Fortinet Inc (FTNT) 2021 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Fortinet Q1 2021 Earnings Announcement Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions) I would now like to hand the conference over to your speaker for today, Peter Salkowski, Vice President, Investor Relations. You may begin, sir..

Thank you, Tuwanda. Good afternoon, everyone. This is Peter Salkowski, Vice President of Investor Relations at Fortinet. I am pleased to welcome everyone to our call to discuss Fortinet's financial results for the first quarter of 2021.

Speakers on today's call are Ken Xie, Fortinet's Founder, Chairman and CEO; and Keith Jensen, our Chief Financial Officer. This is a live call that will be available for replay via webcast on our Investor Relations website.

Ken will begin our call today by providing a high-level perspective on our business. Keith will then review our financial and operating results for the first quarter before providing guidance for the second quarter and updating the full year. We will then open the call for questions. (Operator Instructions)

Before we begin, I'd like to remind everyone that on today's call, we will be making forward-looking statements, and these forward-looking statements are subject to risks and uncertainties, which could cause actual results to differ materially from those projected. Please refer to our SEC filings, in particular, the risk factors in our most recent Form 10-K and Form 10-Q for more information.

All forward-looking statements reflect our opinions only as of the date of this presentation, and we undertake no obligation and specifically disclaim any obligation to update forward-looking statements.

Also, all references to financial metrics that we make on today's call are non-GAAP, unless stated otherwise. Our GAAP results and GAAP to non-GAAP reconciliations are located in the earnings press release and in the presentation that accompanies today's remarks, both of which are posted on the Investor Relations website. Lastly, all references to growth are on a year-over-year basis unless noted otherwise.

I'll now turn the call over to Ken.

Thank you, Peter, and thank you to everyone for joining today's call to review our first quarter 2021 results. We are very pleased with our strong first quarter performance. Billing increased 27% to $851 million, driven by solid execution across our broad and integrated product and services. Secure SD-WAN contributed 14% to first quarter billing.

Total revenue grew 23% to $710 million, with product revenue growth of 25%, the highest quarterly product revenue growth in the last 5 years. With strong business momentum and good visibility, we remain focused on growth. In the first quarter, we released FortiOS 7.0, which offer the industry's first OS level with tight integration of a broad security and network functions, including SASE, SD-WAN, Zero Trust Network Access, CASB and 5G capability.

Today, we announced the FortiGate 7121F, the world's fastest next-generation firewall and the only firewall with hyperscale 400-gig interface. The 7121F for 5G mobile network operators to secure multiple hedges within their infrastructure and enable MSPs to build up scalable security offerings.

Powered by a new MP7 security process unit, the 7121F delivers Security Compute Rating of 2x to 19x greater than competitive solutions. We continue to see momentum and adoption of our SD-WAN SASE and Zero Trust Network Access Solution among the world's largest service providers. Today, we announced British Telecom, a new managed secure SD-WAN service powered by Fortinet. In March, Fortinet and AT&T announced the viability of a new managed SASE solution for enterprise customers.

Increasingly, organizations are consolidating towards a holistic platform approach, delivering integrated and automated security to cover on-premise network, endpoint and cloud secure edge. The Fortinet Security Fabric is a cybersecurity platform organically built on a broad and a deep set of networking and security technology designed to seamlessly operate together.

The high profile of security incident that occurred over the past few months, along with the pandemic, has elevated the need for a broad platform that can secure an enterprise and high infrastructure across multiple edge in a zero trust environment. We expect companies to increase the percentage of IT spending used for security in an effort to address their server security needs.

Our security-driven networking approach is a key growth driver. Additionally, we expect that our significant organic product growth will lead to increased service revenue.

Before turning the call over to Keith, I would like to thank our employees, customers, partners worldwide for their continued support and hard work.

Thank you, Ken. And to add to your comment, we should note that billings growth, product revenue growth and total revenue growth were each at 5-year highs.

Okay. Let's start the more detailed Q1 discussion with revenue. Total revenue of $710 million was up 23%, driven by industry-leading product revenue growth of 25%. Product revenue growth was broad-based across geographies, security fabric products and use cases, illustrating the market acceptance of our integrated single platform security strategy, customer demand for security across their entire infrastructure and the diversity of our customer base.

Product revenue growth was over 30% for both infrastructure and cloud fabric products. And all 3 geographic regions increased 20% or more. Demand for security fabric products was strong across all form factors: hardware, software and virtual machines. The growth we experienced for product revenue was not the result of a few large deals, lower backlog or higher channel partner inventory levels.

The product revenue growth also enables increases in services billings and future services revenue. In the first quarter, service revenue of $470 million was up 22%. Support and related services revenue increased 23% to $214 million. Security subscription services revenue increased 21% to $255 million, benefiting from outsized growth from our cloud provider and SaaS security offerings.

Moving to the mix of FortiGate and non-FortiGate platform revenue. The FortiGate segment of the fabric platform saw revenue increase 17%, driven by demand for entry-level and high-end FortiGate products. High end includes 10 new NP7 powered FortiGates that were introduced in the past year, which includes today's announcement of the 7120F. These new products now represent approximately 20% of high-end FortiGate shipments.

Our ASIC-driven FortiGate gives customers 5 to 10x more computing power than firewalls that run on common CPUs. The advanced computing power creates not only speed but also the capacity to continue to add functionality to our operating system, driving our price for performance advantage. The non-FortiGate segment saw revenue grow over 40%, and now accounts for 31% of total revenue, up 4 percentage points. The integrated securities fabric solutions consists of the complete range of form factors and delivery methods, including physical and virtual appliances, cloud, SaaS and perpetual software as well as hosted and nonhosted solutions. Together, they provide a range of security solutions and form factors, enabling integrated protection for hybrid environments and the expanding digital attack surface from the data center to the endpoint to the cloud.

Given the strong first quarter performance -- excuse me, revenue performance, we believe our non-FortiGate platform is now on a pace to be a $1 billion business this year, representing an acceleration of this milestone.

Let's turn to revenue by geographies. A summary is on Slide 5. Revenue in the Asia Pacific area increased 26%, and media revenue increased 25%, and the Americas posted revenue growth of 20%. As I mentioned earlier, all 3 regions experienced product revenue growth of 20% or more.

Moving to billings. The first quarter billings were $851 million, up 27%. We saw strong growth in both the FortiGate and non-FortiGate segments of our security fabric platform. The FortiGate segment delivered billings growth of 20%, accounting for 70% of total billings. As shown on Slide 6, entry-level FortiGates posted very strong billings growth in the quarter. The non-FortiGate segment accounted for 30% of total billings and delivered billings growth of 50%, driving a 4-point year-over-year mix shift to non-FortiGate.

Taken together, these data points highlight the market acceptance of our single integrated security platform strategy. In terms of billing growth by geos, the APAC outperformed all geos, followed by Europe and the Americas. In the Americas, Canada had a very strong quarter, and Latin America rebounded from the pandemic-induced slowdown posted billings growth in the mid-20% range.

Moving to billings by customer segments. The small enterprise segment posted solid growth across all geos. This segment is driven by new customer acquisitions, customer security fabric expansions, solid execution by our channel partners and the large diverse makeup of this international customer segment.

At the same time, we saw strong growth in our larger deals. The number of deals over $1 million grew 74% to 66 deals in the first quarter. The pipeline for deals over $1 million looks good for the remainder of the year. As Ken noted, secure SD-WAN billings were 14% of total billings. SD-WAN is a key functionality in an integrated SASE solution.

Moving to worldwide billings by industry verticals. With another strong international performance, the worldwide government sector topped all verticals at 19% of total billings and was up 60%. Service providers and MSSPs accounted for 16% of total billings. The rebound for education accelerated with billings growth of 50%. Retail turned in a solid quarter with billings growth of 21%. Our strong and consistent billings and revenue performance over the past several years is testament to our geographic and customer diversity, the growing success with a single integrated security platform strategy, and our ASIC advantage, which enables a shared operating system across the security fabric platform, drives our price for performance advantage, increase the capacity to add features and functions while maintaining price points.

Moving back to the income statement. As shown on Slide 4, total gross margin improved 10 basis points to 78.9%. Product gross margin improved 120 basis points to 62.6%, benefiting from lower direct product costs. The increase in product gross margin offsets the drag on total gross margins from the revenue mix shift driven by the strong product revenue growth and a gross margin FX headwind of about 25 basis points. Operating margin for the first quarter increased 210 basis points to 24.5%, benefiting from the strong revenue performance in the quarter. The benefit from lower travel and marketing program expenses of approximately 100 basis points was more than offset by an operating margin headwind from foreign exchange of about 150 basis points.

To end the quarter -- we ended the quarter with total headcount of 8,615, an increase of 16%.

Moving to the statement of cash flow summarized on Slide 7 and 8. Free cash flow for the first quarter came in at $264 million, up $22 million from the first quarter of 2020 despite a $24.5 million year-over-year increase in CapEx spending. We ended the year with total cash and investments of $3.1 billion, an increase of $1.5 billion. The increase includes the proceeds from our $1 billion investment-grade debt issuance during the first quarter. The issuance followed our inaugural strong BBB credit ratings.

Throughout the pandemic, we have leveraged the strength of our balance sheet as a competitive advantage to support our partners and customers as they experience geo-specific economic challenges. As a result, days sales outstanding increased 7 days to 81 days, in line with our expectations and reflecting our earlier decision to provide geographically targeted extended payment terms.

Compared to the fourth quarter of 2020, DSOs in the first quarter of 2021 decreased 6 days as we saw early progress towards returning to pre-pandemic payment terms. Inventory turns declined to 2.1x from 2.5x, reflecting the efforts we took to mitigate supply chain risk, including increasing our inventory levels starting earlier in 2020. We expect extended payment terms and higher inventory balances to be in effect as we move through 2021.

Capital expenditures for the first quarter were $52 million, including $38 million related to construction and other real estate activity. We expect to begin moving employees over the new Sunnyvale Campus building in the middle of the year, although the timing will depend on local pandemic protocols and employee safety considerations. We estimate capital expenditures for the second quarter to between $30 million and $40 million. And for all of 2021 to between $150 million and $170 million. The average contract term in the first quarter was approximately 27 months, up less than 2 months from the first quarter of 2020 and down approximately 1 month from the fourth quarter of 2020.

Secure SD-WAN accounted for 15 deals over $1 million versus 4 in the first quarter of 2020 and contributed to the increase in average contract term. As we look forward, our goal remains to balance growth and profitability. And given the growth opportunities we highlighted during the March Analyst Day and as confirmed in our first quarter results, we have tilted our bias towards growth for at least the next several quarters. The opportunities we see are supported by a strong pipeline, increased sales capacity and our development efforts, which include the NP7 chip and our new FortiOS 7.0 operating system that was recently released.

Now I'd like to review our outlook for the second quarter guidance, summarized on Slide 9, which is subject to the disclaimers regarding forward-looking information that Peter provided at the beginning of the call. For the second quarter, we expect billings in the range of $860 million to $880 million; revenue in the range of $733 million to $747 million; non-GAAP gross margin of 78.5% to 79.5%; non-GAAP operating margin of 24.5% to 25.5%, which includes an expected 100 to 150 basis point headwind from foreign exchange; non-GAAP earnings per share of $0.83 to $0.88, which assumes a share count of between 168 million and 170 million.

We expect a non-GAAP tax rate of 21%. Before raising our 2021 guidance, I'd like to congratulate every member of the Fortinet team for the truly outstanding start to 2021. With that, for 2021, we expect billings in the range of $3.685 billion to $3.745 billion, which at the midpoint represents growth of approximately 20%. The revenue in the range of $3.080 billion to $3.130 billion which at the midpoint represents growth of approximately 20%. Total service revenue in the range of $2.020 billion to $2.050 billion, which represents growth of approximately 21% and implies product revenue growth of approximately 17%. Non-GAAP gross margin of 78% to 80%; non-GAAP operating margin of 25% to 27%. When backing out the 2020 T&E benefit, the midpoint of the guidance represents a 50 to 100 basis point increase in 2021 operating margin despite an expected headwind from foreign exchange.

Non-GAAP earnings per share of $3.65 to $3.80, which assumes a share count of between 170 million and 172 million and about $0.07 per share impact from the debt issuance. We expect our non-GAAP tax rate to be 21%. We expect cash taxes to be approximately $80 million.

And along with Ken, I'd like to thank our partners, our customers and the Fortinet team for all their support and hard work in these difficult and unique times. And I now hand the call back over to Peter, to begin the Q&A.

Thank you, Keith. (Operator Instructions) Tuwanda, please open the floor for questions.

(Operator Instructions) Our first question comes from the line of Rob Owens with Piper Sandler.

With a lot of other verticals in the media seeing issues with chip shortages and some supply chain issues, is that starting to sneak into the security market relative to firewall appliance shipments? And can you talk a little bit about your potential exposure?

Well, I think the chip shortage is -- this is Keith, Rob. I think the chip shortage that you point out is -- can touch a lot of different industries. I think one thing about Fortinet, in addition to having different form factors, is these inventory balances that we carry. At 2x inventory turns, you're looking at basically 6 months of inventory that we're carrying on our balance sheet.

I do expect that the supply chain issues will be something, particularly related to chips that will be a constant conversation point throughout 2021 and into 2022. But I think in terms of when we sit down and talk about our expectations for the year, I think we have a pretty good understanding of how to work that in.

Our next question comes from the line of Brian Essex with Goldman Sachs.

Ken, I was just wondering, billings commentary, worldwide government up 60%. Some really nice acceleration there. And then MSSP and service provider is still 16% of total. Maybe if you can talk about -- obviously, we know what the secular drivers in MSSP are, how durable is that, maybe the factors that are driving that acceleration in government spend?

And then maybe talk a little bit about, particularly on the service provider side, it doesn't seem as though we're seeing an acceleration from 5G and IoT yet. Who are the buyers there? How do you anticipate that, that segment will play out through the rest of the year as you look to work your way through the remainder of the year?

Yes. Carriers and a lot of service provider are starting kind of reshaping their provider security network offer, whether it be 5G, SD-WAN and all the SASE and also supporting work from home kind of still in the early stage, putting it this way. So that's where we're working very closely with all the service provider like the BT we announced today, the AT&T we launched last month and pretty much all the service provider to support them on this shifting of the business model.

And let's say it's still early stage, but we do involve a lot of testing trials. And at the same time, I do believe eventually, the service provider business will go back up to the #1. It tends to be like a high 20, like if you go back 4, 5 years ago but because it's a new kind of shifting. So they are -- they do have some work to do. And also some big investments obviously going forward. So we're working together with them to keeping growing this business right now.

Our next question comes from the line of Jonathan Ho with William Blair.

Congratulations on the strong quarter. I just wanted to get a better sense of what you're seeing in terms of demand for the SASE and DTNA-oriented products. And are you seeing that pipeline sort of continue to rise, especially as we look at sort of replacements for the traditional VPN connections and other sort of more legacy technologies?

It's a new fast-growing market, but also they probably replaced some of the traditional approach by some other traditional approach also expand inside campus, inside enterprise, inside the data center so it could go through the internal segmentation.

On the other side, we do believe whether the SASE network, like we said a few years ago, it's the best position probably for the service provider carrier. So we tend to be working with and partner with them, and also offer kind of more tightly integrated solution, like we said in the FortiOS 7.0 is really integrated to OS level instead of some different vendors using different box, or even kind of a different infrastructure to do that.

So that's actually working much better with a wider service provider, with the customer directly. So that's why we do see there is some plus growing going forward. But it's just part of the whole infrastructure solution will now replace the traditional approach. But also the (inaudible) security is part of that dynamic space. There's a new thing come up and also the that (inaudible) also now goes away. So that's where we try to address this new chain. At the same time, keeping enhance the traditional solution and to supporting the customer in a different vertical, different region.

Our next question comes from the line of Ben Bollin with Cleveland Research.

I was hoping you could talk a little bit about how you see customer discussions changing or evolving as they contemplate and start to return to their offices and to work? And then also hoping you could touch on how you view the growth opportunity over time from completely new customers versus wallet share expansion with your existing customers.

The customer definitely see security is starting to become more and more important, but also the need to cover much broad infrastructure and all edges instead of the traditional security, whatever the border or the data in and out of the company. So that's more device, more user more infrastructure need to be covered.

So that's -- it's not a simple refresh. It's really changing to the whole infrastructure approach and also working together with traditionally like different vendor cover, whether network endpoint or some other part of security. Now they're looking for some consolidation. And they prefer when to have a multiple cover of different part of infrastructure working together so that you can see the fabric approach we did few years ago starting doing quite well.

And almost pretty much every quarter, doubled the growth compared to the traditional network security. But on the network security, we also see very healthy growth. And it's very -- not just expanding beyond the traditional border security product, but also because the ASIC advantage, which increased the secure computing power 5 to 10x compared to the other vendor software load on the traditional CPU. So that's able to add more function and also kind of increase performance, lower the cost and also lower power consumption, more green.

So that's actually making this -- like the product growth, like we said, keeping us -- keep doing better and better. And we do see this whole infrastructure approach will keeping going for the next, probably, a few quarters, even to a few years, and the consolidation will keep it going within the industry.

Yes. Ben, just to continue on with Ken's comments here. I think the headline that he's talked about previously is that back to work really -- the combination of back to work and as many companies being in a hybrid model, that the attack surface now seems to be permanently expanded for many, many companies.

In terms of growth and how we see it with new logos, expansion opportunities, we easily add several thousand new customers every quarter. But if you look at the mix of billings, the mix of billings is going to come from our installed base of customers, if you will.

And I think the simple model to look at is from that initial sale of perhaps a firewall or something else, there's 2 different ways to expand. One is finding more and more use cases inside organizations for firewalls and increasing the displacement opportunities; and then the second is, and this is where Ken was going, is the expansion opportunity with those non-FortiGate fabric partner products. And what we're seeing there with that mix shift from FortiGates to non-FortiGates and now being 30% of our business or 31% of our business, I think it's taking as, one, affirmation of the strategy and; two you're seeing it in the numbers.

Our next question comes from the line of Tal Liani with Bank of America.

I'm going to take you to the basics with my question. Last year was strong and there was some concern that the firewall market is being driven by COVID-related demand just because of work from home. And the question is whether you expect any slowdown of demand related to the anniversary of the trends last year.

And the second question is your non-FortiGate grew extremely strong again. If you can take us through the basics, what are the products that are growing there? Just what are the trends? And what do you bring to the market?

I can take the first half, maybe Keith can take the second half. I don't see any slowdown even for the FortiGate side. It's -- we're keeping -- gaining market share, like I said, because there's fundamental like a technology architecture difference, which we've factored 10x the computing power compared to our competitor, we can easily add a function performance. And even for work from home, it's more like a one single [Forti bot] can replace like 3, 4 different bots from an open SaaS security side like all this part and also like a managed home WiFi and the traffic there.

So that's also -- a lot of company also starting to do, this kind of expand the branch to the home called the home branch or whatever, to meet working standard like a better networking reliability, security to the home environment. So that also needs business solution. That's also one of the reasons we see some of the low end side keeping growth pretty fast.

It's work for home actually helping driving some of these FortiGate sales. But also going forward, whether the service provider, some other -- I have to say most enterprise, not even kind of changing much of infrastructure to adopt more work from home yet, and they are still in the early stage. So we do see there's a big potential going forward.

Yes. It's Keith. Boy, it's a little tough for me to look back at the second quarter of last year and where the billings growth was and the product revenue growth and things that I was getting -- I didn't feel like I was getting a tailwind from VPN or something like that in the second quarter of last year.

That said, I think we're very pleased with how the year continued to play out and the growth numbers that we've provided. I don't know that early on in the stages of work from home, that was something that necessarily that Fortinet participated in. They're the same level that maybe some of the other firewalls understand.

And then the second part of your question, you'll be glad to know that Ken and Peter and I sit down every quarter and look at the non-FortiGate products and try and find the one that's really distinguishing itself. And we keep coming to the same conclusion each quarter. It's a rising tide that's lifting all boats. It's not that any one product is really standing out and more so than the other over an extended period of time.

Yes, there -- yes, it's really -- because most of the product we develop internally from day 1 is making integrate operate together. So that's probably the key number 1 reason. Customer want to buy it. They try to consolidate, make it easy to manage. It's different than some other company when they acquire some product company from outside is it takes a long time, more difficult to integrate.

So we have -- if internal developed from day 1, we've been making it working together.

Great. So my question was much more basic. What are the key products that are driving up the growth of non-FortiGate? So we know it's SD-WAN, what else?

SD-WAN is actually a part of FortiGate this way, so we don't comment the one not on FortiGate, but we have like 20, 30 different product, touching all part of the infrastructure. And that Keith said, it's difficult to point out which one is ready, yes. It's a pretty -- to say that ties the whole thing.

Our next question comes from the line of Sterling Auty with JPMorgan.

I wonder if you could help me better understand the disproportionate improvement that you saw internationally, especially in EMEA relative to the improvement you saw in the U.S.

I think similar, like we commented in the last couple of quarters, is follow the -- like the pandemic, once it's starting -- get improving, they also try to think about how to go back work or some other investing infrastructure since we'll be starting to grow. So that's where like APAC and EMEA grow a little bit faster, but U.S. catch up more and more quickly.

I'll just add on to that, Sterling. I think the -- certainly for us that the markets are somewhat different, and maybe that comes in play a little bit. The European and the international part of the market, we are oftentimes have the #1 market share with the incumbent. And particularly during the pandemic, I think incumbents had an advantage.

I think in the U.S., perhaps we're a bit more of a challenger, if you will. And I don't know that a lot of CIOs and CISOs were focused on firewall refreshes in the second quarter and third quarter of last year and going through competitive dynamics.

And I think there's also a bit of the partner ecosystem. When you're the incumbent, you probably have more mind share with the partners than when you do with the challengers. Now having said all that, as we look forward and we look at our pipeline, particularly in relation to the United States as we go through into the second quarter here and through the rest of the year, yes, I think we're feeling very good about the direction that, that organization is headed.

Yes, we also were keeping invest more into the U.S. for supporting further growth, like we did for the PGA sponsorship and some other things, I think will be helping drive the growth in U.S.

Our next question comes from the line of Gray Powell with BTIG.

Congratulations on the good numbers. So yes, maybe to follow-up on the SASE side of the business. How quickly should we think of billings growth ramping on the 40 SASE products?

And then I don't want to get too aggressive, but could it potentially have a similar ramp to what you saw in 2018 and 2019 with SD-WAN, back when that product was just getting started? Yes, just how should we think about just the overall upsell there?

I also have -- I have to say, a little bit similar question. We're also kind of looking at different market study, and also what's the best model to do this with the partner together. It may be similar like SD-WAN, but it's -- but also SD-WAN is a part of the part of SASE solution. And also SASE, including some other function there, which we also want to have a -- like a better integration and better performance and easy to manage. So that's where we take some time to really launch our SASE and also more closely working with our partner to do that.

But it's -- the market definitely growing, but we're also closely watching what's the best way to position ourselves to catch this trend.

Our next question comes from the line of Shaul Eyal with Cowen.

Congrats on the strong performance. Keith or Ken, historically the refresh cycle concept used to provide some disruption at times, I would even say, some noise around specifically Fortinet's business.

It would appear that over the past probably 18 months or so, there's less discussion and focus around it. Do you think that Fortinet is gradually shifting away from it? Or is that there's so many concurrent internal refresh cycles, given the broadening of your platform, that it is becoming less of a relevant issue? What's the thinking about it?

I probably happy to use the term refresh compared to last time. You can see the 2012, 2013, and that's where is the major firewall replacing the traditional VPN with major firewall had some intrusion prevention, antivirus or the other function there, a proxy. But this time, it's expanding into a much broader, bigger infrastructure, both internal inside the company and also go to the outside company, the one side, even expand work from home. So it's more kind of expanding. And at the same time, different part of security also need to be more working together. So that's from a company IT side.

They look if they can consolidate and help them to manage and integrate, automate will be more important. So that's where -- like I said, there's more device, more people connected and like [wholesale] data volume in a zero trust environment.

So this time is a little bit different, and that's where we're making like a very broad integrated approach, I feel is more important. And at the same time supporting whether the new technology, the wider 5G SD-WAN and also kind of maybe service model also will be important. But we also feel once the product get in the customer hand, because of the huge computing power capability, we can also -- will be -- add additional service and keeping -- helping customers adopt the new things they need and also the service provider. So that's also kind of we're keeping that -- the business keeping growing. I think Keith will probably add something.

Yes, Shaul, I think you and Ken are kind of touching on the same thing, which you made reference to. I would say it this way, it's going to get harder and harder, I think, to discern industry refresh cycles compared to where it was maybe 5 or 6, 7 years ago for a number of reasons. One, the firewall vendors are simply larger. Their footprint is much, much bigger than it was before. Secondly, you have -- some of us that are showing success in the platform strategy. When 30% of your billings are coming from the platform, again, to your point, it's going to get a little harder to discern it.

And the sheer size, if you will, of the footprint in terms of customers, but also the number of different use cases that are starting to evolve and continue to evolve inside those organizations. I think all that comes together, it's going to get murkier and murkier as you go forward to find a refresh cycle. You may have some individual competitors that maybe have very, very large price points or machines or something like that, where they have their own internal refresh cycle that you may see some noise around. But that's certainly not the Fortinet approach to firewall refreshes.

Yes. Put in other way, the traditional firewall, all the way where they're being deployed is not going away. They also kind of every 5 years probably need to be upgraded to new model to match networking speed or some other one. But they're also expanding beyond R1 and also need to be working in that part of security infrastructure, put in this way.

Our next question comes from the line of Adam Tindle with Raymond James.

Okay. Maybe one for Keith. You've talked about this being a year to invest for growth. Your Q1 results clearly say that's working, billings growth in the high 20s at a scale approaching $1 billion. And doing that with healthy profit is pretty unique.

So for my question, I was just wondering, at this point, if you evaluated whether to lean even more on growth, given the early results that you're seeing. And if you could maybe touch on the logic of why not? Are there diminishing returns above this level? Is this something you'd consider reevaluating as the year progresses?

Yes. Adam, it sounds like you're listening into some of the conversations that Ken and I have with our respective point of view, I think. I think, look, we're really pleased with how the business executed in the first quarter, putting up 20% -- 27% billings growth and being 11 or 12 points above. And then raising the 22%, 3.5 points on the billings line for the year, probably for the quarter. And then taking the year up at the same time by about 4 points.

I think the level of execution has shown to be very, very high and the level of success with the firewalls and the non-FortiGate products have been -- we're very, very pleased with what's happening there.

I think we'll see how this year plays out. We felt that there were tailwinds coming into the year for us in a number of different ways, whether it was GDP, whether it was seamless, whether it was the product suite that we had or our sales team's ability to execute. And let's see how we do as we continue on this trajectory, hopefully, through the rest of the year.

Our next question comes from the line of Andrew Nowinski with D.A. Davidson.

Congrats on another great quarter. I wanted to ask about the partnerships with some of the MSPs that you mentioned, AT&T and BT. Those have been historically strong partnerships for Zscaler. So I'm wondering, do you think you're eating into Zscaler's mind share at those partners? Or are they just trying to offer their customers maybe another SASE offering?

Let me just say in the last few years, from some point, we move -- we will consider as one of the service provider could be partner. And -- but also some of the telecom company, they do have their infrastructure and also some of their customer base, which we have been working with them for a long, long time.

So once -- especially during the pandemic, IT is pretty high pressured to supporting whether internal or some other need. I think that's where SASE offers certain more service-based approach, which also kind of adopt by some customer or subscriber quickly. So that's where we also leverage our kind of relations with the partner and also our product technology advantage and offer much tighter integrated across SASE network solution is -- so the -- some bigger tariff partner they like it a lot, I put it this way.

So that's what we continue to work with. And so I do believe that the business and the carrier service provider will go back to the #1, like we are a few years ago, the high 20. That is also -- have to working closely with a partner. And also some other infrastructure, new infrastructure, like I mentioned, whether the SD-WAN and the 5G or some other item, blah, blah, blah, TOT or even maybe safety or somethings. I think there's a lot of potential working all kind of service provider to keeping expanding the security business together.

Our next question comes from the line of Irvin Liu with Evercore.

Congrats on the great quarter. You previously identified continued expansion into large enterprise as a key contributor to growth in share gains. Can you talk about whether this was a factor in your Q1 outperformance?

And also, can you also talk about any key differences when selling to large enterprises versus SME, SMB customers? For example, the go-to-market motion and/or timetable required to close a deal. So any color here would be helpful.

Yes. I think we tried to give a little bit of color on that in the script and I view the term before the growth being bookend, if you will, through the pandemic quarters where SMB did well. And I think we provided some metrics there about large deals, deals over $1 million, which we think is a pretty good proxy for the success that we're seeing in the enterprise.

I do think also the mid-segment is coming online for us, a little bit stronger than maybe we saw in 2020 and continue to believe that 2020 was an unusual year, both geographically and across customer segments.

In terms of the cadence, in terms of how to sell the enterprise versus SMB, I would say absolutely. You make a large investment, and it plays very well with the channel partners. There's no doubt about that. The MSSPs, the carriers, et cetera. And those channel partners oftentimes, particularly distributors play a role in the enterprise. But to be successful there, you absolutely have to have a direct sales force that is helping to bring deals to those channel partners.

And I kind of made a comment earlier about incumbency versus challenger. I think that's perhaps even more important in a geography where you're the challenger, and you're trying to get mind share from some of those large key resellers that are linked together with some of the legacy firewall vendors. I mean, you've really got to partner with them to bring deals to them and convince them of that strategy. And I think we're starting to see that traction take hold for us.

Our next question comes from the line of Fatima Boolani with UBS.

Keith, for you, I was hoping you could share some more details around the expectations of the SD-WAN mix that you have embedded in your guidance. How should we think about that? And certainly, how are you thinking about it? And where are the incremental areas of budgets or dollars and ultimately share gains within SD-WAN/SASE going to come from between the carrier market as well as the enterprise DIY market?

Yes. I think the -- Fatima, nice to hear from you again. Yes, I think in terms of SD-WAN, the way we go about budgeting, we would describe SD-WAN if you heard us before, SD-WAN is a use case for the firewall similar to OT, micro segmentation, zero trust and et cetera. And we're not necessarily prone to building our models, if you will, by use cases for the firewalls, nor similarly necessary by products. We do look at our pipeline and we do candidate check that against Gartner projections for growth and things of that nature, to make sure that we're in the range, if you will.

So I would expect that -- the other comment I would offer is, Ken has been quite clear. First setting the goal early on that he wanted SD-WAN to be 5% of billings. When we got there, he moved it to 10%. And we got there and now he's moved it to 15%. So it's a little bit of who moved my cheese, I guess, with Ken in terms of setting goals for us. But that's fine. We like that.

And the -- I think you really kind of answered your own question in terms of growth investments, where we spend money. I think the carrier, service provider opportunities for both SD-WAN and SASE are key areas for those investments, but I'll hand it back to Ken.

Yes. We do believe SD-WAN will be a bigger long term market, and we want to be the #1. And also, like we do see a lot of potential. Even this work from home, a lot of enterprise trying to do a lot of service provide, try to support in -- still very small percentage or early stage to use in SD-WAN. So that's where -- and also we have huge advantage using our SOC 4 chip to supporting this like one box solution, which has about 20x better performance and much lower cost compared to the second nearest competitor.

So that's where it's a huge opportunity with the best technology and working closely with the partner towards keeping growing SD-WAN. So we do see there's a huge potential, and we also target to be the #1 soon.

Our next question comes from the line of Hamza Fodderwala with Morgan Stanley.

I was wondering on the core sort of firewalling side. How much of the demand are you seeing come from use cases around micro segmentation, particularly given some of these recent cyber attacks?

We do have a lot of asking about how to secure internally whether we did not tamper -- and company or within the data center. But I have to say, security still need much more convenient power to process the traffic compared to log in switching. My estimate probably like 30, 50, 100x more competent power is needed. That's where -- if we cannot solve that speed issue or some other kind of managed deployment issue is still more difficult.

That's also the ASIC has more advantage, like 5 to 10x better performance, computing power and costs lower than other software-only approach. So it's a lot of requests. But as I have to say, it's not many solution can meet some of the requests. Because internal, whether be in the compass of within the data center, the network speed tend to be easily 10 to 100x more faster than the WAN approach -- I mean, the WAN connection.

So that's where we're working with whether the customer or the partner directly and also combine both the WAN security and the LAN security and the (inaudible) infrastructure is more important. But it's today work on home with they call the zero trust network access, so that you have to be the whole infrastructure secure. So it's -- we see a huge market potential for the for internal segmentation inside data center or campus security. But it's also a challenging job to meet the speed requirement compared to networking and also make sure they can easily deploy and easily managed.

Our next question comes from the line of Saket Kalia with Barclays.

Keith, maybe for you, just going back to the non-FortiGate part of the business. Do you see any trends in perhaps market segment or geography that is adopting non-FortiGate at higher rates? And I only ask that because with the growing enterprise business -- with your growing enterprise business, that is, I would imagine more of the enterprises would maybe be more willing to work with multiple specialist vendors. So is the non-FortiGate part of the business, perhaps more weighted towards the mid-market? Or perhaps international?

And relatedly, just kind of broad brushes, how is that non-FortiGate business sort of split between product and services? Sorry, there's a lot there. Does that make sense?

Yes, there is a lot there. And I'll -- depending on my answer, we'll know if it makes sense, how is that? Look, I don't think the product service mix between (inaudible) talked about previously, the FortiGate versus non-FortiGate, the product service mix is not different in any meaningful way, if you will, when you look at the mix. And again, we're selling solutions, so you're typically bundling that with a firewall sale.

To see the non-FortiGate billings growth at that 50% number and seeing the mix of the business, I think, obviously makes us very excited. It's actually a little bit counterintuitive in terms of where it sells. For the last several quarters, the Americas has done very, very well with selling the fabric. And I've been on phone calls with very large enterprises that want to know much more about the fabric now that they've become comfortable with the firewall.

I probably went into those conversations, Saket, with much the same expectation that you perhaps described, which is that may be something that plays more to the SMB part of the business or the mid enterprise. And I do think it does. I do think the enterprise willingness -- and in the U.S., to see the enterprise willingness to engage on the fabric is probably a sign of a number of things. One is, at the end of the day, everybody's got a budget, and this is a more cost-effective way to go about doing it. You can manage your infrastructure much, much easier perhaps with a single vendor strategy than you might otherwise.

And I think the common operating system with it running on or being integrated to OS 7 is something that's very exciting. And then you start talking to the vision about a SASE offering that's running on an integrated OS 7 system as well. So I gave you a lot there. But to give color to it, I think the long-winded response would be, it has not shown to be unique to a size of customer or to a geography.

Our next question comes from the line of Keith Bachman with Bank of Montreal.

I'm going to follow on Saket, and I have one question to keep within Peter's rules but I'm going to break it into a couple of subparts, on the non-FortiGate side as well. I wanted to break it into: a, is there anything over the next 12 months that you look at that you think, in particular, is interesting or exciting; b, Keith, is there anything you could break out on attach rates, where you currently stand on the non-FortiGate side to attach rates? It would seem to me that there's still a hell of a lot of room to run there just if you look at your installed base for some opportunities.

And then c, if you think about -- if you had to partition the non-FortiGate into cloud and noncloud. In other words, there's a lot of, I think, FortiGate products that are relevant to on-premise situations versus cloud. But is there a way to just kind of break it out in percentage dollar-wise, 50% of it's aligned to on-premise deployments versus 50% is cloud deployments. Is there any way to break that out in the non-FortiGate side in particular?

We'll charge you by the question. I think there was -- I'm going to leave the tough question or the fun question for Ken at the end, which is, as you look out over 12 months, what's going to take off in non-FortiGate. Keith, I would probably point you back to if we didn't do it in the Analyst Day in March, we did do it in Analyst Day in November of '19 where we gave some breakdown of the fabric products between what we call cloud and what we call infrastructure. And you can think of that as being hardware, and then I'll kind of help answer your question there.

I think when you use the term attach rate, we may use the term penetration rate. And by that is for a customer that's a firewall vendor, how many -- as you start looking at your expansion opportunity, Keith, inside these customers, what type of penetration are you seeing and how are you going to market, if you will, and encouraging the sales team and the marketing team, to whatever that number is, increasing the penetration.

And I would say that's something that's really been an area of focus, I would say, for us more recently over the last couple of quarters. And I think that's really, at the moment, more of it. We're pleased with it, don't get me wrong. But I think right now, that's more of an internal metric that we're using with our sales team and our marketing team and to some extent, with our engineering team.

Yes, great. I think also, I -- probably not to the detail as of the number. So far, the non-FortiGate almost doubled the FortiGate growth in the last few quarters or few years. So I don't see any changing of the trend right now. But definitely, from a customer angle, we also asked what's the reason is they really need to be more consolidate, make the whole infrastructure, manage working together, all these kind of things, which are working quite well with us because we designed a product optimum working with FortiGate from day 1, and making the whole fabric working together to integrate, automate on the security solution there.

So that's where the -- also we see there's still small percentage customer has a -- FortiGate still a lot of room to grow. And at the same time, is -- there's a new product even come up to working with a FortiGate. So that's where we do see -- we'll probably keep the trend, the non-FortiGate will keeping grow faster and probably eventually, even the business maybe more than FortiGate, maybe within a few years.

Our next question comes from the line of Michael Turits with KeyBanc.

For Ken and Keith, do you see any difference in the type of projects and security that you were seeing last year primarily for the move to work from home versus this year when we have worked from home as well as back to office?

And as part of that, Keith, you mentioned, I think, saying that you are seeing I think you said more willingness to do firewall replacements this year. Is that also a part of it?

Yes. Last year, work from home is more like a patch, whatever they have and to without changing model infrastructure. This year, definitely thinking redesign infrastructure, whether leverage like better technology like SD-WAN or some other. And at the same time, making, kind of, a better solution in the zero trust environment is much more secure.

And so that's probably -- but it's still in the early stage. We do see a lot of growth potential there. But it's a whole infrastructure changing compared to kind of last year, the quick make up, patch solution.

Yes. Michael, I would add to Ken's comments. I think the headline is the tailwinds coming to year. Security is top of mind for so many companies right now, some of the CIOs and CISOs and whether that's SolarWinds or it's work from home, it was -- Microsoft's little challenge is to ramp-up in ransomware. It's just -- it's a year, I think, that a lot of CIOs and CISOs focus on security for a lot of different reasons.

I do think that there was a -- for us in the U.S. market, if you will, and Ken has talked about this before. A little more difficult, say, in the middle part of last year as we kind of through the year to get mind share from CIOs and CISOs, to have a conversation about how you can save money while improving performance in their firewall. I think those opportunities are starting to appear more in terms of getting out and having customers take their prospects, take that meeting, if you will. And I think there's also some of these larger deployments that can go on for well over a year or a couple of years.

I think some of those deployments perhaps were a bit stalled, if you will, last year, and they're coming back online as we look at 2020 -- 2021.

So just to clarify, larger deployments are starting to come back online. And is the answer yes that people are more willing to talk about displacements of competitors this year than last year?

Is it the answer to -- which -- if you're asking me if I'm seeing that, the answer is yes. So if you're asking if that's a driver of the business, I would say, yes. If you're asking if that's the driver of the business, I don't think so.

No. Just if you're seeing more of it.

Yes.

Yes, there are more that you spend beyond the traditional deployment and also like more device, more people and more infrastructure need to be secured.

Our final question comes from the line of Patrick Colville with Deutsche Bank.

Can I just kind of finish off on a [multi-parter]? I guess the first 1 would be just about linearity. Last year, the linearity between 1 and 2Q was kind of unusual. So just help us understand how that might play out in fiscal '21.

And then I guess my kind of second part, if I may, is product revenue this quarter was phenomenal. Baked into guidance, I guess, is that there's a kind of the rest of the year is more like a kind of mid-teens growth rate. Just to help us understand, is that -- is there anything that is worth flagging in regards to the kind of performance in the rest of the year versus 1Q?

Yes. I think that as you get comfortable with the business model, you understand the products and services and how very predictable that higher-margin services revenue is. I think that we did take this as the opportunity to raise product revenue, the implied product revenue guidance, if you will, when you reverse engineer it after we give the service revenue guidance by about 5 points. And I think that takes you to about 17% in terms of our guidance now for the full year.

And we'll see how the year plays out. But I think we feel good about it. In terms of linearity from Q1 to Q2, I would probably point you to, one, our actual results that we had last year in Q1 and Q2. And our actual results in Q1 of this year and our guidance for Q2.

I would now like to turn the call back over to Peter for closing remarks.

Thank you, Tuwanda. I'd like to thank everyone for joining the call today. Fortinet will be attending a few conferences in the second quarter. We have the JPMorgan conference on May 25, Alliance Bernstein on June 2 and then Bank of America, June 8. Then presentations and webcast links are up on our website. Thank you very much. Have a great day, and please, reach out if you have any other questions. Have a great day. Thank you. Bye-bye.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.