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spk10: Good day and thank you for standing by. Welcome to the Fortinet Third Quarter 2021 Earnings Announcement Conference call. 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, you will need to press star 1 on your telephone keypad. Please be advised that today's conference is being recorded. If you require any further assistance, please press star zero. I would now like to hand the conference over to your first speaker for today, Mr. Peter Salkowski, Vice President of Investor Relations. Please go ahead, sir.
spk07: Thank you, Eli. Good afternoon, everyone. This is Peter Salkowski, Vice President of Investor Relations at Fortinet. I am pleased to welcome everyone to our call to discuss Fortinet's financial results for the third quarter of 2021. Speakers on today's call are Ken Z, Fortinet's founder, chairman, and CEO, and Keith Jensen, our chief financial officer. This is a live call that will be available for replay via webcast on our investor relations website. Ken will begin our call today providing a high-level perspective of our business. Keith will then follow with the financial and operating results for the third quarter before providing guidance for the fourth quarter and updating the full year. We'll then open the call for questions. During the Q&A session, we ask that you please keep your questions brief and limit yourself to one question to allow others to participate. Before we begin, I'd 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. 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. Also, all references to financial metrics that we make today on today's call are non-GAAP unless stated otherwise. Our GAAP results and GAAP to non-GAAP reconciliations is located in our earnings press release and in the presentation that accompanied today's remarks, both of which are posted on the Investor Relations website. Lastly, all references to growth are on a year-over-year basis unless noted otherwise. I will now turn the call over to Ken.
spk08: Thanks, Peter, and thank you to everyone for joining today's call to review our outstanding third quarter 2021 result. Building increased 42 percent to $1.64 billion, exceeding our $1 billion in quarterly building for the first time in Fortinet history. Global G2000 building growth accelerated to over 50 percent. Total revenue growth 33 percent to $867 million, with product revenue up 51 percent. our highest quarterly product revenue growth since going public in November 2009. With very strong business momentum, we remain focused on growth. According to Gartner, the network parameter is fragmented with many security teams and the tools operating in silos. And integration best-of-three solution only adds to the complexity. To address this challenge, Gartner is predicting that by 2024, Organizations that adopt a cybersecurity mesh architecture will reduce the financial impact of individual security incidents by an average of 90%. In a recent report, Gartner called out Fortinet Security Fabric as a platform that offers cybersecurity mesh architecture approach. Fortinet is helping customers solve the issue of complexity through our security-driven networking and security fabric platform approach. Fortinet's unrivaled FortiASIC offers 5 to 10 times more security computing power. This results in tightly integrated functionality with better performance, lower cost and power consumption compared with a general CPU. Our organically developed FortiFabric solution like email, web, and endpoint together with FortiFirewall offers much broader protection, more integration, and better automation than other competitive solutions. As organizations continue to consolidate towards a powerful approach and as network security expands to local and wide area networks, to the work from anywhere environment and to the cloud, Fortinet is strongly positioned to significantly capture market share of a projected total addressable market of more than $174 billion by 2025. We are confident that this trend, together with the relentless focus on organic innovation, will drive better than industry average long-term growth for Fortinet. Work from anywhere is here to stay. The COVID-19 pandemic has greatly expanded the work from anywhere model. According to Gartner, organizations are facing a hybrid future, with 75% of workers saying their expectation for working flexibility has increased Today, Fortinet announced the industry's most complete solution to enable organizations to secure and connect work from anywhere. By unifying Fortinet's broad portfolio of zero-trust, endpoint, and network security solutions within the Fortinet Secure Fabric, Fortinet delivers security that follows users whether on the road and home or in the office to provide enterprise-grade protection and productivity. In the 2021 Ghana Magic Quadrant for One Age Infrastructure just announced, Fortinet was once again named the leader, placed highest in the ability to execute, and ranked number one for remote worker in critical capability. Building on our leadership in IC1, Fortinet and Verizon recently announced the expansion of the Verizon Global offering with Fortinet Secure IC1. The solution is designed to provide enterprise and the business market customer with a converged networking and security solution in a box to secure and connect work from anywhere. We continue to see momentum and adoption of a secure SD-WAN, 5G-enabled SD branch, and a cloud-delivered SaaS solution among the world's largest service providers. These service providers, including AT&T, which is Telecom, Telefonica, and others, we plan to announce in the coming months. Before turning the call over to Keith, I would like to thank our employees, customers, and partners worldwide for their continued support and hard work. Keith.
spk16: Thank you, Ken. Okay, let's start the more detailed Q3 discussion with revenue and the drivers for our record-setting product revenue growth. Clearly, demand is strong. Total revenue of $867 million was up 33%, driven by industry-leading product revenue growth of 51%. Looking closer at the 51% product revenue growth, our highest quarterly product growth rate in 12 years as a public company, we can point to three drivers. First, the convergence of security and networking, or what we call security-driven networking. Second, strong customer demand for vendor consolidation on platforms. And third, a heightened awareness of today's elevated threat landscape across a broader set of entities. Fortinet is proud to be an innovative leader in security-driven networking with the convergence of security and networking functionality incorporated into our broad, integrated, and automated security fabric platform. Our security-driven networking investments in Wi-Fi, switching, WAN, data center cloud, 5G, and OT enable us to provide integrated security at networking speeds from the data center to endpoints and to the cloud. And with our secure SD-WAN solution, security at the edges. Today we announced a unified solution enabling organizations to secure and connect work from anywhere. By unifying our zero trust, endpoint, and network security solutions, we can deliver enterprise-grade security services and threat intelligence that seamlessly follows users on the road, at home, and in the office. As for consolidation, customers are increasingly focused on vendor consolidation, automation, and platform strategies that provide a broad, integrated, and single platform approach to security that effectively protects from the wide range of attack vectors. Our Security Fabric platform provides a broad range of security products integrated on a single operating system. Gartner recently called out Fortinet Security Fabric as a platform that provides a cybersecurity mesh architecture approach, or CSMA. The cornerstone of Fortinet's CSMA approach is our ASIC-driven FortiGates, which provide on average 5 to 10 times more computing power than competitors' firewalls running on common CPUs. The greater computing power allows our software engineers to embed additional security functionality and integration into the operating system, enhancing our price for performance advantage. The integration extends across our suite of security fabric solutions and consists of a complete range of form factors and delivery methods, including physical and virtual appliances, cloud, SaaS, and perpetual software, as well as hosted and non-hosted solutions. And lastly, turning to awareness. The explosion of ransomware attacks has led to a greater awareness of the need for cybersecurity technologies. According to the latest global threat landscape report published by our FortiGuard labs, The number of unique ransomware detections per week increased more than 10 times from July of 2020 to June of 2021. The increase in attacks is across entities of all sizes, geographies, and industries. These three factors, the convergence of security and networking, the adoption of a cybersecurity mesh architecture, and a greater awareness of the threat landscape drove record-setting product revenue growth, contributing to market share gains for Fortinet. The dramatic product revenue growth was broad-based, with FortiGate and non-FortiGate both posting product revenue growth rates of approximately 50%, while tilting our current revenue mix 450 basis points from higher margin services revenue to product revenue. FortiGate product revenues were driven by entry-level and high-end FortiGate product revenue growth of 60% and 57% respectively. Non-FortiGate product revenue growth was driven by several platform products, including mail, sandbox, SIM, switches, and virtual firewalls. Rounding out our revenues, we saw service revenue of $530 million up 24%. Support and related services revenue was up 26% to $243 million, while security subscription services revenue was up 22% to $287 million. Turning to revenue by GEOs, to summarize on slide five, revenue in EMEA increased 33%, in the Americas revenue increased 29%, and APAC posted revenue growth of 43%. Moving to billings, quarterly billings crossed the $1 billion threshold for the first time in our history. At $1.64 billion, billings were up 42% as enterprises responded to the expanding threat landscape favoring costs for performance leaders and integrated platform or CSMA strategies. This is especially evident across the enterprise segments. For example, in the large enterprise sector, Global 2000 buildings were up 52%, with growth accelerating over the last three consecutive quarters. And for the second consecutive quarter, we added over 6,000 new logos across all customer segments. FortiGate buildings were up 39%, and accounted for 70% of total billings. As shown on slide six, entry-level and high-end FortiGates posted very strong billing growth. Non-FortiGate billings were up 49%, driving a one-point billings mix shift to non-FortiGate. The top 10 solutions accounted for 68% of non-FortiGate billings and were up 48%. The number of deals over $1 million increased over 70% to 83 deals. and saw secure SD-WAN deals more than double to 19. Average contract term increased three months year-over-year and one month quarter-over-quarter to 29 months. The increase in contract term was driven by the significant increase in G2000 and other large enterprise deals. SD-WAN billings were up 52%, outpacing the company's billings growth and accounted for approximately 14% of total billings and continued to receive industry accolades. For the second consecutive year, Fortinet was named a leader in the Gardner Magic Quadrant for WAN edge infrastructure and positioned number one for ability to execute. For critical capabilities, Fortinet's SD-WAN ranked first in the small branch WAN, security sensitive, and remote work use cases. Consistent with the elevated threat environment and the breadth of ransomware and other attacks, OT billings were up 77%. Moving to worldwide buildings by industry verticals. Among the top five verticals, worldwide government grabbed the largest share with a mix at 17% and saw buildings growth at 22%. We've made investments to expand our presence and engagement with the government sector. For example, in the US, we recently added retired four-star Admiral Stravidius to our board of directors, and yesterday, Fortinet Federal announced Department of Defense certification approval for an additional 26 security fabric solutions. Internationally, we are set to open Fortinet's Federal Government Integration Innovation Center in Australia before the end of the year. Utilities, manufacturing, transportation, construction, and other verticals have not consistently been in our top five, combined for buildings growth of 68%. We believe the growth of these verticals is another indicator of the broadening nature of the threat landscape and is driving security investments in industries that may have shown less affluent security budgets and lower internal labor resource levels. On August 31st, Fortinet acquired a controlling stake in Alexula Networks, a Japan-based networking company, for approximately $64 million. Alexula provides high-performance network switches and routers in their local markets. The investment increases our total addressable market and reflects our leadership on the convergence of networking and security. Moving back to the income statement, product gross margin declined 220 basis points to 60.7%, reflecting the consolidation of Alexa's results and a change in our product mix. Product cost increases associated with supply chain constraints were largely offset by our pricing actions. Services gross margins decreased 160 basis points to 86.6% due to Alexa and costs associated with the expansion of our data center footprint. The 25.8% operating margin was 30 basis points above the top end of our guidance, despite pressure from lower gross margins and higher marketing expenses, primarily from the Fortinet Championship PGA Tour event. Headcount increased 20% to 9,700. Moving to the statement of cash flow, summarized on slide 7 and 8, free cash flow was $330 million, representing a margin of 38 percent. Free cash flow benefited from strong billing growth and good billing familiarity. On a year-to-date basis, free cash flow margin was 41.5 percent. We repurchased approximately 370,000 shares of our common stock for a total cost of $109 million and an average price per share of $2.94. The Board increased the share repurchase authorization by $1.25 billion and extended the expiration date to February 2023. The remaining repurchase authorization is approximately $2 billion. We ended the quarter with total cash and investments at $3.4 billion. Inventory returns increased to 2.9 times from 2.7 times from the second quarter of 2021, reflecting strong product sales in the quarter and some supply chain pressure. DSOs at 63 days returned to pre-pandemic levels. Capital expenditures for the quarter were $69 million, including a payment for the new campus building of $13 million. As we noted in our last earnings call, we've pivoted our capital expenditure strategy to include building out our facilities and operations infrastructure to support our accelerating growth. We estimate fourth quarter capital expenditures to be between $170 and $190 million. Investments in our future facilities and operations infrastructure account for the sequential increase in capex. Before providing guidance, I'd like to comment on the supply chain. It's been widely publicized that the rapidly changing macroeconomic environment is causing disruption in global supply chains for companies of all sizes and industries. We expect the worldwide supply chain constraints will present evolving challenges in the fourth quarter and into 2022. The supply chain issues have proven to be extremely dynamic And I'd like to pause here to acknowledge and thank each member of our operations team for their truly outstanding performance. With regards to pricing, we believe we entered this phase with a hard-earned reputation of being able to provide customers excellent price for performance or value. We believe we can leverage this reputation to largely offset our increased cost. We believe our pricing actions have been met with understanding by our customers, as evidenced by our Q3 results and strong pipeline growth. We view the current situation as a supply challenge, not a demand challenge. Now I'd like to review our outlook for the fourth quarter, summarized on slide nine, which is subject to disclaimers regarding forward-looking information that Peter provided at the beginning of the call. The following guidance reflects our best effort to estimate the supply chain impact. For the fourth quarter, we expect billings in the range of $1,165,000,000 to $1,215,000,000 revenue in the range of $940 million to $970 million, non-GAAP gross margin of 75% to 76%, non-GAAP operating margin of 27% to 28%, which includes an estimated 200 basis point headwind from acquisitions, foreign exchange, and increased travel and marketing costs. Non-GAAP earnings per share of $1.10 to $1.15, which assumes a share accounted between $168 and $170 million. We expect a non-GAAP tax rate of 21%. Based on our very strong third quarter performance and the upside I just provided to the fourth quarter expectations, we are once again raising our 2021 guidance. We expect billings in the range of $4.4 billion to $4.9 billion, which at the midpoint represents growth of approximately 31.5%. Revenue in the range of $3.3 billion to $3.350 billion, which at the midpoint represents growth of 28.5%. Total service revenue in the range of $2.8 billion to $2.9 billion, which represents growth of 24% and applies full-year product revenue growth of 36%. Non-GAAP gross margin of 76.5% to 77.5%. Non-GAAP operating margin of 25.5% to 26.5%. Non-GAAP earnings per share of $3.85 to $3.95 which assumes a share count of between $167 and $169 million. We expect our non-GAAP tax rate to be 21%. We expect cash taxes to be approximately $130 million, which includes a $47 million tax payment made in the fourth quarter. Along with Ken, I'd like to thank our partners, our customers, and all members of the Fortinet team for all their hard work, execution, and outstanding success. I'll now hand the call back over to Peter to begin the Q&A.
spk07: As a reminder, during the Q&A session, we ask that you please limit yourself to one question to allow others to participate. Eli, please open up the call for Q&A.
spk10: Thank you. As a reminder, if you would like to register a question, please press star followed by the number one on your telephone keypad. If your question has been answered and you would like to withdraw your registration, please press the pound key. And now for your first question, we have Brian Essex from Goldman Sachs. Your line is now open.
spk06: Great. Good afternoon. Thank you for taking the question and congrats on some really nice results this quarter. I guess, Keith, you spent some extra time talking about the supply chain and it's certainly the most frequent question I've gotten from investors, particularly over the past three weeks. So Could you maybe help us understand, you know, what kind of headwind you're quantifying or accounting for in your 4Q guide, where you might see risk in the supply chain, and then what you might be seeing from peers, particularly where you may be benefiting from having supply where your peers may not have product.
spk16: Thanks, Ryan. And I don't know that anybody knows all the answers to the questions that you kind of articulated at all. I'll give you some color if you will. I think we saw a little bit of supply chain pressure in the third quarter that I alluded to, but obviously the number is nothing that was terribly noteworthy. I do think the guidance that we've given for the fourth quarter is appropriately conservative, if you will, in terms of what we see for supply chain or what we would call backlog in the fourth quarter. I think we feel good about the guidance that we've given. I think if you look at kind of the general tone and what we're hearing, from our operations team, I think there is some time in the third quarter where every day was very dynamic with them, with people calling and them having to scramble about component matters and contract manufacturer commitments or what have you. I'm hearing less about that at this point. That's probably very early on. I would also offer that the backlog or supply chain first appears for us in some of the fabric products, the non-FortiGate, And I think that will continue on a little bit into the fourth quarter and probably also get to the four gates to some extent in the fourth quarter as well. Getting out to 2022, I think everybody's kind of in the same boat and trying to understand when we're actually going to see something. It's a real market improvement. And I think we'll probably kind of hold back commenting on that for the next several months until we get closer to providing guidance for the next year.
spk08: Brian, this is Ken. A few other points on top of what she said. I feel we are in a little bit better position compared to competitors. First, it's why we have the quantity much larger than our competitors. Like, we're probably like 3x compared to the Cisco and Unishim, and maybe probably 10x than Palo Alto, some other, which give us better negotiation power with some of the supply. And also, we manage all this more directly compared to our competitors, more goes to some third party. So that does give us better visibility and also can act quicker earlier. Second, we have quite a broad product line, both in the 40K and also non-40K. It's more easy for a customer to really go to the next line of a product, have a similar performance, and then outrunning the 40OS and 40OS. So it's more easy to use in some different product to satisfy some of the product shortage. And also, we have a great team operation side, and at the same time, we have a culture of more investment in the long term, both on the inventory and other things compared to our competitors. Even like 5, 10, 15 years ago, we tend to keep some more inventory to meet some urgent need. So that's actually benefited us in this supply chain issue.
spk06: Great. Thank you very much, and I'll honor Peter's request for just one question and step back in the queue.
spk10: Next, we have Tal Liani from Back of America. Your line is now open.
spk13: Hi, guys. You're killing me with this one question thing. I want to focus on the most important part, which is the growth acceleration. You're Your product revenue growth went from 25% to 41% to 51% in the last three quarters, and your billing growth went from 14% to 35% to 42%. This is just a major acceleration. The question is, can you identify the key areas? I know that a lot of areas are growing, but when you look at material areas, meaning the highest contribution to the growth acceleration, What are the key areas? Can you share with us the key areas where you see the highest growth in terms of dollars? And can you also give us an update on SD-WAN specifically? Thanks.
spk08: I think you can see both the 40K and also non-40K, all kind of revenue growth, like 50%. 40K is more related to because, like, whether the internal growth segmentation to protect all these kind of ransomware, all go to the WAN, secure SD-WAN. And also the non-Fortica is more tied to the story, the fabric, Fortinet security fabric, which has also gotten started promoting the core cybersecurity mesh architecture, which can reduce the financial cost of a single event by like 90 percent. I think that these both contribute for the growth, like Keith said. And also some vendor consolidation. We see some smaller vendors starting kind of weaker and weaker. So we do see some market share gain here also.
spk13: Okay. And when you look at 2022, and I know you don't provide guidance, but when you look forward, do you see the same drivers continuing to support growth acceleration? Or how do you deal with these high targets next year?
spk08: We do see this trend has not slowed down or last for probably a few years, whether we call it secure driven networking or secure fabric, which really were helping the enterprise or service provider to get better security to the customer audience. So, so far we don't see anything slow down. We feel we are well positioned to keep gaining market share.
spk16: Yeah, I would just echo what Ken said, Paul. I think the threat landscape is a hot topic of conversation in all quarters of the world, it seems, right now, and it doesn't seem like that's going to abate anytime soon. I think the need, you know, what Ken and the team have built here with providing security at networking speeds is critical, but I think also this platform of what Gardner is now calling the mesh architecture platform cybersecurity mesh architecture, I think, consistent with Gardner's other reports about the percentage of companies that are looking for consolidation. I think Ken's commented on that and how that's going to continue to increase. It certainly seems that those tailwinds are poised to continue to exist as we get into 2022. Great.
spk13: Thanks.
spk10: All right. Next, we have Shaul Eyal from Cohen. Your line is now open.
spk01: Thank you. Congrats on the performance and guidance, guys. Keith, the federal vertical had a good performance. Was it just, you know, typical third quarter government seasonality, or do you see that as sustainable going forward, you know, given your recent investments within this vertical?
spk16: So keep in mind, for us, the government is a worldwide number when we talk about it. So that includes some U.S. federal, international governments, also state and local governments, et cetera. It has been a very strong vertical of ours for well over a year, if not two years now. And I certainly don't see any reason that just on that basis that it would slow down. And I think if you overlay that with the investments that Ken and team are now making, particularly as it relates to the U.S. federal team, I think there's some opportunities for us to explore and exploit, hopefully, as we move forward.
spk10: All right, next we have Michael Turitz from KeyBank. Your line is now open.
spk14: Hey, guys. Keith, I'd like to drill down on the FortiGate side and really understand where the purchasing is taking place and for what. It's good to see, I would think, that we're modernizing data centers. Is it data center expansion? Is it displacements? And, again, surprising perhaps considering the move to cloud. So just drill down on the physical on-prem slash FortiGate side.
spk16: I think what we're – and I hate to give compliments to my peers, but I think what we're really seeing here is really strong execution from the sales team. I think we came into this conversation feeling that we had a very strong product suite. But I think the sales team has done a stellar job, and we talked to them about the same question you just asked me, where is this coming from? I can hear in them their confidence when it comes to displacements. There's certainly no competitor that they're afraid of. I can hear them articulate back the platform strategy, the land and expand strategy. I can see them using some of the tools and products and technologies that we've invested in and invested in them, and they're leveraging them, I think, very successfully. So it was a question going back, I think, that Tal had asked about. And we used this term before, you know, a rising tide lifting all boats. And I think we saw that in the quarter. There wasn't a weak geography. There wasn't a weak product suite. I think everybody performed very strongly.
spk08: Yeah, I concur with that. You see that the global 2,000 growing over 50%, and also the investment we made like last year, the year before, in some big enterprises and service providers that have been paying off.
spk14: Yeah, I think it's the same question, so hopefully not too, but I'm just trying to figure out, of course, execution and competition doing well that way, but where are we in terms of people buying stuff to put in data centers when we're really in a cloud mode here? Is it because of a refresher? Why are we seeing that investment?
spk08: I think it's all play to our long-term ASIC strategy, which adds a lot of performance, and the more function and the same time cost lower and the low consumption also. That's where the security starting to expand inside the data center, inside the company internal network. And also the one side, I see one 5G, we also see a lot of driving from that angle. So it's really starting to expand to the whole infrastructure instead of traditionally just secure internet border. So that has a much bigger total addressable market. Sometimes we call it secure-driven networking, but it's really a more expanded market and has a very strong security need. Thanks, guys.
spk10: All right, next we have Sterling Otte from J.P. Morgan. Your line is now open.
spk05: Yeah, thanks. Hi, guys. I'm going to ask my one question. It's kind of an extension of what Michael was just kind of talking about. I'm curious, as you look at the growth in the quarter, even if it's qualitative, can you help characterize for us how much of that growth is coming from actual displacement of solutions, both traditional cybersecurity and networking, versus how much of that growth is coming from existing customers buying additional expansion, so additional products just to build out to handle their growth needs?
spk16: I think the metric I would give is 6,000 new logos. So I think that I'm going to go back and say the execution was very strong across the board. Was there greater penetration in our install base of customers? Absolutely, no doubt about it. But at the same time, that's two quarters back-to-back now that we've added 6,000 new logos. And I know some of those are small enterprises, but we are getting the at-bats that we've always coveted. And I think coming with more advanced, I think you were seeing stronger execution as well.
spk08: Yeah, also the existing customer keeping expanding their, like, security infrastructure approach, like adding to the one-side IC1 5G and also expand to the internal segmentation, Wi-Fi security, data center security. So that's why I think it's both. But I do see... probably maybe more confidence in the customer keeping expanding their security infrastructure.
spk05: Understood. Thank you.
spk10: Next, we have Rob Owens from Piper Sadler. Your line is now open.
spk00: Yeah, thanks for taking my question. I guess I'll pivot a little bit from Sterling and ask about G2K specifically and what is driving the strength in G2K billings is that Product-related, is it just better distribution relationships that are getting you into these accounts? And who do you think share is coming from in this market? Thanks.
spk16: I think the general comment in terms of who's the market share gainers and who are the market share donors, I don't think there would be any surprises if I actually mentioned names in terms of who I thought those were. In terms of distribution, I think when you get in particularly into the U.S. market, with the large enterprise-focused distributors, you've got to, as a company, you've got to invest some time and bring opportunities to them and demonstrate that you have a superior product, a superior offering. And I think that the team has done the heavy lifting on that. And I do believe that we are getting more momentum, if you will, from those large U.S. distributors that maybe we did not have previously. So I think there's some of that. And I think we've continued to invest in both the sales and the marketing. We knew all along for several years now that we needed to improve our coverage in terms of the number of accounts that were assigned to reps and the people that we were bringing in from outside that maybe had more of an enterprise experience and less of a channel experience, et cetera. So I do think that all those things have combined and are demonstrating the success, as you point out, you know, G2000 growth at over 52% and accelerating for the last three quarters.
spk00: Thank you.
spk10: Mm-hmm. All right, now we have Hamza from Morgan Stanley. Your line is now open.
spk15: Hey, guys. Thanks for taking my question. I'm going to keep it to one question. But just on the OT side, you talked about that growing 77% this quarter. I think that was the first time you mentioned that product specifically. Just curious, can you give us any rough sense of a material that's becoming to your overall billings and You know, what's been driving that in more recent quarters?
spk16: Yeah, I think it's not as big as SD-WAN, but growing faster. But also, I don't think we're – I think that it's reached a point, if you will, in terms of size that we're comfortable and we think it's worthwhile making sure that we share with people outside the company those growth levels. If you combine SD-WAN and OT together as a percentage of billings, you're going to get to something, I think, that's over 20% of our total billings. Thank you.
spk10: Next, we have Adam Borg from Stifel. Your line is now open.
spk09: Hey, guys, and thanks so much for taking the question. Maybe just for Ken. So back in September, you guys signed a partnership with Linksys around securing work-from-home environments and segmenting corporate and personal networks. And I know one of your competitors also announced a similar idea. So how should we think about the idea of securing home networks and effectively the home becoming an extension of a branch office of one, and the opportunity to do that as we live in this work-from-anywhere world going forward. Thanks so much.
spk08: Yeah, we see it's a new market. It has a lot of potential to support work from anywhere. That's where we partner with Linksys, which has been in this home networking area for quite a while. And we do believe it's eventually a lot of that with all these IOTs and other things connect online and also a lot of work from home and like school from home, all these kind of things. They all will need a security, which we combine with the network security, well, endpoint security and also the cloud solution. So we do feel it's a big long-term potential. But it's not quite, I mean, the business actually ramped up quickly, but it eventually will contribute more revenue to the company.
spk09: Great. Thanks so much.
spk08: Thank you.
spk10: And next we have Jonathan Ho from William Blair. Your line is now open.
spk12: Hi. Good afternoon. Congrats on the strong results. Just wanted to, I guess, understand a little bit better sort of the dynamics around the price increases to your base. Can you give us a sense of maybe the magnitude or impact to the quarter from those increases, and is there potential for that to stick even beyond some of these supply chain challenges? Thank you.
spk08: Yeah, we kind of – We'll carefully increase the price based on our cost increase, which also kind of supported by some of our partners. And at the same time, because we have a much better performance price ratio and also more function, especially on the 40K side, so we do feel we have more room to address some of the price. And still, our customers still like the product. So far, we did some price increase, and we'll just offset a cost increase, and we'll get margin back online.
spk16: Yeah, I would add to that, I think, Jonathan, one of the metrics that we looked at in the third quarter was just our ability to hold the line on the price increases, which were largely effective on August 1st. I say largely because You have to give notice to your channel partners, which is appropriate. And you can imagine them taking certain actions to get orders in the first month of the quarter, if you will. So it gets a little bit distorted that way. But we did look at our ASPs and wanting to make sure in our discounting that we're not giving back that price increase, if you will. And overall, I think that the headline is that we think we were on the direct product line. I think it was accretive to the margin in the quarter. And I emphasize the direct because as volatile as it is, you know, predicting things like expedite fees and sometimes freight as well can come into that line. So I think overall, when you factor in direct and indirect, we're probably in a wash for the quarter.
spk12: Great. Thank you.
spk10: All right. Next we have Gray Powell from BTIG. Your line is now open.
spk11: Okay, great. Thanks for taking the question, and congratulations on the good numbers. So, yeah, within your non-FortiGate billings, can you roughly give us a sense as to how much is related to appliances versus software and cloud? And then how should we think about supply chain issues potentially impacting non-FortiGate in Q4?
spk16: Yeah, I think the non-FortiGate mix is something on the order of about, we've talked about this before, something in the order of 30% to 40% of that is cloud or software, and the remainder would be a hardware form factor. As I mentioned in the call, I think the first place that we saw supply chain pressure in this third quarter was in non-FortiGate, more specifically around switches and access points.
spk11: Got it. Okay, that's helpful. Thanks.
spk10: All right, next we have Andrew Nowinski from Wells Fargo. Your line is open.
spk04: Great, thank you, and congrats on a great quarter. I want to ask about the high end. That was certainly better than expected. I think over 37% of your FortiGate sales, which looks like it was the highest level it's been in at least the last two years. Can you just talk about the drivers of the high end and whether the 5G rollouts and your leadership position in the carrier market might be contributing to that?
spk08: Yeah, the big enterprise, the global 2000, definitely contributes some high-end growth. And also, from the product refresh side, in the last one to two years, we also refreshed high-end using the latest ASIC for the ASIC MP7, which has a five-time better performance and more function compared to the previous MP6. which I think the high end we probably refreshed like maybe 80% of the points already. So that's also we started to benefit some of the refresh we made in the last one or two years.
spk04: No contribution from the 5G carrier class customers there? It was more on the enterprise?
spk08: There are some contributions from SD-WAN, but the 5G is still in the ramp-up stage. I don't see much, but I do see it's a huge potential.
spk02: Super. Thank you. Thank you.
spk10: All right. Next, we have Irvin Lu from Evercore ISI. Your line is now open.
spk02: Hi. Thanks for the question. This question is for either Ken or Keith. You have the opportunity to meet with several customers and partners along with new prospects at your first-of-its-kind security summit that took place at your sponsored PGA Fortunate Championship event. Can you just talk about what you are seeing from a customer traction perspective post the event and perhaps if the event had led to a notable uptick in visibility and mindshare among customers?
spk16: I think the head of marketing asked that question last time. But it's a good question. I think we'll both have a question.
spk08: It's probably one of the biggest marketing investments we have made, but definitely we've seen a lot of successful results. A lot of customers and a lot of partners really appreciate all this PGA effort there. And also we use it as a platform to bring different customer partners all together to share, communicate their experience and also to the training education. So we do see this as really helping a lot of the marketing sales effort we have and also generate a lot of new leads, put it this way. It's a very successful event.
spk16: Yeah, I would come over the top and completely echo what Ken had to say. I'm shocked at how enthusiastic I am about how that event came out, whether we look at what we call white space names that we got from, say, S&P 500, the percentage of attendees that were non-customers and that would sit with us in one-on-one sessions and hear more about our story, and the household names that were there, it was fantastic. I think the branding, what the marketing team pulled together with Silverado Country Club was extremely successful. And I think also it kind of goes back to some of the comments we made earlier in the conversation. I think it really struck Fortinet at the right time in terms of its maturity. I think that the team here was really in a good position to execute against that. I was in a customer meeting yesterday here in Sunnyvale with a very large company that had come to the event, and so it was a follow-up. and there have been other very large companies that have come to our EBC events here in Sunnyvale just in the first month and a half after the event. I'm just really impressed with what the guys did, guys and ladies.
spk02: Got it. Thanks for the color. Yep.
spk10: Once again, to ask a question, press star 1. Next, we have Keith Backman from DMO. Your line is now open.
spk03: Thank you very much. I wanted to direct this towards Keith. Keith, as you think about the billings guide, what you're suggesting, even at the high end, the billing sequential growth would be about 13%. In the past two years, you've grown billing sequentially about 28%. So obviously a little less on the guide. And I'm just wondering if you could just give us some color or thoughts around that. And in particular, is that a reflection of was there any kind of pull-in that you think about on the billings? Were customers concerned about not getting product? And or is it reflecting some of the concerns you previously mentioned about are we going to have enough of the supply chain availability or product availability, I should say, and therefore we might need to tamp down a little bit in Q4? And then I had a follow-up if I could because Peter told me I'm allowed to ask a follow-up.
spk15: Yeah, look, I think what you're seeing there is supply chain.
spk16: And as I said earlier in the conversation, that I think we've been appropriately conservative, I hope, in terms of how we guide it to it. To unpack that just a little bit, we do with our sales team and we manage things on a bookings basis with them. And then we put that up against what we have the ability to ship. If I looked at just the bookings number, and we had a long internal conversation about whether or not that's a metric that we should provide at this time and decided not to. But if we look at just the bookings number, I would say that it's a very strong indicator that the business is extremely healthy, if you will. In terms of customer buying behavior, there's always somebody getting in line early, if you will. They have longer-term deployments or what have you. That's not new, and maybe a little bit of it in the third quarter No deals over $10 million. I think the largest deal was probably seven or eight or something like that in the quarter. We have seen in the fourth quarter things where customers, I'd say they're getting line orders. They've got deployments where our plans are deploying in 2022, and they want to make sure that they're trying to time when they're actually going to need the product and when the product's going to be available. So I have seen early in the quarter a few companies exhibiting that behavior.
spk03: yeah we're hearing that a little bit from the channel about the lead times because they're getting out customers are ordering early and more um but it sounds like what you're saying essentially you you are concerned about maybe the billings number reflects some you might not be able to make all shipment demand and so that's reflected in the quarter from i hope i'm not putting words in your mouth no absolutely yeah i think that would be it yeah i think it's very prudent to me to say with the supply chain environment that we're in i'm not just going to take the i can't just take the absolute booking number that's going to ship so i think there's okay
spk16: Fair amount of internal work around that, if you will. Now, on the other side, it does give us more predictability as we come into 2022 if this behavior continues than we've had in the past. Backlogger bookings has not been something that Ford as a company has really had reason or cause to talk about. And I don't know that as of today that we do, but as we get further into the fourth quarter and then moving into 2022, that may be something that because of the predictability that it helps with, we may be talking about that next year.
spk03: Okay. And my Peter sanctioned second question then is if you just talk a little bit about the non-fortigate mix, and I know you mentioned it in one of the previous questions, but how do you see that changing over the course of the next couple quarters, if at all? And I'm not really talking about a supply chain constraint, but just on demand-related pulls as customers may look as they're deploying that incremental 6,000 customers and greater penetration on your existing. Do you see the software side moving up, if you will, in the non-40-day component. And then I will see the floor. Thank you.
spk08: That's where the, what do we call, fabric or mesh, we see pretty strong demand from the customer. And it both increased the amount we purchased. Also, the customer adopted a new multiple product, fabric or mesh solution. So that's where it's a community of our strong growth on the non-40-day. Also, we started working with the service provider carrier on the SASI and other solutions. Eventually, it will also benefit a more broad customer base.
spk03: Okay. All right. Many thanks and congratulations for the incredible results.
spk10: Thank you. And there are no further questions at this time. That concludes the Q&A session. I will now turn the call back to Peter Solkoski for closing remarks.
spk07: Thank you, Eli. I'd like to thank everyone for joining the call today. I know you have a lot of calls this evening. Really appreciate your time. Fortinet will be attending the following investor conferences during the fourth quarter with the Wells Fargo Conference on November 30th, the NASDAQ Conference on December 1st and 2nd, the UBS Conference on December 7th, and the Barclays Conference on December 8th. Events with presentations will be webcast, and links to the webcast will be available on the Investor Relations website of fortinetinvestor.com. If you have any follow up questions, please feel free to reach out. Have a good day. Thank you very much for your time. Have a good day.
spk10: And this concludes today's conference call. Thank you all for participating.
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