Q2 2021 Palo Alto Networks Inc Earnings Call
In M&A financing.
Well moving on to the quarter, let me start with solar storm, which many of you are describing is one of the most serious and sophisticated cyber attacks in the history.
The solar storm attack highlighted the enterprises need of comprehensive up to date, the map of the full IP infrastructure environments, including understanding of their own networks is whether the external.
Surfaces and supply chains.
In order of a security teams to have an edge over the adverse adversaries the need to embrace next generation technologies that leverage AI machine learning and automation.
To help our customers we set up of rapid response program and when I say rapid it was rapid on.
Acquisitions of expense Encrypts, it almost felt pretty soon.
And on the back the team swung into action, we updated xdr for all of the new threat vectors. The offered free of assessments from our keeps his team. The also evaluated the attack surfaces from the outside in for expense and discovered that there were dozens of effect of customers, including major government agencies of the large companies.
Many of which were actively communicating the solar star malware command and control infrastructure.
So far we've received over 1000 assessment of request and have completed over 500 believes that the solar storm attack raises the minute of long term criticality of the cyber security industry as a whole.
This will result in more awareness and focus on cyber security.
In all candor is the need of the hour of given the complete reliance of the technology in these times.
We expect that these this attack will be of wake up call to all enterprises to modernize the cyber security and will serve as the net incremental tailwind not just for us but also for the industry.
Before I turn to our fiscal Q2, 2021 results I haven't admission to make perhaps I was too cautious of the outset of the pandemic.
The current sustained performance.
<unk> resilience of our teams of execution has been turning more optimistic.
We had a great second quarter, the strong business momentum as the organization executed across all platforms. The strategies as a result, we beat Q2 guidance and consensus here on some highlights.
We delivered billings of $1 2 billion up 22% year over year, the strong growth across.
<unk>.
Let me give you some additional context due to COVID-19, we have provided billing plans to a select number of impacted customers.
When adjusting for these billing plans on billings momentum would've been several percentage points stronger in Q2 of them. The reported 22 per cent of year over year growth.
This trend has been in place and has been growing over the last few quarters.
The board Quaintly of revenue growth is higher than billings growth accelerated to 25%, reaching $1 billion of the first time ever yes, our first billion dollar of revenue quarter with accelerating revenue growth. The strength has been across the board and as we continue down the path of more and more of a subscription based model the revenue productivity will continue to rise.
Constant non-GAAP EPS was the dollar 55 of 36% from last year EPS expansion was driven by revenue growth on operating expense leverage.
While there continues to be beneficial impacts due to lower travel due to COVID-19.
Do continue to hire resources to support our product expansion, which we expect to continue.
Free cash flow margin for the quarter was 32.7 per cent.
In the first half of fiscal year, 'twenty, 'twenty, one and generated $838 million of free cash at a margin of 42.7 per cent.
We still expect free cash flow the normalized for the year round, our full year guidance due to some seasonality we've seen the second half.
Last quarter, we started the dialogue around network security.
In cloud and AI.
And share the P&L for both businesses.
We received great feedback on the additional transparency and we want to continue to drive more sorting spreadsheets on luxury home about it.
That's the first take a deep dive into network security business, which we're calling the metric.
Our networks business is undergoing a transformation.
Nation towards software and SaaS, making it more predictable and sustainable.
Started starting with the hardware follow of business and associated services.
The in building solutions only as hardware of you've chosen to off of security services the software subscriptions.
Over the last few years, we have doubled our security subscriptions of four to eight is the introduction of DNS and SD Wan Iot and.
D L P.
The great progress with DNS, which was acquired nearly 5000 customers since launch the new subscriptions along with the introduction of the hierarchy of support the platinum support has allowed us to increase on next generation firewall support the security subscription revenue of the percentage of net explanation from the hardware revenue over the last few years.
As you can see the sustained the 15th.
15% CAGR and hardware subs in support of hardware contribution has gone from 39% of 29 per cent in that time to.
To continue to drive software growth, we have made the subscriptions available across all form factors.
The <unk> flex and Prisma access to low, but just recently completed the process of making it available on.
Our product Prisma access for the O, which is a far more on the product.
Turning to our software firewall.
We continue to see a transformation of the software form factors.
With the introduction of advanced features cloud native integrations of the developed on the industry's first containerized next generation firewall, we can reduce the product market fit is the result.
Haven't.
The Cnc's go where 60% of the first half of FY 'twenty one.
The recently launched firewall of flex another industry first the unique approach on how we offer virtual firewalls and see in the cities to increase customer flexibility and enable the consumption model to drive additional growth.
This new flexible consumption models features credit based licensing the lets you consume.
<unk> the Cnc's firewalls choose the number of Cpus needed at any or all of our eight security subscriptions just previously negative to five.
We believe that by providing greater flexibility to our customers, we will continue to drive growth and achieve greater subscription attach rates.
To highlight how our software firewalls of transforming our customer support security the Clos.
We'll be able to with the leading telecommunications company secure their fiber network the true.
In addition to five G is driving a number of very important architectural changes, including a highly distributed design containers is the foundation and security for enterprise customers is of critical business drivers the refers to deliver enterprise.
And service provider of classified gene container security.
Close to the in doing so the empower our customers to provide a secure five day service to their customers and provide managed security offerings to the enterprise customers.
Now, let's talk about Prisma access.
When COVID-19 dramatically changed how work gets done the companies across industries around the world the needs for security of remote workforce have also changed.
The longest.
Long is it sufficient to have partial access applications.
Or what are sometimes called good enough security overnight.
Overnight connectivity to every application was needed security became the business critical and ease of experience determine the difference between maintaining productivity of falling behind.
Even before Covid accelerated this change you're already working on the turning prisma.
The access into an industry, leading solution for enabling of secured on what work force.
What initially started as the global protect cloud service started the transform in 2019 of the launch of Prisma access the.
The last year in the house, we built out industry, leading capabilities in that timeframe Prisma access has gone from less of 150 customers now nearly a thousand customers.
30% of of the Fortune 100.
Last week, we announced Prisma access to total the biggest update since introducing the service.
Prisma access the full security platform of the cloud and machine learning based security preventing unknown threats in line at line speed of full firewall delivered to the service and includes features like.
And trusted network access secure web gateway, Casspi, DLP and Iot security.
Prisma access it gives both web and non without so as an example, conventional web security approach to cloud delivered security Mrs 53 per cent of all remote workforce threats that right over non web apps.
Sets cannot be.
Zero, Unlike alternative solutions on the market the preventative of Prisma access.
We have completely re imagine the way customers manage the prisma access with an entirely new cloud based UI the delivers better security outcomes through buildup of security assessments.
The new digital expense management add on provides native enter on visibility and insights to safi and the ability to sell field.
Ignore debt problems occur.
Prisma access is built on the low latency and highly scalable infrastructure with Google cloud as the backbone.
Lastly, the Prisma access along with the Prisma is the U N a rebound of product from cryogenics deliveries of complete chassis offerings. The.
Recent edition of cloud place, we now have of SaaS platform allows for an API platform for seamless.
Seamless third party service integration.
For the Max of the security enables access to all applications. The north best in class security to meet enterprise security needs without compromise and enables the user experience that maintain or even improve worker productivity.
In Q2, we closed an eight figure deal with the leading technology company with over 100000 employees the business has over 100.
Countries as part of the digital transformation the company was launching of new remote work initiative.
In order to realize the vision they needed a secure and optimize the network that the support of flexible and we're working on.
All of the networks for the ultimately chosen the head of several of our security peers as the customer source of the only vendor that was offering of true sassy solution ultimately.
<unk> prisma access to the tea product given the the golden rapidly enables of Borgwarner, but the customer also the person is next generation firewalls. The M series of firewalls enhance their store capabilities through cortex xdr of excellent.
This was definitely across the platform deal to Ricardo and we look forward to a great partnership of the customer going forward.
Yeah.
Lastly, several of you have often.
Carlos about the software transition of the associate economics on it.
The first phase of the M and Prisma access purchases have mostly been incremental use cases.
Put together a few key examples on what we see in the market, where the customer does choose to replace the hardware based security solution the software SaaS.
We use cases of Ibm's replace hardware firewalls.
Like this example of the local retail store running software firewalls on third party hardware along with other software applications. We estimate the the five year revenue of the the DMC. The deal is roughly equal with that of the deals deploying of separate physical net cash level.
So of use cases of our prisma access to place the hardware firewalls.
We took the typical branch office use case and estimated.
Weighted the five year revenue of of Prisma access deal is two times larger than the next generation firewall deal from.
On a customer perspective, we estimate of the customers' total cost of ownership with generally the deals as they move to virtual and cloud delivered form factors as you know prisma access only year old so our gross margins arent as favorable as hardware, but do we expect them to approval of time.
Non.
Now moving over and looking at on cloud and the either of them.
We started this call by discussing the solar storm, but didn't talk about our own experience within the attempted sort of restaurant attack.
Back in December we shared with the broader security community of cortex, Xdr instantly blocks of solar storm attempt on follow up networks. Thanks, with the behavioral threat protection.
Current capability.
We continue to be bullish on the rapid pace of innovation that is going into our cortex xdr product in fact cortex 60 or was recently recognized by Asian competitors as the strategic leader and the latest endpoint prevention and response of obligations.
While still delivering lower total cost of ownership and several end.
Endpoint security peers.
Importantly, last month, the cortex, Xdr and data Lake achieved federal moderate authorization, which should make it a key piece of technology of the federal space.
As further validation of our vision, we see more and more players on the endpoint security space rushing to jump on the extra week that we have established two years ago.
Overall, we continue to see.
<unk> portfolio of developing the industry's first proactive security platform and you see penetration into the largest companies continued to grow.
35 per cent of our global 2066 per cent of the fortune 100 or on our cortex customers, indicating the automation advanced threat detection of top of mind from these customers.
In Q2, we closed the deal of the retailer the.
See the courtyard cortex, xdr, Arctic trees visibility control and protection of the endpoints by adopting a more complete solution with xdr rather than using edr.
Cortex Xdr support from mobile the customers, you're also able to easily extend cortex xdr to additional devices leveraged onsite of their stores to unify the endpoint security policy across the entire.
The company.
And then expanded the conversation to the best of Sox operational challenges by demonstrating how cortex ex source out of the box preprocessing rules and alert de duping could reduce the alert volumes dramatically with the combination of enhanced visibility of protection and control of the entire endpoint of states, coupled with the automating and orchestrating the lift volume the cortex platform.
The enterprise it impact on the industrial.
Switching to Prisma cloud Prisma cloud is building the most comprehensive and best of breed cloud Native security platform and we continue to see strong customer interest in the cloud is now quite over 2000 customers. The 74 per cent from Fortune 100, and secures two and a half billion cloud workloads.
We also continue to see an increase of the Prisma cloud customers, who are using both cloud security posture management and cloud workload protection of our containers on service lab services of applications now at 50%.
Additionally, last month Prisma cloud also achieve federal moderate authorization, along with cortex 60 on daily as he said.
This allows U S government customers.
The leverage on visibility compliance and governance capabilities for security of multi cloud and the Gulf cloud deployments.
The last day of I'd like to highlight of the largest prisma cloud deals that you've ever closed an eight figure deal with the leading SaaS company like many of the industry, they're moving from a private cloud environment of the public cloud as part of the shift and moving to of Containerized application architecture.
The customer had unique scalability availability and vulnerability of requirements.
If of securing the containers across AWS G C P on azure of clouds.
The maturity the superior whether on the ability detection of the container security capabilities and the scalability of runtime protection of Prisma cloud help convince the customer to choose Prisma cloud of their container security platform of choice.
Last week, we announced our intent to acquire bridge true an early pioneer of security for the developer.
The next Big Challenge, we're taking on in cloud security is what is known of shift less security.
The developers are playing an increasingly important role in cloud security both in terms of what products are used and how the operationalize.
Today of singles.
And on development can be replicated hundreds of times over resulting in thousands of security list of effect.
This drives down productivity and increase the likelihood of security issues on production applications.
Shift left integrated security into the Dev ops process the cash these issues upfront.
Where they are easy and quick to fix is the win for.
Developers on the wind for security.
Richard who recognize the need for shifting of security and pioneering approach the Infrastructure's code.
Designed for developers.
To engage the developer community the released in the open source protocols check all of that was downloaded over a million times in the last year and of paid for product gaining early traction.
On the.
He bring network security and Claudia together, we see tremendous synergy centered to the power of the platform the balls networks.
We're looking at on a global 2000 customers. We see that these customers are increasingly adopting strata of prisma and cortex 68 per cent of our global telling the customers that purchased more of them on platform up from 62 per cent a year ago and 56% two years.
Given the momentum that we're seeing we're raising guidance for the full fiscal year of fiscal 'twenty 'twenty, one and at the midpoint of guide we expect total revenue growth of 22 per cent of 200 basis points from our prior guidance.
Total billings growth of 20% of 100% basis points from our prior guidance slightly lower than our revenue range due to the impact of billings plans as we discussed earlier.
We continue to expect and next generation security of right at one point of one 5 billion of 77% year of weird.
Product revenue flat year over year unchanged from our prior guidance Lastly, non-GAAP operating margin of 50 basis points of adjusted free.
Adjusted free cash flow of 29% unchanged from our prior guidance as you can.
Two of the investor capture the opportunity of the market.
Now, let's review our fiscal.
Your projections for net second place. The overall, we are confirming our place the projections, while raising net billing for 100 basis points in revenue by 200 basis points, given the strong performance of SaaS and BMC.
Moving on to adjusted free cash flows we expect.
The network security will deliver free cash flow margin of 41 per cent of FY 'twenty, one up from 38 per cent in FY 'twenty, we expect cloud in the eye of free cash flow margin of negative 43% of FY 'twenty, one and improved from negative the coupon from negative 59% of Duane.
As mentioned last quarter over the next few years, we expect cloud on the Ida achieved gross operating and free cash flow margin.
With the industry benchmark as we gain scale.
And our customer base matures and becomes more efficient.
As you can see we have been able to dig deeper on INR resources further with our business areas of places like of medicine.
And as I noted earlier, the tremendous set of its tremendous synergies and the power of the platform It falls of networks.
In light of the same time, we've also been increasing our focus on our software transformation of the hardware firewalls, but building of new clubs in the eye business to continue this transformation and strengthen our financial profile, we feel that we can create more focused by aligning the teams at on that second place soon.
Sort of officially going from three speed both on the lining of that force on these two business areas with six focused efforts.
SP posted on our next fiscal year net.
Second we're focused on driving the transformation from hardware to software and delivering a best of breed high resolution of acquired.
As you saw this transformation of the actually financially neutral to net positive for us in all of these beneficial to the customers the speedboats suitably firewalls, including virtual firewalls, sassy and our growing security.
Security subscriptions.
The business day to day, we would drive cloud security of cortex efforts of proven debt with focus on an opportunistic organic and inorganic strategy. We can create an industry leading set of solutions for cloud security of institutions like ex sort of ex the argument about AI and ml.
Third we need continued investment for us to drive customer scale and for us to continue the investment.
With continued profit development customer adoption.
They'll do so by continuing our focus on the cortex, Prisma cloud and Palo Alto networks incident response services the newly formed the team combining crypts of against 42, which when do you get more has joined the help lead.
We're also excited announced that the board is concerned you of finalizing the filing needed for an equity structure.
For the place of business. Our goal is to make sure of the value of the place of business is more transparent.
In addition, the burden of proof the development of a vehicle for employees to invest the Susquehanna like equity strengthening of the alignment of shareholders and the interest of employees regarding the success of workplace Tech business.
Lastly, I'm also proud to say the followed the networks recently made a commitment to address.
The climate change, which Luis will go over in more detail around how we will be carbon neutral by 2030 with that let me turn the call of at least thank.
Thank you and the cash.
Climate change the sand existential threat and the Palo Alto networks, we're all in to do our parts of address these crisis, we have done some important the work up to this point, including <unk>.
Certifications of recycling and community involvement we plan to step up all of that forms and contribute even more.
I'm proud of our commitment to be carbon neutral by 2030, we have already activated renewable energy on high quality carbon offset strategies.
We will be reducing our emission was aligned to science based targets.
Yes, and we will work across our value chain to have lasting impact and advocates the worst shape.
The Paris agreement calls on all of us to limit global warming below two degrees Celsius by 2050, we plan to reach our commitments by 2030, we will keep you informed of our progress along the way we.
We will continue to per.
Anticipating the carbon disclosure project and the star.
Our sharing plans and progress of all.
On progress using protocols set by the passport on climate related financial disclosures.
During the World Economic Forum Davos agenda last month, we committed to increase transparency by reporting on the international business Council.
Sales stakeholders capitalism metrics over time, it would take creativity collaboration and the visionary thinking to protect our planet and were up from the challenge we call on others to join US consider aligning to the Paris agreement and major commitment to do your part now.
Now turning on turning to our financial.
Think of any cash indicated we had a great second quarter, and we continue to deliver winning innovation and adding new customers at a fast pace.
The strength gives us confidence to raise our guidance for the year I would like to start with our performance in firewall as a platform or FX, which had a great quarter as we continued to grow faster.
The socket.
F N billings grew 21% in Q2 as we continue to transition from hardware to software and SaaS form factors as you can see as our billings declined 3% in Q2, 'twenty and over the last four quarters, we've been able to drive sustained execution on growth in this area to 'twenty.
On the month per cent in Q2 'twenty one.
The next generational security of your Ngls continues to expand and now represents a quarter of our total billings of 300 out of the $9 million growing 59% year over year in Q2, we added over $120 million New Ngls.
Reaching 800.
$21 million.
Can you remind you.
At our analyst our last analyst day in September of 2019, and G. S was the gleaming awry and we called for 175 billion in billings by 2022, we're on track to beat those numbers.
In Q2 total revenue grew 25%.
101 points here of $1 billion.
Looking at growth by geography, the Americas grew 27% EMEA grew 24% and APAC grew 14%.
Q2 product revenue of $255 million increased 3% compared to the prior year.
Q2 subscription revenue of.
$462 million increased 35%.
So poor revenue of $300 million increased 32% in total subscription and support revenue of $762 million increased 34% on accounted for 75% of total revenue.
Excluding revenue from Christmas on expense.
Two one support revenue increased 31%.
Turning to billings Q2, total billings of $1 2 billion net of acquired deferred revenue increased 22%.
The strength was broad based as we continue to see strong execution across the company. The dollar weighted contract duration for new subscription and support billings.
The correction in the quarter were slightly down year over year, but remained at approximately three years.
For the first half of fiscal 'twenty, one billings of $2 $3 billion increased 21% year over year.
Total billings were $495 million of 3% and accounted for 22% of total billings.
Subscription billings were $1 2 billion of 23% support billings were $733 million of 34%.
Total deferred revenue at the end of Q2 was $4 2 billion, an increase of 30% year over year.
The remaining performance obligation or <unk> was four.
$4 $6 billion on increase of 41% year over year in.
In addition to adding approximately 2400, new customers from the quarter.
We continue to increase our wallet share of existing customers.
Our top 25 customers all of whom made of purchase this quarter spent a minimum of $59 million.
In lifetime value through the end of fiscal Q2, 'twenty to 'twenty one of 20.
27% increase over the $46 million in the comparable per year prior year period.
Q2, gross margin was 75, 3%, which was down 10 basis points compared to last year, mainly.
Mainly driven by a higher mix of our <unk> products, which are less mature.
Q2 operating margin was 19, 8% an increase of 190 basis points year over year.
The operating margin expansion is driven by operating expense leverage behind the operational efficiencies lower travel and event expenses due.
Due to COVID-19, which more than offset the incremental investment in head count.
We ended the second quarter with 9038 employees, including 176 from expense of the close of the acquisition on <unk>.
GAAP basis for the second quarter net loss increased to a current $42 million or $1 48.
<unk> per diluted per basic and diluted share.
Non-GAAP.
Net income for the second quarter increased 28% to our current $54 million or $1 55 per diluted share our non-GAAP effective tax rate for Q2 was 22%.
Turning to cash on balance sheet items.
We finished january with cash cash equivalents and investments of $4 billion.
On December four 2020, our board of directors authorized an increase of our share repurchase program and extended the expiration date to December 31 2021.
As of January 31, 2021 1 billion.
Cash remained available for repurchases.
Q2 cash flow from operations of $365 million increased by 19% year over year.
Free cash flow was $332 million of 29% on a margin of 32, 7%.
DSO was 60 days.
An increase of three days from prior year period.
Turning now to guidance on modeling points for the third quarter of 2021, we expect billings to be in the range of one point to two to $1 billion to $4 billion in.
An increase of 20% to 22% year over year.
We expect revenue to be in the range.
Range of one share of five to $1 <unk> $6 billion, an increase of 21% to 22% year over year.
We expect non-GAAP EPS to be in the range of $1 27 to $1 29, which incorporates net expenses related to the proposed acquisition of breach true using.
<unk> hundred two of 102 million shares at the.
Additionally, I'd like to provide some modeling points.
We expect our Q3 non-GAAP effective tax rate to remain at 22% cash.
Capex in Q3 will be approximately 30% to $35 million.
As Nick has reviewed.
Using our for the full fiscal year were again, raising our guidance across most metrics.
We expect billings to be in the range of five point of one $3 billion to $5.18 billion, an increase of 19% to 20% year over year.
We expect next generation security IRR to be approximately 115 billion.
The areas, an increase of 77% year over year.
We expect revenue to be in the range of $4 152 420 billion.
An increase of 22% to 23% year over year.
We expect product revenue to be flat year over year, we expect operating margins to improve by 50 basis points year over year.
Year.