Good day, and welcome to the Palo Alto Networks second quarter 2015 earnings conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Kelsey Turcotte. Please go ahead.
Great, thanks. Good afternoon, and thank you for joining us on today's conference call to discuss Palo Alto Networks' fiscal second quarter 2015 financial results. This call is being broadcast live over the web and can be accessed on the investors section of our website at investors.paloaltonetworks.com. With me on today's call are Mark McLaughlin, our Chairman, President, and Chief Executive Officer, and Steffan Tomlinson, our Chief Financial Officer. This afternoon, we issued a press release announcing our results for the fiscal second quarter ended January 31st, 2015. If you would 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 revenue and earnings per share guidance for our fiscal third quarter and non-GAAP operating margin for Q4 of fiscal 2015 and Q4 of fiscal 2016, as well as our expectations regarding our growth, gross margins, seasonality, future investments, CapEx, leverage, profitability, cash flow, and competitive position. 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, and 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 these risks and uncertainties, please refer to our quarterly report on Form 10-Q filed with the SEC on November 25th, 2014, and our earnings release posted a few minutes ago on our website. Please note that certain financial measures we use on this call are expressed on a non-GAAP basis and have been adjusted to exclude certain charges. We have provided reconciliations of these non-GAAP financial measures to GAAP financial measures in the supplemental financial information that can be found in the investors section of our website, located at investors.paloaltonetworks.com. Before I turn the call over to Mark, we'd like to inform you that we expect our third quarter fiscal year 2015 earnings conference call will be held after the market closes on Wednesday, May 27th.
In addition, we would like to invite institutional investors and sell side analysts to join an investor track at Palo Alto Networks Ignite conference at the Cosmopolitan in Las Vegas. Our program will start with lunch at noon on Monday, March 30th. Formal presentations will kick off at 1:00 P.M. Pacific time. While the event will be webcast, guests who attend in person are invited to stay for the conference, which will run through Wednesday, April 1st. To register, please email me at kturcotte@paloaltonetworks.com or call me at 408-753-3872. With that, I'll turn it over to Mark.
Thanks, Kelsey, and thank you, everyone, for joining us this afternoon. I'm pleased to report that we delivered very strong results in our second quarter across all metrics. I would like to thank our team and our partners for their support and hard work. In Q2, revenue was $218 million, up 54% year-over-year, and billings were $283 million, up 51% year-over-year. We also continued to show the leverage in our operating model with non-GAAP operating margin expanding to 12.4%, as well as Q2 non-GAAP EPS of $0.19. Our results continue to demonstrate our belief that our next-generation enterprise security platform is highly differentiated and is the right approach to security at the right time in history. That our business model is unique in allowing us to deliver industry-leading revenue growth rates at scale while doing so with consistently increasing leverage.
At the highest levels, it's more and more evident that the world has changed, that cybersecurity is now critical to the fabric of all things related to technology, business, and national security. This means that cybersecurity has attained a status as a fundamental imperative for every company and organization in the world, that this paradigm shift is not abating, but likely to continue for many years. It is also becoming increasingly obvious that legacy technology solutions are incapable of protecting businesses in the age of sophisticated and aggressive cyberattacks. What is needed is a true enterprise-class integrated and automated platform capable of not only detection, but prevention as well. Palo Alto Networks is delivering this platform, as a result, we are able to capture more market share more quickly than other companies have been able to do so in the past.
Our customers' consistent feedback is that they are more secure when using our platform than they were with their previous legacy architecture, as a side benefit, they're spending less on our integrated platform than they used to by cobbling together disparate and point products. In addition to having the right platform at the right time in history, we have also been working very diligently to ensure that we can execute well against a large and growing addressable market opportunity. This requires continuing to develop our world-class sales and distribution capabilities, including doing some unique things like hosting our partner representatives in our sales and technical training, as well as ensuring that all the other functions required to support the company's continued fast growth are scaling well.
I'm exceptionally proud of the team in this regard. We continue to plan and invest for outsized market share gains while not losing sight of driving leverage in the model. As you can see from our results, the market is voting in favor of our philosophy, approach, and platform. We are beating and displacing the competition at very healthy rates and quickly becoming the industry standard. In Q2, we added well over 1,500 new customers, bringing our total customer count to over 22,500, a more than 40% increase year-over-year. Our global and major account focus continues to pay off with us now serving 81 of the Fortune 100 and 916 of the Global 2000.
Examples of new customer wins this quarter include a Check Point and Cisco replacement at one of the U.S.'s largest energy providers that purchased high-end data center appliances in combination with subscription services, including WildFire. A global financial institution in Europe where we replaced Check Point and Cisco and sold PA-7050s for the data center and working with our partner, VMware, also included Palo Alto Networks edition for NSX. One of the world's largest insurance companies, where with our partner Dimension Data, we replaced the incumbent Cisco in a global firewall refresh and won a very competitive bake-off for an APT solution with WildFire. On the expand side of the business, we know that satisfied customers make repeat purchases. We've placed a great deal of emphasis on customer service and support.
Our customer satisfaction scores are among the highest in the industry. We continue to invest in the infrastructure and talent required to ensure that our customers are getting the most out of their technology investment. As a result, we see significant expansion in the lifetime value of our customers. For example, to make our top 25 customer list in Q2, a customer had to have spent a minimum of $7.4 million in lifetime value, a more than 60% increase over the $4.6 million required in Q2 of our last fiscal year. These customers typically make purchases quarter after quarter as they add new products and subscriptions. All of our top 25 customers placed a repeat order with us in Q2.
Additionally, we continue to widen the innovation gap with new products and subscription services, which address our customers' greatest security needs and are driving a market share shift in our favor. In the high-end data center market, our 120 gig PA-7050 chassis continues to resonate with enterprise customers across all verticals. This quarter, we closed multiple seven-figure PA-7050 deals to protect north-south data center traffic, including one with a multi-billion-dollar North American media company. When coupled with our Palo Alto Networks edition for NSX to secure east-west traffic, we have a very compelling and highly differentiated data center security solution. In the mid-range data center market, the PA-3060, which we launched in Q2, did very well, further expanding our footprint in that segment of the market. WildFire had yet another strong quarter as well. We now have over 5,000 customers paying for WildFire, up from approximately 4,000 last quarter.
WildFire is being purchased across all verticals with organizations including an international digital-based e-commerce business and a large North American-based public utility company making purchases in the quarter. Both are examples of businesses that bought WildFire for its ability to turn unknown threats into known threats in a matter of minutes and the benefits of its automated threat intelligence sharing over the entire customer base. Q2 was our first full quarter in the market with Traps, our advanced endpoint protection solution integrated with WildFire. Traps opens an incremental $4 billion endpoint market, which is yet untapped for us. Similar to what we saw in the firewall market about a decade ago, we believe that legacy endpoint solutions have not kept pace with the threat landscape, leaving customers vulnerable to attack and the market ripe for disruption.
In Q2, we added dozens of new Traps customers and closed our first seven-figure transaction with a large healthcare organization. While it is early, we are pleased with our progress and excited about the future in this market. It's a very exciting time in general for Palo Alto Networks. I consistently tell our team that our platform is solving very hard problems for customers, and as a result, we believe that we have the potential to capture historic market share in a very large addressable market, and that we've only just begun. We believe that our innovation engine, proven and scalable go-to-market capabilities, and focused and scalable support capabilities will allow us to drive outsized growth while expanding profitability and generating significant cash flow with our model.
Before I conclude, I'd like to reiterate Kelsey's invitation to join us for our Ignite 2015 conference and investor track starting on Monday, March 30th at the Cosmopolitan Hotel in Las Vegas. I hope to see all of you there. With that, I'll wrap it up and turn the call over to Steffan. Steffan?
Thank you, Mark, and thank you for joining us on our call today. Before I get into the details of our results and guidance, I'd like to note that except for revenue figures that are GAAP, all financial figures are non-GAAP unless stated otherwise. In Q2, we continued to execute well against our land, expand, and retain sales strategy and are pleased with both the rate of new customer additions as well as expansion in our current customers. Growth in sales of products, subscriptions, and support drove double-digit sequential growth, resulting in record billings, revenue, and deferred revenue. Additionally, with approximately 47% of total revenue coming from recurring services, our hybrid SaaS revenue model and ramping economies of scale continue to drive leverage in the business, resulting in strong non-GAAP operating margin and free cash flow this quarter.
I'm very pleased with the results in the first half of fiscal 2015. We believe we can continue to capitalize on macro tailwinds in security spend, the technological advantage of our next-generation platform, and the untapped spend in our large customer base to drive growth and continue to take market share as we head into the back half of our fiscal year and beyond. Let me turn to the numbers. Q2 total revenue grew 54% over the prior year and 13% sequentially to reach a new record of $217.7 million. The geographic mix of revenue for Q2 was 67% Americas, 21% EMEA, and 12% APAC. Compared to the prior year, the Americas grew 62%, EMEA grew 35%, and APAC grew 51%. As in previous quarters, we saw broad strength across a wide range of verticals, and we did not have any end customer concentration.
The three components of our hybrid SaaS model, product, subscription, and support, all grew very well in Q2. Q2 product revenue of $115.6 million increased 43% over the prior year and 14% sequentially. We saw a healthy growth in our mid-range PA-3000 Series, high-end PA-5000 Series, and PA-7050. In particular, the PA-7050 continued to show strength and is a catalyst to capture more market opportunity in the data center market. Our recurring services revenue of $102 million increased 69% over the prior year and 12% sequentially and accounted for a 47% share of total revenue. Looking at the two components of recurring services revenue, the first component is our SaaS-based subscription revenue of $50.1 million, which increased 74% over the prior year and 15% sequentially. Support and maintenance revenue, the second component of recurring services, was $52 million, an increase of 65% over the prior year and 10% sequentially.
Billings in Q2 were $282.8 million, an increase of 51% year-over-year and 18% sequentially. Growth in subscription attach rates and high renewal rates are driving recurring services billings, which positively impact deferred revenue. Total deferred revenue in Q2 was $535.8 million, an increase of 65% year-over-year and 14% sequentially. Short-term deferred revenue increased to $324.5 million, an increase of 60% year-over-year and 13% sequentially. Total gross margin for Q2 was 77.8%, an increase of 250 basis points compared to last year and 100 basis points sequentially. Product gross margin was 77.1%, an increase of 160 basis points year-over-year and 200 basis points sequentially. The sequential increase was due in part to favorable product mix. We expect there will be fluctuations in product gross margin primarily due to mix.
Services gross margin for Q2 was 78.7%, an increase of 350 basis points year-over-year and 10 basis points sequentially due in part to ongoing growth in the contribution from high-margin subscription services. For the quarter, research and development expense was 12.2% of revenue, increasing approximately $3.6 million sequentially to $26.5 million. This was primarily due to headcount growth and project-related expenditures. Sales and marketing expense for Q2 was 45.8% of revenue, increasing approximately $9.6 million sequentially to $99.6 million. This was primarily due to an increase in headcount and sales commissions related to first half sales performance. General and administrative expense for Q2 was 7.4% of revenue, increasing approximately $2.1 million sequentially to $16.4 million. This was driven in part by headcount growth and outside services. Total headcount at the end of the quarter was 2,083, up from 1,900 at the end of Q1 fiscal 2015.
In total, Q2 operating expenses were $142.5 million or 65.4% of revenue. Operating margin grew 340 basis points year-over-year to 12.4% and increased sequentially 180 basis points. Net income for the quarter was $16.9 million or $0.19 per diluted share using 86.6 million shares compared with net income of $7.8 million or $0.10 per diluted share in Q2 2014. On a GAAP basis for the second quarter, net loss was $43 million or $0.53 per basic and diluted share. This compares with Q2 2014 GAAP net loss of $39.9 million or $0.55 per basic and diluted share. We finished January with cash equivalents, and investments of $1.1 billion. Our cash flow from operations, free cash flow, and free cash flow margin for Q2 were $76.8 million, $70.7 million, and 32.5% respectively.
Included in our cash flow results is an approximately $12.8 million payment to Israel made in conjunction with transferring the intellectual property rights acquired from Cyvera out of Israel. Capital expenditures in the quarter totaled $6.1 million. Consistent with the strength we saw in the quarter, linearity in Q2 tracked better than the prior year period. Our accounts receivable balance was $135.3 million this quarter, up from $116.2 million in Q1. DSOs decreased sequentially by seven days and year-over-year by five days to 52 days. Turning to guidance, as we enter Q3, we feel good about the security spending environment and our ability to execute against that opportunity. In Q3 2015, we expect revenue to be in the range of $219 million-$223 million, which represents 45%-48% growth year-over-year.
We expect non-GAAP EPS to be in the range of $0.19-$0.20 per share using 87 million-89 million shares. Before I conclude, I'd like to highlight a few considerations for modeling purposes. Due to strong growth, seasonality has been difficult to forecast, but we believe that over the longer term, fiscal Q2 and Q4 may show our strongest revenue growth. As a reminder, in fiscal year 2015, we expect to invest approximately $25 million or $0.17-$0.18 per share in Traps, our advanced endpoint protection offering. We're on track to hit this investment goal. We expect CapEx for fiscal year 2015 to be in the range of $45 million-$50 million for the year.
As we've said previously, we continue to expect to exit Q4 fiscal 2015 with a low teens non-GAAP operating margin and to exit Q4 fiscal 2016 at a 22%-25% non-GAAP operating margin. With that, I'll turn the call back over to the operator for Q&A.
If you would like to ask a question over the phone, please signal by pressing star one on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Once again, that's star one to ask a question. We'll take our first question from Matthew Niknam with Goldman Sachs.
Hey, guys. Thank you for taking the question and congrats on the quarter. Just a question on margin. The margin guidance, Steffan, as you alluded to
Exit rate this year, fiscal year, exiting in the low teens. You're already just under 13% this quarter. Is it fair to assume margins remain fairly flattish in the next two quarters? Maybe if you can help us think through where you see the incremental spending going towards. Thanks.
We remain committed to the low teens exiting this fiscal year and 22%-25% exiting Q4 of 2016. I do think it's fair to say that we're going to continue to balance top-line growth with investing in the business. The incremental dollars that are being spent are primarily in our innovation engine, which is R&D and product management, as well as our field marketing organization and field sales operations. With a low percentage market share and a very large market, we're very much focused on taking as much share as possible, but doing it profitably. You look at operating margins and free cash flow margins, we're able to drive very healthy top-line growth and increase profitability.
We'll take our next question from Keith Weiss with Morgan Stanley.
Hi, this is Melissa Gorham calling in for Keith. Thanks for taking my question. Just a question on Traps. Mark, you mentioned dozens of Traps deals in the quarter. I'm just wondering if you could maybe provide some color on the early customer feedback there. Of those deals that you saw, are they taking spend from existing endpoint solutions, or is this just net new opportunities?
Good question, Melissa. The feedback has been very positive. It's interesting, then I think also drives a lot of optimism for us in this business. When we're talking to customers about this and saying, "This is what Traps does. It actually does real-time exploit prevention." That's such a disruptive concept that sometimes you have to explain it to them twice then show it, right, the demo. When they see it, the reaction is, "Wow, that's pretty disruptive technology and a big step forward." The second part of your question, we are taking business from competition in some of these deals. Some folks are buying it to run side by side with their existing vendors. In some of these cases, including that seven-figure deal that I discussed on the prepared script, we took that from a legacy vendor in a competitive win.
Okay, great. Then just one quick one for Steffan. One of the things that many of us picked up in the quarter was perhaps longer lead times in terms of inventory. Was that an issue in the quarter? If so, what have you done to maybe remediate that potential issue?
Yeah, due to high order volume, we extended our standard shipping lead time from two weeks to up to four weeks. The reality was we were able to ship most of all the orders that came in within a two-week lead time, but it was really due to high order volume. There's no supply chain issue, and we were able to satisfy all the demand.
We'll take our next question from Raimo Lenschow with Barclays.
Hey, congrats on a great quarter. Two quick questions from me. First, it's maybe just me, but I'm hearing a lot more competitive replacements for Check Point. Can you talk a little bit about the environment that you're seeing there? It seems like it's slowly changing for you guys. Then the second one is, obviously, we all hear about increased security spending. How do you see that in your conversations with clients in terms of kind of ad hoc, I need to react to an emergency, versus kind of more longer-term planning, which you guys should see? Thank you.
Yeah, good question from you. This is Mark. On the Check Point one, we've been displacing Check Point for a very long time at good rates. When you look at this quarter, well over 1,500 new customers for the quarter, last quarter, 2,000. It's very hard to post those kind of numbers from new logos if you're not having everybody in the market be a donor to the Palo Alto cause, and Check Point donates quite a bit to us. That is increasing over time. I think as we become the industry standard here, I think that's what's really happening is we continue to take this many customers and build a lot more relevance in the market, a lot more awareness in the market on a global basis. On your spend question, spending seems very healthy right now from a security perspective.
Really no reason to believe that that's going to change any time in the future, and particularly if you've got the enterprise class platform that solves a lot of the customer's hardest problems, we think we're the big beneficiary of that.
Our next question comes from Philip Winslow with Credit Suisse.
Hi. Thanks, guys, and congrats on a great quarter. Just wanted you to follow up on some of your marks on WildFire. Obviously, you guys are having continued success there. I wonder if you could give us just some more details on sort of win rates versus the competition, sort of who you're seeing out there, how you're comparing with them. Then also from just an attach perspective, not just with WildFire, but your other subscription offerings, maybe just give us a sense. I know you only give us metric once a year, but a sense of sort of how those attach rates are trending as well as renewal rates. Thanks.
Yeah, sure, Phil. Let me take those in reverse. Attach rates for all our services are doing well. They're all increasing. That's a trend that's been continuing for quite some time, including WildFire, which is growing at a very fast pace. If you come to Ignite, you'll get some more detail around those things. On WildFire itself, everybody in the market today from a network security perspective has some sort of APT offering in this space today. From who we see in the market, we primarily see FireEye in the market, and we continue to win new business where they don't exist. We continue to win business where people put us side by side and ultimately choose our platform over a standalone product approach.
Our next question comes from Karl Keirstead with Deutsche Bank.
Yeah, thanks. My question is for Steffan. I just wanted to go back to your guidance around seasonality during the quarter. I think you said that you should see the strongest growth in 2Q and 4Q. If you could just clarify, I know it's super preliminary, but are you suggesting that the July fourth quarter might see a growth rate higher than what Palo Alto put up in Q1 and would likely put up in 3Q?
That's a good question, Karl. We guide one quarter out, but directionally, you can think about the fourth quarter being typically very strong, like most companies' fiscal year end. We can't really get into the details around what our fourth quarter project is going to be relative to last year's fourth quarter, but the way that the organization is set up, we're positioned for growth. In the way the sales cycles work, at the end of a fiscal year, lots of people are in sales accelerators, you would typically see an increase in sales productivity and deal closure, et cetera. That's about all I can get into in terms of the fourth quarter.
Our next question comes from Andrew Nowinski with Piper Jaffray.
Great. Thanks. Congrats on the nice quarter. I just want to know a follow-up question on WildFire. It's clearly gaining traction. You added about 1,000 customers this quarter, then 1,500 total customers. I was wondering if you could give us any color on the mix of new customers that were deploying WildFire versus existing customers that deployed it.
Yeah, Andrew. We're doing very well in both regards. With well over 1,500 new customers in the quarter, we're seeing very nice win rates for new logos as they come in the door. Having WildFire as the most advanced APT detection prevention capability baked into the platform allows our sales team to tell a great story for new logo acquisition, because we're able to talk about something that's very important for all companies, which is advanced persistent threats and malwares. It's good to have that as a lead for somebody who's not yet using Palo Alto Networks. With the existing customer base, we see very good adoption there as well, because if you're already using portions of the platform, our story is, and what customers are experiencing is, the more of the platform you use, the better you are from a protection prevention perspective.
WildFire is a very strong aspect of that. We see a lot of demand from our existing customer base as well, saying, "I want to add that portion of prevention into the platform I already own." Both cylinders are falling very well.
Our next question comes from Walter Pritchard with Citi.
Hi, thanks. Steffan, two questions for you. One, we've heard some of your competitors in the last three to six months talk about upticking their level of spending and bringing down their profitability goals. You're obviously sticking with your profitability goals as you stated them today. How do you think about sort of the market dynamic there, and to some degree, we're all in the same space, and if they spend more, you may need to spend more. Do you feel like you're adequately covered, or is there anything that could happen in the market that could cause you to similarly uptick your spending more so than you're guiding to today?
On that front, what I've picked up around the competitive space is a lot of folks are spending more on sales and marketing, in order to try to get into the enterprise, where you have historically companies who have been focused on the SMB or telco trying to get into high-end enterprise. They're building out their sales forces. We believe that it starts with a differentiated product. We have the best platform out there, and when we start with that product and that platform, we've been building to scale under Mark Anderson's leadership, the worldwide field operations. We're already at, call it 45% of revenues for sales and marketing, and over time, we're going to be getting leverage over that. There's not some big reinvestment plan that we need to make in order to get incremental growth.
Additionally, if you think about just the productivity of the sales force, we're going to have more ramped salespeople than ramping salespeople very soon, and that increases the overall capacity that we're bringing into the model. We don't envision any derailment from our track right now.
Our next question comes from Brent Thill with UBS.
Good afternoon. Mark, on Traps, you mentioned you added a couple dozen customers. I'm curious what you saw in those deals with the rest of the portfolio from Palo Alto, and perhaps when you look at some of the new versus existing, if you could just maybe give us a little more color on what you're seeing in that early adoption. I had a quick follow-up for Steffan.
Yeah. We're seeing a lot of interest in the existing customer base, not surprisingly. The question I answered a little while ago where I said the power of the platform is that the more the platform you use, the better security you get, and usually at a better total cost of ownership. Traps, with its integration of WildFire, is a very compelling part of that story. Our existing customer base, particularly those people who are using WildFire already, are very enticed by what that brings to bear for their security posture. We're getting very positive feedback from the existing customer base.
Also, even though this is in the future for us, as far as putting up the numbers against it, the ability to talk to customers who don't own any Palo Alto Networks yet at all and just talk to them about Traps is another entry point for us as well. Of course, we're telling that story to our as-yet-signed-on customers that you should just look at Traps if you have an endpoint need, and then that can drive the adoption of more of our platform later, too.
Okay. Steffan, you mentioned strength in the 70/50. I'm just curious if you could maybe add a little more color what you're seeing in the data center market.
Well, we're seeing more invitations to play in the data center market. We see that in a couple of different ways. The first is just organically with the PA-7050, we're getting brought in. Also with our partnership with VMware, we had a great use case where there was a VM-Series for NSX deal that was out there. We ended up selling not only the VM-Series for that engagement, but we also sold the PA-7050 to protect the North-South traffic for that data center. That's just one example of a number that we're working on, where the PA-7050 is increasing our overall wallet share for the overall data center market.
Our next question comes from Matt Hedberg with RBC Capital Markets.
Yeah, thanks for taking my questions, guys, congrats on the quarter as well. Mark, I wanted to ask about Westcon. I believe they had you initially in 40 countries. I wanted to get an update on that distribution channel versus some of your initial expectations, then I had a quick follow-up for Steffan after that.
Yeah, great question, Matt. About a year ago, Westcon had us about a little over 30 countries. Today we are a little more than double that number. In that last 12 months timeframe, we've increased that by 100%. That is important because with that relationship, the number of resellers that were under that umbrella has gone up very dramatically as well. Just our distribution, I mean, the reseller capability below that distribution has grown a lot in the last 12 months. We're very pleased with that.
That's great. Then maybe a quick one for Steffan. I know you guys price in U.S. dollars, but I'm curious, are you seeing any evidence of the strengthening dollar and demand overseas?
Yeah, since we price in U.S. dollars, we don't really see any material shift for the revenue. Where we do see a little bit of a benefit is as the dollar strengthens, we pay our foreign locations salaries, benefits, and expenses in local currency. That does have a modest benefit. Outside of that, the real top-line risk isn't there, because we do price in USD.
Our next question comes from Daniel Ives with FBR Capital.
Yeah, thanks. Mark, could you just talk about deals getting fast-tracked, maybe even more at the board level in terms of what you're seeing on the cybersecurity, especially in terms of some of the high-level threats we've seen over the last three to six months?
Yeah, Dan, I think that what we're seeing is that there's certainly a large and growing amount of attention at the board level, the highest levels in companies and boards on the threats. What we're actually seeing below that, though, is good spending, as you can see in the market in general, in order to try to solve those things. As far as that's working out at the buyers, we're seeing more thoughtful and strategic purchases, meaning that we're finding folks who are stepping back and saying, "We want to think about something that is going to be very valuable for us for three to five years, not just the latest threat that just came out last week." We tend to do very well in that kind of environment because we come in with solutions architects.
We get to show them an architectural standard for security that covers all of their enterprise at every point of the kill chain and how that can provide a very strong dose of prevention, that is resonating extremely well in the market.
Okay, in terms of from the White House, something that you are at, and obviously you're really involved with what you see on the government side, do you think 2015 is going to see an inflection point on the federal side in terms of spending on cybersecurity, or do you think we're still not there and there still needs to be some bureaucracy and red tape that needs to get cut through? Thanks.
I think generally, the government recognizes, like all organizations, the need to be at the forefront of cybersecurity. It's not so much an inflection point in terms of acceptance of what has to happen from a technology perspective. I think it has a lot to do with budgets. If you recall, the fiscal 2015 budget for the government was a very tough one, as kind of going into fiscal 2015, we're coming off of a lot of belt-tightening, just generally in the government. I would expect that the fiscal 2016 budget is actually just going to be a better budget. There's going to be more money in the budget in fiscal 2016 than there was in fiscal 2015. That's a good thing for providers.
If you're a provider like us who's got a really good solution for the government who needs to be at the very front of this, we think that bodes well.
Our next question comes from Gregg Moskowitz with Cowen and Company.
Thank you very much, I'll add my congratulations as well on a strong quarter. A question for Mark. Mark, some security vendors hold the view that, or have taken the view anyway, that any APT solution that is effectively part of the firewall has some detection and prevention limitations, just really because so much of the network traffic is being generated by mobile and other sources. I just wanted to get your perspective on that, if I could.
Well, our view is that what you're trying to accomplish at the end of the day, or should be trying to accomplish, is not only great detection, but a very, very strong level of prevention, and that's got to be across the entire enterprise, right? In order to do that, you need to be able to see the traffic everywhere, whether it's mobile or data center, it doesn't really matter. If you can't see all that traffic, meaning you're not in line, then you're going to have a very, very difficult time doing anything from a security perspective, whether it's APT or anything else.
That's the view that's driven the importance of being in the, I call it the architecturally favored position of being the firewall in the first place, because the firewall is generally the only security device that's going to see all the traffic in or out of the network. Now, if it's off of a mobile device and you VPN it into your traffic flow, then you're going to supply those network security policies to that traffic regardless of what device it's coming off, which is exactly what we recommend that folks do. That's what GlobalProtect does, for example. I would completely agree with the statement that you have to see all the traffic in order to secure it, and that you're going to be unable to do that unless you're in the firewall position.
Terrific. Thanks.
Our next question comes from Michael Turits with Raymond James.
Hey, guys. There was a question earlier about 2014 versus 2015 in terms of whether or not the spend is sustainable. Mark, any shift at all in terms of security spending, in terms of priorities that you see from '15 versus '14?
I think that what we've seen, folks, at the highest levels paying more attention to is what I mentioned earlier, which is a call to what is the security architecture, right? More and more we're the ones being invited in that conversation to say, "How should I think about this big picture across the board, top to bottom, right from an enterprise perspective?" As opposed to thinking about the point products where it's time to refresh this product or refresh this product. As the platform provider for prevention in that's great for us because we have the ultimate answer for that for folks today in the market, and it's resonating very well.
Obviously it's very strong overall, but Europe was a little slower than last quarter. Anything going on there or Check Point, it was a tough comp or not, but had any notice?
We like Europe. It's a good market. You may recall last quarter we grew a little over 60% year-over-year in Europe, then we grew 16% sequentially off of that. We like those numbers.
Great. Thanks very much.
Okay. Thanks, Michael.
Next we'll go to Gur Talpaz with Stifel.
Great. Thanks. There's been a lot of noise within the endpoint market. Can you talk about what you're seeing out there competitively, and do you think customers are starting to understand the inherent advantages of an integrated offering with WildFire versus, let's say, a standalone offering? Thank you.
Yeah, Gur. Yeah, a couple angles on that. The first is that I agree with you. There's a lot of noise in the market on the endpoint side. The reason for that is it's becoming evident that the endpoints are very important from a solution perspective in order to secure an enterprise, right? Because it's the Wild West on the endpoints. The first thing we see for sure is customers recognizing that the legacy AV technologies are incapable of doing that, right? The second thing is the rush of lots of other players in the market say, "Well, we're going to fix that for you." Fixing it actually requires doing prevention, right? At the end of the day, that's what you have to do in order to have a good fix there.
We think that our approach with Traps and the customer feedback we're getting, as I mentioned a little earlier, is they agree with us that it actually does prevention at the endpoint. Because of that, it's very compelling.
Great. Thank you.
Next we'll go to Jonathan Ho with William Blair.
Hey, guys. I just wanted to understand a little bit better, are you starting to see much revenue come from the installed base in terms of refreshes from four or five years ago, the initial customers, and how should we think about that trend for the course of 2015 and going into 2016?
Yeah, Jonathan. What we look at is we definitely see a refresh going on in our earlier cohorts. The first really measurable ones for us are 2009, 2010 by numbers. We're seeing refreshes occurring there. To put that in perspective, the combined customer base for 2009, 2010 is less than 2,000 customers. We've got over 22,000 customers now. If we continue to see refreshes into those larger cohorts, which we would expect to, that's a tailwind.
Got it. Excellent. As you start to think about the NSX and VMware relationship, can you maybe talk a little bit about how significant this could be from a selling perspective and just sort of the initial reception that you're seeing? I know you talked about the wins, but just why customers would choose the solution and what potentially the alternatives are, if any.
Yeah. We think of it in two regards. The first is that you definitely want to have relevance in the sense of there's a changing environment in the data centers. It's not just north-south, it's got to be east-west. The first thing is, can you adequately represent yourself in that conversation back to the strategic architectures and say, "I have you covered not only north-south, but east-west as well"? We definitely have north-south covered, and we are uniquely integrated and working closely with VMware on the east-west. When we show that to customers and how tight that integration is, and it provides the same level of protections in north-south, they're very impressed with that. We can see that playing out through the numbers. NSX is selling very well, as you may have seen from VMware's results.
As a result of that, we're getting pulled into lots and lots of conversations with customers that's resulting in deals. We have well over 300 POCs going right now, as an example, with VMware customers.
Our next question comes from Aaron Schwartz with Macquarie.
Good afternoon. Thank you. On the metric you give for the top 25 customers, that increased quite a bit, and I'm sure a number of things are driving that, but was there anything in particular that stood out?
Yeah, Aaron, we're seeing our relevance continue to grow in the market, particularly with larger companies that they're making larger purchases with us. These are our largest customers, right? They continue to make larger purchases. Also we're seeing some customers, on their first purchase, jump right onto the top 25 list, right? It's the mix of those two things that's driving that number up and to the right.
Okay. Secondly, if I could, on the attach, you talked about that directionally moving higher as well. Can you just comment on the duration of what you're seeing now? Has that changed at all relative to one or two years ago? Thanks.
Yeah. Relative to one or two years ago for durations, Dave, they're basically in the same zip code relatively. They're up modestly, but there hasn't been any real sea change in terms of duration. Great. Thank you.
Our next question is from Jeff Kvaal with Northland Capital Markets.
Yes, hello.
Hi, Jeff.
Can you guys hear me okay? Good.
Yes.
Good. Thank you. Perhaps I've got one on my mind perhaps, but I was wanting to ask you how you were doing in the service provider market. I know that you've been pushing into that realm a bit. Secondly, I think you opened the call a little bit, Mark, talking about seeing a better runway, I think, for the security market over the period of a few years than you might have a quarter or two ago. I'm wondering if you could delve into those comments in a little bit more detail. Thank you.
Yeah, sure thing. Yeah, Jeff, good question. Let me take those in reverse. What I was saying on the prepared remarks in the security market is that I see a paradigm shift, which is security becoming what I'm calling fabric to all technology decisions that are being made by organizations, government, and companies. That's the result of all the attacks we're seeing and the incredibly evident fact that the legacy technology can't withstand that, right? I think that paradigm shift, that security fabric, and will remain that way for quite some time, is the point I was trying to make is, that's not going to abate over time. I think that's going to continue to grow over time. On your first question, the service provider market, we like that market a lot. We do very well in that market.
As I've said before, we view that market a couple, three different ways from an opportunity perspective. The area where we're doing very well right now is selling to service providers who are using our technology in their own networks. The PA-7050, as an example, has been a great boon for us there, because those are big networks, lots of throughput, lots of data center usage, and we're seeing very strong demand in service provider industry for that.
Our next question comes from Gray Powell with Wells Fargo Securities.
Gray, thanks for taking the questions. Just a couple. Obviously you have a lot going on with WildFire and Traps in terms of newer products. How do you feel about the level of internal innovation or R&D? Do you see any technology sets that could supplement your current offerings?
Hey, Gray. One thing we never forget is that we're doing well in the market, Palo Alto's been as successful as we have because we've been very innovative and very disruptive. We start everything with that. As a result of that, we put a lot of time, effort, people, resources into innovation, and I think our track record is pretty good on that. We have a number of things, if you just think back in the last 12 months that we've done around Traps, around the PA-3060, improvements to WildFire, we're going to continue to innovate as we go forward as we always have done every single year. If you come to Ignite, we'll talk to you a little bit about that as well.
I feel very good about the level of innovation, our track record on delivering that, and the pace at which we roll that out.
Got it. Thank you very much.
Thank you.
Our last question today comes from Scott Zeller with Needham & Company.
Thanks. I just wanted to ask if Steffan has any color he could share for the deferred seasonality, if there's an update on that, please.
Yeah, deferred seasonality would most likely trend towards what the revenue seasonality is. Q2 and Q4, if those are the quarters in which we would see the most pronounced strength, then the subsequent quarter you would basically see deferred go up as well. I would give you that as color commentary. I can also say that both long-term and short-term deferred revenue have also been growing just very well. We see a nice balance between customers who are signing up for a one-year deal, but we are seeing proportionally more customers signing up for multi-year deals as well. Some of those multi-year deals tend to be skewed to our fiscal Q4. You should definitely see some seasonality there.
Thank you.
Thanks.
Yep. Great. Thanks everybody for being on the call this afternoon. We appreciate it. We had a great first half of our fiscal 2015. We're very excited about the second half of the year and beyond. As I said earlier, I think we're in the right place at the right time in the market with the market-leading protection prevention platform. I want to once again thank the Palo Alto Networks team for all their hard work and their support, for our customers and partners as we continue our march to become the global leader in enterprise security. Thank you very much.
Thank you for your participation.