information that are normally required by U.S. GAAP can be condensed or omitted. These financial statements have been prepared on the same basis as our annual financial statements and, in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments that are necessary for a fair presentation of our financial information. The results of operations for the three and nine months ended September 30, 2016 are not necessarily indicative of the results to be expected for the year ending December 31, 2016 or for any other interim period or for any other future year. The balance sheet as of December 31, 2015 has been derived from audited financial statements at that date but does not include all of the information required by U.S. GAAP for complete financial statements.

The accompanying unaudited Condensed Consolidated Financial Statements should be read in conjunction with our audited Consolidated Financial Statements for the year ended December 31, 2015, which are included in our Annual Report on Form 10-K for the year ended December 31, 2015.

Use of Estimates

The preparation of the Condensed Consolidated Financial Statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the amounts reported in the Condensed Consolidated Financial Statements and accompanying notes. Those estimates and assumptions affect revenue recognition and deferred revenue, allowance for doubtful accounts, sales return reserve, valuation of inventory, fair value of marketable securities, contingencies and litigation, acquisition purchase price allocations, accrued liabilities, and determination of fair value of stock-based compensation. These estimates are based on information available as of the date of the Condensed Consolidated Financial Statements; therefore, actual results could differ from management’s estimates.

Significant Accounting Policies

The following are changes to our significant accounting policies as reported in our Annual Report on Form 10-K for the year ended December 31, 2015.

Marketable securities

We classify our investments in debt and equity securities as available-for-sale and record these investments at fair value. Investments with an original maturity of three months or less at the date of purchase are considered cash equivalents, while all other investments are classified as current assets (included in marketable securities on the Condensed Consolidated Balance Sheets) based on their availability for use in current operations. Unrealized gains or losses are reported in accumulated

other comprehensive loss, net of taxes, in stockholders’ equity. Realized gains and losses are determined based on the specific identification method, and are reflected in our Condensed Consolidated Statements of Operations. Realized gains or losses and charges for other-than-temporary declines in value, if any, on marketable securities are reported in interest income and other income (expense), net as incurred.

We regularly review our investment portfolio to identify and evaluate investments that have indicators of possible impairment. Investments are considered impaired when a decline in fair value is judged to be other-than-temporary. If the cost of an individual investment exceeds its fair value, we evaluate, among other factors, general market conditions, the duration and extent to which the fair value is less than cost, and our intent and ability to hold the investment. Once a decline in fair value is determined to be other-than-temporary, we will record an impairment charge and establish a new cost basis in the investment.

Goodwill

Goodwill is measured as the excess of consideration transferred and the net of the acquisition date fair value of assets acquired and liabilities assumed in a business acquisition. Goodwill is not amortized for accounting purposes. We review goodwill for possible impairment annually in the fourth quarter or whenever events or changes in circumstances indicate its carrying amount may not be recoverable. For annual goodwill impairment test in all periods to date, we operate under one reporting unit and the fair value of our reporting unit has been determined by our enterprise value.

When assessing goodwill for impairment, we first perform a qualitative assessment to determine whether further impairment testing is necessary. If, as a result of its qualitative assessment, it is more-likely-than-not (i.e. greater than 50% chance) that the fair value of our reporting unit is less than its carrying amount, the quantitative impairment test will be required. Otherwise, no further testing will be required.

Examples of events and circumstances that might indicate that a reporting unit’s fair value is less than the carrying amount include macro-economic conditions such as (i) a significant adverse change in customer demand or a severe deterioration in the entity’s operating environment and market conditions; (ii) entity-specific events such as increasing costs, declining financial performance, or loss of key personnel; or (iii) other events such as an expectation that a reporting unit will be sold or there will be a sustained decrease in the stock price on either an absolute basis or relative to peers.

If it is determined, as a result of the qualitative assessment, that it is more-likely-than-not that the fair value of our reporting unit is less than its carrying amount, we perform a two-step impairment test on goodwill. The first step requires the identification of the reporting units and comparison of the fair value of a reporting unit with our carrying amount, including goodwill. If the fair value of the reporting unit is less than our carrying value, an indication of goodwill impairment exists for the reporting unit, and the second step of the impairment test is performed to compute the amount of the impairment. Under the second step, an impairment loss is recognized for any excess of the carrying amount of the reporting unit's goodwill over the implied fair value of that goodwill.

Intangible Assets

Intangible assets consist primarily of developed technology, patents and acquired customer relationships resulting from acquisitions. Intangible assets are recorded at fair value and are amortized on a straight-line basis over their estimated useful lives, which range from five to ten years.

Impairment of Long-Lived Assets

We periodically evaluate whether changes have occurred that would render our long-lived assets not recoverable. If such circumstances arise, we use an estimate of the undiscounted value of expected future operating cash flows to determine whether the long-lived assets are impaired. If the aggregate undiscounted cash flows are less than the carrying amount of the assets, the resulting impairment charge to be recorded is calculated based on the excess of the carrying amount of the assets over the fair value of such assets, with the fair value generally determined based on an estimate of discounted future cash flows.

Concentration of Credit Risk and Significant Customers

Financial instruments that potentially subject us to concentrations of credit risk consist of cash, cash equivalents, marketable securities and accounts receivable. Our cash, cash equivalents and marketable securities are invested in high-credit quality financial instruments maintained with banks and financial institutions. Management believes that the financial institutions that hold our cash, cash equivalents and marketable securities are financially sound and, accordingly, are subject to

minimal credit risk. In some instances, deposits held with banks and financial institutions may be in excess of insured limits provided on such deposits.

Our accounts receivable are unsecured and represent amounts due to us based on contractual obligations of our customers. We mitigate credit risk in respect to accounts receivable by performing periodic credit evaluations of our customers to assess the probability of accounts receivable collection based on a number of factors, including past transaction experience with the customer, evaluation of their credit history, limiting the credit extended and review of the invoicing terms of the contract.

Significant customers, including distribution channel partners and direct customers, are those which represent more than 10% of our total revenue for each period presented or our gross accounts receivable balance as of each respective balance sheet date. Revenue from our significant customers as a percentage of our total revenue for the three and nine months ended September 30, 2016 and 2015 are as follows:



	Three Months Ended September 30,		Nine Months Ended September 30,
	2016	2015	2016	2015
Customer A (a distribution channel partner)	19%	*	13%	*

* represents less than 10% of total revenue

As of September 30, 2016, one distribution channel partner (Customer A) accounted for 22% of our total gross accounts receivable. As of December 31, 2015, no customer accounted for 10% or more of our total gross accounts receivable.

Recent Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU") No. 2016-02, Leases (Topic 842). This new accounting standard primarily requires lessees to recognize most leases on their balance sheets but record expenses on their income statements in a manner similar to current accounting. For lessors, the guidance modifies the classification criteria and the accounting for sales-type and direct financing leases. The guidance is effective for annual periods beginning after December 15, 2018 with early adoption permitted. We are currently evaluating the impact of this guidance on our financial statements.

In March 2016, the FASB issued ASU No. 2016-09, Compensation—Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The new guidance requires the recognition of the income tax effects of awards in the income statement when the awards vest or are settled, thus eliminating additional paid in capital pools. The guidance also allows for the employer to repurchase more of an employee’s shares for tax withholding purposes without triggering liability accounting. In addition, the guidance allows for a policy election to account for forfeitures as they occur rather than on an estimated basis. This guidance is effective for annual and interim reporting periods of public entities beginning after December 15, 2016 with early adoption permitted. We are currently evaluating the impact of this guidance on our financial statements.

In March and April 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net) and ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing. These accounting updates provide supplemental adoption guidance and clarification to ASC No. 2014-09 Revenue from Contracts with Customers. ASU No. 2016-08 and ASU No. 2016-10 must be adopted concurrently with the adoption of ASU 2014-09. We are currently evaluating the impact of the adoption of ASU No. 2014-09, ASU No. 2016-08 and ASU No. 2016-10 on our financial statements.

There have been no other recent accounting pronouncements or changes in accounting pronouncements during the nine months ended September 30, 2016, as compared to the recent accounting pronouncements described in our Annual Report on Form 10-K for the year ended December 31, 2015, that are of significance or potential significance to us.

2. Marketable Securities and Fair Value Measurements

Marketable Securities

As of September 30, 2016, the estimated fair value of our marketable securities, classified as available for sale, are as follows (in thousands):



	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Certificates of deposit	$	11,998	$	17	$	(1	)	12,014
Corporate securities	37,043		42		(14		)	37,071
Commercial paper	20,549		4		(2		)	20,551
Asset-backed securities	15,740		9		—			15,749
	$	85,330	$	72	$	(17	)	$	85,385

For the three and nine months ended September 30, 2016, realized gains were immaterial. During the three and nine months ended September 30, 2016, we did not reclassify any amount to earnings from accumulated other comprehensive income related to unrealized gains or losses. We did not have any marketable securities as of December 31, 2015.

The following table summarizes the cost and estimated fair value of marketable securities based on contractual maturities as of September 30, 2016 (in thousands):



	Amortized Cost		Fair Value
Less than 1 year	$	56,291	$	56,323
Mature in 1 - 3 years	29,039		29,062
	$	85,330	$	85,385

All available-for-sale securities have been classified as current, based on management's ability to use the funds in current operations.

Marketable securities in an unrealized loss position as of September 30, 2016 consisted of the following (in thousands):



	Fair Value		Unrealized Losses
Certificates of deposit	$	2,999	$	(1	)
Corporate securities	8,391		(14		)
Commercial paper	$	5,374	(2		)
	$	16,764	$	(17	)

As of September 30, 2016, no marketable securities were in a continuous unrealized loss position for more than twelve months. We do not intend to sell any of these investments, and it is not more likely than not that we would be required to sell these investments before recovery of their amortized cost basis, which may be at maturity. As a result, there is no other-than-temporary impairment for these marketable securities as of September 30, 2016.

Fair Value Measurements

Our financial instruments consist of cash, cash equivalents, marketable securities, accounts receivable, accounts payable and accrued liabilities. Accounts receivable, accounts payable and accrued liabilities are stated at their carrying value, which approximates fair value due to the short time to the expected receipt or payment. Our cash equivalents, which include money market funds, are measured and recorded at fair value on a recurring basis. Marketable securities are comprised of

certificates of deposit, corporate securities, commercial paper and asset-backed securities and we measure the fair value at the measurement date using the three-tier fair value hierarchy as described below.

Assets and liabilities recorded at fair value on a recurring basis in the Condensed Consolidated Balance Sheets are categorized based upon the level of judgment associated with the inputs used to measure their fair values. Fair value is defined as the exchange price that would be received for an asset or an exit price that would be paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. The authoritative guidance for measuring fair value establishes a three-level valuation hierarchy for disclosure of fair value measurements as follows:

Level 1 - Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities;

Our Level 1 assets consist of highly liquid money market funds that are included in cash and cash equivalents.

Level 2 - Inputs are observable, quoted prices for identical assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities;

Our Level 2 assets consist of certificates of deposit, corporate securities, commercial paper and asset-backed securities.

Level 3 - Unobservable inputs that are significant to the measurement of the fair value of the assets or liabilities that are supported by little or no market data.

We did not have any Level 3 assets or liabilities as of September 30, 2016 and December 31, 2015.

There were no transfers between Level 1 and Level 2 fair value measurement categories during the three and nine months ended September 30, 2016.

The following is a summary of our cash, cash equivalents and marketable securities measured at fair value on a recurring basis (in thousands):



	September 30, 2016						December 31, 2015
	Cash and Cash Equivalents		Marketable Securities		Total		Cash and Cash Equivalents		Marketable Securities		Total
Cash	$	20,166			$	20,166	$	27,036			$	27,036
Level I
Money market funds	$	11,214	$	—	$	11,214	$	71,081	$	—	$	71,081
	11,214		—		11,214		71,081		—		71,081
Level II
Certificates of deposit	—		12,014		12,014		—		—		—
Corporate securities	—		37,071		37,071		—		—		—
Commercial paper	—		20,551		20,551		—		—		—
Asset-backed securities	—		15,749		15,749		—		—		—
	—		85,385		85,385		—		—		—
	$	31,380	$	85,385	$	116,765	$	98,117	$	—	$	98,117

3. Condensed Consolidated Financial Statement Details

Inventory



	September 30, 2016		December 31, 2015
	(in thousands)
Raw materials	$	6,451	$	9,418
Finished goods	8,086		8,873
Total inventory	$	14,537	$	18,291

Property and Equipment, net



	September 30, 2016			December 31, 2015
	(in thousands)
Equipment	$	40,901		$	35,836
Software	3,801			3,548
Furniture and fixtures	864			864
Leasehold improvements	2,567			2,492
Construction in progress	—			83
Property and equipment, gross	48,133			42,823
Less: accumulated depreciation and amortization	(39,282		)	(33,920		)
Property and equipment, net	$	8,851		$	8,903

Depreciation expense on property and equipment was $1.9 million and $2.1 million for the three months ended September 30, 2016 and 2015, respectively, and $5.6 million and $6.7 million for the nine months ended September 30, 2016 and 2015, respectively.

Goodwill and Intangible Assets

Activity related to goodwill for the nine months ended September 30, 2016 is as follows (in thousands):



Balance as of December 31, 2015	$	72
Acquisitions	1,235
Balance as of September 30, 2016	$	1,307

Purchased intangible assets, net consisted of the following (in thousands):



	September 30, 2016							December 31, 2015
	Gross Carrying Amount		Accumulated Amortization			Net Carrying Value		Gross Carrying Amount		Accumulated Amortization			Net Carrying Value
Developed technology	$	5,050	$	(253	)	$	4,797	$	—	$	—		$	—
Customer relationships	1,746		(1,746		)	—		1,746		(1,746		)	—
Patents	2,936		(740		)	2,196		1,436		(641		)	795
Total	$	9,732	$	(2,739	)	$	6,993	$	3,182	$	(2,387	)	$	795

Amortization expense related to purchased intangible assets was $0.3 million and $33,000 for the three months ended September 30, 2016 and 2015, respectively, and $0.4 million and $0.1 million for the nine months ended September 30, 2016 and 2015, respectively. Purchased intangible assets are amortized over a remaining weighted average useful life of 4.9 years.

Total future amortization expense for purchased intangible assets as of September 30, 2016 is as follows (in thousands):



Fiscal Years Ending December 31,
Remainder of 2016	$	361
2017	1,442
2018	1,442
2019	1,442
2020	1,442
Thereafter	864
	$	6,993

Accrued Liabilities



	September 30, 2016		December 31, 2015
	(in thousands)
Accrued compensation and benefits	$	20,458	$	18,134
Accrued tax liabilities	2,639		4,520
Other	6,330		5,103
Total accrued liabilities	$	29,427	$	27,757

Deferred Revenue



	September 30, 2016			December 31, 2015
	(in thousands)
Deferred revenue:
Products	$	2,899		$	3,233
Services	80,344			69,571
Total deferred revenue	83,243			72,804
Less: current portion	(53,484		)	(49,572		)
Non-current portion	$	29,759		$	23,232

4. Credit Facilities

In September 2013, we entered into a credit agreement (the “2013 Credit Facility”) with Royal Bank of Canada, JPMorgan Chase Bank, N.A. and Bank of America, N.A. as lenders. The 2013 Credit Facility provided a three-year, $35.0 million, revolving credit facility, which included a maximum $10.0 million letter of credit facility. We were required to pay quarterly facility fees of 0.45% per annum on the average daily unused portion of the revolving credit facility. We had no outstanding borrowings under the 2013 Credit Facility as of December 31, 2015 or for any period during the nine months ended September 30, 2016. The 2013 Credit Facility expired on September 30, 2016.

In November 2016, we entered into a loan and security agreement (the “2016 Credit Facility”) with Silicon Valley Bank ("SVB"), as lender. The 2016 Credit Facility provides a three-year, $25.0 million revolving credit facility, which includes a maximum of $25.0 million letter of credit facility. The loans bear interest, at our option, at (i) the prime rate reported in The Wall Street Journal, minus 0.50% or (ii) a LIBOR rate determined in accordance with the 2016 Credit Facility, plus 2.50%. We are required to pay customary closing fees, commitment fees and letter of credit fees for a facility of this size and type.

Our obligations under the 2016 Credit Facility are secured by substantially all of our assets, excluding our intellectual property. The 2016 Credit Facility contains customary affirmative and negative covenants. Through the date of this filing, we had no outstanding balance under the 2016 Credit Facility and were in compliance with all facility covenants.

5. Commitments and Contingencies

Legal Proceedings

From time to time, we may be party or subject to various legal proceedings and claims, either asserted or unasserted, which arise in the ordinary course of business, including proceedings and claims that relate to intellectual property matters. Some of these proceedings involve claims that are subject to substantial uncertainties and unascertainable damages. Accordingly, except as disclosed, we have not established reserves or ranges of possible loss related to these proceedings, as at this time in the proceedings, if any, the matters do not relate to a probable loss and/or amounts cannot be reasonably estimated.

On January 29, 2015, the Company, the members of our Board of Directors, our Chief Financial Officer, and the underwriters of our March 21, 2014 initial public offering ("IPO") were named as defendants in a putative class action lawsuit alleging violations of the federal Securities Act of 1933 filed in the Superior Court of the State of California, County of Santa Clara, captioned City of Warren Police and Fire Retirement System v. A10 Networks, Inc., et al., 1-15-CV-276207. Several substantially identical lawsuits were subsequently filed in the same court, bringing the same claims against the same defendants, captioned Arkansas Teacher Retirement System v. A10 Networks, Inc., et al., 1-15-CV-278575 (filed March 25, 2015) and Kaveny v. A10 Networks, Inc., et al., 1-15-CV-279006 (filed April 6, 2015). On May 29, 2015, the aforementioned putative class actions were consolidated under the caption In re A10 Networks, Inc. Shareholder Litigation, 1-15-CV-276207.

On April 6, 2016, all parties entered into a memorandum of understanding reflecting an agreement in principle to settle all claims against all defendants asserted in the action and providing that we will make a payment of $0.8 million, net of the expected proceeds of insurance policies. The parties subsequently executed a stipulation of settlement, dated June 30, 2016, and filed a motion with the Court seeking preliminary approval of the settlement, which was granted on September 15, 2016. The payment was made in October 2016. The final fairness hearing is scheduled to be heard on January 13, 2017. The settlement releases all claims asserted against all defendants and includes the dismissal of all claims against all defendants without any liability or wrongdoing attributed to them. The settlement remains subject to stockholder notice, final court approval and other customary conditions.

On June 24, 2015, our directors and certain of our officers were named as defendants in a putative derivative lawsuit filed in the Superior Court of the State of California, County of Santa Clara, captioned Hornung v. Chen, et al., 1-15-CV-282286 (the “Derivative Action”). We were also named as a nominal defendant. The complaint seeks to allege breaches of fiduciary duties and other related claims, arising out of allegations that our officers and directors caused us to infringe patents and intellectual property, improperly approved the settlement of prior litigation, failed to adopt and implement effective internal controls, and caused us to issue false and misleading statements in connection with our IPO. Plaintiff seeks unspecified compensatory damages and other equitable relief. On May 24, 2016, all parties entered into a memorandum of understanding reflecting an agreement in principle to settle all claims against all defendants asserted in the action, which provides that we implement certain corporate governance measures following final settlement approval. The parties subsequently executed a stipulation of settlement, dated August 26, 2016, and filed a motion with the Court seeking preliminary approval of the settlement. On October 20, 2016, the Court issued an order continuing to November 18, 2016 on the motion for preliminary approval, to allow plaintiff to submit certain supplemental briefing. The settlement releases all claims asserted against all defendants and includes the dismissal of all claims against all defendants without any liability or wrongdoing attributed to them. The settlement remains subject to execution of a formal settlement agreement, court approval and other customary conditions.

Lease Obligations and Other Commitments

We lease various operating spaces in the United States, Asia, and Europe under non-cancelable operating lease arrangements that expire on various dates through April 2020. These arrangements require us to pay certain operating expenses, such as taxes, repairs, and insurance and contain renewal and escalation clauses. We recognize rent expense under these arrangements on a straight-line basis over the term of the lease.

We have entered into agreements with some of our customers and channel partners that contain indemnification provisions in the event of claims alleging that our products infringe the intellectual property rights of a third party. Other

guarantees or indemnification arrangements include guarantees of product and service performance and standby letters of credit for lease facilities and corporate credit cards. We have not recorded a liability related to the indemnification and guarantee provisions and our guarantees and indemnification arrangements have not had any significant impact on our Condensed Consolidated Financial Statements to date.

6. Appcito Acquisition

On June 23, 2016, we entered into an asset purchase agreement with Appcito, Inc. (“Appcito”), a privately held company engaged in providing a unified set of services for applications deployed on cloud infrastructure with facilities located in Santa Clara, California and Bangalore, India. Under the terms of the purchase agreement, we acquired substantially all of the assets of Appcito. This acquisition enhances our position as a comprehensive secure application services leader, and it represents a strategic step in our vision to help our customers become more secure and agile as they bridge traditional and cloud application environments.

The total purchase consideration was $6.5 million. The fair value of the total purchase consideration was $6.3 million, which consisted of $5.0 million in cash consideration, less a holdback of $0.7 million to cover any indemnification claims within twelve months of the acquisition date, and 227,404 unregistered shares of our common stock with an aggregated fair value of $1.3 million. We allocated the total purchase consideration to the net assets acquired, including identifiable intangible assets, based on their respective fair values at the acquisition date.

The following table summarizes the allocation of the purchase price to the fair value of the assets acquired (in thousands):



Developed technology	$	5,050
Goodwill	1,235
Other tangible assets	58
Total assets acquired	$	6,343

Developed technology is amortized on a straight-line basis over the estimated useful life of five years. Goodwill of $1.2 million was recognized as part of this acquisition is attributable primarily to the expected synergies and other benefits from this acquisition including adding to our existing momentum around providing secure application service solutions that meet several key demands like application analytics, visibility, and centralized control. The acquisition is expected to introduce secure application service offerings that span traditional data centers, private clouds, public clouds, and hybrid clouds.

We incurred approximately $0.2 million in legal, accounting and other professional fees related to this acquisition, all of which were expensed during the three months ended June 30, 2016.

We do not consider the acquisition of Appcito to be material to our results of operations or financial position, and therefore, we are not presenting pro-forma financial information of the combined operations.

This acquisition was taxable for income tax purposes, and the acquired assets have been recorded at fair value for both book and income tax purposes. Therefore, no deferred taxes have been recorded. The goodwill of $1.2 million and the $0.2 million of acquisition costs are capitalized and amortized over 15 years for income tax purposes.

7. Equity Incentive Plans and Stock-Based Compensation

Equity Incentive Plans

2014 Equity Incentive Plan

Our 2014 Equity Incentive Plan (the "2014 Plan") was adopted by our Board of Directors and approved by our stockholders in March 2014. The 2014 Plan provides for the granting of stock options, restricted stock awards, restricted stock units, stock appreciation rights, performance units and performance shares to our employees, directors and consultants. In addition, effective as of June 10, 2015, our Board of Directors adopted and our stockholders approved an amendment and restatement of our 2014 Plan, which increased the number of shares available for issuance under the 2014 Plan by the number of shares available from the 2008 Stock Plan (the "2008 Plan") that were or may in the future be canceled or otherwise forfeited or repurchased by us after March 20, 2014. A maximum of 8,310,566 shares may become available from the 2008 Plan for issuance under the 2014 Plan.

As of December 31, 2015, we had 3,364,304 shares available for future grant. Annually, the shares authorized for the 2014 Plan will increase by the least of (i) 8,000,000 shares, (ii) 5% of the outstanding shares of common stock on the last day of our immediately preceding fiscal year, or (iii) such other amount as determined by our Board of Directors. On January 1, 2016, the number of shares in the 2014 Plan was increased by 4,851,535 shares, which consisted of 3,211,211 shares, representing 5% of the prior year end’s common stock outstanding and 1,640,324 shares for awards under our 2008 Plan that had been canceled, forfeited or repurchased by us between March 21, 2014 and December 31, 2015.

During the nine months ended September 30, 2016, we granted 672,000 stock options and 4,272,388 stock awards under the 2014 Plan to our employees, directors and consultants. As of September 30, 2016, we had 4,312,753 shares available for future grant, excluding shares eligible to be added from the 2008 Plan as a result of awards that have been canceled, forfeited or repurchased by us after December 31, 2015.

As of September 30, 2016, 243,546 shares of our common stock had been added to the 2014 Plan share reserve which represents awards under our 2008 Plan that have been canceled, forfeited or repurchased by us during the nine months ended September 30, 2016.

2014 Employee Stock Purchase Plan

The 2014 Employee Stock Purchase Plan (the "2014 Purchase Plan") was adopted by our Board of Directors and approved by our stockholders in March 2014.

As of December 31, 2015, we had 542,030 shares available for future purchase. Under the provisions of the 2014 Purchase Plan, on the first day of each fiscal year, starting with January 1, 2015, the number of shares in the reserve will increase by the lesser of (i) 3,500,000 shares, (ii) 1% of the outstanding shares of our common stock on the last day of the immediately preceding fiscal year, or (iii) such other amount as determined by our Board of Directors or other committee administering the 2014 Purchase Plan. On January 1, 2016, the common shares reserved for future purchase was increased by 642,242 shares in accordance with the provisions of the 2014 Purchase Plan. In June 2016, our Board of Directors adopted, and our stockholders approved an amendment to our 2014 Purchase Plan which removed the automatic annual share increase and increased the number of shares available for issuance under the 2014 Purchase Plan by 4,000,000 shares.

Stock-Based Compensation

The following tables summarize the allocation of the stock-based compensation expense (in thousands):



	Three Months Ended September 30,				Nine Months Ended September 30,
	2016		2015		2016		2015
Stock-based compensation by type of award:
Stock options	$	1,028	$	1,347	$	3,209	$	4,326
Stock awards	3,231		2,412		9,614		6,477
Employee stock purchase rights	329		849		246		2,443
	$	4,588	$	4,608	$	13,069	$	13,246

Stock-based compensation by category of expense:
Cost of revenue	$	332	$	428	$	921	$	1,241
Sales and marketing	1,760		2,093		5,577		6,032
Research and development	1,730		1,489		4,251		4,347
General and administrative	766		598		2,320		1,626
	$	4,588	$	4,608	$	13,069	$	13,246

__________________________________________



(1)	Our 2014 Purchase Plan provides twenty-four month offering periods which consist of four six-month purchase periods. We record periodic stock-based compensation expense based on estimated contributions determined at the beginning of each offering period and record purchase adjustments for the difference between the estimated and actual contributions at the end of each purchase period. For the purchase period ended on May 20, 2016, the actual contributions were significantly lower than the estimated contributions due to lower stock price which caused more employees to reach the maximum purchase contribution limit.

As of September 30, 2016, we had $30.9 million of unrecognized stock-based compensation expense, net of estimated forfeitures, related to unvested stock-based awards which will be recognized over a weighted average period of 2.6 years.

Determination of Fair Value

We use the Black-Scholes option pricing model to determine the grant date fair value of stock options and stock purchases and generally recognize stock-based compensation expense on a straight-line basis over the requisite service period.

The determination of the fair value on the date of grant is affected by the estimated underlying common stock price, as well as assumptions regarding a number of complex and subjective variables. These variables include expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rates, and expected dividends.

The fair value of the stock options and employee stock purchases were determined using the Black-Scholes option pricing model and assumptions discussed below. Each of these inputs is subjective and generally requires significant judgment to determine.

• Expected Term. We estimate the expected life of options based on an analysis of our historical experience of employee exercise and post-vesting termination behavior considered in relation to the contractual life of the option. The expected term for the 2014 Purchase Plan is based on the term of the purchase period.

• Risk-Free Interest Rate. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for zero coupon U.S. Treasury notes with maturities approximately equal to the expected terms of stock options and shares to be issued under the 2014 Purchase Plan.

• Expected Volatility. Due to the limited trading history of our own common stock, we determined the share price volatility factor based on a combination of the historical volatility of our own common stock and the historical volatility of our peer group.

• Dividend Rate. The expected dividend was assumed to be zero as we have never paid dividends and have no current plans to do so.

The grant date fair value of RSUs that have time or performance based vesting conditions contingent upon meeting financial and operational targets are equal to the closing market price of our common stock on the grant date.

We estimate the grant date fair value of RSUs that have market based vesting conditions using the Monte Carlo simulation method.

Stock Options

The following tables summarize our stock option activities and related information (in thousands, except for years and per share amounts):



	Number of Shares Underlying Outstanding Options		Weighted-Average Exercise Price		Weighted-Average Remaining Contractual Term (Years)	Aggregate Intrinsic Value
Outstanding as of December 31, 2015	9,291		$	4.78
Granted	672		$	5.52
Exercised	(1,191	)	$	4.17
Canceled (1)	(562	)	$	6.20
Outstanding as of September 30, 2016	8,210		$	4.83	6.4	$	48,821
Vested and expected to vest as of September 30, 2016	8,063		$	4.82	6.4	$	47,985
Vested and exercisable as of September 30, 2016	5,590		$	4.50	5.7	$	35,114

__________________________________________



(1)	Common shares granted under the 2008 Plan and canceled after March 20, 2014 are reallocated to the 2014 Plan’s share reserve as they become available for issuance under the 2014 Plan. During the nine months ended September 30, 2016, 244 of the canceled stock options were reallocated to the 2014 Plan.

As of September 30, 2016, the aggregate intrinsic value represents the excess of the closing price of our common stock of $10.69 over the exercise price of the outstanding in-the-money options.



	Nine Months Ended September 30,
	2016		2015
Fair value of options granted	$	1,603	$	869
Weighted-average fair value of options granted	$	2.38	$	2.13
Intrinsic value of options exercised	$	5,003	$	1,535

We did not grant stock options during the three months ended September 30, 2016 and 2015.

The estimated grant-date fair value of our stock options issued to employees was calculated using the Black-Scholes option-pricing model, based on the following assumptions:



	Nine Months Ended September 30,
	2016	2015
Expected term (in years)	4.9	4.8
Risk-free interest rate	1.42%	1.60%
Volatility	49%	50%
Dividend rate	—%	—%

Stock Awards

We have granted time-based stock awards ("RSUs") to our employees, directors and consultants and performance-based stock awards ("PSUs") and market performance-based stock awards ("MSUs") to certain company executives.

The following table summarizes our stock award activities (in thousands):



	RSUs		PSUs		MSUs	Total
Outstanding as of December 31, 2015	2,872		—		580	3,452
Granted	3,725		547		—	4,272
Released	(915	)	—		—	(915	)
Canceled	(734	)	(29	)	—	(763	)
Outstanding as of September 30, 2016	4,948		518		580	6,046

In February 2016, we granted 547,000 PSUs with certain financial and operational targets. These PSUs are also subject to service condition vesting requirements with 25% of the eligible PSUs scheduled to vest on each of the first, second, third and fourth year anniversary of the PSU grant date.

We granted MSUs covering 540,000 shares and 40,000 shares of our common stock to certain executives during 2014 and 2015, all of which were outstanding as of September 30, 2016. These MSUs will vest if the closing price of our common stock remains above certain predetermined target prices for 20 consecutive trading days within a 4-year period following the award’s grant date, subject to continued service by the award holder.

The aggregate intrinsic value is the amount that would have been received by the unit holders had all RSUs been vested and released on September 30, 2016. This amount will fluctuate based on the fair market value of our stock. As of September 30, 2016, the aggregated intrinsic value for RSUs, MSUs and PSUs was $64.6 million with a weighted-average remaining service period of 2.8 years.

Employee Stock Purchase Plan

Employees purchased 552,554 shares at an average price of $3.88 and 542,102 shares at an average price of $3.45 for the nine months ended September 30, 2016 and 2015, respectively. As of September 30, 2016, 4,317,184 shares were available for future issuance under the 2014 Purchase Plan. The intrinsic value of shares purchased during the nine months ended September 30, 2016 and 2015 was $1.3 million and $1.4 million, respectively. The intrinsic value is calculated as the difference between the market value on the date of purchase and the purchase price of the shares.

We did not grant employee stock purchase rights during the three months ended September 30, 2016 and 2015.

The fair value of the employee stock purchase rights granted was estimated at the grant date using the Black-Scholes option pricing model with the following weighted-average assumptions:



	Nine Months Ended September 30,
	2016	2015
Expected term (in years)	1.3	1.2
Risk-free interest rate	0.65%	0.32%
Expected volatility	42.6%	39.6%
Dividend rate	—%	—%

Stock Repurchase Program

On October 27, 2016, we announced that our board of directors authorized a share repurchase program for up to $20.0 million of our common stock over the next 12 months. Under the repurchase authorization, shares may be purchased from time to time, subject to general business and market conditions and other investment opportunities, through open market purchases, privately negotiated transactions or other means. The repurchase authorization may be commenced, suspended or discontinued at any time at our discretion.

8. Net Loss Per Share

The following table sets forth the computation of our basic and diluted net loss per share (in thousands, except per share data):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Basic and diluted net loss per share
Numerator:
Net loss	$	(4,684	)	$	(8,967	)	$	(19,154	)	$	(32,678	)
Denominator:
Weighted-average shares outstanding - basic and diluted	66,260			62,753			65,146			62,009
Net loss per share:
Basic and diluted	$	(0.07	)	$	(0.14	)	$	(0.29	)	$	(0.53	)

The following weighted-average outstanding shares of common stock equivalents were excluded from the computation of diluted net loss per share because including them would have been antidilutive (in thousands):



	Three Months Ended September 30,		Nine Months Ended September 30,
	2016	2015	2016	2015
Stock options, stock awards and employee stock purchase rights	14,163	11,058	12,878	11,063
Common stock subject to repurchase	21	90	21	90
	14,184	11,148	12,899	11,153

9. Income Taxes

We recorded income tax expense of $0.3 million and $0.2 million for the three months ended September 30, 2016 and 2015, respectively, and $0.6 million and $0.5 million for the nine months ended September 30, 2016 and 2015, respectively, which primarily consisted of foreign taxes. Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the carrying amounts of existing assets and liabilities in the financial statements and their respective tax bases using tax rates expected to be in effect during the years in which the basis differences reverse.

We believe it is more likely than not that our federal and state net deferred tax assets will not be fully realized. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of a deferred tax asset will be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. A valuation allowance is recorded for loss carryforwards and other deferred tax assets where it is more likely than not that such deferred tax assets will not be realized. Accordingly, we continue to maintain a valuation allowance against all of our U.S. and certain foreign net deferred tax assets as of September 30, 2016. We will continue to maintain a full valuation allowance against our net federal, state and certain foreign deferred tax assets until there is sufficient evidence to support recoverability of our deferred tax assets.

We had $3.0 million and $2.6 million of unrecognized tax benefits as of September 30, 2016 and December 31, 2015. We do not anticipate a material change to our unrecognized tax benefits over the next twelve months. Unrecognized tax benefits may change during the next twelve months for items that arise in the ordinary course of business.

Accrued interest and penalties related to unrecognized tax benefits are recognized as part of our income tax provision in our Condensed Consolidated Statements of Operations. All tax years remain open and are subject to future examinations by federal, state and foreign tax authorities. We are not under examination in any jurisdiction.

10. Segment Information

Our chief operating decision maker is our Chief Executive Officer who reviews financial information presented on a consolidated basis, accompanied by disaggregated information about revenue by geographic region for purposes of allocating resources and evaluating financial performance. Accordingly, we have a single reportable segment and operating segment.

The following table represents revenue by geographic areas based on customers' location, as determined by their ship to addresses (in thousands):



	Three Months Ended September 30,				Nine Months Ended September 30,
	2016		2015		2016		2015
United States	$	24,297	$	25,059	$	85,242	$	75,365
Japan	16,008		8,764		37,846		24,222
Asia Pacific, excluding Japan	7,434		7,991		21,911		18,122
EMEA	6,046		7,317		16,973		20,372
Other	1,283		1,647		4,030		4,250
Total revenue	$	55,068	$	50,778	$	166,002	$	142,331

No other geographic regions comprised 10% or greater of our revenue for the three and nine months ended September 30, 2016 and 2015.

Our property and equipment, net is primarily located in the United States. No other geographic regions comprise 10% or more of our property and equipment, net as of September 30, 2016.

11. Related-Party Transactions

An affiliate of one of our significant stockholders is also acting as a reseller of our products. On May 27, 2015, the significant stockholder reduced its ownership of our common stock, and ceased to be a related party. During the nine months ended September 30, 2015, we recognized $2.2 million of revenue from this reseller while it was a related party.


ITEM 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Condensed Consolidated Financial Statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q. The following discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The words “believe,” “may,” “will,” “potentially,” “estimate,” “continue,” “anticipate,” “intend,” “could,” “would,” “project,” “plan” “expect,” and similar expressions that convey uncertainty of future events or outcomes are intended to identify forward-looking statements.

These forward-looking statements include, but are not limited to, statements concerning the following:


•	our ability to maintain an adequate rate of revenue growth;


•	our ability to successfully anticipate market needs and opportunities;


•	our business plan and our ability to effectively manage our growth;


•	costs associated with defending intellectual property infringement and other claims;


•	our ability to attract and retain end-customers;


•	loss or delay of expected purchases by our largest end-customers;


•	our ability to further penetrate our existing customer base;


•	our ability to displace existing products in established markets;


•	our ability to expand our leadership position in next-generation application delivery and server load balancing solutions;


•	continued growth in markets relating to network security;


•	our ability to timely and effectively scale and adapt our existing technology;


•	our ability to innovate new products and bring them to market in a timely manner;


•	our ability to expand internationally;


•	the effects of increased competition in our market and our ability to compete effectively;


•	the effects of seasonal trends on our results of operations;


•	our expectations concerning relationships with third parties;


•	the attraction and retention of qualified employees and key personnel;


•	our ability to achieve or maintain profitability while continuing to invest in our sales, marketing and research and development teams;


•	variations in product mix or geographic locations of our sales;


•	fluctuations in currency exchange rates;


•	increased cost requirements of being a public company and future sales of substantial amounts of our common stock in the public markets;


•	the cost and potential outcomes of existing and future litigation;


•	our ability to maintain, protect, and enhance our brand and intellectual property; and


•	future acquisitions of or investments in complementary companies, products, services or technologies.

These forward-looking statements are subject to a number of risks, uncertainties, and assumptions, including those described in “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q. Moreover, we operate in a very competitive and rapidly changing environment, and new risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties, and assumptions, the forward-looking events and circumstances discussed in this Quarterly Report on Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements.

You should not rely upon forward-looking statements as predictions of future events. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee that the future results, levels of activity, performance or events and circumstances reflected in the forward-looking statements will be achieved or occur. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of the forward-looking

statements. We undertake no obligation to update publicly any forward-looking statements for any reason after the date of this Quarterly Report on Form 10-Q to conform these statements to actual results or to changes in our expectations, except as required by law.

Overview

We are a leading provider of application networking and network security technologies. Our solutions enable enterprises, service providers, Web giants and government organizations to accelerate, secure and optimize the performance of their data center applications and secure their users, applications and infrastructure from internet, web and network threats at scale. Our products are built on our Advanced Core Operating System ("ACOS") platform of advanced network technologies, which is designed to enable our products to deliver substantially greater performance and security relative to prior generation application networking products. Our software based ACOS architecture also provides the flexibility that enables us to expand our business to offer additional products to solve a growing array of networking and security challenges arising from increased Internet cloud and mobile computing.

We currently offer four software based advanced application networking and network security solutions to address end-customer needs, including Application Delivery Controllers ("ADC") to optimize web and back-office application performance, Carrier Grade Network Address Translation ("CGN") to provide network address and protocol translation services for service provider networks, Threat Protection System ("TPS") for network-wide multi-vector DDoS security protection, and Convergent Firewall ("CFW") for protecting data centers and mobile infrastructure, improving web security, and encrypting site-to-site communications. Our solutions are cloud-ready and available in a variety of form factors as optimized hardware appliances, in the cloud as software, and as virtual appliances.

We derive revenue from sales of products and related support services. Products revenue is generated primarily by sales of hardware appliances with perpetual licenses to our embedded software solutions. We also derive revenue from licenses

to, or subscription services for, software-only versions of our solutions. We generate services revenue primarily from sales of maintenance and support contracts. Our end-customers predominantly purchase maintenance and support in conjunction with purchases of our products. In addition, we also derive revenues from the sale of professional services.

We sell our products globally to service providers and enterprises that depend on data center applications and networks to generate revenue and manage operations efficiently. Our end-customers operate in a variety of industries, including telecommunications, technology, industrial, retail, financial, education and government. Since inception, our customer base has grown rapidly. As of September 30, 2016, we had sold products to approximately 5,000 customers across 82 countries.

We sell substantially all of our solutions through our high-touch sales organization as well as distribution channel partners, including distributors, value added resellers and system integrators, and fulfill nearly all orders globally through such partners. We believe this sales approach allows us to obtain the benefits of channel distribution, such as expanding our market coverage, while still maintaining face-to-face relationships with our end-customers. We outsource the manufacturing of our hardware products to original design manufacturers. We perform quality assurance and testing at our San Jose, Taiwan and Japan distribution centers, as well as at our manufacturers’ locations.

During the first nine months of 2016, 51% of our total revenue was generated from the United States, 23% from Japan, and 26% from other geographical regions. During the first nine months of 2015, 53% of our total revenue was generated from the United States, 17% from Japan, and 30% from other geographical regions. Our enterprise customers accounted for 57% and 58% of our total revenue during the first nine months of 2016 and 2015, respectively. Our service provider customers accounted for 43% and 42% of our total revenue during the first nine months of 2016 and 2015, respectively.

As a result of the nature of our target market and the current stage of our development, a substantial portion of our revenue comes from a limited number of large end-customers, including service providers, in any period. Purchases from our ten largest end-customers accounted for 38% and 30% of our total revenue during the nine months ended September 30, 2016 and 2015, respectively. Sales to these large end-customers have typically been characterized by large but irregular purchases with long sales cycles. The timing of these purchases and the delivery of the purchased products are difficult to predict. As a consequence, any acceleration or delay in anticipated product purchases, by or deliveries to, our largest end customers could materially impact our revenue and operating results in any quarterly period. This may cause our quarterly revenue and operating results to fluctuate from quarter to quarter and make them difficult to predict.

As of September 30, 2016, we had $31.4 million of cash and cash equivalents and $85.4 million of marketable securities. Cash provided by operating activities was $21.8 million during the first nine months of 2016 as compared to $7.6 million during the same period of 2015.

We intend to continue to invest for long-term growth. We have invested and expect to continue to invest in our product development efforts to deliver new products and additional features in our current products to address customer needs. In addition, we expect to continue to expand our global sales and marketing organizations, expand our distribution channel partner programs and increase awareness of our solutions on a global basis. Additionally, we will be investing in general and administrative resources to meet the requirements to operate as a public company. Our investments in growth in these areas may affect our short-term profitability.

Results of Operations

The following table provides a summary of our Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2016 (dollars in thousands):



	Three Months Ended September 30,
	2016					2015					Increase (Decrease)
	Amount			Percent of Total Revenue		Amount			Percent of Total Revenue		Amount			Percent
Revenue:
Products	$	35,275		64.1	%	$	34,990		68.9	%	$	285		1	%
Services	19,793			35.9		15,788			31.1		4,005			25	%
Total revenue	55,068			100.0		50,778			100	%	4,290			8	%
Cost of revenue:
Products	8,795			16.0		8,529			16.8		266			3	%
Services	4,153			7.5		4,186			8.2		(33		)	(1	)%
Total cost of revenue	12,948			23.5		12,715			25.0		233			2	%
Gross profit	42,120			76.5		38,063			75.0		4,057			11	%
Operating expenses:
Sales and marketing	24,331			44.2		25,774			50.8		(1,443		)	(6	)%
Research and development	15,968			29.0		13,562			26.7		2,406			18	%
General and administrative	6,305			11.5		6,892			13.6		(587		)	(9	)%
Litigation and settlement expense	66			0.1		469			0.9		(403		)	(86	)%
Total operating expenses	46,670			84.8		46,697			92.0		(27		)	0	%
Loss from operations	(4,550		)	(8.3	)	(8,634		)	(17.0	)	4,084			(47	)%
Other income (expense), net:
Interest expense	(145		)	(0.3	)	(151		)	(0.3	)	6			(4	)%
Interest income and other income (expense), net	309			0.6		22			—		287			1,305	%
Total other income (expense), net	164			0.3		(129		)	(0.3	)	293			(227	)%
Loss before income taxes	(4,386		)	(8.0	)	(8,763		)	(17.3	)	4,377			(50	)%
Provision for income taxes	298			0.5		204			0.4	%	94			46	%
Net loss	$	(4,684	)	(8.5	)%	$	(8,967	)	(17.7	)%	$	4,283		(48	)%



	Nine Months Ended September 30,
	2016					2015					Increase (Decrease)
	Amount			Percent of Total Revenue		Amount			Percent of Total Revenue		Amount			Percent
Revenue:
Products	$	110,446		66.5	%	$	98,837		69.4	%	$	11,609		12%
Services	55,556			33.5		43,494			30.6		12,062			28%
Total revenue	166,002			100.0		142,331			100.0		23,671			17%
Cost of revenue:
Products	27,297			16.4		23,501			16.5		3,796			16%
Services	13,087			7.9		11,601			8.2		1,486			13%
Total cost of revenue	40,384			24.3		35,102			24.7		5,282			15%
Gross profit	125,618			75.7		107,229			75.3		18,389			17%
Operating expenses:
Sales and marketing	77,872			47.0		75,258			52.9		2,614			3%
Research and development	45,231			27.2		41,542			29.2		3,689			9%
General and administrative	20,196			12.2		20,122			14.1		74			—%
Litigation and settlement expense	2,059			1.2		1,939			1.4		120			6%
Total operating expenses	145,358			87.6		138,861			97.6		6,497			5%
Loss from operations	(19,740		)	(11.9	)	(31,632		)	(22.2	)	11,892			(38)%
Other income (expense), net:
Interest expense	(397		)	(0.2	)	(382		)	(0.3	)	(15		)	4%
Interest income and other income (expense), net	1,544			0.9		(167		)	(0.1	)	1,711			(1,025)%
Total other income (expense), net	1,147			0.7		(549		)	(0.4	)	1,696			(309)%
Loss before income taxes	(18,593		)	(11.2	)	(32,181		)	(22.6	)	13,588			(42)%
Provision for income taxes	561			0.3		497			0.3		64			13%
Net loss	$	(19,154	)	(11.5	)%	$	(32,678	)	(23.0	)%	$	13,524		(41)%

Revenue

Our products revenue primarily consists of revenue from sales of our hardware appliances upon which our software is installed. Such software includes our ACOS software platform plus one of our ADC, CGN, TPS, and CFW solutions. Purchase of a hardware appliance includes a perpetual license to the included software. We recognize products revenue at the time of shipment, provided that all other revenue recognition criteria have been met. As a percentage of revenue, our products revenue may vary from quarter to quarter based on, among other things, the timing of orders and delivery of products, cyclicality and seasonality, changes in currency exchange rates and the impact of significant transactions with unique terms and conditions.

We generate services revenue from sales of post contract support, or PCS, which is bundled with sales of products and professional services. We offer tiered PCS services under renewable, fee-based PCS contracts, primarily including technical support, hardware repair and replacement parts, and software upgrades on a when-and-if-released basis. We recognize services revenue ratably over the term of the PCS contract, which is typically one year, but can be up to five years.

A summary of our total revenue is as follows (dollars in thousands):



	Three Months Ended September 30,
	2016				2015				Increase (Decrease)
	Amount		Percent of Total Revenue		Amount		Percent of Total Revenue		Amount			Percent
Revenue:
Products	$	35,275	64.1	%	$	34,990	68.9	%	$	285		1%
Services	19,793		35.9		15,788		31.1		4,005			25%
Total revenue	$	55,068	100.0	%	$	50,778	100.0	%	$	4,290		8%
Revenue by geographic region:
United States	$	24,297	44.1	%	$	25,059	49.4	%	$	(762	)	(3)%
Japan	16,008		29.1		8,764		17.3		7,244			83%
Asia Pacific, excluding Japan	7,434		13.5		7,991		15.7		(557		)	(7)%
EMEA	6,046		11.0		7,317		14.4		(1,271		)	(17)%
Other	1,283		2.3		1,647		3.2		(364		)	(22)%
Total revenue	$	55,068	100.0	%	$	50,778	100.0	%	$	4,290		8%



	Nine Months Ended September 30,
	2016				2015				Increase (Decrease)
	Amount		Percent of Total Revenue		Amount		Percent of Total Revenue		Amount			Percent
Revenue:
Products	$	110,446	66.5	%	$	98,837	69.4	%	$	11,609		12%
Services	55,556		33.5		43,494		30.6		12,062			28%
Total revenue	$	166,002	100.0	%	$	142,331	100.0	%	$	23,671		17%
Revenue by geographic location:
United States	$	85,242	51.4	%	$	75,365	53.0	%	$	9,877		13%
Japan	37,846		22.8		24,222		17.0		13,624			56%
Asia Pacific, excluding Japan	21,911		13.2		18,122		12.7		3,789			21%
EMEA	16,973		10.2		20,372		14.3		(3,399		)	(17)%
Other	4,030		2.4		4,250		3.0		(220		)	(5)%
Total revenue	$	166,002	100.0	%	$	142,331	100.0	%	$	23,671		17%

Total revenue increased by $4.3 million, or 8%, during the third quarter of 2016 as compared to the same period of 2015. This increase was comprised of a $0.3 million increase in products revenue and a $4.0 million increase in services revenue. Total revenue increased primarily due to higher revenue from enterprise and service provider customers by 3% and 17%, respectively, during the third quarter of 2016 as compared to the same period of 2015.

Total revenue increased by $23.7 million, or 17%, during the first nine months of 2016 as compared to the same period of 2015. This increase was comprised of an $11.6 million increase in products revenue and a $12.1 million increase in services revenue. Revenue from enterprise and service provider customers increased 15% and 19%, respectively, during the first nine months of 2016 as compared to the same period of 2015.

Products revenue increased by $0.3 million, or 1%, during the third quarter of 2016 as compared to the same period of 2015 as the products revenue increase from Japan was partially offset by the products revenue decrease from the United States, Asia Pacific excluding Japan and EMEA. Products revenue increased by $11.6 million, or 12%, during the first nine months of 2016 as compared to the same period of 2015. The increase was primarily attributable to the products revenue increase from Japan, the United States and Asia Pacific excluding Japan, partially offset by the products revenue decrease from EMEA.

Services revenue increased by $4.0 million, or 25%, and $12.1 million, or 28%, during the third quarter and the first nine months of 2016 as compared to the same periods of 2015. The services revenue increase during the third quarter and the first nine months of 2016 was primarily due to the increase in PCS sales in connection with our increasing installed customer base as well as an increase in our professional services revenue. During the first nine months of 2016, services revenue recognized from our installed customer base with contracts existing prior to 2016 grew by 31% as compared to the same period of 2015.

During the third quarter of 2016, $24.3 million, or 44%, of total revenue was generated from the United States, which represents a 3% decrease as compared to the same period of 2015. The decrease was primarily due to lower products revenue, partially offset by higher services revenue. During the first nine months of 2016, $85.2 million, or 51%, of total revenue was generated from the United States, which represents a 13% increase as compared to the same period of 2015. The increase was primarily due to higher products revenue as well as higher PCS sales in connection with our increased installed customer base.

During the third quarter of 2016, $16.0 million, or 29%, of total revenue was generated from Japan, which represents an 83% increase as compared to the same period of 2015. During the first nine months of 2016, $37.8 million, or 23%, of total revenue was generated from Japan, which represents a 56% increase as compared to the same period of 2015. The increase during both periods was primarily due to higher products revenue from service provider customers. In addition, the favorable currency exchange impact of the Japanese Yen on the revenue was $2.2 million and $3.5 million for the third quarter and the first nine months of 2016, respectively.

During the third quarter of 2016, $7.4 million, or 13% of total revenue was generated from the Asia Pacific regions excluding Japan, which represents a 7% decrease as compared to the same period of 2015. The decrease was primarily due to lower products revenue, partially offset by higher services revenue. During the first nine months of 2016, $21.9 million, or 13%, of total revenue was generated from the Asia Pacific regions excluding Japan, which represents a 21% increase as compared to the same period of 2015. The increase was primarily due to higher products revenue resulting from our continuous efforts in expanding our presence in these regions as well as higher PCS sales in connection with our increased installed customer base.

During the third quarter of 2016, $6.0 million, or 11%, of total revenue was generated from EMEA, which represents a 17% decrease as compared to the same period of 2015. During the first nine months of 2016, $17.0 million, or 10%, of total revenue was generated from EMEA, which represents a 17% decrease as compared to the same period of 2015. The decrease during both periods was primarily due to lower products revenue as a result of overall economic weakness in the EMEA markets, partially offset by an increase in services revenue.

Cost of Revenue, Gross Profit and Gross Margin

Cost of revenue

Cost of products revenue is primarily comprised of cost of third-party manufacturing services and cost of component inventory for the hardware component of our products. It also includes warehouse personnel costs, shipping costs, inventory write-downs, certain allocated facilities and information technology infrastructure costs, and expenses associated with logistics and quality control.

Cost of services revenue is primarily comprised of personnel costs for our technical support, training and professional service teams. Cost of services revenue also includes the costs of inventory used to provide hardware replacements to end- customers under PCS contracts and certain allocated facilities and information technology infrastructure costs.

A summary of our cost of revenue for the three and nine months ended September 30, 2016 and 2015 is as follows (dollars in thousands):



	Three Months Ended September 30,				Increase (Decrease)
	2016		2015		Amount			Percent
Cost of revenue:
Products	$	8,795	$	8,529	$	266		3%
Services	4,153		4,186		(33		)	(1)%
Total cost of revenue	$	12,948	$	12,715	$	233		2%



Nine Months Ended September 30,		Increase (Decrease)
2016	2015