Good day, everyone, and welcome to the Palo Alto Networks Fiscal Third Quarter 2017 Earnings Conference Call. Today's conference is being recorded. And at this time, I'd like to turn the conference over to Kelsey Turcotte, Vice President of Investor Relations. Please go ahead, ma'am.
Great. Thanks, Tom. Good afternoon and thank you for joining us on today's conference call to discuss Palo Alto Networks' fiscal 3rd quarter 2017 financial results. This call is being broadcast live over the web and can be accessed on the Investors section of our website at investors. Helloaltranetworks.com.
With me on today's call are Mark McLaughlin, our Chairman and Chief Executive Officer Stefan Tomlinson, our Thank you, our Chief Financial Officer and Mark Anderson, our President. This afternoon, we issued a press release announcing our results for the fiscal Q3 ended April 30, 2017. You'd like a copy of the release, you can access it online on our website. We would like to remind you that during the course of this conference call, management will make forward looking statements, including statements regarding our financial guidance and modeling points for the fiscal Q4 and full year 2017, trends in certain financial results and operating metrics our initiatives, plans and investments regarding our sales productivity Success and timing of integration of our newly acquired products, innovations in our product, subscription and support offering. These forward looking statements involve a number of risks and uncertainties, some of which are beyond our control, which could cause actual results to differ materially from those anticipated by these statements.
These forward looking statements apply as of today. You should not rely on them as representing our views in the future, And we undertake no obligation to update these statements after this call. For a more detailed description of factors that could cause actual results to differ, Please refer to our quarterly report on Form 10 Q filed with the SEC on March 1, 2017, and our earnings release posted a few minutes ago on our And on the SEC's website. Also, please note that certain financial measures we use on this call are expressed on a non GAAP basis and have been adjusted to For historical periods, we have provided reconciliations of these non GAAP financial measures to GAAP financial measures and the supplemental financial information that can be found in the Investors section of our website located at investors.paloaltonetworks.com. We would also like to inform you that we will be presenting at the Bank of America Merrill Lynch 2017 Technology Conference on Tuesday, June 6 and hosting Investor Day 2017 on Wednesday, September 27 in New York City.
And finally, once we have completed our formal remarks, we will be posting them to our
Thank you, Kelsey, and thank you everyone for joining us on the call today to discuss our fiscal Q3 results. In the Q3, revenue grew 25% year over year to $432,000,000 and billings grew 12% year over year to $544,000,000 We generated free cash flow of $163,000,000 and reported non GAAP earnings per share of $0.61 up 33% year over year. As many of you know, We initiated a sales force reorganization at the end at the outset of our fiscal Q3. We are making solid progress in these efforts and are on track with our project plans. While we have much more to do and it will take time to fully realize the impact of these changes, Early feedback from customers, partners and our sales team has been good.
Now turning to the quarter. In Q3, new customer adds were the 2nd highest We are now privileged to serve more than 39,500 customers worldwide, including 86 of the Fortune 100 and approximately 1200 of the Global 2,000, 40 of which we added during the quarter. Feedback on our technology, approach and strategy is very positive as evidenced not only by higher rates of customer acquisition, but also by external recognition. For example, customer satisfaction is very high as measured by our Net Promoter Score of 73, which is more than 20 points higher than what is considered a best in class Net Promoter Score of 50. And in Q3, we were privileged to earn the SANS Best of 20 16 award for Next Generation Firewalls, which was voted on by the Sands community of security operations professionals and security managers from around the world who have used our technology to increase the effectiveness and efficiency of their cybersecurity programs.
In Q3, we continue to see strength not only acquisition, but also an increasing wallet share of existing customers for our next generation security platform. In the quarter, All of our top 25 lifetime value customers again made purchases and to make this list a customer had to have spent a minimum of $20,100,000 in Lifetime value, a 61 percent increase over the $12,500,000 in Q3 of fiscal 2016. Specific examples of customer wins and competitive placements in the quarter included a Checkpoint data center replacement for 1 of the world's largest retailers, an 8 figure deal to replace Checkpoint in a large U. S.-based Auto insurance provider, a 7 figure Cisco replacement that included all of our attached subscriptions where we became the security platform for 1 of the world's largest travel companies based in Europe, a 7 figure Cisco replacement with our PA-seven thousand and eighty chassis A new PA-five thousand two hundred series devices at a multistate network of physician clinics, outpatient centers and hospitals in the United States, A 7 figure deal to become the security architecture for 1 of the largest insurance companies in the United States, including securing their cloud And 2 large antivirus replacements with Traps in 1 of Southeast Asia's largest banks as well as a U.
S.-based healthcare provider. We're able to win at very high rates in a very competitive market because of the unique capabilities of our platform. As the recent WannaCry Global Attack illustrated, The need for integrated and automated security is growing quickly. We are always pushing the innovation curve to keep customers safe across their entire architecture, including on premise, endpoints, 3rd party SaaS applications and public and private cloud deployments. And this approach It's constantly enhanced by the network effect of tens of thousands of customers and our technology partner ecosystem providing leverage to each other through our platform.
Our continued innovation has been well received by the market. Our new hardware generated very high interest in the quarter and we were pleased that Demand for these new products exceeded our internal forecast. Also, market reaction was very positive to the introduction of our new high performance virtualized firewalls as well as our new 8.0 operating system with more than 70 new security features that enhance all aspects of our next generation security platform. Momentum with our attached subscription services was also evident in Q3, including wildfire where we added approximately 1500 new customers. We've been adding over 1,000 wildfire customers per quarter for over 3 years and are now serving approximately 17,000 wildfire Wildfire is a great example of how our integrated and automated approach to enterprise security not only improves prevention outcomes, but also drives operational efficiencies for customers overwhelmed by the numbers, cost and complexity of legacy tools and point products.
With the size of our customer base and capabilities deployed, We're also using analytics to provide differentiated tools and actionable intelligence. We saw strong customer growth in AutoFocus as well as a high degree of interest in our newly acquired LightCyber technology. We remain on track to have LightCyber integrated into our platform and offered as a subscription service by the end of this calendar year. In addition to analytics, cloud security is top of mind for our customers and we continue to see solid uptake on our In Q3, we saw strong sequential growth for Aperture, added hundreds of VM Series customers and are continuing to expand our market reach by leveraging our partnerships with all leading cloud infrastructure providers. And traction continues to grow nicely for Traps where hundreds of channel partners are now selling Traps We are serving over 1,000 customers.
In early May, we announced the latest release of Traps Endpoint technology. Enhancements in this 4.0 release include the addition of support for macOS and a beta for Android, plus several new prevention modules designed to detect Security Management Pool Panorama. In just a couple of weeks, we are expecting thousands of guests to join us in Vancouver for Ignite, our annual user conference. This has proven to be a great and highly anticipated event by our customers and partners. We hope to see you there.
Registration information can be found on the Palo Alto Networks website. And with that, I'll turn the call over to Stefan.
Thanks, Mark. Before I start, I'd like to note that except for revenue and billings figures, all financial figures are non GAAP and growth rates are compared to the prior year periods unless stated otherwise. In our Q3, we saw some early positive indicators of the changes we're making in the go to market Sales productivity improved sequentially with product revenue coming in better than we had expected as customers invest in our next generation security platform. We delivered record revenue, strengthened our balance sheet and generated strong cash flows. Turning now to the financial highlights for the quarter.
New customer acquisition and expansion within our existing customers drove revenue growth of 25% to 431,800,000 Looking at the geographic mix of revenue, the Americas grew 22%, EMEA grew 32% and APAC grew 33%. Product revenue of $164,200,000 grew 1.3% compared to the prior year. Increasing adoption of our 8 subscriptions and high renewal rates continue to drive sales in the recurring portion of our business. Q3 SaaS based subscription revenue of $143,200,000 increased 55%. Support revenue of 124,400,000 In total, subscription and support revenue of $267,600,000 increased 46% and accounted for a 62% share of total revenue.
Billings of $544,100,000 increased 12% and contract duration was unchanged compared to the prior year. Total deferred revenue of $1,600,000,000 increased 51%. Moving on to margins, Q3 gross margin was 76.4%, a decrease of 150 basis points compared to last year within our target range of 75% to 78%. The decline was primarily attributable to the new products we introduced in the quarter. As we indicated on last quarter's call, new products typically have a higher initial cost of goods sold, which will improve over time.
Looking forward, we expect there will be fluctuations in product gross margin, particularly with the recent introduction of our new products when we typically see a decline in Product gross margin for a few quarters. And in the quarter, discounting decreased sequentially and was essentially flat year over year. Q3 operating expenses were $250,800,000 or 58 percent of revenue. Operating margin was 18.4% in Q3. Net income for the quarter grew 35 percent year over year to $57,100,000 EPS grew 33 percent to $0.61 On a GAAP basis for the Q3, net loss was $60,900,000 or $0.67 per basic and diluted share.
We finished April with cash, cash equivalents and investments of $2,100,000,000 During the Q3, we Purchased approximately 1,100,000 shares of common stock at an average price of $113 per share, leaving a balance Approximately $705,000,000 available for ongoing repurchases. E3 cash flow from operations of 211.2 for our new headquarters. Free cash flow was $162,600,000 up 8% at a margin of 37.7%. Excluding CapEx related to our new headquarters, free cash flow was $195,400,000 up 29% at a margin of 45.3%. DSO was 78 days within the target range of 70 to 80 days.
Turning now to guidance and modeling points. This guidance takes into account the type of forward looking information that Kelsey referred to earlier. It also takes into account the work we still have to do on the go to market For fiscal Q4 2017, we expect revenue to be in the range of $481,000,000 to 491,000,000 an increase of 20% to 23%. And we expect non GAAP EPS to be in the range of $0.78 to 0 point using 93,000,000 to 95,000,000 shares. In addition, we expect the following modeling points for Q4 2017.
Billings to be in the range of $625,000,000 to $645,000,000 product revenue to be in the range of $188,000,000 to $191,000,000 and CapEx to be approximately $55,000,000 including $30,000,000 related to our new headquarters. And for the fiscal year, we expect non GAAP operating margin to be 19.5% to 19.6%, which is an increase of 220 Included in the 220 basis points to 230 basis point improvement is approximately 100 basis points of organic operating margin expansion and 180 basis points to 190 basis points positive impact from the deferred commissions change, offset by an approximately 60 basis And we expect fiscal 2017 free cash flow margin excluding our headquarters investment to be at least 40%. With that, I'll turn the call back over to the operator for questions.
Thank you, sir. We'll take our first question today from Gabriela Borges with Goldman Sachs.
Great. Good afternoon. Thanks for taking my question. Maybe to start off for Mark, you mentioned in the Had remarks. A little bit on the progress you've made with the sales force and that there is still some work to do.
Maybe you could just give us a little more detail there on what you feel you've accomplished Thus far into the second half of the fiscal year and what are some of the milestones that you're looking to achieve with productivity and other internal metrics as we go through fiscal year and into the next fiscal year. Thank you.
Yes, thanks for being on the call. Yes, as we mentioned last quarter with the reorganization, we are taking a 4 step approach We needed to design what we wanted to do differently. We want to communicate that to everybody. We needed to do account mapping exercises to put these accounts in the right place coverage wise. I think we need to make sure everybody is in the chairs to cover that.
And then we have to run it that way. So, over the course of last quarter, We got the design work finished, the communication work finished. We've mapped all the accounts and now we need to make sure that the folks who are in the to cover the accounts and other folks who have just picked up accounts are working as fast and as hard as possible with our help to build those relationships in those accounts as well. So that's where we are Right now, we'll be continuing that through the Q4 for sure, and hopefully see all the positive impacts from this through
That's helpful. And as a follow-up if I could, just on the comment that discounting activity has moderated year over year. Just your thoughts on what you think is driving that. Is it a function of some of the new products? Is it a function of competitive environment or FX?
Anything that would be helpful.
Well, the different folks in the market have different go to market motions. Ours has always been to really focus on Security reduction of complexity and then of course we want to deliver that in a way that is within the cost envelope of what customers have other folks Come at it from the bottom of that stack and really excited to go from a cost perspective and work their way up. That's not really been our go to market motion. So We believe there's a lot of value in the problem. We train our salespeople and talk very consistently to the value proposition that's going to provide for
And we'll take our next question from Gregg Moskowitz with Cowen and Company.
Okay. Thanks very much and congratulations on a nice bounce back quarter. Mark, just to follow on Gabriela's first question, if We could apply the overused baseball analogy to the progress made with respect to your sales reorg, what inning would you say that we're in right now?
I'd say, bottom of the second, top of the third.
Okay. That's helpful. And then just For Stefan, any color that you can provide on the percentage of units roughly that were shipped this quarter that came from the new product family? And then if you had any commentary just as it relates to ASPs for the new product sales vis a vis the prior ones? Thanks.
Well, we were very pleased with the adoption of our new products. They fill a need in the market and they also fill the need in our overall product lineup. We don't give exact percentages of what percent products were shipped coming from different units. I can tell you that adoption was very strong. And as far as ASPs are concerned, The ASPs were very healthy kind of in line with what we thought.
Anytime you have a new product introduction, you're going to have And overall, it was a net positive for our business.
And we'll take our next question from John DiFucci with Jefferies.
Thank you. I guess my question is about the new products that came out. And do you think that I mean, I know you had talked a lot about the Sales reorg and it sounds like that's going well. But it also seems like there's most likely some pent up demand Sort of waiting for these new products. Do you think that that had ended up looking in hindsight had an impact that was material The results for the last couple of quarters.
Hey, John, it's Mark. It's always hard to tell, right? When you have new product introductions, we have to assume that there would be some slippage From one quarter into the next as folks even hear what the new products are about. So we assume when we came out of the 2nd quarter that we might have seen some of that fall into the 3rd quarter. I'm going to have to assume that some of the overage in the 3rd quarter is associated with that as well.
I don't think that was the majority of The over performance of what we guided there, but and it's very difficult like to be to tell to be exact on that one way or the other, but I assume there's some of that in there first.
Okay. Thanks a lot, Mark.
Sure, John.
We'll go next to Matt Hedberg with RBC Capital Markets.
Great. Thanks guys. Congrats on
the quarter as well from me. Growth in EMEA was particularly strong. I'm curious, is that more a function of easier compares Or are European customers starting to talk more about the breach notification going live next year?
Yes, Matt, it's Mark. A couple of things on that. One is just As a size of market, EMEA is a large market. And when you look at just the dollars We think we have a long way to go and grow in that market. So we would expect to be able to grow very healthily in that market for some period of time.
So we To see 3 handles are better on the growth, so we'd like to see that in the quarter. For the GDPR, which is the legislation you're talking about, There's certainly a lot of attention and focus on it. That basically is legislation that's going to present companies with some pretty large fines If they're found to be lacking in their duties of using state of the art technology, which is not a defined term in the legislation, but it But it talks about it that way, state of the art technology. So there's a lot of focus from companies and Boards of Directors to say, are we doing that, right? And I think that's really driving a lot of interest in getting off of legacy technology and that's certainly a great opportunity for a platform provider like ourselves.
Great. Thanks.
And we'll take our next question from Philip Winslow with Wells Fargo.
Hey, thanks guys and congrats on a great bounce back quarter. I have a question about the just the aging of your installed base. The last Analyst Day, you all talked Just the potential wave of appliances coming up for renewal. Wondering if you could give us some more detail just sort of what you saw this quarter, maybe compare that to The prior few quarters if that wave starting to come on or if that's still on the come?
Hey, Phil. Yes, it's Mark. Yes. I think that the majority of what I would call that the refresh potential for us is in the future and that's just simple math and looking at the classes. So we consider This is cohorts and do them by year.
And if you look at how the cohorts build, over time each year is getting substantially bigger. So When we if you think of like 4 to 7 year average refresh cycle somewhere in there, the big, big, big part of our customer base It's going to be in refresh cycles, I think coming a couple of few years' time versus the last couple of few years' time. So we think That's something that should provide a tailwind for us to go forward.
Got it. And then just one quick follow-up to that. I mean, in terms of just the new products that you all In February, how do you think that influences either which way, just the timing of people refreshing the install base Considering you just have a new set of virtual and physical appliances out?
Yes, I think it'd be helpful. Maybe an obvious point that when you have new capability sets in the market, it gives the There's more choices. We like the lineup of technologies we had prior to the new products we launched. We just complemented them with a whole set of new products as well. So When customers are thinking about what their needs are, price performance needs are, throughput needs are, we've got a very full lineup now of Capabilities, that's a lot to upgrade, for refresh when they're so inclined, when they reach that sweet spot in their refresh cycle.
We'll take our next question from Saket Kalia with Barclays Capital.
Hey guys, thanks for taking my questions here. First maybe for you Stefan, you said last quarter that billings should lag revenue growth by about 10 or 15 points at least for the back half of this year and it looks like that relationship will hold here in the Q4 as well. Realizing that you're not ready to give us guidance for fiscal 2018 yet, can you talk qualitatively if that relationship
Thanks, Saket. So last quarter we did say that the billings growth rate would trail the revenue growth rate by about 10 to 15 points. In Q3, we came right about in the midpoint of the range. Our Q4 guidance actually indicates that The range is improving. The range if you were to benchmark it off of the midpoint of our revenue guide, it's about Billings growth rate is about 8.6% to 12.1% below revenue growth.
So that range It's actually improving. And it's too soon to call what's going to happen in 2018. But we're definitely, we're doing everything that we can to improve the growth profile of the company.
Got it. And then maybe for a follow-up here quickly for you, Mark, And maybe more philosophically, how do you think that last quarter's experience is going to change
that playbook in sales that's been successful for so long in terms of Splitting territories, allocating resources, how do you think about that playbook changing perhaps after last quarter's experience?
I think that some of the chapters in the book are good and some of the chapters have to be modified, right. So the We will continue to split territories. We wouldn't do it at the rate and pace that we've done in the past. I think we talked about that What the capabilities that are from a sales team perspective on various customers and bigger customers. So there are things that I would say will We're somewhat timeless when you think about sales playbooks and then there's the execution limitation of them, which may be unique to each company.
So we learned a lesson on that stuff and we're going to apply that in fiscal 'eighteen and
We'll take our next question from Jonathan Ho with William Blair.
Yes, Congratulations on the strong quarter. Can you just talk a little bit about maybe shift or acceleration of virtual appliances and what you saw this quarter, Essentially relative to the public cloud.
Hey, Jonathan, it's Mark. Yes, we continue to see really nice adoption From the M Series and a lot of that's being used in the public cloud environments as well as private cloud. Our NSX is doing very well. We've had that relationship for quite some time. We're seeing, hundreds of customers in the public cloud environments using the VM Series as well, And we would expect that to grow over time.
There's a lot of different angles on that that we look at. One is lead generation. We're seeing some customers use us for the very first time in AWS, for example, and then we get the lead in order to follow-up to see if we can provide additional security outside of Just using AWS, we're seeing that across Azure, Google, other infrastructure providers as well. But it seems like it's a it seems like a solid growth for us.
Got it. And then just relative to WannaCry, are you seeing any sort of impact from the increased attention around breaches or do
you think this is just More sort of support and removal of friction around the spending? Thank you.
Yes, sure. A couple of things on that. The 1st is, WannaCry certainly got a lot of public attention. It's there's going to be another attack like that. I can't say what it is, don't know when it's going to be, right, but there's always going to be the next one.
I think the WannaCry thing raised a lot of awareness and anxiety, one, because it Really kind of focused in the healthcare community at first that moved out of there. So further evidence of I'll call critical Aspects of our society that relying on the digital age of technology being at risk and certainly we capture our folks' attention. The other thing I think it highlighted for us As well as opportunity is the increasing need for platforms. I think WannaCry was looked at primarily as like an endpoint problem, But it's broader than that. Once it gets into an organization that moves around, it has the ability to spread.
So platforms like ours are uniquely able to handle that stuff. So Traps, for example, would have stopped it on the endpoint. If it were in the network, wildfire would have picked it up. If it was somebody was going to download it from a malicious URL, PNDB would have stopped that. Refravention would have stopped lateral movement and the internal spreading of the infection.
So it really helps to have multiple ways to defeat And WannaCry is a great example of how a good position you'd be in if you had all those capabilities there.
We'll take our next question from Michael Turits with Raymond James.
Hey, guys. Two questions. First, you had talked in the past about the back half of the calendar, you're getting some tailwinds both from the product refresh in general as well as the new Product cycle, does that still look like something that could be an accelerant to growth at this point?
Michael, yes, we talked about we certainly talked about that in the We talked about that in the beginning of the year and we had laid out a number of reasons why we believe that product growth would accelerate partly due to the ramping capabilities at Salesforce, partly due to the assumption there would be new product introduction, service provider business, Increasing productivity, a lot of that holds true, but we have the crosscurrent of the sales force reorganization and things that we're dealing with. So there's puts and takes on both sides of that. We're Happy to see the product revenue come in where it didn't acute in the Q3, but frankly we're not satisfied with where we are and we think we can do better and we aim to do better.
Okay. And then, second question, a bit more specifically on the VM Series. One of the important things about the new release was the increase in throughput or Capacity for the new virtual. So what's been has there been a measurable impact from that both in terms of cloud adoption and utilization and as well Perhaps on prem or in the private cloud, the people thinking about it relative to other trade off using virtuals versus using physical box?
Well, I think there is well, here's how we think about it. I think a lot of customers are thinking this as well, which is it's really kind of use case specific. So your data is going To reside in different places, it's going to be computed in different places, it's going to move back and forth very hopefully very efficiently and without friction. And that's really what we're trying to do with the platform is providing security in all those places. So when you talk about The cloud and use cases like East West traffic and highly virtualized data center, one of the things you're going to see there for sure Just an ever increasing amount of throughput requirements because volume is growing from number of applications, number of third party Applications being used from encryption and decryption capabilities or decryption needs for example, so throughput is going to continue to rise over time.
So I think in the case just like we did with our hardware of having the much higher performance, Same with the virtualized firewalls as well where we quadrupled the performance there and we're going to keep growing that Because those use cases, whether they're physical or in the cloud are going to demand higher and higher throughputs.
We'll take our next question from Andrew Nowinski with Piper for Jaffray.
All right. Thanks. Just a question
on the product guidance product revenue guidance. You have great upside in the quarter. You had 1% Year over year growth off of tough comp. I guess why aren't you expecting that momentum to continue in July quarter since your guidance suggests that product revenue will decline on a year over year basis? Is that just you being more conservative than usual?
So when we're looking at the product side, we're happy to see where we came in the Q3. Of course, like I said, we're not satisfied big picture of where we are and we aim to do better than what we're doing. We're Big picture of where we are and we aim to do better than what we're doing. When we look at the 3rd to 4th quarter, we're still looking at like a 15% sequential Increase from the 3rd to the 4th quarter of the guide we gave. So that's a big increase.
It's a dual point increase for sure, if we think and we expect to get that done. But we're kind of looking at that on a relative basis sequentially and then we're looking on a year over year basis as well. We're coming off very, very high comp for the Q4 of last year.
And we're still in the midst of going through the sales force reorganization. So, that also is across current.
That's right. Okay. Got it. And then with regard to Traps, it's still you certainly continue to add more customers, but still has I think Penetration rate of less than 3% of your installed base. When do you think it's going to start to gain a little bit more traction?
When do you think we'll start See that penetration rate increasing at a faster clip?
Sure. Yes, that's actually an area of an intentional focus for us, Andrew, which is Given that we've been in the market for about 3 years now as one of the next gen providers, after AV replacement budgets like everybody else is, we've been very intentional in targeting new customers as well as our existing customer base for larger customers and larger deployments of endpoints. And That's what we're accomplishing. We're very happy to have over 1,000 customers now. Rate of customer growth is good.
We would expect the penetration rates to go up faster later, but As we saw for all this referenceability that we're getting now and increasing technical capabilities like the 4.0 release, I think that with all that focus in mind, we're getting where we want to go. And when you think about the next gen AV providers in the market today, Based on what we know about that, we think we're one of the biggest from a sales perspective.
We'll take our next question from Michael Kim with Imperial Capital.
Good afternoon, guys. Just to follow-up on Traps. Are you seeing an increase in head to head evals and any early feedback on win rates? And Out of that 1,000 customers 1,000 odd customers that you've accumulated or the majority of those existing are net new logos?
Yes, sure. So, we're doing lots of head to head. That's exactly what we're trying to do, right? We're focused on trying to take the AV budgets from legacy AV providers when a lot of people are dissatisfied with them. So We're certainly seeing them head to head and then in a lot of those situations, not surprisingly, a lot of the NextGen folks are being evaluated.
And kind of as As a side note to that Michael, one of the interesting things that we found with the customers that we've acquired so far when we surveyed them that Well more than half of those customers when asked why are you buying Traps from Palo Alto Networks. In addition to saying it's a great best of breed next gen Endpoint security capability are saying because it's actually very well integrated with my network security capabilities and increasingly with my cloud security capabilities. That consistency is very important and that approach that we're driving is very important. Can you remind me of your second part of your question?
Yes. So I was curious out of the 1,000 odd customers you have today, how much how many of those were net new logos to Palo Alto versus Customers and curious kind of what the initial uptake has been?
Yes, Michael. Mark Anderson here. It's actually a pretty good balance that we have. I'd say close to fifty-fifty. And the great thing is our core sales team is getting better and better enabled each quarter at being able to integrate The Traps story into their next generation network security story and prove the value of these two things working So whenever we do get a Traps customer that's a first time buy, we're able to go back in and very seamlessly So network security as well.
Great. Thank you very much.
We'll take our next question from Pierre Ferragu with Bernstein.
Hi, thank you for taking my question. We talked a bit about like the refresh And I eventually got confused about how much refresh do you have in product revenues reported this quarter, is that like am I right thinking it's still like a very, very negligible, very small part of your business and most Firewalls you're selling today are still like adding up to your installed base or is the refresh business already something fairly sizable and would you have an idea of What percentage of your product revenues would be refreshed already today? And then I'll have just like a Very quick follow-up on sales cycle. We've heard a lot over the last 6 to 9 months in the industry that sales cycle were Yes, like the latest update on that front as well.
Yes, Pierre, it's Mark. I'll take the first question and pass off the second one to Mark Anderson. On the refresh side of it, we don't break out the percentage of what portion of product is coming from new expand versus refresh. What I can say on the refresh side is the refresh for us has been strong in the past through our cohorts, which which is great. You can kind of get a sense of that when you think about our renewal rates, our NPS scores, all these other externalities that point to customers really like Palo Alto And they tend to refresh with us as well.
Back to the cohort thing I was talking about earlier, the percentage of the business is coming from refresh has been increasing just kind of naturally mathematically as we graduate years, if you will, through those cohorts and we would expect it to increase into the future. Yes.
Bonjour, Pierre. So as far as the sales cycles go, I think the new normal is that these sales cycles are taking longer. Clearly, security continues to be a Board level number 1 or number 2 priority for customers at every level. And there's also copycats out there in the market that are mimicking the value proposition that Palo Alto Networks kind And really that's getting our sales teams trying to work hard to solve to a technical proof of concept because when we get a chance To demonstrate in their with their live network traffic how differentiated we are, we typically win. So That does take a little extra time.
We've sort of factored that into our forecast and guidance each quarter. And certainly, our sales teams have kind of You'll factor that into their campaigns to win customers to really get to that technical proof of concept.
Thank you.
We'll take our next question from Shaul Eyal with Oppenheimer.
Thank you. Good afternoon, guys. Congrats on the solid execution, quarterly performance. Mark, how's the light server integration I don't know if you can quantify or provide us with some color about some potential contribution this quarter.
Sure. Let me take that financially first and technically second. On a financial basis, the contribution was de minimis from a top line We gave some guidance last quarter from the impact from an operating margin perspective, which Stefan went over. On the technical basis, the integration is going as We're on our project plans for that, which is fantastic. We expect that will be a subscription based service, like I said, before the end of the calendar year.
Just As a kind of a side note on that, and you'll hear more about this at Ignite if you attended tonight. That's an example of capability, which is a really great Technical capability, highly innovative for network behavior analytics, that when it is integrated in the platform, will take something that had historically been a product like byproducts and deployed everywhere to something that is a software, so as a subscription service without having to deploy additional hardware. The feedback from the customer base on that model and what we're demonstrating there with White Cyber has been very positive so far feedback wise. And they also like the service It's a very important service to find anomalies when somebody is moving through your network and they're looking for just getting that best of breed capability as well inside the platform.
If I could just add to that, Mark, I think from a people standpoint, we're really impressed with the quality of the people that came over with LifeCyber. They've Co located with our Tel Aviv team in Israel and it's a really good fit.
Got it. And then in the latter part of calendar 2016, if I'm not mistaken, you've established a telco related type of activity or Maybe Tucker related group. Just interested, Mark, to learn how the ramp up has been coming along so far.
Sure. Yes, that's the service provider group. We Talked about that a couple of years ago actually saying we wanted to be very focused on that more so than the past on the service provider because it had been a couple Years ago, relatively untapped market for us, right? The service provider market has some very specific technical needs and capabilities. It also has some very specific Go to market requirements where you have to understand them, you have to talk, you have to know what their needs are and relationships really matter.
So over the course of the last couple of years we've been building up a service provider team that has been built out very well and they're contributing very nicely to the business. We'd expect that business to grow over time for
We'll take our next question from Catharine Trebnick with Dougherty.
Thank you for taking my question. Mark, I have a question regarding your virtual firewalls. It seems to me, you said on earlier in your commentary several 100 this quarter. How could you explain how differentiated you are with your virtual firewall versus Check Point in the AWS cloud or Azure? It Seems to be rapid migration to cloud right now.
And where do you see fitting into this migration? And how fast is this Possibly replacing some of your core hardware products. Thanks.
Let me come at that backwards, Catherine, for Which is, so far and we think this will continue into the future. We've seen the cloud in general and then, our VM series and other cloud aspects Like Aperture B Additive. So we think that's a lead provider for us and a growth provider As far as differentiation relative to any of the competitors, really kind of three things going on there. The first is that the our VM series Does exactly everything that our physical capabilities set would do. And the physical capabilities, as you know, the hardware capabilities So we virtualized all that quite some time ago.
So the difference is that customers really loved and appreciated in the physical world, they get all those in the virtual world as well. So that's a Starting point, a very important point. The second part of that is just part of the platform. So you don't have to give up or accept different or lower security capabilities when you Go to the cloud with Palo Alto Networks, you get to have all those capabilities seamlessly from endpoints to network to cloud to private cloud, 3rd party SaaS applications, it's exactly the same outcome and customers really love the orchestration, the automation that you get, as a result of that as well. So those are the fundamental two kind of differences on a competitive aspect that people really Appreciate when they look at our VM Series.
Thank you.
We'll take our next It's a question from Ken Talanian with Evercore ISI.
Hi guys. Thanks for taking the question. So first off, Have you seen any changes in the customers' desire to do multiyear deals? And then can we along with that, can we expect contract duration to remain relatively constant going forward?
Over the years, we've seen a slight uptick in contract duration and that's really been customer led. And it's an indication of our of the value that we're bringing to the table and that customers want to standardize on us for a multiyear period And also renew at very high rates. Contract duration has been stable year over year. It's hard to predict where contract duration is going to go. But at this point, from our own internal modeling standpoint, we're not Assuming any wide variation in contract duration on a go forward basis, time will tell.
Okay. And just as a follow-up, I know we've sort of touched on this before with some of the prior questions, but, I'm just curious what have Which of the new appliance families demonstrated the most traction in the quarter?
Well, we saw great traction from the PA 5,200 series and also the PA 2 20. And the 800 was also good too. So it's really kind of across the board. We saw really nice adoption.
And we'll take our next question from Walter Pritchard with Citi.
Hi. Question on your product revenue, you've had pretty dramatic difference in growth rates over the last couple of years and your billings are growing probably in line with the industry, your product Revenue probably growing below the industry, although as many have pointed out off of tough comps. I'm wondering how you think about that going forward. Just Roughly, you generate a lot of subscription attached, you have the unattached subscription. And I'm wondering if we'll continue to see a total business that grows well in excess of product or if you think those will converge as things start to normalize here?
Hey Walter, yes, a few thoughts around that. One is, Like I said earlier that where we were happy to see where we got the product revenue from a 3rd quarter perspective, in general matter we think we can do better. We plan to do better along these lines. When we think about the industry, it doesn't look as though people really break out product or what's hardware specific in the industry. One of the things we look at is just How much money gets spent by everybody that they report on the hardware side and we continue to take more than our fair share on that from product perspective.
We also know of course there's a relationship between the products of the hardware and the attached services as well. So As we work to improve the product revenue growth over time then that would have some impact on the attached subscription services and we're doing very well on the non attached as well from Growth perspective that's a small part of the business, but growing very quickly, so we'd expect that to do better over time as well. There's a lot of things into the mix around that, which all comes out in the wash Billings growth and total revenue growth, over time, which is we're very focused on as part of the total platform.
And any comment on unattached revenue this quarter? Just any run rate or anything to help us understand sort of traction collectively in that part of the subscription business?
Sure. Yes. We talked about the attached business on a semi annual basis, but we can we said last quarter it was about 2.6 on the attached side and it went up.
And then on the unattached business, it was very good. We had we referenced in our prepared remarks The number of new customers, that's an indication as well of the traction that we're getting.
And ladies and gentlemen, our final question today comes from Keith Weiss with Morgan Stanley.
Thank you guys for sneaking me in. One of the things that I want to just kind of drill down into is or better understand is the dynamic on how you're able to like Keep adding customers so well. You had a really good like new customer add quarter despite the fact that you're going through a sales reorg. And So one, like how does that dynamic sustain? Like how do you guys sustain new customer adds so well while you're going through the sales reorg?
And then on the flip side of the equation, while new customer adds look to be up pretty nicely on a year on year basis, product revenue was basically like flat on a year on year basis. Should we take away that sort of where the weakness resides just more in terms of sort of expanding existing customers more so than getting new customers in the door?
Yes, it's a great question Pete. Well, a couple of thoughts on that. The first was, and I'll take this in reverse as we said last quarter. When you look at our business, It's going to come from new customer acquisition and expansion of existing customers. About 2 thirds of our business today is driven by expansion opportunities with customers we've already acquired.
So of course, we want to continue to have high rates of customer acquisition. I'll come back to that thought in just a second. We're very happy to see high rates of customer acquisition. Then the trick is to expand the business side of this. And where we had some issues and we're working through them with the reorg stuff was Looking at the lifetime value expansion when you look at the segments of the market.
So when we look at the highest end segment of the market, which is The Global 2,000 biggest customers, wallet share lifetime value expansion has done very nicely there and continues very nicely there despite some of the issues that we've talked about before. It's About getting the lifetime value expansion where we want it to be and where we've had it historically below that segment of the market and that's where a lot of the And alignment issues were and that's what we're really focused on fixing. And then from a new customer acquisition perspective,
We're getting new customers not
only from our direct team as well, we're also getting customer acquisition through the channel. Our channel is strong and growing over time. We're going to continue to get more customers from them. And while I love the fact that we just had our 2nd highest customer acquisition quarter in history, I think we could do better, right? The better we get from A go to market perspective, we should be able to acquire more customers than that, of course, being able to do that.
Got it. And if I could sneak in a follow-up. So while 1% product revenue growth was better than what we had anticipated, It's still under growing the marketplace, but I'm assuming it's those dynamics around sort of the new customer acquisition being able to continue to get the customers in the door That give you guys the confidence that you're not kind of losing share, if you will, that that opportunity remains. It's just more of like untapped within these existing customers Versus kind of net losing opportunity?
Keith, just on the year over year growth rate, we're clearly coming off of What is it? Very high tough comparable. We grew product revenue last year at 33% year over year. If you look at the dollar amount of product Revenue that gets done in a particular quarter, as Mark mentioned earlier, we're taking more than our fair share. And there are some vendors that don't even Give out product revenue and so like we're shadow boxing with them a little bit.
But we are doing very well in the market and the new products that we have, that we've just introduced the rate of new customer acquisition. We feel like There are crosscurrents that we've talked about around sales reorganization, but we're laser focused on increasing the growth prospects of the company. Yes.
And that of course
And ladies and gentlemen, that does conclude our question and answer session for today. Ms. McLaughlin, I'd like to turn the call back over to you for any closing remarks.
Thanks, operator. Appreciate it. And before I close, I want to thank the Palatin Networks team for their dedication and our customers And partners for the opportunity to work with them. We hope to see everyone at Ignite in just a couple of weeks. Thanks for being on the call today.
Bye bye.
Ladies and gentlemen, this does conclude today's conference. We appreciate your participation.