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Fortinet Inc  (NASDAQ:FTNT)
Q1 2019 Earnings Call
May. 02, 2019, 4:30 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day ladies and gentlemen and welcome to the Fortinet First Quarter 2019 Earnings Announcement. (Operator Instructions) As a reminder this conference call may be recorded. I would now like to introduce your host for today's conference Mr. Peter Salkowski Vice President of Investor Relations. Sir you may begin.

Peter Salkowski -- Vice President, Investor Relations

Thank you, Crystal. Good afternoon, everyone. This is the Peter Salkowski, Vice President of Investor Relations at Fortinet. I'm pleased to welcome everyone to our call to discuss Fortinet's financial results for the first quarter of 2019.

Speakers on today's call are Ken Xie, Fortinet's Founder, Chairman, and CEO; and Keith Jensen, Chief Financial Officer. It's a live call that will be available for replay via webcast on our Investor Relations website. Ken will begin our call today by providing a high-level perspective on our business, Keith will then review our financial and operating results, and conclude by providing our guidance for the second quarter of 2019, before opening up the call for questions.

During the Q&A session, we ask that you please keep your questions brief and limit yourself to one question and one follow-up to allow others to participate.

Before we begin, I'd like to remind everyone that on today's call we will be making forward-looking statements, and these forward-looking statements are subject to risks and uncertainties, which could cause actual results to differ materially from those projected. Please refer to our SEC filings, in particular the risk factors in our most recent Form 10-K and Form 10-Q for more information.

All forward-looking statements reflect our opinions only as of the date of this presentation, and we undertake no obligation and specifically disclaim any obligation to update forward-looking statements.

Also, all references to financial metrics that are made that are made on today's call our non-GAAP, unless otherwise stated. Our GAAP results and GAAP to non-GAAP reconciliation can be found in our earnings press release and the presentation that accompanies today's remarks, both of which are posted on our Investor Relations website.

Lastly, all references to growth are on a year-over-year basis, unless otherwise noted.

I'll now turn the call over to Ken.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Thanks Peter and thank you to everyone for joining today's call to discuss our first quarter 2019 results. We are pleased with our strong first quarter results. Billings increased 19% or $592 million and then revenue was up 18% or $473 million driven by solid growth in service revenue. In April Fortinet hold its annual 2019 conference. This is event was a huge success with with up over 37% from last year. And accelerate Fortinet management describe external trends impacting the security landscape and define how Fortinet is best positioned within this trend for future growth. The internal has disappeared. A state of trouble offset companies network to mobile to the age and to the cloud security has followed the data flow and applications between networks device and users.

Thanks, Peter, and thank you to everyone for joining today's call to discuss our first quarter 2019 results. We are pleased with our strong first quarter results. Billings increased 19% to $552 million and revenue was up 18% or $473 million, driven by solid growth in service revenue. In April, Fortinet held its Annual Accelerate 2019 Conference. This year's event was a huge success with partner and customer attendees up over 37% from last year. At Accelerate, Fortinet management described external trends impacting the security landscape and defined how Fortinet is best positioned within this trend for future growth.

The internal (inaudible) has disappeared. As data travels outside the company network to mobile to the edge and to the cloud, security has followed the data flow and applications between networks, device, and users. As a result, security and networking are converging into what Fortinet calls security-driven networking. We believe this trend is accelerating the security industry move into the third generation of infrastructure network security.

Security requires 10x to 100x more computing power compared to networking for the same network throughput. This requirement makes network security slower and very expensive. Fortinet SPU is a technology delivers 10x the performance of other software approaches, eliminating the performance gap and a lower cost than our competition. At Accelerate we announced the industry's first SD-WAN ASIC, the FortiSPU SOC4, available in the FortiGate 100F, the next generation firewall. The 100F provides SD-WAN functionality and advanced security in a single appliance with high performance. As organizations consolidate toward few vendors, our Security Fabric approach with its open API and connected technology has experienced increased adoption by enterprise customers.

We continue to grow our ecosystem of more than 57 fabric-ready partners to one of the largest in the industry, including a close partnership with Symantec. The explosion of IoT and immersive technology are accelerating the movement of data and computing to the edge. According to Gartner, 70% to 80% of edge data never gets to the data center to be processed. And within the next two years, 40% of large enterprise will integrate edge computing, up from 1% in 2017. The ability to offer security over networking focused on prevention on the edge with low latency and high performance is critical, especially with the deployment of 5G network. Fortinet provides the broadest set of security solutions for both the edge and the multi-cloud environments.

We continue to invest in driving innovation and at Accelerate we announced FortiOS 6.2 with more than 300 new innovations. This innovation includes artificial intelligence and machine-learning capability for protection from the edge to the network core and across multi-cloud environments. In addition to investment in innovation, we continue to make sales, marketing, and channel investments.

We expect the spend on cybersecurity as a percentage of overall IT budget to continue to grow. This increase in spending, coupled with three key drivers, positions Fortinet for faster growth than the market over the next few years, first with a portfolio of integrated secure WiFi, SD-WAN, and 5G products were leading the transition to the security-driven networking. Second Fortinet Security Fabric offers the most broad, automated, and integrated security for end-to-end protection as the organizations consolidate toward a few security vendors. And third, our SPU ASIC technology provide us with continued cost and performance competitive advantage. Our advantage is increased with the recent announcement of new SD-WAN ASIC, the FortiSPU SOC4.

I want to thank the Fortinet team and our partners for their ongoing hard work and our customers for their support. Now I will turn the call over to Keith for a closer look at our first quarter performance and our second quarter of 2019 guidance.

Keith Jensen -- Chief Financial Officer

Thank you, Ken. Before I start, I'd like to note, except for revenue, all financial figures are non-GAAP and growth rates are based on comparisons to the first quarter of 2018, unless otherwise stated. The slide references I make reference to in the presentation are posted on the Investor Relations website.

I'd now like to provide a summary of our strong first quarter performance. Total revenue of $473 million was up 18%, driven by strength in EMEA and APAC. Product revenue of $163 million was up 14%. Growth was driven by a mix shift to the midrange FortiGates and increasing software revenue. Service revenue grew 21% to $310 million and was driven by a 24% increase in FortiGuard Security subscriptions to $170 million. FortiCare Technical Support and other services increased 17% to $140 million.

About 60% of total first quarter revenue was provided by the deferred revenue balance at the beginning of the quarter, providing a high level of revenue predictability. In the second quarter we expect a similar percentage of our total revenue to come from our existing deferred revenue balance. Total deferred revenue increased 26% to $1.8 billion. Short-term deferred revenue increased 21% to $991 million.

Now turning to billings. Billings grew 19% to $552 million, benefiting from strong growth in the Japan and APAC regions. Average contract term was flat quarter-over-quarter and year-over-year at 25 months. Service providers and MSSPs remained one of our top customer segments accounting for 40% of our top 25 deals in the quarter.

There were 35 deals over $1 million in the quarter versus 34 in the year ago period. The dollar value of the deals over $1 million increased 20%. In the quarter we closed a seven-figure operational technology-focused transaction with an EMEA-based power and water utility company. The deal includes -- included FortiGates, Secure SD-WAN capabilities, and centralized management functionality, enabling visibility and integration with the customers' OT network.

In the Americas we closed a seven-figure Secure SD-WAN deal with a major school district. We won this deal due to the ability of our solution to provide direct Internet connectivity to each of the school district's 80,000 students along with simple management and simple deployment, and importantly integration of our solution with existing third-party security technologies.

FortiGate products and service billings increased 17% and accounted for three-quarters of total billings. Billings for non-FortiGate products and services grew faster than FortiGate billings. Benefiting from our strong growth in FortiGate Virtual Machines and pay-as-you-go billings, private and public cloud billings outpaced infrastructure fabric billings. Infrastructure fabric is still the largest component of non-FortiGate offerings and benefited from strong growth in Latin America and APAC. The infrastructure fabric includes hardware, software, and attached services.

Moving back to the income statement, first quarter gross margin improved 50 basis points to 77.2%. Driving the increase in total gross margin, services gross margin improved 130 basis points to 87.1%. Illustrating our commitment to better-than-industry average revenue growth.

Headcount for sales and marketing at the end of the quarter was up 16%. Total headcount increased 14% to 6,015. Operating margin increased 270 basis points to 20.4%, despite a decrease of 125 basis points in the commission benefit associated with last year's change in accounting. The operating margin improvement reflects the increase in gross margin, gains in operating leverage, and increased sales productivity. Given the strong operating income performance, net income was $81 million. Diluted earnings per share increased 39% to $0.46.

Moving to the statement of cash flow summarized on slide 7 and 8. Free cash flow was $191 million, up 49% year over year. The increase reflects seasonally strong first quarter collections, continued inventory management, operating profit expansion that flow through to net income, and growing deferred revenue.

In the quarter we repurchased approximately 779,000 shares for a total cost of $56 million for an average per share price of just over $72. At the end of the first quarter, the remaining share repurchase authorization was $677.5 million and is set to expire at the end of this year.

Capital expenditures for the first quarter were $10 million, below the low end of our guidance range. Including construction spending, we expected second quarter capital -- we expect second quarter capital expenditures to be between $25 million and $35 million. We are maintaining our prior 2019 capital expenditures guidance of between $120 million and $140 million.

As I turn to the guidance provided on slide 9, I'd like to remind everyone that the forward-looking disclaimer Peter presented at the start of the call applies to the guidance I'm about to provide. For the second quarter, we expect billings in the range of $585 million to $605 million, revenue in the range of $505 million to $515 million, non-GAAP gross margin of 75.5% to 76.5%, non-GAAP operating margin of 22% to 22.5%, non-GAAP earnings per share of $0.49 to $0.51, which assumes a share count of between 177 million and 179 million. We expect the non-GAAP tax rate of 24%.

We are seeing healthy pipeline growth, and we believe we're well positioned to continue to grow faster than the security market in 2019. For 2019, we expect billings in the range of $2.470 billion to $2.520 billion, revenue in the range of $2.070 billion to $2.100 billion, total service revenue in the range of $1.340 billion to $1.360 billion, non-GAAP gross margin of 75.5% to 76.5%, non-GAAP operating margin of 22.5% to 23.5%, and non-GAAP earnings per share for $2.10 to $2.15, which assumes a share count of between 178 million and 180 million. We expect our non-GAAP tax rate to be 24%. We expect cash taxes to be between $53 million and $59 million.

Before I turn the call back over to Peter, I'd like to thank our partners, our customers, and the Fortinet team for all their support and hard work. I'll now hand the call back over to Peter.

Peter Salkowski -- Vice President, Investor Relations

Great. Thank you, Keith. We'd like to open the call for questions, operator, please.

Questions and Answers:

Operator

Thank you. (Operator Instructions) And our first question comes from Fatima Boolani from UBS. Your line is open.

Fatima Boolani -- UBS Warburg, LLC -- Analyst

Good afternoon. Thank you for taking the questions. Maybe I'll start with you, Ken. Just around some of the strengths you saw in the virtual portfolio that Ken alluded -- sorry, Keith alluded to in his remarks, I wanted to get your sense of some of the advancements and enhancements you've made on the technical side that you talked about at the user event. And how you expect the virtual and (ph) FortiVM business to be additive to the overall product growth trajectory? And then I have a follow-up for Keith, if I may.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Yes. It's a good question. In the partner conference, we present -- I presented (inaudible) emphasize both on the virtual cloud and also on the edge side. We do see the cloud has a pretty good (inaudible) growth in the last few years, but also we feel going forward edge also starting and mobile. So that's where we see -- we need to emphasize both. And also the way we approach the cloud also we are more like horizontal approach which have a multi-cloud provider and also very broad function, including all the (inaudible) like data center within the enterprise and also the public cloud. So that's a product we see pretty good success, and also the customers -- enterprise customers like that approach a lot. So give them the flexibility to move different function and different applications between different cloud provider and also enable some different function, both on the premise and also in the cloud in the virtual environment. So I think that's kind of approach. We've had a lot of positive feedback from our customers.

Fatima Boolani -- UBS Warburg, LLC -- Analyst

That makes sense. And Keith, a question for you. I wanted to dig into the subscription revenue line item. That saw both acceleration year over year as well as off the fourth quarter. And so can you step us through some of the dynamics working there, especially with regards to the type of uptake you're seeing between your UTM bundles and the enterprise bundles, and maybe give us a sense of sort of how much runway is left for those bundles to really be more broadly adopted in the base and then also having existing UTM customers graduate to enterprise bundles? That would be super helpful. Thank you.

Keith Jensen -- Chief Financial Officer

Okay, sure. So I think in terms of subscription revenue, if you look at the growth and the short term component of that, we're very pleased to see that short-term growth. If you move back a few quarters, you kind of see that it may have hit a low-water mark in the middle of 2018 and again that's kind of coming off of a slower growth year in product revenue in 2017. I think what you really see there is a continuation of a lagging indicator when you look at the revenue growth as opposed to the billings growth.

To give some color in terms of what we're seeing on the billing side, yes, we continue to see a shift from 8 by 5 to 24 by 7 support. That continues to move up incrementally. I believe that still has a significant way to run, I would say, several more quarters easily. When I look at the FortiGate bundles, I think the UTM continues to outperform at a very, very high level. We're also seeing more customers coming back and buy from us on al a carte basis on various security subscriptions. And I think you're seeing some of that coming through in an additive approach as well.

Other comments I would offer about that, when I look at our renewal rate, whether that's for FortiCare or FortiGuard. They're very stable, perhaps even picking up a little bit. So I feel very good about what we're seeing there.

When I look at attach rates for the contracts to the appliances, I see very much the same there. That is to say, very stable, perhaps a slight uptick in terms of attach rates.

Fatima Boolani -- UBS Warburg, LLC -- Analyst

Super helpful. Thank you.

Operator

Thank you. And our next question comes from Shaul Eyal from Oppenheimer. Your line is open.

Shaul Eyal -- Oppenheimer & Co., Inc. -- Analyst

Thank you. Good afternoon, guys. Congrats on the ongoing consistent performance. Ken, like Fatima, I want to go back to the recent Accelerate '19 event just a few weeks back. You talked about the move into third generation of cyber security, or security-driven networking. Can you talk to us on how the fabric strategy fits with your customers' transitioning into this third-generation of cyber security? And I have a follow up.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Yeah. Thank you. It's good question. Because the reason they're starting to have this -- the infrastructure and security (inaudible) because the traditional trust border within the company now was disappearing now because the data are starting go to the cloud, to the edge, to the mobile outside. And even within the company also there are so many different way you can access outside with Internet or some other things. They also bring your own device, bring a lot of things inside a company. So that's where the security is starting to move inside a company now and also side the company border there.

So that's why we (inaudible) fabric approach or infrastructure approach is really different part of our infrastructure needs working together. And the network security is the center of that because multi-threat also come on the network side. But you also have to working with different application and also different part of the cloud and also like within a company also through internal segmentation, the WiFi, and also the SD-WAN (inaudible). So that that's the multiple part infrastructure working together is the key. That's what we call the integrated and automated approach.

Here the key is really how to make all this kind of cover the broad attack surface and also can -- also make response to all this attack. And so that's where the integration is key, and without integration, you cannot move to the next stage of automation. But it's an innovation sometimes make it difficult across different product lines, across different vendor. So that's where the fabric really tied to all these things together. So among fabric product, multi-strategy internally innovate and build is really want to make -- working together from day one. So that's what making integration, automation much more effective, more easier compared -- but also, we have formed some other partner program, like with Symantec in their leading endpoint side. So that's where we kind of are working together to make sure we can cover more broad attack surface and the security whole infrastructure. So that's how the Fabric story began.

Shaul Eyal -- Oppenheimer & Co., Inc. -- Analyst

Got it. Thank you for that. And also at Accelerate you discussed Fortinet's remaining highly focused on channel partners. Maybe a two-part question here. Any change in contribution from your largest distributors over the course of the past few quarters? And what is it that Fortinet has been doing to support the distributors near and longer term? Thank you.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Yeah. We want to invest more with the partner and channel program because we also realize that security, the service piece is very, very important. That's why even the customer bought a product, make sure they can get the best service, and a lot of service also goes through our partner. So that's where we want to have a close relation with the partner and also have a win-win both profit together with the (inaudible) space together. So that's where we see like with attendance of the Accelerate, the partner-customer conference up 37%. So it's a huge success. And we can see the partner, the customers (inaudible) to us compared to some of our competitor kind of setting limits some of the channel partner program, and where we see a very strong feedback from partner to see the advantage of our product and also a better margin we starting to share with them.

Keith Jensen -- Chief Financial Officer

Yeah. This is Keith. I'll just kind of jump in and echo some of what Ken said. Look the partners are very, very important to us. It's a critical part of our business, and it's a way in which we have access to end-users that oftentimes we would not have access to. If you look at the different types of partners that we have, you probably get a little bit different flavor in terms of how we're working together. At the distributor level, we're really providing them with incentives and trainings for what we call distributor-led business. At the SMB level, we're looking for targeting customers and again providing them whether it's financial incentives or training programs that will help enable us to extend our reach further and further into the SMB. I think even the VARs that are looking to provide MSSP-type services and some other companies that are trying to provide private cloud services, you see us making investments in there. But again, overall, as Ken alluded to, the partner program remains very important to us.

Shaul Eyal -- Oppenheimer & Co., Inc. -- Analyst

Thank you.

Operator

Thank you. Our next question comes from Melissa Franchi from Morgan Stanley. Your line is open.

Hamza Fodderwala -- Morgan Stanley & Co., LLC -- Analyst

Hi, this is a Hamza Fodderwala in for Melissa Franchi. I had a quick question just regarding revenue in the quarter. So I think, Keith, you mentioned about just the increasing deferred revenue giving more visibility into the forward outlook. But the revenue did come in below the high end of the guidance range and the product revenue growth slowed down quite a bit versus Q4. So I'm wondering are you seeing any changes in the overall refresh environment or is this more just like a seasonal slowdown in Q1.

Keith Jensen -- Chief Financial Officer

Yeah, I don't think that -- you kind of touched on couple points. The refresh cycle that's been talked about, you're not going to see that have the same impact on us that it would have on a large enterprise organization. If you go back and look at us in 2013, '14, '15, very strong MSSP, SMB business, hence probably different renewal rate, a different return rate, different ASPs. If you benchmark that against a traditional enterprise incumbent, I think that's probably more of a discussion point for that particular group of companies.

In terms of what you saw on the quarter relative to just -- I would say that's just normal seasonality for us. Q1 is an extremely renewal-rich quarter, meaning the sales team has to spend a lot of time and energy focusing on renewing customers. That's just kind of the normal contract expiration date. And I think when you see that, and historically you've noted -- or we would note that you get a different bit of a mix shift in our billings between services/renewals and product.

Hamza Fodderwala -- Morgan Stanley & Co., LLC -- Analyst

Got it. And just a follow-up question, just more housekeeping. You mentioned service provider being 40% of top 25 deals. In terms of just total billings, what was that mix?

Keith Jensen -- Chief Financial Officer

The service provider came in at about 19% of our total -- 18%, excuse me, I stand corrected, 18% of total billings.

Hamza Fodderwala -- Morgan Stanley & Co., LLC -- Analyst

Okay, got it. Thank you.

Operator

Thank you. Our next question comes from Andrew Nowinski from Piper Jaffray. Your line is open.

Andrew Nowinski -- Piper Jaffray & Co. -- Analyst

Great. Thank you for taking the question. So I wanted to ask on the geographic split. Your growth in Europe has consistently outperformed the other regions, and this quarter was no different. Is there any color you can provide regarding the wide disparity in growth rates in Europe versus the US?

Keith Jensen -- Chief Financial Officer

I think historically the European team has just performed extremely well. It's a mature sales team that's worked together for many, many years. The partner program there it's very, very stable and continuing to work with the same partners over and over again. So we feel very, very good about what we're seeing there. I think if you compare the US number, that had a pretty tough compare I think year-over-year. So I wouldn't read too much into that. I do think that there's significant opportunity for us in the US, particularly as we push further and further toward the enterprise.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Also the -- enterprise also needed some time to ramp up and also we tried to speed up enterprise and also harnessing more enterprise sale, but enterprise you have some like six to 12 months like behind when they onboard you some result.

Andrew Nowinski -- Piper Jaffray & Co. -- Analyst

Okay, got it. And then just a follow-up question. As it relates to your billings, you had very strong performance in Q1, but it looked like the guidance for Q2 is maybe a little bit below consensus. Did any deals get pulled into Q1 that may have boosted Q1?

Keith Jensen -- Chief Financial Officer

No, not really. And again, if you look at our mix, you don't just see us talking about eight-figure deals. You'll see us talking about seven-figure deals. So it seems unlikely that we'd be pulling something in. I would say that overall I think Q1 came in very much like we expected it to come in. It was very nice to see the outperformance on the billings line for the quarter, and I would say at this point after a quarter underneath our belt, I think the year is looking very much like we expected it to look like.

Andrew Nowinski -- Piper Jaffray & Co. -- Analyst

Okay, very good. Thank you very much.

Operator

Thank you. And our next question comes from Saket Kalia from Barclays Capital. Your line is open.

Saket Kalia -- Barclays Capital, Inc. -- Analyst

Hey, guys. Thanks for taking my questions here. Maybe for you, Keith. Just to go back to the product and services split and just ask it in a little bit of a different way. I think you mentioned in your prepared remarks that mid-range appliances in particular did well in the quarter. Can you just touch on whether that mix had any sort of impact on the year-over-year compare in product revenue?

Keith Jensen -- Chief Financial Officer

I saw (ph) the midrange product family steal share, if you will, from both the low-end and the high-end product. And I think that what you're seeing there we've talked previously about the success on the -- on the E-series product particularly the 500E. And I think with the introduction of the 400 and the 600, not saying the 400 and 600 had a significant impact in the quarter given their recent introduction, but I expect that the mid-range product is going to continue to do very, very well for us. Not sure I'd offer much more than that on it.

Saket Kalia -- Barclays Capital, Inc. -- Analyst

Got it. That's helpful. Maybe for my follow-up for you, Ken, maybe just a little bit higher level. Obviously a lot of success with this idea of security driven networking and that SD-WAN capability built into FortiOS. And so the question is since you're really consolidating appliances here for customers with SD-WAN and the firewall, how do you think about the monetization strategy for that down the road? It feels like right now it's a -- it's a nice way to gain share in the network security market, but are there any other thoughts on kind of how the pricing packaging there for SD-WAN could potentially change in the future, if at all?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

I think just like 10 years ago when we were starting to have WiFi built into the FortiGate, we do see like security networking most starting to kind of go together. And especially like a security is more like a top-down approach because security like I said needs 10 to 100 times more computing power to process the same traffic compared to the networking. So it's more easy for the security vendor to like offer some networking function because security parts can have a much bigger computing power and more room to offer additional function there.

But on customer angle also the -- in the network security side, no one likes to have a multiple (inaudible). It's more costly, lot of latency, and difficult to manage, and that's where the more you can consolidate some function into a single pass, the better. So that's the feedback from customers. And we (inaudible) we're also starting see the service part starting to go up. So that's what compared to like a few years ago the service keeping increase and that's part of because some function like SD-WAN, the customer wants to buy additional service, and not just the traditional like 8 by 5, 24 by 7, but also we offer because the FortiCare 360 service that's helping customer to monitor (inaudible) network, their security deployment. So that's certainly we see starting growing more quickly. And also Keith mentioned the 24 by 7 FortiCare supporting. So we'll also starting to grow very quickly compared to the 8 by 5. So all this kind of helping to drive additional service, additional margin for us.

Saket Kalia -- Barclays Capital, Inc. -- Analyst

Very helpful. Thanks.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Thank you.

Operator

Our next question comes from Michael Turits from Raymond James.

Robert Majek -- Raymond James & Associates, Inc. -- Analyst

Hi. This is actually Robert Majek on for Michael today. How are you doing balancing your focus on improving in enterprise with maintaining your strength in SMB, both in direct sales and in the channel?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

I think we're starting (inaudible) because to support enterprise, you need to have the whole structure behind from the marketing side to the sales coverage and to the process supporting. And also sometimes you also need some long-term investment. So we're starting to procure this like (inaudible) as infrastructure be ready at the same time and also get enterprise sales people onboard and also the marketing supporting also starting to build out to supporting enterprise.

Keith Jensen -- Chief Financial Officer

Yeah. I think it's a very good -- it's a very fair question. We've set out a framework that we're operating within in terms of what our profitability expectations are in the coming years. And within that framework, we're investing I think successfully in both our channel MSSP and SMB business and continuing to see what I believe to be very, very strong growth in that region. And then using the excess proceeds, if you will, from the success in that to fund the growth into the enterprise segment of the market.

And as Ken talked about, there's many moving parts there. One thing that we track very closely is what we call account coverage ratios, which is how many accounts are assigned to each individual rep in the enterprise space. And I would say that this is a process that we're going through while we're looking to continually improve that ratio. Looking at those ratios and looking at the pipeline, we continue to believe that it's a very worthwhile investment to continue to push into the enterprise.

Robert Majek -- Raymond James & Associates, Inc. -- Analyst

That's really helpful. And just has a follow-up question maybe, just taking a step back here. Last quarter you expressed some caution around the macro environment. How are you feeling at this point?

Keith Jensen -- Chief Financial Officer

Yeah, I was -- January was a little interesting around -- for various companies. I think January for us (inaudible) quarter started off a little bit slower than we would liked, but after that I think the quarter hit its stride. At the moment, I don't think we're concerned about government shutdowns or Brexit seems to have been deferred. We'll see what happens between China and the US. But as I commented earlier in the -- in the call, at the end of the day I think Q1 pretty much shaped up like we expected it to, but with a little bit of outperformance on the billings line. And I think with Q1 underneath the belt, we feel good about the rest of the year.

Robert Majek -- Raymond James & Associates, Inc. -- Analyst

Appreciate it.

Operator

Thank you. Our next question comes from Brad Zelnick from Credit Suisse. Your line is open.

Brad Alan Zelnick -- Credit Suisse Securities (USA) LLC -- Analyst

Great, thanks so much for taking the questions. Ken, I paid careful attention to your comments about the seven-figure EMEA based power and water utility win that you had, in particular using FortiGate in your SD-WAN product and management capabilities to provide visibility and integration into the customers' OT network. When we think about the OT opportunity, how big do you feel it really is? How much are you investing to go after it? And do you need specialized product to win in this market?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Yes. That's IoT is one of the driving engine, growth engine for us. So our estimate (inaudible) copy brochure which is public information in the website. By 2022 will be $19 billion market for the IoT/OT security. So we're leading in that space, and they do need a different product and also even different function compared to the traditional network security or some other like cloud or infrastructure security.

And at the same time it also needs some investment early, both on the engineer side, in the go-to-market strategy, and the sales coverage side also, but we are very happy to see the progress we're making there very fast. It's one of the fast-growing area for us right now and also lot of (inaudible). The base is small, the growth is very, very fast and also huge potential going forward. It's like probably more than double, triple the size compared to some (inaudible) securities and other space.

Brad Alan Zelnick -- Credit Suisse Securities (USA) LLC -- Analyst

Great. That's very helpful. And Keith, just on CapEx. Appreciate the comments on 2019. Can you give us any sense of how we should think about the investments going forward into next year? I know it's a bit early.

Keith Jensen -- Chief Financial Officer

Yeah, that's a bit early. I think I would offer that we plan to occupy the building in October of 2020. If we don't occupy the building on October 2020, Ken is going to have a very painful conversation with me.

Brad Alan Zelnick -- Credit Suisse Securities (USA) LLC -- Analyst

Fair enough. Thanks.

Operator

Thank you. Our next question comes from Tal Liani from Bank of America Merrill Lynch.

Daniel Bartus -- Merrill Lynch, Pierce, Fenner & Smith Inc. -- Analyst

This is Dan Bartus on for Tal. Thanks for taking the questions. I'd like to start with a higher level one. So you're doing really well with the network products clearly for a while now. So I'm curious just what other areas do you think you could emerge as more of a leader. And I'm thinking about endpoint, email, network access control, et cetera, wondering which adjacent or newer areas could you have provide the most upside surprise potentially in 2019.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

I think (inaudible) we prefer the partnership, like the partner with Symantec because some space which already have a leader there and also has been there for a while. For that we are more intent to do a partnership. That's why we have more than 57 we call the 4G Fabric-Ready partner program and especially more close partnership with Symantec for the endpoint solution.

In some of the new area we also try to leverage both internal R&D innovation and also (inaudible) space. Like last year we had two acquisitions more on the technology product side acquisition. That (inaudible) side and also for the internal security -- maybe internal security approach.

So that's where we look in the whole landscape is really -- network security is pretty interesting because (inaudible) growing by keeping innovate and also integrate. It's not like endpoint or some other space. Sometime you may have a multiple vendor, a multiple solution (inaudible) together. In a network security most customer cannot have a one box in line. They have to prevent bad traffic. And then the more function you can integrate will be more helping the customer to really manage reduce the cost and latency, availability, outages.

So that's where we feel is innovation and integration is very, very key for us and keeping growing the same time partner with some other part of infrastructure player is also very, very important for us. And we still try to gaining market share and also by partner together is also we find is a very effective way to have a win-win a situation.

Daniel Bartus -- Merrill Lynch, Pierce, Fenner & Smith Inc. -- Analyst

Great. That makes sense. And then you're gaining share across the entire firewall market, but it looks like the share gains have also been mostly weighted to the campus and branch office, which makes sense with the SD-WAN trends. So, first, just wondering if you agree that most of the share gains have been weighted to the segment of the market for you guys. And then second, just curious who you view as your main competition for that market because it's kind of a rare combination of firewall and SD-WAN that you guys are coming with? Thanks.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Actually, our growth in the Fortune 2000 is much faster than the average and probably even faster than all the branch office growth. So that's where we do keep gaining most share in the big enterprise also. And SD-WAN is the one we feel we have more advantage compared to some other SD-WAN player or some other security player and also the market also grow very, very fast. It's about 50% growth year-over-year and we are one of the leading provider.

So we also starting -- we also have been doing this for last few years. So that's why we are more heavily promoting the SD-WAN, but also the investment into the enterprise and also some other fabric part also we see very, very fast growth, above average. So I think the growth is really led by multiple fronts and we do see each of them also gave us quite a good potential and advantage over our competitor going forward.

Keith Jensen -- Chief Financial Officer

Yeah. Thanks, Ken. I'll just add to what you said. I think if you look at the vertical loan that would offer that I think very pleased with what I'm seeing with financial services. We come out of a history of being very active and engaged in the trading areas of banks and such, and now seeing that move -- allowing us to move into other segments within that -- within those institutions.

And I would offer that when I look at the segment of the state, local, international, government, education, those are doing extremely well. There was an earlier comment about OT. I think if you started translating OT into verticals such as transportation, utilities, I think we're seeing some real success there as well

Great. Thanks, guys.

Operator

Thank you. Our next question comes from Rob Owens from KeyBanc Capital Markets. Your line is open.

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

Hey, guys. This is Mike Casado on for Rob Owens. I wanted to circle back on the trends in North America. I know that there was a tough year-over-year comparison, but since our checks did pick up some weakness in North America, I'm hoping you can speak specifically to execution in the region, at least, as compared to your initial expectations?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

The hiring of sales rep is little bit behind, which we will also speed up, add more resources behind to accelerate the hiring there. So that's have a little bit impact on North American growth. But I think we have allotted product, the program and just somehow the headcount little bit behind and that's also difficult to keeping improving the productivity and all the other things. So that's where -- because North America tend to be very competitive on hiring there, but we also (inaudible) more resource behind to our salaried hiring there. Other than that, we don't see any big issue there. We do believe this thing will come back quickly.

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

That's helpful, Ken ...

Keith Jensen -- Chief Financial Officer

Ken's spot ...

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

I'm sorry. Go ahead.

Keith Jensen -- Chief Financial Officer

Ken's spot on with that. I think the first area (inaudible) in terms of -- we talked before that we'd like to see our sales hiring move roughly in tandem with our revenue, maybe just a little bit below that. We fell short of that as you saw in my comment earlier in the presentation. And I think the key area of focus within that is really to do more things that help us in the U.S.

Now that said, I would offer, I think, the US has done extremely well with the enterprise penetration. They continue to move in that direction and they're moving very quickly. That does tend to be a little bit lumpier, obviously, than the SMB and the MSSP business.

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

That's helpful. And then relative to engagements that do involve OT or IoT, who are you seeing competitively? And what proportion of these engagements are truly greenfield?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

I think we do see some smaller player, because a lot of our new company view is, it's a new market, a niche market, but for us, we also want to leverage our cumulative technology innovation from other part of network infrastructure security to apply into the OT, IoT space. So also, kind of, working with some other, like, traditional equipment provider and some other service provider to offer better service in the space.

And the space actually need a lot of different approach, whether that's segmentation or some kind of unrecognized environment, the solution is different, but also take some time to invest and also to have a solution to fit in that space. But we do see huge potential, like I mentioned, we'll be growing to $19 billion in the next three years. So there will be huge potential in the space.

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

Great. Thank you.

Operator

Thank you. Our next question comes from Walter Pritchard from Citi. Your line is open.

Walter Herbert Pritchard -- Citigroup Global Markets, Inc. -- Analyst

Hi, thanks. Two questions on the product side. One on the enterprise side. It feels like during '18 you had talked more confidently about traction in the enterprise and it feels like you here -- Ken, you mentioned you need to -- you need to ramp up some hiring there. Has there been some attrition or anything that would explain the difference? And then, I had a follow-up on the product mix.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Just somehow the security space is pretty hot in the last few quarters (inaudible) competition on hiring. We also step up our effort there also because the hiring time is kind of starting to hold us on the faster growth in the North America, which we add additional resource. But we feel -- it's really -- the hiring actually -- for us, the growth also kind of we need to have more account coverage to grow faster in North America, but that's also comes from hiring, comes from the additional training program, and that's where we (inaudible).

Walter Herbert Pritchard -- Citigroup Global Markets, Inc. -- Analyst

Okay. And then on the -- I guess, on the FortiGate, non-FortiGate, can you help us understand either the mix within the product line of FortiGate and non-FortiGate? Or remind us what the attach is, what's the relative difference of attach of subscription and annuity on FortiGate versus the non-FortiGate?

Keith Jensen -- Chief Financial Officer

So non-FortiGate will include software, will also -- software licenses and relative support is attached to it. There's also product versions of the fabric products and software versions of those products. And then there's also secure access, which is switches and access points.

The software obviously has the richest of the margins. Overall, what we're seeing from margins in those -- in that product suite, are very, very comparable with what we see throughout the rest of the company. I think the -- yeah, I think that's it.

Walter Herbert Pritchard -- Citigroup Global Markets, Inc. -- Analyst

And then just, Keith, on the non-FortiGate, I think it was 25% of total billings. Is it safe to say it was more than 25% of product? And any color there on how much of product the non-FortiGate made up?

Keith Jensen -- Chief Financial Officer

I don't have any color on that. I'm kind of looking around. It wasn't something that stood out to me one way or the other.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

A little more I'm told.

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

Okay. Thank you.

Operator

Thank you. Our next question comes from Patrick Colville from Arete Research. Your line is open.

Patrick E. Colville -- Arete Research Services LLP -- Analyst

Thank you for taking my question. Can I ask about the billings? So the quarter billings beat was really healthy. But you haven't really lifted the guide by much for the fiscal year and 2Q is coming very much in line with expectations heading into the quarter. I mean can you just circle back to that one and just give some color on why that is?

Keith Jensen -- Chief Financial Officer

Yeah. I think we feel very good about how the year is shaping up. I do think that we basically took the over-performance in the first quarter and put it back on top of the guidance and raised the guidance for the full year. And I think coming off of Q1, that's probably a prudent approach to take to things.

Certainly when we look at the pipeline, the sales coverage, the sales tenure, the key metrics that we're looking at for the second half of the year, absent needing to hire some people faster that Ken's talked about, I think we feel very good about how the year is shaping up.

Patrick E. Colville -- Arete Research Services LLP -- Analyst

Great. And can I ask Ken a question about firewall-as-a-service? One of your competitors, whose first letter begins with Z, is talking very constructively about firewall-as-a-service and the opportunity in that market. What's your take? You've been in the industry a long time. What's your take on firewall-as-a-service? And how that could evolve and how Fortinet maybe could play into that in the future?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Yeah. I think for us currently two-third of the revenue comes from the service. Service is a very, very important part of the offering. And so we do keeping invest more on the service side and also like additional function like SD-WAN, that's also driving a lot of additional service revenue for us. So that's where we -- and also when you go to enterprise, service is also very, very important, service and support into the enterprise customer. And so that's where we kind of keeping (inaudible) service is very, very part. Other than that, any additional thing?

Keith Jensen -- Chief Financial Officer

No. That's OK. Operator, next question ...

Operator

Thank you. We'll take our next question from Gray Powell from Deutsche Bank. Your line is open.

Gray Wilson Powell -- Deutsche Bank Securities, Inc. -- Analyst

Great. Thanks for taking the questions. Just a couple, if that's OK. So I was just trying to make sure that we have a clean comparison on the product revenue side. Was ASC 606 a benefit, a headwind, or just neutral to product revenue in Q1? And then how should we think about that dynamic for the remainder of the year? Thanks.

Keith Jensen -- Chief Financial Officer

Yeah, I think the -- I think it's pretty much neutral to answer your question. To give you color, both obviously 2018, 2019 are on 606. So the numbers are comparable. If you go back and look at some of our disclosures from the prior periods, you probably saw things related to the software that was being recognized a little faster and some channel inventory in the US, but those components I believe are typically less than $5 million and that's kind of where we're at as we continue to move forward.

Gray Wilson Powell -- Deutsche Bank Securities, Inc. -- Analyst

Got it, thank you. And just a quick follow-up. Can you give any color on unit volumes in Q1?

Keith Jensen -- Chief Financial Officer

Unit volumes moved very much in tandem with product revenue growth.

Got it, OK. Thank you very much.

Operator

Thank you. Our next question comes from Taz Koujalgi from Guggenheim Partners. Your line is open.

Imtiaz Koujalgi -- Guggenheim Securities LLC -- Analyst

Hey, guys. Thanks for taking my questions. I'm not sure if I missed this on the call, but did you guys give the billings growth by different regions?

Keith Jensen -- Chief Financial Officer

No. We gave revenue growth in the back of the -- in the investor slide deck, you'll see the revenue growth by regions.

Imtiaz Koujalgi -- Guggenheim Securities LLC -- Analyst

Can we have it? I think you guys give that metric every quarter, right, the billings by region?

Keith Jensen -- Chief Financial Officer

No. No we don't.

Imtiaz Koujalgi -- Guggenheim Securities LLC -- Analyst

Okay. And then one more housekeeping question. Well, how was the enterprise growth in the quarter excluding the service provider vertical?

Keith Jensen -- Chief Financial Officer

The enterprise growth trailing 12 months, 23%, 24% growth.

Imtiaz Koujalgi -- Guggenheim Securities LLC -- Analyst

For this quarter, for Q1?

Keith Jensen -- Chief Financial Officer

Trailing 12 months number is what we give historically and it was 23%, 24%.

Okay, got it. Great, thank you.

Operator

Thank you. Our next question comes from Ken Talanian from Evercore ISI. Your line is open.

Kenneth Richard Talanian -- Evercore Group LLC -- Analyst

Hi. Thanks for taking the question. I was wondering if you could help us understand the market opportunity for your 360 Protection bundle. How to think about that across customer segments and maybe how to think about the potential uplift to ACV as customers adopt that?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Yeah. We're starting promoting that service about one years ago and we can see there's a huge potential, especially like some relate to customer need additional help to health check up their deployment or their network function, their security function. It's ramped up very, very quickly, but that also need additional service supporting personnel to supporting that. We're also starting training quickly, both on the Fortinet side and also some of our partner side also, but we do see -- this is one of the future strong growth area for us and also the service support has much better margin than the product side.

We also see -- it's also kind of helping improving the overall margin for us. And while it's still in the early stage, ramp-up stage, and also we need to acquire additional training support and effort and also promotion that is -- because so far the 8 by 5, 24 by 7, so when customer has trouble they call us, call the supporting line, but this is more like proactively do the health check and helping customer to prevent anything happen ahead of time. So we've had very, very positive feedback from all the customers, especially lot of enterprise customer. We do see this can be keeping growing faster than other part of whether the service and support going forward.

Kenneth Richard Talanian -- Evercore Group LLC -- Analyst

And just as a quick follow-up to that, how should we think about your level of investment in the personnel necessary to support that this year versus what you did in 2018?

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

I think we are -- I think probably one thing we try to improving the (inaudible) hiring, kind of overall hiring trend behind the growth, but also we don't want to be behind too much, which eventually will limit the growth. So it's kind of -- we want to keep the build in the revenue growth a little bit ahead of hiring but not by too much.

Keith Jensen -- Chief Financial Officer

Yeah. And this is Keith. To build on Ken's comment. If there was a significant labor impact, if you will, from FortiCare 360, it will start appearing in the services gross margin line. And obviously with the growth that we just reported, we're not seeing that.

Kenneth Richard Talanian -- Evercore Group LLC -- Analyst

Got it. Thanks very much.

Operator

Thank you. Our next question comes from Robert Breza from Northland Capital Market. Your line is open.

Robert Paul Breza -- Northland Securities, Inc. -- Analyst

Hi. Thanks for taking my questions. But my questions regarding hiring have been answered and asked. Thank you.

Operator

Thank you. And our next question come from Daniel Ives from Wedbush. Your line is open.

Daniel Harlan Ives -- Wedbush Securities Inc. -- Analyst

Yeah, thanks. So I just have a question on large deal flow. I mean obviously, it continues to be tremendous. Is that a trend that you're expecting in the coming quarter just given the pipeline?

Keith Jensen -- Chief Financial Officer

Well, I guess I would probably expand the metric that we gave on the prepared remarks. I think we talked about deals over $1 million. I should also offer that deals over $500,000 grew at about 35% and that has been -- some quarters we give that number, some quarters we don't. But it's been a very consistent area of growth for us on that $500,000 and above range.

Daniel Harlan Ives -- Wedbush Securities Inc. -- Analyst

And do you think the success that you're having on large deals is more on the partner side, direct, competitively in terms of just what's driving some of these numbers that continue to defy the haters? Thanks.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

It more come from our effort to drive enterprise growth, so that's where the lot of our like direct touch and also closely working with partners help, both also partner is like -- and also the partner like in the we call the Fabric-Ready partner like the Symantec and all these are helping driving the big enterprise sales which is a much bigger deal compared to the other part.

Daniel Harlan Ives -- Wedbush Securities Inc. -- Analyst

Great job, again. Keep it up. Thanks, guys.

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Thank you.

Operator

Thank you. And I am showing no further questions from our phone lines. I would now like to turn the conference back over to Peter Salkowski for any closing remarks.

Peter Salkowski -- Vice President, Investor Relations

Thank you, Crystal. I'd like to thank everyone for joining the call today and let you know that Fortinet will be attending the following Investor conferences during the second quarter. We'll be at the Jefferies Conference May 8 and 9 in Beverly Hills, the JPMorgan Conference in Boston on May 14, the Baird Conference in New York on June 4th, the William Blair Conference in Chicago on June 5th, and the Bank of America Conference in San Francisco on June 6th. We look forward to seeing many of you at the -- over the next several weeks. If you have any follow-up questions, please feel free to give me a call or send me an email. Have a good rest of your day. Thank you very much.

Operator

Ladies and gentlemen, thank you for your participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a great day.

Duration: 59 minutes

Call participants:

Peter Salkowski -- Vice President, Investor Relations

Ken Xie -- Founder, Chairman of the Board, and Chief Executive Officer

Keith Jensen -- Chief Financial Officer

Fatima Boolani -- UBS Warburg, LLC -- Analyst

Shaul Eyal -- Oppenheimer & Co., Inc. -- Analyst

Hamza Fodderwala -- Morgan Stanley & Co., LLC -- Analyst

Andrew Nowinski -- Piper Jaffray & Co. -- Analyst

Saket Kalia -- Barclays Capital, Inc. -- Analyst

Robert Majek -- Raymond James & Associates, Inc. -- Analyst

Brad Alan Zelnick -- Credit Suisse Securities (USA) LLC -- Analyst

Daniel Bartus -- Merrill Lynch, Pierce, Fenner & Smith Inc. -- Analyst

Michael Edward Casado -- Keybanc Capital Markets, Inc. -- Analyst

Walter Herbert Pritchard -- Citigroup Global Markets, Inc. -- Analyst

Patrick E. Colville -- Arete Research Services LLP -- Analyst

Gray Wilson Powell -- Deutsche Bank Securities, Inc. -- Analyst

Imtiaz Koujalgi -- Guggenheim Securities LLC -- Analyst

Kenneth Richard Talanian -- Evercore Group LLC -- Analyst

Robert Paul Breza -- Northland Securities, Inc. -- Analyst

Daniel Harlan Ives -- Wedbush Securities Inc. -- Analyst

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