I am very excited to kick off day two of Citi's TMT Conference with Fastly. On stage with me is CFO Rich Wong and also Head of Investor Relations, Vernon Essi. Thank you so much for being here.
Thank you. Thank you for having us.
Excellent. Well, I am looking forward to a very productive discussion. Maybe just to get the conversation flowing and started, Rich, happy 13 months
Yes
in the job.
Thank you for remembering.
A whirlwind year for you at the company. I think a good place to start would be, 13 months in review, right? The most important structural changes to the business that you've witnessed in the last 12 months, and also the changes you've affected in the last 12, 13 months.
Well, thank you for remembering my 13 months. It has been a whirlwind. It's been a lot of fun. For those of you who don't know Fastly, I can just start with a real quick introduction on what Fastly is and what we do. We are an edge cloud provider. We break our revenues down into three main revenue lines where we do delivery services, which is really accelerating the internet. Really, we have 166 points of presence around the world that helps cache and speed up data flow throughout the world. We also have a security business. Our security business is multi-product, and security really is making sure that as we deliver the traffic around the world, we secure it. We make it very safe for users. We have a Web Application Firewall. We have a DDoS product. We also do bot management.
We have a number of security products that support that. Then we have an other business, which is kind of our growing business, and that consists of a lot of observability and compute. As the world transitions and the internet transitions, this is becoming a bigger portion of our business. I joined 13 months ago because I believe that the internet infrastructure business is really changing rapidly, and I just think that Fastly is very well-positioned. We are kind of a technical powerhouse here. Our products are faster, better, more programmable, and easier to use. I would say over the last 13 months since I've joined, we've really hit a reset on the business, a lot of transformation. We've accelerated revenue growth. In our most recent quarter, we had $183 million of revenues, growing that 23.3% year- over- year.
All three lines of businesses are growing pretty fast. We have our delivery business growing 17%, we have our security business growing 43%, and we have our other business growing 69% year-on-year. We've also done a really good job managing the business from a financial profile perspective. We hit record gross margins. Our gross margins are 65.8% in the most recent quarter. We've had four quarters consecutively of profitability, with the most recent quarter about 15% operating margins. We've also had six consecutive quarters of free cash flow positivity. We've really shifted the business from a growth rate perspective, we've shifted it from a gross margin perspective, and we've also hit profitability and free cash flow positive. A lot of trajectory. I think, you asked me, what kind of impact have I made on the business in those 13 months?
I would say it's been a very fun job because you get to wear the CFO hat, and as a CFO, you get to get involved in all aspects of the business. Really getting involved with the sales organization, helping them think about how to structure deals. We have a lot of the biggest customers that you know, and getting involved in deal desk, deal pricing, deal strategy is a lot of fun. Working with our product engineering organizations, thinking about product strategy and direction, that's a lot of fun. I think just building the robustness around how do we partner with the business and how do we enable the business to move faster. But at the same time, making sure that the resources that we deploy have the right capital ROI.
Related to that, Rich, it seems as though you have introduced some process changes that would necessarily have an impact in the way you guide, you set expectations. Anything to shed light on in terms of guidance framework and philosophy that you've evolved or tweaked? Just as a related matter, alongside you, there have been additional changes in the executive suite. How have those changes in the C-suite writ large impacted the way you collectively are managing the business towards some of these metrics and the acceleration you've been able to realize in both growth and profitability expansion?
Great question. I would say that for me, partnering with the business has been one of the most fun parts of the job. Really like getting in there, working with the leaders, and that really helps a lot when you start doing guidance and expectations, right? The closer you are to the business and the closer you are to the deals, you have a better sense of what's happening in the business. I think that the most important thing when you actually do guidance is actually how strongly and how much do you feel that you're going to hit the numbers that you say you're going to hit. I think that always starts with partnering with the business to really understand that.
I would say that we are a consumption-based business on the delivery services side, and so it's always hard to predict where consumption's going to be and where internet trends are going to be. But you do a lot of modeling from multiple angles, right? You'll do tops down, bottoms up. We do a lot of customer-by-customer modeling, looking at specific deals. The more comfortable you are with that, the better you can be with your guidance. From a philosophy perspective, I like to make sure that I feel confident with my forecast. I give a number where it's closest to the pin, but there's some upside potential because you want to make sure that you have a number that you feel really good about. I think forecasting and guidance always starts with the best forecast possible.
I would say that we've also built a very strong discipline around even OpEx management and headcount management. I think that partnering with the business, you have to really be in there and understand what heads are coming in and how it translates into operating income. Yes, we have had a number of management changes. Part of the reason why I joined was because of the management changes. I joined 13 months ago. Kip Compton was our new CEO. He was actually running Chief Product Officer before that at Fastly, and I just felt like he and I were very aligned with the way we want to run the business and the way we think about things. We had Scott Lovett, who joined two and a half, three years ago now, as our chief revenue officer, and now he's president go-to-market, and he's been amazing.
Working with a really good sales leader who is very experienced, who knows this space and also knows security very well. That was a really good piece of it. We promoted internally Kip's replacement, who's our new Chief Product Officer, Kelly Shortridge, and we also internally promoted our head of engineering with Hossein. So we've had a number of management changes. Some are internal, some are external. But I just think that the rapport that we have and the way we work together has just been amazing.
I appreciate that. Maybe shifting a layer deeper into the business with respect to the revenue mix in the segments in which you operate, right? So network security, network services security, and compute and observability, sort of the catchall bucket where I would characterize there's some moonshot activity in there with very high upside potential, and we can certainly get into that. But maybe you can give us just a quick refresher on the relative sizes of those pillars underneath the hood at Fastly, and the growth profile. I think security, 43%, that's been trending very well. But just to kind of set the ingredients on the table, and we can sort of unpack some of the drivers of each constituent piece.
Perfect. So $183 million of revenues in the most recent quarter, 73% of which came from network services. That is our delivery business. The delivery business is growing 17% year-over-year. I think that here we are a market share taker, so we should continue to grow faster than the market in this space. I think that if you look at our products relative to our peers, we have a higher performant product, and performance is measured by speed, security, configurability, usability, developer friendliness. It is a very strong product relative to our peers, and it is growing fast. It is 17%, so faster than the market. Our security revenues are about 23% of revenues, and that is growing 43%.
That business is actually doing extremely well. I think it is the past few quarters it has been growing north of 40%. The reason it is growing well is because we have expanded that product suite.
We started with one security product two years ago with a Web Application Firewall, and over the last two years under Kip's regime as Chief Product Officer, we have really expanded the security product. We now have the full suite. We introduced DDoS, bot management, API security, client-side protection. With those introductions, we actually have the full suite of security products that enable us to really win RFPs now. When we are going out there and we are selling both delivery services and security together, customers are looking at us and saying, "Wow, these products are really good, and you have the full suite to support us." That has been a really good business driver for us, and that should be continuing to grow also faster than the market. So 43% year-over-year in the last quarter. Other is our catchall.
I would not necessarily say it is a moonshot. I would say it is a great business. I would say that is primarily compute right now. With the world of speeding up the internet and a lot of personalization and a lot of even agentic AI and AI, compute is becoming a bigger and bigger piece of it. Compute is the biggest portion of our other business. I think that is growing 69% year-over-year. That will continue to grow pretty fast as well, and we should definitely be growing faster than the market, given one, the size of this business itself, but two, the internet trends that we are seeing, right? I think that we are seeing more and more customers deploying and using compute and trying to explore how to live in this new world of AI.
I think those three together are the core of our business. If you just take security and other, we are almost at a $50 million run rate.
That's growing north of 50% for that business. Pretty proud that we've grown outside of the delivery business to almost a $50 million, I think it was $49.4 million for the last quarter.
Rich, I think you're foreshadowing something interesting in that three-quarters of the business is still your core competence around delivery and delivery services and network delivery. As you think about your near-term and medium-term range planning, are there high-level contours on how you think about the mix of this business changing? I know there's an Analyst Day coming up
Yes.
in the not-too-distant future, so I don't want you to give me the steak, but maybe a little bit of the sizzle to the extent you can talk about how the mix of business could potentially evolve in the near and medium term.
Sure. Investor Day is coming up in two weeks. It will be here in New York City, so hopefully, we can have you guys join us in New York City. We will be at the Nasdaq market site.
22nd, by the way.
June 22nd on Tuesday.
Yes, Tuesday.
September.
September. Yes. I said June. Oh my gosh. I copied you.
It is okay. I am here to keep you in check.
Thank you. I would say that given the growth rate profile of the businesses, security continues to always grow, has been historically growing faster than our delivery business. Our other business, especially compute, has been growing faster than security. I just think that naturally evolves the business quite a bit. I would say that compute is a very nascent business still. I think we were about $7 million in the last quarter. It is the fastest-growing, but it is also the one that customers are most excited by. Just to co-invent. They are doing co-inventing with us, really trying to figure out how to use compute in this new world of AI. I think everyone is trying to figure it out and trying to figure out what is the best use case to speed up the internet and make it safer and more secure.
There's a lot of opportunity there to make that a much bigger business. I just think that as the world continues to evolve, I think that we're evolving with our customers on what they need. So the mix will gradually continue to shift away towards compute and security as a business. I think delivery will still continue to grow. We're still going to invest in that business. It's a very good business for us. In our recent quarter, we grew 17% year-on-year, so we'll continue to invest in all three. I think from a foreshadowing of Investor Day, I think that what's interesting with us is that we have really full product suites within each of these businesses, right? Delivery services, there's actually a product suite that supports what customers need. With security, I mentioned going from one product to five products.
That whole security suite is a bigger suite now, right? I think that the way we break out our revenues, it's very like assuming that we have three products, but technically at Fastly we have a lot more products that support our customers. So we are thinking about the way we talk about even multi-product and how we want to share multi-product metrics going forward.
Great. On the topic of maybe there's an artificial delineation between these arenas.
Yes
Under Fastly. But at the end of the day, that is what sort of lands with the investor community, right? To just itemize the type of momentum you're seeing in those distinct businesses. So I can appreciate that to some extent, that's more of an artificial exercise. However, I'm curious if there is a way we can internalize the relative gross margin and/or operating margin profiles. I know some disclosure that you've most recently shared is just incremental gross profit, incremental.
That's right.
Operating income at the business level. Curious if you can just give us a rehash of some of that because the momentum in the last 12 months has been pretty remarkable. As a related matter, is it the momentum and the upshot in security that's been the principal driver of this operating leverage that you're really squeezing out of the business?
Yeah. We do look at flow through on gross margin and operating margin. I think our last 12-month gross margin flow through has been like 96%. For every dollar that we have generated, we've flowed through 96% back to gross profit. You can see a lot of operating leverage as we've grown the business and expanded and done cross-sells into other areas. When you think about gross margin by business line, it gets a little bit harder and trickier because Fastly has one network, right? We have one network that supports all the products. Whether a customer's using delivery, whether a customer's buying security product, or even they're doing compute, they're using the same 166 points of presence that we have around the world. Because of that, they're using different resources, right? Delivery may be using some bandwidth and some potential IOPS.
On security side, you may be using a different part of the server. When you're using compute, you might be using CPU capacity. But it's all the same servers, all the same network gear, and it's supporting all three businesses. As a result, we don't do gross margins by business. I would say that having all the businesses together is highly complementary. If you use compute as an example, our constraint was never the CPU side on our business, it was more the IOPS side. When you launch a compute business, you're using stranded resources that were not being utilized effectively, right? Now you start selling compute into the business, now you're using a different side of the servers that were not being used, but it's all free.
Right? Because the servers were there, the CPU capacity was there. What you are seeing is you are seeing our mix shift changing, and you see security and compute a bigger portion of revenues. A lot of that is incrementally higher margins just because they were just stranded reserves that were not being utilized effectively. Some of our peers actually have to support multiple networks. I think that for them it is a little bit different, where they may be able to break out the, but for us, we are 100% on the same network. All the servers run all the businesses, whether it is bot management or DDoS, it is still the same servers running and powering our delivery business.
I wanted to spend some time back on the flagship business, the bread and butter, the network services, three-quarters of the business. Zooming out, the internet is growing, traffic is growing. Machine and AI and bot traffic as a proportion of the internet is growing. I think you have your own internal research that has also come out saying we have had a 6x increase in at least the traffic you are seeing flowing through your network. So, back to the basics on the network security business, you just put up 17%, you had very strong back half and first half of this year in that classic core side of the business. Can you walk through some puts and takes and assumptions? Because the two variables here are Q, traffic growth P, pricing, which I think you have been very transparent about.
Help us walk through how some of those, or those two particular variables have played out in the first half of the year, and how you are thinking about them certainly for the back half of the year. As a general matter, I mean, Q is really up.
Yeah.
Yeah. I think just to talk about pricing, since it is a topic I think we get asked about a lot, it has been a very relatively stable market for the last, say, three to four quarters for us, probably three to be precise. If you go back and look at this industry, the content delivery network industry, there were a couple of point players that unfortunately went out of business about two years ago, and they introduced what we would characterize as an irrational pricing environment. So there were some rough moments that the whole industry went through. That has been totally absorbed into everyone's models that is still remaining for well over a year now. We have had this environment where pricing has been relatively stable.
When we say stable, it is still declining mid to high single digits year-over-year, but we also get commensurate gigabit traffic on top of that, so it goes through sort of a Moore's law dynamic where we are seeing more traffic as a result, as the environment is growing, as Fatima pointed out. In terms of the Q side of it, the quantity, I think where we have been very successful, and Rich was alluding to this earlier, is we have many more opportunities and on-ramps with our largest customers in cross-selling and upselling different pieces of our overall platform, specifically in security.
So we are seeing dynamics where we may close a new piece of security with an existing customer, and then when we go back to do a renewal, we are at the table, they will give us more traffic as a result of that longer-term. So they will commit to that.
That is sort of feeding a lot of the growth that we are seeing. I think in the market overall, there has been a shift towards higher performance delivery for both static websites as well as where we do very well in live entertainment and streaming-type media. We have continued to be probably a share gainer across most of those markets. Certainly if there is any large live sporting event, there is a good chance that Fastly is behind the scenes powering that.
Vernon, just to double-click on that, thinking about the composition or call it the complexion of that traffic, how do you expect that? Based on the data that you are seeing in your network, how is the complexion of that traffic changing between live events, between corporate traffic, between episodic events, which I suppose would be more live event-centric, and AI traffic and bot traffic and machine-generated traffic?
The machine-generated traffic, without question, is where we are seeing probably the most growth. Again, it is still very early innings and it is still very small, but relates to our platform itself that is having an outsized impact. We have a product called ContentGuard that we rolled out, which is specifically designed to help. A great example of this is a publisher where they have agents and bots coming in and scraping content off of their website being delivered through a frontier LLM to an end user, and that publisher does not get compensated for that. So they now have full control to see who is accessing their content. They can set up licensing arrangements around that and actually set up a monetization stream around it. So it has been a very successful product.
We have a lot of excitement around that one, and we recently rolled that out in the last 12 months. We're seeing more use cases around those types of applications in the security realm, and don't want to take any sizzle from Investor Day, but stay tuned. There are some interesting things there. Also on the delivery side, yes, the requests are definitely going up machine to machine-wise. We do see that in some of the programs that we're involved in. If you look at where we're positioned, this could range from us being sort of a middle orchestration layer for inference and agentic AI and communicating with the frontier LLMs. I think where we're at is a very unique position because we are one of the few cloud-neutral systems that are out there, or architectures that are out there.
Whereas a lot of these other ones that are sort of quasi-peers of ours, I won't name names, but they're building massive GPU farms and things like that. They're actually building more closer to centralized clusters around these activities. If you're someone that wants to put in a multi-cloud strategy around that, and you want to have the flexibility over time, you'll wind up probably engaging with an architecture similar to ours. So that's sort of the positioning. We think there's a lot of growth there potentially. Admittedly, we're not seeing it today in terms of its proportion of the overall traffic, but it is picking up a lot behind the scenes. As you said, 6x for that traffic level.
Vernon or Rich, so what I'm gathering from you is actually counterintuitively, even though your traffic levels are going parabolic on the network, from a monetization standpoint, from a P&L geography standpoint, you're actually seeing that sooner in the security business, right? If current trends persist in the way they are, we should, as investors, see that manifestation within your security business. Is that a fair distillation?
Yeah. I think the nearest term impact because of AI would probably be security and some compute. I would say that when we think about AI and the way it's impacting our businesses, specifically even delivery, when we talk about traffic, you typically think about traffic as measured by gigabits delivered. AI traffic is very small bits of data, right? It's not like streaming where you're doing high definition bandwidth transmission. I think that when we talk about growing 6x on a traffic basis, that's from a request perspective, which is very tiny bits, but the number of pings that happens on the internet is quite high.
When you think about our products and the way we price our security and our compute products are priced based on a request per second basis, whereas a lot of our delivery business is still on a per gig basis. When you add up all those little bits from machine traffic, it's not still the same as a transmission. I think delivery, it will take time to change over time. I think right now, based on the way things are priced.
On the pricing side of the equation for the delivery business, I know I'm sort of jumping back and forth, but I think it's an important point to hash out. You talked about just more rational behavior in the marketplace, right? I'm wondering how much of that pricing rationality is maybe transcending into pricing power, because you have had some of your peers actually raise pricing, right? Has that been an advantageous opportunity for you to command more market share from a unit perspective? Or is the strategy that, hey, the market can bear a higher price, so there is an opportunity for you to realize better price on the average delivery contracts versus the historical cadence of general degradation in that market. Any thoughts there?
Yeah, I would say that from a pricing perspective, our competitors and us, we're very rational players now. We're going to talk about the value that we create for our customers. A lot of those little ones have gone out of business, so that pricing rationality is not there anymore. I do think that edge cloud is growing in significance with security and compute, and because of that, we're adding more value. A lot of conversations go into value and how do we support our customers, and how do we price our products across the board. We actually less and less think about pricing on a delivery services side.
It's more a, like, "Hey, what is your problem that you're trying to solve, and what are the product suites that we can bring to the table to do that?" Yes, I think that given the environment we're in today, I think there's definitely more of a partnership approach to pricing as opposed to a, "Hey, we are going to be the lowest cost provider." It's much more about that partnership and the value creation, which I think is a much better position to be in. I think customers are more and more wanting to partner with us. They're wanting to make commitments. You see that in our RPO growth, and you're seeing that in our cRPO growth, where RPO grew 38% year- over- year . Our current RPO is growing 44% year- over- year . I just think that partnership overall is definitely there.
I can't speak specifically about what our competitors are doing with price increases. I think they announced it. Whether that's actually happening or not, that's for them to discuss. But the approach that we've taken at Fastly is much more about the partnership with our customers, the problems they're trying to solve, and how do we price our products portfolio and the suite for them.
Rich, just staying on the pricing topic, but maybe taking a different angle to it. You've been able to deliver a lot of value and value-based selling to your install base, right? In talking about, okay, let's not a portion, a conversation around delivery services. It's not a portion, a conversation around security. Generally speaking, has the incremental momentum and security come from better and more assiduously farming the installed base, right? And then relatedly, you do have about a third of your revenue coming from your top 10 customers, right? A little bit of a double-edged sword in that, okay, there is concentration here, but these are very meaty, important customers.
How do you balance some of that ongoing wallet capture penetration opportunity with the fact that, hey, you maybe do need to continue to diversify the rest of the business so it's not as weighty of a performance from the top 10. How do you kind of juggle those very, it's a tenuous dynamic. How do you juggle that?
I would say that our product suite comes from both sides, right? With the fuller security suite, we're able to do very effective cross-selling with existing customers, but we also can land with new customers just with their security product. A lot of times they come in having a security problem, and it could be an inroad in terms of how we sell to customers. I would say having that fuller product breadth allows us to kind of really do both, cross-sell existing customers plus land new logos. I would say that when we think about the products and the suite we have, our top 10 customers are adopting the multi-product, and so you'll see the strength of that business. I think our top 10 was 37% of revenues in the most recent quarter. Does that concern me?
I would say these are actually very good customers with really good margin profile, as you can see with the 65.8% gross margin, record gross margins, even with that higher concentration. What makes me feel really good about these customers is the growth isn't coming just from delivery services where they can just shift and move businesses. If you look three years ago, five years ago, that's risky, right? Because when you're only selling one delivery services product. But the reality is these customers are now buying security, they're buying our suite, they're doing compute. That makes them a lot stickier. We actually have internal studies that have shown that when customers buy multiple products, they just become much more sticky. Am I concerned about the 37%? Not really, because they're really good customer contracts. They're much stickier than they have been historically.
I do think that when you look at outside of the top 10, it's still growing double digits on a year-over-year basis. I think the most recent was 12% year-over-year growth. We need to do a better job with that, I acknowledge that. The best way to really diversify is to really grow that non-top 10.
Even outside of that, I think we have 624 large customers, so just continue to grow that portion of the business as well. But I wouldn't do it at the sake of cutting back the support that we give to the top 10. Our top 10 is a very good set of customers.
Rich, I know you've disclosed net retention rate at the company level. I'm wondering if there is a meaningful distinction or delta between the net retention rates of your top 10 customers versus the rest of the base. Even any directional contouring would be helpful here, just so most of us can appreciate that the top 10 are indeed all in on the Fastly platform and there is a lot of attractive LTV we're seeing now latent in there. Anything you can sort of any color you can give us around that?
Yeah, I'll give you two data points on that. One is that, so our NRR is 117% in the most recent quarter. I think that's like a three or four-year high for the company. We definitely have been very proud of that NRR kind of increase.
I would say that, given that top 10 is now 37%, you can kind of imply that NRR for the top 10 is actually higher than the 117%. And so we feel really good about that because it just means they're just embracing and adopting more products at a bigger scale, right? And I think it's a really kind of good data point to have. I think the other data point is that if you look outside the top 10 or even outside the top 50, it's still very healthy NRR, right?
We're not at an NRR where it's dropping to 105% or even 100%. So I think that our NRR in even among the different cohorts are very strong and very good and I feel really good about where we're at.
We talked a ton about network services, we talked a ton about security. In the other bucket, again, a lot of option value in that bucket. A lot of your peers, and the industry at large, we are going through a generational CapEx cycle, right? So, what behooves you to invest or not invest in scaling out your CapEx and infrastructure footprint? You've been more judicious. But what's holding you back? Maybe what do folks in the investor community not understand about your network topology, your architecture that precludes you from having to take similarly aggressive steps as some of your direct peers, some of your orthogonal peers who are, again, undertaking a generational
Yeah
CapEx investment? Because ultimately you're paying the price on component price inflation, which I think you've managed around. So, just generally commentary on do you want to get into the race? Is it too late? Does it matter? What are your thoughts there and why?
Yeah. Our most recent earnings quarter, we talked about 10%-12% of revenues invested back in CapEx. It actually is an increase. I think it's almost like a 40%-45% year-over-year increase on CapEx spend. We are making the right investments we need to do. I think when we think about it, we have a much more network-efficient architecture, right? We're running one network supporting all of our products. That enables us to have a lower percentage, in CapEx as a percentage of revenues, which is very helpful. When you compare us versus our peers, even at our size and scale, we're making the investments we need to support the revenues that we expect. And we're doing that in a much more efficient way. I would say that orthogonally, the peers are doing a lot of GPUs.
Which when we look at it doesn't make sense for us to put GPUs in. We can service our compute business with existing CPU.
I just think that for us, we're going to be continuing to invest in CPUs in our business. And when we see the opportunity for GPUs, we may consider it, but for now, I just think that we can be much more efficient the way we are.
Last question for you.
Sure.
If you had your magic wand to wave away any one glaring investor misunderstanding or misconception, what would that be?
Yeah.
Analyst data bound on it, but..
I can give my one wish. I just think that this business on being on the edge cloud is much broader than just a CDN business. I just think that there is a lot of misconceptions around this being a CDN commodity business. There is a lot of intelligence in the edge now, right? This intelligence is making the product suite that we have much more important around security, bot management, DDoS. It is not about just pushing bits of traffic across the internet and speeding it up. It is actually a lot more secure, dynamic, more e-commerce traffic is happening, more hospitality. There is so much happening on the internet today, and I just think that people still have this mindset on commodity CDN business, and that is not what we do.
I appreciate that. I look forward to getting some more details in
Yeah
a few weeks.
All right.
Thank you very much.
Thank you guys a lot who can join us.
Yes.
Thank you.