Q2 2024 Fortinet Inc Earnings Call
Good day, and thank you for standing by welcome to afford in that second quarter earnings call.
Speaker Change: At this time all participants are in a listen only mode.
Operator: After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1-1 on your telephone, and you will then hear an automated message advising your hand is raised.
Speaker Change: After the speaker's presentation, there will be a question and answer session to ask a question. During the session you will need to press star one on your telephone and you will then hear an automated message advising your hand as rates.
Operator: To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded and the second quarter of 2024 before providing guidance for the third quarter of 2024 and updating the full year. We will then open the call for questions, both of which are posted on our Investor Relations website. We achieved record operation margin, which increased 820 basis points to 35%. For over 20 years, we have been leading the shift to networking and security convergence. We believe we are the only company that has built all the SASI functions organically into a single operating system.
Speaker Change: Withdraw your question. Please press star one one again, please be advised that today's conference is being recorded.
I'd now like to hand, the conference over to your first speaker today, Erin Oh body.
Speaker Change: From the director of Investor Relations Erin.
Erin <unk>: Thank you and good afternoon, everyone. This is Erin <unk> director of Investor Relations at Fortinet I am pleased to welcome everyone to her column.
Speaker Change: Discuss financial results for the second quarter of 2024.
Ken Xie: Joining me on today's call are kenzie fortinet.
Speaker Change: Fortinet founder Chairman and CEO, Keith Jensen, our CFO and John <unk>.
Ken Xie: This is a live call that will be available for replay via webcast on our Investor Relations website Ken.
Speaker Change: We will begin our call today by providing a high level perspective.
On our business.
Speaker Change: Keith will then review our financial and operating results.
Speaker Change: Second quarter of 2024 before providing guidance for the third quarter of 2024 and updating the full year. We will then open the call for questions.
Speaker Change: The Q&A session. We ask that you. Please limit yourself to one question and one follow up question to allow others to participate.
Speaker Change: Before we begin I'd.
Speaker Change: To remind everyone on.
Speaker Change: On today's call that we will be making forward looking statements and these forward looking statements are subject to risks and uncertainties, which could cause actual results to differ materially from those projected please refer to our SEC filings and in particular the risk factors in our most recent Form 10-K and Form 10-Q for more.
Speaker Change: Sure.
Speaker Change: All forward looking statements reflect our opinions only as of the date of this presentation and we undertake no obligation and specifically disclaim any obligation to update forward looking statements.
Speaker Change: Also all references to financial metrics that we make on today's call are non-GAAP unless stated otherwise our GAAP results and GAAP to non-GAAP reconciliations are located in our earnings press release and the presentation accompanying todays remarks.
Speaker Change: Both of which are posted on our Investor Relations website.
Speaker Change: Our prepared remarks for today's earnings call will be posted on the quarterly earnings section of our Investor Relations website immediately following today's call.
Speaker Change: Lastly, all references to growth.
Canada: On a year over year basis, unless noted otherwise I will now turn the call over to Canada.
Canada: Thank you Aaron and thank you to everyone for joining our call. We are pleased with our strong execution in the second quarter as we successfully balanced growth and profitability.
Speaker Change: We achieved record operation margin, which increased a 120 basis points to 35%.
Speaker Change: <unk> 2 billion in revenue and the high end of the guidance range.
Speaker Change: Our full year plenty plenty for revenue on a push your margin guidance.
Speaker Change: Continuing to invest for growth gain in market share and secure networking and <unk>.
Speaker Change: Vesting in fast growing unified SaaS.
Speaker Change: Operation market.
Speaker Change: <unk> will be customers increasingly recognize our 40 oz and for the ACP technology awfully hard to Pemex better performance than our competitors.
Speaker Change: While <unk> and <unk>.
Speaker Change: Security effectiveness and providing a low total cost of ownership.
Speaker Change: For over 20 years, we have been leading the shift to more working at acuity convergence.
Speaker Change: And the industry projection now.
Speaker Change: Indicates to Q&A won't you will pass additional network by 26 four years earlier than previously anticipated.
Speaker Change: In the second quarter unified SaaS accounted for 23% of our total building up one point.
Speaker Change: We expect our differentiate unica SaaS offering to become a leader in the SaaS market.
Speaker Change: We believe we had only company that has built all the SaaS functions organically in a single operating system, we have a converged networking security stack, including our market, leading SD Wan <unk>, a secure web gateway has to be <unk> and many other innovations.
Speaker Change: Our SaaS offering provide flexible enforcement delivery in a pattern of user experience, whilst securing access to application on premise.
Speaker Change: Sure.
Speaker Change: Furthermore, we continue to build our own SaaS delivery infrastructure.
Speaker Change: <unk> language, our 40 gig technologies, providing us with a competitive long term cost advantage.
Speaker Change: As announced earlier today, we acquired next DRP, a next generation cloud native SaaS data protection platform extending from endpoint for cloud.
Speaker Change: Allowing us to enter the stand alone enterprise DLP market.
Speaker Change: <unk> integrated market results 40 SaaS solution.
Speaker Change: We also recently improved our position in the magic quadrant for single vendor SaaS.
Speaker Change: The only vendor included in all five of our major now with security Magic Quadrant senior.
Speaker: Single Vendor SASE, Network Firewall, SD-WAN, Secure Service Edge, and Enterprise Wireless LAN Infrastructure. Enhancements include a new recognized appliance, advanced secure networking and secure operation capability, and an expanded partnership with leading OT vendors, reflecting Fortinet's commitment to security for the growing cyber-physical system market. Before turning the call over to Keith, I wish to thank our employees, customers, partners, and suppliers worldwide for their continued support and hard work. Combined, Fortinet will gain over 900 customers and talented sales and engineering teams. We are committed to responsible updates and deployment processes. Please visit our trust website at Fortinet.com backslash trust.
Speaker Change: Single vendor SaaS.
Speaker Change: Now, we'll firewall SD Wan.
Speaker Change: So if you assume its age and enterprise wired and wireless Lan infrastructure.
Speaker Change: Each of these solutions.
Speaker Change: Our single unified operating system for the U S.
Howard: Howard 40 chord secure service on the unified management.
Speaker Change: The Institute of Congress for 10% of total dividend.
Speaker Change: The second quarter up one point.
Speaker Change: Our comprehensive, particularly our portfolio backed by over a decade of AI experience offers the broadest range of sensors and advanced analytics.
Speaker Change: Continuous excess activity to identify sign ups type of size.
Speaker Change: 40, AI harness AI to turbo charge, our platform and help security operation team make better informed decision and response to SaaS fostered by.
Speaker Change: The most complex task.
Speaker Change: Fortinet is available in full the analyzer for the Sim and 40 store and will soon be available either fortinet products.
Speaker Change: Yes addition, we are pleased to further expand our secure our portfolio with the acquisition of leasehold and believe that together our solution from one of the most comprehensive full stack cloud security solution available from a single vendor.
Speaker Change: <unk>.
Speaker Change: Joining me develop AI driven cloud native application protection platform will be combined with the power of Fortinet security fabric platform on ensuring broad protection across network cloud and endpoint.
Speaker Change: This acquisition increased our total addressable market about 10 billion and add a team of talented engineers dedicated to cloud native security. While also expanding our sales force that can sell the entire fortinet portfolio of solutions.
Speaker Change: Yesterday, we announced a sample assessment before them OTC accretive platform, which are these 10 as the most comprehensive ultra secreted platform on the market.
Speaker Change: Huntsman included new recognize appliance.
Speaker Change: <unk> secure networking and security solution capability and expanded partnership with leading Ot vendors, reflecting fortinet commitment to circuity for the growing cyber physical systems market.
Speaker Change: As further evidenced of our innovation and commitment to excellence in OTT.
Speaker Change: We recently earned a prestigious Red Dot product Design Award 12, 40 <unk> seven.
Speaker Change: <unk> is do you expect that you model.
Speaker Change: Fortinet was the only post acute company received this recognition.
Speaker Change: Shree next generation firewall.
Speaker Change: Before turning the call over to Keith wish consent, all employees customers partners and suppliers worldwide for their continued support and hard work.
Keith: Thank you Ken and thank you Erin and good afternoon, everyone.
Speaker Change: Let's start with the key highlights for the second quarter overall, we're very pleased with our execution in the quarter.
Keith: We achieved record gross and operating margins at 81, 5% and 35, 1%, respectively, while delivering top line numbers that the high end of our guidance range.
Speaker Change: Revenue grew 11%.
Speaker Change: Revenue exceeded our expectations driven by robust software revenue growth sequential hardware growth that more closely aligns with historical norms.
Speaker Change: We also added 6300, new logos as we continue to invest in our channel partners.
Speaker Change: As Youll hear in a moment, we believe we are on a pace for another rule of 40 year.
Speaker Change: But at the same time, we accelerated our investments in the fast growing unified SaaS security operation markets for the acquisitions of <unk> and DLP.
Speaker Change: <unk> strengthens our position in the high growth seen that market that expands our total addressable market by $10 billion.
Speaker Change: While next DLP.
Speaker Change: Our position in the Standalone enterprise data loss prevention market.
Speaker Change: Combined fortinet will gain over 900 customers and talented sales and engineering teams.
Speaker Change: And I'll just pause here to offer a very warm welcome to team members from both companies.
Speaker Change: Continuing with our Q2 highlights we have taken the lead in partnering with a U S cyber security and infrastructure Security agency our CFO.
Speaker Change: Through a secure by design pledge and are leading with a responsible transparency practices.
Speaker Change: We want to emphasize we understand customer trust is paramount to our business.
Speaker Change: Our continued success across all customer segments and each of our three pillars represents hundreds of thousands of end customers.
Speaker Change: <unk> and buying Fortinet security solutions.
Speaker Change: Simply stated this is a significant scale advantage and our responsibility few others have.
Speaker Change: And also offers customers validation at a very robust level.
Speaker Change: We are committed to responsible updates and deployment processes supply chain controls product security measures and transparency.
Speaker Change: Do you understand more about the proactive measures, we take the safeguard our customers and our reputation. Please visit our trusts website at Fortinet Dot Com Backslash Trust.
Speaker Change: Looking at billings in more detail total billings were consistent year over year at $1 $54 billion.
Speaker Change: Overcoming the headwind from the drawdown in backlog in the comparable quarter.
Speaker Change: At the same time total bookings increased year over year and more importantly, the sequential growth rate approach pre COVID-19 pre supply chain norms.
Speaker: Unified SASE and SecOps delivered strong growth along with software, while product sales recovered more than expected. Both fillers are gaining significant momentum within our install base, as over 90% of unified SASE and PSYCOP billings are coming from existing customers. Larger enterprises continue to be our largest customer segment, with large and mid-enterprises combining to represent 86% and 82% of Unified SASE and SECOP solutions, respectively. Within Unified SASE, 40 SASE buildings continue to grow at triple-digit rates, as existing customers can seamlessly integrate our solution within minutes to secure their hybrid workforce. While 40 client customers are able to use a single agent to secure internet, private, and SaaS applications, we've also integrated 40AP with 40SASI for securing thin edges on unmanaged devices.
Speaker Change: Unified SaaS <unk> and <unk>.
Speaker Change: <unk> delivered strong growth along with software while product sales recovered more than expected.
Speaker Change: We continue to see significant progress from our investments in both pillars.
Speaker Change: We saw strong pipeline growth of 45% for unified SaaS fee.
Speaker Change: 18% for SEC ops.
Speaker Change: Both pillars are gaining significant momentum within our installed base is over 90% of unified SaaS fee and <unk> billings are coming from existing customers.
Speaker Change: Larger enterprises continue to be our largest customer segment with large and mid enterprises, combining to represent 86, and 82% of unified SaaS and <unk> solutions respectively.
Speaker Change: Within unified SaaS fee.
Speaker Change: <unk> SaaS billings continued to grow at triple digit rates as existing customers can seamlessly integrate our solution within minutes to secure their hybrid workforce.
Speaker Change: While 40 client customers are able to use a single agent to secure internet.
Speaker Change: Right.
Speaker Change: <unk> applications.
Speaker Change: We've also integrated 40, AP with 40, SaaS fee for securing thin edges and unmanaged devices.
Speaker: Our unified SASE solution continues to gain market recognition. Rounding out the Billings Commentary, the SMB was again the top performing customer segment, while International Emerging was again our best performing geography. On an industry-vertical basis, technology and transportation grew at double-digit rates, while service providers and manufacturing were more challenged. Turning to revenue and margins, Total revenue grew 11 percent to $1.434 billion. Service revenue of $982 million, Route 20%, accounting for 68.5% of total revenue. As noted on slide 5, Unified SASI includes SSE and related technologies together with SD-WAN.
Speaker Change: Our unified SaaS solution continues to gain market recognition.
Speaker Change: For the second consecutive year, we've been recognized as a challenger in the Gartner magic quadrant for single vendor SaaS fee.
Speaker Change: With the third highest placement and the ability to execute axis.
Speaker Change: And as mentioned earlier.
Speaker Change: We are further improving our <unk> SaaS solution by adding powerful data loss prevention capabilities from next DLP.
Speaker Change: Rounding out the ability of commentary SMB was again the top performing customer segment, while international emerging was again, our best performing geography.
Speaker Change: On an industry vertical basis technology, and transportation grew at double digit rates, while service provider manufacturing were more challenged.
Speaker Change: Turning to revenue and margins.
Speaker Change: Revenue grew 11% to $1 $43 4 billion driven by service revenue growth in software licenses.
Speaker Change: Service revenue of $982 million grew 20%.
Speaker Change: We accounted for 68, 5% of total revenue.
Speaker Change: Service revenue growth was led by 36% growth in SEC ops, and 27% growth in unified SaaS.
Speaker Change: As noted on slide five unified SaaS includes FSC and related technologies together with SD Wan.
Speaker: Product revenue decreased 4%, but better than expected, to $452 million. Excluding the impact of backlog, product sales growth improved 14 points quarter over quarter and a similar amount year over year. Software license revenue growth continued to accelerate at 26%, a nearly five-point increase in the software mix year over year. Combined revenue from software licenses and software services, such as cloud and SaaS security solutions, increased 32%, accelerating from 23% a year ago and providing an annual revenue run rate of over 800 million dollars.
Speaker Change: Product revenue decreased 4%, but better than expected to $452 million.
Speaker Change: Excluding the impact of backlog product sales growth improved 14 points quarter over quarter, and a similar amount year over year.
Speaker Change: Software license revenue growth continued to accelerate at 26%.
Speaker Change: And represented a high teens percentage of product revenue.
Speaker Change: At nearly five point increase in the software mix year over year.
Speaker Change: Combined revenue from software licenses and software services, such as cloud and SaaS Security Solutions, Inc.
Speaker Change: <unk> increased 32%.
Speaker Change: Accelerating from 23% a year ago.
Speaker Change: And providing an annual revenue run rate of over $800 million.
Speaker Change: Yes.
Speaker: Total gross margin increased 360 basis points to a quarterly record of 81.5% and exceeded the high end of our guidance range by 400 basis points, benefiting from higher product and services gross margin, as well as a five-point mixed shift to higher-margin service revenues. Product gross margin of 66% increased 250 basis points year-over-year, mainly due to increased software mix and lower indirect costs.
Speaker Change: Total gross margin increased 360 basis points to a quarterly record of 81, 5%.
Speaker Change: That exceeded the high end of our guidance range by 400 basis points benefiting from higher product and services gross margin as well as a five point mix shift to higher margin service revenues.
Speaker Change: Product gross margin of 66% increased 250 basis points year over year, mainly due to increased software mix and lower indirect costs.
Speaker: On a quarter-over-quarter basis, product-loss margin increased from 56% to 66%, as hardware demand increased and inventory levels and related inventory charges moved closer to historical norms. Service gross margin of 88.6%, increased 240 basis points, as service revenue growth outpaced labor cost increases and benefited from the mixed shift towards higher-margin 40-guard security subscription services. Operating Margin increased 820 basis points, to a quarterly record of 35.1%, and was 840 basis points above the high end of our guidance range, reflecting the record gross margin as well as cost efficiencies within the business.
Speaker Change: On a quarter over quarter basis product gross margin increased from 56% to 66%.
Speaker Change: As hardware demand increase in inventory levels and related inventory charges move closer to historical norms.
Speaker Change: Service gross margin of 88, 6%.
Speaker Change: Increased 240 basis points as service revenue growth outpace labor cost increases and benefited from the mix shift towards higher margin <unk> security subscription services.
Speaker: Looking at the statement of cash flows, summarized on slides 16 and 17, pre-capitalization was $319 million for the quarter and $927 million for the first half of 2024, or $1.1 billion after adjusting for real estate and infrastructure investment. Cash taxes in the quarter were $252 million.
Speaker: As a reminder, last year's second quarter benefited from the deferral of approximately $190 million in cash tax payments, which were ultimately paid in the fourth quarter of 2023. Infrastructure investments totaled $23 million. The average contract term in the second quarter was 28 months, flat year over year and up one month quarter over quarter. DSO decreased 7 days year-over-year and increased 2 days quarter-over-quarter to 68 days. While we did not repurchase shares in Q2, share buybacks have totaled $5.3 billion over the last four plus years, and the remaining buyback authorization is $1 billion. Now, I'd like to share a few significant wins from the second quarter.
Speaker Change: While we did not repurchase shares in Q2 share buybacks have totaled $5 3 billion over the last four plus years and the remaining buyback authorization authorization is $1 billion.
Speaker: In a seven-figure deal, an international government agency purchased 12 solutions across all three pillars, including eight SecOps solutions. This new customer selected Fortinet because of our operating system's ability to consolidate over 30 networking and security functions into a single unified platform, covering SecOps, SASE, and secure networking. The customer was impressed with the integrated security, end-to-end visibility, and automated response features of our 40 OS operating system. Next, in a seven-figure win, a large utility company expanded its partnership by signing its first enterprise agreement with us to safeguard its OT environment. This deal replaces five legacy vendors and includes ruggedized equipment deployed at the customer's power plants, control centers, and substations.
Speaker Change: Now I'd like to share a few significant wins from the second quarter.
Speaker Change: And a seven figure deal and International Government Agency purchased 12 solutions across all three pillars, including eight <unk> solutions.
Speaker Change: This new customer selected Fortinet because of our operating system's ability to consolidate over 30 networking and security functions into a single unified platform covering SEC ops SaaS fee.
Speaker Change: Secured networking.
Speaker Change: The customer was impressed with the integrated security end to end visibility and automated response features of our 40 OS operating system.
Speaker Change: Next in a seven figure win a large utility company expanded our partnership by signing their first enterprise agreement with us to safeguard their ot environment.
Speaker Change: This deal displaces by legacy vendors and includes Ruggedized equipment deployed to the customers' power plants control centers and Substations.
Speaker: Keys to this expansion, then, were our proven expertise in securing critical infrastructure and our price for performance advantage. And lastly, in a competitive displacement win, our retail store chain purchased our 40 Sassy solution in a seven-figure deal. This customer chose Fortinet because of our integrated FortiOS platform, as they were able to seamlessly integrate FortiSassy with their existing Fortinet security solution.
Speaker Change: Key to this expansion win where our proven expertise in securing critical infrastructure and a price performance advantage.
Speaker Change: And lastly in a competitive displacement win at retail store chain purchased our 40 SaaS solution and a seven figure deal.
Speaker Change: This customer chose Fortinet because of our integrated 40 OS platform as they were able to seamlessly integrate 40 SaaS.
Speaker Change: With their existing Fortinet security solutions.
Speaker: Now, I'd like to offer some comments on customer inventory digestion and the firewall refresh cycle. Last quarter, we pointed to a 25% improvement in the number of days to register 40-card contracts from its peak and view this as an early but soft indicator that, quote unquote, inventory digestion at end users appears to be normalizing, and the firewall market could start to show signs of recovery. To provide an update on this indicator and other signs of possible improvement in the firewall market. We can share that.
Speaker: As shown on slide 19 in the second quarter, the days to register security service contracts improved another 12 days and have now returned to the 2020 pre-supply chain, pre-COVID crisis level. Inventory commitments and levels are normalizing at our contract manufacturers and in the channel. And as noted earlier, the sequential increase in hardware sales in the second quarter aligned more closely with historical norms. While these indicators are positive, we believe customers are currently managing a tough macro environment in a key election year in the U.S., and we believe this is having an impact on our customers' purchasing decisions. As a result, we believe a full refresh cycle is unlikely to occur in 2024 but more likely in 2025.
Speaker: Moving on to guidance, as a reminder, our third quarter and full year outlook, which is summarized on slides 21 and 22, is subject to the disclaimers regarding forward-looking information that Aaron provided at the beginning of the call. Before reviewing the outlook, I'd like to offer a few modeling notes in light of our late work and next DLP acquisition, covering estimates included in our Q3 and full year guidance. For billings, the acquisitions increased Q3 by approximately one-half point, and the full year by approximately one-third.
Speaker: Total revenue increased Q3 and full-year growth by one point and one half point, respectively. For gross margin, they decreased Q3 and full year margins by less than one half of a point for each period. For operating margin, they decrease Q3 and Foulier margins by 3 points and 1.5 points, respectively. Inclusive of these acquisition-related estimates, for the third quarter, we expect buildings in the range of $1,530,000,000 to $1,600,000,000, which at a midpoint represents growth of 5%, revenue in the range of $1,445,000,000 to $1,505,000,000, which at a midpoint represents growth of 10.5%, non-ga Non-GAAP earnings per share are between $0.56 and $0.58, which assumes a share count of between $767 and $777 million.
Speaker: Capital expenditures of $40 to $60 million. A non-GAAP tax rate of 17%, and cash taxes of $125 to $145 million. And again for the full year, inclusive of the numbers we gave a moment ago. We expect buildings in the range of $6,400,000 to $6,600,000.
Speaker: Revenue in the range of $5,800,000,000 to $5,900,000,000, which at a midpoint represents growth of 10%. Service revenue in the range of $3,975,000,000 to $4,025,000,000, which at a midpoint represents growth of 18%, non-GAAP gross margin. 79 to 80 percent, a non-GAAP operating margin of 30 to 31.5%, and non-GAAP earnings per share of $2.13 to $2.19, which assumes a share count of between 767 and 777 million.
Speaker: Capital expenditures are $320 to $360 million, non-GAAP tax rates of 17%, and cash taxes of between $525 million and $575 million. I look forward to updating you on our progress in the coming quarters. Before we begin the Q&A session, it is with deep sadness that we recognize the passing of our friend Peter Salkowski, our SVP of Finance and Investor Relations. Peter was an integral part of the Fortinet team for over six years, and he was renowned for his passion for mentoring and developing the next generation of leaders.
Speaker Change: Yeah.
Speaker Change: For billings the acquisitions increased Q3 by approximately one half point.
Speaker Change: In the full year by approximately one third point.
Speaker Change: Total revenue.
Speaker Change: Increased Q3, and full year growth by 1.15 points respectively.
Speaker Change: For gross margin they decrease Q3 and full year margins by less than one half of a point for each period.
Speaker Change: For operating margin, a decrease Q3 and full year margins by three points and one five points respectively.
Speaker Change: Inclusive inclusive of these acquisition related estimates for the third quarter, we expect.
Speaker Change: Billings in the range of $1 billion by $130 million to $1.600 billion.
Speaker Change: At the midpoint represents growth of 5%.
Speaker Change: Revenue in the range of $1 $445 million to $1.505 billion, which at the midpoint represents growth of 10, 5%.
Speaker Change: non-GAAP gross margin of 79% to 80%.
Speaker Change: non-GAAP operating margin of 35 to 31, 5%.
Speaker Change: non-GAAP earnings per share of <unk>, 56 to 58, which assumes a share count of between 767% to $777 million.
Speaker Change: Capital expenditures of $40 million to $60 million.
Speaker: We'll miss Peter and fondly remember his commitment to fostering talent and nurturing potential within our company. I know that Peter worked closely with many of you on this call, and the outpouring of condolences and heartfelt memories you've shared since his passing clearly shows the positive impact he had on so many people's lives. Peter took great pride in his contribution to Fortinet, and rightly so, having contributed to increasing shareholder value from $8 billion to $46 billion during his tenure at Fortinet. We'll miss Peter. Aaron Duffield
Speaker Change: Since his passing.
Speaker Change: So this shows the positive impact he has had on so many people's lives.
Peter: Peter It's a great pride in its contribution of Fortinet and rightly so.
Peter: Having contributed to increasing shareholder value from $8 billion to $46 billion. During his tenure at Fortinet.
Peter: Yes, Peter.
Aaron: Aaron back to you.
Operator: Thank you, Keith. As a reminder, during the Q&A session, I ask that you please submit yourself to one question and one follow-up question to allow others to participate. Operator, please open the line for questions. Thank you. At this time, we will conduct the question and answer session. As a reminder, to ask a question, you will need to press star 11 on your telephone and wait for your name to be announced.
Aaron: Thank you Keith as a reminder, during the Q&A session.
Aaron: That you please limit yourself to one question and one follow up question to allow others to participate.
Operator: To withdraw your question, please press star 11 again. Please stand by while we compile the Q&A raft. Our first question comes from the line of Brian Essex of J.P. Morgan. Your line is now open. Thank you very much for taking the question. And, you know, obviously, I'm sorry for your loss.
Speaker Change: Operator, please open the line for questions.
Speaker Change: Thank you at this time, we will conduct a question and answer session. As a reminder to ask a question you will need to press star one on your telephone and wait for your name to be announced to withdraw. Your question. Please press star one one again.
Speaker Change: Please standby, while we compile the Q&A roster.
Speaker Change: Our first question comes from the line of Brian Essex of J P. Morgan. Your line is now open.
Aaron: Yeah.
Brian Essex: Thank you very much for taking the question.
Peter: And.
Speaker Change: Obviously, sorry for your loss.
Keith: Keith, if I could maybe touch on the margins, I think it's, uh... Credible Margin Results for the quarter. Could you help me understand or maybe unpack, outside of obviously the gross margin benefit that you saw in the quarter, maybe help me understand where you saw better cost efficiencies, and how sustainable are they, particularly in light of the effort to incentivize the channel and the sales force to focus more on selling Secoffs and Sassy with maybe some incremental effort?
Speaker Change: If I could maybe touch on the margins I think.
Speaker Change: Incredible margin results for the quarter.
Speaker Change: Could you help me understand or maybe unpack outside of the obviously the gross margin benefit that you saw in the quarter.
Keith: Yeah, I think the gross margin is the largest driver of what you saw in the operating margin, particularly when you look at it on a quarter-over-quarter basis. And in that, we talked about or made reference to a more normalized environment for us in terms of inventory levels, turns, and what we're seeing with cattle inventory, but also commitments to our contract manufacturers. So I think that we've been working through that for probably the last three quarters, maybe four quarters.
Keith: And with that, I would say I think we've returned to a more normal state, and so I would expect that to continue. I think we're getting a little more contribution from sales and marketing than maybe I'd like at the moment, and I would expect us to make a little bit more investments there as we look through the second half of the year. Keep in mind, we're getting a very large group of salespeople, as Ken made reference to, from both the Lacework and the next DLP acquisition.
Keith: But I think we feel certainly comfortable with the guidance that we've given for both Q3 and for the full year on the margin line. Great, maybe just a quick follow-up, but how should we anticipate the impact of the operating margin to reflect on free cash flow as we look through the rest of the year? Should we look at the historical spread between margin and cash flow margin and maybe estimate a kind of ballpark the same kind of spread?
Keith: Or are there going to be more puts and takes, like the timing of, you know, tax payments that are going to mess with that, you know, free cash flow margin as we fine-tune our models? Thanks. Yeah, I don't I mean, I think it's a good starting point to look at the improvement in operating margin flowing through to free cash flow. Some of the changes that we monitor would be things like contract duration, but you've seen now that industries and companies have been talking about contract duration for several quarters, and you really haven't seen that come through to us yet.
Keith: I shouldn't say yet, but it's going to come through to us. I think we have an opportunity to leverage our balance sheet more with our customers and prospects than we have, but I don't see a dramatic shift in that area in the next 90 days or 180 days. Okay, thank you very much.
Speaker Change: Okay. Thank you very much I appreciate it.
Operator: I appreciate it. Thank you. One moment for our next question. Our next question comes from the line of Hamza Fodderwala of Morgan's Valley. Your line is now open. Good evening. Thank you for taking my question, and I'll echo my condolences to Peter and his family. We'll definitely miss him.
Speaker Change: Thank you one moment for our next question.
Speaker Change: Our next question comes from the line of Hamzah Flutter Wala of Morgan Stanley. Your line is now open.
Speaker Change: Good evening. Thank you for taking my question and Echo My condolences.
Speaker Change: Peter and his family will definitely Miss him.
Keith: Keith, I wanted to follow up on the margin question because obviously it was a very strong beat, I think a lot more than any of us were expecting. Historically, you know, Fortinet has kind of managed the business towards the 25% plus type operating margin run rate. I'm curious. Is this the new base that we should sort of think Fortinet goes off of longer term, or is it sort of a one-time margin of performance given what you saw on the gross margin side coming out of the inventory digestion headwinds? Thank you.
Peter: Keith.
Speaker Change: I wanted to follow up on the margin question, because obviously it was a very strong beat I think.
Speaker Change: Lot more than any of us were expecting.
Speaker Change: Historically, fortinet has kind of manage the business towards the.
Speaker Change: 25% plus type operating margin run rate I'm curious.
Peter: Is this the new base that we should sort of think fortinet goes off of longer term more or is it sort of a onetime margin outperformance given what you saw on the gross margin side coming out of the inventory digestion headwinds. Thank you.
Keith: Yeah, again, I think the inventory part of that is we've worked our way back to a more normalized state. So I think that is, that is our business model going forward. There can always be something that changes, but I don't see us anticipating anything on the gross margin line, and that is, by far and away, the biggest opportunity there. I think it also says that we clearly have the opportunity to invest more and go to market than we did in the first half of this year, and I think we've factored in some of those investment ideas or those ideas in our forecast and our guidance. In terms of whether or not I make Ken cry when I increase the margin the way I did, that's a different topic, and I'll let him respond to that.
Speaker Change: Yes, again, I think the inventory part of that is I think we've worked.
Peter: Worked our way back to a more normalized state. So I think that is.
Peter: That is our business model going forward, but that way there can always be something that changes, but I don't see us anticipating something in the gross margin line and that is by far and away the biggest opportunity there.
Speaker: Also, we'll benefit from the service revenue, which has a much higher margin compared to the product revenue. So once the product's starting growing, because it has a lower growth margin, that probably will impact the margin. But the product is also a leading indicator of future service, so that's where we're kind of happy to see the product starting to grow now. I think, going forward, if the product has a higher percentage, that probably also impacts the margin. Makes sense, thank you.
Operator: Thank you. One moment for our next question. Our next question comes from the line of Fatima Boolani of Citi. Well, your line is now open. Thank you for taking my questions. And I wanted to share my condolences with Peter. He was just a fantastic person, and he will absolutely be missed.
Keith: Keith, I wanted to zero in on your comments regarding software license growth. You talked about that accelerating 26% year on year, and I believe that now it constitutes a high teens percentage of your product revenues. I wanted to understand what the drivers behind that massive next shift are and how we should think about the trajectory of this next shift in the context of your guidance for the remainder of the year and bringing into consideration some of the hardware digestion, potential prolonging comments that you shared as well. If you can help us square that away, thanks.
Keith: Yeah, I think the software license, if you kind of step back and look at what the business model is, not to make it overly simplistic, you know, we want to, it's so compelling to start with a firewall. And it's very compelling to start with the ASIC. So the physical part of it, we don't always do that, but we almost always start with a firewall, whether it's physical or virtual. Really, what you want to do is get the operating system in the hands of the customer. And what form factor that takes is, we're fairly agnostic about that.
Speaker: So once that happens, then you start to see the knock-on effect of either selling more firewall use cases and other form factors into organizations, or you're seeing that full portfolio, the SecOps product line, take hold as it continues to expand throughout organizations. So I would expect that we're going to continue to see Tailwinds and Grove, no doubt about it, from the software part of the business. Will there be a mix shift that slows a little bit when firewall and FortiGate starts to return?
Peter: Is it a continuous expand throughout organization. So I would expect that we're going to continue to see tailwind and growth no doubt about it from from the software part of the business.
Peter: Will there be a mix shift that slows a little bit when firewall and <unk> starts to return sure absolutely but.
Speaker: Sure, absolutely. But this has been a trend that we talked about a little bit last quarter and probably some earlier quarters about the software mix and the mix shift that we've been seeing. So I would expect that that's going to continue on, given the success we're seeing in the other two pillars. Yes, in the 4D case, 4DOS, we see customers starting to turn on more and more functions, which also enables more service for us.
Peter: This has been a trend that we've talked about a little bit I think last quarter and probably some earlier quarters about the software mix and the mix shift that we've been seeing so I would expect that that's going to continue on given the success, we're seeing in the other two pillars.
Peter: Yes.
Speaker Change: <unk>, we see customers that in turn on more and more function, which also enable more service lines and same kind of 40 SaaS.
Speaker: And at the same time, the 4D SASE, CQ-ARP, has also been developed. 4D SASE is pretty much all service, service-based, and plus a lot of CQ-ARP. CQ-ARP has a high percentage of software compared to the hardware on the secure networking platform.
Speaker Change: Pretty much all service.
Speaker Change: Space and plasma allowed us to see come at higher percentage in our sulfur compared with Howard on the secure networking part.
Peter: So thats, both helping drive additional software and maintain the growth.
Speaker Change: Thank you very much very clear.
Speaker Change: Thank you.
Speaker Change: One moment for our next question.
Speaker: So that's both helping drive the additional software and mechanics. Thank you very much. Very clear. Thank you. One moment for our next question. Our next question comes from the line of Gabriela Borges of Goldman Sachs. Your line is now open. Good afternoon, thanks for taking the question. Either for Ken or for Keith.
Speaker Change: Our next question comes from the line of <unk> of Goldman Sachs. Your line is now open.
<unk>: Good afternoon, Thanks for taking my question.
Ken Xie: Hi, Ken.
Speaker: On the firewall refresh. I can appreciate your comments on not expecting to see a recovery in 2024. Share with us a little bit more detail on why you think we'll see it in 2025. To what extent are customers giving you an indication that they will be refreshing in 2025, perhaps as we get through the election and some macroeconomic uncertainty, or perhaps because of their updated depreciation plans? Any color on why you think the timing will be 2025 would be helpful. Thank you. I think it's probably more Keith's comment.
Speaker Change: On the firewall refresh cycle.
Speaker: I think the rest of the year is probably still pretty tough, like the environment, whether the election or some interest rates are still pretty high. Money costs are still pretty high, so some companies may not really want to make some long-term investments, which is to drive product revenue and build infrastructure. So that's what we feel. Also, if you look at it historically, every four years or four to five years, Thank you very much.
Speaker: So, some companies may start looking to refresh the product they purchased four or five years ago, especially in certain verticals, like retail, some others. We see pretty strong growth in the early days of a supply chain issue, and we feel, probably in the next one to two years, they may start to return to see some investment in their infrastructure. On the other side, we see that the big trend we always believe in, always a hybrid mode, even though we have a very advanced SASE infrastructure side, but also to secure OT, and the IoT area to secure a lot of infrastructure, work from home, and we do need a plant in the field, and also, even for SASE, we do offer both the cloud-based SASE and also on-premise based private SASE, Thank you, and our condolences to the team as well.
Operator: Thank you. Thank you. One moment for our next question. Our next question comes from the line of Tal Liani of Bank of America. Your line is now open.
Speaker: Can you go back to the fact that Billings, you made two acquisitions this quarter, you didn't change the billing guidance for the year, but you did lower the numbers for this quarter by $20 million. So, in effect, you reduced the billing for the next two quarters. What are the drivers in Billings?
Speaker: I know we spoke about it in the past, but what are the drivers for Billings and what's the outlook for Billings going forward? The second question is yours... Tal, I think I kind of missed your questions there. Maybe if you could give us maybe a little louder recap of the two questions you had. I think I touched on some part about the two acquisitions' impact on buildings.
Speaker: I believe the BOLT acquisition, I think it's less work, maybe the ACA will contribute, maybe funding. Yeah, I think that, you know, if you kind of look at the recap of the year, there's not a lot of variability in it, if you will. We were a little bit light in the first quarter.
Speaker: We came back and recovered, you know, the first quarter shortage in the second quarter. Now you see us looking at the third quarter and maybe taking that just a little bit off of some of the street numbers and looking to see if we can get a little bit of that back in the fourth quarter, but we're kind of taking the third quarter. Correction to the street numbers and putting it into the full year number, but yes, offsetting a very, very similar amount in terms of what we expect to get from the acquisitions. And that leaves the full year range very much intact, And I understand that.
Speaker: To cut to the quick, I understand part of that is I'm taking, I'm getting an inorganic benefit from that number of the half point that we talked about and really taking down the organic part of the business. But again, I think we're talking about small numbers here.
Speaker: I think we're going to be okay now, but my second question was about OPEX that was flat, and no buybacks. What's the outlook on those items? Yeah, I think OPEX is probably a little lighter on the sales and marketing line than, maybe, we would like to see, particularly as we start looking at more opportunities as we get into the second half of the year and into 2025.
Speaker Change: You can hear me okay now, but my second question was about OPEX that was flat and no buybacks. What's the outlook on those items?
Speaker: So, you know, hopefully, we'll find some opportunities there to make investments. Obviously, you're going to get a fairly significant movement there from the two acquisitions that we just did. And we gave a number about what the OPEX impact is going to be, that will largely be in sales and marketing. By that, I think that we still remain being opportunistic.
Speaker Change: at more opportunities as we get into the second half of the year and into 2025. So, you know, hopefully we'll find some opportunities there to make investments. Obviously, you're going to get a fairly significant movement there from the two acquisitions that we just did and we gave the number about what the OpEx impact is going to be that will largely be in sales and marketing.
Speaker: And that opportunistic number changes every 90 days as we reset our plan. Yeah, and also, in the market, whether it's a private company or a public company, we see the multiple probably more friendly to market position now compared to the last two, three years. So we should go back to more reasonable levels so that we see some opportunity there.
Operator: Great, thank you. Thank you. One moment for our next question. Our next question comes from the line of Rob Owens from Piper Sandler.
Speaker: Your line is now open. Yeah, thank you guys for taking my question. Relative to the macro and obviously a lot of cross currents out there, maybe what you're seeing via your different customer sizes and different theaters. I think, you know, because we are so diversified, as you kind of alluded to it, you know, 70% of the business is international and a little bit less than 30 in the U.S. And yes, there's been a lot of elections around the world this year, but it's sort of the U.S. election may be weighing on people and everybody's kind of taking a position of waiting to see, as you move, pull back from that, you know, the international emerging part of the business, It has been strong, very strong for several quarters and continues on to be so.
Speaker Change: has been strong, very strong for several quarters and continues on to be so.
Speaker: You know, a lot of those are oil-producing countries and similar, so I think they've done well in this economic cycle. There's a little more risk there, perhaps with geopolitical events in some of those countries, but to this point, it really hasn't had an impact there.
Speaker: We are much more likely to have the number one market share when you move outside the U.S., in parts of Europe and the Middle East, Latin America, and parts of APAC. And I think having an incumbency advantage, if you will, helps you in those more challenging times because you're there, you're on-site, and you have that opportunity to cross-sell and up-sell your installed base. Yeah, in the US, that's the next growing area, which also needs more direct marketing, and direct sales. That also needs more investment.
Speaker Change: We are much more likely to have the number one market share when you move outside the U.S. in parts of Europe and the Middle East.
Speaker Change: Latin America and parts of AIPAC. And I think having an incumbency advantage, if you will, helps you in those more challenging times because you're there, you're on site, and you have that opportunity to cross-sell and up-sell your install base.
Speaker: So that's what we plan to invest more in sales and marketing to keep gaining market share in the US. And Keith, as you contemplate these acquisitions and a little bit of a makeshift to software, I realize hardware is weak right now with a potential recovery next year. How are you thinking about billing's duration? You know, you shaved some off the back half, and I think some of that's probably the mixed shift towards software as we kind of look overall at the model and the increase in revenue. As we contemplate 2025, how should we think about billing duration?
Operator: https://www.youtube.com.uk Well, I look forward to seeing you in November, in November at the Analyst's Day, when we'll talk more about 2025 and midterm numbers, but in the interim, I would probably say that, If it's a white space account in some of these places, like Lacework would be, for example, I think it's gonna be much more prone to having a shorter duration contract. If it's part of that 90% of me selling SecOps or SASE solutions to my install base.
Operator: What I'm seeing to this point is my installed base continues to purchase in terms of contact duration the way they have historically. So they haven't, you know, if I sell something from the PsycOp portfolio to one of my firewall customers, they tend to sign up for a longer-term contract than you may see from a point solution vendor. Thanks.
Speaker Change: Great. Thanks. Thoughts are with you and the team.
Operator: Thank you. One moment for our next question. Our next question comes from the line of Shaul Eyal of T.D. Cohen.
Operator: Your line is now open. Thank you. Hi, good afternoon, everybody.
Speaker: Keith or Ken, so listening to Keith's commentary about that potential refill cycle not taking place in the second half of this year but most likely during 2025. And again, not trying to front run November Analyst's Day, but should we be thinking about 2025 accelerating over 2024? And again, I don't mean you don't have the current visibility to 2025, but just conceptually, is it fair to assume another year of double-digit growth?
Speaker Change: And again, not trying to front-run the November Analysts' Day, but...
Speaker: Uh, we do believe, uh, um... Next year, there's a, I think first of all, we see the long-term convergence, networking convergence with network security is still keeping going, and that's why we do give a, the CAGR in secure networking area is about 15% year-over-year growth. If you look in the investor presentation slide there, I forgot which page, but on the other side, we also see a lot of new opportunity, whether in the OT area, in the unified SASE, and also upsell, cross-sell, which all help in driving, I have to say, probably like 90% of customers initially move by our FortiGate, getting the firewall network security market first, which we have a huge advantage over competitor, but after that one, they keep expanding beyond the network security, go to the other area, so that's what's happening for the unified SASE, for the secure op, and now the product, especially on the FortiGate firewall side, we're starting to see kind of a go back to normal, starting growing with the market now, so we do feel probably next year will be whether the refresh cycle, which after, that's where the existing customer, if they have the product for four or five years. That's probably the average time they start in refresh.
Speaker Change: Next year, there's a, I think first of all, we see the long-term convergence, networking convergence with network security.
Speaker Change: with the market now. So we do feel probably next year will be whether the refresh cycle, which after, that's where the existing customer, if they have the product for four or five years.
Speaker Change: That's probably the average time they start in refresh and so we do see probably next year we're starting up that process.
Speaker: And so we do see, probably next year, we're starting up that process. Got it. Thank you. Thank you. One moment for our next question. Our next question comes from the line of Brad Zelnick of Deutsche Bank. Your line is now open.
Speaker Change: Got it.
Speaker Change: Thank you.
Speaker Change: Our next question comes from the line of Brad Zelnick of Deutsche Bank. Your line is now open.
Speaker: Great, thanks so much for taking the time to answer the question. Keith, I think you called out the service provider segment is more challenged this quarter after being a strong performer last quarter, and I know it's lumpy and remains a top vertical as it always has been for Fortinet, but can you share an update on what's happening in that segment, and, in particular, how your value prop and unified, and focus on unified sassy and sec ops applies to this important vertical? I don't feel that the service provider telecom has slowed down. It's really kind of lumpy.
Brad Zelnick: Great, thanks so much for taking the question. Keith, I think you called out the service provider segment is more challenged this quarter.
Brad Zelnick: After being a strong performer last quarter, and I know it's lumpy and remains a top vertical as it always has been performing it But can you share an update on what's happening in that segment and in particular how your value prop and unified and focus on unified sassy and sec ops applies in this important vertical
Speaker Change: I don't feel the service provider telecom slowed down. It's really kind of lumpy.
Speaker: And on the other side, we also started to see the telecom service providers more interested in offering their own SaaS using a product solution or kind of helping customers do the private SaaS, local SaaS, which also will help drive our long-term growth. But I do believe, long-term-wise, the service provider will probably be one of the biggest parts of the whole cybersecurity business because they have the infrastructure, they have the customer relationships.
Speaker Change: And on the other side, we also started to see the telecom service provider more interest in offering their own SASE using a product solution or kind of helping customers do the private SASE, localized SASE.
Speaker Change: which also will help drive our long-term growth.
Speaker Change: But I do believe long-term-wise, the service provider will be one of the biggest parts of the whole cybersecurity business, because they have the infrastructure, they have the customer relations.
Speaker: So we still want to keep in focus on the service provider area. But for them, the cybersecurity cycle is long, and the deal is pretty big, usually like an eight-figure deal. That's where the lumpiness probably impacts the quarterly. But if you look at more long-term, multi-quarter, annually, I do believe they're still growing. Yeah, I can spot on, right?
Speaker Change: So we still want to keep in focus on the service provider area, but for them it's really the self-sacrificing alone and the deal is pretty big.
Speaker Change: You look at the eight figure deal, that's where the lumpiness probably impacts the quarterly, but if you look at more long-term, multi-quarter, annually, I do believe they're still keeping growing.
Speaker: It's a lumpy industry. Financial services can be, too, at times, as well. But I think more importantly, I think the conversations around their own independent SASE solution that they can bring to market is something that's getting a lot more attention from the service providers. I think we saw it first internationally, and we're starting to see a little bit more of it here domestically.
Speaker Change: Yeah, I can spot on, right? It's a lumpy industry. Financial services can be, too, at times, as well. But I think more importantly, I think the conversations around
Speaker Change: Their own independent SaaSy solution that they can bring to market is something that's getting a lot more conversation from the service providers. I think we saw it first internationally, and we're starting to see a little bit more of it here domestically. But that's a pretty exciting opportunity that continues to move forward.
Speaker: But that's going to, that's a pretty exciting opportunity that continues to move forward. Thanks, Keith, and thanks, Ken. Just a quick follow-up on the very impressive operating leverage that you've shown us, particularly on the sales and marketing line, where I know, Keith, you said that it's more than you'd like to see at this point, but just structurally, to see it down, albeit very slightly, sequentially on a dollar basis, especially as you outperformed on the top line and billing this quarter, I'm just trying to understand where it comes Yeah, I think there are a few things going on here.
Speaker Change: Thanks Keith and thanks Ken. Just a quick follow-up on the very impressive operating leverage that you've shown us, particularly on the sales and marketing line where I know, Keith, you said that it's more than you'd like to see at this point, but just structurally, like to see it down, albeit very slightly, sequentially on a dollar basis,
Speaker Change: especially as as you outperformed on the top line and and billing this quarter I'm just trying to understand like where it comes from and is there anything structurally that's changed that we should be thinking about whether it's commission deferral rates channel rebates or anything else other than head count thanks
Speaker: I think, you know, you know, probably nine months ago, we looked at the cost structure pretty closely and, across a number of areas, and the first place that people kind of look at when you're in that boat is marketing programs, and they get hit pretty hard early on, and I think you kind of see that roll through. You do make changes to your compensation programs, whether it's for direct salespeople or for channel people or what have you, and I think maybe as we're coming out of that environment now, it's important for us to kind of revisit some of those decisions and making sure they kind of talk about the investment opportunities that we have in the sales and marketing line, and I think I would include the channel in that as well, and it's why I would say that, to your point, or you're repeating me.
Speaker Change: across a number of areas. And the first place that people kind of look at when you're in that boat is marketing programs. And they get hit pretty hard early on. And I think you're trying to see that roll through. You do make changes to your compensation programs, whether it's for direct sales people or for channel people or what have you,
Speaker Change: And I think maybe as we're coming out of that environment now, it's important for us to kind of revisit some of those decisions and making sure they kind of talk about the investment opportunities that we have in the sales and marketing line, you know, and I think I would include the channel in that as well. And it's why I would say that, to your point, or you're repeating me.
Speaker: Probably a little bit lower than we would have liked it to have been in the second quarter, and I think we'll continue to make go-to-market investments here in the second half of the year. Yeah, I agree with Keith.
Speaker Change: Probably a little bit lower than we would have liked it to have been in the second quarter and I think we'll continue to make go-to-market investments here in the second half of the year.
Speaker: We started tracking more carefully the ROI for each investment in marketing sales and also trying to improve the efficiency of marketing sales. On the other hand, we are a little bit behind on hiring in the sales marketing side, which we intend to accelerate. So that's actually what will drive the future. Thanks very much, guys.
Speaker Change: Yeah, I agree with Keith. We started tracking more carefully for the ROI for each investment in marketing sales.
Speaker Change: and also try to improving the efficiency with the marketing sales. On the other side, we are a little bit behind on hiring in the sales marketing side, which we intend to accelerate. So that's actually what will drive the future growth.
Operator: Thank you. One moment for our next question. Our next question comes from the line of Adam Tindle of Raymond James. Your line is now open.
Speaker Change: Thanks very much, guys.
Speaker Change: Thank you.
Speaker Change: Thank you. One moment for our next question.
Speaker Change: Our next question comes from the line of Adam Tindle of Raymond James. Your line is now open.
Speaker: Okay, thank you. I just wanted to continue the margin discussion. Obviously, you had great product gross margin performance this quarter on top of those tight cost controls. And the question really is around pricing dynamics in the core firewall business from here. The supply chain sounds like it's clearly normalized.
Adam Tindall: Okay, thank you. I just wanted to continue the margin discussion. Obviously, you had great product gross margin performance this quarter on top of those tight cost controls.
Adam Tindle: And the question, you know, really is around pricing dynamics in the core firewall business from here. The supply chain sounds like it's clearly normalized. You've had multiple years of price increases during this period of time. What are your expectations of the pricing dynamic in core firewall from here? What would it take to maybe even consider reducing price back to historical at some point?
Speaker: You've had multiple years of price increases during this period of time. What are your expectations of the pricing dynamic in core firewall from here? What would it take to maybe even consider reducing the price back to historical at some point?
Speaker Change: and any comments that you want to make on the competitive environment in light of this. Thank you.
Speaker: And any comments that you want to make on the competitive environment in light of this? Thank you. I think we have not increased the price in the last few quarters because we still believe we have a huge advantage with our 4080, 40 OS technology, which has more functions, better performance, lower total cost of ownership, and also lower energy cost. So we feel we're keeping that advantage over our competitors. On the other hand, we don't see any pressure to also decrease the price or kind of a discount it more.
Speaker Change: I think we have not increased the price in the last few quarters, I think that we, because
Speaker Change: We still believe we have a huge advantage with our 40AC40OS technology, has more function, better performance, lower total cost ownership, and also energy cost.
Adam Tindle: So we feel we're keeping that advantage over our competitors.
Speaker Change: On the other side, we don't see any pressure to also decrease price or kind of discount more.
Speaker: So that's where we feel we're keeping pretty stable on price and, at the same time, letting the customer see the benefit of our product solution and with better performance, more functions, which also will drive future service. I think the bigger environment, also, we don't feel has changed much.
Speaker Change: So that's where we feel we're keeping pretty stable for the price and at the same time let the customer see that the benefit of our product solution and with better performance, more function, which also will drive the future service.
Speaker Change: I think the bigger environment also, we don't feel changed much. Definitely, we see the inventory, I'll go back to normal weather, you know.
Speaker: Definitely, we see the inventory, I'll go back to normal, whether, you know, own kind of inventory and also the channel inventory. That's also more helping to drive healthy behavior in the business, also in the supply chain area. Keith, I just repeat what Ken said, maybe with a little more granularity. I think the price increases that you referred to were really of late 21, 2022 impact, and I don't think we're really raising prices at 23.
Speaker Change: and Ken Salkowski, Keith Jensen, and Ken Salkowski, Keith Jensen, and Ken Salkowski, Keith Jensen,
Speaker Change: that you referred to were really probably of late 21, 2022 impact, and I don't think we're really raising prices at 23.
Speaker: We did take some prices down at the end of 23 and at the very beginning of 2024, but that's really been the only pricing action of note we've taken in the last six months. And then, to Ken's point, I think we're at a moment where we think the value for the solution is very, very strong. I think the energy cost that Ken mentioned is starting to get – it's gotten a lot of traction internationally in Europe, but you're starting to see more conversation around that in the U.S., and that could be people concerned about energy consumption and issues with AI and EV and government actions on manufacturing.
Speaker Change: We did take some prices down at the end of 23 and in the very beginning of 2024.
Ken: But that's really been the only pricing actions of note we've taken the last six months, and then to Ken's point, I think we're at a moment where we think we should probably...
Ken: The value for the solution is very, very strong. I think the energy cost that Ken mentioned is starting to get... It's gotten a lot of traction internationally in Europe , but you're starting to see more conversation around that in the U.S., and that could be people concerned about energy consumption and issues with AI and EV.
Speaker: So I do think the energy cost advantage is coming into play more. And then the last one on that, discounting, was, I think, very much in line. I think we actually improved discounting even higher prices by about a point quarter over quarter and kind of a similar number one way or the other for the full year. We obviously have room, given the margins, to use discounting and pricing as a lever. But I think there are other things that we'd like to push on further.
Speaker Change: government actions on manufacturing. So I do think the energy cost advantage is coming into play more. And then the last one on that, the discounting was I think very much in line. I think we actually improved, quote unquote improved, discounting the entire prices by about a point quarter over quarter in kind of a similar number one way or the other for the full year or so.
Speaker Change: We obviously have room given the margins to use discounting and pricing as a lever, but I think there's other things that we'd like to push on first.
Speaker Change: Thank you.
Speaker: Thank you. One moment for our next question. Our next question comes from the line of Adam Borg of Stiefel. Your line is now open. Awesome, thanks for taking the question and also for the condolences on Peter's passing. He's certainly missed by all of us.
Speaker Change: Thank you. One moment for our next question.
Speaker Change: Our next question comes from the line of Adam Borg of Stiefel. Your line is now open.
Adam Borg: Awesome. Thanks for taking the question and also the condolences on Peter's passing. He's certainly missed by all of us. We'd love to talk about the next DLP acquisition.
Speaker: We'd love to talk about the next DLP acquisition or maybe talk a little bit more about what's attracting you to the standalone end-of-price data protection market overall. Yeah, thanks for the question. This is John Whittle.
Adam Borg: Maybe talk a little bit more about what's attracting you to the standalone enterprise data protection market overall.
John Whittle: There's a lot of positivity around that. We obviously just announced it today. We closed it yesterday. You know, we did a lot of diligence on the company. The tech is great, and not only will we plan to offer it standalone, but also integrate it with our FortiSASI solution. And so I think it's another step in steadily bolstering our FortiSASI platform. We feel very, very confident in our strategy there
Speaker Change: and Next DLP in particular.
John Whittle: Thanks for the question. This is John Whittle. There's a lot of positivity around that. We obviously just announced it today and we closed it yesterday. You know, we did a lot of diligence on the company. The tech is great.
Speaker Change: And not only will we plan to offer it stand-alone, but also integrate it with our FortiSassy solution. And so I think it's another step.
Speaker Change: in steadily bolstering our Fortis Asti solution. We feel very, very confident in our strategy there. For the most part, as you know, I mean, we've done some tech and talent tuck-ins. Most of our technology is organic.
John Whittle: For the most part, as you know... We've done some tech and talent tuck, and most of our technology is organic. I think about some of the earlier questions. You know, you think about the firewall market coming back next year, and we really just started kind of organizing our solutions into these three pillars less than a year ago. And the amount of progress we've made and the execution we've made in kind of developing very, very competitive solutions in SASE and SecOps in addition to secure networking is pretty impressive.
Speaker Change: I think to some of the earlier questions.
Speaker Change: You know, you think about the firewall market coming back next year, and we really just started kind of organizing our solutions into these three pillars less than a year ago, and the amount of progress we've made and the execution we've made in kind of developing
Speaker Change: Very, very competitive solutions in SASE and SACOPS in addition to secure networking is pretty impressive. And I think this is an important step along the way to continue to develop the best SASE solution out there to protect our customers.
John Whittle: And I think this is an important step along the way to continue to develop the best SASE solution out there to protect our customers. That's great. And maybe, just as a quick follow-up there, John, could you please comment on current levels of Salesforce productivity for Savvy and SecOps and the opportunities for improvement from here? Thanks again.
Speaker Change: That's great. And maybe just as a quick follow up there, John , maybe just could you comment on current levels of Salesforce productivity for SaaS and SecOps and the opportunities for improvement from here? Thanks again.
John Whittle: Sorry, the sales execution with SaaS and PsyOps? Just general Salesforce productivity as you've gone through many months at this point of training and just ramping up the ability to sell that across your company globally. Yeah, no, it's a really good question.
Speaker Change: Sorry, the sales execution with SaaS and PsyOps? Just general Salesforce productivity as you've gone through, you know, many months at this point of training and just ramping of the ability to sell that across your company globally.
John Whittle: You know, I think what we're seeing is it does take time. We are very focused on that broad sales enablement. You know, I always say, I mean, the opportunity just abounds from our solution set. And we're always with this customer first focus. So in terms of protecting and serving our customers, the opportunity abounds. I think our sales, you know, the good news is they have a ton of opportunity. You know, I always say they're going to suffer more from indigestion than starvation.
Speaker Change: Yeah, no, it's a really good question.
Speaker Change: You know, I think what we're seeing is it does take time.
Speaker Change: We are very focused on that broad sales enablement. You know, I always say, I mean, the opportunity just abounds from our solution set, and we're always with this customer-first focus.
Speaker Change: So in terms of protecting and serving our customers the opportunity abounds I think our sales for you know, the good news is they have a ton of opportunity You know, I always say they're going to suffer more from indigestion than starvation but we've got a really a big focus in the company to
John Whittle: But we've got a really big focus in the company to really train up that sales force, enable that sales force, make sure we have the incentives in the right place, and make sure we have the support in the back, so when they do qualify different opportunities and our different solution sets, we have the support to support them in that sale. So I think, like Keith alluded to, we often land with the firewall and then expand and get that support to our sales force with SASE and SACOP solutions, and we're seeing a lot of success. Great, thanks again.
Speaker Change: really train up that sales force, enable that sales force, make sure we have the incentives in the right place.
Speaker Change: and make sure we have the support.
Speaker Change: And, you know, so when they do qualify, different opportunities and different solution sets.
Keith Jensen: We have the support to support them in that sale. So I think like Keith had alluded to, we often land with the firewall, and then expand and get that support to our sales force with SASE and SACOP solutions, and we're seeing a lot of success there.
Speaker Change: Great, thanks again.
Speaker Change: Thank you. One moment for our next question.
Operator: Thank you. One moment for our next question. Our next question comes from the line of Saket Kalia of Barclays. Your line is now open.
Speaker Change: Our next question comes from the line of Saket Kalia of Barclays. Your line is now open.
Operator: Okay, great guys. Thanks for taking my questions here, and tip my cap to Peter as well. We're going to miss him.
Saket Kalia: Okay great guys thanks for taking my questions here and tip my cap to Peter as well we're going to miss him.
Ken Xie: Ken, maybe just to start with you, I want to dig into just the firewall refresh for next year a little bit. I mean, you've seen so many refresh cycles over the years. How would you compare this upcoming cycle versus others in the past and maybe touch on how SASE and sort of maybe what sounds like a higher mix of virtual machines might sort of play into that? You're great.
Saket Kalia: Ken, maybe just to start with you, I wanted to get into just the firewall refresh for next year a little bit. I mean, you've seen so many refresh cycles over the years.
Speaker Change: How would you sort of compare this upcoming cycle versus others in the past and maybe touch on how sassy and sort of maybe what sounds like a higher mix of virtual might sort of play into that?
Ken Xie: The infrastructure is probably different than the last refresh cycle. You see more hybrid working environments, whether working remotely, and also more supporting broad connection, including connecting all these OT, and IoT device levels. For the SASE, we always believe it should also be a hybrid SASE environment, not just cloud only. You do need to have a private SASE, some other local SASE offered by service providers, and also sometimes the SASE also needs to secure some devices which cannot install a software agent, like using a 4080, 40 switch to secure this agentless device.
Speaker Change: You're agreed, there's a...
Speaker Change: The infrastructure is probably different than the last refresh cycle.
Speaker Change: You see more hybrid working environment, whether working remotely, and also more support in broad connection, including connect all these OT, IoT device level.
Speaker Change: For the SASE, we always believe also should be a hybrid SASE environment, not just cloud-only.
Saket Kalia: You do need to have a private sassy, some other...
Saket Kalia: local SASE offer by service provider, and also sometimes the SASE also needs to secure some device which cannot install a software agent, like using a 4080-40 switch to secure this agentless device.
Ken Xie: So that's where we feel this also will always kind of be the unified SASE will be the long-term future, we believe, which also combines both the hardware and the software and infrastructure and appliances together. So that's where the refresh is coming from. On the other side, network security is always probably the biggest market. I mean, it's been the biggest market in cybersecurity for probably 30 years now, 20, 30 years. And keep expanding because more people's devices get connected, more applications to access, or even access the cloud, you do need to secure on the network side. So that's what we see when you try to access the network side, and also the long-term convergence of networks and network security. That's also what drives the refresh.
Keith Jensen: So that's where we feel this also will always kind of, the unified strategy will be the long-term future, we believe, which also combines both the hardware and the software and infrastructure and appliance together.
Speaker Change: So that's where the refresh. On the other side, network security always probably the biggest market, I mean, has been the biggest market in cybersecurity for probably 30 years now, 20, 30 years.
Keith Jensen: and keep expanding.
Keith Jensen: because more people's devices get connected, more applications to access, or even access the cloud.
Saket Kalia: You do need to secure on the network side. So that's what we see when you try to access the network side and also the long-term convergence of network and network security. That's also what drives the refresh. That's also you can see the Ghana research we pointed out.
Ken Xie: That's also, you can see in the Ghana research, we point out the convergence of networks and network security also starting outside the region. So originally, I think last year, they said by 2030, secure networking will be larger than traditional networking. Now they say 2026, and Marcus Scher.
Keith Jensen: The convergence of networking and network security also started outside the region. So originally, I think last year, they say by 2030, the secure networking will be larger than traditional networking. Now they say 2026.
Speaker Change: four years ahead.
Keith Jensen: The Secure Networking will be larger than the traditional networking. So that's where we really invest long term on this trend and with all these 40 OS, 40 ASIC and making the best both appliance and infrastructure
Keith Jensen: at ASIC OS technology and at the same time also try to invest more in the sales marketing area to really catch the trend and also keeping gaining market share, so that's the strategy we have.
Ken Xie: So that's a strategy that makes a lot of sense. Keith, if I could fit in one quick follow-up. Just on the software mix in product, I think you said, quote, a roughly $800 million run rate. Can we just touch on, even anecdotally, roughly how much of that is virtual firewall versus security operations? And I realize they're coming in at software gross margins, but can you put a finer point on that and what that aggregate business might be coming in at from a gross margin perspective as we think about that gross margin shift long term?
Keith Jensen: That makes a lot of sense. Keith, if I could fit in one quick follow-up. Just on the software mix in product, I think you said, you know, call it a roughly 800 million run rate. Can we just touch on, even anecdotally, you know, roughly how much of that is sort of virtual firewall versus sec ops?
Speaker Change: And I realize they're coming in at software gross margins, but can you put a finer point on that and sort of what that aggregate business might be coming in at from a gross margin perspective as we think about that gross margin shift long-term?
Ken Xie: Well, I think that whether it's a virtual firewall or any other software product or the software licenses, they are all coming at a very, very attractive margin. I think that when you look at some of the staff solutions that are sitting in the services line for SecOps and so forth, you get a very wide range of margins there, but it's only because of the relative size and maturity of the solution. Obviously, something that's very new and absorbing a lot of the hosting costs is a little harder, but those aren't as big numbers.
Keith Jensen: Well, I think whether it's a virtual firewall or any other software product, the software licenses are all coming in at very, very attractive margins.
Speaker Change: I think that when you look at some of the...
Speaker Change: staff solutions that are sitting in the services line for SACOPs and so forth. You get a very wide range of margins there, but it's only because of the relative size or maturity of the solution. Obviously, something that's very new and absorbing a lot of hosting costs is a little harder, but those aren't as big numbers.
Keith: As you see those SecOps solutions get greater and greater traction and more critical mass, the margins start to normalize. I think what's really exciting is the ability to absorb those data center POP, COLO, everybody's got their hand in their pocket on these things, cloud provider fees for developing the SaaS solutions, and still bring up the services gross margin. By the same token, being able to absorb the charge for late work on the operating margin line because we've managed the business in terms of cost of goods sold on the product side, I think we're really, really pleased with how those two things have worked hand in hand. Absolutely.
Speaker Change: As you see those SecOps solutions get greater and greater traction and more critical mass, the margins start to normalize. I think kind of what's really been exciting is the ability to absorb those data center pop.
Speaker Change: Colo, everybody's got their hand in the pocket on these things, cloud provider fees in developing the SaaS solutions.
Speaker Change: and still bring up the services gross margin.
Speaker Change: And by the same token, you know, being able to absorb the charge for LACE work on the operating margin line, you know, because we've managed the business in terms of cost of goods sold for the product side, you know, I think we're really, really pleased with how those two things have worked hand in hand.
Speaker Change: Absolutely, it shows. Thanks very much.
Speaker Change: Thank you. One moment for our next question.
Operator: Thanks very much. Thank you. One moment for our next question. Our next question comes from the line of Joseph Gallo of Jeffreys. Your line is now open.
Speaker Change: Our next question comes from the line of Joseph Gallo of Jeffreys. Your line is now open.
Speaker: Hi, thanks for the question. I also want to echo my condolences to the team and Peter's family. Big shoes to fill. I just want to double-click on what drove the better performance and product in 2Q. Was there some large deals or region, segment, or vertical that stood out, especially since you don't expect the refresh benefit until calendar 25? Now, great question. I mean, we've talked about eight-figure deals, and, you know, at our size, eight-figure deals can kind of still whip sauce around. As you saw in the fourth quarter last year, we did six of them.
Speaker Change: Hi, thanks for the question.
Joseph Gallo: I also want to echo my condolences to the team and Peter Stanley. Big shoes to fill. I just wanted to double click on what drove the better performance and product in 2Q.
Speaker Change: Was there some large deals, a region, segment, or vertical that stood out, especially since you don't expect the refresh benefit until calendar 25?
Speaker: We had one six-figure, eight-figure deal in Q1. We had two in Q2. So I wouldn't attribute it to that.
Speaker Change: No, great question. I mean, we've talked about eight-figure deals and...
Speaker Change: You know, at our size, eight-figure deals can kind of still whipsaw us around. As you saw in the fourth quarter last year, we did six of them. We had one six-figure, eight-figure deal, Q1. We had two in Q2. So I really wouldn't attribute it to that. I think that, you know, I think what we saw the last month of the quarter, particularly as we got into...
Joseph Gallo: The last week of the quarter, you know, what you see in a strong market is a lot of deals started to fall in place and we're getting across the finish line. I think we saw a lot more positiveness, if you will, at the end of Q2 than maybe we saw, say, at the end of Q3 or something like that last year.
Speaker: I think that, you know, what we saw in the last month of the quarter, particularly as we got into the last week of the quarter, what you see in a strong market is that a lot of deals started to fall in place, and we're getting across the finish line. I think we saw a lot more positivity, if you will, at the end of Q2 than maybe we saw, say, at the end of Q3, or something like that.
Speaker: Okay, thanks. And then just on a follow-up to that, and I think it was a follow-up to Fatima's question, given that mix shift you now expect in the second half, given the delayed refresh, what is your confidence or visibility into the billings or acceleration in the second half? Do you, in theory, have more visibility now, given that it's less hardware-based? Or how are you thinking about that?
Speaker Change: Okay, thanks. And then just on a follow-up to that, and I think it was a follow-up to Fatima's question, given that mix shift you now expect in the second half, given the delayed refresh,
Speaker Change: What is your confidence or visibility into the billings re-acceleration in the second half? Do you, in theory, have more visibility now, given that it's less hardware-based, or how are you thinking about that? Thank you.
Speaker: Thank you. Yeah, I don't think that the form factor really impacts visibility in terms of what's in the pipeline or how we work with the sales teams in terms of forecast. I've not noticed a difference, if you will, in close rates between a virtual machine and a physical machine.
Speaker Change: Yeah, I don't think that the form factor really impacts the visibility in terms of what's in the pipeline or how we work with the sales teams in terms of forecasting. I've not noticed, you know, a...
Speaker Change: A difference, if you will, in close rates between a virtual machine and a physical machine.
Speaker: Yeah, we probably would do some more deep study to maybe, and I say we'll get some color next year and also some midterm models on November 18, which is also the 15th anniversary of IPO. Thank you. Thank you. Thank you.
Speaker Change: Yeah, we probably would do some more deep study to maybe, and I say we'll get some color next year and also some midterm model in November 18, which also the 15th anniversary of IPO.
Joseph Gallo: Thank you.
Operator: This concludes the question and answer session. I would now like to turn it back to Aaron Ovadia, Director of Investor Relations. Thank you.
Speaker Change: Thank you. Thank you.
Speaker Change: Thank you.
Speaker Change: This concludes the question and answer session. I would now like to turn it back to Erin Ovedia, Director of Investor Relations.
Aaron Ovadia: I'd like to thank everyone for joining today's call. Fortinet will be attending investor conferences hosted by Deutsche Bank, Goldman Sachs, and Oppenheimer during the third quarter. We will also be holding an analyst day on November 18th, where we expect to update our medium-term financial model. The webcast links will be posted in the events and presentation section of Fortinet's investor relations website. If you have any follow-up questions, please feel free to contact me. Have a great rest of your day.
Erin Ovedia: Thank you. I'd like to thank everyone for joining today's call.
Speaker Change: Fortinet will be attending investor conferences hosted by Deutsche Bank, Goldman Sachs, and Oppenheimer during the third quarter.
Speaker Change: We will also be holding an analyst day on November 18th.
Speaker Change: where we expect to update our medium-term financial model. The webcast links will be posted on the events and presentation section of Fortinet's Investor Relations website. If you have any follow-up questions, please feel free to contact me. Have a great rest of your day.
Operator: Thank you for your participation in today's conference. This does conclude the program. You may now disconnect. ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? ?? Copyright © 2020 Mooji Media Ltd. All Rights Reserved.
Speaker Change: Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.
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Operator: No part of this recording may be reproduced without Mooji Media Ltd.'s express consent. ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ... ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? Good day and thank you for standing by. Welcome to the Fortinet second quarter earnings call.
Speaker Change: Good day and thank you for standing by. Welcome to the Fortinet Second Quarter Earnings Call.
Operator: At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you will need to press star-one-one on your telephone, and you will then hear an automated message advising that your hand is raised. To withdraw your question, please press star-one-one again.
Speaker Change: At this time, all participants are in a listen-only mode.
Speaker Change: After the speaker's presentation, there will be a question and answer session.
Speaker Change: To ask a question during the session you will need to press star 1 1 on your telephone And you will then hear an automated message advising your hand is raised. To withdraw your question Please press star 1 1 again. Please be advised that today's conference is being recorded
Operator: Please be advised that today's conference is being recorded. I would now like to hand the conference over to your first speaker today, Aaron Ovadia, from the Director of Investor Relations.
Speaker Change: I would now like to hand the conference over to your first speaker today, Aaron Ovadia from the Director of Investor Relations. Aaron?
Aaron Ovadia: Thank you and good afternoon, everyone. This is Aaron Ovadia, Director of Investor Relations at Fortinet. I am pleased to welcome everyone to our call to discuss Fortinet's financial results for the second quarter of 2024. Joining me on today's call are Ken Xie, Fortinet's founder, chairman, and CEO; Mark Jensen, our CFO, and John Whittle, our COO.
Speaker Change: Thank you and good afternoon everyone. This is Aaron Ovadia, Director of Investor Relations at Fortinet. I am pleased to welcome everyone to our call to discuss Fortinet's financial results for the second quarter of 2024.
Speaker Change: Joining me on today's call are Ken Xie, Fortinet's founder, chairman, and CEO , Keith Jensen, our CFO , and John Whittle, our COO. This is a live call that will be available for replay via webcast on our Investor Relations website.
Aaron Ovadia: This is a live call that will be available for replay via webcast on our Investor Relations website. Ken will begin our call today by providing a high-level perspective on our business. Keith will then review our financial and operating results for the second quarter of 2024 before providing guidance for the third quarter of 2024 and updating the full year. We will then open the call to questions. During the Q&A session, we ask that you please limit yourself to one question and one follow-up question to allow others to participate.
Speaker Change: And we'll begin our call today by providing a high-level perspective.
Speaker Change: on our business.
Speaker Change: Keith will then review our financial and operating results second quarter of 2024 before providing guidance for the third quarter of 2024 and updating the full year. We will then open the call for questions.
Speaker Change: During the Q&A session, we ask that you please limit yourself to one question and one follow-up question to allow others to participate.
Aaron Ovadia: Before we begin, I'd like to remind everyone on today's call that we will be making forward-looking statements, and these forward-looking statements are subject to risks and uncertainties, which could cause actual results to differ materially from those projected. Please refer to our SEC filings, in particular our risk factors, in our most recent Form. All forward-looking statements reflect our opinions only as of the date of this presentation, and we undertake no obligation and specifically disclaim any Also, all references to financial metrics that we make on today's call are non-GAAP unless stated otherwise.
Speaker Change: Before we begin, I'd like to remind everyone that is on today's call that we will be making forward-looking statements, and these forward-looking statements are subject to risks and uncertainties.
Speaker Change: which could cause actual results to differ materially from those projected. Please refer to our SEC filings, in particular their risk factors, in our most recent Form 10-K and Form 10-Q for more information.
Speaker Change: All forward-looking statements reflect our opinions only as of the date of this presentation, and we undertake no obligation and specifically disclaim any obligation to update forward-looking statements.
Speaker Change: Also, all references to financial metrics that we make on today's call are non-GAAP unless stated otherwise. Our GAAP results and GAAP-to-non-GAAP reconciliations are located in our earnings press release and the presentation accompanying today's remarks.
Speaker Change: Both of which are posted on our Investor Relations website. The prepared remarks for today's earnings call will be posted on the quarterly earnings section of our Investor Relations website immediately following today's call.
Speaker Change: Lastly, all references to growth are on a year-over-year basis unless noticed otherwise. I will now turn the call over to Ken.
Aaron Ovadia: Our GAAP results and GAAP to non-GAAP reconciliations are located in our earnings press release and the presentation accompanying today's remarks, both of which are posted on our Investor Relations website. The prepared remarks for today's earnings call will be posted in the quarterly earnings section of our investor relations website immediately following today's call. Lastly, all references to Growth are on a year-over-year basis unless noticed otherwise. I will now turn the call over to Aaron. Okay, thank you, Aaron, and thank you to everyone for joining our call.
Ken Xie: We are pleased with our strong execution in the second quarter as we successfully balanced growth and profitability. We achieved record operation margin, which increased 820 basis points to 35%, and Bench to Building and Revenue at the High End of the Guidance Range. We reached our four-year 2024 Revenue and Operation Margin Guidance, and we continue to invest for growth, gaining market share in secure networking and investing in fast growth in the unified strategy and secure operation market.
Ken: Thank you, Erin, and thank you to everyone for joining our call. We are pleased with our strong execution in the second quarter as we successfully balanced growth and profitability.
Ken: We achieved record operation margin, which increased 820 basis points to 35%, and managed to build in revenue at the high end of the guidance range.
Speaker Change: reached our four-year 2024 Revenue and Operation Margin Guidance, and we continue to invest for growth, gaining market share in secure networking and investing in fast growth in unified strategy and secure operation market.
Ken Xie: Secure networking customers are increasingly recognized for the OS and for the AC technology, offering 5 to 10x better performance than our competitors by increasing security effectiveness and providing a low total cost of ownership. For over 20 years, we have been leading the shift to networking and security convergence. And the industry projection now indicates secure networking will surpass traditional networking by 2026, four years earlier than previously anticipated. In the second quarter, Unified Saatchi accounted for 23% of total buildings, up one point.
Speaker Change: Secure networking customers increasingly recognize our 4G OS and 4G AC technology offering 5-10x better performance than our competitors, while increasing security effectiveness and providing a low total cost of ownership.
Speaker Change: For over 20 years, we have been leading the shift to networking and security convergence.
Speaker Change: And the industry projection now indicates secure networking will surpass traditional network by 2026.
Speaker Change: four years earlier than previously anticipated.
Speaker Change: In the second quarter, Unified Saatchi accounted for 23% of total buildings, up one point.
Ken Xie: We expect our DEficient UNIF SASE offering to become a leader in the SASE market. We believe we are the only company that has built all the SASE functions organically in a single operational system. We have a converged networking and security stack, including a market-leading SD-WAN, ZTNA, secure web gateway, Caspi, Firewall, and many other innovations. SAGI provides flexible enforcement, delivering a better user experience while securing access to applications on-premise and in-the-cloud.
Speaker Change: We expect our deficient university offering to become the leader in the sassy market.
Speaker Change: We believe we are the only company that has built all the SASE functions organically in a single operating system.
Speaker Change: We have a converged networking and security stack including a market-leading SD-WAN, ZTNA, SecureWebGateway, Caspi, Firewall, and many other innovations.
Speaker Change: Our strategy offering provides flexible enforcement, delivering a better user experience while securing access to applications on-premise and in the cloud.
Ken Xie: Furthermore, we continue to build our own sachet delivery infrastructure, including leverage of FortiGate technologies, providing us with a competitive long-term cost advantage. As announced earlier today, we acquired Next DLP, a next generation cloud native. SAS Data Protection Platform Extending from Endpoint to Cloud. This will allow us to enter the standalone enterprise CLP market, as well as integrate the market with our 40-strategy solution. We have also recently improved our position in the Gun Magic Quadrant for single-vendor sassy.
Speaker Change: Furthermore, we continue to build our own SaaS delivery infrastructure, including leverage of FortiGate technologies, providing us with a competitive long-term cost advantage.
Speaker Change: As announced earlier today, we acquired Next DLP, a next-generation cloud-native
Speaker Change: SAS data protection platform extending from endpoint to cloud. This will allow us to enter the stand-alone enterprise CLP market, as well as integrate the market with our 40-SASY solution.
Speaker Change: We also recently improved our position in the Gun Magic Quadrant for single-vendor chassis, and are the only vendor included in all five of major network security magic quadrants.
Ken Xie: And as the only vendor included in all five of the major network security magic quadrants, Single Vendor SASE, Network Firewall, SD-WAN, Secure Service Edge, and Enterprise Wireless LAN Infrastructure. Additionally, each of these solutions run on a single unified operating system for the OS, with AI-powered 4G guard, secure service, and unified management. AI-driven secure ARP accounted for 10% of total buildings in the second quarter, up one point. Our comprehensive security portfolio, backed by over a decade of AI experience, offers the broadest range of sensors and advanced analytics to continue access activity to identify signs of cyber-threats.
Speaker Change: Single Vendor SASE, Network Firewall, SD-WAN, Secure Service Edge, and Enterprise Wireless LAN Infrastructure.
Speaker Change: Each of these solutions run on a single unified operating system for the OS, with AI-powered 4DGuard secure service and unified management.
Speaker Change: AI-driven secure ARP counted for 10% of total building in the second quarter, ARP 1 point.
Speaker Change: Our comprehensive security portfolio backed by over a decade of AI experience offers broadest range of sensors and advanced analytics to continuous access activity to identify signs of cyber-threats.
Ken Xie: Forti-AI harnesses generative AI to turbocharge our platform and help security operation teams make better informed decisions and respond to threats faster by the most complex tests. Forti-AI is available in Fortinet Analyzer, Fortisim, and Fortisor, and will soon be available in other Fortinet products. In addition, we are pleased to further expand our CQR portfolio with the acquisition of Lacework, and we believe that together, our solutions form one of the most comprehensive, four-step cloud security solutions available from a single vendor.
Speaker Change: Forti-AI harnesses generative AI to turbocharge our platform and help security operations teams make better informed decisions and response to threats faster by combining the most complex tasks.
Speaker Change: Fortinet is available in Fortinet Analyzer, Fortisim, and Fortisor, and will soon be available in other Fortinet products.
Speaker Change: In addition, we are pleased to further expand our SecureR portfolio with the acquisition of Lacework, and believe that together our solutions form one of the most comprehensive four-stack cloud security solutions available from a single vendor.
Ken Xie: Lacework's organically-developed, AI-driven, cloud-native application protection platform will be combined with the power of Fortinet's security fabric platform, ensuring broad protection across networks, clouds, and endpoints. This acquisition increases Fortinet's total addressable market by $10 billion and adds a team of talented engineers dedicated to cloud-native security while also expanding our sales force that can sell the entire Fortinet portfolio. Yesterday, we announced several enhancements to Fortinet's OT security platform, which already stands as the most comprehensive OT security platform on the market. These enhancements include new recognizer points, advanced secure networking, and
Speaker Change: Lacework's organically-developed, AI-driven, cloud-native application protection platform will be combined with the power of Fortinet's Security Fabric platform, ensuring broad protection across network, cloud, and endpoint.
Speaker Change: This acquisition increases our total addressable market by $10 billion and adds a team of talented engineers dedicated to cloud-native security while also expanding our sales force that can sell the entire Fortinet portfolio of solutions.
Speaker Change: Yesterday, we announced several enhancements to Fortinet's OT security platform, which already stands as the most comprehensive OT security platform on the market.
Speaker Change: This amount included new Ruggedized opines advanced secure networking and secure operation capability and expanded partnership with leading Ot vendors.
Speaker Change: Reflecting fortinet commitment to security for the growing cyber physical systems market.
Speaker Change: As further evidenced.
Speaker Change: <unk> and commitment to excellence in Ot, we recently earned a prestigious Red Dot product design Award.
Speaker Change: A lag seven inch EBIT can you affect that model.
Speaker Change: Fortinet was the only company.
Speaker Change: Company, let's see this recognition.
Speaker Change: Shree next generation firewall.
Speaker Change: Before turning the call over to Keith wish consent, all employees customers partners and suppliers worldwide for their continued support and hard work.
Keith Jensen: Thank you Ken and thank you Erin and good afternoon, everyone.
Keith Jensen: Let's start with the key highlights for the second quarter.
Keith Jensen: Overall, we are very pleased with our execution in the quarter, we achieved record gross and operating margins at 81, 5% and 35, 1%, respectively, while delivering topline numbers that the high end of our guidance range.
Keith Jensen: Revenue grew 11% as product revenue exceeded our expectations driven by robust software revenue growth and sequential hardware growth that more closely aligned with historical norms.
Keith Jensen: We also added 6300, new logos as we continue to invest in our channel partners.
Speaker Change: As Youll hear in a moment, we believe we are on a pace for another rule of 40 year.
Keith Jensen: But at the same time, we accelerated our investments in the fast growing unified SaaS security operation markets with the acquisitions of <unk> and <unk>.
Speaker Change: DLP.
Speaker Change: <unk> strengthens our position in the high growth seeing that market and expands our total addressable market by $10 billion.
Speaker Change: While next DLP improves our position in the Standalone enterprise data loss prevention market.
Speaker Change: Combined fortinet will gain over 900 customers and talented sales and engineering teams.
Speaker Change: And I'll just pause here to offer a very warm welcome to team members from both companies.
Speaker Change: Continuing with our Q2 highlights we have taken the lead in partnering with the U S Cyber security and infrastructure Security agency our CFO.
Speaker Change: Through a secure by design pledge and are leading with a responsible transparency practices.
Speaker Change: We want to emphasize we understand customer trust is paramount to our business.
Speaker Change: Our continued success across all customer segments and each of our three pillars represents hundreds of thousands of end customers testing and buying Fortinet security solutions.
Speaker Change: Simply stated this is a significant scale advantage.
Speaker Change: Our responsibility a few others have.
Speaker Change: And also offers customers validation at a very robust level.
Speaker Change: We are committed to responsible updates and deployment processes.
Speaker Change: Hi chain controls product security measures and transparency.
Speaker Change: To understand more about the proactive measures, we take the safeguard our customers and our reputation. Please visit our trust website apps quarter net dot Com Slash Trust.
Speaker Change: Looking at billings in more detail total billings were consistent year over year at $1 54 billion.
Speaker Change: Overcoming the headwind from the drawdown in backlog in the comparable quarter.
Speaker Change: At the same time total bookings increased year over year and more importantly, the sequential growth rate approach pre COVID-19 pre supply chain norms.
Speaker Change: Unified SaaS, <unk> and SEC ops delivered strong growth along with software while product sales recovered more than expected.
Speaker Change: We continue to see significant progress from our investments in both pillars.
Speaker Change: Our strong pipeline growth of 45% for unified SaaS fee.
Speaker Change: 18% for SEC ops.
Speaker Change: Both pillars are gaining significant momentum within our installed base is over 90% of unified SaaS <unk> and set top billings are coming from existing customers.
Speaker Change: Larger enterprises continue to be our largest customer segment with large and mid enterprises, combining to representing 86 and 82% of unified SaaS <unk> and SEC ops solutions respectively.
Speaker Change: Within unified SaaS 40, SaaS billings continue to grow at triple digit rates as existing customers can seamlessly integrate our solution within minutes to secure their hybrid workforce.
Speaker Change: While 40 client customers are able to use a single agent to secure internet private SaaS applications.
Speaker Change: We've also integrated 40, AAP was 40 SaaS fee for securing thin edges and unmanaged devices.
Speaker Change: Our unified SaaS solution continues to gain market recognition for.
Speaker Change: For the second consecutive year, we've been recognized as a challenger in the Gartner magic quadrant for single vendor SaaS.
Speaker Change: With the third highest placement and the ability to execute axis.
Speaker Change: And as mentioned earlier.
Speaker Change: We are further improving our <unk> SaaS solution by adding powerful data loss prevention capabilities from next DLP.
Speaker Change: Rounding out the billings commentary SMB was again, the top performing customer segment.
Speaker Change: While international emerging was again, our best performing geography.
Speaker Change: On an industry vertical basis technology, and transportation grew at double digit rates, while service provider in manufacturing were more challenged.
Speaker Change: Turning to revenue and margins.
Speaker Change: Revenue grew 11% to $1 $43 4 billion driven by service revenue growth in software licenses.
Speaker Change: Service revenue of $982 million grew 20%.
Speaker Change: The accounting for 68, 5% of total revenue.
Speaker Change: Service revenue growth was led by 36% growth in SEC ops, and 27% growth in unified SaaS.
Speaker Change: As noted on slide five unified SaaS includes FSC and related technologies together with SD Wan.
Speaker Change: Product revenue decreased 4%, but better than expected to $452 million.
Speaker Change: Excluding the impact of the backlog product sales growth improved 14 points quarter over quarter, and a similar amount year over year.
Speaker Change: Software license revenue growth continued to accelerate at 26%.
Speaker Change: That represented a high teens percentage of product revenue.
Speaker Change: At nearly five point increase in the software mix year over year.
Speaker Change: Combined revenue from software licenses and software services, such as cloud and SaaS Security Solutions, Inc.
Speaker Change: <unk> increased 32%.
Speaker Change: Accelerating from 23% a year ago.
Speaker Change: In providing an annual revenue run rate of over $800 million.
Speaker Change: Yes.
Speaker Change: Total gross margin increased 360 basis points to a quarterly record of 81, 5%.
Speaker Change: It exceeded the high end of our guidance range by 400 basis points.
Speaker Change: Benefiting from higher product and services gross margin as well as a five point mix shift to higher margin service revenues.
Speaker Change: Product gross margin of 66% increased 250 basis points year over year, mainly due to increased software mix and lower indirect costs.
Speaker Change: On a quarter over quarter basis product gross margin increased from 56% to 66%.
Speaker Change: As hardware demand increase in inventory levels and related inventory charges moved closer to historical norms.
Speaker Change: Service gross margin of 88, 6%.
Speaker Change: Increased 240 basis points as service revenue growth outpace labor cost increases and benefited from the mix shift towards higher margin <unk> security subscription services.
Speaker Change: Operating margin increased 820 basis points to a quarterly record of 35, 1%.
Speaker Change: It was 840 basis points above the high end of our guidance range, reflecting the record gross margin as well as cost efficiencies within the business.
Speaker Change: Looking at the statement of cash flow summarized on slides 16 and 17.
Speaker Change: Free cash flow was $319 million for the quarter.
Speaker Change: <unk> 927 million for the first half of 2024 or.
Speaker Change: Or $1 1 billion after adjusting for real estate and infrastructure investments.
Speaker Change: Cash taxes in the quarter with $252 million as a reminder, last year's second quarter benefited from the deferral of approximately $190 million in cash tax payments.
Speaker Change: Which were ultimately paid in the fourth quarter of 2023.
Speaker Change: The infrastructure investments totaled $23 million.
Speaker Change: The average contract term in the second quarter was 28 months flat year over year and up one month quarter over quarter.
Speaker Change: DSO decreased seven days year over year and increased two days quarter over quarter to 68 days.
Speaker Change: While we did not repurchase shares in Q2 share buybacks have totaled $5 3 billion over the last four plus years and the remaining buyback authorization authorization is $1 billion.
Speaker Change: Now I'd like to share a few significant wins from the second quarter.
Speaker Change: And a seven figure deal and International Government Agency purchased 12 solutions across all three pillars, including eight <unk> solutions.
Speaker Change: This new customer selected Fortinet because of our operating system's ability to consolidate over 30 networking and security functions into a single unified platform covering SEC ops SaaS fee.
Speaker Change: Secured networking.
Speaker Change: The customer was impressed with the integrated security and visibility and automated response features of our 40 OS operating system.
Speaker Change: Next in a seven figure win a large utility company expanded our partnership by signing their first enterprise agreement with us to safeguard their ot environment.
Speaker Change: This deal displaces five legacy vendors and includes Ruggedized equipment deployed at the customer's power plants control centers and Substations.
Speaker Change: Key to this expansion win where our proven expertise in securing critical infrastructure and a price performance advantage.
Speaker Change: And lastly in a competitive displacement win.
Speaker Change: Retail store chain purchased 40 SaaS solution at a seven figure deal.
Speaker Change: This customer chose Fortinet because of our integrated 40 OS platform.
Speaker Change: They were able to seamlessly integrate 40 SaaS.
Speaker Change: With their existing Fortinet security solutions.
Now I'd like to offer some comments on customer inventory digestion in the firewall refresh cycle.
Speaker Change: Last quarter, we pointed to a 25% improvement in the number of days of registered 40 guard contracts from its peak a.
Speaker Change: I view this as an early the soft indicator that quote unquote inventory digestion and end users they appear to be normalizing in the firewall market could start to show signs of recovery.
Speaker Change: To provide an update on this indicator and other signs of possible improvement in the firewall market, we can share that.
Speaker Change: As shown on slide 19 in the second quarter. The days are registered a security service contracts improved another 12 days and has now returned to 2020 pre supply chain pre COVID-19 crisis levels.
Speaker Change: Inventory commitments of levels are normalizing at our contract manufacturers and in the channel.
Speaker Change: And as noted earlier the sequential increase in hardware sales in the second quarter aligns more closely with historical norms.
Speaker Change: While these indicators are positive we believe customers are currently managing a tough macro environment and a key election year in the U S.
Speaker Change: We believe this is having an impact on our customers' purchasing decisions.
Speaker Change: As a result, we believe a full refresh cycle is unlikely to occur in 2024.
Speaker Change: More likely in 2025.
Moving onto guidance.
Speaker Change: As a reminder, our third quarter and full year outlook, which are summarized on slides 21 and 'twenty two.
It's subject to the disclaimers regarding forward looking information that are provided at the beginning of the call.
Speaker Change: Before reviewing the outlook I'd like to offer a few modeling notes in light of our lease work and next DLP acquisitions.
Speaker Change: <unk> estimates included in our Q3 and full year guidance.
For billings the acquisitions increased Q3 by approximately one half point.
Speaker Change: And the full year by approximately one third point.
Speaker Change: Total revenue.
Speaker Change: Increased Q3, and full year growth by 1.15 point, respectively.
Speaker Change: For gross margin they decrease Q3 and full year margins by less than one half of a point for each period.
Speaker Change: For operating margin, a decrease Q3 and full year margins by three points and one five points respectively.
Speaker Change: Inclusive inclusive of these acquisition related estimates for the third quarter, we expect billings in the range of $1.530 billion to 1.600 billion, which at the midpoint represents growth of 5%.
Speaker Change: Revenue in the range of $1 billion and $445 million to $1 billion $505 million, which at the midpoint represents growth of 10, 5%.
Speaker Change: non-GAAP gross margin of 79% to 80%.
Speaker Change: non-GAAP operating margin of 35 to 31, 5%.
Speaker Change: non-GAAP earnings per share of <unk> 56 to 58.
Speaker Change: Which assumes a share count of between 767 $777 million.
Speaker Change: Capital expenditures of $40 million to $60 million.
Speaker Change: Our non-GAAP tax rate of 17% and.
Speaker Change: And cash taxes of $125 million to $145 million.
Speaker Change: And again for the full year inclusive of the numbers, we gave a moment ago.
Speaker Change: We expect billings in the range of $6 $400 million.
Speaker Change: $6.600 billion.
Speaker Change: Revenue in the range of $5 800 billion to $5.900 billion, which.
Speaker Change: Which at the midpoint represents growth of 10%.
Speaker Change: Service revenue in the range of $3 billion 975 million to $4 $25 million, which at the midpoint represents growth of 18%.
Speaker Change: non-GAAP gross margin of 79% to 80%.
Speaker Change: non-GAAP operating margin of 30 to 31, 5%.
Speaker Change: non-GAAP earnings per share of $2 13 to $2 18.
Speaker Change: Which assumes a share count of between 767 $777 million cap.
Speaker Change: Capital expenditures of $320 million to $360 million.
Speaker Change: non-GAAP tax rate.
Speaker Change: A 17% and cash taxes of between $525 million and $575 million.
Speaker Change: I look forward to updating you on our progress in coming quarters.
Peter's Lukowski: Before we begin the Q&A session. It is with deep sadness that we recognize the passing of our friend Peter's Lukowski.
Speaker Change: Our SVP of finance and Investor Relations Peter was an integral part of the Fortinet team for over six years.
Patrick: Now for us Patrick for mentoring and developing the next generation of leaders.
Patrick: We'll miss Peter in Fob remember his commitment to fostering talent and nurturing potential within our company.
Speaker Change: I know that Peter worked closely with many of you on this call and the outpouring of condolences of heartfelt memories youll share since his passing.
Speaker Change: So this shows the positive impact he has had on so many people's lives.
Speaker Change: Could you just a great pride in its contribution to Fortinet and rightly so.
Speaker Change: Having contributed to increasing shareholder value from $8 billion to $46 billion. During his tenure at Fortinet.
Yes, Peter.
Aaron Ovadia: Aaron back to you.
Aaron Ovadia: Thank you Keith as a reminder, during the Q&A session.
Aaron Ovadia: That you please limit yourself to one question and one follow up question to allow others to participate.
Speaker Change: Operator, please open the lines for questions.
Speaker Change: Thank you at this time, we will conduct a question and answer session. As a reminder to ask a question you will need to press star one on your telephone and wait for your name to be announced soon withdraw your question. Please press star one again.
Speaker Change: Please standby, while we compile the Q&A roster.
Speaker Change: Our first question comes from the line of Brian Essex of Jpmorgan. Your line is now open.
Brian Essex: Good morning, and thank you very much for taking the question.
Brian Essex: And.
Speaker Change: Obviously, sorry for your loss.
Brian Essex: Okay.
Speaker Change #100: If I could maybe touch on the margins I think.
Speaker Change #101: Incredible margin results for the quarter.
Speaker Change #102: Okay could you help me understand and maybe unpack outside of that obviously, the gross margin benefit that you saw in the quarter.
Speaker Change #103: Maybe help me understand where you saw better cost efficiencies, how sustainable are they particularly in light of the effort to incentivize the channel and the sales force to focus more on selling psychologist SaaS with maybe some incremental effort.
Speaker Change #104: Yes, I think the gross margin is the largest driver of what you saw on the operating margin and particularly when you look at it on a quarter over quarter basis.
Speaker Change #105: And then that we've talked about are made reference to a more normalized environment for us in terms of inventory levels turns and what we're seeing with channel inventory, but also commitments to our.
Speaker Change #105: Contract manufacturers, so I think that we've been working through that for probably the last three quarters, maybe four quarters and with that I would say I think we've returned to a more normal state and so I would expect that to continue on.
Speaker Change #105: I think we're getting a little more contribution from sales and marketing maybe I'd like at the moment and I would expect us to make a little bit more investments there as we look to the second half of the year.
Speaker Change #105: Keep in mind, we're getting a very large group of salespeople is K, Ken made reference to from both the <unk> and the next DLP acquisitions.
Speaker Change #106: But I think we feel certainly comfortable with the guidance that we've given for both Q3 and for the full year on the margin line.
Speaker Change #107: Great maybe just a quick follow up how should we anticipate the impact of the operating margin to reflect on free cash flow as we look through the rest of the year should we look at historical spread between margin and cash flow margin.
Speaker Change #108: And maybe estimate kind of ballpark the same on a spread or are there going to be more puts and takes like typing.
Speaker Change #109: Tax payments that are going to mess with that free cash flow margin as we fine tune our models. Thanks.
Speaker Change #108: Yes.
Speaker Change #110: I think thats a good starting point is to look at the improvement in operating margin flowing through to free cash flow.
Speaker Change #111: Some of the changes that we monitor would be things like contract duration, but you've seen now that <unk>.
Speaker Change #112: Industries and companies have been talking about contract duration for several quarters and you really haven't seen that come through to us yet.
I shouldn't say, yet haven't really is going to come through to us.
Speaker Change #113: So im not sure I think we have opportunity to leverage our balance sheet and more with our customers and prospects that we have but I don't see over the next 90 days or 180 days a dramatic shift in that area.
Speaker Change #114: Okay. Thank you very much I appreciate it.
Okay.
Speaker Change #115: Thank you.
Speaker Change #115: One moment for our next question.
Speaker Change #117: Our next question comes from the line of Hamzah Sutter Waller of Morgan Stanley. Your line is now open.
Speaker Change #118: Good evening. Thank you for taking my question and Echo My condolences.
Speaker Change #119: For Peter and his family will definitely Miss him.
Speaker Change #118: Keith.
Speaker Change #120: I wanted to follow up on the margin question, because obviously it was a very strong beat I think.
Speaker Change #121: A lot more than any of us were expecting.
Speaker Change #121: Historically fortinet has kind of manage the business towards this <unk>.
Speaker Change #122: 25% plus type operating margin run rate I'm curious.
Speaker Change #123: Is this the new base that we should sort of think fortinet goes off of longer term more or is it sort of a onetime margin outperformance given what you saw on the gross margin side coming out of the inventory digestion headwinds. Thank you.
Speaker Change #124: Yes, again, I think the inventory part of that is I think we've worked.
Speaker Change #124: Worked our way back to a more normalized state. So I think that is.
Speaker Change #125: That is our business model going forward, but that way they can always be something that changes, but I don't see us anticipating something in the gross margin line and that is by far and away the biggest opportunity there.
Speaker Change #125: I think it also says that we clearly have the opportunity to more invest more in go to market than we did in the first half of this year.
Speaker Change #125: And I think we factored in some of that investment ideas or those ideas in our forecast and our guidance.
Ken: In terms of whether or not I may Ken cry, when I increase the marginally I did that's a different topic and I'll let him.
Ken: Respond to that.
Ken: So we have a benefit from the service revenue, which has a much higher margin compared with the product revenue so less of the product that is growing.
Ken: <unk> product.
Ken: At the low.
Ken: Gross margin.
Ken: Probably will impact the margin, but the product is also the leading indicator of future service. So that's where we kind of.
Ken: Also the happy we're happy to see the product that can also started growing now.
Ken: I think going forward with our partner has a higher percentage that is probably also impacted our margin.
Speaker Change #126: Makes sense. Thank you.
Speaker Change #127: Thank you.
Speaker Change #126: <unk>.
Thank you one moment for our next question.
Speaker Change #128: Our next question comes from the line of <unk> <unk> of Citi.
Speaker Change #129: Your line is now open.
Speaker Change #129: Thank you for taking my questions.
Speaker Change #131: Sure My condolences for Peter just a fantastic person in absolute.
Speaker Change #131: Keith I wanted to zero in on your comments regarding software license growth you talked about that accelerating 26% year on year I believe now it constitutes a high teen percentage of your product revenue I wanted to understand what are the drivers behind that.
Keith Jensen: Yes, and how we should think about.
Speaker Change #131: <unk>.
Mix shifts.
Speaker Change #132: In the context of your guidance for the remainder of the year and bringing into consideration.
Ed: As Ed.
Mark: Hardware digestion potential prolonging comments that you shared if mark you could help us square that away.
Mark: Yes, I think.
Speaker Change #135: The software license, if you kind of step back and look at what the business model is not to make it overly simplistic.
Speaker Change #136: If so compelling to start with the firewall.
Speaker Change #136: And it's very compelling to start with EASA.
Speaker Change #137: So the physical part of it we don't always do that but we almost always start with a firewall, whether it's physical or virtual.
Speaker Change #138: Really what you want to do is get the operating system and enhance the customer and what form factor that takes us fairly agnostic about that.
Speaker Change #138: But once that happens then you start to see the knock on effect of either selling more firewall use cases in other form factors into organizations or youre seeing that full portfolio of the SEC ops product lines take hold.
Speaker Change #138: Continuous expand throughout organization. So I would expect that we're going to continue to see tailwind and growth no doubt about it from some of the software part of the business.
Speaker Change #138: Will there be a mix shift that slows a little bit when firewall and 40 gate starts to return sure absolutely but.
Speaker Change #138: This has been a trend that we've talked about a little bit I think last quarter and probably some earlier quarters about the software mix and the mix shift that we've been seeing so I would expect that that's going to continue on given the success, we're seeing in the other two pillars.
Speaker Change #138: Yes.
40, K 40, otherwise, we see customers that in turn on more and more function, which also enable more service for us and same kind of 40 SaaS. <unk> has also started pretty much all service service space and class a lot of CCAR.
Speaker Change #139: As high a percentage in our sulfur compared with Howard on the secure networking part.
Speaker Change #139: So thats, both helping drive that additional software and legacy growth.
Speaker Change #140: Thank you very much very clear.
Speaker Change #141: Thank you.
Speaker Change #142: One moment for our next question.
Speaker Change #143: Our next question comes from the line of Gabriela Borges with Goldman Sachs. Your line is now open.
Gabriela Borges: Good afternoon. Thanks for taking my question I have.
Ken: Hi, Ken.
Ken: Key.
Ken: On the firewall refresh cycle.
Speaker Change #145: First of all your comments.
Speaker Change #146: Not expecting to see a recovery in 2020 for sure helped a little bit more detail on why you think of two.
Speaker Change #147: 2025 to what extent.
Speaker Change #148: Giving you an indication.
Speaker Change #148: Will be a question on 2025, perhaps as we get through the election and some of the macro perhaps.
Speaker Change #148: Updated depreciation plans.
Speaker Change #149: Any color on why you think the timing will be 2025 would be helpful. Thanks.
Speaker Change #149: I think it's probably more Keith keeps kind of I think.
Speaker Change #150: The rest of the year, probably still pretty tough microenvironment, whether election or some interest we are still pretty high demand and costs were pretty high.
Speaker Change #151: Thats, where some company may not ready.
Speaker Change #151: On the spend some long term investment which is <unk>.
Speaker Change #151: The product revenue imputed interest structure.
Speaker Change #152: So that will be few.
Speaker Change #152: Also if you look at historically.
Speaker Change #152: Four years four to five years.
Speaker Change #153: That will occur whether networking network security they need to be refresh for faster and more function there.
Speaker Change #153: So thats, where we feel when we start in this supply chain issue the artificially push out the since leg that in 2000, what may be next year will be pretty much full year cycle now.
Speaker Change #153: So some company may start and looking to refresh.
The proactive purchase <unk> five years ago, especially in certain vertical.
Speaker Change #153: Leg <unk>.
Speaker Change #153: Tell us a moderate we see pretty strong growth here early days of a supply chain issue.
Speaker Change #153: We feel probably in the next one to two years they may start in returning to see some.
Speaker Change #153: <unk> on the infrastructure.
Speaker Change #153: On the auto side, we see the big trend, we always believed but always a hybrid mode even that we.
Speaker Change #153: We have a larger events SaaS infrastructure.
Speaker Change #153: Side, but also to secure OTI <unk> secured a lot of it.
Speaker Change #153: Infrastructure will play.
Speaker Change #153: And we do need a plant in the field and also even for SaaS.
Speaker Change #153: We do offer both a cloud based SaaS here and also on premise based private SaaS fee.
Speaker Change #153: So thats also needed some hardware to supporting local customer.
Speaker Change #154: Thank you and our condolences to the team as well.
Speaker Change #153: Thank you.
Speaker Change #154: Thank you.
Speaker Change #155: One moment for our next question.
Speaker Change #156: Our next question comes from the line of Tal <unk> of Bank of America. Your line is now open.
Tal <unk>: Hi, guys.
Speaker Change #158: Can you go back to the fact that busy.
Speaker Change #159: You made two acquisitions this quarter you didn't change.
Speaker Change #160: <unk> guidance for the year, but.
Speaker Change #161: Numbers for this quarter by $20 million.
Speaker Change #161: For the next two quarters.
Speaker Change #162: The drivers.
Speaker Change #163: We spoke about it in the past, but what are the drivers for billings.
Speaker Change #162: The outlook for <unk> going forward.
Speaker Change #163: No.
Speaker Change #163: Second question is your.
Speaker Change #164: Revenues by 11% between Opex, they're flat.
Speaker Change #163: And.
Speaker Change #163: No.
Speaker Change #165: Buybacks now, what's the outlook for buybacks and what's the outlook for Opex.
Speaker Change #166: Growing now.
Speaker Change #166: Starting to executing on revenue growth.
Tal <unk>: Yes, Tal I'll take it.
I kind of missed you're very very faint on your questions or maybe if you could give us maybe a little louder a recap of the two questions you had.
Speaker Change #167: I think thats good.
Tal <unk>: Some kind of above the two acquisition impact on billing.
Speaker Change #167: IBD.
Speaker Change #168: Post acquisition.
Speaker Change #169: Thanks, well, maybe this year will contribute maybe.
Speaker Change #169: Yes, I think if you kind of look at the recap of the year, there's not a lot of variability in it if you will we're a little bit.
Speaker Change #170: <unk> in the first quarter, we came back and recover the first quarter shortage in the second quarter.
Speaker Change #170: Now Youll see us looking at the third quarter, and maybe taking that just a little bit off of some of the street numbers.
Speaker Change #170: And looking to see can you give a little bit of that back in the fourth quarter, but were kind of taken the third quarter.
Speaker Change #170: Correction to the street numbers and putting it into the full year number.
Speaker Change #170: Yes, offsetting a very very similar amount in terms of what we expect to get from the acquisitions and that leaves our full year range very much intact.
Speaker Change #171: And I understand that.
Speaker Change #172: Couple of quick I understand part of that I'm, taking I'm getting inorganic benefit of that number is the half point that we talked about it and really taking down the organic part of the business, but again I think we're talking about small numbers here.
Speaker Change #172: Got it.
Speaker Change #174: Second question. If you can hear me, Okay now, but my second question was about.
Speaker Change #175: Opex it was flat.
Speaker Change #176: No buybacks whats the outlook on those items.
Speaker Change #177: Yes, I think the Opex is probably a little a little lighter on the sales and marketing line than maybe we.
Speaker Change #178: We would like to see particularly as we start looking at more opportunities as we get into the second half of the year and into 2025. So hopefully we'll find some opportunities there to make investments, obviously youre going to get a fairly significant movement. There from the two acquisitions that we just did and we gave a number about what the opex impact was going to be that will largely be in sales and market.
Speaker Change #177: Hey.
Speaker Change #177: Buyback I think that we still remain being opportunistic.
Speaker Change #177: And that opportunistic number changes every 90 days as we reset our plants.
Speaker Change #177: And also.
Market later as a private company public company, we see the.
Speaker Change #177: The multiple probably more friendly for acquisition now compared to the last two three years. So the ratio would go back to more reasonable so that we see some opportunity there.
Speaker Change #179: Great. Thank you.
Speaker Change #179: Yeah.
Thank you.
Speaker Change #180: One moment for our next question.
Speaker Change #181: Our next question comes from the line of Rob Owens of Piper Sandler Your line is now open.
Rob Owens: Yes. Thank you guys for taking my question curious.
Rob Owens: Relative to the macro and obviously a lot of cross currents out there maybe what youre seeing.
Speaker Change #183: Via your different customer sizes and different.
Rob Owens: Theaters.
Speaker Change #184: I think because we are so diversified as you kind of alluded to it 70% of the business is international and a little bit less than 30 in the U S.
Speaker Change #184: And yes, there's been a lot of elections around the world This year, but its certainly the U S election, maybe weighing on people in every kind of taking a position of waiting to see.
Speaker Change #184: As you move pull back from that the international emerging part of the business.
Speaker Change #184: Has been strong very strong for several quarters and continues to be so.
Speaker Change #185: A lot of those are oil producing countries in similar.
Speaker Change #185: So I think they've they've done well in this economic cycle.
They are a little more risk there, perhaps with geopolitical events in some of those countries, but to this point it really hasn't had an impact there.
We are much more likely to be had the number one market share when you move outside the U S and parts of Europe, and the Middle East.
Speaker Change #185: Latin America and parts of APAC.
And I think having an incumbency advantage. If you will helps you in those more challenging times, because youre there youre onsite and you have that opportunity to cross sell and up sell your installed base.
Speaker Change #185: Yes.
Speaker Change #185: Thus the next growing area, which also need more direct marketing direct sales.
Speaker Change #185: Meanwhile, the investment so that's what we do plan to invest more into sales and marketing tool to keep gaining market share in the U S.
Speaker Change #185: And Keith as you contemplate these acquisitions in a little bit of a mix shift to software and I realize hardware weak right now with the potential recovery next year, but.
Keith Jensen: How are you thinking about billings duration, you shave some off the back half and I think some of that is probably the mix shift towards towards software as we kind of look overall at the model and the increase in revenue, but it.
Speaker Change #186: As we contemplate 2025, how should we think about billings duration and potential compression with more cloud based or software deals that are likely shorter in nature.
Speaker Change #187: Yes, well.
Speaker Change #188: I look forward to seeing you on November and November at the Analyst Day, we'll talk more about 2025 and midterm numbers, but in the interim I would probably say that.
Speaker Change #189: If it's a white space account and some of these places like <unk> would be for example, I think this will be much more prone to having a shorter duration contract.
Speaker Change #189: As part of that 90% of me selling SEC ops or SaaS solutions to my installed base.
Speaker Change #189: What I've seen to this point as my installed base continues to purchase in terms of contract duration the way they have historically.
Speaker Change #190: So they havent.
Speaker Change #190: Sell something from the size of our portfolio into one of my firewall customers. They tend to sign up for a longer duration contract. Then you may see from a point solution vendor.
Speaker Change #191: Great. Thanks thoughts are with you and the team.
Speaker Change #191: Thank you.
Speaker Change #191: Okay.
Speaker Change #191: Thank you.
One moment for our next question.
Speaker Change #191: Our next question comes from the line of Shaul Eyal.
Speaker Change #191: TB Cowen Your line is now open.
Shaul Eyal: Thank you hi, good afternoon everybody.
Speaker Change #194: Keith or Ken.
Shaul Eyal: Listening to Keith commentary about that potential refresh cycle not taking place in the second half of this year.
Speaker Change #195: But most likely during 2025.
Speaker Change #196: And again not trying to front run the November analyst day, but should we be thinking about 2025 accelerating over 2024 and again I don't know.
Speaker Change #196: You don't have the current visibility.
Speaker Change #198: 225, but just conceptually is it fair to assume another year of double digit growth.
Speaker Change #199: We do believe.
Speaker Change #200: Next year.
Speaker Change #200: First overall.
Speaker Change #201: We see the long term convergence network coverage to the network security, we're still keeping going on Thats what.
Kayla: We do Kayla.
Speaker Change #201: <unk>.
Speaker Change #201: In secure networking area is about 15% year over year growth.
Speaker Change #201: If you look on the <unk> method presentation slides.
Speaker Change #203: Which page but.
Speaker Change #203: On the other side.
Speaker Change #203: We also see a lot of new opportunity whether in the OTT area in unified SaaS E and also upsell cross sell which all helping driving I have to say probably like a 90% customer initially more buyout for dk.
Speaker Change #203: Adding a firewall now security market first.
Speaker Change #203: We have a huge advantage over competitor, but after that one.
Speaker Change #203: Keeping expanding beyond that.
Speaker Change #203: That will see acuity go to the other areas so thats what happening.
Speaker Change #203: For the unified SaaS for the secure up and.
Speaker Change #203: Now the product, especially on the 40 K firewall side, we are starting to see kind of go back no more citing growing basin.
Speaker Change #203: The market now so we do feel probably next year will be.
Speaker Change #203: The refresh cycle, which after thats, where the existing customer equally had the product for four five years.
Speaker Change #204: That's probably the average.
Speaker Change #204: Starting refresh and until we do see probably next year, we're starting that process.
Speaker Change #204: Got it thank you.
Speaker Change #204: Okay.
Speaker Change #205: Thank you.
Speaker Change #206: One moment for our next question.
Speaker Change #207: Our next question comes from the line of Brad Zelnick of Deutsche Bank. Your line is now open.
Brad Zelnick: Great. Thanks, so much for taking the question.
Brad Zelnick: Steve I think you called out the service provider segment is more challenged this quarter after being a strong performer last quarter and I know, it's lumpy and remains our top vertical as it always has been for Fortinet, but can you share an update on what's happening in that segment and in particular, how your value prop and unified and focus on that.
Anophyte SaaS <unk> and SEC ops supplies in this important vertical.
Steve: Yes, I don't feel the service provider telecom slowed down is really kind of lumpy.
Speaker Change #240: On the other side, we also starting to see the telecom service provider interest in.
Speaker Change #209: Offer their own SaaS, using a product solution, all kind of helping customers to the private SaaS localized SaaS.
Speaker Change #209: Which also.
Speaker Change #209: Helping drive.
Speaker Change #209: Our long term growth.
Speaker Change #209: But I do believe long term wise the service provider will be skewed.
Speaker Change #209: Now the biggest probably one of the biggest part of the whole cyber security business, because we have the infrastructure. They have the customer relations. So we still want to keeping focus on the service provider area on budget for that is ready to sell cycle rescue with long and deep pretty big year.
Speaker Change #209: Eight figure deal, that's where the Lumpiness, probably impacted quarterly, but if you look more long term multi quarter annually I believe is to keeping growing.
Ken: Yes, Ken spot rate, it's a lumpy industry.
Ken: For services can be two times as well.
Speaker Change #210: But I think more importantly, I think the conversations around.
Speaker Change #210: Their own independent SaaS solution that they can bring to market is something thats getting a lot more conversation for the service providers I think we saw first internationally and we're starting to see a little bit more of it here domestically.
Speaker Change #210: That's going to that's a pretty exciting opportunity if it continues to move forward.
Thanks, Keith and thanks, Ken just a quick follow up on the I mean very.
Speaker Change #211: Very impressive operating leverage that you've shown us, particularly on the sales and marketing line, where I know Keith you said that it's more than you'd like to see at this point, but just structurally down, albeit very slightly sequentially on a dollar basis, especially as you outperformed on the top line and billings this quarter I'm, just trying to understand where it comes.
Speaker Change #212: And is there any construction the change that we should be thinking about whether it's commission deferral rates channel rebates or anything else other than head count.
Keith Jensen: Yes, I think there's a few things going on there I think.
Speaker Change #213: Probably nine months ago, we look at the cost structure pretty closely.
Speaker Change #214: Across a number of areas in the first place that people kind of look at and when youre in that but as marketing programs and they get hit pretty hard.
Speaker Change #214: Early on it I think you kind of see that roll through you do make changes to your compensation programs, whether it's for our direct salespeople or for Cherokee about what have you.
Speaker Change #214: And I think maybe as we're coming out of that environment now.
Speaker Change #214: Important for us to kind of revisit some of those decisions.
Speaker Change #214: And making sure that kind of talk about the investment opportunities that we have in the sales and marketing line and I think that would include the channel in that as well.
Why I would say that to your point earlier repeating me.
Speaker Change #214: Probably a little bit lower than we would've liked to have been in the second quarter and I think we'll continue to make go to market investments here in the second half of the year.
Yes, I agree with Keith at least starting tracking more carefully for the OE for you achieved last money market itself and also try to improving the efficiency.
Speaker Change #214: With the market itself on the other side, we are little bit behind on hiring.
Speaker Change #214: Sales and marketing side, which we intend to a salary.
Speaker Change #214: That's actually what we're glad the future growth.
Thanks, very much guys.
Speaker Change #215: Thank you.
Speaker Change #216: Thank you one moment for our next question.
Speaker Change #217: Our next question comes from the line of Adam Tindle of Raymond James Your line is now open.
Adam Tindle: Okay. Thank you I just wanted to continue the margin discussion obviously, you had great product gross margin performance this quarter on top of those tight cost control and the question really is around pricing dynamics in the core firewall business from here the supply chain. It sounds like it's clearly normalize you had multiple years of price increases during this period.
Speaker Change #218: Time, what are your expectations of the pricing dynamic in core firewall from here what would it take to maybe even consider reducing price back to historical at some point and any comment that you want to make on the competitive environment in light of this thank you.
Speaker Change #219: I think we have not increased the price in the last few quarter.
Speaker Change #220: I think that because we still believe we have a huge advantage resolve 40 AC four U S technology.
Speaker Change #220: <unk> function better performance.
Speaker Change #222: Total cost of ownership and also energy cost.
So we feel.
Speaker Change #222: Keeping that advantage over.
Speaker Change #222: Our competitors.
Speaker Change #222: On the other side, we don't see any pressure to also decrease price all kind of come more so.
Speaker Change #222: So that's where we feel we're keeping pretty stable for the price and the same time.
Speaker Change #223: Let the customer see the benefit of a product solution.
Speaker Change #223: It's better performance more function, which also will drive the future service.
Speaker Change #224: I think the bigger environment also we don't view changed March definitely we see that the inventory I'll go back to normal winter.
Speaker Change #224: One kind of inventory and also the channel inventory, that's also helping driving the healthy behavior.
Speaker Change #225: In a business also in the supply chain area, maybe Keith item.
Keith Jensen: Just to repeat what Ken said, maybe a little more granularity I think the price increases that you referred to were really probably late 'twenty, one 2022 impact and I don't think we're really raising prices at 'twenty. Three we did take some prices down at the end of 'twenty three and in the very beginning of 2024.
Ken: But thats really been the only pricing actions. We have note. We've taken the last six months and then to Ken's point I think we're at a moment, where we think that's probably.
Speaker Change #226: The value for the solution is very very strong.
Speaker Change #227: The energy cost that Ken mentioned is trying to get it's gotten a lot of traction internationally in Europe.
Speaker Change #228: Are you starting to see more conversation around that in the U S and that could be people concerned about energy consumption issues with AI and EV.
Speaker Change #229: Government actions manufacturing, so I do think the energy cost advantages coming into play more and then the last one that was discounting was I think very much in line I think we actually improve clinical improved as kind of an even higher prices by about a point quarter over quarter and kind of a similar number one way or the other for the full year or so.
Speaker Change #229: We obviously have room given the margins.
Speaker Change #229: To use discounting and pricing is a lever.
Speaker Change #229: But I think there's other things that we'd like to push on <unk>.
Speaker Change #230: Makes sense. Thank you.
Speaker Change #231: Thank you.
Speaker Change #232: One moment for our next question.
Speaker Change #232: Our next question comes from the line of Adam Borg.
Speaker Change #235: Your line is now open.
Adam Borg: Awesome, Thanks for taking the question.
Adam Borg: And I also like that consultative on Peter's passing certainly missed by all.
Speaker Change #233: All of us.
Speaker Change #234: We'd love to talk about the next DLP acquisition made.
Speaker Change #236: Can you talk a little bit more about what's attracting you to the Standalone enterprise data protection market overall.
Speaker Change #234: Next DLP in particular.
Speaker Change #234: Yes. Thanks for the question this is John Whittle.
Speaker Change #234: There's a lot of positivity around that we obviously just announced it today, we closed at yesterday.
Speaker Change #234: We did a lot of diligence on the company the tech is great.
Speaker Change #234: And not only will we plan to offer a standalone, but also integrated with our Florida SaaS solution and so I think it's another step in steadily bolstering our Ford SaaS solution, we feel very very confident in.
Speaker Change #234: Our strategy there for the most part tomorrow I mean, we've done some tech and talent tuck in on most of our technology is organic.
Speaker Change #234: I think to some of the earlier questions.
Speaker Change #234: You think about the firewall market coming back next year, and we really just started kind of organizing our solutions into these three pillars less than a year ago and the amount of progress. We made in the execution. We have made in kind of developing very very competitive solutions and SaaS and SEC ops. It does kind of addition to secure networking.
Speaker Change #234: It is pretty impressive and I think this is an important step along the way to continue to develop the best SaaS solution out there.
Speaker Change #234: To protect our customers.
Speaker Change #237: That's great and maybe just as a quick follow up there John maybe just could you comment on current levels of sales force productivity for SaaS, and SEC ops and the opportunities for improvement from here. Thanks, guys.
Okay.
Speaker Change #237: Sorry.
John Whittle: <unk> execution with SaaS and setups, just general sales force productivity as you've gone through many months at this point of training and just ramping of the ability to sell that across.
Speaker Change #238: Your company globally.
John Whittle: Yes.
Speaker Change #239: It's a really good question.
Speaker Change #239: I think what we're seeing is it does it does take time.
Speaker Change #239: We are very focused on that broad sales enablement.
Speaker Change #239: I would say I mean, the opportunity just a bounce from our solution sets and we're always with a customer first focus.
Speaker Change #239: So in terms of protecting and serving our customers the opportunity abounds I think our sales force. The good news is they have a ton of opportunity.
Speaker Change #239: I always say they are going to suffer more from indigestion in starvation, but we've got a really a big focus in the company too.
Speaker Change #239: Really trained up that sales force enabled our sales force to make sure we have the incentives in the right place and make sure we have the support and the.
Speaker Change #239: So when they do qualify different opportunities different solution sets, we have the support to to support them in that sale.
Speaker Change #239: So I think like Keith alluded to we often land with the firewall and then expand and give that supports our salesforce with SaaS backup solutions and we're seeing a lot of success there.
Speaker Change #241: Great. Thanks again.
Speaker Change #242: Thank you. Thank you.
Speaker Change #243: One moment for our next question.
Speaker Change #244: Our next question comes from the line of second Kalia of Barclays. Your line is now open.
Sanjit Kalia: Okay, great guys. Thanks for taking my questions here on the tip my cap to Peter as well, we're going to Miss him.
Sanjit Kalia: Ken maybe just to start with you.
Kalia: I wanted to get into just the firewall refresh for next year, a little bit I mean do.
Speaker Change #247: <unk> seen so many refresh cycles over the years, how would you sort of compare this upcoming cycle versus others in the past and maybe touch on how SaaS fee and sort of maybe what sounds like a higher mix of virtual might sort of play into that.
Speaker Change #248: Clearly this.
Speaker Change #248: The infrastructure probably different than the last refresh cycle.
Speaker Change #249: More hybrid <unk> environment, whether working remotely and also most upon him broad connection.
Speaker Change #250: In connect all these ot Iot device level.
Speaker Change #251: For the SaaS, we always believe also should be a hybrid SaaS environment.
Speaker Change #251: Donnelley.
Speaker Change #251: Do need to have a private SaaS some merger.
Speaker Change #251: Local sites offer by service provider and also some kind of SaaS I also need to secure <unk>, which cannot install the sulfur agent.
Speaker Change #251: Now for the AEP 40 switch two.
Speaker Change #251: Sexual this agent this device.
Speaker Change #252: So thats, where we view.
Speaker Change #252: This also would probably it's kind of a.
Speaker Change #252: The unified SaaS it will be.
Speaker Change #252: The long term future. We believe we can also combine both the hardware and the sulfur and infrastructure and our clients together.
Speaker Change #252: So thats, where the refresh on the site and then what's the acuity of all of these are probably the biggest market.
The biggest market in the cyber security for probably 30 years now 20, certainly yes.
Speaker Change #252: Keeping expanding.
Speaker Change #252: Because more people devices get connected more application to access our data even as the cloud.
Matt: To need to take you on that Matt with side. So that's what we see.
Matt: When you try to access the network side and also the loft conversions of networking security.
Matt: And that's also with clients.
Speaker Change #254: Refresh. That's also you can see the kind of research we are pulling out.
Speaker Change #255: The convergence of networking and that was secured to also starting our salary team. So arguably I think last year. They say by 'twenty 30 does picture networking will be larger than traditional networking, obviously 2026 full years ahead.
Speaker Change #255: The secure networking will be larger than the traditional networking so thats why we rally.
Speaker Change #255: Invest long term on this trend and with all of these.
Speaker Change #255: Pos for the assay and making the best both alpine and infrastructure at ASIC technology and the same time also try to invest.
Speaker Change #256: <unk> sales marketing area really.
Speaker Change #256: Catch the trend and also keeping gaining market share.
Speaker Change #256: Our strategy to be at.
Speaker Change #257: Okay that makes a lot of sense, Keith if I can fit in one quick follow up just on the software mix in product and I think you said call. It roughly 800 million run rate can we just touch on even anecdotally roughly how much of that is sort of virtual firewall versus SEC ops and I realize they are coming in at software.
Speaker Change #258: Most margins, but can you put a finer point on that and sort of what that aggregate business might be coming in at from a gross margin perspective, as we think about that gross margin shift long term.
Speaker Change #258: Well I think the I think.
Speaker Change #259: Whether it's.
Speaker Change #261: A virtual firewall or any other software product or the software licenses are all coming in at very very attractive margins.
Speaker Change #262: I think that when you look at some of the SaaS solutions that are sitting in the services line for <unk> and so forth you get you get a very wide range of margins here, but its only because of the relative size of maturity of the other solution. Obviously something is very new and absorbing a lot of the hosting cost a little harder, but those are big big numbers.
Speaker Change #262: As Youll see those tech op solutions get greater and greater traction.
Speaker Change #262: More critical mass the margins start to normalize I think kind of what what's really been exciting is the ability to absorb those datacenter pop Colo everybody's got their hand of deposits on these things cloud provider fees and developing the SaaS solutions and still bring up.
Speaker Change #262: Services gross margin.
Speaker Change #262: And by the same token being able to absorb.
Speaker Change #262: The charge for less work on the operating margin line, because we manage the business in terms of cost of goods sold for the product side.
I think we're really really pleased with how those two things will work hand in hand.
Speaker Change #263: Absolutely, but chose thanks very much.
Speaker Change #264: Thank you one moment for our next question.
Joseph <unk>: Our next question comes from the line of Joseph <unk>.
Jeffrey: Jeffrey Your line is now open.
Speaker Change #267: Alright. Thanks for the question I also want to Echo my condolences about Jim and Peter Assembly can choose to sell.
Jeffrey: Just wanted to double click on what drove the better performing product and QQ was there some large deals a region segment or vertical that stood out, especially since you don't expect the refreshed benefit and so no counterparty.
Speaker Change #268: Yes, Great question I mean, we've talked about eight figure deals.
Speaker Change #269: Our size eight figure deals with kind of whipsaw around as you saw in the fourth quarter last year, we did six of them.
Speaker Change #269: 168 figure deal in Q1, we had two in Q2, so I wouldn't attribute it to that I think that yes, I think what we saw.
Speaker Change #269: Last month of the quarter, and particularly as we got into.
Speaker Change #269: The last week of the quarter, what you see in a strong market as a lot of deals harder to fall in place and we are getting across the finish line.
Speaker Change #269: We saw a lot more positiveness, if you will at the end of Q2 that maybe we saw say at the end of Q3 or something like that of last year.
Speaker Change #270: Okay. Thanks, and then just on a follow up to that and I think it was a follow up <unk> question given that mix shift you now expect.
Speaker Change #271: The second half given the delayed refresh what is your confidence or visibility into the billings reacceleration in the second half do you in theory, you have more visibility now given that it's less hardware based or how are you thinking about that thank you.
Speaker Change #272: Yes, I don't think that the.
Speaker Change #273: Form factor really impacts of visibility in terms of what's in the pipeline or how we work with our sales teams in terms of forecasting.
Speaker Change #273: Not notice.
Speaker Change #275: A difference if you will and close rates between a virtual machine in a physical machine.
Speaker Change #276: We probably would do some more deep study two maybe.
Speaker Change #276: Analyst Day, we'll give some color next year and also some midterm model in November 18th which also the fifth anniversary.
Speaker Change #276: <unk> anniversary of the IPO.
Speaker Change #276: Sure.
Speaker Change #277: Thank you.
Speaker Change #277: Thank you.
Speaker Change #277: Thank you.
Speaker Change #277: This concludes the question and answer session I would now like to turn it back to Aaron.
Aaron Ovadia: Director of Investor Relations.
Aaron Ovadia: Thank you I'd like to thank everyone for joining today's call.
Speaker Change #278: Fortinet will be attending investor conferences hosted by Hi, Deutsche Bank Goldman Sachs and Oppenheimer. During the third quarter. We will also be holding an analyst day on November 18th where we expect to update our medium term financial model.
Speaker Change #279: Webcast link will be posted on the events and presentation section of Fortinet Investor Relations website. If you have any follow up questions. Please feel free to contact me have a great rest of your day.
Speaker Change #280: Thank you for your participation in today's conference. This does conclude the program you may now disconnect.