Ladies and gentlemen, thank you for standing by, and welcome to the Fortinet Q3 2019 Earnings Announcement Call. At this time, all participants are in a listen only mode. After the speaker presentation, there will be a question and answer Please be advised that today's conference is being recorded. I would now like to hand the call over to your speaker, Mr. Peter Salkowski, Vice President of Investor Relations.
Please go ahead, sir.
Thank you, Sherry. Good afternoon and happy Halloween, 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 Q3 of 2019. 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 providing a high level perspective on our business. Keith will then review our financial and operating results, providing our guidance for the Q4 and update our 2019 guidance before opening the call to your questions. During the Q and A session, we ask that you please keep your questions brief 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 ks 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 otherwise stated. Our GAAP results and GAAP to non GAAP reconciliation is located in our earnings press release and in the presentation that accompany today's remarks, both of which are posted on our Investor Relations website. Lastly, all references to growth are on a year over year basis unless noted otherwise. I will now turn the call over to Ken.
Thanks, Peter, and thank you to everyone for joining today's call to review our Q3 2019 results. We are pleased with our strong billings, product and service revenue, operational margin and the free cash flow performance in the 3rd quarter. Contributing to a strong Q3 result were our advanced 40XPU driven FortiGate technology, integrated security fabric solution, hybrid and multi cloud offerings and significant adoption of our secure SD WAN solution. Total revenue was up 21% to $548,000,000 and the product revenue accelerated to 20% growth. During the Q3, Fortinet was named a leader for the 3rd consecutive year in the Gartner Magic Quadrant for network firewall.
This recognition validate our advantage by enabling enterprise customers to create a secure driven network that deliver integrated and automated security to all network environments. Today, Fortinet announced the release of a new FortiGate 60F, the most popular and the best selling desktop next generation firewall the industry. The 60F leverage Fortinet SoC4 SPU that enables secure SD WAN. It delivers security compute rating for threat protection, SSL inspection and the next generation firewall performance of 4x to 47x faster than industry average appliance. The security compute rating compares the performance of our 40 SPU enhanced appliance with industry average solution in the same price range, utilize generic CPU for networking and security capabilities.
80% of 1Edge solution needs security and IDC estimate that 1Edge total addressable market will increase from 1,300,000,000 in 20 18 to 5,200,000,000 by 2023. Our Secure S1 solution clearly outperformed in the quarter. According to Gartner, in the Q2 of 2019, 49 ranked the 3rd with faster growth and 11% of SD WAN market share. This fast market share growth validate as our FortiGate solution with secure SD WAN is clearly resonate with enterprise customers. Traditional network security border are dissolving as mobile, cloud and IoT technology change the way people work and the volume of data they need to secure.
Edge computing require high performance secure networking capability and 5 gs rollout are in the early stage of providing mobility innovation and with demanding low latency and security solution. As a leader in hybrid and multi cloud as well as edge security, Fortinet ability to offer security driven networking and both edge and the cloud security with low latency and high performance is a clear competitor advantage. Going forward, we see 4 drivers for market share growth for Fortinet. First, our refreshing portfolio of FortiGate with new FortiSPU has a huge security computing advantage compared with all other competitors. This FortiGate will continue to lead in the transition to security driven networking and secure SD WAN adoption that will allow FortiNAP to gain an additional market share.
2nd, full net security fabric allow us to offer a broad automated and integrated security solution for end to end protection as customer consolidate towards a few security vendors. 3rd, Fortinet's broad range of hybrid and multi cloud solution enable us to provide security to the cloud and from the cloud. And 4th, Fortinet is well positioned to lead the transition to 5 gs and IoT security as a result of our 4 tSPU technology, which provide a huge advantage for embedded and integrated security with much lower cost and faster performance. On Monday, we announced acquisition of endpoint security company and silo. The acquisition enhanced Fortinet security fabric offering and strengthened our real time automated detection and response capability around endpoint and edge data.
I would like to take this opportunity to welcome Ancillary team to Fortinet. On November 18, we are celebrating Fortinet's 10 year anniversary as a public treated company. I want to thank the Fortinet team and our partner for their ongoing hard work and our customer for their support. You have all contributed to a great success. Now, I will turn the call over to Keith for a closer look at our Q3 performance and our guidance for the Q4 and the full year.
Thank you, Ken. Let me first note that except for revenue, financial amounts are non GAAP and growth rates are based on comparisons to the Q3 of 2018 unless otherwise stated. The slide references I make refer to the presentation posted on our Investor Relations website. I'd now like to provide a summary of our strong Q3 performance. As part of the summary, I will highlight how the diversification in our business by geography, customer and industry segments and solutions has contributed to solid growth and consistent execution.
Let's start with revenue. Total revenue of $548,000,000 was up 21%, led by strong revenue growth from our fabric and cloud segments. Revenue from our largest segment, network security, was up 19%. Product revenue growth was 20%. 20% growth represents: 1st, an acceleration of the 14% growth we achieved in the first half
of the
year 2nd, growth off increasingly more difficult year earlier comparisons as growth accelerated through 2018 and third, a growth rate that we estimate is double the industry growth rate. Product revenue of $197,000,000 benefited from the segment growth noted a moment ago as well as growth in both appliance and software solutions. Given the significance of our historical SMB business and the consistent trend in our renewals, we believe the impact on our business of an industry refresh cycle is muted. Consistent with Ken's earlier comments related to our SD WAN market share, growth benefited from the market's rapid adoption of our FortiGate based secure SD WAN offering. Our higher margin service revenue increased 21 percent to $351,000,000 and represented 64% of total revenue, up 10 points in 4 years.
FortiGuard subscription security revenues increased 23% to $193,000,000 while Forticare technical support and other services revenue increased 19% to 158,000,000 dollars Renewal rates remained very consistent with prior periods. Deferred revenue at the beginning of the 3rd quarter accounted for over 90% of services revenue and 60% of total revenue recognized in the quarter. For the Q4, we expect the deferred revenue balance to provide a similar level of predictability, accounting for similar percentages of service and total revenue. Total deferred revenue increased 26 percent to just shy of $2,000,000,000 Short term deferred revenue increased 21 percent to $1,100,000,000 On a geographic basis, revenue growth for the Americas accelerated to 24% despite a more difficult year earlier comparison. EMEA growth accelerated to 21%.
Now turning to billings. Total billings of $627,000,000 were up 19% and benefited from the diversification of our business across geographies, customer and industry segments and solutions. Network security billings, which includes products and services, increased 16% and accounted for 74% of total billings. Billings growth for non network security, which includes both products and services, outpaced network security billings. We generated billings in over 80 countries where their individual billings were less than 3% of our total billings.
In aggregate, these 80 countries represented nearly 50%, five-zero percent of total billings. While we saw somewhat slower growth in the UK and Germany, it was clearly offset by strong growth in several other EMEA countries. While service providers and MSSPs remain one of our top segments, accounting for 17% of total billings, We experienced an equivalent contribution from the government segment and a strong contribution from the financial services segment. Looking now at deal sizes. Deals over $1,000,000 increased 77% to 53 deals.
Secure SD WAN was a leading contributor to the increase in the number of deals in excess of $1,000,000 accounting for 8 deals in the 3rd quarter, up from one deal of over $1,000,000 last year. We are pleased to see the geographic diversity in all of our large deals, with over 40% of them coming from EMEA and APAC. The number of deals over 250,500,000 each increased 26 percent to 333 and 130 deals, respectively. Average contract term of 26 months was flat year over year and down 1 month quarter over quarter. And to offer one final note on diversification, since Q1 of 2017, we have not had a single transaction in the quarter that represented more than 2% of quarterly billings.
Now back to the income statement. Gross margin improved 170 basis points to 78.2%. Product gross margin improved 330 basis points to 60.7%. Product gross margin benefited from an attractive discounting environment, deal mix, software revenue growth and a stable product transition environment. Now while we're very pleased with the product gross margin performance in the 3rd quarter, we expect it to return to more normalized levels in the 4th quarter.
Services gross margin increased 70 basis points to 88%. Operating margin increased 250 basis points to 26.4 percent driven by the improvement in gross margin and operating expense leverage associated with our strong revenue performance. Total headcount increased 17% to 6,590. Given the strong operating income performance, GAAP net income was $80,000,000 up $21,000,000 or 36%. Moving to the statement of cash flow summarized on Slide 7 and 8.
Free cash flow was $204,000,000 up 29%, resulting in a free cash flow margin of 37%, up 2 30 basis points. The increase reflects strong Q3 billings, collections and the flow through of the increase in operating profit to net income. Capital expenditures for the Q3 were $17,000,000 below expectations due to the timing of construction spending. We expect 4th quarter capital expenditures to be $40,000,000 to $50,000,000 resulting in a full year capital expenditures of between $90,000,000 $100,000,000 In the quarter, we repurchased approximately 335,000 shares of common stock for a total cost of over $26,000,000 at an average per share price of $78.70 At the end of the 3rd quarter, the remaining share repurchase authorization was 616,000,000 dollars As I turn to the guidance provided on Slide 9, I'd like to remind everyone of our diversification in our model, again by geographies, customer and industry segments and solutions continuing to provide and contribute to our growth and the consistency in our financial performance. We will dive deeper into this consistency and visibility and predictability of our financial model at our Investor Day on November 18.
With that, I'd like to remind everyone of the forward looking disclaimer Peter presented at the start of the call as it applies to all forward looking statements, including the guidance I'm about to provide. In the 4th quarter, we expect billings in the range of $750,000,000 to $765,000,000 revenue in the range of $595,000,000 to 610,000,000 dollars non GAAP gross margin of 65.5 percent to 76.5 percent non GAAP operating margin of 25.5 percent to 26 percent non GAAP earnings per share of $0.69 to $0.71 which assumes a share count of between $176,000,000 178,000,000. We expect a non GAAP tax rate of 24%. For 2019, we expect billings in the range of $2,550,100,000 to 2,565,000,000 dollars revenue in the range of $2,135,000,000 to $2,150,000,000 total service revenue in the range of $1,355,000,000 to $1,365,000,000 non GAAP gross margin was 76.5% to 77%, non GAAP operating margin of 24% to 24.5 percent non GAAP earnings per share of $2.39 to $2.41 which assumes a share count of between $175,000,000 $177,000,000 We expect our non GAAP tax rate to be 24%. We expect cash taxes to between $56,000,000 to $58,000,000 Like Ken, I'd like to extend a warm welcome to the Incylo team.
Before I turn the call back over to Peter, I'd like to thank our partners, our customers, the Fortinet team for all their support and hard work. It's because of your dedication and efforts that Fortinet is able to celebrate 10 years as a publicly traded company on November 18. Ken, back then you closed the day with a market cap of $1,000,000,000 Today, your market cap is over 14,000,000,000 nicely done. Peter, back to you.
Thank you, Keith. Operator, we're ready to open it up for Q and A, please.
Thank Our first question comes from Fatima Boolani with UBS.
Good afternoon. Thank you for taking the question. Keith, I'll start with you. You've had a fairly feverish pace of gateway and new FortiGate releases over the course of this year. You're talking about Forti FPU refreshing through the base.
So I'm wondering if you can comment on general ASP trends, how you're managing around cannibalization of ASPs given the extent and spectrum of the appliances you have And any color you can sort of provide us on product shipment trends? And I do have a follow-up as well.
Hi, Fatima. It's nice to hear from you. Kind of a number of topics in there. I'll try and recall each and every one of them. I think look, I think if you look at our product suite of FortiGates, we have about 75 different FortiGates firewalls.
That probably compares to some other people that maybe are closer to 15. Why that's important, you assign some sort of life cycle to those products and you pretty quickly come up with the idea that we're refreshing our products at the pace of probably 8, 10 or 12 a year. I think we've become fairly good at it, and I don't and I think part of that being good at it means both in terms of how we manage our inventory, but also how we manage that transition with our customers. I'm not going to comment specifically on ASPs, but other than to say that I was very pleased with the trend up of ASPs in the quarter, and it's been a very consistent upward margin ASPs overall. I would attribute some of that to the fabric products, which are driving when I talk about ASPs, total billings for a solution, if you will, and I think that's contributing to our ASPs.
And I probably missed something else.
That's super helpful. Just shifting gears to the secure SD WAN traction. The 8 deals that you called out that were in excess of $1,000,000 in the quarter, I wanted to peel back the onion on that to get a better sense of who the buying audience is here and if you can speak to the competitive dynamics because relative to the one deal you did last year, I think that's a pretty significant improvement. So just wanted to peel back on some of the dynamics of the strength there.
Maybe I'll let Ken talk about the competitive dynamics and I can talk just a little bit about who the buyers are first. Clearly, the SD WAN market is tilted more towards the enterprise and less towards the SMB, and we see that in our customer mix shift in the SD WAN. But Ken?
Yes. Also, because like I said, 80% enterprise customer need SD WAN with security solution. So that's where we're the only one can integrate security and SD WAN together in a single box. So that's a huge advantage. And also the computing power, we call the secure computing region, which gave us huge computing capability, so we can easily add additional function, whether from security side or the network side, just like even with the SD WAN alone, the performance is much better than any other competitor.
And for them, they have a very limited computing power can really add any other function, whether networking securities, that's what's kind of a huge advantage going forward.
Thank you. Thank you. Our next question comes from Sterling Auty with JPMorgan.
Yes, thanks. Hi, guys. So at this point, can you give
us a sense of just how big is SD WAN as a percentage of your business?
I'd probably point to a Gartner had a report out, I think, in the Q2 that noted that our market share was 11% of SD WAN. And I think our market share a year ago was 0 according to the report. I think there's some information there that you could look at.
Okay. And then Ken,
with some of these terms SD WAN and then secured Internet access, so the Zscaler is what Palo Alto is doing, maybe can you just take a minute and help frame for investors that are asking they're asking me to better understand what is SD WAN actually giving to your customers versus what is kind of the secure Internet access that's replacing MPLS, etcetera? How do they differ and what's your opportunity in both sides of the coin?
It's kind of a little bit different market and a position. Secure SD WAN is related to the 1H transition. That's probably provide much like a software defined, more smart and reliable way, low cost way to access the enterprise, access the cloud. So that's where driving the SD WAN adoption, they grow almost 50% year over year in the next few years. And then I think the wider the scale of collateral there, say secure access more about access some of their cloud or some other part, which if you look by Gartner data, so by 2023, so security cloud security is about $4,000,000,000 market.
And network security including this is secure SD WAN is about $28,000,000,000 market, so it's 7 times larger. So that's where network security is still the bigger a much bigger part compared to overall infrastructure security. So that's where we we are the only one we offer both on the cloud side, we do have a similar solution, but we are more prefer working with service provider for some kind of a secure access or kind of a scale type of solution and more treat as a partner. On the other side, we do believe whether we call it security driven networking or some other change, which like an immigrate network and security altogether like SD WAN, like the Wi Fi, like the 5 gs. So this is much better solution and also enable our kind of technology advantage from the security process unit compared to the other security solution more using the general purpose CPU, which has a very limited security computing power to process both the security function, network function.
So it's a little bit too different approach and we do believe our approach is address much bigger market and also with a fast growth, fast transition and we position quite well compared to any other competitors.
Thank you. I appreciate that.
Thank you. Our next question comes from Keith Bachman with Bank of Montreal.
Keith, I wanted to target this to you. Your cash flow performance continues to be quite impressive in outpacing revenue growth. And I just wanted to ask you about how we should be thinking about this over the next year. Now part of it is your operating margins in the last year have gone up by over 700 basis points. And so I was just hoping to distill it down to, A, the operating margin metrics, but and B, the working capital cycle, how you see that changing and just alleviate concerns you might have about me asking questions will neutralize this for real estate.
So I was just thinking about the underlying.
Thank you, Keith. When you look at free cash flow, yes, real estate does come into play, and we expect a fair amount of spending on real estate next year. I think at the Analyst Day on November 18, I think the internal conversation here is whether you want to preview not free cash flow, but at least the real estate spending for 2020. Excuse me, I misspoke a moment ago. But I think that's you kind of just nailed it in terms of we're executing fairly well in the working capital model.
Contract terms are holding fairly firm for us. How we pay our customers or pay our vendors is holding fairly firm for us. So then it's really just a matter of continuing to manage your inventory, continuing to grow your billings and then watching the margin drop through to that cash flow number.
So is there any reason just to clarify, I mean it sounds like cash flow could continue to outpace revenue growth. Is that a fair conclusion?
I'm not going to I'm going to
just pause on getting closer to guiding on free cash flow if I can.
Okay. All right. That's it for me. Thank you.
Okay. Thanks, Keith.
Thank you. Our next question comes from Saket Kalia with Barclays Capital.
Hey, guys. Thanks for taking my questions here. Keith I'm sorry, Ken, just maybe to start with you. Obviously, a lot of traction in SD WAN. I want to ask a hypothetical question.
If you put yourself in the shoes of your network security competitors, what don't they have that will either slow or prevent their ability to offer bundled SD WAN and firewalling? And I guess where I'm going with that question is, is it the custom built ASIC processing power that we have here? Or is it a secret sauce inside the FortiOS? Maybe just to put a bone that the question is, what do you feel like the barrier to entry is with FortiGate and SD WAN together?
You can look in today's press release. We announced the FortiGate 60F and also introduced the concept we call security computing region. You can see we have a secure computing power capability probably like from 4x in some of the like threat prevention to like 47x for some networking session, concurrent session, now SSL, some other part. So that's why we have so much computing power in this, what we call, SPU, Security process unit. They do have a like a generic CPU embedded inside SPU, which can perform any whatever new function we needed.
But we also kind of making a lot of secure computing function when they build into the chip. That's where by industry staff, they have a 7 year advantage easily like close to 100 times faster and about the same cost. So that's the advantage we have is really the computing power in the security function, the network function that's enable us to easily add like SD WAN function, the Wi Fi function, the 5 gs function and also most security function compared to our competitor, they can only leverage the commercial available CPU, which we also leverage that, but we do use an ASIC handset and also build something together. So that's a few the competitor has some difficult time to catch and the Beauty and Chip made a multiple year effort. At the same time, today we have almost 30% of total global unit shipment in the whole network security.
So that's also the economy of scale also starting play. So I feel within few years we can count more than half of the total unit shipment in the whole network security space. So that also will be making any other competitor have some difficult time if they don't have the economies still to catch up because building chip, you also need a big investment in the beginning. And then once you have the quantity, the average cost can get lower. So we have this investment start almost 20 years ago when company started.
So that's where all this like almost 20 year effort investments that enable us to easily add additional function, whether in the networking or in the security. Because what we see like in my script is really that the border, the security border disappear. So this time the enterprise refreshing is different, totally different than like what happened in 6, 7 years ago. Now time the next generation firewall based intrusion prevention or some other replaced the 1st generation connection based firewall. So this time, the board is no longer there.
So you needed the internal segmentation, you need to kind of secure the server, the department, the data and also you need to secure the one connection. So that's why we have to make sure we call it security driven network and also the fabric approach to secure the whole infrastructure. So we have this kind of investment prepared in the last like 5, 10, 20 years and we feel we are much better positioned than the competitor, whether they try to do the acquisition, which will be very difficult to integrate And also without their kind of a dedicated ASIC chip, so they don't have computing power to add additional function there. So that's the advantage we have from all this long term investment and also the planning we have.
That makes a ton of sense, Ken. Just maybe for a quick follow-up for you, Keith. Keith, I think you talked about strong renewal rates with FortiGuard and FortiCare. Just to make sure it's asked, can you just talk about catch rates for FortiGuard and FortiCare and whether there were any changes in trends on particular SKUs that you saw in terms of 20 fourseven support or lower or whatever, just in terms of different trends for FortiGuard or FortiCare?
Yes. No, I think that's a good question. The renewal rates not only in total were very consistent, but also by those 2 different product lines or service lines, both FortiCare and FortiGuard. In terms of the services, we continue to see the UTM bundle of services perform very, very well. And we continue and it's been going on now for a few years, continue to see the shift on the support side from 8x5 to 20 fourseven, particularly on new deals.
Very helpful. Thanks guys.
Thank you.
Thank you. Our next question comes from Melissa Franchi with Morgan Stanley.
Great. Thanks for taking my question. Ken, I wanted to ask about the service provider space in the quarter. By my calc, I am calculating revenue down a little bit year over year. So can you just maybe give us an update on what you're seeing in terms of the buying behavior in that segment?
And then what your expectation is as we close out the year and head into 2020?
I believe our service provider do grow in year over year probably like close to 10%, but slower than the average growth in the overall company growth. The service provider kind of not just Fortinet, but like you can look in the networking company, they all kind of slow down. I believe they're in a transition time. I think the like I said, service provider, there's a 2 part, probably Keith Taylor can help add more. One is really the service provider offered a security service to their customer.
The other part is really service provider security own infrastructure. So the first part, service provider offers service to the customer side, we don't see any slowdown, but they do kind of try to see how to deploy some other service like the scalar kind of service to leverage their position, their connection, their data center to offer some other service. So we do see that ramp up pretty quickly. So that's what making that space more competitive. And service provider, because they have the infrastructure, they own infrastructure.
So they have a huge cost advantage compared to some new player, which they have to build their own data center or have to buy the bandwidth, which has a huge cost, not making them profit very, very difficult. And the second part for security, their own infrastructure, that part of how we do see some kind of a slowdown and whether because they try to figure out like a different approach structure of 5 gs or some other part, but we do believe that will start to ramp up probably next year, because we do see a lot of testing, evaluation and we do participate in a lot of like bake off and also design the future infrastructure together.
Yes. Melissa, I think Ken is spot on. I think really looking at 2 different pieces of it. 1 is selling into their infrastructure and the second is the MSSP. I think that selling into the infrastructure 2018 for a variety of reasons probably and for many companies was a very good year for people selling into the infrastructure.
So 2019 is probably suffering a little bit just by comparison. And then the second part of it is the MSSP, the managed security service providers. I think we feel very, very good about what we're seeing there with our telcos, both in the U. S. And internationally.
Okay. That's helpful. And then just one quick follow-up. Since it seems like you guys are gaining share, just looking at product growth, just wondering what the competitive response has been, particularly around pricing and discounting?
We have a much better total cost of ownership to CEO compared to any of our competitor. You can look and that's where we're using this security computing rating to compare. You can see easily all costs is a fraction of any of our competitor have to perform the same like security function or support, right? So that's where so we don't see like in the next few years, we will have lost any of this advantage compared to competitors if they really want to compete in on the cost, on the performance side and also on the security because we have much more computing power, we can enable much more security function and also go much deeper in the security function than any of our competitors. So that's where we you can see the margin we're keeping improving.
And for us to grow faster, it's really try to have a like a more sales coverage, more marketing coverage. And at the same time, like working closely together with the partner, with customer to further the change in the whole industry and whether the fabric approach or security driven networking, internal segmentation, the 5 gs and OT, IoT security. So there's a lot of things that we're working right now. We believe it will benefit both our customer and partner in the next 5 to 10 years.
Yes. Melissa, I would just add to this. So that is Keith. Discounting in the quarter was clearly a tailwind for us. We're very, very pleased where we ended up on the discounting spectrum year over year.
Great. Thank you very much.
Thank you. Our next question comes from Tal Liani with Bank of America.
Hey, thanks guys. This is Dan Bartus on for Tal. I wanted to ask 2 technology questions. The first is your Endpoint acquisition. Did I hear right that it's mainly about adding the EDR capabilities?
And if so, how do you think this may impact your Symantec partnership, if at all?
I think we do have some like our own endpoint solutions. So this acquisition will help us enhance that. But our approach is more like driven by the network security part, which is FortiGate, which is a part of fabric. We still have a very close partnership with Symantec and at the same time on the go to market strategy, we're also working more closely together. So they do have a much bigger coverage in the lot of enterprise and then we have a more coverage in the network security.
It's a win win partnership that will benefit both company.
Got you. Makes sense. And then kind of related, sorry if I missed it, but these SD WAN deals that you guys are doing, are they also typically taking your Secure Web Gateway offering? Or are they typically pairing it with another vendor? And maybe you can talk about how that might change, whether it's a large or midsize enterprise?
Actually, for the secure web gateway to web market, a lot of them to access all this and at the same time, you do need to have at least one connection there. So it actually helping
both.
And at the same time, you look at a lot of other like live player. So because they don't have the device on the premise there. Like I said, the networking side and the cloud side is a totally different concept. The cloud cannot replace the network. They need the network side to access the cloud.
And at the same time, from the user angle, they probably need to use like the secure computed region to measure whether the cost or how deep the security they can go and also how the performance they can get. Because sometimes when you forward data to cloud, that data also starting become less secure, whether you cannot really encrypt during the process of forwarding the cloud cost for secure computing reading much, much, much worse compared to some of our plans there. So that's where they need it from the total cost ownership and also total security angle to address what kind of architecture approach they have. But I do believe there's a both side have their own kind of advantage. At the same time, I don't think that both side is already kind of eating up each other's market share.
It's a little bit different approach.
Got it. Thanks very much, Ken.
Thank you. Our next question comes from Michael Turits with Raymond James.
Hey, guys. Good evening. Two questions. One, you've mentioned, Keith, a couple of times that you benefited from discounting. Can you talk about, first of all, is that across the board?
Is that again just in the Gateway Network segment? Or is it across the board? And what's driving that? Because this has typically been a very competitive market where discounting has been strong?
Yes. Discounting was across the board. I think we got a fair amount of lift out of the Americas on it, but I saw it across the board both in terms of geographies and across product offerings or product suites. I think it really brings home the notion that and Ken alluded to it for security effectiveness, security performance, security power, what you're paying for a Fortinet solution versus what you're getting, we have a competitive advantage there. And so the discounting part of the conversation should, and I think we saw in the quarter, hit our competitors who are going up against us more harder than it hits us.
Okay. And then, Ken, it was very interesting what you said about competing or selling into the service providers from an NSP perspective and talking about them utilizing a Zscaler as a solution also. So is that typically you've been very strong in selling your appliances there. Is that a competitive or substitute product for you right now to sell against Zscaler? And how are you competing with that offering?
We
are more like supporting a service provider offer similar solution, because the service provider, they do own a lot of data center, connectivity infrastructure. And in the past, they offer a little bit different kind of service, whether using the appliance or securing the data center. Now they also can like offer certain, whether they call the process to secure data in the data center or some other approach, right? So that's where we we'd be most supporting service provider, give them the flexibility, what kind of a service, what kind of a way they want to offer, we also pulling behind. Whether by forwarding the traffic data to their data center to process or they want to process locally on the edge and leverage the other part like the clean pie about some other ways to approach.
So we do offer the multiple solution for service provider depend on the service provider and the customer need. So that's just like the scale type of service, just one type of service, some service provider offering right now.
Great. Thank you, guys.
Thank you.
Thank you. Our next question comes from Shaul Eyal with Oppenheimer.
Thank you. Good afternoon, gentlemen. Congrats on strong set of results and the guidance for the upcoming quarter. Keith, not to beat a dead horse, but I want to go back to the gross margin healthy performance this quarter. You've mentioned several times that it's going to be back probably to a more normalized range.
But on the other hand, you also flagged the favorable discounting trends, the ASP, the product mix. Can you drill down slightly more into those components? Was it the discounting? Was it the product mix? Anything specific that stood out or just a combination?
And then I have a follow-up.
Yes. I think it's we had contributions to the gross margin from the discount, but also the deal mix that came through in the quarter. We also had as some of our products have matured, you tend to get cost savings on the per unit cost. We saw that trend continue through the quarter. And we also had a little bit benefit on what we would call our indirect product COGS, things like reserves and so forth and overhead.
All three of those contributed to it in the quarter.
I think on one side, you see sometimes when you sell a product, there's certain competition whether on the discounting or price competition. But on the other side, because we have a huge computing power in our SPU, so we can easily add additional function like SD WAN, which enable additional service. And service tend to have a much better margin compared to the product. So that will help. The other trend we see is really, so we call the fabric approach.
So it's a multi product selling together. That's where the fabric grows much faster than the 40 gig card. That's also making the sales cost, the deal size get bigger. So that's also helping improve the margin. So that's what we do see sometimes when there's competition, you may compete on certain product pricing.
But overall, we're keeping improving the margin by additional service, by additional product bundled together.
Got it. Got it. This is great color. Thank you for that addition, Ken. And I want to touch also on Europe, on EMEA.
So very consistent performance in the region, but you flagged that I believe both the UK and Germany. So can you talk to us a little bit about some of the dynamics that you had seen there during the quarter?
Yes. I think only slightly because we anticipated that we were going to get asked about it. I would offer that UK and Germany were slightly below the rest of the company in terms of total growth. But again, given our diversification of business, it's not significant enough to have really any sort of impact on our growth rate.
Fair enough. Thank you so much.
Thank you. Our next question comes from Jonathan Ho with William Blair.
Hi, good afternoon and congrats
on the strong results. I just wanted to maybe start out with a little bit of color in terms of the initial reception for some your, I guess, AWS based products like the WAF as a service? And maybe any commentary you have around cloud spending on the public
cloud? Look, I think we may offer a little more granularity on it
in a
couple of weeks at the Analyst Day, but both cloud and fabric are growing more than twice the rest of the company in terms of growth period over period. Do you want to talk more about WAF or?
Yes. I think Qi has a pretty good I think we'll probably go through more detail even without some sales executive or even partner customer to present together in the Analyst Day in the next couple of weeks.
Got it. And then just as a follow-up, one of the things that we wanted to understand a little bit better is just the entire SD branch concept where you're selling more than just SD WAN, but maybe bundling some other products in conjunction with the core SD WAN and gateway. Can you maybe talk about how does that maybe add to the size of the deals or maybe help differentiate Fortinet just by being able to offer a lot more capability?
Yes, SD branch maybe referred to some branch SMB part, which they more prefer like a single box, easy to manage and at the same time can extend into the Wi Fi, some other networking area. So we do see not also growing together with SD WAN approach, but it's just a subset of the total infrastructure approach we have. And but we do see like as the other part whether the fabric and the SD WAN some other part, it's kind of like the concept is we call security driven networking. That's where within the big enterprise you need to do internal segmentation, but within the branch you probably try to consolidate some kind of different product or different solution together.
Great. Thank you.
Thank you.
Thank you. Our next question comes from Walter Pritchard with Citi.
Hi, thanks. I guess two related questions, question and a follow-up. On the 26% that was the non network security, can you help us understand maybe StackRank product families and especially interested in that if SD WAN is not the largest product in that piece of non network security?
No. SD WAN has got no real impact on the mix, if you will, the business between FortiGate and non FortiGate, if that's the question. Then in terms of the contributors in the fabric suite of products, it's the same it's been before, which is 40 Manager, 40 Analyzer as well as our virtual firewalls.
Yes. The SD WAN functions is included in FortiGate as part of the Forti OS function there. So that's where so the SD WAN is not come back within the 26%. It's other non-forty gig part. I think SD WAN probably SD branch probably help a little bit, but SD WAN is always in the 40 ks.
Okay. And then just related to cloud security, you mentioned virtual firewalls. Can you talk about what drove within that cloud category the performance in the quarter? It sounds like that was a driver of the strength.
That's where we see we have a multi cloud, hybrid cloud and also like a more consistent offer, broad offering for customer, whether they use it applies on the enterprise or whatever or go to the cloud or virtualize it. So it's really the broad offering, consistency, give the customer flexibility, whether they want to deploy a function on premise in their plans or they want to deploy in the cloud and they can easily move back and forth. But also what interesting maybe some calculation using we call the secure computing rating. So the cloud offering tend to have a much higher cost compared to our plans on premise offering that we have using whether like a ACIC accelerated approach or some other approach. That's where but sometimes it probably because customer won't have certain flexibility or the management issue, they may still shorten that.
But we can easily point out to the customer, it's their choice and we offer all this broad coverage, both on the multiple cloud provider or the function we have, like we offer almost 10 different products. You can buy whether appliance or you can buy the virtualized on the cloud from FortiGate, FortiManager analyzer, sandbox in and same. There's quite a broad offering we offer to customer to give them the flexibility to select whatever they want to deploy.
Yes. And when we talk cloud, not only with the cloud providers, but it's also private cloud as well that we're providing solutions to. Okay. Thank you.
Thank you. Thank
you. Our next question will come from Gregg Moskowitz with Mizuho.
Hey, thank you very much and good afternoon guys. Getting back to the nSilo acquisition, Ken, obviously there are many endpoint security vendors out there. And so I was curious if you could elaborate on what
drew you to them in particular? We are all, we call the fabric partner. We're working together quite a while and working well together well and also have a very successful go to market approach just like the same thing we did for the FortiNac buffer network that we did about 1 years ago. So that's where now we have close to 100, 40 fabric partners. So that's where probably more need to starting from that angle first, make sure we can work in the better first.
Okay. That's really helpful. And then just for Keith, so as you mentioned, both the Americas and EMEA grew very well this quarter. Your revenue growth in Asia Pac though I think did decelerate. And I know that you were facing a tougher compare.
Just wondering if there was anything else that you would call out?
No. I think that I guess that's going to
give us something to work on in the Q4, right, including Asia Pacific back to a healthier growth pattern than we saw in the Q3. Probably a little bit of hiring lagged for the 1st part of the year. I think by comparison, we feel very good about this conversation we had at the beginning of the year about needing to get to U. S. And the Americas team focused on hiring and we see the results of that.
So I think we'll spend a little time with APAC in the next quarter.
Yes, that's probably the major part of it, but also very small part is also APAC, they tend to sell a little bit more low end. And then we do have some kind of product transition. That's where some service providers, some partner, they wait a little bit like when we announced the 60 app today, make it available right away. So that's where we're helping because the new generation will have a much better performance and about the same cost.
Okay. That's great color. Thanks very much.
Thank you. Our next question comes from Daniel Ives with Wedbush.
Yes, thanks. Can you talk about government deals? Are they starting to get larger in terms of especially as there's a move to cloud on the security side? Are you starting to see those changes on the federal in terms of pipeline?
So when we talk about government for our business, keep in mind, it's international governments and it's some U. S. Federal, but it also includes from the U. S. Side state and local governments.
I wouldn't say that there's anything driving out of the U. S. Fed business that's impacting our business one way or the other in terms of deal sizes.
Okay, thanks. And can you
just talk about just generally like hiring plans from a sales rep perspective? Like is that something you think is going to stay steady, accelerate? How would you kind of, from a high level, think about that over the next 6 to 12 months?
We are improving. So you can see last quarter Q3, we do add more headcount. And but there's some region, certain verticals still behind, like Keith mentioned, APAC. So that's where we're keeping improving there. And I think with more sales capacity, with more marketing coverage, I believe we can grow faster.
Thank you. Thank you.
Thank you. Our next question comes from Brad Zelnick with Credit Suisse.
Hi, thanks for taking the question. This is Ray McDonough on for Brad. Ken, just to follow-up on the EnSilo acquisition. I know you mentioned you had a strong partnership with them, and the company has some very interesting technology. But having been around for several years and the price you paid seems to imply they weren't generating a lot of revenue or not growing very well or a combo of the 2.
What if anything do you see that you might be able to do with the technology that maybe the company wasn't able to achieve on a standalone basis?
Like it's pretty interesting. Quite a few of our acquisitions are very similar. They have a great technology. They have a great team there, But then they need much more investment for go to market. So that's where we kind of turn on like this kind of company, so they can leverage our sales force and also our customer base to quickly help them to improve in the go to market side.
At the same time, we also want to make sure we can integrate well together. So we don't want to create too many different like product approach. But integration is one of our key. That's where we're most starting from the fully fabric partner side first to make sure we can integrate. And then that's where the decision we made and we do believe we have a great product, great team.
Thanks. And then one for Keith, if I could. I might have missed it, but can you share what unit shipment growth was in the quarter?
We didn't provide it, but I would say that what we're seeing most recently is the unit shipment growth is moving right in tandem with product revenue growth.
Okay, great. Thanks.
Thank you. And our next question will come from Ken Talanian with Evercore ISI.
Hey, thanks for taking my question. So first, could you give us a sense for the main drivers for your success in competing in the enterprise segment and maybe give us a sense for how the pipeline has evolved over the past year?
I think there's a multiple angle from the technology product side. We feel all solution product technology fit better for the changing for the trend. Like I said, the security border disappear in enterprise, so you need to go inside internal segmentation. You also need to expand in the and also working with service provider for the other cloud approach, mobile approach, all these kinds of things. And then the fabric, also we because our fabric is most of the products we build internally is integrated automate from day 1.
It's working much better compared to some other competitor that do well depend on acquisition. So that's really helping the enterprise overall infrastructure security and also making the deal like a larger and also more sticky with the customer.
Yes. I think Ken the concepts Ken is talking about, the security value is clearly at play here with the enterprises. But also as Ken talked about in his prepared remarks, being in the Gartner Magic Quadrant now for 3 years in a row has really served to open up the door and getting us invited to RFPs that 5 years ago, we probably didn't even know exist. And I think we've become pretty good and benefit from then following that up with things like NSS Labs certifications and recommendations, too many S's in that, I'm sorry. But that third party testing, if you will, I think once you're in and you have the opportunity, you're offering them these recommendations from 3rd parties together with our security value does indeed make a fairly compelling opportunity for
us. Also, we kind of more invest into the sales team and also the marketing approach there. That's also helpful. So it's really like additional sales coverage and more focus in the enterprise. And also we have a better internal tool to tracking whether the enterprise account coverage or the sales productivity.
And so I think all these different part are helping improving enterprise sales.
Okay, great. And earlier you mentioned that we take a look at the Gartner data with regards to SD WAN. It sounds like SD WAN is essentially included in FortiGate. So I was wondering if you could give us a sense for how we should think about the accounting for revenue recognition for deals with SD WAN and any kind of framework we can think about in terms of the uplift that you might see to a deal that's driven by that requirement?
Always good to have a GAAP conversation to close the call. So thank you for that. Yes, there's no difference in the accounting for it because you're selling a FortiGate appliance that has embedded with it a whole bunch of different functionalities, one of which SSL would be one as an example, another would be SD WAN functionality. And so you recognize the appliance upfront. All the appliances well, I shouldn't say all, the majority of the appliances attached out of Forticare, Forti Guard security subscription with them.
And so that part of the deal is allocated to deferred revenue and then recognized over time. But you still receive on the FortiGate, the appliance, you're still recognizing that revenue upfront.
Okay. Thank you.
Thank you. Speakers, I'm showing no further questions in the queue at this time. I would now like to turn the call back over to you for any closing remarks.
Great. Thank you, Sherry. I'd like to thank everyone for joining the call today and let you know that Fortinet will be hosting an Analyst Day on November 18, as well as attending the following investor conferences during the Q4. We had the RBC Conference on November 19 in New York, the Credit Suisse Conference in Scottsdale on December 3, the UBS Conference in New York on December 10, and the Barclays Conference here in San Francisco on December 11th. Presentations for all of these events will be webcast and a link to those webcasts will be available on the Investor Relations website on those dates.
If you have any follow-up questions regarding the call, please give me please contact me and have a great rest of your day.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.