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Continuing with its upbeat performance for the sixth straight quarter, Fortinet Inc. (FTNT - Free Report) , yesterday, reported better-than-expected results for fourth-quarter 2017, wherein revenues and earnings came ahead of the company’s expectations, and also surpassed the respective Zacks Consensus Estimate.

Fortinet’s non-GAAP earnings per share of 32 cents beat the Zacks Consensus Estimate of 29 cents. Also, earnings came in higher than management’s guidance range of 28-30 cents and marked an improvement over the year-ago quarter’s earnings of 30 cents, driven mainly by higher revenues which were partially offset by elevated operating expenses.

Quarter in Detail

Fortinet reported fourth-quarter revenues of $416.7 million, beating the Zacks Consensus Estimate of $409 million and up 14.8% year over year. Segment wise, Product revenues increased 2% year over year to $162.1 million, while Services revenues jumped 24.8% to $254.6 million. A large number of deal wins and customer additions during the reported quarter also proved conducive to top-line growth.

During the fourth quarter, the company witnessed 21% year-over-year growth in the number of deals worth more than $100,000, while the number of deals worth more than $250,000 and $500,000 climbed 31% and 24%, respectively.

Billings were up 15% on a year-over-year basis to $534 million.

Non-GAAP (excluding stock-based compensation and amortization of intangible assets) gross profit jumped 14.4% from the year-ago quarter to $313.9 million. However, gross margin contracted 40 basis points (bps) to 75.3%. It also came in below the mid-point of management’s expectation of 75-76% (mid-point 75.5%).

Furthermore, non-GAAP operating expenses jumped 21.6% year over year to $235.3 million. As a percentage of revenues, non-GAAP operating expenses advanced 320 bps year over year to 56.5%.

Non-GAAP operating profit declined 3% to $78.7 million from approximately $81.1 million recorded in the year-ago quarter. Non-GAAP operating profit margin contracted 350 bps to 18.9%, mainly due to lower gross margin and escalating operating expenses as a percentage of revenues which more than offset the benefit of higher revenues. Operating margin, however, came at the higher-end of the company’s guidance range of 18-19%.

Fortinet, Inc. Price, Consensus and EPS Surprise

Fortinet, Inc. Price, Consensus and EPS Surprise | Fortinet, Inc. Quote

Balance Sheet & Cash Flow

Fortinet exited the reported quarter with cash and cash equivalents, and short-term investments of approximately $1.25 billion, down from $1.28 billion recorded at the end of the third quarter. Accounts receivable were $346.2 million compared with $258 million witnessed at the end of the previous quarter.

During the year, the company generated operating cash flow of $594.4 million. Free cash flow for 2017 came in at $459.1 million. Fortinet bought back 11.2 million shares for $446.3 million during the year.

Guidance

Fortinet initiated outlook for first-quarter and full-year 2018.

The company’s forecasts for the first quarter are slightly lackluster. Management expects revenues in the range of $387-$393 million (mid point: $390 million), which is marginally lower than the Zacks Consensus Estimate of $390.7 million at mid-point. Billings are estimated in the range of $449-$457 million.

Non-GAAP earnings per share are anticipated to come in the band of 21-22 cents (mid point: 21.5 cents). The guidance range is much lower than the Consensus Estimate, but represents a year-over-year increase of 26.4%. Non-GAAP gross margin is estimated in the range of 75-76%, whereas non-GAAP operating margin is projected to be between 12% and 13%.

For 2018, management projects revenues in the range of $1.695-$1.715 billion (mid-point: $1.705 billion). The Zacks Consensus Estimate for revenues is currently pegged at $1.70 billion. Billings are forecast in the band of $2.030-$2.050 billion.

Nevertheless, the company anticipates that its cost-management initiatives will drive margins and earnings per share. Non-GAAP gross and operating margin projections are in the range of 75-76% and 17.7-18%, respectively.

Non-GAAP earnings per share are estimated to lie between $1.30 and $1.32 (mid-point $1.31). The Zacks Consensus Estimate is pegged at $1.19.

Our Take

Fortinet’s network security solutions include firewall, VPN, application control, antivirus, intrusion prevention, web filtering, anti-spam and WAN acceleration. The company reported better-than-expected fourth-quarter results. Nonetheless, lackluster first-quarter 2018 outlook makes us slightly cautious about its near-term performance.

Moreover, we are concerned over the company’s sluggish revenue growth rate. Notably, over the last six quarters, the company’s revenue growth rate has been around 20%, significantly lower than the previous rates of more than 30%. Additionally, Fortinet’s first-quarter revenue guidance marks an even lower growth rate of 13.8-15.6%.

In addition to this, competition from key network security players such as Cisco Systems Inc. (CSCO - Free Report) , Check Point (CHKP - Free Report) , Juniper Networks (JNPR - Free Report) and Palo Alto Networks, remains another concern.

Nonetheless, we believe Fortinet’s initiative to change its business model to a subscription-based service provider will drive the company’s bottom-line results over the long run. Subscription-based service is a high gross margin business (approximately 80%) compared with the hardware-centric model.

Notably, the company generates more than 50% of the total revenues from these services, which helped it generate a 70-bps gross-margin expansion in 2017. We anticipate this strategy will continue to improve the company’s bottom-line performance in the near future as well.

Fortinet has outperformed the industry to which it belongs over the past year. The stock has gained 15.9%, while its industry registered growth of 6.5% during the same time frame.



Currently, Fortinet has a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

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