Fortinet, Inc. (FTNT)

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Fortinet (FTNT)

Q3 2012 Earnings Call

October 16, 2012 4:30 PM ET


Michelle Spolver - VP, Corporate Communications & IR

Ken Goldman - CFO

Ken Xie - Founder, President and CEO


Sterling Auty - JPMorgan

Erik Suppiger - JMP Securities

Keith Weiss - Morgan Stanley

Walter Pritchard - Citi

Jonathan Ho - William Blair

Brent Thill - UBS

Jonathan Ruykhaver - Stephens Incorporated

Jayson Nolan - Robert W. Baird

Robert Breza - RBC

Shaul Eyal - Oppenheimer & Company

Rick Sherlund - Nomura

Aaron Schwartz - Jefferies

Ron Zember - Bank of America

Rohit Chopra - Wedbush

Scott Zeller - Needham and Company

Brian Freed - Wunderlich



Good day, ladies and gentlemen and welcome to your Fortinet Q3 ‘12 earnings announcement. At this time, all participants will be in a listen-only mode. Then later we will conduct a question-and-answer session, which instructions will be given at that time. (Operator Instructions) And as a reminder, today’s conference is being recorded.

And now, I would like to introduce your host for today Michelle Spolver. Please go ahead ma'am.

Michelle Spolver

Good afternoon everyone and thank you for joining us on this conference call to discuss Fortinet's financial and operating results for the third quarter of 2012. Joining me today are Fortinet's Founder, President and CEO, Ken Xie; CFO, Ken Goldman and Nancy Bush who will be serving as our Interim CFO following Ken Goldman’s departure later this week.

In terms of the structure of the call, Ken Goldman will begin with a review of operating results before turning the call over to Ken Xie to provide additional perspective on our performance of our business and products. Ken Goldman will then conclude with some thoughts on our outlook for the fourth quarter and fiscal year 2012 before we open up to the call for questions of which all of us will be available to answer.

As a reminder, today we're holding two calls. Following this call, we will hold the second conference call to provide an opportunity for financial analysts and investors to ask more detailed financial questions. The second call will begin at 3.30 pm Pacific Time and will also be webcast from our Investor Relations website and is accessible as detailed in our earnings release.

Before we begin, let me read firstly this disclaimer. Please note that some of the comments we make today are forward-looking statements. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected in these statements. Please refer to our SEC filings, in particular, the risk factors described in our Form 10-K and 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 please note that we'll be discussing certain non-GAAP financial measures on this call. Our GAAP results and GAAP to non-GAAP reconciliations can be found in our earnings press release and on slide 14 and 15 of the presentation that accompanies today’s remarks. Please refer to our Investor Relations section of our website for more important information including our earnings press release issued a few minutes ago and slides that accompany today's prepared remarks. A replay of this call will also be available on our website. Note that we routinely post information on our Investor Relations' website and we encourage you to make use of this resource.

I will now turn the call over to Ken Goldman to review Fortinet's third quarter operating results.

Ken Goldman

Very well done Michelle. That was nice to do. Now let me start, this is my last one, so I’ll have some concluding remarks after we go over guys, but thank you all for joining us today on our third quarter call.

Fortinet did have a solid third quarter. Our results were in line with our expectations across our key operating metrics and we delivered a combination of billings growth of 22% along with our Non-GAAP operating margin 25%. Well, the microenvironment remains volatile. Demand in the security market remains strong and Fortinet’s consistently winning and growing share where others in the space are losing share are turning flat. We’re at a good market, you can say a great market, great position with broad range of acceptable products and a strong track record of innovation.

Our advantage is and largely remains due to our extensive product portfolio, variable UTM functionality and unmatched performance allows us to pursue and win a wide variety of deals cross all geographies where those be portfolio (inaudible) management are a subset of that such as next-generation firewall or single function security solutions. Additionally features sets such as virtualization, advanced routing also differentiate us enhanced by the high end high space, areas where we continue to gain momentum during the third quarter. Evidence of this is the fact that we saw 56% increase in a number of deals greater than 250,000 and a growing number of deals greater than 1 million in Q3. We are at the beginning of very strong new product cycle with the launch of our FortiOS 5.0 operating system across mobile products in our next generation ASICs that will be integrated into a number of new products in our pipeline that we’re very excited about.

Feebly these advancements will further standpoint as technology leadership, in addition to driving a continued market share gain. Ken will talk more about this shortly in his prepared remarks. (inaudible) grow twice as fast to market and we believe we’re well positioned to do so based on a combination of a strong product portfolio and investments we make in the business. We have an exceptional track record of executing the public company and are confident about the company’s strategic direction and long-term success.

I’ll discuss third quarter results in more detail. The numbers for Q3 can be seen on slide three. In terms of billings, 145 million, an increase of 27 million or 22% year-over-year. As a reminder, we bill in US dollars, so our billings are not impacted by FX fluctuations. I should note that year-over-year billings growth would have been two points higher at 24%, were it not for the impact of patent sales at actually both periods. 1.8 million this quarter and 2.6 million in the year ago period. These patents do not relate to our core offerings in our limited use for our needs.

Well, I would normalize 24% billings growth as a strong performance and is consistent with our guidance, we did experience a bit more Q3 seasonality, anticipated coming up a very strong second quarter performance in a difficult comparison to last year.

In addition from geographic perspective, we were expecting stronger performance from China during the quarter. The volatility we often face in that market was accentuated by reliance on large deals. We have taken steps to enhance our channel and management sales teams and expect performance there to improve over time. And you may recall that we cite a similar need to improve execution in the UK about a year ago and after making changes to our sales organization in channel, we have reported some record quarters in the UK. We are confident that we can do same in the future in China. All things considered, those growth reinforce the fact that we continue to grow and gain market share, we once again saw a solid increase in new enterprise throughout the year deals as we continue to grow a pleasant to Fortune 500.

Geographic breakdown and billings growth, Americas 21%, EMEA 22%, and APAC 27% compared to Q3, 2011. Excluding the patent sales, Americas billings growth would have been 23%. As you can see, this is very consistent across all of our geographies. And all three regions, exhibit strong year over growth.

Americas had solid performance across verticals and regions particularly in Canada and Latin America. We continue to gain traction in large enterprise market and won a number of next generation firewall in UTM deals with Fortune 500 companies.

In EMEA, we were pleased with our execution despite the economic conditions and some of period seasonality that we saw strong growth in the UK, Germany and South Africa. Our high end products over a number of large enterprise deals as customers look to consolidate the security services and required high performance. In addition, we are very successful in the carrier vertical this quarter and add some key reference customers in the finance vertical.

In APAC, we have record quarters in Japan, Korea and Taiwan, which was partially offset by trans-performance which I' just referred to.

In Q3, in the recent quarters, we've been successfully growing our enterprise sales, repositioning our regional brand from the low-end to mid and high-end. This has led to larger enterprise deals in key verticals. In terms of product segmentation, you can see that in slide four. We saw a nice pickup in our high-end SMB products, which accounted for 36% and 34% respectively of product billings in Q3. A growth in high-end FortiGate products was attributed to strong sales of our FortiGate-1000C, 3240C and 3950B and 5000 Japanese based platform to identify this as service providers. Our entry level FortiGate-40C, 60C and 100D products also gained share. And we sold many entry level products for enterprise branch office deployments. In terms of deal size breakdown, number of large deals in Q3 increased year-over-year in all categories. A number of deals over 100 case for Q3 was 168 in comparison to 130 for the last year same quarter, for over 250 was 61 that compares to 39 in 3Q last year and over half a million was 16 versus 13 in Q3 last year. We also had number of deals of 1 million or more during the quarter and we continue to see more deals larger than 1 million.

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