Check Point Software Technologies Ltd (CHKP) 2006 Q3 法說會逐字稿

Good morning, ladies and gentlemen, my name is Breanna and I will be your conference operator today.

At this time I would like to welcome everyone to the Check Point Software 2006 third quarter earnings conference call. [OPERATOR INSTRUCTIONS] It is now my pleasure to turn the floor over to your host, Anne Marie McCauley.

Ma'am, you may begin your conference.

Thank you, Breanna.

Good morning and afternoon.

I'm Ann Marie McCauley, Director of Investor Relations for Check Point Software.

Thank you for joining us to discuss the third quarter 2006 results.

As a reminder this call is being webcast live from our website and is being recorded.

To access the live webcast and replay information, please visit the Company's website at www.checkpoint.com/ir.

The replay will be available through November 2nd.

If you would like to reach us after the call, please contact the Investor Relations Department at 650-628-2050.

On the call with me today is Gil Shwed, Chairman and CEO, Jerry Ungerman, Vice Chairman, and Eyal Desheh, Executive Vice President and CFO.

Before we start our management presentations, I'd like to read the following disclaimer.

During the course of this call the company will make certain forward-looking statements.

Forward-looking statements include statements regarding Check Point expectations and beliefs regarding operating results for the fourth quarter of 2006, [INAUDIBLE] to increase revenues, the competitive position of and capabilities of Check Point's products, trends toward larger transactions, Check Point's ability to continue in sales to government agencies and Check Point's plan to enhance its product architecture and expend strategic accounts and partner program.

Other statements which may be made in response to questions which refer to our belief, plan, expectations or intentions are also forward-looking statements for purposes of Safe Harbor provided by the Private Securities Litigation Reform Act.

Because these statements pertain to future events they are subject to various risks and uncertainties and actual results could differ materially from Check Point's current expectations and beliefs.

Factors that could cause or contribute to such differences include but are not limited to the impact on revenues of general market conditions in the company's industry, the mix of sales of new products and long-term subscriptions, economic and political uncertainties, the impact of political changes and weaknesses in various regions of the world, including hostilities or acts of terrorism in Israel, the inclusion of network security functionality and third party hardware or systems software, any foreseen and unforeseen developmental or technological difficulties with regard to Check Point's products, changes in the competitive landscape, including new competitors or the impact of competitive pricing of product, rapid technological advances or changes in customer requirements which Check Point is unable to expound expeditiously, if at all, a shift in the demand for products such as Check Point, factors affecting third party with which Check Point has formed business alliances, timely availability, feature performance and customer acceptance of Check Point's new and existing products, the amount of equity based compensation charges, the ability to recognize deferred revenue and other factors and risks discussed in Check Point's annual report on form 20F for the year ended December 31, 2005, which is on file with the Securities and Exchange Commission.

Check Point extends no obligation to update information concerning its expectations.

Now let me turn the call over to Eyal Desheh for a financial review.

Thank you very much, Anne Marie.

Good morning and afternoon, everyone.

I will share with you the results of a good quarter and provide some of the details on the financials.

Our third quarter results came in at the high end of our projection and demonstrated annual growth in revenues and non-GAAP profits.

We experienced healthy interest in our new perimeter security product line, especially the UTM offering.

We had favorable results tied to enhancement we made to subscriptions, support, and service initiatives, which can be seen in the 27% year-over-year increase in service revenue.

Our consumer business generated nice growth and is now available in all major retail stores.

And as you have noted for many quarters, we experienced continued success of our SmartDefense program.

As a reminder, our quarter results for 2006 include the impact of SFAS 123R, the inclusion of equity compensation's expenses in the P&L and our GAAP financial results.

In our press release, which has been posted on our website at www.checkpoint.com, represented GAAP and non-GAAP results and reconciliation tables which highlights this data.

Let me share with you the financial details for the third quarter 2006.

Revenues for the third quarter were $142.5 million compared to $141 million in the third quarter of 2005 and $139 million in Q2 this year.

GAAP net income for the third quarter of 2006 was $71 million compared to $79 million in the third quarter of 2005, and compared to $66 million in Q2 this year.

Equity based compensation expenses accounted for $6.5 million in this quarter.

Non-GAAP net income was $79 million compared to $80 million in the third quarter of 2005, and grew 3% over Q2 this year.

Operating expenses for Q3 were $72.1 million.

Non-GAAP operating expenses were $64.1 million compared to $58 million in Q3 last year and compared to $64 million in Q2 this year.

The annual increase in expenses is a result of growth in headcount, mostly in R&D, sales and technical services.

Our total headcount grew by more than 100 employees this year and is now over 1500.

Total operating income was $70 million and non-GAAP operating income was $78 million down from $83 million in the third quarter of 2005, and up 5% from $75 million last quarter.

Our effective income tax rate was stable at approximately 17%.

GAAP earnings per diluted shares for the third quarter of 2006 were $0.31, the same as $0.31 last year and was up 15%, or $0.27, last quarter.

Equity based compensation added $0.03 impact on GAAP EPS.

Finally non-GAAP EPS for the third quarter of 2006 was $0.34 compared to $0.32 both last year and last quarter, an increase of 6%.

Deferred revenues this quarter were $173.4 million and increase of $29 million or 20% over Q3 2005 and only a slight decrease of $3.1 million at 2% compared to last quarter which was less than our historical seasonal decrease.

For the third quarter our day sales outstanding, DSO, were 60 days compared to 54 days in Q3 last year and 55 days in Q2.

In the third quarter we generated cash from operating activities of $75 million, excluding share repurchase.

Our cash and investment balance at the end of the quarter was $1.6 billion.

During the third quarter we purchased approximately 11.5 million shares for a total cost of roughly $201 million as part of our expanded share repurchase program.

Our third quarter revenues again were well diversified with America contributing 46% of revenues and MEA contributed 41% and Asia-Pacific and Japan region contributed 13% to our revenues this quarter.

For the third quarter our emerging product contributed approximately 30% of product revenues.

In the third quarter our large orders, which are greater than $50,000, accounted for roughly 27% of total orders.

In Q3 we had seven deals between $500,000 and $1 million and five deals which were greater than $1 million.

This brings the large deal count for the year to 18 deals in the range of $500,000 to $1 million and 12 deals greater than $1 million.

This is from the beginning of the year.

This trend of large deal is the result of successful initiative with large accounts whereby Check Point becomes the major provider of network security solutions.

We continue to grow our install base, adding 21,000 gateways bringing the total to over 528,000 security gateways.

In summary, we're pleased with the financial results we posted this quarter.

Our market environment has not changed dramatically in 2006.

Over the [leaders] our performance and execution has improved and we headed into the final quarter of the year with a robust product portfolio.

I will now let Jerry and Gil speak more about our business and our plans.

Jerry, please go ahead.

Thank you, Eyal.

Hello, everyone.

Thank you for taking your time to be on the call with us today.

Following Eyal's review of our financial highlights, I would like to focus my comments on some business highlights for the quarter that we think are important aspects of our growth strategy.

First, we collaborated with Intel in developing high performance security.

Working together our software engineers and Intel's hardware engineers modified the Dual-Core Intel Xeon Processors 5100 BIOS to deliver optimized performance for our security solutions.

As a result Check Point has achieved an industry first 10 gigabit per second using an open server approach, a speed unmatched by any other software security vendor.

This approach allows customers the flexibility of software with a higher performance of hardware at an unbeatable price performance ratio.

Second, we announced that we were awarded the EAL 4 US Government Certification for all four critical network security categories, firewall, VPM, IDS and IPS, and remote management.

Check Point products meet and exceed the stringent requirements established by government standards, government approval processes, and security industry's test.

With this certification we believe we are the only security company to offer government agencies with a complete certified unified security architecture.

This should allow us to compete more effectively in sales to government agencies all over the world which highly value the certification.

During the quarter, we also hosted the Check Point Experience event for partners and users in Asia-Pacific, which included technical and business discussions and product demonstrations to improve technical know-how and expertise of attendees.

We have record attendance of close to 700 participants.

Our new collaborative enterprise support program, CES, was expanded into the Asia-Pacific region during the quarter based on the initial success of the new support program we launched in Europe in second quarter.

This is a new support program and is a combination of subscription and support delivered jointly by Check Point and our partners.

It is designed to add more value to customers and partners by improving the support that customers -- by improving the support our customers receive.

And finally, we won a number of awards during the quarter for both our consumer products and new UTM solutions that are focused on providing not only the best security, but also solutions that are easy to use and cost effective.

A compelling combination.

While we still have much to do as we move into the fourth quarter into next year, we are pleased with the initial success across the number of new initiatives.

A key component of our growth strategy is our unified security architecture, which is resonating not only with customers and partners, but is a concept being embraced by many industry analysts' firms.

In fact, just last month Gartner held a conference focussed on the importance of customers having a security architecture and the need for flexibility to deal with the dynamics of evolving security threats.

The initial acceptance of our new VPN1-UTM solution was positive and we are also pleased with our results across all geographical and market segments, especially with the improvements in our business results in Japan, which is primarily the result of the restructuring we began implementing this year, in addition to bringing on our new country manager this quarter.

Europe also turned in very nice performance during the quarter.

In summary, we still have to focus on our execution of these many new initiatives as well as launching some additional ones that we believe overtime will result in the top-line growth consistent with our strategy that we have been discussing with you this year.

Thank you again for being on the call with us today.

I would now like to turn the call over to Gil Shwed.

Thank you, Jerry, and good afternoon everyone.

We're pleased with the solid results generated in the first quarter, especially given that this is typically a seasonally low slow quarter.

Many of our highlights of financial metrics increased compared to last quarter and we had annual growth in key areas, including revenue, deferred revenues and non-GAAP earning per share.

Furthermore, we came in at the higher end of our projection.

Another favorable trend in the quarter was the continued success of our unified security architecture.

We've been working with many customers around the world to endorse the Check Point unified security architecture as the framework for their security infrastructure.

During the third quarter we saw increasing number of major customers endorsing these and placing multi-year procurement projects with us.

These include customers from different sectors in different parts of the world.

It also include one of the world's largest global financial institution, one of the world's largest food manufacturers, a nationwide utility company, a global [retail] chain, one of the world's largest shipping companies and a few government agencies where we displaced competitors.

These are just a few example of customers that participate in our strategic program.

Going forward we intend to continue to enhance our architecture.

We will extend our architecture to additional security segments and we will extend our strategic account programs around the world.

Finally, we intend to continue and work with our channel partners to deliver these revenues to customers of all sizes.

Now, let me share with you our forward financial target for the fourth quarter of 2006.

We expect Q4 revenues to be in the range of $153 to $166 million.

GAAP EPS is expected to be between $0.34 and $0.37.

Non-GAAP EPS, excluding the effects of stock-based compensation and acquisition related charges, is expected to be in the range of $0.37 to $0.41.

In summary, we continue to execute on our architectural plan and hope that these efforts will drive our business in the coming quarter and coming years.

Thank you again for participating in this call and we'd like to open the call for your question.

[OPERATOR INSTRUCTIONS] Our first question comes from Sterling Auty with J.P. Morgan.

Yes, thanks, hi, guys.

I missed it as you went through.

Can you just describe kind of the geographic performance that you saw, specifically what you saw in North America and what you saw in Europe?

Yes, absolutely.

First of all, I am very pleased to say that all our geographies performed well this quarter.

I think most notably we have very nice performance coming from Europe in Q3 in spite of the fact that the second quarter is usually slower in Europe.

We see a very nice pickup in business over there.

We had very nice improvement in Japan, Jerry mentioned, due to management change that is already delivering for our Japan businesses is beginning to grow again.

Asia mostly China and Korea and Taiwan has performed very well and America has done fairly well also.

But I think the highlights, geographical highlights, were Europe and Japan.

If you gave the geographic splits, I'll get them off the transcript, if not if you could repeat them that would be great.

The other question is -- Amnon since taking over worldwide sales, there has been some articles here in North America about potential changes that you might consider here.

Can you kind of review what he's done here in North America so far and what additional changes we might expect?

I don't know what the article referred to but generally we intend to keep the structure which we have.

We intend to keep investing in our channel partners to put a lot of focus on some of our strategic accounts and I don't know about -- I don't know, Jerry, about major changes other than that, but --

I'll address it because I've been working with Amnon on it and involved with a lot of our partners on it.

It is what we said before, it is just a continue evolution.

It is not North America only, this is all worldwide.

It is all global.

We have consistent programs of what we're doing.

Regarding our relationship at partner level, the investment we make, the investment they make and how we are doing it is just an ongoing continuing thing that we've been doing for my eight years here.

I don't know if the article said it that way.

I read it that way because that is what we talked about.

It is just a continuation of -- being 100% indirect our channel partners are very important to us and we always focus on them.

As the world changes, the dynamics, the flexibility you need to have requires changes and modifications and improvements in programs.

And that is what he's doing and that's what we're doing, but it is all over the world, it is not just North America.

Then lastly can you address the competitive landscape?

Seems like Juniper may still be struggling with some of their IDP type of initiatives.

Does that give you an opportunity to pickup a little market share?

I don't know, I was going to say the competitive market share is about the same.

Maybe we are there specifically.

I still think Cisco still is our number one competitor in the marketplace.

I don't think we see Juniper as much as we used to.

I don't think they're doing as well.

I don't know about in any specific product area, because we generally just look at ours and how we're doing and what we're doing in the marketplace and our competitive wins, et cetera.

It is still a very competitive marketplace but there is not many of us out there anymore.

With us being left as the only true major software security vendor for the network infrastructure, I think we're in a very good position and we need to keep on putting together our programs and our execution plans and executing to them.

And Gil talked about some of the new things we'll be doing down the road at a high level.

I think it well positions us in the eyes of the customers on a global basis, as we can see in some of our very large orders we're winning and I think we'll continue to win as we expand our offering in the months and quarters and years to come.

All right, thank you.

Our next question comes from Walter Pritchard with Cowen.

Hi.

Jerry, you mentioned sort of offhand some changes in the support program in Asia.

We've started to hear a little bit about how that will be rolled into North America here, I believe, maybe this quarter or beginning of '07.

If you can just go into a little bit more specifics on the changes there and specifically how it impacts your numbers.

That line has been relatively flat for quite a while and it picked up a bit this quarter.

Yes, it did, Walter.

We don't know what we're going to do in North America.

On support programs we have multiple support programs in each region.

It depends upon the customer's, the environment, the partners and who's providing what.

It's all focussed on how to get the highest level of customer satisfaction, which I think we do a pretty good job in North America and the rest of the world, but it is a new program that combines partner support and Check Point support.

I think traditionally either the partner would give support or we would give support.

We always provided the underlying software subscription, as you know.

What we did in Europe, and it was very well received there, and now went into Asia-Pacific this last quarter, is we offered a new option which is a combination of getting support from both the partner and Check Point.

Subscription still comes from us, but now the support is combined and it makes it very seamless and easy for the customers.

And we'll evaluate that in North America, too.

If it makes sense here, we can either roll-out that program or some modified program that is applicable to the specific market.

But, yes, that did drive the growth of our support revenues and we think]it win the] customer satisfaction significantly and the partner satisfaction that we can work so closely together to provide front-line support as opposed to just back-line support.

Okay.

Eyal, on the buyback, you bought back more this quarter than you had in the past couple and you have about, I think, 300 million or so left on the buyback.

Can you just tell us of the 1.7 billion or so in cash you have on the balance sheet, how much do you look at it as needing to reserve for operating the business and keeping for options open on acquisitions?

You know that this money and additional cash flow that we generate every quarter is there to increase and expand our business.

That is primarily the reason why the money is there.

The improvement can come from bottom-line EPS like [libeck] program or from possible acquisition in the future.

I don't think that it is relevant to discuss how much exactly do we need to run the business.

We're cash flow positive on every day and every week, the money is reserved to invest in a future and I think we'll be able to do this wisely.

Great.

Thanks a lot.

Thank you.

Our next question comes from Todd Raker with Deutsche Bank.

Hi, guys, can you hear me?

Now we can.

Can you guys, given the strength in Europe and Japan, can you just comment on any FX impact this quarter and what the impact would have been on the revenue line?

Yes, the foreign exchange impact in the quarter on the revenue line is minimal as most of our sales are denominated in U.S. dollars.

We did have some impact from the [INAUDIBLE] of the Israeli Sheqel, which was reevaluated and got stronger versus the dollar this quarter and part of our expenses, of course, in Israel.

So that probably had impact of about $0.5 million on expense increase, but that is basically it.

Okay.

Large deals really picked up nicely this quarter relative to your trend in the first two quarters.

Can you give usa little bit more insight in terms of customer verticals or geographic verticals in terms of where you're seeing the larger deals?

I think I alluded to that in my text and I gave you examples and I think if you remember the examples the examples were from all over.

We had a major shipping company, we had one of the world's largest financial institutions, one of the world largest food companies, a few government agencies and few more.

So as you can see, it is not necessarily one.

It is all over the map.

We had a few technology companies.

One or two in the quarter and bigger ones in previous quarters.

So not coming from just one sector.

And it is global.

Last question for you guys.

If you look at your unified security architecture, clearly you guys tried to buy Sourcefire and couldn't get that done for a variety of reasons.

Are there any product holes within your offerings today and how do you guys look at smaller technology acquisitions fit into your strategy here longer term?

I'd to answer that.

First, architecture doesn't necessarily mean that we will be the supermarket that has everything.

If you look at the industry that we are in, there are 600 security companies that are now trying to say that they are providing the framework and the architecture we're going to compete or have what each one of at least 600 companies have.

We are going to have the framework, we are going to have the basics and we are going to get something with fewer optical lines can connect to many, many other products.

In conclusion, detection prevention is a technology that we did put on our road map and it is still there and we are still committed to that architecture solution.

So it will get there and sooner or later.

And what we are looking right now is not just to strengthen the existing framework but to expand the framework and for additional areas that we come in, we cannot discuss which areas yet but we are researching multiple areas.

We are starting to have more plans for execution and I'm sure that within the next -- every quarter out of the next few quarters we are going to see more and more and more progress coming in that right direction.

Thanks, guys.

Thank you.

Our next question comes from Greg Moskowitz from Susquehanna Financial.

Greg, please limit yourself to one question.

Okay, thank you.

Wondering if I could just getting back to Europe and the strength you saw there, from what I can tell, looks like about a 5% sequential increase and that is the first time that you have seen growth in Q3 sequentially in about six years.

I'm sure the support program did help somewhat.

Just wondering, Gil, if you can give any more color in terms of what else you would attribute that strength to and also if there are any particular regions within Europe that kind of drove more growth.

I must say that it is a little bit hard for me to quantify [INAUDIBLE] that we sell because Europe, which was still summer quarter, people still were on vacation and we sold that as well.

I think some of it is attributable to the new collaborative enterprise support programs we had.

These help not just in growing the support revenue, it helps because I think the help in the having better relationship with the channel and working better with the channel and the customer presenting a more unified front, being closer to the customers and so on.

This has additional value that are hard to quantify.

I think some of the strength in Q3 was things that didn't come in Q2.

I think Q2 wasn't strong as we wanted.

Some things that have sort of changed from the first half of the year.

And I think overall because in Europe we saw very nice growth year-over-year and quarter over quarter, even beyond that and part of that was the ongoing buildup that we have in our programs and products.

Jerry, I don't know if you have more.

I think that is spot on, exactly what is happening in the marketplace.

It is about execution and timing and things are happening and we need to continue to stay focussed in the same regard and continue new initiatives and new programs.

I like the direction we're going.

Okay, thanks.

Thank you.

Our next question comes from Shaul Eyal with CIBC World Markets.

Thank you, hi, good afternoon.

Good quarter, guys.

Couple of quick questions on my end.

For the next quarter are we still expecting the same break-out between a product subscription and services for the most part?

We always hope to increase either the products line, so I would not try to make it a precise forecast, but we would like to see some more product and licenses in Q4.

Q4 is a little bit stronger usually from the new license product side.

On the other hand we expect to continue to see growth in the support side.

So I think we'll just see the continuous trend that we see.

As you look at the number of wins you had this quarter, are these mainly displacements or just new customers being brought on board?

It's a combination.

I think we have all the [INAUDIBLE], some of which is displacements of competitors and most of it is new projects.

And again, some of it is architectural wins.

That is very important.

It is not just the size of the initial order that we get, is the fact that these customers, in many cases, commit to a three year procurement plan from us and that is very helpful in forming the relationship.

All the new names I mentioned, not the names, all the cases that I mentioned without mentioning the name all generated between hundreds and thousands to millions of dollars of orders last quarter.

They also generated again between hundreds and thousands and millions of dollars or over $1 million in revenues in the quarter.

And in all fairness, it wasn't necessarily the end gain, there is much more to come in the next two, three years.

Just one final question, what's the current status with Sourcefire?

Obviously the acquisition didn't take place , in the past there was a partner.

What is the current thinking and status?

As I said before, we're still committed to our road map in terms of improving detection and improving prevention technology and being we have invest part of our portfolio, part of our product in different and various ways.

Right now we have -- we don't have a specific announcement to make, but I hope that we'll have some soon and we will notify how we intend to deliver it.

Thank you very much.

Good luck.

Thank you.

[OPERATOR INSTRUCTIONS] Our next question comes from Robert Breza with RBC Capital markets.

Hi, good morning and good afternoon.

Real quickly, maybe Eyal or Jerry.

Jerry, you talked about some of the new initiatives.

Could you talk about maybe at a high level what those might be and where you're going?

And do those initiatives, when you look at the guidance range, it widen this quarter relative to the last couple of quarters, is it predicated on these new initiatives taking hold, or what was the main driver behind the widening of the guidance range and what might impact you at the high or the low end?

Thanks.

Maybe I'll take the last one and Jerry will take the first part of the question.

Regarding guidance, I -- this is not unusual.

This small as a range we're providing and the future is hard to predict.

So we want to be careful and want to try and beat you guys each time we are reporting.

That is why we having a broad guidance, just to make sure that you see what we see and the predictability in this market is not becoming simple, now becoming more complicated.

Now I'll let Jerry talk about initiatives.

And one more thing is that Q4 tends to be the most back-end loaded quarter with a very strong finish to the year.

And that poses a [degree] factor.

It also poses the biggest up side, it also is expected to be a good -- we are very optimistic going into that.

But once you get a quarter like that, obviously that increases the range of guidance and that means that we have to take multiple scenarios into account.

Hopefully we'll be within that range.

Hopefully we'll be at the upper end of the range, but none of that is guaranteed, as you well know.

I agree with everything Eyal and Gil just said.

Because it is a very dynamic business and you guys know this.

That is not a surprise.

But we have a number of initiatives.

We talked about them, not only during the remarks we made, the prepared remarks in advance, but also the last few quarters.

It stems off of the macro view, our vision of this unified security architecture.

But then we've done a number of things, both in the consumer side and the enterprise side with new products, new technology, new solutions, UTM, the power and there will be some more announcements this quarter,some of the new suites that we have.

It is not only products, it's also our restructuring that we've done, the new initiatives we put in place, like the CES program that we talked about, the collaborative enterprise support, this new strategic account program that we talked about just briefly.

Gil and Eyal both talked about the number of very large transactions, multi-year transactions we are winning to provide a much broader set of security technologies.

That is what we're focussed on, is we have to continue to execute on all these fronts.

Not only the ones we've already announced and have in place, but additional ones that you will see yet this quarter and going into next year.

There is a lot of things we're going to be doing to take advantage of our market position and where we are in our relationship with our partners and our customers.

It is a challenge but it is a good market.

We have got a good company with good technology and good people.

We just need to execute accordingly.

Great.

Thank you.

Thank you.

Our next question comes from Sarah Friar with Goldman Sachs.

Good morning, guys.

Just a bigger picture question around what sort of growth rate we could look at for Check Point.

Obviously this year has been a changing year for you where you have had to kind of regroup and you're talking about the new initiatives you're putting in place.

It is still being a decelerating group, decelerating year from a growth rate perspective.

As you look at '07 can you give us any sense for what you think is kind of a more long-term stable growth rate that we can think about for the company?

First this year I think we're running at a relatively stable rate compared to last year in terms of revenues and we do see growth in EPS, which I think is always positive.

We are putting together right now all our work plans for next year.

I think it will be a little bit premature to put down the -- both the new initiative or new strategic areas and the core business projections or how they come together and hopefully we'll be able to do more of that the beginning of Q1.

If we finalize those plans then we'll be able to share more of them.

Obviously we're doing everything we can to both improve execution, expand our leadership in our core market as well as invest in additional security market that will make our unified security architecture grow into multiple segments.

And then just quickly, Eyal, on COGS in the quarter, your cost of goods went up.

Is that a facet of more appliances being sold or was it the uptick in support and training?

And I guess the questions is for next quarter should we expect kind of a similar level for gross margins or should we expect that to tick back up again?

The level on a percentage-wise probably could expect something similar.

We have some order-based solutions and we're beginning to see some more demand for that and that is the result of the small app [detail] we had in cost of goods.

Q4 is expected to be like this proportionately but probably, but is a little hard to predict the exact mix, insurance makes a substantial difference on the percentages.

So similar to what we saw in the third quarter.

Yes.

Thank you.

Thank you.

Our next question comes from Ed Maguire with Merrill Lynch.

Yes, actually a question on the U.S.

Federal government business.

Have you had previous EAL 4 certifications for the business and could you talk about any plans to invest around the business to take advantage of, or increase your sales to the U.S. government?

Jerry?

Yes, we have, Ed.

I think I've said this before but our two biggest sectors on a worldwide basis, not just the U.S. government, it is world wide governments.

It is very important.

The certification is used all over the world.

I think our two largest sectors are government and financial.

We do have a very big team of not only our people but also partners in Washington, D.C. that work with all of the agencies, both civilian and defense.

And we're just excited about this because, like I said, it is the first one to get all four different levels certified.

We're even going for additional certifications beyond this that I think well positions us in all governments around the world to be the primary premier major supplier of a unified security architecture, these different technologies incorporated in it.

This is a big step for us in enhancing the certifications that we do have and have had and we are going to go beyond this.

This is going to be a very good sector for us on a worldwide basis.

Just a follow-up on investing in the business.

Your headcount is up.

Could you talk about where you've been adding heads and where you hope to buildout the organization over the next couple of quarters?

Yeah, most of the people were added in R&D and in our sales and that's across the map in all geographies.

We will be hiring more sales people and we've talked about planning to do this at the beginning of the year.

We're executing and also in our services and support, we have a very nice increase in our service business and service revenues and we're hiring some people to make this happen.

So it's in the -- in the business producing area, that you would call, that's where most of these people were added.

Next year, they recited a number of times on this call already, we were talking about next quarter now, right now, and come the end of the year we'll talk about '07.

Thank you.

Thank you.

Our next question comes from Chris Hovis with Morgan Keegan.

Nice quarter.

Couple quick questions.

One, I think, Gil, you mentioned that you had multi-year commitments for some of the unified security architecture wins.

Can you talk to us about what that implies?

Does that mean future product purchases or just technical support and subscriptions?

It is a combination between various levels, but we do a strategic program in which the customer does a multi-year procurement agreement.

And this agreement usually we get every year.

Of course the subscription service is usually service that's at a relatively high level and they also get every year additional product for their procurement.

So most of these contracts are like that.

Sometimes you will see the subscription and services portion that depends.

On the deferred revenue the product piece is not in the deferred revenue, but generally structure of such deal.

So product does not show up on the balance sheet or income statement.

Or future product, I should say.

Future product, no.

And then real quickly, Eyal, on operating cash flow was down year-over-year, can you talk about what's going on there?

Yeah, nothing much.

As you probably noticed the end of the quarter happened to be on a weekend.

Okay.

And we'll probably collect some of what we've missed -- or I've already collected some of what we've missed immediately at the beginning of Q4, so this is just in-between quarters, nothing dramatic.

The quarter was not even, it was one more back-end loaded than the usual, even a little less than our usual.

So it is just about some collection that moves from one quarter to the other because of the weekend it happened to be on the end.

Congrats and good luck.

Thank you.

Thank you.

Our next question is from Katherine Egbert from Jefferies & Company.

Quick question on the OEM side.

You didn't mention what percentage they were of business, if you could do that.

And then also, as you roll-out some new initiatives, would you say that you would agree more through the OEM channel?

The OEM channel is not that significant challenge for us for many years.

We do work with what you can call OEM, or what we were [INAUDIBLE] partners to supply joint solutions.

Usually to what we call meeting the channel model in which the channel buys the hardware from the -- clients provider buy the stuff from Check Point and we sell very little to these companies directly.

As a percentage I don't remember what was the appliance that percentage of our business.

Eyal, do you have any sense?

The ones that we sold directly, or ones that -- ?

No, overall.

Overall from product sales about 70% of that is in conjunction with partners and others.

Actually we sell more for software.

Okay.

Thanks.

Thank you.

Our next question comes from Dino Diana with UBS.

Hi, thanks, guys.

You were able to reverse a prior negative trend in the first half of the year in terms of total bookings.

It was down 5% in the first half of the year, now it is up 6% in the third quarter.

Part of that is just getting total revs to stabilize.

But the bigger part is in deferred revenue.

Can you talk to us about what contribution was from SmartDefense and the changes you made in support and what was from the other moving parts in that line?

We have deferred -- all our annuity based sales are moving into deferred revenues when they are booked.

And then they're being amortized over the period of the agreement which is mostly one year.

Very few are longer than one year.

What we have on our SmartDefense had a record quarter this quarter.

Of course, we're getting more business that we're recognizing because it's growing all the time.

So there's always lags and there is more in deferred than we have recognized this quarter.

But we're never breaking down these numbers precisely.

Okay.

So we are not going to start now.

Fair to say, though, that SmartDefense was the bigger driver of the revenue increase?

I don't think so.

One other question.

In terms of your long-term operating margin model, when you look at maybe a few years out some people would argue that mid-50% margins are very kind of hard to maintain.

What do you -- what is your overall view on what these should trend to longer-term?

First thing we are proud to have one of the highest margins in our industry, or maybe the highest, which is a result of a very efficient business model, very well run business model.

We know that very high margin depends on the type of business model that we're running and could change with the mix of future product.

Right now it is reflective of the type of products and the mix of product that we sell.

It could change if that mix will change in the future.

Right.

I guess said differently, are you any more willing to give up operating margin to get revenue growth?

It is not a trade-off.

It is not a trade-off.

We will invest in whatever we think makes sense.

The focus is on things that are accretive, on things that generate more business.

And that of course is the top-line and the bottom-line.

Luckily for us so far the softer business seems that grow top-line also grow bottom-line in a pretty nice way.

But we're not married to or don't have necessarily as targets.

But we need to be experts and profitable.

We're committed to run an efficient and effective business.

Okay, thanks, guys.

Our final question is coming from Ehud Eisenstein with Oscar Gruss.

Thanks for taking my questions.

Just do you have any updates on the VP marketing position?

Generally I don't have any -- don't comment about internal affairs.

I think that summarizes that.

All right.

Fair enough.

Thanks.

You're welcome.

Okay.

Well, thank you very much, everyone.

We are happy to have you participate in our conference call.

If you want to speak to management or Investor Relations following this call, please call our Investor Relations department at area code 650-628-2050 and we'll be happy to take your calls and call you back.

Thank you very much and have a nice and a wonderful day.

Thank you, everyone.

Thank you.

This does conclude today's Check Point Software conference call.

You may now disconnect and have a wonderful day.