Good day, ladies and gentlemen, and welcome to the Fortinet Fourth Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question and answer session, and instructions will be given at that time. If anyone should require assistance during the conference, you may press star then zero on your touch-tone telephone. As a reminder, this call is being recorded. It is now my pleasure to introduce Vice President of Investor Relations, Mr. Peter Salkowski. Please go ahead, sir.
Thank you. Good afternoon, everyone. This is Peter Salkowski, Vice President of Investor Relations at Fortinet. I'm pleased to welcome everyone to our call to discuss Fortinet's Fiscal results for the Fourth Quarter and Full Year 2018. Speakers on today's call are Ken Xie, Fortinet's Founder, Chairman, and CEO, and Keith Jensen, CFO. 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 and conclude by providing our guidance for the first quarter of 2019 and for the full year, before opening up the call for questions. During the Q&A session, we ask that you please keep your questions brief and limit yourself to one question and one follow-up to allow others to participate.
Before we begin, I'd like to remind everyone that we will be making forward-looking statements on today's call, that these forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected. Please refer to our SEC filings, particularly 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, we undertake no obligation and specifically disclaim any obligation to update forward-looking statements. Our references to financial metrics that we make on the call today are non-GAAP, unless otherwise stated. Our GAAP results and GAAP to non-GAAP reconciliations can be found in our earnings press release and in the presentation that accompanies today's remarks, both of which are posted on our investor relations website.
All references to growth are on a year-over-year basis, unless otherwise noted. I will now turn the call over to Ken.
Thanks, Peter. Thank you to everyone for joining today's call to discuss our fourth quarter and full year 2018 result. I'm pleased with our strong fourth quarter result. Billings increased 22% to $649 million. Revenue was up 22% to $507 million, driven by solid growth in both Americas and EMEA. Our non-GAAP operating margin for the quarter was 26%. For the full year, billing increased 20% to $2.15 billion. Revenue was up 20% to $1.8 billion. Our non-GAAP operating margin increased to 22%. On a GAAP basis, operating income more than doubled to $231 million. Our GAAP operating margin increased to 13%. Our superior technology and broad Security Fabric architecture contribute to the market share gain in 2018. Improved sales, marketing, and continued investment in our channel also contribute to our growth.
According to a recent Gartner survey, 72% of respondents said that security was their topmost concern when it comes to WAN deployment. Fortinet best-of-breed secure SD-WAN with built-in next-generation firewall continued to gain significant traction across geographics and market segment. In the fourth quarter, Fortinet signed a seven-figure deal with Decathlon, a European retailer with 4,000 stores in 26 countries. We displaced a competitor as a result of our ability to provide integrated SD-WAN functionality and security in a single device. Fortinet has received the most reviews of all vendors in the Gartner Peer Insights for SD-WAN and more than double any other vendor. We expect strong adoption of our secure SD-WAN offering for the next several years. During the fourth quarter, Fortinet and Symantec announced a partnership agreement to provide customers with the industry most comprehensive and robust security solutions across endpoint, network, and cloud environments.
Today, we announced the release of a new series of high-performance FortiGate next-generation firewalls. The new E-Series, including the FortiGate 3600E, 3400E, 600E, and 400E, which delivers a combination of up to 30 gigabit per second threat protection and 34 gigabit per second SSL inspection performance. Additionally, the E-Series enable organizations to implement intent-based segmentation, providing smooth access control, continuous trust assessment, end-to-end visibility, and automated threat protection. While 2018 may have benefited from the current enterprise product refresh cycle, we expect continued growth over the next few years due to three business drivers. First, our portfolio of integrated secure SD-WAN and 5G product, which position us well take advantage of the transition to edge and cloud computing. Second, Fortinet's Security Fabric offer the most broad, automated, and integrated security for end-to-end protection as organizations consolidate towards a single security vendor.
Third, our Security Processing Unit, SPU ASIC technology, and a new high-performance E-Series product announced today provide us with continued competitive advantage. Our SPU technology delivers 10X the performance of other software approaches. Over the next few quarters, we expect to increase our competitive advantage even more with the announcement of a new system-on-a-chip SPU and the network processor SPU chip integrated with new product for both cloud and edge computing. For 2019, we expect to generate another year of better than market growth, balanced with profitability. We are excited about significant opportunity ahead, and we will continue to invest our business while maintaining our goal of 25% operational margin by 2022. I want to thank the Fortinet team, our partners, and their ongoing hard work for our customers for their support.
Now, I will turn the call over to Keith for a closer look at our fourth quarter and full year performance and our first quarter of 2019 guidance.
Thank you, Ken. Before I start, I'd like to note, except for revenue, all financial figures are non-GAAP, and growth rates are based on comparisons to the prior year period, unless otherwise stated. Slide references I make refer to the presentation posted on our investor relations website. I'd like to now provide a summary of our solid fourth quarter performance. Total revenue of $507 million was up 22%. Product revenue of $201 million was up 24%. Excluding a net benefit of $7 million from the revenue accounting change, product revenue growth was 19%. Product revenue growth was driven by the new E-Series products, software sales, and growth in fabric platform solutions. Service revenue grew 20% to $306 million. FortiGuard, our security subscription offering, grew 19% to $165 million.
With all other services, including FortiCare, our traditional support offering, were up 21% to $141 million. FortiCare, which continues to benefit from customers transitioning from eight by five to twenty-four by seven support, was up 20% to $129 million. As our strong revenue growth illustrates, the partial U.S. federal government shutdown, as well as concerns raised by Brexit and the slowing Chinese economy, had no noticeable impact on our fourth quarter performance. I would note our government vertical is well diversified and includes not only the U.S. federal government, but also state, local, and international government agencies. Additionally, the U.K. and China are single countries within similarly diversified EMEA and APAC regions. Before moving on with the fourth quarter results, I'd like to highlight our revenue performance for the year. Total revenue for the full year grew 20% to $1.8 billion.
Product revenue grew 17%. Service revenue grew 23%, moving over the $1 billion mark for the first time and represented 63% of total revenue. At the end of the year, deferred revenue increased 26% to $1.7 billion. Short-term deferred revenue increased 22%. Returning to our fourth quarter, billings grew 22% to $649 million. Led by 23% growth in the Americas and EMEA. Average contract length decreased by one month to 25 months. Service providers and MSSPs had a seasonally strong fourth quarter at 23% of fourth quarter billings. Service providers and MSSPs represented 11 of our top 25 deals in Q4 and included a seven-figure secure SD-WAN deal that included a customer acquiring over 20 high-end FortiGate products, along with a range of other products and services.
Billings to large enterprises, excluding service providers and MSSPs, continued to outpace overall business with growth of 26% on a trailing 12-month basis. Illustrating the strength of our enterprise business, the number of deals over $1 million grew to a record 47, beating the previous record of 40 deals set in the fourth quarter of 2017. In the quarter, we closed a seven-figure transaction with a European Global 2000 multinational financial services company to use our FortiGate products to focus on internal segmentation. One of the $1 million plus wins last quarter was with a European-based supermarket chain that has 25% of the market share in the Netherlands. The combination of security and SD-WAN functionality into a single form factor drove this competitor displacement. As part of this transaction, the company purchased hundreds of entry-level FortiGates.
Network security billings increased 20% and continued to represent three-quarters of total billings. Billings for non-FortiGate products and services grew slightly faster than our FortiGate billings. The Security Fabric, which is the largest component of our non-FortiGate offerings, benefited from customers' recognition of our platform strategy, its value, performance, and integrated security. The Security Fabric includes software, secure switches, and other hardware products and services. Secure switches are sold together with FortiGates and related services and represented 2% of total fourth-quarter billings. Total cloud billings for our top five public cloud providers continued to experience growth in excess of 100%. Moving back to the income statement, our fourth quarter gross margin of 75.7% was driven by the 40-basis-point improvement in services gross margin to 87.3%. For the full year, gross margin was 76%, up 70 basis points from 2017. Fourth-quarter operating margin increased to 25.8%, or up 690 basis points.
The operating margin included a 340-basis-point benefit from the required commission and revenue accounting changes. Excluding the accounting change benefit, the fourth quarter operating margin would have increased to 22.4%, or up 350 basis points. For the full year, the operating margin was 22.4%. Excluding the accounting change, the operating margin would have improved to 19%. Based on 605 accounting, the three-year trend of normalized annual operating margin improvement starting with 2016 stands at 190 basis points, 210 basis points, and now 180 basis points for 2018. While improving our operating margin these 580 basis points over the last three years, revenue grew at a three-year compounded annual growth rate of 21%. As Ken mentioned in his prepared remarks, we expect 2019 to be another year of better-than-market growth, balanced with increasing profitability.
Slides 14 and 15 show a line-by-line comparison between our non-GAAP results and the non-GAAP results excluding the adoption of the new accounting rules for the fourth quarter and the full year. Total headcount at the end of the year was up 15% to 5,845. Net income for the fourth quarter was $105 million, or $0.59 per diluted share, up 84%. Net income for the full year was $320 million, or $1.84 per diluted share, up 77% year-over-year. On a GAAP basis, we reported full-year net income of $332 million, or $1.91 per diluted share. The diluted share count for the fourth quarter was 175.8 million. The non-GAAP effective tax rate was 24%. Moving to the statement of cash flow summarized on slides 10 and 11. Free cash flow was $169 million, up 17% year-over-year. For 2018, free cash flow increased 28% to $586 million.
In the quarter, we repurchased 1.3 million shares totaling $92 million. For the full year, we repurchased 3.8 million shares totaling $209 million. We are outgrowing our Sunnyvale office space and are constructing a second building adjacent to our existing building, which we expect to occupy in the second half of 2020. Including spending on this project, we expect total first-quarter capital expenditures to be between $15 million and $20 million, and total full-year capital expenditures to be between $120 million and $140 million. As I turn to the guidance provided on slide 13, I would like to remind everyone that the forward-looking disclaimer Peter presented at the start of the call applies to the guidance I am about to provide.
For the first quarter, we expect billings in the range of $515 million-$535 million, revenue in the range of $465 million-$475 million, non-GAAP gross margin of 75.5%-76.5%, non-GAAP operating margin of 18%-18.5%, non-GAAP earnings per share of $0.37-$0.39, which assumes a share count of between 176 million and 178 million shares. We expect a non-GAAP tax rate of 24%. We are closely watching the widely reported concerns of potential softening of global economies. With that said, it is important to note that we are seeing healthy pipeline growth in our business, and we believe we are well-positioned to continue to grow faster than the security market in 2019. For 2019, we expect billings in the range of $2.45 billion-$2.5 billion. Revenue in the range of $2.06 billion-$2.1 billion.
Total service revenue in the range of $1.33 billion-$1.36 billion. Non-GAAP gross margin of 75.5%-76.5%. Non-GAAP operating margin of 22.5%-23.5%. Non-GAAP earnings per share of $2.05-$2.10, which assumes a share count of between 180 million and 183 million. We expect our non-GAAP tax rate to be 24%. We expect cash taxes to be between $53 million and $59 million. As this guidance indicates, we remain committed to balancing growth with increasing profitability as we work to achieve our non-GAAP operating margin goal of 25% for 2022. Before I turn the call back over to Peter, we would like to thank our partners, customers, and the Fortinet team for all their support and hard work. I will now hand the call back over to Peter.
Thank you, Keith. Operator, we are ready to start the Q&A session, please.
Certainly. Ladies and gentlemen, if you have a question at this time, please press star then one on your touch tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Our first question comes from the line of Shaul Eyal with Oppenheimer. Your line is now open.
Thank you. Good afternoon, guys. Congrats on the ongoing solid performance and guide. Ken or Keith, the product breadth is undoubtedly noticeable from a channel perspective, whether it's SD-WAN, some 5G-related transactions, the NEC, as well as the new E-Series products. You guys are moving in all market direction and all infrastructures. Now, we all view Fortinet as a pure play security company, but maybe we should start thinking of Fortinet as becoming more of an infrastructure play, just maybe high-level views. How do you think about it?
Yeah, this is Ken. We still want to focus on ourself as a security company, especially network security. But the security as a percentage, IT spending do keep increase high percentage because security addressing the application content, the user device, and the region level, which the basic networking cannot address. All this become much more important with whether the 5G, SD-WAN, the digital transformation. What's unique about Fortinet, when we design a security, want to design in into the infrastructure. Like from 10 years ago, we started design the Wi-Fi controller within FortiGate, and then four, five years ago, designed the SD-WAN controller inside the FortiGate, and also going forward with 5G design within security.
Basically, you can look on the FortiGate product, which we designed actually do incorporate some of the infrastructure function, which is very important for a lot of service provider and also for enterprise. Then for them to design their infrastructure together with security instead of add-on security later. That give us a huge advantage, like when there's a new infrastructure keeping expanding, like all the SD-WAN, the going forward of 5G, and also working closely with service provider, whether in the cloud or edge computing and also IoT, OT security. That's the advantage we have, and we do think in more long-term, for what security the infrastructure should be and then starting invest in R&D early.
Got it. Thank you for that. Maybe one for Keith. Just as we think about the channel, the partner strategy, the way you've been compensating partners and advance. Pretty much the same dynamics that we've been seeing in recent quarters, recent years, or have you been seeing any change or implementing any change? Thank you for that.
I think when I talk to the channel leadership team, I think I'd probably describe the last six to 12 months as being one that was more focused on individual segments of the channel, whether that was SMB, MSSP, even the larger parts of the channel. I think the programs are probably more tailored now, whether they're resellers or distributors. I think the programs, when I say tailored, are probably more targeted in terms of where we're seeing the performance from our channel partners.
Thank you.
Thank you. Our next question comes from the line of Jonathan Ho with William Blair. Your line is now open.
Hi. Good afternoon. Congratulations on the strong results. I just wanted to start out with maybe some additional color on your SD-WAN driven deals. Can you maybe talk about what percentage of the new deals are now coming and sort of influenced by this SD-WAN demand?
I don't think we have the detailed data for. Definitely we see the pipeline increase very quickly. Different from other SD-WAN player, which they only have SD-WAN function, we design with security, which is the top concern for all the WAN expansion. At the same time, this is also we see the other strong driver for the future growth in the next few years, even beyond the refresh from enterprise networking security, which probably will last few more quarters. For this expanding into SD-WAN into 5G will be at least a few more years keeping growing. We are very uniquely positioned and has designed this a few years ago, and we started benefit from early investment.
Got it. With regards to your new intention-based firewall, can you talk a little bit about how that differs from a traditional next generation firewall? Maybe how does this new firewall fit within the emerging zero trust models?
Yes. The traditional firewall usually deploy on the corporate enterprise edge on the border. There's a trust inside zone and there's a trust outside zone there. This intent-based segmentation just can deploy wherever the inside enterprise, next to the server, next to the data center, next to the segment, different department, and also some other device. Which this has to be deployed in a high-speed LAN environment compared to before, the traditional firewalls, once I connect the WAN, others, I connect the LAN. This is really high speed, easy deployment, and also leverage a lot of AI machine learning to automate, detect all this intrusion, also the internal security issue, which count as the majority of security concern now. That's why it's how to move inside into the enterprise and also how to deal with the high-speed environment, in automated response way.
That's how the new E-Series are addressing right now. We see quite a quick ramp path because this can give the whole infrastructure security instead of just some kind of border security.
Thank you.
Thank you. Our next question comes from the line of Sterling Auty with J.P. Morgan. Your line is now open.
Yeah, thanks. Hi, guys. Ken, I appreciate the commentary around Security Fabric and especially the long opportunity that's still in front of you. My sense is that still the biggest portion of the business, quarter in and quarter out at the moment, is still kind of the core traditional network security. I'm curious in the enterprise, the deals that you're winning, what are you hearing is the main drivers? Is it just the straight-out performance of speeds and feeds? Is it the integration across your portfolio or the breadth of your product offering or some combination thereof?
The speed's starting to become more and more important, whether it's the speed for the whole infrastructure increase 5G or internal segmentation deployment. That's where we see more and more advantage. One thing Keith also mentioned, because of Security Fabric also involving both in some of the switch, some of the Wi-Fi access AP. That's because all this be part of the total infrastructure. The traditional firewall starting kind of being replaced, we call the third generation as well, infrastructure security had to address both inside enterprise, then the cloud, the mobile, the endpoint all together. Some of them we kind of innovate design internally. Some of we partner with some other partner, like Symantec, some other to address the whole things together within the whole industry. That we see the transition is kind of different than the part.
You have to have a different part of infrastructure working closely together, to integrate, to automate together. That's where, especially enterprise is starting to see some consolidation going on. That we feel is the other driver. We do have the Security Fabric approach, both working with our own product and also with the partner product together. We feel this changing will last for a few more years. Because this is different than the last time, like four or five years ago, replacing the traditional firewall with next-gen firewall UTM. Now it's really the whole infrastructure need to be secured altogether.
This is Keith, I would just add a couple to give a little more context on that. If you look at a couple of verticals, when I talk to the sales leadership with Ken, I think in the financial services you're seeing ROI and speed be the top of the list. Another one would be retail. I think there you're seeing SD-WAN and branches be top of the list.
If I look at the DSOs in the quarter, I think it popped up a bit. Is that an indication of the linearity and more back-end loaded, or was there some other driver to it? I'm looking at that as well as kind of the first quarter guide and just wondering if there's any read-through here.
No, I think for comparability purposes, I think we lose a day because of the conversion from ASC 605 to ASC 606. I did notice last year, last year being 2017, Europe finished up very early in the quarter and went off for the holidays. I think folks were working throughout December on both sides of the ocean this time.
Okay. Last one, if I could sneak it in. As you think about how you've laid out the guidance for 2019, where would you say the points of toughest comparison are through the year, How would you kind of characterize the seasonality of the guidance, first half versus second half versus your traditional business?
Yeah, I think the headline is that 2019 guidance looks a lot like 2018 guidance in terms of where we started, whether that's on the top line or whether that's on the growth. I think our pipeline, we feel very good about the pipeline that we're looking at the moment. There's a certain note of caution in some of the things that I mentioned in the script, not necessarily directly relevant to us, but I think we're watching the spillover impact. To come back to your original question, I think the model for 2019 looks a lot like the model did for 2018 in terms of the timing of things.
Got it. Thank you.
Thank you. As a reminder, ladies and gentlemen, if you have a question, please press star then one on your touchtone telephone. That's star then one. Our next question comes from the line of Fatima Boolani with UBS. Your line is now open
Good afternoon. Thank you for taking the questions. I have two for Keith. Keith, the first one is just around your implied product revenue guidance. If I did my math right, I'm shaking out maybe a little bit ahead of where we were expecting anyway. I wanted to plug into that and maybe get a sense of what is giving you confidence around that product growth trajectory, and as an extension, as we've sort of lapped some of the tax reform impacts of 2018, as we are lapping some of the specific incentives into your sales capacity that you provided for product growth in 2018, to what extent are we sort of lapping that and sort of normalizing those effects? A follow-up as well.
Yeah. Kind of taking your last point first, I continue to think that a comment we made very early in last year about changing 50 comp plans is probably having an overblown impact. It's not doing what people are suggesting it is. To your original point, I think we look at our pipeline, we feel very good about what we're seeing in terms of the business. I don't think there's something that we're seeing that's evidence of a slowdown. We feel very good about the things that are coming online as we move through the year, whether that's the new product offerings for the 3400 that we talked about, the 400 product offerings, the SD-WAN product, and what we're seeing there. I'll kind of expand on the comment that was made, I think, when we were talking to Jonathan a moment ago.
I would offer that when I benchmark the pipeline growth of SD-WAN against other solutions, if you will, the pipeline growth benchmarks very well against other growth that we see. When I follow it up and benchmark that against the close rate, again, it benchmarks well when we compare it to other parts of the business. I think there's a lot of catalyst as we move through the year.
That's really helpful. Just around your service provider business, that sort of snap back to some of your historically higher levels, the proportion of billings, I think you said 23%. At the same time, we've picked up maybe a more cautious tone from some of your tech peers around data center spending and service provider spending posture. What is really driving that momentum for you, and really, how are you sort of bucking that trend that we've picked up negatively from some of the other tech peers? That's it for me. Thank you.
Yeah, this is Ken. First, I think the service provider will start to play a more and more important role in the security space, also with the expanding of infrastructure, SD-WAN 5G. I feel the next few years will be also very strong for service provider, keeping expanding their own infrastructure service and also add a security service. It's also interesting. Service provider unit is the biggest sector for us. We're supporting them from our beginning more than 10 years. We can see the trend going on there is really security become a high percentage. I know sometimes, like a few years ago, whether certain things move to the cloud or something, kind of a slowdown of the 5G, whatever, not quite there yet, slow down the service provider spending a little bit. Since that didn't turn around.
That probably will be very strong driver for the next few years. We also have all the product, all the other service timing is very good, and we feel probably confidence give us additional growth driver for the next few years beyond the enterprise kind of refresh. Because we design all this, whether the SPU ASIC technology, the new product, the SD-WAN, the 5G security eventually will benefit all the service provider, all enterprise customer a lot, as none of the other strong competitor actually kind of internal developed or integrate as good as we are for this kind of a security function with the infrastructure function and also closely working with service provider for more than 10 years. That give us a pretty good confidence for the next few years' growth.
That's very helpful. Thank you.
Thank you.
Yeah.
Our next question comes from the line of Melissa Franchi with Morgan Stanley. Your line is now open.
Hi, this is Hamza Fodderwala in for Melissa. I had a quick follow-up to the question that was asked earlier on the product revenue guidance for 2019. I think if my math applies, about 9% growth. To what extent does that reflect a moderation based on some of the lapping effects that were mentioned earlier versus just general caution on some of the macro factors, whether it be tariffs or China or whatever else?
I think the focus is more on the latter than it is on the former. By that I mean, I think, again, I think the pipeline that we're looking at looks very strong. Whether that's an SD-WAN use case, which I talked about, which is going very well. Very excited about seeing the new 400, 600E products building out the mid-range product family, plus the 3400 and the 3600 that Ken just talked about, and the new functionality that's bringing along. I think what we'd really like to do here is kind of watch what happens with the U.S. government, Brexit and the exit, whether they're going to crash out or not, and China as well. Again, I don't feel that we have large exposures in any of those geographies. In fact, they're quite small.
It's more kind of a wonder of, as we're going through this process, could those things start spilling over into the larger economies?
Got it. On the tariff impact, to what extent was that a negative or even a positive impact for you in Q4? We did pick up in some of our checks that there were customers pulling forward spend in advance of price increases. I was wondering if you noticed any of that this past quarter. That's it for me.
Had not heard that, the tariffs impact a very small subset of our products. I would be surprised. It may have been happening to other vendors, but I would not expect that to see it happen here. We're not changing prices around tariffs, I don't know that they would have that incentive for Fortinet products.
Got it. Okay. Thank you.
Okay. No.
Our next question comes from the line of Andrew Nowinski with Piper Jaffray. Your line is now open.
Great. Thank you. Congrats on the nice quarter. I just wanted to ask a question on the service provider segment. Clearly strong results this quarter, I was just trying to determine, I guess, how sustainable that is going forward. If you could just weave in maybe sort of any update on the competitive landscape in that space, given that Palo Alto recently launched a new appliance targeted at the service provider segment.
I'll kick it off and hand over to Ken for the hard part. I think the service provider has always been a very strong part of our business. It's also been one that, as a percentage of business, has been fairly lumpy from quarter to quarter. Q4 is typically a very good quarter for the service provider part of our business. We're very pleased with the results. I think in the quarter itself, we have historically done very well with the MSSP segment of that business as well as the infrastructure, and we saw deals in both parts of that business in the quarter.
Yeah. Service provider, they are, first, it's very long sales cycle, need probably one-two years to sell into a service provider. They need to have environment, more high performance and also, more reliable environment. It's a more technical buy. It's different than some competitor using the marketing power to influence some of the non-technical buyer in enterprise. Service provider, they have to be fully test the product and with both themself and also the third-party validation. That's where we're working with service provider for more than 10 years. Pretty much all the service provider, major service providers are customer, and working very closely with them and also design the function feature with them for many years together. Different than some of the competitor announce they have product for service provider, but I have not seen anything come out yet.
On the other side is really, like, with SD-WAN, with the 5G, with the new progress in the infrastructure, there's also a lot of opportunity, and the security become more complex for the large enterprise. The service provider actually can provide additional value-added service. That's where we are behind the service provider to supporting their future growth in the security space. We do expect, I think it's also service, like I said, it's really a lot of high-end product for the core and also could be a lot of edge computing, like related to the IoT, with the OT, some other part. They need both the high-end and also the edge product working together. We have the advantage of that.
Like the product we mentioned in the earning call, whether the 5000, the 7000, we have been shipping that product for a couple of years already, minimum a few years already. They really need some time to get into the space. We don't see any of our competitor come close to the position we have today.
Great. Thank you. Maybe just from a geographic perspective, you had fairly similar growth across all regions in 2018 on an annual basis. As I look at your 2019 outlook, should we again expect a balanced growth across all regions in 2019?
Yeah. I mean, that's how we assign out the quota. We are very pleased with the consistent execution across the geographies, particularly in the fourth quarter in different parts of the business. Yeah, that's how we model the business.
Great. Thank you.
Thank you. Our next question comes from the line of Brad Zelnick with Credit Suisse. Your line is now open.
Great. Thanks so much, and congrats on a great Q4, guys. I've got two questions. First, again, on service provider was a bright spot this quarter, and you call out the opportunity in 5G and Edge use cases as a key opportunity for you. Can you maybe talk about the demands for your virtual appliance in that market and perhaps more broadly, and how is the shift to virtual compare to your expectations maybe a year or two ago, and what do you think that looks like into the future?
Yeah. We also have a huge advantage on the virtual, and also we also call the virtual SPU. That's the architecture we're using with a lot of cloud provider in some virtual environment. At the same time, they also need to secure the core of their, whether the data center, the cloud, and then together with the Edge, which also needs some kind of appliance in the Edge, in the field there. That's where you can see both the cloud, the virtual growing quite well. We kind of more offer, we call the horizontal integration with a multiple cloud provider with a more broad function than other competitor, which give us more advantage as also part of the Fabric solution.
That's where whether you go to the cloud or virtual, you also need to make sure different application and also different cloud provider can working together to help customers solve the issue. That's where we do the integration much better and also more broad offering compared to some of the competitors. That's where combine the virtual with the physical together is the advantage we offer to service provider.
Thank you. That's actually very helpful. Ken, we keep hearing great things about your products from the channel, and I feel like everybody likes to focus on some of the other very large public companies in network security. I'd be curious if you can share any observations about some of the other ones that are oftentimes forgotten about, names like SonicWall or WatchGuard. What do you see? Do you ultimately believe that the lower end of the market or the smaller players out there eventually get consolidated, and are you coming across them in the field competitively? Thanks.
Yeah. There's two part. First, the security is very dynamic environment. Been in security for almost 30 years. That's if some of the company's too slow on the innovation or cannot follow the trend, the growth will be slowed down or even have to depend on acquire company to growth. Acquire company, the challenge, really, how this acquired company as a model to integrate with the existing function, existing product. That's always challenging for some of the bigger company. Some of the other smaller player actually, once they cannot really reach certain size, the investment, like whether we spend $1 billion in the ASIC technology for the SPU and also the economy of scale also starting working well.
That's also making some of the smaller competitor has less advantage, when security reach higher speed, more broad offering. That's where the consolidation also starting to happen in the space. I feel some of the smaller competitor probably starting losing some of the edge there. There's still a lot of new niche market. That's where every year there's a lot of new company come up to the space, play some of the new function, new application, new niche. The issue is really the niche market can only address some part of enterprise. If they cannot expand and cannot integrate, cannot improve in the performance, then they have difficult time to grow beyond like $100 million or $1 billion in there. That's where we see some of the old company, long-term company starting slower on some of the innovation and also the growth.
We feel with the consolidation going on, probably will not looking very good for some of this company.
Great. Thank you so much. Appreciate you guys taking my question.
Thank you.
Thank you. Our next question comes from the line of Walter Pritchard with Citi. Your line is now open.
Hi. Thanks. Two questions for Keith here. Just on the Q1 seasonality, did feel like you had a pretty strong fourth quarter in the Q1 seasonality, especially on billing seems a little bit light of what it usually is. If I look Q4 to Q1, is the simple explanation there the strength in Q4? Had a follow-up on another metric.
Yeah, it is just the very strong performance that we had in the fourth quarter. Clearly an outperformance.
Great. You did talk about, I think 2% of the revenue was from switches. I don't know if that's the largest of the non-security products. Maybe you could help us understand all in the phones and cameras and access points and any other things that weren't included in that 2%. How much of the either product revenue or total revenue is represented by non-security products?
Yeah. I think to kind of piece it out, non-FortiGate includes Security Fabric, which is the lion's share of what you're talking about. It also includes some other things, professional services, training. We actually include phones and cameras and perhaps the FortiPen, I'm not sure, in that particular group. Coming back to what really makes up secure access, Security Fabric, switches of products, it's the largest of the products. What you have that remains is 10 to 11, 12 different solutions that we offer in both hardware and software. One metric I would offer, if you total up all the software billings in secure access, they're much greater than the secure switch billings are.
I think when we start talking about our margins, while we're pleased with what secure switches bring to us as part of a deal in terms of the product margin, we understand that it does not attach quite as much service, but it's not the drain on margins that some people may think. Also keep in mind, in that particular product suite I just described, software is much larger than switches, and it's generating a lot more margin for us.
Yeah. Also, I try to make clear, we don't sell the switch separately, all the, we call the FortiSwitch, all sell with the FortiGate together. Basically, FortiGate control the switch and do some isolation, segmentation, and also some kind of a web controller function there also. That's where it has all the security function inside the switch and working with FortiGate. Switch is not sell separately. It's a part of the, we call the fabric solution. That's together with some other, the web security, email security, endpoint security, all together. Basically, it has to be sell together instead of a sell separately. That's the switch is really, we don't sell switch separately.
Okay, great. Thanks Ken. Thanks Keith.
Thank you, Keith.
Great. Thank you. Our next question comes from the line of Gabriela Borges with Goldman Sachs. Your line is now open.
Great. Good afternoon. Thank you for taking my question. Either for Ken or for Keith, I think there was a little bit of earlier color on your plans for the channel this year. I was hoping you could also elaborate on your plans for hiring for the internal sales force. How are you thinking about the pace of hiring versus last year? Where are you prioritizing adding headcount? For Keith, any color on productivity assumptions would also be really helpful. Thank you.
Sure. Kind of going in reverse order. Productivity assumptions, we had very strong productivity, particularly in the fourth quarter of last year out of the sales team. To be cautious, I'm not modeling sales productivity into the guidance, increases, if you will. I think that's an appropriate way to go about it. I think in terms of where we're adding sales people or in terms of the cadence of hiring, perhaps just a little bit behind our revenue growth number, and we're trying to keep our sales hiring aligned up with our revenue growth number. Where we're actually targeting, as we've talked before, is as we continue this expansion into the enterprise, I think one of our first areas of interest is finding experienced enterprise sales people and bringing them on board.
That's not to say we're not investing in other places, and certainly the channels I alluded to earlier, as we continue to maintain and grow the leadership position in the SMB and the channel business, you're seeing investments there as well, as well as the carrier MSSP and the commercial segment of the business. I would say kind of in the order that I just gave in terms of priorities.
That's very helpful. Yes, please.
We also were keeping invest in the marketing, both in the create a pipeline and also have a CISO level kind of influence there. I think that's where we see one of the fast-growing area for us is really the enterprise, especially enterprise in the U.S. We come from a relatively small base, but we're keeping growing much faster than any other competitor and also above company average. We're keeping investing in that area. Also we have a better tool to tracking whether the CRM, ERP, whatever, all the tool all starting working together and give us better visibility for the pipeline, for the productivity, and also how to kind of different investments, see how the return for each investment. I think we're starting to try to be more efficient going forward.
That's helpful. Thank you. The follow-up is referring back to the prepared remarks. Ken, you mentioned 2018 was a good refresh year, and then you mentioned a few really interesting company-specific drivers for Fortinet going into 2019. I've always thought the refresh was interesting because it gives you a foothold to try to displace competitors as change is happening in customer environments. Would love to understand how you're thinking about the refresh piece of this going into 2019 at the industry level. Thank you.
The refresh I keep mentioning really is more in the enterprise space. We're relatively small compared to some competitor in enterprise, but grow much faster. The refresh this time is different, not just replacing the aged firewall or the traditional firewall with new firewall, but it's really try to consolidate and also integrate, automate different pieces together. That will last a little bit longer and also making the deal also bigger, if you have more broad product offering or can partner with some other different player in the space. We feel the enterprise refresh probably will continue for a few more quarters and even maybe couple more years because all this consolidation and also multi-product working together, we'll keep doing that. We also will keep growing the enterprise space above average.
On the other side, we also see the new infrastructure, like we mentioned, the SD-WAN, the 5G, and the service provider play bigger role, more percentage into the space, also what we're helping driving. The timing of a new product, a new SPU ASIC chip also was a mark because it take us three to four years to design, since that is finally coming out now. We also benefit from all this. That's why I mentioned there's three drivers will keep us growing because the broad product from the Security Fabric more integrated to feed enterprise, consolidation, integration, and also the new product and also the 5G SD-WAN in a service provider. I think all these three drivers all beyond the refresh, and I think will help Fortinet growth for the next few years.
I appreciate all the detail. Thank you.
Thank you.
Our next question comes from the line of Michael Berg with JMP Securities. Your line is now open.
Hi, thanks for taking my question. I wanted to ask real quick on the federal piece. I know in the quarter you mentioned that there wasn't a material impact, but looking out to the guidance and even through the entirety of Fiscal 2019, what are you seeing in terms of the pipeline? Are things getting pushed or are the sales cycles being extended, or how can I think about the federal piece of the business given the shutdown?
I think to kind of frame it up, first of all, I think some time ago we disclosed the federal, pardon me, the government vertical. It was, pardon me, around 15%. It's probably the second or third largest vertical, but it includes not only the U.S. federal, which is probably the smallest part, but it also includes state, local, and international government entities as well. In terms of a direct impact of the federal shutdown, together with the fact that I think seven of the nine agencies are funded. Given the size of what the federal government is to our particular business, I'm very unconcerned about it. My concern stems from if we continue to go, if we close it down again, and it starts becoming a much broader economic issue, then I'd have concerns about it.
Okay. Then a quick follow-up. How big of a business can I think about Fortinet selling into the core of a data center? We've seen some weakness in peers. How can I think about you guys selling into the data center?
I don't think much slowdown in the data center. We mostly working with service provider, both sell into some of the infrastructure and also sell with as a service provider offer secure service to their customer. Because we launched a product like the high-end 6000, 7000 series, probably like one to two years ago, and it's starting to ramp up. We have not seen the data centers slow down. Keith, anything?
Yeah, we're both pausing because neither one of us really have any data that suggests there's a slowdown. If you're talking about the cloud providers and some of their plans or something like that, regardless, we're not seeing something impacting our business.
Okay. No, great to know. That's it for me. Thank you very much.
Uh-huh. Thank you.
Thank you. Our next question comes from the line of Daniel Ives with Wedbush Securities. Your line is now open.
Yeah, thanks. A lot of the question's been asked, but I guess maybe to frame it, look, there's a lot of naysayers, including many on the call, on your growth, and you continue to defy the skeptics. What do you think investors are missing, especially on the large deal side, in terms of what you guys are doing versus competition, as well as maybe looking going forward, the growth opportunity versus, I think some of the noise out there? I'll just frame it from there.
For me as an engineer, because we do invest in some of the long-term innovation and like from the SPU ASIC chip level with some infrastructure, some other things, and also try to see how the next five to 10 years we may keep improving position and make a difference in the space. That's where sometimes could be too technical, could be take a long time to explain to some of the investors. They are always joking me about sometimes I go too deep, too technical. That last part I still feel has a lot of value, a lot of potential, and also different than some other competitor, a little bit more short-term, some more finance-focused. We're more focused in the technology to long-term make a big impact into the space.
That's the result as whether the innovation, like the patent we have, like just reached over 600 patent, mostly from the internal innovation and also the new product and a lot of new technology function there. Like I said, we are working within the technical buyer space, whether in the Fortune 100 company, S&P 100, where I think we have 90 of the S&P 100, and also the service provider, which is really technical buyer, and also the third party testing from NSS, from the Gartner, from some other you can see. Wherever there's a IP testing going on, we're doing quite well.
Compared to some of the other competitor more on the marketing or some other sales side, we're really improving ourselves, but at the same time, we also want to keeping the innovation culture we have and also keeping investing the technology into the product. That's where we'll be. At the same time, we also want to balance the growth and with the margin, right? It's not like a growth without cost, losing money and keeping losing money on the GAAP base. We want to keeping some balance among the growth and also some of the margin, both on the GAAP, non-GAAP cash flow base. That's where from the shareholder return in the last. This year will be our 10-year anniversary of the IPO, so the valuation of stock grow more than 10x in the last 10 years.
That's where also we feel sometimes you may need to really looking back or looking forward for long-term to see some of the strategy we plan.
I think that I would offer, probably echo what Ken said. I think, one, clearly we're executing on a balanced growth approach, right? We're balancing adding to the top line, adding to the bottom line. I think that I look at the founders of the company, they're long-term investors, and I think that plays very well with them. I think also the experience, I think people sometimes undersell the experience that we have on the technology side with the founders and others about where the direction of the market is going over perhaps a longer period of time than perhaps looking at 90-day cycles.
That's great. Just on 5G, especially if we look at where that's going in the next 18, 24 months, do you feel like that's a clear competitive advantage you have, especially just given the technology and where you guys play going forward? Thanks.
That's really have to drive the growth for the next few years, even five- 10 years, because there's a core on how to secure related to the cloud side and the core data center side, and then because of our high-speed application, and also how to secure the edge related to all this IoT, OT, and how this, like a virtual combined with the physical. Also see that the 5G also more drive by the SDN, the software-defined networking, and also kind of a little bit related to the investment we made almost 10 years ago in the Wi-Fi, combined with Wi-Fi controller inside FortiGate. Then four or five years ago, starting put SD-WAN controller inside of FortiGate.
All this has to be combined together to play the 5G and also need at least five- 10 years investment, also continue working with service provider with different part of infrastructure to play the 5G. Also even some different vertical has some different requirement. Different application, different like whether related to the different kind of IoT or vertical. It's quite complicated, also need a long-term investment and also need to design together, like with the philosophy we had tried to design the security with infrastructure together. Also 5G has been there, not just about talk about for a few week, a few months, then you have something come out. It really has to take years investment and also combine with technology that the other part working with service provider for years to come up with the solution.
That's why we feel pretty confident about the 5G will help and drive for the next probably five- 10 years.
Awesome. Thanks.
Thank you.
Thank you. That concludes today's question and answer session. With that, I'd like to turn the call back over to Mr. Peter Salkowski for closing remarks.
Thank you, Andrew. I'd like to thank everyone for joining the call today and let you know that management will be presenting at the following technology conferences during the first quarter. I will be at the Goldman Sachs Conference on February 12th and the Morgan Stanley Conference on February 25th. Both conferences are being held in San Francisco, we look forward to seeing many of you in the Bay Area. If you have any follow-up questions, please feel free to give me a call or send me an email. Have a great rest of your day. Thank you very much.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, you may all disconnect. Everyone, have a wonderful day.