Operator: 2026 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, we will conduct a question and answer session. Please be advised that this call is being recorded. I would now like to hand the call over to Anthony Luscri, Vice President of Investor Relations. Please go ahead.
Anthony Luscri: Thank you. Good afternoon, and thank you for joining us on today's conference call to discuss Fortinet's Q3 2026 financial results. Joining me on today's call are Ken Xie, Fortinet's Founder, Chairman, and CEO, Christiane Ohlgart, our CFO, and John Whittle, our COO. Ken will begin our call today by providing a high-level perspective on our business.
Anthony Luscri: Christiane will then review our financial results for Q3 2026 before providing guidance for Q4 and updating the full year. We will then open the call for 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.
Anthony Luscri: Before we begin, I would like to remind everyone that on today's call, 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, the risk factors in our most recent Form 10-K and Form 10-Q for more information.
Anthony Luscri: All forward-looking statements reflect our opinions only as of the date of this presentation, and we undertake no obligation, specifically disclaim any obligation to update forward-looking statements. 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 in the presentation that accompany today's remarks, both of which are posted on our investor relations website.
Anthony Luscri: As a reminder, this is a live call that will be available for replay via webcast on our investor relations website. The prepared remarks will also be posted on the quarterly earnings section of our investor relations website following today's call. Lastly, all references to growth are on a year-over-year basis unless noted otherwise. I will turn the call over to Ken.
Ken Xie: Thank you, Anthony, and thank you everyone for joining our call. We are pleased with our excellent Q3 result, driven by strong execution and broad-based demand. Billing growth 29%, while total revenue increased 20%, led by 37% growth in product revenue. Based on our continuous strong momentum, we have raised our 2026 billings guidance for the third time this year. With the rapid evolution of the AI landscape, Fortinet is leading the next frontier of cybersecurity by securing AI workflow and protecting against AI-discovered vulnerability in real time through our core strengths in network security.
Ken Xie: We believe that network security is the most critical foundation of AI security, with the firewall serving as the centralized point of inline enforcement across enterprise, operation technology, and hybrid cloud environment. Fortinet's leadership in this space is driven by over 20 years of innovation, integration, and improvement as shown on slide seven.
Ken Xie: By continually expanding our AI capability and the functions in FortiOS and FortiGuard services, Fortinet secures four critical areas of infrastructure and AI security as shown on slide nine. First, at the network level, our SASE firewall natively protects against vulnerabilities and stops intrusions, supporting shadow AI monitoring and access control to data and applications. To address growing demand, the newly launched FortiGuard Inline AI Security Service this week transforms every FortiGate into a real-time AI enforcement point.
Ken Xie: Second, in the data center and AI factories, we offer FortiAIGate to secure GPU clusters and LLM infrastructure, securing the massive growth in AI traffic that requires high performance protection across data center and hybrid cloud. Third, we extend AI security together with SASE to endpoint, defining, controlling, and integrating agent identity directly into access and incident response lifecycle.
Ken Xie: And fourth, our SOC 40 agent delivers a highly automated solution to solve industry security shortage and tool sprawl by enabling autonomous incident detection and response. Our SASE firewall pillar billing grew 31%, and we are the fastest-growing SASE firewall vendor at scale, growing at nearly double the market growth rate, as shown on slide five.
Ken Xie: Our leadership stems from our fundamental architecture advantage, as we are the only vendor in the industry to build all the key SASE, firewall, and AI security components into a single and unified operating system, FortiOS. This new SASE firewall pillar represents a large, high-growth area, driving long-term growth. Combined with our differentiated FortiASIC technology and owned global infrastructure, this allows Fortinet to deliver better performance and significantly lower total cost of ownership, as shown on slide 14.
Ken Xie: We are also the only vendor offering an easily deployable on-premise sovereign SASE solution alongside Cloud SASE, which we believe gives us an addressable market two to three times larger than the cloud-only competitors. To further capitalize on our large installed base, we recently launched FortiLink SASE Services. These positions are FortiAP and FortiSwitches as a SASE hardware agent, allowing customers to easily overlay FortiSASE on top of their existing hardware, driving recurrent service revenue.
Ken Xie: As we look ahead, Fortinet's strong momentum is a result of our vision for the AI era, our platform integration, and a highly disciplined operational model. This combination positions Fortinet exceptionally well to drive strong cash generation, high recurring revenue, and consistent GAAP profitability while executing our shareholder-focused capital allocation strategy. I would like to thank our employees, customers, partners, and suppliers worldwide for their continuous support and hard work. I will now turn the call over to Christiane.
Christiane Ohlgart: Thank you, Ken, and good afternoon, everyone. We delivered another exceptional quarter, exceeding the midpoint of our guidance across our key growth and profitability metrics, including billings, revenue, operating margin, and earnings per share. Based on our strong momentum, we have raised our 2026 billings and revenue guidance.
Christiane Ohlgart: Total billings grew 29% to $2.34 billion, reflecting broad-based demand and strong execution across customer segments, industry verticals, geographies, and our integrated and innovative portfolio of solutions, further validating the strength of our platform strategy. AI, SASE, and network upgrades and expansions are key growth drivers as customers prepare for new threat environments. We saw strong demand in large enterprises with a total value of deals greater than $1 million, growing 51%, driven by an outsized contribution from our US large enterprise business.
Christiane Ohlgart: SASE firewall billings grew 31%, as sustained FortiGate demand was driven by enterprise customers turning to our network security solutions to upgrade their infrastructure for the era of AI and expand their Fortinet security footprint into operational technology and AI data center use cases. Our OT billings grew nearly 40%, validating our leadership in protecting mission-critical infrastructure. These achievements highlight our focus on leading growth and innovation in the durable demand drivers as we capture long-term expansion opportunities across emerging high-value use cases.
Christiane Ohlgart: Billings from AI-driven security operations grew 15%, driven by strong upsell momentum as our installed base increasingly consolidates point solutions onto our broader platform. Turning to revenue. Total revenue grew 20% to $2.08 billion, with product revenue increasing 37% to $765 million. Even though we saw increasing lead times for certain components, strong product demand persisted throughout the quarter.
Christiane Ohlgart: As in the prior quarter, our product revenue benefited from customers shifting towards higher performing models, lifting ASPs. Service revenue grew 13% to $1.31 billion and faced some headwinds from winning new large enterprise customers with ramped service activations and large new expansion deals that also consolidated various existing service arrangements into enterprise agreements. We continue to believe that Q1 2026 marked the trough for our services revenue growth rate.
Christiane Ohlgart: As shown on slide 19, we have key leading indicators supporting a continued positive trajectory, specifically robust 26% service billings growth, 19% total deferred revenue growth, and a 14.5% increase in short-term deferred revenue, which represents our highest growth rate in five quarters. In addition, we continue to roll out new AI security services, including the FortiGuard Inline AI Security Service announced this week.
Christiane Ohlgart: To put our overall performance in perspective, our sustained growth is being propelled by several fundamental shifts in how enterprises approach cybersecurity. We are witnessing a transformed threat landscape where bad actors aggressively use artificial intelligence to orchestrate rapid, highly targeted attacks. This shift has elevated security from a back-office IT concern to a board-level enterprise risk management priority, accelerating investments. Our Q3 results highlight our continued momentum and how our portfolio evolves with accelerated market shifts.
Christiane Ohlgart: Specifically, we are winning because of the convergence of networking and security, the urgent push to safeguard AI use and get ahead of increased threats enabled by AI, the merging of IT and OT domains, and the rising global demand for sovereign compliant architectures. Sovereignty is especially prominent throughout European enterprises and the global public sector, matching our long-standing market leadership in those markets.
Christiane Ohlgart: In this environment, as enterprises scale their AI projects and experience the increased threat environment, they face the massive challenge of safeguarding proprietary datasets. This transition requires high-capacity security architectures that can inspect vast amounts of data, accelerating traffic flows without degrading performance. Rather than deploying disconnected point products that add friction, IT and security teams are actively looking for integrated platforms that offer centralized visibility and accelerated automated responses.
Christiane Ohlgart: Fortinet is strongly positioned to capture this demand by securing the physical AI data center, protecting distributed AI applications, and embedding AI directly into our security operations. For example, an AI company developing frontier models selected Fortinet for a seven-figure expansion to secure its rapidly growing AI workloads. This strategic win builds on the successful deployment of the customer's first AI data center last year.
Christiane Ohlgart: Driven by that initial success, a deep trusted relationship, and the strength of our technology, the customer has standardized on Fortinet, deploying our high-end data center firewalls across 5 additional data centers. Our solution addresses the challenge of protecting high-value AI workloads while maintaining maximum performance, availability, and scalability as their infrastructure expands. This deal exemplifies the leading throughput and resilience of our platform, positioning Fortinet as a foundational security partner for the world's most demanding next-generation AI environments.
Christiane Ohlgart: This fast-changing threat environment has turned high-performance security into a structural necessity. Because enterprises and governments are highly aware of AI-powered attack vectors and expanding regulatory oversight, they are directing investments towards SASE firewalls that can defend complex, decentralized environments. To address these distinct operational and regulatory environments, Fortinet provides significant flexibility.
Christiane Ohlgart: By natively converging firewall, SASE, and hybrid mesh capabilities into a single OS, we deliver a seamless way to protect people, customers, applications, and sensitive assets across physical sites, cloud environments, and remote teams. This flexible deployment model is a significant competitive advantage, allowing customers to build a SASE posture that matches their specific enterprise risks and regulatory requirements.
Christiane Ohlgart: Turning to operational technology, safeguarding the edge and industrial networks has become one of the most urgent issues discussed at board levels of our customers today. Security boundaries have blurred, exposing critical supply chains, utility grids, and manufacturing systems to unprecedented risk. Manufacturing has been the single most targeted sector for 5 consecutive years. Combined with escalating attacks on regional critical infrastructure, it is clear that historically underfunded OT environments are highly vulnerable.
Christiane Ohlgart: To mitigate this, organizations are rushing to segment their networks, shield unpatchable legacy machinery, and establish secure remote access. With AI now arming attackers, these security decisions are being fast-tracked directly by corporate boards and leaders. Fortinet's FortiOS platform, enhanced by FortiGuard security subscriptions, gives enterprises complete unified visibility over both their corporate IT and OT domains and a way to control the new attack surfaces AI creates.
Christiane Ohlgart: This architectural advantage is driving sustained demand across our specialized industrial portfolio. To illustrate, a large transportation company selected Fortinet in an eight-figure competitive win to secure its mission-critical OT infrastructure. The win was driven by the customer's need to modernize and secure its distributed environments through Fortinet's converged networking and security capabilities.
Christiane Ohlgart: By consolidating firewall, secure routing, 5G connectivity, and deep OT inspection into a single platform on one unified appliance, the customer is simplifying its overall network design while significantly improving operational resilience. This significant deployment highlights our leading ability to protect highly specialized, demanding OT environments while delivering an optimized total cost of ownership and streamlined operational efficiency.
Christiane Ohlgart: Further proving our architectural advantage at the edge, a large US retailer selected Fortinet in an eight-figure deal to standardize and secure its footprint for 1,500 store locations. The strategic win was driven by the customer's need to enhance network performance and digital resilience while wanting to offer an improved in-store customer experience. To support its distributed operations, the retailer required a simplified network design and architectural standardization that allowed them to scale seamlessly while dramatically reducing overall costs.
Christiane Ohlgart: Fortinet's ability to deliver a comprehensive, unified security fabric managed centrally by our FortiManager proved to be a key differentiator. The successful competitive win of this large rollout demonstrates also the invaluable role of Fortinet's highly trained and specialized partner network, whose deep technical expertise is essential in deploying complex enterprise-grade solutions. Our exceptional quarter highlights our relentless focus on the dynamic market themes shaping the cybersecurity industry.
Christiane Ohlgart: We believe Fortinet's integrated platform approach positions us well to capture share, deliver sustained growth, and maximize long-term shareholder value. Turning to margins and cash flow. Non-GAAP and GAAP gross margins were 79.6% and 79% respectively and were impacted by the continuously high contribution of product demand. Non-GAAP operating margin of 38.2% was a third-quarter record, up 130 basis points. This performance exceeded the high end of our guidance, driven by stronger-than-expected revenue growth and disciplined cost management.
Christiane Ohlgart: Moreover, our GAAP operating margin of 33.9% continues to be one of the highest in the industry. The strong operating performance translated to the bottom line. Non-GAAP earnings per share increased 23% to $0.91, while GAAP earnings per share grew 39% to $0.86, outpacing our top-line growth, reflecting high-quality earnings supported by our long-term focus on total shareholder returns. Free cash flow grew 52% to $865 million in the third quarter, and 74% year-to-date to $2.84 billion, driven by higher billings and operating margin strength.
Christiane Ohlgart: Adjusted free cash flow was $912 million, representing an exceptional margin of 44%. Our excellent execution and consistent cash generation continue to support our strong financial position. Reflecting the strength of our balance sheet and our ongoing commitment to delivering long-term shareholder value, our board of directors approved an approximately $1.2 billion increase to our authorized stock repurchase program.
Christiane Ohlgart: This brings our remaining share repurchase authorization to $2 billion, giving us flexibility to continue returning capital to our shareholders while investing in our key growth pillars. Now moving on to guidance. As a reminder, our Q4 and full-year outlooks, which are summarized on slides 24 and 25, are subject to the disclaimers regarding forward-looking information that was provided at the beginning of the call.
Christiane Ohlgart: Consistent with our disciplined and prudent approach to guidance, our strong performance through the first 9 months support a higher full-year outlook. We are raising our full-year guidance for billings and revenue as well as operating margin and earnings per share. For Q4, we expect the following. Billings in the range of $2.775 billion to $2.925 billion, which at the midpoint represents growth of 20%.
Christiane Ohlgart: Revenue in the range of $2.155 billion to $2.245 billion, which at the midpoint represents growth of 15%. Non-GAAP gross margin of 78% to 80%. Non-GAAP operating margin of 35.5% to 37.5%. Non-GAAP earnings per share of $0.93 to $0.95, which assumes a share count between 741 million and 745 million. Infrastructure investments of $180 million to $210 million. A non-GAAP tax rate of 18%, and cash taxes of $80 million to $130 million.
Christiane Ohlgart: For the full year, we expect billings in the range of $9.568 billion to $9.718 billion, which at the midpoint represents growth of 28%. Revenue in the range of $8.125 billion to $8.215 billion, which at the midpoint represents growth of 20%. Service revenue in the range of $5.15 billion to $5.17 billion, which at the midpoint represents growth of 13%. Non-GAAP gross margin of 79.7% to 80.3%. Non-GAAP operating margin of 36.5% to 37.5%.
Christiane Ohlgart: Non-GAAP earnings per share of $3.54 to $3.58, which assumes a share count of between 741 million and 743 million. Infrastructure investments of $390 million to $420 million. Non-GAAP tax rate of 18%, and cash taxes of $400 million to $450 million. Our current 2026 fiscal year guidance represents an increase for billings and revenue guidance by $1.14 billion and $570 million respectively, compared to our initial 2026 guide in February.
Christiane Ohlgart: As we look ahead to 2027, we expect our total billings and revenue growth to outpace the growth of our overall addressable market. Our 2027 service revenue is expected to grow at a higher rate compared to 2026 as we consider short-term deferred revenue growth as a good indicator for future service revenue growth.
Christiane Ohlgart: In addition, we see continued pipeline building for SASE firewall use cases and expect that the new FortiGuard services will be highly relevant for existing and new customers. I will now hand the call back over to Anthony to begin the Q&A session.
Anthony Luscri: Thank you, Christiane. As a reminder, 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. Operator, please open the line for questions.
Operator: Thank you. If you would like to ask a question, please click the raise hand button at the bottom of your screen. When it is your turn, you will hear your name called and receive a message on your screen notifying you that you may unmute yourself. We will allow a moment for the queue to form. Our first question is from Shaul Eyal from TD Cowen. Please unmute your line and ask your question.
Shaul Eyal: Thank you. Good afternoon. Congrats on the solid results all around. One for Ken, one for Christiane. Ken, can you talk about the criticality of network security on SASE firewall SecOps? In other words, the overall Fortinet platform in the age of AI specifically. Where does Fortinet address AI use cases? How does this opportunity impact your growth rate and sustainability of demand?
Shaul Eyal: For Christiane, can you double-click on the service revenue? You are adding new services. You provided an early view on improved growth in 2027. Talk about it in the context of the Q3. Is this more of a timing issue on revenue given the leading indicators all in all look absolutely solid?
Ken Xie: Thank you, Shaul. It is a great question. I actually prepared a slide for that on slide 4. You can see we are starting call is a SASE firewall because we believe SASE is a function integrate with the traditional FortiGate OS, and the same for the AI security. In my script, we believe network security is the most important part of AI security because they are the inline enforcer to a lot of AI traffic, and also provides better visibility.
Ken Xie: With our leadership in the global network security market, we have over half of the global unit deployment. We believe we have a much better visibility, and that gives us a lot of data can trend, make a better SASE firewall model. At the same time, keep innovating, keep up all the technology, plus investing like ASIC.
Ken Xie: That is where we have the confidence we can grow faster than the market. That is where combining all this AI security, all the SASE, all the traditional security, we believe the total addressable market will grow about 16% in the current market growth rate. We continue to grow faster. Last quarter, actually, we almost doubled the market growth rate.
Ken Xie: We have already become the biggest SASE firewall player in the space, and then we continue to grow faster than the market. We feel it is still a pretty big market, and we will keep growing for a long, long time, just like we did in the last 20, 30 years. I think network security is in the market position to address the AI security concern.
Christiane Ohlgart: Let me follow up on your second question regarding services.
Shaul Eyal: Sure.
Christiane Ohlgart: As I mentioned in the prepared remarks, we see strong services billings, and so many of the indicators for service revenue improved. It is really a timing issue. The strength in our enterprise segment, I think, is part of the reason that we see some delays in the conversion because we sold a number of really nice big deals, and they have some ramped service activation. It is a lot of strength in the business.
Christiane Ohlgart: Plus, we continue to focus on services, and this is where the newer services and solutions play, of course, a critical role to continue to upsell our existing customers. Of course, all our existing FortiGuard services are evolving, but the new FortiGuard Inline AI Security Service addresses some specific risks that are new with AI, and that require constant FortiGuard updates. So it is going to be highly relevant to our customers.
Shaul Eyal: Thank you.
Operator: Thank you. Our next question is from Saket Kalia from Barclays. Please unmute your line and ask your question.
Saket Kalia: Great. Hey, guys. Thanks for taking my question here. Ken and Christiane, maybe for both of you. This has been a very strong year for the product line, and of course, that is a combination of a variety of different things, whether it is pricing or mix shift or volume. Now, I realize it is early to talk about 2027, but based on what we see here in Q4, how should we think about product growth next year, given what is a very tough compare here in 2026?
Ken Xie: I think probably we are still 3 months early to give the 2027 guidance, but we do have a confidence we will grow faster than the market. If you look in the SASE firewall market, current growth rate is 16%, and we do believe we are keeping gaining market share there. Plus, we have pretty strong operation model.
Ken Xie: With our own ASIC chip, with our manufacture managed by ourselves, plus operation directly, we feel we have a more advantage in this supply chains issue compared to most other competitors. That is where we have a confidence we are keeping gaining market share in this space with the better technology, with the better operation and execution.
Christiane Ohlgart: Let me add.
Saket Kalia: Got it. Very helpful.
Christiane Ohlgart: Yeah, let me add to what Ken said. If you look at the demand environment, the demand environment is pretty solid. The AI attacks are happening, not only the deployment of AI, it is also the threat environment that has increased quite significantly. That really drives the requirement for customers to upgrade their network security and of course, new use cases as well. We are confident that we are well-positioned for 2027.
Saket Kalia: Got it. Maybe for my follow-up, again, for you, Ken. One of the building blocks there that we hit on was pricing. I was wondering if you could just talk about your latest thoughts on pricing. You have passed through the cost increases from memory, but maybe the question is: Where are we in that journey? Of course, it is tough to have a crystal ball going into next year, but how do you think about that as a lever in 2027?
Ken Xie: The price so far has about 10% benefit on the top line. On the other side, you can look in the H1 of the year, we do benefit from our kind of on-hand inventory, which we keep on saying in a normal year, we keep about six months on-hand inventory. That is where, in the early phase of supply chain, we kind of have a buffer we can benefit from.
Ken Xie: But now starting from Q3, we see this become more normal. That is where we have to continue to source in like others, and at the same time, even we have a bigger quantity, we have more direct relation. But we do see the lead time get longer. I say the price probably stabilized, but not improved yet. I think the price increase kind of slowed down compared to the first one, Q1, Q2.
Ken Xie: Q3, I say stabilized but not improved yet. Still a slowly increase. It is difficult to forecast going forward. Our policy, our strategy always, we want to keep in the same gross margin. If our costs go higher, we will increase accordingly. If our costs get lower, we also will decrease accordingly. That is where we want to maintain the same gross margin on the product side. That is the company's strategy in the last 20 years, actually.
Saket Kalia: Very helpful. Thanks, guys.
Ken Xie: Thank you.
Operator: Thank you. Our next question is from Gray Powell from BTIG. Please unmute your line and ask your question.
Gray Powell: Okay, great. Thanks for taking the question. Can you hear me okay?
Ken Xie: Yep, all good.
Gray Powell: Excellent. Maybe just a higher level question. A lot of the investors that we speak with, they are just trying to compare the current spending environment that you are seeing this year to that of the post-COVID period, like in 2021 and 2022. If I had to guess, the current AI-driven cycle is probably bigger. The question is just how does it feel on your side relative to post-COVID a few years back, or even the post-Target era spending cycle that we saw in 2014 and 2015? Do you think that this cycle is more durable than past cycles?
Ken Xie: I personally agree with you. I do feel these times are bigger than 5, 6 years ago. That time is more kind of a work from remotely from home drive some kind of supply chain, but now it is kind of AI build a lot of infrastructure kind of things there. On the other side, AI also drive up the demand, because nowadays, most recently, the AI security become bigger concern, especially a lot of enterprise, how they are using AI, that is also drive up the demand. That is where we have now seen demand slow down. Demand still very strong in the last few quarter. Even in Q3, we have not seen any slowdown on the demand.
Ken Xie: But supply, we mentioned, the lead time get longer and also the price kind of not grow as fast as Q1, Q2, but still kind of go up a little bit. But I would say stabilize somehow. That is probably more become normal. But we believe we have pretty strong operation and the direct relation with all the component manufacturer, which we can negotiate compared to some competitor, much small quantity. So that is where we feel we still have more advantage.
John Whittle: I think your point is also good that our business follows the threat. You mentioned the Target breach, COVID, et cetera. This AI threat, no one has a crystal ball, as somebody mentioned earlier, just seems a lot more durable and sustainable than some of those earlier threat drivers. So I think it feels like early days, and like you said, our business does follow that threat, and that threat environment is elevated, and it seems like it is durable.
Gray Powell: Okay, that is helpful. Thank you.
Operator: Thank you. Our next question is from Rob Owens from Piper Sandler. Please unmute your line and ask your question.
Rob Owens: Great. Thank you very much for taking my question. Maybe dovetailing that last answer around the threat environment. Obviously, headlines have been somewhat scary, I guess, for the month of October relative to agentic and what is going on. I would just love to understand, I realize we are only 1 month into your Q4 here, but just how things are trending. Have they picked up much over the last month? Is there anything you can quantify for us relative to, I guess, how the start of Q4 has looked given what is going on from a vulnerability perspective? Thanks.
Ken Xie: Yeah, the demand is still very strong, and we do not see any slowdown. There is definitely AI discover more vulnerability, like all the PHP, some other, and we do believe all FortiGate in the best position to stop some of this attack intrusion. We do have the signature can block some of this vulnerability, which is very effective way to helping a lot of enterprise to defend it. Also, we see AI also accelerate some of the convergence.
Ken Xie: We do see more high-end unit being deployed inside the company to do internal segmentation. Also, we mentioned the sovereign AI, also we see pretty strong growth. That is where we do believe long-term, the hybrid AI, both sovereign and also cloud combination will be the best solution for customer, which we feel we have a huge advantage. Let us say that the demand is still very, very strong and no sign of slowdown.
Operator: Thank you. Our next question is from Meta Marshall from Morgan Stanley. Please unmute your line and ask your question.
Meta Marshall: Great. Thank you. A couple of questions for me. Noted kind of the strong OT security billing. Are you seeing a broadening customer base there? Any kind of contextualization of how you see any major new customers there? A second question, just in terms of are you running into your customers kind of having any issues of having the services or even the staff to install a lot of the equipment? Is there anything you can do with your own services organization to kind of help those customers out or align them better with additional services that can help them with the installation? Thanks.
Christiane Ohlgart: Meta, let me take your questions. On the OT side, I would say we have been strong in certain geos and we are expanding that strength into other regions, just because we have more and more customer references. They see the benefits of our specialized devices that we have for that. So it is a broadening of the strength and continued expansion now because it is also becoming more and more relevant with attack surface expanding.
Christiane Ohlgart: On the installation side, typically Fortinet services are more on the configuration side, not necessarily on the racking and stacking. That is why we have an extensive reseller and partner channel that we qualify to do these things locally with our customers. I have not really heard that there is a shortage in the ability to roll out. I think it is not the channel capability or capacity, it is more so how quickly can the customers do that.
Christiane Ohlgart: That is always, I think, depending on the business you are in. In Q4, probably a little bit more challenging because many get ready for year-end business and so on. If you are a calendar year company, you do not make major changes until the next year.
Ken Xie: Fortinet, kind of uniquely, we build our own kind of a service infrastructure system we call the FortiCare. Half of the FortiCare service kind of can use AI to handle, to help in improving there. That is also we starting more have the service personnel local to customer, which also will be helpful for the customer to understand the additional new service we are launching now. That is also we feel that will help in drive the additional service business going forward.
John Whittle: And Meta, I think to your question, I just talked to a retailer who is considering rolling out our solution to 4,000 stores around the country, and we are going to engage an MSP, like Christiane mentioned. But at that scale, we are seeing demand where they want to work directly with us, and so our service team can augment their service team and the MSP as well. And so we are seeing large-scale rollouts where the customer wants to work directly with us in addition to working with a partner.
Meta Marshall: Great. Thank you.
Operator: Thank you. Our next question is from Adam Borg from Stifel. Please unmute your line and ask your question.
Adam Borg: Awesome, and thanks so much for taking the question. So maybe just to take a step back, we just talked about the really strong demand environment, continued pricing tailwinds, albeit less than in the H1 of the year. Any more color on just what led to the growth deceleration in Q3 relative to Q2's incredibly strong, but any color just what led to the deceleration across a number of the metrics? Thanks again.
Ken Xie: Yeah. Like I said, Q3, we see demand continue strong, probably even stronger than H1 of the year. But H1, we do benefit from some kind of inventory. We usually keep for six months. So that is where you see some strong product growth benefit from some of the inventory we have on hand. I think starting from Q3, we more treat as a normal now. So the on-hand inventory advantage kind of starting disappear. Also some of the component we see a little bit longer lead time. But the demanding side is still keeping growing.
Adam Borg: And just to clarify, are you saying that you are somewhat supply constrained, or are you saying that the new inventory is at higher prices and that had an element? Thanks again.
Ken Xie: I say a little bit both. Also the lead time kind of got a little bit longer to get some of the component.
Adam Borg: Excellent. Thanks again.
Ken Xie: Yeah.
Operator: Thank you. Our next question is from Joe Gallo from Jefferies. Please unmute your line and ask your question.
Joe Gallo: Hey, guys. Thanks for the question. I have a two-parter on services. First, I understand the delayed ramp with some of these large ELAs, but when you remove that cohort, are you seeing the same attach rates as historical? You obviously have a ton of product success right now, but is it fair to say that some of the networking strengths and AI data center strengths may be hurting the attach rates? Is there any reason to expect that to change?
Christiane Ohlgart: Of course, over the years, there has been a little bit of a product mix shift towards networking components that we have been very strong in and part of the consolidation play, which have fewer attach rates. I think that is something that has not changed from Q2 to Q3. What we have been seeing is really good FortiGate growth, so that will help us with attach rates.
Christiane Ohlgart: On the other hand, compared to, let us say, our success with sovereign deployments or sovereign solutions, they are a little bit more product-heavy compared to cloud SaaS solutions. So that is impacting the overall kind of product service mix a little bit as well. There is product mix. Sovereign has less services because we are delivering more product that the customer has versus cloud solutions.
Christiane Ohlgart: We believe that this will be structurally helping us with product long term because it is definitely an important trend. And then it is on us to attach more relevant FortiGuard security subscriptions. That is why it is so critical to roll these out, yeah.
Joe Gallo: That is really helpful. Then maybe just to follow up, is there a discrete subscription selling motion or is that entirely attached to hardware? The reason I ask is just, as product is cyclical and decelerates, service is obviously more important. So I am just curious if there is any other tailwinds to subscription as we go through this cycle.
Christiane Ohlgart: There is a separate services motion. I would say the initial purchase always attaches certain services. Most of the time it is FortiCare and smaller customers buy services in abundance. With larger enterprise customers, it is more of an upsell motion to make sure they roll out the hardware first and then we are upselling on relevant security subscriptions.
Christiane Ohlgart: That is why the focus, I think, is also on the increased threat environment because IPS, virtual patching, certain OT subscriptions are really critical for our customers to have the right level of intelligence circulating through the FortiGate all the time to be protected. So I think the motion will pick up quite significantly, yeah.
Joe Gallo: Thank you very much.
Operator: Thank you. Our next question is from Gabriela Borges from Goldman Sachs. Please unmute your line and ask your question.
Gabriela Borges: Hi, good afternoon. Thank you. Christiane, I want to stay on this topic of large enterprise deals and the impact that they are having to services revenue. Maybe just relative to your expectations, was US enterprise stronger than what you expected? Did you go from expecting it not to be a ramp deal and then the customers asked for it to be a ramp deal?
Gabriela Borges: Maybe just explain to us the dynamic that happened in Q2, because I do not recall you talking about large enterprise has been a growth driver for Fortinet for quite some time now. I do not recall this specific ramp issue impacting services before. I am just trying to understand what is different this time.
Christiane Ohlgart: I think Q3, as we reported, had a lot of not only large enterprise deals, which we had in the past, it had a lot of newer customers that had truly expansion deals and not necessarily just refresh activity or also sometimes its large customers may have big renewals. This is where as customers roll out their infrastructure, they may not want to pay services right away. We had more of that in Q3 also consolidating different activities. That is why I addressed it specifically in my prepared remarks.
Gabriela Borges: As it pertains to the Q4 guide, is it fair to say that you are also expecting the trend to continue, meaning the pipeline? Give us some color on how the pipeline looks for those types of new customers and that type of cohort. Do you think the services ramp dynamic is going to impact Q4 and maybe longer term as well?
Christiane Ohlgart: It definitely has some impact on Q4. This is why you see our revenue guidance and respective adjustment of the 2026 service revenue guide. But the good news is the customers are buying services, which you can see in deferred revenue, which you can see in service billings. And there are more services to come. So we are actually happy with the strength in the business. It is just a little bit of a delay from when it gets recognized.
Gabriela Borges: Thank you for the call.
Operator: Thank you. Our next question is from Fatima Boolani from Citi. Please unmute your line and ask your question.
Fatima Boolani: Good afternoon. Thank you so much for taking my questions. Ken, one for you and one for Christiane, please. Ken, in your comments earlier in response to a question around the product growth trajectory and some of what appears to be some supply side constraints, some increasing supply side constraints, but also sort of different and changing levels of inventory management. I am wondering if at a high level you can comment on how customers are behaving with respect to asset sweating.
Fatima Boolani: So, sweating their appliances for a little bit longer, in response to this or in anticipation of this and why you are protecting or defending the business against that potential risk as all of us think about what the 2027 product growth trajectory is going to look like in the face of some of these bigger picture macro factors. And then a follow-up for Christiane, please.
Ken Xie: Yeah, I think for the new security function, especially like AI security, they need a more high-end, more computing power to run all this function there. That is where we do see the move more towards the high-end, and also more computing powers for the FortiGate system and that is where the ASP also go higher.
Ken Xie: We see usually the stretching cycle sometimes come from some low-end or certain vertical, like retail, which they also kind of a balance, try to see, hey, whether they want to move to some kind of SASE or some other ZTNA environment. Or we do see some retail actually leading the change, but some other probably still try to hang on some of the product for longer. But they also suddenly realize it is a new threat environment and there is a lot of attack vulnerability exposed by the AI.
Ken Xie: That is where we feel, probably customer more try to concern of this new vulnerability instead of try to stretching some of the current existing hardware. Because if you are keeping the hardware like 5, 7, 10 years longer, a lot of function kind of are difficult to run or kind of we are no longer supporting some of the new function there. That is where we do not feel this stretching will be a trend going forward.
Ken Xie: Because it is a new threat and a new demand for all this function, what will drive the additional growth. But right now we do see that the first wave more come from the enterprise and also especially some internal segmentation and some of the data center AI and but once more application, I mean, once AI started getting more application, we do see there is additional demand what will keep and drive the growth.
Fatima Boolani: Thank you, Ken. Christiane, I wanted to touch on the gross margin performance. That compression, how do we reconcile the ASP uplift commentary, the commentary of customers trading up to higher end models with presumably higher ASPs? Why is that essentially not following through into at least stable gross margins? Because compression on the product side, in spite of those factors, was still pretty high. So wondering if you can kind of reconcile those two dynamics for us and how this should trend over the next 2 to 4 quarters. Thank you.
Christiane Ohlgart: On the product gross margin side, we definitely see the increase. So we had the benefit in the H1 that we had inventory on hand, and so we had lower cost while we had already increased the prices. So that benefited our gross margin. In the H2, you see that the costs are creeping up and then impacting the product gross margin. But on the other hand, our service gross margin is picking up nicely, so it is offsetting some of the impact.
Christiane Ohlgart: You can only increase the prices so much, right, for your customers. They also have limited budgets. So we are trading a balance between increase of price and gaining market share, and I think we have done this quite successfully this year. So, the guidance for the overall gross margin remains at 80% for the full year, right? Which was what we said at the beginning of the year.
Fatima Boolani: Thank you.
Operator: Thank you. Our next question is from Junaid Siddiqui from Truist. Please unmute your line and ask your question.
Junaid Siddiqui: Great. Thank you for taking my question. Just regarding open weight models, does this shift towards open weight models by enterprises structurally expand your opportunity by moving more AI security into customer-controlled infrastructure? Are you seeing that translate into incremental security demand yet?
Ken Xie: Yeah. We do see more enterprise running, whether some open source, open weight model internally. Thus, I've also driven some additional demand for how to monitor, manage all this kind of AI model within enterprise. So that's where there's more demanding for enterprise network security. Like I said, it's kind of accelerating all this convergence on network security. With our high-performance ASIC advantage, definitely we feel we're leading in this area for internal high-speed network security deployment for a lot of internal segmentation within the data center.
Junaid Siddiqui: Great. Thank you. Just regarding the SASE bundles that you've rolled out, what are you seeing in early adoption, and what kind of pricing uplift are you seeing as customers move on to the bundle?
Christiane Ohlgart: The pricing uplift, I think, is about maybe. The question is how you define the pricing uplift, right? FortiCare and SD-WAN is priced as a percent of the hardware price. The question is, how much more are they buying? We see some uptick, but some customers are still using SD-WAN, just what is provided through FortiCare versus the incremental subscriptions that we're offering. So it's going to take a little bit longer to really get it adopted by all our SD-WAN customers.
Junaid Siddiqui: Great. Thank you so much.
Christiane Ohlgart: So you see it more
Operator: Thank you.
Christiane Ohlgart: in customers.
Operator: Thank you. Our next question is from Adam Tindle from Raymond James. Please unmute your line and ask your question.
Adam Tindle: Okay. Thank you. Ken, I just wanted to ask a question, thinking about the business bigger picture. You are getting bigger customers like sovereign and Neoclouds that you talked about. Those are growing very, very fast and driving a ton of product growth, but disconnecting some of the services that we are talking about, and stock is down a lot on this.
Adam Tindle: So a two-parter for you. I wonder if you might just opine on the pros and cons of servicing that customer base in the first place. Is that a good customer set to be servicing? Secondly, have you contemplated maybe even a different business model, almost like how chip companies serve that cohort that might be just much higher volume product and lower focus on service?
Ken Xie: Actually, a lot of this bigger enterprise and also Neoclouds, even some service provider, they probably need a little bit different service. Sometimes they also offer some of their own service using our technology, so we become a tier 2, tier 3 behind. There is also a ramp up, like Christiane mentioned. A lot of this, they first get hardware deployed, and then they gradually keep adding service because we have so many function, so many service in the FortiOS they can use, they can leverage.
Ken Xie: They do take time to ramp up different kind of service. So that is what we see, and that is what Christiane mentioned. Sometimes, the good news, we do get a lot of bigger customer, but the other side is really the service need some time to ramp up. Gradually enable more and more service.
Ken Xie: Then there is also a way how to recognize once we have the co-term enterprise agreement, sometimes it is slower to recognize some of the service. But we do see the trend is pretty healthy, whether from the billing, from the short term and the deferred revenue. So that is where we have the confidence. But this bigger customer also give us a very strong feedback on what is the latest new kind of AI security needed, and that is kind of keeping drive our innovation, keeping develop new technology, working closely to making the whole internet more secure.
Adam Tindle: If I could just a quick follow-up, Christiane, I imagine this might be the last question, so I want to give you the floor. The key question tomorrow is going to be why go out with a services expectation in fiscal 2027 on this call? We are going to get a lot of questions on that. People are going to say, you told us that it was going to accelerate in the second half of this year, and obviously we have not seen that materialize.
Adam Tindle: So you are going even further out in talking about acceleration there. People are going to say that there are structural differences with the service attach rate and the new customers that you are seeing, a higher bar for fiscal 2027. Just want to give you the chance to take the floor here and give us some details on what is giving you confidence to talk about services acceleration in fiscal 2027. Thanks, guys.
Christiane Ohlgart: I would say, I have not used the word acceleration. I have used the word improved growth rates. So, I think we clearly see that the growth rates have bottomed in Q1. The question is how quickly can we convert some of our service billings into revenue, right? That always takes a little bit of time, but we continue to be confident that we are selling relevant services to our customers and that they convert into revenue over the course of 2027 and continue to grow.
Adam Tindle: Thank you.
Operator: Thank you. Our final question is from Patrick Colville from Scotiabank. Please unmute your line and ask your question.
Patrick Colville: Thank you for taking my question, and thanks for squeezing me in here. I guess I just want to tie some of the pieces together from the last hour, simply. The points you made are that large new customers in Q3 have service agreements prior. They turn on slower than you expected, really guided 3 months ago. That is what has caused the revenue miss and the billings miss. But the confidence I have is they are going to double, and that is why you are going to value 400 times earnings from 2027. Is that the message? Have I interpreted correctly, or is there something that I missed there?
Christiane Ohlgart: Patrick, you are a little bit hard to understand, but I think I got the question, so let me summarize. Q3 was a good quarter. We had large new customers, we had large new expansion deals.
Patrick Colville: We did.
Christiane Ohlgart: They benefited us. But they also came with some delayed service activation, which is actually typical or happens more often in large deals. Overall, that was one bigger factor that we may not have anticipated. There are, of course, a lot of different aspects that you see in the service line. With the increase in prices, you see a little bit more discounting between hardware and services.
Christiane Ohlgart: In the US, you definitely see a push towards hardware because it is benefiting customers from the tax perspective to depreciate. So there are different components that are not as prevalent in what happened in Q3, but there are trends that we have been seeing as we analyze where it was coming from.
Patrick Colville: And if I may, just
Christiane Ohlgart: Thank you.
Patrick Colville: I guess, a very tactical question about channel inventory and billings duration. But really just commenting on those two pieces.
Christiane Ohlgart: So duration is still pretty similar. It didn't increase significantly. And our channel inventory is flat in percent of, or down in percent of billings, yeah. So we continue to manage the inventory in a way that we want the channel to have enough for the run rate business, but we don't want to over-allocate, so we have dislocation of inventory when we need it in different places. So that's where we are extremely diligent in managing how much we have in the channel.
Patrick Colville: Thank you.
Operator: Thank you. That was our final question. I will now hand it back to Anthony Luscri for his closing remarks.
Anthony Luscri: Thank you. One clarification to an earlier statement. Our pricing increases had around a 10 percentage point impact to year-over-year billings growth, not top line. But other than that, I would like to thank everyone for joining today's call. We will be attending investor conferences hosted by BMO, UBS, and Barclays during Q4. The fireside chat webcast links will be posted in the Events and Presentation section of our investor relations website. If you have any follow-up questions, please feel free to contact me or my team. Have a great rest of your day.
