Fortinet's (FTNT 0.23%) red-hot rally came to a screeching halt after the company released its second-quarter 2023 results on Aug. 3. This wasn't surprising, as it missed Wall Street's revenue estimates and also lowered its full-year revenue and billings guidance.
The stock price tanked 25% in a single session as investors quickly headed for the exits, even though the company reported solid year-over-year growth in revenue, earnings, and free cash flow. However, Raymond McDonough of investment advisory firm Guggenheim Partners raised his rating on Fortinet to buy and issued a $70 price target that points toward a 20% jump from current levels.
McDonough points out that Fortinet is a structurally sound company that could witness an acceleration in growth in 2024 once the macroeconomic headwinds that it is facing subside. A closer look at the company's business and key metrics will tell us that this could indeed be the case. Let's see why Fortinet's slowdown is likely to be temporary.
Fortinet has built a solid revenue pipeline
Fortinet's Q2 revenue increased 26% year over year to $1.29 billion. The company's non-GAAP earnings surged 58% from the prior-year period to $0.38 per share last quarter. This impressive growth in Fortinet's top and bottom lines can be attributed to a nice jump in the number of deals the company struck last quarter, as well as an increase in the size of the deals.
For instance, Fortinet struck 134 deals worth more than $1 million each last quarter, up from 122 in the year-ago period. The number of transactions worth $250,000 or more increased almost 20% year over year to 836. Fortinet also saw a nice jump of 34% in the number of deals valued at $50,000 or more to almost 4,800.
It is also worth noting that Fortinet's deferred revenue increased 30% year over year in Q2 to $5.1 billion, outpacing its actual revenue growth. The faster growth in deferred revenue bodes well for Fortinet's future, as this metric refers to the amount of money collected in advance for services that will be rendered later. In simpler words, Fortinet has a healthy future revenue pipeline that should allow it to grow at an impressive pace in the long run.
However, management did warn that near-term headwinds are affecting Fortinet's performance. Management explained on the latest earnings conference call:
Regarding the second quarter, we believe macro-uncertainty impacted our billings performance through average contract durations and, in the second half of June, an elevated level of enterprise deals pushing to future quarters.
The company added that the average contract duration of deals shrank by 1.5 months to 28 months last quarter. An "unusually large volume of deals" was also pushed to future quarters instead of being closed in June. As a result of these headwinds, Fortinet has now reduced its full-year revenue guidance to $5.4 billion from the earlier forecast of $5.49 billion. The updated forecast points toward a 22% increase in Fortinet's revenue from 2022 levels, which is respectable considering the headwinds it is facing.
Analysts anticipate Fortinet to deliver revenue growth in the high teens for the next couple of years.
FTNT Revenue Estimates for Current Fiscal Year data by YCharts
But don't be surprised to see Fortinet clocking faster growth for a few simple reasons.
Major catalysts could help the company sustain healthy long-term growth
Fortinet estimates that it is currently sitting on a total addressable market (TAM) opportunity worth $122 billion. The company's 2023 revenue guidance means that it hasn't even tapped 5% of the TAM on offer. The good part is that Fortinet is in a nice position to tap this opportunity, thanks to its solid share in some fast-growing cybersecurity niches.
For instance, Fortinet reportedly commands over 50% of the firewall market, according to market research firm IDC. The global network security firewall market is expected to clock 21% annual growth through 2028 and generate $13.6 billion in annual revenue. On the other hand, Fortinet points out that it is "one of the top and fastest growing" vendors of operational technology (OT) solutions, a market that is expected to be worth $33 billion by 2030.
The company's revenue from OT security products increased by 60% last quarter. Meanwhile, it also saw a 40% increase in revenue from software-defined wide area network (SD-WAN) cybersecurity solutions. This is another fast-growing area expected to generate $20 billion in annual revenue in 2033 as compared to this year's estimate of $3 billion.
All this indicates that Fortinet could regain its mojo and deliver better-than-expected growth once the short-term headwinds that it is facing subside. We have seen that the company already has a robust revenue pipeline and is sitting on a huge TAM. With shares of Fortinet now trading at 43 times trailing earnings as compared to its five-year average price-to-earnings ratio of 70, investors are getting a relatively good deal on this cybersecurity stock right now, which they may not want to miss considering its long-term potential.
