Check Point Software Technologies Ltd (CHKP) 2013 Q3 法說會逐字稿

Greetings and welcome to the Check Point Software third-quarter 2013 earnings conference call.

(Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Kip E. Meintzer, Head of Global Investor Relations for Check Point Software Technologies.

Thank you, Mr. Meintzer; you may begin.

Thank you.

I would like to thank all of you for joining us today to discuss Check Point's financial results for the third quarter of 2013.

Joining me today on the call are Gil Shwed, founder, Chairman, and CEO, along with our Chief Financial Officer, Tal Payne.

As a reminder this call is being webcast live on our website and is being recorded for replay.

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

For your convenience, the conference call replay will be available through October 28.

If you would like to reach us after the call, please contact Investor Relations by emailing kip@checkpoint.com or by phone at 650-628-2040.

Before we begin with management's presentation I'd like to highlight the following items.

During the course of this call Check Point representatives will make certain forward-looking statements.

These forward-looking statements may include our expectations regarding demand for our security products; our expectations regarding the introduction of new products and programs, and the success of those products and programs; and our expectations regarding our business and financial outlook.

Other statements which may be made in response to questions which refer to our beliefs, plans, expectations, or intentions are also forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities and Exchange Act of 1934.

Because these statements pertain to future events they are subject to various risks and uncertainty, 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 risks discussed in Check Point's latest annual report on Form 20-F.

As a reminder, Check Point assumes no obligation to update its forward-looking statements except as required by law.

In our press release, which has been posted on our website, we present GAAP and non-GAAP results along with reconciliation tables, which highlight this data as well as reasons for our GAAP presentation -- our presentation of non-GAAP information.

Now, I would like to turn the call over to Check Point's Chief Financial Officer, Tal Payne, for a review of the financial results.

Thank you, Kip, and hello, everyone.

I would like to thank you all for joining us today for a review of the third-quarter financial results.

Our revenues for the third quarter increased by 4% year-over-year, and non-GAAP EPS grew 8% to $0.85, both in the upper half of our guidance.

Before I proceed further into the numbers, let me remind you that our third-quarter GAAP financial results include non-cash equity-based compensation charges, amortization of acquired intangible assets, and the related tax effects.

Keep in mind the non-GAAP information is presented excluding these items.

Now let's take a look at the financial highlights for the quarter.

In the quarter, our revenues reached $344.1 million, compared to $332.4 million in the third quarter of 2012, representing an increase of 4%.

This growth was driven by our software update, maintenance, and subscription revenues.

These revenues reached $223 million, growing 6% year-over-year.

The growth was driven by our Threat Prevention annuity blades with Application Control and Anti-Bot leading the growth.

Product revenues increased slightly this quarter, $121.1 million.

This quarter we have seen a shift towards the data center family as well as great demand for our new small appliances that were launched last quarter.

As a reminder, most of our (technical difficulty) blade products that were launched in the last few years are been sold as subscription, including our IPS, Application Control, Anti-Bot, and others.

As a result, the revenues of these blades are presented as part of the service revenues in our P&L.

Taking those revenues as part of our product revenues would have shown a nice size single-digit growth.

Deferred revenues as of September 30, 2013, were $567 million, an increase of $61 million or 12% over September 30, 2012.

Revenue distribution by geography for the quarter was as follows.

The Americas contributed 46% of revenues; Europe contributed 36%; and Asia-Pacific, Japan, Middle East, and Africa region contributed the remaining 18%.

From a deal size and quantity perspective this quarter, transactions greater than $50,000 accounted for 69% of total order value, compared to 66% in the same period a year ago.

We had 40 customers with transactions greater than $1 million, compared to 31 in the same period last year.

Our non-GAAP operating margin this quarter continued to be strong at 58%.

This was achieved although we were affected by the changes in the dollar exchange rate against some currencies around the world, mainly the euro, the Israeli shekel, and the yen.

Our effective tax rate is about 20%.

In August this year, a new tax legislation was adopted in Israel.

From next year, the corporate tax rate in Israel will increase from 25% to 26.5%, and the preferred tax rate from 12.5% to 16%.

As a result we expect our effective tax rate to increase in 2014 to approximately 22%.

GAAP net income for the third quarter of 2013 increased to $159.7 million from $152.4 million in the third quarter last year.

GAAP earnings per share increased to $0.80 from $0.73 per diluted share in the same period last year.

Non-GAAP net income for the quarter was $168.9 million or $0.85 per diluted share, up from $164.1 million or $0.79 per diluted share in the same period a year ago.

Non-GAAP earnings per share were towards the top of our guidance, representing 8% growth year-over-year.

Our cash balances reached $3.664 billion at the end of the quarter.

Our cash from operations this quarter was $195.5 million, an increase of 8% on the $180.4 million in the third quarter a year ago.

Collections continued to be strong, and our DSO was 70 days, similar to the previous quarter.

We fully hedge our balance sheet against currency fluctuations.

During the quarter, the dollar weakened against most currencies around the world, resulting in a hedge income in our cash flow, with no material effect on our P&L, as expected.

During the quarter, we repurchased approximately 2.3 million shares for a total cost of $128.3 million.

Now let's turn the call over to Gil for his thoughts on the third quarter.

Thank you, Tal, and thank you, everyone, for joining us on the call today.

Tal addressed the financial results; now we would like to provide some further information to you about our business and products.

The first quarter, despite being the summer quarter, was a very active one for us.

Our appliances continued to perform well, with the main strength coming from two new product families, the low-end appliances and the data center appliances.

The low-end appliances, the 600 and 1100 series, are targeted for small offices and branch offices.

We launched the new families in the second quarter, and they have enjoyed a very warm welcome in the marketplace, receiving enthusiastic review last quarter, and sales continued to ramp up with growth this quarter of over 40%.

We intend to leverage in this success and invest in these segments by starting a dedicated group to serve these market segments.

An even more impressive sales increase came from our data center appliances, our 21000 series and the recently announced 13500 model.

This appliance group is deployed in the most demanding data center environment, and they performed extremely well this quarter with healthy growth.

Many customers have chosen to deploy these newer, higher-end models instead of lower-end ones.

This is very good news.

The switch is also the most competitive and lucrative subsegment of our market.

While we talk a lot about the demand for our security appliances, they are only the delivery vehicle for our core technology, the advanced security software.

This quarter we delivered our most important product of the year, the R77 release of our Software Blade Architecture, which delivered over 50 important product enhancements, including the new HyperSpect performance technology which increases performance of advanced security operation by over 50% on the same gateway.

Even more important is the introduction of our new Threat Emulation software blade, a truly innovative blade which allows organizations to fight against the most sophisticated, advanced persistent threats, or APTs.

These attacks often penetrate the network by hiding malicious code inside documents that look innocent.

This new software blade can send every incoming file to be emulated in the same box across multiple operating system versions in our ThreatCloud security service to identify these hidden threats.

This is a fast-growing segment of the security industry.

Our R77 release is the first to bring this technology to the market in a simple and an integrated manner, creating a great value proposition that makes it available and affordable to almost every customer.

So overall, I am very pleased with the business activity and results we experienced in the first quarter.

With that said, this brings me to the financial outlook.

You know my regular caveat.

It is always hard to predict the future.

There are many factors that could point to better results, and there are many reasons to be even more cautious.

I would like to provide you with our projections for the fourth quarter.

Revenues are expected to be in the range of $365 million to $395 million, and non-GAAP earnings per share in the range of $0.90 to $0.98 per share.

These projections are consistent or slightly higher than the animal guidance previously provided.

GAAP EPS is expected to be approximately $0.06 less.

With that, I would like to thank you once again for joining us on the call today and open the call for your insightful questions.

(Operator Instructions) Sterling Auty, JPMorgan Chase.

Thanks.

Hi, guys.

Gil, wanted to start with the data center solution.

Can you just walk through maybe what the use case is for a customer?

Is this a replacement?

And why you are seeing the uptick in demand, could it be the fall-off in the performance from Juniper or some of the other competition?

So first, the data center appliances are the real high-end of our industry.

There is one more model that is higher than that, and that is the 61000, which we call super-high-end, that is targeted at the really higher-and services and telcos, etc.

So the data center is one level below that, and it is the most -- as I said, it is the most lucrative segment of our industry.

Now, data center appliances are usually not used just to face outbound Internet.

They are usually used to face internal segments within the network or between the rest of the organization network and the data center or the private cloud.

They're typically, of course, classified by very high performance, but usually also by very high reliability requirements, usually multiple power supplies, and a lot of durability and reliability requirement in the marketplace.

Now it is not new to us.

We are selling data center appliances for a long time.

If you look in the last year, we have upgraded some of the models.

We had the 21400 model, we added the 21600, the 21700 model that have been pretty successful.

That started the Q3 or Q4 last year of [top-ranking] last year.

Then in the beginning of the year we added more high performance with the 21700.

And then we added the 13500, which is similar performance at a relatively lower price point, with some missing functionality like low-latency accelerators and things like that.

But again, very high performance.

I think the performance is the winning factor here.

I think customers are seeing that we are delivering on their performance requirements.

I don't think it is against a particular competitor.

I think it is in general giving a very good functionality and a good price performance.

Okay, and one follow-up.

So, the revenue plus change in deferred revenue accelerated this quarter.

So, billings has accelerated.

But one thing we have talked about all year is the product and license revenue.

It was up slightly on a year-over-year basis.

But with the product portfolio the way you have set up with the introduction of data center and with the small office/branch office solutions, should we see the product part of the revenue line accelerate in the fourth quarter?

And how should we think about that even beyond the fourth quarter?

You know, I always say, if you remember, to look at the total revenues exactly because we have so many software blades that are bundled into these appliances, and some appliances have a higher percentage of software blade dollar value in them.

And it can shift between quarters.

This quarter, for example, it moved slightly up.

Some quarters can move slightly down.

So I always recommend you take the total revenues and look at it as a whole.

Software blades is, as you said, it's part of the deferred revenue.

You saw also some acceleration there, it grew 12%.

It was a good quarter also in bookings.

But I would say to look at them together.

And bear in mind that software blades are now over 22%, 23% already of our service line, so it is quite significant number.

That is why in my script you see that I related to the fact that when we look at the software blades as part of the product -- which is in actuality what it is, because it is all the new products that have been launched, the majority of them being launched as a subscription -- the product revenues as a whole actually grew in high single digits.

Thank you.

Shaul Eyal, Oppenheimer.

Thank you, operator, and good afternoon, everybody.

I want to try maybe on the heels of Sterling's question, try and ask it from a different perspective.

I think the recent solid performance we have seen by you guys over the past couple of quarters, is that driven by pent-up demand?

Is it product refreshes?

Or is it both, all of the above?

I think it is probably a combination.

Bear in mind that we didn't talk about it but the whole macroeconomic also plays into that.

And we launched a few new products.

All the new products are quite successful, [gear] related to the data center, the 13500, the 21700, the smaller business appliances, the 600 and the 1100.

So that is obviously great, to come with good products which the market accepts quite quickly, which translates into dollars in the product.

So that is, obviously, very nice.

Software blades continue to grow.

I don't know if we say -- it is a very hard to know if it is a refresh cycle or not.

You know we don't have that type of data; it is very hard to know.

And macroeconomic is a factor (technical difficulty) as well.

It looks like Europe is getting slightly stronger as the second quarters have had good results.

America is stable.

EMEA, there is more color is there; there is a lot of currency effect in EMEA.

Many currencies in Asia-Pacific, Japan, Australia, India, the local currency was devaluated against the dollar which creates more pressures there, so it was a tougher time for Asia, in general.

Got it.

Tal, can you break for us the percentage in software updates and maintenance services?

As I said it is about 22%, 23%, 24% out of the service line.

So you can take out of the $223 million the amount.

Okay, got it.

Thank you very much.

Good luck.

Gregg Moskowitz, Cowen and Company.

Thank you very much.

Gil, you mentioned that your small appliance products -- in other words, your 600 and 1100 series -- were up 40%.

I just wanted to clarify whether that was sequential or year-over-year.

Then also I believe you alluded to a dedicated market focus for these appliances.

Could you please elaborate on that?

Sure.

I think the 40% was year-over-year.

And the dedicated group is -- we were starting to recruit a group of people that will focus on the small business channel, the small business customers, mainly around sales.

We have already recruited the head of that group as far as is in the US.

And hopefully we will start to see more -- I mean, I think the momentum without doing much after the release of the new products has been great the last two quarters.

And I think we should capitalize on that because there is a huge opportunity in the low end of our marketplace.

Okay, great.

You also did talk about your Threat Emulation service as part of R77; you have had an on-premise offering there for a few months.

Just as of last month you came out with a cloud-based service.

What has the early feedback been for each of these offerings?

And I guess more importantly, what are your expectations when you think about adoption going forward?

Threat Emulator, we just released it in August.

We released it again; it is available as a cloud service or it is an on-premise appliance for the customers.

We believe that the cloud service is very promising because it allows the customers to deploy it with minimal investment, just paying a subscription per the number of files they send to be scanned.

It is very early to say.

Keep in mind that the really large customers don't usually -- it takes them a long time to deploy a new version, and we need R77 for that.

But overall, the feedback from the several places that we have tried that software are very, very good.

It has a very high catch rate.

It shows -- again, it catches Zero Day threats, so these are threats that are unknown to the industry; [Stop Day] threats that are targeted against a single company.

And that is the first time that companies can actually get this kind of a technology without a huge investment in personnel and capital equipment and changing their network topology.

They can actually plug it to their existing firewall security infrastructure and get the results with no risk and very little investment.

Great.

Thank you very much.

Jonathan Ruykhaver, Stephens.

Thank you.

Can you comment on the contribution from the IP appliances product revenue in the quarter?

Then secondly, what kind of impact does the end of sale announcement on the IP appliances have on product revenue in 4Q, if any?

Thank you.

If the question is what is the numbers of the IP at this moment of time, it is very, very immaterial.

It has already dropped to hundreds of units, so it has pretty much had a great transition into the new appliances, be it the low, mid, high, the full transition of the customer.

There was end-of-life, there was end of sale that announced at the end of Q2.

We sold some acquisitions, yes; but really nothing material at all.

Keep in mind, it is now like four years since we have acquired [Vesbidgisu] with the IP series appliances.

In these four years we didn't have any new models on the IP series, so that transition is going rapidly.

It is going steadily and in a very manageable way for a long time.

Thank you.

All right.

Robert Breza, RBC Capital Markets.

Hi, thanks for taking my questions.

Gil, I wondered if you could just comment a little bit about, as you think about Q4 growth, maybe the shift from data center and low-end appliances; but how you think about it more from a geographical perspective.

Are you seeing any pressure per se in any one geography?

Or how should we think about the growth in Q4 going into the different geographies?

Thanks.

I don't have any particulars on the geographies.

I can tell you what we have seen so far.

I think the last few quarters have been solid for both Europe and the US, each one behaving slightly differently, but overall they performed according to plan.

In Asia, we saw a lot of pressure actually from the economy.

There are certain countries in which there was a big devaluation of the currency.

In these countries we actually sold in some cases more products but getting less dollars from that based on the exchange rate.

Overall, I expect the fourth quarter to be a good one.

I mean, I hope for the best.

I think what we gave here is a realistic view of the marketplace.

We are still, given the world economy -- not just in Asia -- there is a lot of risks in it.

But like always there is also a lot of upside.

I think we can and always strive to do better.

Maybe one quick follow-up for Tal.

I know you gave us a tax rate of 22% for next year.

I was just wondering; how do you see the taxes maybe on a go-forward basis?

Meaning, I know it is very difficult to predict how it goes forward.

But should we expect the tax rate to increase in 2015?

Or how would you just qualitatively, not quantitatively, think about taxes in 2015?

Thanks.

No, think -- remember the taxes were very stable for many, many years.

We were around 20%.

Obviously it can go up 1% or go down 1% in the financial reports; but in general we were around 20%.

And I expect it to stabilize around 22%.

I don't expect any material change.

Great.

Thank you.

Rob Owens, Pacific Ocean (sic).

Great.

Thank you for taking my questions.

Tal, looking at the services revenue and specifically if we back out the implied blade revenue, why aren't we seeing more maintenance and professional services growth at this point?

Is this pro services related?

Because I know you don't break that out within the number.

Or is this more maintenance related?

It is update and maintenance related, because that is the majority of the rest of the amount.

Obviously, remember that sometimes it can fluctuate in the [Q] because of professional service; but that is typically a Q4 phenomenon.

So in general, it is update and maintenance.

And it is linked to the fact that if your product growth is negative or flat then it affects the tax rate and therefore slows down the growth of the update and maintenance line.

Has there been any change to maintenance renewal rates or anything?

Because you guys are still doing a meaningful amount, $500 million a year in products.

So I would think that that maintenance attached to new product sales would help increase that category more than 1% year over year.

Renewal rates remain the same, no changes there.

So very stable, good, high renewal rates, so we don't see any change there.

Bear in mind that many of the new product sales are actually refresh, and refresh does not create a new stream of update and maintenance revenues.

Great.

Thank you very much.

Michael Turits, Raymond James.

Two questions.

First, you have been commenting in the past on unit growth and ASPs.

Where were we in terms of unit growth especially, which had been negative, and ASPs?

Then my second question is just on the 4Q guide, which looks out on about 10%, 11% sequentially, sort of the same as last year, which was a weak fourth quarter.

Is that a function of more moving to the deferred line as you do more services?

I didn't understand the second question.

Let me start with answering to the first question.

A few quarters ago when we -- remember, we don't report ASPs or number of units.

We did last year because there was a big shift between a big reduction in ASP and a big increase in the units.

That is why we provided it; and in general we don't provide it.

But I can tell you, nothing dramatic to report there.

We came back to the stable zone where some quarters have increased units and some mix shift which we [do] experience some quarters the other way around.

But we are back to normal when it comes to that.

In terms of the units, we don't report units, but I can tell you in general that the units' stable.

If you include the low-end appliances it has gone up drastically.

Without the low-end appliances I think it is fairly stable the way we expected it.

Of course, we want more and we will always strive to do more.

Okay.

So I understand unit growth was -- units were stable, meaning flat year-over-year?

The enterprise units are stable.

Again, if I include the low-end units it went drastically up because these products have really done well in terms of number of units.

Again, in the last -- we also [did a conference], so I don't want to mislead on that.

In the past we have always said that units are stable or going up or going down, whatever it was, excluding the low-end appliances.

Okay.

Then my second question, Tal, was just that the guide was for about 10% sequential revenue growth at the midpoint.

Last year you did 11%, which is below your seasonal.

So is this slower fourth-quarter sequential ramp a function of an increasing amount that is going to be balance sheet?

Because otherwise, again, if things seem to be improving I would have maybe thought of a stronger fourth-quarter sequential ramp.

No, you have too much math into your equation.

It is really a range.

It is a year that the economy is not very stable; you see our growth rate.

And we took the range that we believe is a realistic one.

Okay, thanks.

Aaron Schwartz, Jefferies.

Hi.

Thanks for taking the call.

Tal, I think you mentioned that you saw a slightly higher uptick in revenue being carved out as deferred this quarter than previous quarters.

Is that correct?

If so, can you just walk through the different deferral rates on the product lines?

Where is the biggest variance between the low-end and the high-end for that revenue deferral rate?

It depends sometimes which appliance.

But all I said, that this quarter was slightly higher but nothing dramatic to report about it.

I just wanted to remind you that different products sometimes have different portion of software blades value attached to it, and therefore it can affect the product revenues and go slightly more to deferred.

But it wasn't millions of dollars.

It was just in percentage it was slightly higher.

Obviously, as a result it [goes] to the deferred revenues and recognized over four quarters.

Okay.

Then second question if I could.

On the software blade renewal rates, can you talk at a high level where that is?

And specifically I was interested in terms of the package blade offering versus the individual blade offerings, if you are seeing a difference, I guess, in the data center blades; and then the renewal rates within those two different blade offerings.

Thanks.

Most of them are [still in there], and we talked about it before, where the bundled was around 40% and the unbundled was around 60%.

Remember, unbundled for us is also the second year of renewal.

And we saw an improvement there.

It moved up.

It is now around 65%, so it is slightly moving up.

But remember this is a renewal of packages typically.

Majority buy packages, not singular.

So as a result, they can use two out of three, which mathematically can show a lower renewal rate.

So it is not really 65%.

It is probably significantly higher.

Just to clarify, if you see an initial sale of a package are customers, as you said, typically renewing individual blades within the package, or the entire package?

They can do both.

But typically we see customers renewing the entire package.

Entire package.

Okay.

Terrific.

Thank you.

Keep in mind just from time to time we are changing the models.

And sometimes we sell a model with just one blade; sometimes we will -- actually not sometimes.

If you look at the trade and the trend of the software blades we are releasing new software blades every year.

And usually the trend is between -- we have bundle more blades and therefore create packages for those blades.

So if we started with one blade, now we are selling packages of three blades right now for threat prevention for example.

Daniel Ives, FBR Capital Markets.

Yes, Gil, any new thoughts on buybacks or acquisitions?

We continue to think about that.

I don't know if there is new thoughts, but there is definitely activity around that.

I am sure you all know that we have increased our buyback amount at the beginning of the year, and we are executing according to the new plan.

In terms of acquisitions we continue to research the market.

We recently appointed a new head of Corporate Development for Check Point so the level of activity that I have seen has actually increased.

And hopefully one day we will find the right acquisition target.

Again, it was asked in a different way, but in terms of competition, now it seems like you guys are starting to feel better, seeing better results, especially on the product side and some of the annuity blades, where some of your competitors have obviously seen some hiccups or speed bumps.

Do you think this is the market?

Or do you feel like there is some regain of share or changes in the market, given some of the success you are having on the annuity blades?

I think we are doing okay.

I think we can do better.

I don't think that -- I think for our competitors that we have, that they are losing share and we are gaining share drastically against them.

But we also have some competitors that are growing fairly fast.

And I always expect us to do better.

So I am very happy with -- pleased with the results.

I think we are doing (technical difficulty) doing quite well competitively, but I think we can and should do better in the future.

Thanks.

Keith Weiss, Morgan Stanley.

Excellent.

Thank you, guys, for taking the question.

Maybe one for Gil and one for Tal.

For Gil, as you go more -- as you focus more and more on the data center space, are you noticing any sort of emerging trends or changes in the way people are looking to adopt software?

The two specific trends I would be thinking to was -- are guys adopting more virtual appliances?

Or are guys starting to talk to you more about the idea of software-defined networking?

These are two interesting areas that we are very active on, both from the SDN, the software-defined network, which we don't have yet new products on but we are very active in learning and being part of that area.

Virtual systems, we have all the types of offerings for virtualization.

In terms of volumes of sales, this is not high.

People talk about it but don't put their dollars there in terms of security.

That doesn't mean that they don't protect data centers.

They do protect data centers, and we are seeing -- as we discussed -- a lot of success in the data center area.

Got it.

Then for Tal, year-to-date you guys have seen a very nice free cash flow growth.

I have almost 19% free cash flow growth year-to-date.

A lot of that has come from better working capital.

How should we think about that on a going-forward basis?

To what degree would that be sustainable from this, I guess, more of a build of the revenues on the deferred revenue line, versus how much should we expect to get normalized down, where cash flow would grow more in line with what is going on in the income statement?

It should grow in line with the income statement as a general long-term comment.

The growth in the income should be the growth in the cash flow, because we don't have many other type of investments.

Obviously there can be some time shifts between quarter to quarter.

Tax payments, for example; during the year they can be lower and then you have to have one big payment in Q1 typically, so that can create shifts throughout the year.

But in general, you are right.

It should be in line with the income.

Got it.

Excellent.

Thank you very much, guys.

Shebly Seyrafi, FBN Securities.

Yes, thank you very much.

Your revenue in the Americas decelerated, according to my estimates, from around 11% growth in Q2 to around 6% in Q3.

I am wondering; how much of this do you think is due to the federal sector?

Maybe you can elaborate on what you are seeing from the federal side.

I also recall that I think last quarter you were gaining some ground against Palo Alto in the Americas and less so in Europe.

Did that change in Q3?

Structurally, I know you try to copy the numbers from the P&L, but that is not a reality.

Booking actually grew; grew nicely and was very much in line with the growth that we saw in Europe.

So sometimes in the P&L you have the timing, revenue recognition, services being recognized over a year; so there is no full correlation between the booking and the revenues.

There is a gap in between.

But overall our business in the US did quite well and definitely not shrink.

It actually did okay.

But your competitive engagements against Palo Alto, how did that change in the Americas?

I don't know if it changed much.

Again, the market remains competitive.

I think we are competing quite well.

I am hearing good things about our success in the competition (technical difficulty)

Last one if I can.

FireEye is a new hot, relatively hot IPO.

You compete against them with your Threat Emulation Blade.

They are doing around $200 million or so per year.

Talk about your upside potential with that Threat Emulation Blade; thanks.

I think we have really just started to get into that market.

It clearly shows the potential, and there is a big potential in that.

I think what we have is a very, very compelling offer.

You don't need to look at just high-end installations, putting very, very expensive equipment, locating it in one data center instead of multiple.

You can just get the quality and the sophistication of Threat Emulation service on every device for every size business, large or small, with very little investment.

So I am very optimistic about that.

Keep in mind that it will take a long time, because to date this market is characterized by being relatively high-end.

It is not common that every customer installs these kinds of devices.

The technology is very new for us and I think for many of the other players in the marketplace.

So it will take some time.

But clearly I think our solution shows that when you incorporate that it can create great value.

I think we did similar things in the IPS market, when today we actually ship more units with IPS at higher quality than almost any competitor, standalone or integrated.

And I think we have seen a clear shift in that industry from standalone devices to integrated solution.

By the way, Threat Emulation is -- technology-wise it is different than IPS.

It is something unlike IPS, which you can run in a lot of dedicated devices and so on.

You do need some of the sophistication and power that is provided by the cloud service that we have.

Brad Zelnick, Macquarie.

Thank you very much.

Gil, during the quarter, we have actually heard from some of your partners that incentives were changing in terms of what you were paying to the channel.

Is there anything that you could tell us?

Just we were surprised actually to see margins continue to hold up so well and thought that there might be risk to margins if in case that were accurate.

Can you just maybe comment on your go-to-market and how you think about incentivizing the channel, and if anything is really changing there to keep up with the FireEyes and the Palo Altos?

In terms of the channel, I don't think there were any major changes.

We keep doing small changes and small trials of different incentives to the channel to see how we can make them happier when they sell our technology.

Actually many of the trials that we did were late last year; some were at the beginning of this year.

But again, nothing is major changing the economy of the channel so far.

Then just one for Tal.

Tal, on Israeli tax authority, can you just give us an update?

I think there was supposed to be a development sometime pending in November, so we are not quite there yet.

But could you just remind us on what is on the table in terms of alleviating potential constraints on your ability to return cash to shareholders?

Thanks.

That is a long one.

I will just say, as you say, now (technical difficulty).

We have until mid November an ability, if you wish, to pay lower taxes in order to release or have ability to distribute your cash in the future without having tax implication.

I will remind you that we can distribute it anyway.

This just means that in the future if we dip into that bucket, which we don't need to, but if we dip into this bucket there is a tax event.

And you can choose to go now and pay the taxes in advance and therefore get a discount.

That is the idea in the new law.

There is a consideration for it and considerations against it, and we have pretty much until middle of November to make a decision.

And we really haven't decided yet.

Okay.

Thank you.

Greg Dunham, Goldman Sachs.

Hi, yes.

Thanks for taking my question.

First on product gross margins, those have been relatively stable, only down 90 basis points from last year.

Yet you are coming out with a mix of offerings at the low end, at the high end.

How should we think about product gross margins as we go forward?

And then a second, just a clarification.

What was the annuity blade growth?

I know you gave the mix; I just want to make sure I have the growth number as well.

Thank you.

So the mix -- obviously, is very hard to know what will be the mix in the future.

We are not focusing on gross margin or operating margin.

We are us focusing on gross profit and operating and net income.

That is the goal here, to increase the revenues and to continue to increase our profit.

So if margin goes slightly down because we are very successful in the SMB market or in the small business a great job, because we penetrated into a large potential market, so it is not necessarily bad that your margin goes down or will move up.

So we're not focused on the margin.

We keep stability because (technical difficulty) mix.

The mix so far can move it a few percent up, a few percent down, but nothing dramatic, and I don't think it will move dramatically anyway.

And to the software blade growth, we don't provide the growth every quarter.

I can tell you it was a nice double digit again.

All right, thank you.

Gray Powell, Wells Fargo Securities.

Hi, thanks for taking the question.

So, yes, you mentioned the strength in the small appliance line that you introduced last quarter.

Do you think that was more of a function of the market doing well?

Or do you think that you are taking share from other players in the SMB side of the space?

I think it's clearly taking share.

I don't think that the SMB market has grown.

I think that after many years we introduced a new, innovative product.

If you remember, the Network World Review rated our product the first version of this kind of product way ahead of the competition, again, against companies that (technical difficulty) in that market segment.

And I think the market reacted to that with a very nice uptick in sales.

We still have a long way to go until it becomes sizable dollar-wise, and I think that is why we invest in a group that we will focus on that, that we will recruit the channel.

But clearly the new product proves that we can be the best in that market segment and we should, as much as we can, capitalize it -- of course without defocusing the Company from the data center and the enterprise and the rest of our marketplace.

Got it.

That's very helpful.

Then on the new Threat Emulation blade, I know it is relatively early, but should we think about that as getting the same penetration as IPS or Application Control over time?

I think it is way too early to say.

It is not bundled in the product so it is not that every customer automatically gets it.

Every customer can activate it, which we encourage customers to do.

But I think it is still too early to say.

It is a new market.

It is different market dynamics.

It's different kind of technology.

Like it is not in the traditional network security markets.

We have -- all technology operates on the micro and nanosecond basis on every packet.

This is a market when you take the whole file, analyzes it, and it is why we are much, much faster than any other competitive offering.

That it takes them many minutes and sometimes hours to respond; we can respond within a minute.

It's still microseconds to minutes.

So the behavior of the market and how it will work is still to be decided.

But I think it is a very innovative service.

You're all invited to try it.

You can send -- if you have a suspicious email, just send it to threat@checkpoint.com and you will receive an analysis of malware.

So if you receive an attachment from someone you don't know, just send it to threat@checkpoint.com and you will receive a good analysis of the potential threat in it.

Understood.

Thank you very much.

Tal Liani, Bank of America Merrill Lynch.

Hey, guys.

Thanks for letting me ask a question.

The question I have is about understanding what happened in the last year.

It is more a long-term question about the strategy.

Going into this year, we expected first a strong first-half; then we expected a stronger second-half because of all of the appliance launches.

And still it doesn't materialize.

I mean, revenue growth on a total revenue base, the revenue growth is flat at about 3%, 3.5%.

And if I take a longer-term view, the revenue growth decelerated from a high level in Q1 of 2010 of 25% down to 3%.

So clearly something is decelerating outside of just the environment.

And the question is -- if I go to this year, if I look to this year, you had lots of new products that created a refresh cycle.

Is it safe to assume that outside of these refreshes the growth is actually negative?

How do I reconcile your expectations for a strong year versus three quarters of slow growth in a period of refreshes?

I know it is a difficult question to answer, but I just want to understand the refresh versus underlying demand for the products.

I think we are doing very, very well.

Like you, I would like to see higher growth rates, so I agree with that.

I think we are growing in line or slightly better than our industry.

That is all the statistics that we are checking shows.

And yes, we do have a lot of new technologies, and I think it is good, and I think it drives customers for refreshes.

We do get a lot of new customers; we get thousands of new customers every year.

And still I would concur with some of the things you have said.

We'd like to see a higher, faster growth rate.

Part of it depends on the macroeconomy.

Part of it depends on our industry.

And part of it depends on our execution.

But overall I am very happy with what we have done.

I think we have been able to maintain growth rates that's higher than the industry, that is consistent for almost 20 years, and I hope that it will remain that way in the next 5 years, the next 10 years, that we will be able to show a growth that is the same or higher than our industry and continue to show the leadership.

Gil, you talked about share gains.

How does the -- Juniper is still losing share; Cisco in their core business is still losing share.

How do you take advantage of these opportunities?

You have seen Cisco making an acquisition, so what do you have to do on your side to address the opportunities but also the risks of Cisco getting to the market with refreshed solutions now?

Well, our market is competitive and has been competitive.

I don't want to reveal our competitive strategies for every vendor and for every move.

I don't think it works into our advantage.

But I think some of the moves in the marketplace are clearly showing that some of our larger competitors are seeing the action of what we are doing.

And so are -- some of our small competitors are seeing the risk of the success of some of our new technology and some of our new innovation.

Got it.

Thank you.

Brent Thill, UBS.

Thanks.

Gil, just on the service provider market, I am curious if you can give us an update in terms of what you have seen over the last year.

Are you seeing any signs of health returning in that segment?

Can you repeat which segment?

The service provider market.

It varies by different areas of the world actually.

So we have seen some parts of the world in which we have been very successful; there have been a lot of investment in the service provider.

In other areas it wasn't exactly the case.

The interest level is still high in the service provider market.

But again the results vary by the different segment.

If you look at, for example, our 61000 series, this quarter we had our first sales to the telco market, which took longer than what we expected.

But you actually saw a lot of upside with these 61000 in the commercial side in different verticals (technical difficulty) of the marketplace.

But for telco we made the first major sale of the 61000 to a telco this quarter, and we are very pleased with that.

Okay, and as a quick follow-up, everyone in security is trying to figure out a mobility platform to address, obviously, the emergence of all these devices.

Can you just give us a sense of where you think customers are in getting this problem under control, and where you sit in that?

It is a sophisticated problem and it is a challenging area.

We have some very nice offerings in the mobility space.

Some of them are released; most of them are not released yet, even though we are working -- I am working with it for a quite long time.

You can see that we are, for example, the first and we are the only vendors to provide VPN for the iOS 7 that was released last month.

So we are very, very active with that, in connecting mobile devices to the rest of the enterprise network.

There will be some more new innovation that we'll bring on the mobile device space and the different smartphones that are operating.

And I think it will be a refreshing and nice area that we'll show later next year.

Thank you.

We have reached the end of our question-and-answer session.

I would like to turn the floor back over to management for any further or closing comments.

Thank you, everybody, for joining us today.

If you have any questions, make sure you reach out to us.

If not, we will see you during the coming quarter and in January for the end-of-year results.

Thanks and have a great day.

Bye-bye.

Thank you very much.

Thank you.

Thank you.

That does conclude today's teleconference.

You may disconnect your lines at this time and have a wonderful day.

We thank you for your participation.