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Akamai Technologies, Inc. (AKAM - Analyst Report) reported second quarter 2013 earnings of 46 cents per share, which jumped 24.3% from the year-ago quarter but declined 9.8% from the previous quarter and met the high-end of management’s guided range of 44 cents to 46 cents per share.

Including stock-based compensation expense and amortization of capitalized stock-based compensation, earnings were 37 cents per share, which matched the Zacks Consensus Estimate.

Revenues

Revenues jumped 14.1% year over year and 2.7% quarter over quarter to $378.1 million, slightly ahead of the Zacks Consensus Estimate. Revenues were higher than management’s guided range of $352.0 million to $362.0 million. Excluding Akamai’s Advertising Decision Solutions (“ADS”) business, divested in late January, revenues increased 18.0% year over year and 3.7% on a sequential basis.

The strong growth in revenues was primarily driven by better performances from most of the solutions. Revenues from Media delivery solutions grew 13.5% year over year but declined a modest 1.0% quarter over quarter to $179.4 million. The sequential decline was primarily attributed to lower video traffic due to shift of one large media customer from Akamai’s platform.

However, overall traffic growth remained strong for video, gaming, and social media, while it slowed down for software download.

Performance & security solutions revenues jumped 19.4% year over year and 7.2% on a sequential basis to $167.9 million. The year-over-year growth was due to higher demand for Akamai’s IP accelerator solutions.

Service & support systems achieved the strongest revenue growth in the quarter, up 41.3% year over year and 14.4% sequentially to $31.4 million.

Region wise, revenues from North America (71% of total revenue) jumped 11.0% year over year and 4.0% sequentially. International revenues (29% of total revenue) jumped 21.0% on a year-over-year basis but remained flat sequentially in the quarter. Resellers represented 20% of total revenue in the quarter.

Margins

Gross margin expanded 660 basis points (bps) year over year but declined 30 bps sequentially to 67.0%. The strong growth was primarily attributable to improving server network efficiency that continues to pull down costs.

Total operating expenses as a percentage of revenues surged 110 bps on a year-over-year basis and 290 bps sequentially to 39.6%. The year-over-year rise in expenses was primarily due to higher sales & marketing (S&M) expense, up 90 bps in the quarter. Research & development (R&D) expense increased 10 bps, while general & administrative expenses (G&A) remained flat in the quarter.

Sequentially, the strong increase in operating expenses was due to higher G&A expense, which increased 240 bps and a 90 bps surge in S&M expense, which fully offset a 60 bps decrease in R&D.

Adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) margin increased 60 bps on a year-over-year basis but decreased 130 bps sequentially to 43.8%. Operating margin expanded 550 bps from the year-ago quarter but declined 290 bps sequentially to 27.4%.

The strong year-over-year growth was driven by higher revenues and gross margin base. The sequential decline was due to sharp rise in operating expenses.

Net income as percentage of revenues was 17.1% compared with 14.4% in the year-ago quarter and 20.4% in the previous quarter.

Balance Sheet & Cash Flows

Akamai exited the quarter with cash and cash equivalents (including short-term marketable securities) of $530.9 million compared with $513.2 million in the prior quarter. Akamai generated cash flow from operations of $129.7 million in the reported quarter versus $103.0 million in the previous quarter. The company repurchased 1.1 million shares for $42.5 million in the quarter.

Guidance

Akamai expects revenues in the range of $380.0 million to $392.0 million for the third quarter of 2013. This represents 15.0% to 18.0% year-over-year growth. Akamai expects gross margin to be in the range of 76.0% to 77.0%. Operating expenses are projected to be up about $8.0 million to $10.0 million sequentially. Management expects adjusted EBITDA margin to be in the range of 42.0% to 44.0% for the third quarter.

Earnings are expected to be between 44 cents and 47 cents per share, including tax charge of $42 million to $46 million. Akamai forecasts capital expenditure (excluding equity-based compensation) of approximately $65.0 million to $70.0 million for the forthcoming quarter.

Our Take

We believe that strong demand for cloud infrastructure solutions, security, mobile products and online video will drive top-line growth going forward. Akamai’s products such as the Aura network solutions have been chosen by the likes of AT&T (T - Analyst Report), Orange, Swisscom and Korea Telecom.

Moreover, Akamai’s superior content delivery platform has been selected by the likes of Apple (AAPL - Analyst Report) due to its ability to provide high-quality service at a much lower rate compared to its peers. Additionally, the company’s dominance in the web application business is expected to be a significant growth catalyst going forward.  

However, intense competition has kept pricing under tremendous pressure, which is a significant headwind going forward. The recent entry of Cisco (CSCO - Analyst Report) in the security solutions market will boost competition going forward. In order to differentiate its products, Akamai is significantly investing in R&D and is also expanding its sales force through new appointments. This may hurt margins going forward.

Nevertheless, Akamai continues to manage its server networks in an efficient way, which is expected to reduce depreciation expense going forward. This will further boost gross margins. Moreover, aggressive share repurchase will boost its profitability in 2013.

Currently, Akamai has a Zacks Rank #1 (Strong Buy).

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