Fortinet, Inc.

Hello and welcome to Fortinet's third quarter 2025 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's 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 Luskery, Vice President of Investor Relations. Please go ahead.

Thank you. Good afternoon, and thank you for joining us on today's conference call to discuss Fortinet's third quarter 2025 financial results. Joining me on the call today are Ken Zee, Fortinet's founder, chairman, and CEO, Christiana Olgaard, our CFO, and John Whittle, our COO. Ken will begin our call today by providing a high-level perspective on our business. Christiana will then review our financial results for the third quarter of 2025 before providing guidance for the fourth quarter 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. Before we begin, I'd like to remind everyone on today's call that we will be making forward-looking statements, and those 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 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 accompanied today's remarks, both of which are posted on our investor relations website. As a reminder, this is a live call that will be updated 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'll now turn over the call to Ken.

Thank you, Anthony. Thank you to everyone joining our call. We are pleased with our excellent third quarter performance, driven by strong execution and broad-based demand across organizations of all sizes, as we grow faster than the market in all three pillars of our business, as shown on slide four. Building and revenue both grow by 14%, with a record third quarter operation margin of 37%. Unified SASE building growth 19%, driven by 40 SASE building growths of over 100%, making us one of the fastest growing SASE leaders on the scale. Our strong growth is driven by our key differentiated advantages. Fortinet is the only vendor to natively integrate Next-Gen Firewall, SD-WAN, and SASE on a single operation system, FortiOS, with the flexibility to run both on-premise and in the cloud. This single OS integration allows customers to expand from our leading Next-Gen Firewall and SD-WAN to SASE in minutes. providing a significant upsell opportunity within our large customer base. Our solution also enables sovereign SASE for service providers and large enterprises to deploy FortiSASE within your own data center for data privacy. Plus, Fortinet's investment in its own global cloud infrastructure, FortiCloud, delivers long-term security, performance, and cost benefit, reducing total cost of ownership by roughly one-third that are not compared to our peers. These key advantages have led to our recognition as a leader in the 2025 Gartner Magic Quadrant for SASE platform, as shown on slide six. Our strong leadership position is reflected in customer adoption, with 15% of large enterprise customers now using 4D SASE represent 55% growth, as shown on slide 10. Based on this momentum, we are confident in our ability to become the number one SaaS market leader in the next few years. In secure networking, building growth 10%, outperforming the overall secure networking market as we continue to gain market share. Fortinet is the number one leader in firewall with a union market share of over 50% and has the highest product revenue among our separate security peers. Fortinet leadership in firewall is enabled by FortiOS, thus unified networking and security, and is accelerated by FortiASIC with a huge secure computing power, which enables more function and delivers 5 to 10x better performance than our competitors, while lower the total cost of ownership and energy consumption. This security and performance advantage was further validated by Gartner as Fortinet recognized as a leader in the inaugural magic quadrant for hybrid mesh firewall, where we ranked the highest in ability to execute. Building on this foundation, we recently launched the secure AI data center solution. specifically designed for AI workload, where we leverage our ASIC advantage, helping Fortinet capture a massive growth opportunity as customers scale AI globally. AI-driven secure op was the fastest-growing pillar in the third quarter, with building growth of 33%. Fortinet's industry-leading AI patent portfolio of more than 500 issued and pending AI patents, powering over 20 AI-driven solutions, as shown on slide 12, offers the broadest and the most integrated AI-driven security operation portfolio in the industry. Fortinet's security leadership also extends to operational technology and cyber-physical system security, where our solutions provide deep visibility, advanced threat protection, and security connectivity. Operational technology and critical infrastructure solutions are another significant growth driver for Fortinet, with over 30% building growth. Lastly, as a result of a strong growth opportunity that lies ahead, we remain confident that we will continue to meet the Rule of 45 and continue to gain market share and outperform overall market growth in 2025, 2026, and beyond, consistent with our mid-term target provided on last year's Annals Day. I would like to thank our employees, customers, partners, and suppliers worldwide for their continued support and hard work. I will now turn the call over to Christiana.

Thank you, Ken, and good afternoon, everyone. As Ken mentioned, Fortinet's growth and momentum remain strong, and we are very pleased with our third quarter performance, solid operational execution, and healthy broad-based demand for our solutions. Total billings grew by 14% to 1.81 billion, driven by 19% growth in Unified SASE, 33% growth in SecOps, continued growth in sales to large enterprises, and robust performance in OT and critical infrastructure. Unified SASE and SecOps now account for 26% and 11% of total billings, respectively, up a combined three points. And FortiSASI delivered exceptional results with billings growth of over 100%, which positions Fortinet as a leader in the SASE space. Furthermore, SASE adoption momentum has remained strong as 15% of our large enterprise customers have purchased FortiSASI, an increase of over 55%, highlighting our continued expansion of FortiSASI in our customer base. As I mentioned earlier, continued momentum in large enterprise contributed to growth in the third quarter, as the number of deals greater than 1 million increased by 26%, while their total dollar value grew by over 30%. As in prior quarters, operational technology use cases contributed to our success, with billings growth of over 30% and broad-based demand for both our hardware and software solutions. In addition, we continue to expand our customer base. Approximately 6,600 new organizations chose our unified single 40OS platform to power their cybersecurity strategy, which exemplifies our continued strong position in all segments of the market. With regards to ARR, Unified SASE increased by 13% to $1.22 billion and SecOps increased by 25% to $472 million. Total revenue grew by 14% to $1.72 billion, led by EMEA, followed by APEC and the Americas. Product revenue increased by 18% to $559 million, benefiting from strong performance in multi-product deals across a variety of use cases and OT security, as we continue to gain market share. FortiGate firewalls, networking equipment, and software all delivered strong double-digit growth, with software license revenue up 20% and representing a mid-to-high teens percentage of total product revenue. Hardware revenue growth was broad-based, which included growth from ongoing technology upgrades, expansion across products along our various customer journeys, and expansion into new use cases. The 2026 end of support cohort was not a significant driver of product revenue growth in the third quarter. Service revenue grew by 13% to 1.17 billion. We see our improved product revenue growth and customer expansions in 2025 as leading indicators for improving service revenue growth expected for the second half of 2026. Now, I'd like to highlight some key deals that demonstrate our market leadership and variety of use cases that our products are supporting. In a competitive win, a global Fortune 150 e-commerce company operating a worldwide logistics and fulfillment network expanded its investment in Fortinet with a new AI data center project. Already leveraging Fortinet firewalls across their data centers and hundreds of warehouses, the customer selected Fortinet to secure and optimize their new AI workloads, requiring extreme throughput and reliability. They chose Fortinet for our ASIC-based FortiGate architecture, which delivers high performance, low latency, and lower power consumption, as well as advanced security that protects AI data flows and models without compromising speed. The customer is achieving improved workload control, lower operating costs, and is now looking to further expand their data center footprint with Fortinet. This customer win highlights the energy consumption advantages of our proprietary ASIC, which has become even more important to our customers in a new era of AI data centers. Next, in an eight-figure deal, a large city police force purchased Fortinet SD-WAN, SD Branch, and Sovereign SASE, displacing multiple vendors, including their previous SASE provider. The customer-sovereign SaaS deployment ensures compliance with local data governance requirements, gives full control of critical assets, and resolves performance issues experienced with their prior provider. The police force chose Fortinet for its flexible and consistent security enforcement and single operating system. This enables secure access to both on-premises and cloud applications. while supporting a network transformation project that will enhance public safety and trust. In a competitive new customer win, an operational technology organization purchased more than 10 Fortinet solutions across all three pillars, consolidating multiple security functions onto our single FortiOS operating system. The customer selected Fortinet for our unified security fabric platform, which simplifies operations due to a significant reduction of required integrations, improves visibility and lowers total cost of ownership. With centralized management and streamlined operations, they now have the agility and scalability to grow securely and enable their digital transformation. Lastly, a retail organization who has been a long-time Fortinet customer upgraded their FortiGates across more than 10,000 retail locations. They continue to choose Fortinet for our stable performance, consolidated FortiOS operating system, and highly automated operations, building on a trusted relationship strengthened by their use of several other Fortinet solutions and our price and performance advantages. The customer is now expanding their Fortinet footprint by exploring adoption of our ZTNA solution to further enhance security and operational efficiency. Turning to margins and cash flow. Total gross margin of 81.6% was better than expected, driven by strong execution and cost control. Operating margin of 36.9% reached a third quarter record and was up 80 basis points. The increase was primarily due to operational efficiencies and strong cost management. Free cash flow was very strong at 568 million, and adjusted free cash flow was 646 million, up 41 million, and represented a margin of 37 percent. On a year-to-date basis, free cash flow reached 1.63 billion, up 135 million, notwithstanding continued investments in data center infrastructure and increased inventory purchases to meet customer demand. Infrastructure investments were 88 million up 51 million as we continue to build out our infrastructure footprint. We repurchased 23.3 million shares of our common stock for an aggregate purchase price of 1.83 billion in the third quarter. which reduced our total share count by approximately 3%. In August, our Board of Directors approved a 1 billion increase in the authorized stock repurchase amount, and the remaining share buyback authorization as of today is 796 million. Now, moving on to guidance. As a reminder, our fourth quarter and full year outlooks, which are summarized on slides 20 and 21, are subject to the disclaimers regarding forward-looking information that Anthony provided at the beginning of the call. For the fourth quarter, we expect billings in the range of 2.185 billion to 2.285 billion, which at the midpoint represents growth of 12%. Revenue in the range of 1.825 billion to 1.885 billion, which at the midpoint represents growth of 12%. Non-GAAP gross margin of 79 to 80%. Non-GAAP operating margin of 34.5 to 35.5%. Non-GAAP earnings per share of 73 to 75 cents, which assumes a share count between 751 and 755 million. Infrastructure investments of 60 to 110 million. A non-GAAP tax rate of 18%. and cash taxes of 66 to 116 million. For the full year, we continue to remain on track to achieve the rule of 45 for the six consecutive year and expect billings in the range of 7.37 billion to 7.47 billion, which at the midpoint represents growth of 14%. Revenue in the range of 6.72 billion to 6.78 billion, which at the midpoint represents growth of 13%. Service revenue in the range of 4.575 billion to 4.595 billion, which at the midpoint represents growth of 13%. Non-GAAP gross margin of 80.25 to 80.75%. Non-GAAP operating margin of 34.5 to 35%. Non-GAAP earnings per share of $2.66 to $2.70, which assumes a share count of between $764 and $768 million. Infrastructure investments of $380 to $430 million. Non-GAAP tax rate of 18%. And cash taxes of between $400 million and $450 million. Looking ahead to the next few years, consistent with the framework that we provided at our analyst day last year, we remain confident that we will continue to meet the rule of 45 and expect to grow faster than the market in all three of our pillars. Our confidence is supported by both secular and company-specific tailwinds. We expect continued strong growth in the demand for our products, driven by increased investments in cybersecurity spent from our customers, the convergence of networking and security, and vendor consolidation. We expect to continue to outperform the overall market growth due to continued organic innovation and leadership in price performance, which drives a lower total cost of ownership in network security, including operational technology, as well as unified SASE and SecOps. We plan to continue to invest in our go-to-market, including our cloud delivery infrastructure, strategic partner relationships, and increased sales capacity. Finally, the rise of AI is expected to further increase demand for our solutions due to the need to secure LLMs and data movement. And we remain committed to continued investments in innovation and the ongoing development of our product portfolio. I will now hand the call back over to Anthony to begin the Q&A session.

Thank you, Christiana. 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.

Thank you. If you would like to ask a question, please click on the raise hand button at the bottom of your Zoom 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 Tal Liani from Bank of America. Please unmute your line and ask your question.

Hi, guys. I want to start from the same line of questions that we had last quarter. Product revenues went up 18% materially below the street. The street expected about 12. What are the drivers and What is the impact of refresh product, refresh product upgrade related to end of service? Thanks.

I think it's driven by the strong demand. You can see there's a few growth driver I mentioned. So whether the SASE and the SecureOp also OT like grow 30%. So that's all the growth driver. I don't think the end of a survey is much a growth driver there. And that's also, we probably will stop tracking that. It's a kind of a... I put it this way, I just think of some example pretty funny. It's more like when you buy a new car, you probably would not try to wait your old car totally out of service that. So the reason to buy a new car is more because you're kind of like the new feature or better performance or some other reason. instead of a way to count how many, I mean, how the old car kind of window will be died out of service. So that's why I feel it's not a growth driver. And the growth driver, that's also the reason we're keeping gaining market shares because the new function we developed, and the better hardware, including probably the new ASIC next year, and also the new market will open up. That's drive the growth. That's what I keep saying for a few years. I do believe the product revenue on average, normal case, will kind of around 10% to 15% will be kind of low double-digit growth. which matched quite well for the last 16 years since we IPO. And I feel, yeah, product revenue growth I feel is kind of normal.

Yeah, Tal, this is John Whittle. And just to follow up on what Ken said, what we see is not a shortage of potential growth drivers and opportunity. If anything, the opportunity is so great that we have to prioritize where we drive growth. We've got a track record of growing faster than the market across all three pillars. And like both Christiane and Ken mentioned, we're seeing significant growth in unified SASE, SecOps, sales to large enterprises, OT and critical infrastructure. And so if anything, our challenge is where do we focus on in terms of the growth drivers? It's not a lack of growth drivers. We have a lot of growth drivers out there and just, you know, I talked to a lot of customers. I see just a ton of opportunity out there to grow. And we do have that track record of growing faster than the market across all three pillars for some time.

Yeah, that's where the three pillars we showed in last year and this day and also shown on the slides for here. So in each pillar, we have a huge advantage compared to other competitors. We believe we'll get market share in each pillar. That's the growth driver behind.

So if that's the case, that's my follow-up. If that's the case, why is the guidance for next quarter kind of uninspiring. Revenue growth is slightly below the street. It's less than 12%. What's unique with this quarter versus next quarter and next quarter versus this quarter?

I think that's probably most related. The revenue may relate to the service. You can see the last year, I put it this way, probably find that's no better than me. The product revenue is leading in the case of service revenue. Our average service term probably about 29 months. So last year, the product revenue grew like minus 2%, I believe. So that's impact the service revenue for the next probably like 20, 30 months. That's where we believe maybe towards the end of next year, the service revenue is starting to turn around. This year, product revenue grew pretty strong. I believe Q4 last year, we already see some strong turning with the product revenue grew 18%. And also last quarter, Q3, also the product revenue also grew like 18%. So that will be the leading indicator for future service revenue. Service revenue probably day one of the quarter, maybe 90% of revenue already whatever counted in there. So that's probably the revenue total probably will be impacted by the service revenue. But with the product revenue starting to accelerate, we do believe the future service revenue will be better. Got it. Thank you. Yes, thank you.

Thank you. Our next question is from Fatima Bulani from Citibank. Please unmute your line and ask your question.

Good afternoon. Thank you so much for taking my questions. I wanted to stick to this discussion area with respect to the services revenue trajectory. I think for all of us very, very familiar with your model, we can appreciate the very attached nature of the services, both in the form of subscriptions and support to the appliances. But I'm wondering, Christiana, if you can help put a finer point on what the trajectory of services growth could look like in the next 12 months. And this is just, you know, optically looking at services growth that has decelerated for the ninth consecutive quarter, understanding that there's a 29-month period in which there's a catch-up, as well as maybe some of the commentary you shared last quarter with respect to a slower billings-to-revenue conversion as it relates to some of the customer behavior. So just wondering if we should think about 13% services growth as trough or near trough, or if that's maybe not the right way to think about it. I would appreciate any feedback on that. Thank you.

You're right. I provided color in my prepared remarks that we expect service revenue growth to increase improve in the second half of 2026. And the main reason for that is that, as Ken just said, we had negative billings growth last year, which impacts the attach rate. And we are now seeing negative product billings and product revenue. And we are now seeing product pick up. So that is going to attach more services. But some of our customers are buying product ahead of the services until they roll them out. And so we are confident that at the end of, in the second half of next year, we will see a pickup.

Thank you.

Thank you. Our next question is from Shawleel from TD Cohen. If you'd like to unmute your line and ask your question, please.

Thank you. Good afternoon, everybody. I had a quick question on that eight-figure SD-WAN SASE and some other components transaction with that police force. If you guys can unpack it for us a little bit, how would you characterize probably the SD-WAN being a little bigger than the sassy contribution or is it vice versa so any any color you can share with us will be greatly appreciated those those eight figures specifically related to sassy um right now are a little uncommon so every every piece of color will be greatly appreciated so um the

Eight-figure deal is related to billings. And so it is a combination of product and services, but we also pointed out they are building out a software in SASE. So that means that they're buying more product and not the cloud-delivered SASE solution. And that's the strength of Fortinet, that we deliver all options to our customers so they can decide whether they want it cloud delivered by Fortinet or whether they want to host it themselves and create their own SASE service that they have full control over and in this specific case also meets the local data governance requirements. So, yes, it's less saucy and more SD-WAN and SD-Branch in that deal.

Yeah, I think the sovereign saucy is the key reason to win. And also that's a 49 unique advantage because whether some government or sort of big enterprise, they want to keep in the data within their own data center, the privacy of some other regulation requirements. That's where, like, just like how the firewall SD-WAN, we combine all SASE together in the same appliance can be, whether in appliance in a cloud, and also especially attractive for this kind of, like, a bigger customer or government or service provider, that's a huge advantage. And also some of the function, like, so the SD-WAN also can use an AC that accelerates So that's the advantage we have compared to other SaaS providers, which they all have a cloud delivery, have to go through their kind of cloud infrastructure process of data. A lot of customers really don't like that. At the same time, we have a huge customer base. So we have almost close to a million customers. We have more than half the global firewall deployment. So for all the current customers, it's very quick, easy to adopt, whether it's SD-WAN or SASE. So that's the huge advantage. Our sales cycle is much shorter. If you remember, we only launched SASE two years ago. And you can see how quickly we ramp up with all this over a billion dollar business there and still grow probably the fastest one among all the SaaS players with a scale over a billion dollar. So that's given the confidence we'll be the leader, number one leader within a few years.

Thank you for the call. I appreciate it. Thank you.

Thank you. Our next question is from Brian Essex from JP Morgan. Please unmute your line and ask your question.

Great. Thank you very much, and thank you for taking the question. I guess maybe for Ken, we'd love to ask a question on your SASE. You guys are a little bit unique in where so much of your SASE business is converting from your installed-based upgrade, whether it's from SD-WAN or Firewall. Could you talk about the rate of SASE penetration or rate of penetration from SASE into your SD-WAN install base? And what would you need to do to accelerate the volume of business where you can lead with SASE instead of relying on your install base?

Thank you. Yeah, I think, yeah, that's leverage all like a number one market share in whether the firewall SD-WAN, we do see the customer much quicker, easier to adopt a SASE solution. Right now, we're more tracking the enterprise. That's what gave the percentage. I feel it's a good representation of some customer base. We also have a lot of SASE goes through our service provider, goes through our kind of a channel partner, which is a little bit difficult for us to track in. Just like SD1, sometimes we offer SD1 for free, which we see we are the number one player in SD1 and that's also very different than all the other competitors. Pretty much all the other top five, top ten players, they all come from acquisition. So if they do their SASE they have to have a separate SD-1 box and then which we feel much much kind of a weaker or more difficult to manage compared we have a single box solution there. So that's where I see SASE, wherever quick run power, wherever quick growth, that's why we mentioned the 40 SASE grew 100%. It's a few Pretty excited about this opportunity and all the team, all the field, all the channel partner also like it a lot. And also I do believe probably that's the early strategy we have eventually the service provider will also pick up the chassis. Just like when we IPO like 16 years ago, like over 30% of business come from like a carrier service provider. I still believe, like, eventually the telecom service provider, some other like a cloud provider, may also pick up the 40 SASE because it's so easy to deploy and it's so easy to adopt what's customer need, whether it's a private SASE or kind of sovereign SASE, and so easy, quickly integrate with other security, with other networking function. But the way we track and we do give every quarter is more based on enterprise, which we have kind of a direct restriction and that we can more easily track. But I do believe there's a much bigger base goes through service provider, goes through channel partner, especially through the SMB.

Any way to see what percentage of your SD-WAN install base is remaining where you might convert it to SASE, like how much of an opportunity that is?

I feel the slides I showed in the presentation, I believe the slides, that's a good way to represent. But on the other side, we also keeping gaining market share in firewall, keeping gaining market share in SD-WAN. So I think with our installation page, you can see slides 10. So now we believe within two years, now 15% of the enterprise starting a double SASE. uh... Yeah, but also we started to see more and more kind of a new SASE, which is not a firewall or SD-WAN customer before, and also replacing some other SASE player because whether their solution too complicated, too costly, you can see we have a huge cost advantage. We also much simple one box solution compared they have to have a two, three, four box. So that's what we see in more and more new case replacing some other SASE player.

Okay, very helpful, thank you.

Thank you.

Our next question comes from Gabriella Borges from Goldman Sachs. Please unmute your line and ask your question.

Hey, good afternoon, thank you. Christiane, you're giving us an early look into directionally services growth. improving into the back half of 26 because of the strength and product revenue this year. My question is on your visibility into product revenue for next year. Certainly the year of e-growth has been good year to date, but on comps that are much lower. So my question for you is, how do you think about product growth trajectory into next year? Are there any idiosyncratic drivers either tied to the COVID cycle or to what you're seeing across your pipeline that you can give us some color on that we should be aware of as we think about the trajectory of product growth next year? Thank you.

Yeah, so we are confident about continued product growth. Not only next year, right? So I think Ken said 10% to 15% is what he believes is a good growth rate because there are multiple growth drivers. There is continued upgrade and refresh activity that is in our install base. There are additional use cases that we see, and then we also are growing out with new customers and in OT and other areas. So from our perspective, we are super confident about continued growth of product as well as attached services and then our SecOps portfolio, which is predominantly non-attached services.

Like I mentioned, I feel the growth driver is more whether there's a new function or the new hardware. So in March next year, we are going to launch the 40OS 8.0, which is in the beta process. That's where we'll have an early March. We'll host in Las Vegas the Accelerate. welcome all to attend, like before. That's the new function will drive the growth. Also, like I mentioned, Gabor, in your conference, so we'll have a new ASIC. The MPA will also come out next year, probably like a few times faster, more function, almost the same cost. That's also will drive additional, especially the data center, firewall growth. All this is our growth driver. Plus, we see the SaaS customer quite excited about our SaaS solution compared to other competitors. And the OT is our growth. We see pretty strong. We are probably the only leader in the market, which we invest over 10 years. I think it's all this, I believe, will keep driving the product revenue growth to double-digit.

Thank you for the caller.

Thank you. Our next question is from Junaid Siddiqui from Tourist Securities. Please unmute your line and ask your question.

Great. Thank you for taking my question. I just wanted to drill a bit on OT security. That seems to be a continued driver of growth for you. And if I'm not mistaken, I think growth accelerated from last quarter. Could you just talk about some of the factors that are driving that? And how are you differentiated versus some of the competitors out there?

Yeah, the OT security really is trying to secure a lot of device, especially whether it's like a health care, the utility, manufacturer, and all this. I keep saying probably in the next few years, 10 times more device will connect online, including a lot of home appliance compared to people, secure people. And also most time to secure this device This device, the only way probably goes through network security because this device has all different kind of operation system, limited computing power, difficult to install security software on it. Network security probably the way to do that. So that's where we see huge, huge potential. But also the difficult, really, sometimes they run different protocol, may not be as standard as like your laptop or phone kind of a, OS or protocol. On the other side, it needs a different kind of physical platform, sometimes recognized, sometimes kind of fitting like a different environment. So that's where we invest long-term, more than 10 years in this area. And if you look at the Westland report in the last three years, we are the only leader. That's, I do believe, is a huge potential. We have a lot of a different case, different trial from like how to secure infrastructure to some kind of robot or connect car. There's all kind of solution there. Each kind of a unique, but I do believe each can be a huge potential market. And we don't see much other player get in this space. I do believe it's a huge growth driver for us.

Our next question comes from Patrick Colville from Scotiabank. Please unmute your line and ask your question.

Terrific. Thank you for taking my question, Ken and Christina. The question I'm getting in my inbox is about these refresh cycles. So can you just one more time just clarify for us why the 2026 end of service cohort was not a contributor for this quarter? And then I just want to talk about the next super cycle. It's 2021 and 2022, Fortinet had just incredible years. And in Christina's comments a couple of questions ago, Christina didn't mention the super cycle refresh as being a driver for 2026 and 2027. So I guess kind of why that absence? Thank you.

I wouldn't say absence. So we said we are confident with our growth of product into the next years. The upgrade activity, as Ken said, is a portion of our growth drivers, but it has different reasons. So, of course, as we come out with new features and functionality and another version of EOS, there are benefits for customers who've purchased a couple of years ago to upgrade their devices.

And so as they... need more security, more speed, that will naturally happen. It's a growth driver, but there are multiple growth drivers that contribute to the overall product growth.

That's where every earlier kind of more talk about the technology, talk about all this new product. I feel that that is the growth driver. That's making Food&X success in the last 25 years, again, in market share. I feel like customer buying or even refreshed product is more because you have a... more better function than before and the faster and the lower cost. That's probably will be the driver. I just suddenly come up using whether you want to buy a car or not. It's more exciting buy the new car. What was the function feature? They offer the performance instead of a count on the car. total out of service and wait like, I don't know, 10, 20 years. And also sometimes confused about the end of service with the normal refresh. end of service also is a small part of a refresh. I don't know the percentage because I don't feel it's important to count that. But I do believe customer kind of upgrade the box is more driven by the new function, the new box can support and also the additional performance and also the new kind of use case like in the OT, in the data center security and also kind of all this AI-driven, whether within the AI data center or within the AI use case or some kind of OT appliance environment.

And your point's a good one, that the normal refresh that Ken's talking about, which can be four or so years, lines up well with the new technology that we're coming out with early next year. the new network processor and the new operating system. So the fact we didn't stress that does not mean that we don't think that's an opportunity. It was kind of bundled in with Ken's earlier comments about the new technology that's coming out, which really has driven the growth for Fortinet for 25 years is that steady technology development that is impactful and people want to refresh their devices because the technology is so much better.

Yeah, that's one thing I feel the key differentiation built for in the last 25 years. Really, the engineer resource, the innovation capability we have, I feel better than other competitors. So that's where we can keep come up the new function and also keep follow the market change, also internally develop innovation. all this kind of function. You can look at whether the NetGen firewall, whether the SD-WAN, whether the SASE, and also most secure op, AI-driven, all this kind of secure op solution there. Most of it all comes from internal R&D innovation compared to most competitors have to come from acquisition. So I feel it's important to recognize all this internal R&D innovation capability That's drive the company with all the new growth and new function to keep customer need, which instead of a dependent acquisition, which has more difficult time to integrate after a few years, all this kind of things. So that's a few, we have a huge advantage and also leverage a lot of long-term investment, whether from ASIC chip, from the OS, from the infrastructure, We do believe the company will keep growing and gaining market share long term. That's why I'm pretty confident we're keeping gaining share in all these three pillars shown on the slide.

Thank you, Ken.

Thank you.

Our next question is from Meta Marshall from Morgan Stanley. Please unmute your line and ask your question.

Great. I just wanted to ask a question just about the Q4 gross margins. Just wanted to see if there were any headwinds from any tariffs or componentry cost increases that were embedded in that guide. Thanks.

No, it's really the mix between hardware and service revenue. And then we had some benefits in Q3 from some reserve releases that we don't expect in Q4. But it's pretty normalized from a product gross margin versus service gross margin. It's more of a mix.

Great. Thank you. Our next question is from Rob Owens from Piper Sander. Please unmute your line and ask your question.

Great. Thank you for taking my question. I was hoping you could parse for us different geos, and especially North America, which seemed to lag from a growth perspective. Was there something unique there to call out during the third quarter in terms of share losses or anything else that might have been weak within this theater? Thanks.

No, North America or US was very strong in Q2. And so it's, there are some quarters where big deals come in and then other quarters, not so much. So they performed well, no share loss.

Thank you. Our next question is from Sakid Kalia from Barclays. Please unmute your line and ask your question.

Okay, great. Thanks for taking my question here. Christian, maybe this is for you. You know, there's been a lot of focus on the call on services revenue, understandably so. But I'm curious a little bit on services billings in the quarter, just given the strong product result. So can you just talk about whether there was any sort of change in attach rate on appliances, whether we should think about changing attach rates as software becomes a bigger part of product, or maybe talk about another item, which is the unattached portion of services billings. I'm just curious, given the sequential decline in services billings combined with a really strong product result, what were some of the moving parts that we should consider?

So if you look at Q2, Q2 actually had significant enterprise agreements that we signed. And so we had high services billings. And in Q3, some of the products were sold into these enterprise agreements. And we also had, as I mentioned earlier, some customers buying hardware ahead of the deployment next year. And so we expect more service billings for this specific hardware purchases in 2026. So it's really more, I think you need to look at it more on a longer term basis and not just quarter to quarter.

Okay, got it. So it sounds like there's a timing element there with services, billions and product. Okay, got it. Very helpful. Thank you.

Our next question comes from Shrenik Kathari from Baird. Please unmute your line and ask your question.

Sorry. Thanks for taking my question. So, Ken, Christiane, you highlighted the launch of your secure AI data center offering. Seems like a pretty foundational growth pillar. So just stepping back a bit, how large do you think is the addressable opportunity here and who are you targeting? Are these the AI native players, cloud providers, hyperscalers, or this enterprise data center using the refresh cycles and had a quick follow-up?

I think because we are only like a network security vendor with our own ASIC, which performs a lot, a lot of AI data centers in the high-speed environment, so we started to see some opportunity there, secure within the big data center, especially AI data center. And also, there's a lot of talk about how AI, whether the agentic or some other part, maybe needs some additional screening or security. So that's the product we are launching. And I think still in the early stage, the security, network security, usually after the infrastructure being built, but we also engage pretty early, and whether with AI player or with some data center service provider player, because since we have the highest performed network security solution there, so we kind of started testing with their infrastructure how to secure AI, especially in the data, in the agent level. So that's still in the early stages. It's difficult to estimate, but I do believe eventually it can be a huge market with a kind of explosive growth.

Got it. Super helpful. And just a follow-up for Christian. I know it's still early days, but as a revenue driver, given the inflection we are seeing in AI, I mean, how should we think about The monetization here next year, is it mostly still skewed towards the product and hardware, as Ken was saying, the ASICs? Or should we also think about the services layering on top for the AI ops and unified tech ops stuff?

So, no, definitely the services piece as well. I would say with regards to AI... The use cases are really broad-based. If we secure an AI data center, it's going to be more hardware-centric. If we secure AI applications, it's going to be more software-centric. And then, of course, we have our own AI-enabled solutions. that benefit from AI and help the customers automate network security or SecOps. So AI has a broad implication for us because it opens up different use cases and different benefits for the customers.

Yeah, that's where the... The AI-driven security operation is fast-growing in the last few quarter. And so over 20 solutions, probably close to half of all this kind of security operation solution. And with all this AI kind of system operation, we can see it's pretty fast-growing. And AI, I believe, is the biggest driver for all this growth.

Thanks a lot.

Our next question comes from Itai Kidron from Oppenheimer & Co. Please unmute your line and ask your question.

Thanks, guys. I appreciate it. Christiane, I want to make sure I understand the linearity of your product billings going forward. You talked about services accelerating the second half of next year. That's the revenue, right?

Sorry to interrupt, but yeah, that was the revenue comment. Yeah.

Then if I think about the product revenue, should it have perhaps an inverse pattern just given that the end of life, you're meaningfully into it right now and somewhere early, mid next year, you're largely complete on that front and then it becomes a difficult comp. Is it fair to say that the product growth potentially decelerates in the second half of next year?

We are confident that our product revenue growth is solid for next year as well, based on all the growth drivers that we've just provided. We haven't guided for next year yet, so from that perspective, I don't want to get ahead, but we are confident with our growth trajectory for product as well as for services.

Okay, maybe then...

Yeah, go ahead, Ken. Sorry. I kind of go back to the slides before. You can see each of these pillars is a big market, and it's still a very, very fragmented market. And I don't see any player kind of more than 10%, 20% market share. It's still a huge growth potential to keep gaining market share. That's why we do believe in each pillar. We have a unique advantage, and we're keeping gaining market share. That will continue to drive the growth. the product revenue growth. It's probably not like when we dominate the market, then more limit how growth. But this is more like a green field for all these three pillars because it's so fragmented. And to believe the strong player will keep gaining share. And then that's probably drive the next five to 10-year product growth.

Very good. And then maybe if you could just clarify on the SASE billings, what percent of those are still just standalone SD-WAN versus not?

We have some answer, but if you look at SD-WAN as a part of 4DOS function, I think we have a good tracking, but sometimes still less. difficult to be too accurate because sometimes customers can't enable SD-WAN and then keep using it without letting us know. So that's why, but we do believe we're the number one SD-WAN player in the market and that's also one of the major reasons they select, customers select SASE because they like the SD-WAN and very quickly can migrate to SASE. But the SD-WAN market itself kind of will grow, slow down a little bit. But we do keep gaining market share. You can look at other SD-WAN players, all come from acquisition. All the top five, top ten, pretty much all come from acquisition, which is we see them slow down a lot of whether they develop a new function or have a separate box. So that's where we're keeping gaining SD-WAN market share. But all SD-WAN is a part of the 4DOS. So if you buy a firewall, you already have SD-WAN in there.

And referring to the acquisitions, that's creating some disruption in the SD-WAN market that's opening up opportunity for us where the disruption from the acquisition plus the customer may have a separate firewall and separate SD-WAN solution and they come and talk to us about a combined solution that is just a no-brainer from a cost-effectiveness standpoint. So we've had multiple conversations around that, which we're already in the far upper right quadrant of the Gardner Magic Quadrant for SD-WAN, but It feels like with that leadership position and the disruption from these acquisitions and just the compelling value proposition, it's a good opportunity for us.

Thank you.

Our next question is from Brad Zelnick from Deutsche Bank. Please unmute your line and ask your question.

Fantastic. Thanks so much for fitting me in. I'm hoping you can help reconcile your comments about growing above market in each of your pillars with 13% ARR growth in SASE this quarter. Is there something specific one-off we should consider in Q3? And as well, it would be great if you can comment on pricing trends and competition that you're seeing in SASE more broadly. Thanks.

Brad, the unified SASE ARR, as we just said, includes also the SD-WAN. And so I think we are pleased that actually quarter over quarter we had pretty good ARR growth. You know that it was flat because there's also an element of the CNAP component in that ARR. And from that perspective, we now see positive momentum, yeah.

Okay, great. Any comments on, especially at the branch, when the customer wants a SASE solution, how often is that going out to competitive bid and any changes in win rates and pricing trends there? Any color would be great.

So I would say competitive bids really depend a little bit on the customer size and the customer type. In government, you have more competitive bids than maybe in smaller enterprise customers, but large enterprise customers will always go out for a competitive solution. I think the key is that we now have a seat at the table when we talk to our customers and say how easy it is to implement SASE and just extend your policies from the firewall to the SASE platform. And that makes the incremental cost for our customers significantly lower than if they deploy a third party solution. And that's what we also hear from customers, that not having to maintain multiple policies is a huge operational benefit.

I think there are some SASE players talk about maybe branch SASE may replace a firewall or some other, which is, I don't see that's the case. Maybe there are different players, they have to use multiple box for branch, like one for networking device, one for SD-WAN. and then the other one just try to load a SASE there. But for us, it's a single box solution with networking with SD-WAN without a SASE there. You can see the example Christiana gave. There's a 10,000 retail location. They just use the 40 gate to deploy the SASE, SD-WAN, and the network security solution, and also even to the networking, all this Wi-Fi. access as a controller. So that's a huge cost saving and more easy to manage, which compared to, compared to have to use in three, four different box when I work in for SD-WAN for some other SASE, which we see is a single OS. And also, we also kind of dominant in the SMB space. So we feel a lot of customers, they can very quickly, easily adopt that is sassy not just as a smb but also work from home we also suddenly see some new case to supporting work from home using kind of a home security sassy there very helpful color thanks so much thank you thank you our last question comes from bray powell from btig if you'd like to unmute your line and ask your question

Okay, great. Thank you very much for working me into the call. I just want to make sure, can you hear me okay?

Okay. Thank you.

Okay, great. Hopefully I can ask this question correctly. I just want to make sure I understood some of the commentary during the Q&A. All right. So you called out double digit or an expectation for 10 to 15% growth in product revenue for 2026 during the Q&A. And that was in response to a question. I'm going to guess there's a reason that that statement was not in prepared remarks. So I guess here's my question. Is the 10% to 15%, is that what you really think you're going to do in 2026 as the year plays out? And I'm asking that because historically, you've given investors a discount when you guide for a new year. So I'm not asking for guidance. I'm just asking, like, are you thinking of those two things correctly?

Let me correct you a little bit. What I mentioned is really in the last few conferences, there's always a question about, hey, what's the hardware, what's the product revenue growth? My comment is always the normal growth rate should be 10% to 15%, not specifically for 2026. So that's, I believe, not just 2026, also maybe go further in the next 5 to 10 years, the normal product hardware growth will be 10 to 15% in the normal case. That's also tracking quite well with the last 16 years. So if you look at how Fortnite grows, right, so that's what we do. We do believe we have an advantage in the hardware with ASIC. We have a better OS, more integrated, and the and other competitors, and that's where we have some big customer base. And, yeah, that's, I do believe, the product and also the hardware keeping growth, the 10% to 15%, that will be the normal growth rate. For us, also we're keeping gaining market share. Maybe the market can grow a little bit slower than that. That's where you look at the combined market growth in the slides for. And secure network can maybe a little bit slower, but there's also unified SaaS and secure op. But that's where the combined market growth rate, that's related to some of the product, maybe some of the software. But I do believe the normal case, probably in the next 5 to 10 years, will be between 10% to 15% growth.

OK, that's really helpful. Thanks for clarifying that. Yeah, thank you.

Thank you. That was our final question. I will now hand it back over to Anthony Lascari for closing remarks.

Thank you. I'd like to thank everyone for joining today's call. We will be attending investor conferences hosted by Wells Fargo, UBS, NASDAQ, and Barclays during the fourth quarter. The fireside chat webcast links will be posted on the events and presentations section of our investor relations website. If you have any follow-up questions, please feel free to contact me, and have a great day.