Palo Alto Networks (PANW -1.23%)
Q3 2023 Earnings Name
Could 23, 2023, 4:30 p.m. ET

Contents:

• Ready Remarks
• Questions and Solutions
• Name Members

Ready Remarks:

Walter Pritchard

Good day, everybody, and welcome to Palo Alto Networks’ fiscal third quarter 2023 earnings convention name. I’m Walter Pritchard, senior vice chairman of investor relations and company improvement. Please be aware that this name is being recorded at present, Tuesday, Could 23, 2023, at 1:30 p.m. Pacific time.

With me on at present’s name are Nikesh Arora, our chairman and chief govt officer; and Dipak Golechha, our chief monetary officer. Following the ready remarks, our chief product officer, Lee Klarich, will be a part of us within the Q&A session. You will discover the press launch and different data to complement at present’s dialogue on our web site at buyers.paloaltonetworks.com. Whereas there, please click on on the hyperlink for occasions and displays, the place you can find the investor presentation and supplemental data.

In the course of the course of at present’s name, we’ll make forward-looking statements and projections concerning the corporate’s enterprise operations and monetary efficiency. These statements made at present are topic to dangers and uncertainties. We assume no obligation to replace them. Please evaluate the press launch and our current SEC filings to see these dangers and uncertainties.

We may even consult with non-GAAP monetary measures. These measures shouldn’t be thought of an alternative to monetary measures ready in accordance with GAAP. Probably the most instantly comparable GAAP monetary metrics and reconciliations are within the press launch and the appendix of the investor presentation. Until particularly famous in any other case, all leads to comparisons are on a fiscal year-over-year foundation.

We additionally be aware that administration is collaborating on the Financial institution of America International Expertise Convention on June sixth. I’ll now flip the decision over to Nikesh.

Nikesh Arora — Chairman and Chief Government Officer

Thanks for becoming a member of us.

Walter Pritchard

Good day, everybody, and welcome to Palo —

Nikesh Arora — Chairman and Chief Government Officer

Oops. There is a little bit of somewhat repeat AI motion there. Thanks, Walter. Good afternoon, everybody, and thanks for becoming a member of us at present for our earnings name.

As you may see, as soon as once more, our groups have delivered a balanced quarter between our top- and bottom-line efficiency within the present macroeconomic setting. In Q3, our billings grew 26% 12 months over 12 months and income grew 24%, whereas RPO grew forward of those at 35%. Our Q3 non-GAAP working revenue and our trailing 12-month adjusted free money stream each grew about 60% 12 months over 12 months, whereas we achieved our fourth consecutive quarter of profitability on a GAAP foundation. Let’s speak concerning the macro setting.

The general macro tendencies of cautious spending, deal scrutiny, and value and worth consciousness persist. Furthermore, the conduct continues to be extra widespread throughout a bigger swath of our prospects. Towards this backdrop, we’ve got been staying forward, with rigorous execution. We have elevated our personal deal scrutiny, gotten forward of the challenges, and proceed to sharpen our enterprise worth focus whereas demonstrating superior safety outcomes to our prospects.

From a know-how development perspective, there is no such thing as a important change. The themes we’ve got seen round cloud adoption, automation, and hybrid work proceed with minor variations. Community transformations, albeit with lengthy cycles, proceed to be undertaken as a result of they provide price financial savings and are a part of a modernization stack for many prospects as they go down their cloud and community transformation journeys. This, in flip, continues to drive a sustained demand for SASE and {hardware} and software program firewalls.

As we’ve got shared earlier than, the theme of consolidating round platforms continues to return up, and we’re well-positioned to supply options on this regard. For sure, within the final three months, ChatGPT and generative AI have revived curiosity in AI as a know-how. As we’ve got at all times maintained, AI is an information drawback and safety is an information drawback and has an fascinating — AI has an fascinating function to play in safety, each for its means to assist ship superior safety outcomes in close to actual time, and sadly, the potential menace related to the AI getting used to generate assaults. We’ve and proceed to work on these issues.

We should always speak extra about this at present. Then again, we proceed to see limiting — restricted underlying development in {hardware} within the {industry}. While the provision chain disaster and its results are all however over, there’s a shift that the disaster created. We’ve seen a better urge for food for software-based options in networking and better urge for food for cloud-delivered kind elements.

That is significantly salient within the present capex-constrained setting. On the adversary entrance, there appears to be no impending recession and threats. Elevated cloud exercise and connectivity continues to drive the menace setting. That is finest illustrated by current findings within the seventh installment of our Unit 42 Cloud Risk Report.

It nonetheless takes the common safety workforce roughly six days to resolve a safety alert. In distinction, it solely takes a menace actor a number of hours to take advantage of a newly found vulnerability. Whereas over 7,000 malicious variations of open-source software program packages have been circulated in 2022, lower than 1 / 4 of these packages are sourced correctly to make sure a clear software program model is integrated right into a typical buyer’s codebase. Regulatory curiosity continues to rise and is prevalent throughout a number of governments.

There’s sustained exercise round incremental regulatory mandates and govt orders to create consciousness round cybersecurity. That is true not solely on the authorities stage but in addition as firms’ board of administrators are bringing extra oversight and drive an alignment of accountability for cybersecurity. This requires incremental organizational focus and funding by our prospects. On the macro entrance, prospects anticipate that international development might sluggish.

Some are grappling with rising capital prices and are watching their backside strains extra carefully. This implies in search of efficiencies of their enterprise. Inside cybersecurity, complicated architectures and lengthy vendor rosters have come into focus, and many purchasers see this as a possibility to simplify and drive consolidation. 5 years in the past, once I highlighted the necessity for platform architectures and consolidation, the concept was met with some resistance.

However over the previous couple of years, our industry-leading options three-platform method has continued to take maintain and has allowed us to supply a much-needed possibility for simplicity, a contemporary stack, and higher safety outcomes for our prospects. I discussed earlier that our prospects are participating in additional scrutiny of offers and worth, leading to strong discussions internally and with us. We proceed to work onerous to remain forward of deal cycles, participating the CFO and procurement departments. The price of cash continues to change into a subject of dialog as prospects enter into bigger and longer-term relationship with us.

Some additionally search extra versatile enterprise phrases. A robust stability sheet permits us to accommodate prospects, whereas we maximize our medium-term money stream. Let’s flip to effectivity in operations. As we began this fiscal 12 months, we pivoted our efforts and targeted our effort on doing extra with much less.

Our groups responded successfully. Coupled with waning of the provision chain disaster, we’ve got been capable of adapt our working mannequin considerably. Dipak will get into specifics, however it suffices to say we’ve got discovered a brand new rhythm, and at our scale, we imagine we will proceed to drive higher margins from our enterprise. We’ve achieved this via selective hiring in our customer-facing groups, in addition to streamlining our go-to-market efforts, along with hiring for key innovation areas, which we count on to proceed to do.

These efforts are self-evident in our greater Q3 working margins and our elevated working in free money stream margin steerage for the 12 months. We proceed to see platformization in cybersecurity. I talked about consolidation earlier. A key a part of our thesis at Palo Alto Networks has at all times been to drive superior cybersecurity outcomes for our prospects.

To do this, we want a sturdy portfolio that works each individually and cohesively to scale back the burden on our prospects who must sew collectively disparate cybersecurity merchandise. We have needed to navigate this positive line with our prospects. We proceed to see the advantages of this method and suppose we’re in a multiyear development. We’ve the chance to do to safety what we’ve got seen accomplished in monetary software program, HR software program, or CRM, the place prospects have tailored to platforms because of the inherently superior advantages from information integrity, integration, seamlessness, and final result orientation.

As they are saying, the proof is within the pudding. You’ll be able to see our success right here driving bigger platform transactions. Throughout the board, the scale of the transactions we’re signing is growing. That is evidenced by reserving from transactions validated over $1 million, $5 million, and $10 million within the third quarter, that are up by — 12 months over 12 months by 29%, 62%, 136%, respectively.

We see an analogous development in cohorts of our prospects. For instance, once we take a look at the common lifetime worth for our 200 largest prospects, we have seen regular development of 30%-plus over the past three years. After we take a look at purchases of our platforms among the many International 2000, we see now that 53% of our prospects have purchased a product in all three platforms of Strata, Prisma, and Cortex, up from 48% a 12 months in the past and 33% two years in the past. We see this as a seamless development.

It convinces us that the chance to affect outcomes for our prospects is giant if we will get this proper. We see the trail to continued success with giant prospects and multiproduct growth round put in base. I will now replace you on our three platforms, beginning with community safety. We’re the great zero belief community safety firm.

This quarter, we have been proud to be named a brand new chief in Gartner’s most up-to-date Safety Service Edge Magic Quadrant. This recognition is apt as our groups have been delivering important innovation and seeing stronger buyer adoption in SASE for years. This, along with our management place in SD-WAN, makes us the one SASE vendor within the {industry} to be named chief within the Gartner SSE and SD-WAN Magic Quadrant. Add to that our management place and community firewalls and our No.

1 market share place digital firewalls, we’re the one vendor with clear management throughout zero belief community safety. This management throughout the community safety class is a testomony to our means to drive important innovation in new markets whereas sustaining our management in core markets and providing this innovation as a part of our cohesive platforms. Let’s speak about SASE. SASE stays one of many fastest-growing markets inside all of cybersecurity.

Our ARR is rising over 50%. At scale, we’ve got surpassed 4,200 prospects in Q3. Our success has unfold throughout all three main geographies, as highlighted by giant offers in every of those territories in Q3. Let me let you know about three of those notable wins.

First, a world beverage firm with U.S. headquarters signed a transaction north of $30 million, which incorporates 24 million of SASE for a whole SASE transformation that included Prisma Entry, Prisma SD-WAN, and our ADEM, or autonomous digital expertise administration, for tens of 1000’s of staff. Second, a Japan-based know-how firm signed an eight-figure transaction to modernize its community and its community safety after an in depth POC. Earlier than standardizing on our SASE, the client changed its legacy firewalls and different community safety capabilities and standardized on our next-generation firewalls, driving a full zero belief community technique.

Lastly, a European know-how firm signed a excessive seven-figure SASE deal that was a part of an total transaction to Palo Alto Networks of as soon as once more almost $30 million in whole worth. The client purchased from us due to our a number of community safety kind elements. Within the broader transaction, we added capabilities resembling IoT and totally adopted our core community safety subscriptions. You all would possibly keep in mind, in the beginning of this fiscal 12 months, as a part of our scaling efforts, we mixed our SASE gross sales group into our core gross sales group.

Drivers right here have been that we noticed SASE demand going mainstream, and we noticed encouraging indicators that our core sellers might promote the extra complicated SASE providing. After three quarters of executing as a mixed group, we’re delighted to report that over 80% of our core reps take part within the creation of Prisma SASE pipelines as we enter This fall. Q3 was a powerful quarter of innovation, highlighted by our AI-powered SASE launch. This flagship launch contains capabilities to allow organizations to automate their more and more complicated IT and community operations heart capabilities with AIOps.

And it improves monitoring for networks and apps on the department workplace and considerably improves integration with IoT safety. Transferring over to our firewall enterprise. Broader than SASE, the way forward for community safety is evident to us. It’s centered round software program.

And whereas we’ve got led and count on to proceed to guide the {hardware} equipment market for a few years, software program and cloud-delivered kind elements have been an growing focus since I joined as CEO. There are a number of explanation why the shift to software program is accelerating. Within the altering macro setting, prospects are extra challenged of their capex budgets, which frequently fund equipment purchases. Because of this, their curiosity in software program and cloud-delivered kind elements stay excessive.

That is very true when tied to strategic initiatives round cloud adoption. Illustrating this, we noticed a major uptick in buyer requests to judge our digital firewall choices in the beginning of the pandemic. Buyer curiosity in VMs have been additionally sparked by provide chain challenges, the place we noticed evaluations maintain. We proceed to see primarily web new demand for software program and cloud-delivered kind elements.

Nonetheless, we’re seeing extra equipment replacements and planning for this development to proceed and probably speed up. Past the power I already lined in SASE, we noticed VM-Collection offers over $1 million greater than double in Q3, together with an eight-figure deal we signed with the federal government company the place they moved from a primarily appliance-centric mannequin to VM-Collection as they totally leveraged public cloud as their major infrastructure. This 12 months, to date, our VM-Collection bookings are up greater than 40% 12 months over 12 months, and it grew over 55% in Q3. Most buyers have equated our product income with {hardware}.

Nonetheless, given the drivers I’ve talked about right here, this has been quickly shifting. Software program now contributes 30% of our product income. That is up from about 10% three years in the past. We count on this development to proceed.

And as Dipak would remind you, bookings from our VM-Collection and SASE transactions are acknowledged as income extra over time than an equipment reserving. Given the dialog about AI, as I discussed, there’s a renaissance in synthetic intelligence, pushed by important advances in giant language fashions, the event of extra highly effective and environment friendly computing, and the broad availability of huge volumes of coaching information. Because of this, we’ve got all seen a few of the quickest innovation cycles and launches of distinctive purposes over the past a number of months. At Palo Alto Networks, we’ve got been targeted on this know-how for a few years, and our efforts have been accelerating over the past two years.

We first launched machine studying capabilities as a part of our WildFire providing seven years in the past. Within the ensuing years, we added AI and machine studying capabilities throughout our community safety portfolio, and it has been a essential driver of our innovation and differentiation available in the market. In 2020, we launched the {industry}’s first machine learning-powered next-generation firewall, the place machine studying detection moved in line to forestall zero-day assaults. Since then, we’ve got overhauled almost all of our safety subscriptions with superior AI capabilities, DNS safety, superior URL filtering, superior menace prevention, and superior WildFire, all harness machine studying for in-line detection and prevention of zero-day assaults.

This implies even new assaults which have by no means been seen earlier than are blocked on the very first tried use by an attacker. Moreover, we utilized AI to IoT safety to find, determine, and safe IoT gadgets. And most just lately, it was expanded to cowl each medical IoT and OT safety wants. We had a signature launch in SASE that included AI-powered autonomous digital expertise administration, along with leveraging AI for SD-WAN, in addition to AI-powered phishing prevention.

Briefly, we’ve got actually been accelerating the applying of AI to our community safety stack, and it is one of the crucial mature purposes of AI within the safety {industry} at present. We’re not solely forward in investments in AI and machine studying as a differentiator in our merchandise, however these investments have pushed tangible buyer advantages. In a typical day, we analyzed almost 750 million, sure, 750 million new distinctive telemetry objects worldwide. This contains information, URLs, domains, DNS connections, and different alerts.

Our AI fashions analyze this information. And day-after-day, we see 1.5 million new assaults which have by no means been seen earlier than. We take these new insights and add them to all the opposite issues we’ve got already learn about, and we use them to dam 8.6 billion assaults throughout our buyer base every day. This manner is the inspiration how we do higher safety throughout our community safety platforms.

And that is how we proceed to get higher and higher at detecting zero-day assaults and being ready truly to forestall these assaults as properly. Transferring on to Prisma Cloud. Our early information in Prisma Cloud continues to strengthen. Most of our rivals proceed to supply solely level merchandise, whereas buyer demand continues to shift towards the platform method.

Inside this, connecting the left facet to the precise facet, in any other case often called code to cloud, is turning into paramount. For instance of our platform success, we proceed to see sturdy utilization of our Cloud Safety Posture Administration and Cloud Workload Safety choices. Clients are more and more standardizing on these foundational modules, with 49% of Prisma Cloud prospects utilizing each CSPM and CWP. This quarter, Gartner famous that in 2022, solely 25% of enterprises purchase these capabilities from a standard vendor.

They count on this may improve to 60% of enterprises by 2025. On the identical time, we proceed to remain forward of the {industry}’s want for brand new capabilities, which is core to our dedication as a platform. We’re on monitor to launch our eleventh module as we combine cybersecurity. We’re additionally targeted on driving {industry} certifications in Prisma Cloud.

And simply final quarter, we have been accepted by the Joint Advisory Board and reached prepared standing for FedRAMP excessive, a primary for a cloud safety platform. This comes along with different certifications we’ve got achieved, together with just lately introduced Prisma Entry reaching Impression Stage 5 or IL5 provision authorization. IL5 is the very best unclassified authorization stage for DOD companies underneath the FedRAMP course of. We proceed to see regular development in consumption of Prisma Cloud credit, which have been up 44% 12 months over 12 months in Q3.

Our platform is essential to the regular development. We proceed to see prospects improve their consumption as they deploy workloads and strategically leverage the general public cloud on the core of their IT and enterprise technique. This contains migrating workloads to the hyperscale clouds, constructing new purposes within the cloud, and leveraging new cloud providers. They’re additionally deploying new Prisma Cloud modules, of which we presently have 10.

The variety of prospects utilizing two or extra Prisma Cloud modules grew 37% 12 months over 12 months, whereas the quantity utilizing 4 or extra modules virtually doubled. We now have one in 5 of our Prisma Cloud prospects utilizing our cloud code module throughout our capabilities and infrastructure as code, SCA or software program composition evaluation, and secrets and techniques administration as they leverage the extra environment friendly method to detect and remediate safety points as code is written for cloud purposes earlier than it reaches manufacturing. Now, shifting on to Cortex. This has been a web new enterprise for Palo Alto Networks.

A enterprise which is born within the perception that we have to convey next-generation innovation to the SOC and all of the associated actions, identical to we had introduced the firewall enterprise years in the past. We’re delighted to announce that Cortex achieved our $1 billion reserving milestone within the final 12 months. Cortex was born in 2019. And since then, we’ve got targeted intensively on making certain we’ve got industry-leading capabilities throughout endpoints, SOC automation, and assault floor administration.

Within the final 4 years, we’ve got risen to a number one participant in automation, software of AI, assault floor administration and proceed to climb the charts of the XDR {industry} as one of the crucial technically succesful options. We’re significantly happy with the truth that XDR has constantly led in safety efficacy. XDR delivered 100% prevention and 100% detection throughout the 19 analysis steps carried out by MITRE and has had the very best high quality detections of any product within the newest spherical of evaluations. On the again of our onerous work driving these capabilities, we’ve got constructed Cortex enterprise to over $1 billion in bookings over the past 12 months, as I discussed.

It is up from 150 million in annual bookings once we launched Cortex as a enterprise in 2019. As we glance ahead, these three core capabilities in Cortex are precursors to main the next-generation autonomous safety operations heart, which pulls this all collectively and was launched publicly a number of months in the past known as XSIAM. Our next-generation SOC platform, XSIAM, constructed completely on AI, is on monitor to be our fastest-growing new providing. XSIAM represents one other important alternative inside Cortex as we fulfill our imaginative and prescient round autonomous safety operations.

Like community safety a decade in the past, safety operations have advanced slowly. XSIAM is now paving the best way for us to drive AI-driven safety transformation outcomes. After our GA launch in late Q1, our design companions made important industrial commitments to XSIAM. We adopted that up in Q2 by broadening our go to market and reaching early success with $30 million in bookings.

This quarter, we established momentum for XSIAM with quarterly bookings greater than doubling sequentially as we signed our first eight-figure deal and transactions throughout all three of our main geographic theaters with this product. We stay optimistic concerning the prospects of XSIAM with the product, the middle of shoppers’ safety operations heart of transformation. We’re seeing XSIAM give us entry to a broader swath of our prospects’ price range. Primarily based on what we’ve got achieved this quarter and what we see within the pipeline, we’re assured we will obtain our aim of $100 million in bookings sooner than we initially anticipated.

This may make it one of many fastest-growing safety platforms from Palo Alto Networks. Not solely does XSIAM convey collectively the core capabilities of Cortex, however it additionally brings AI-driven outcomes to prospects. This heralds a brand new method to safety, an outcome-based method. The inspiration got here to us from our personal SOC, the place we have been woefully sluggish in our personal imply time to remediate 5 years in the past.

Our MTTR was in days, which, in at present’s adversarial setting, is unacceptable. With that perception in thoughts, we have been capable of gather billions of occasions, after which utilizing AI, reduces down to simply over 100 alerts from a handful of incidents. From right here, persevering with to make use of AI automation, we’re capable of examine and reply whereas detecting incidents in a matter of seconds and responding to high-priority ones in underneath a minute. This is without doubt one of the most compelling final result tales in safety.

To this point, within the early prospects which are farthest alongside on this journey with us, we’re seeing the advantages accrue in an analogous approach. We course of over 3.5 petabytes of information a day throughout the client state of XDR and XSIAM. From right here, we apply roughly a thousand AI fashions to detect assaults. We then leverage good scoring and use automation to speed up investigation response.

We’re seeing early indications that prospects are capable of see reductions in imply time to reply from days or even weeks all the way down to hours or minutes, identical to we did. Stepping again, we’re lucky to be targeted on the components of know-how market that’s extra resilient. Our prospects rely upon their partnership with us to handle challenges which are solely turning into extra subtle. The market is hard and undoubtedly tougher than once we began right here.

I am proud that our workforce has executed via this setting. Our technique focuses on having industry-leading capabilities, serving to prospects simplify their architectures, and consolidating distributors is working. Given our various portfolio of merchandise, a few of our merchandise are rising sooner in any given quarter and others are moderating. Mixed, you see this portfolio profit within the top-line outcomes we reported at present.

We additionally see important alternative as we start to embed generative AI into our merchandise and workflows. There are three ways in which our thought of funding as generative AI will profit us. First, generative AI will assist us enhance our core under-the-hood detection and prevention efficacy by additional advancing the state-of-the-art AI and ML in our merchandise that I spoke of at present. Second, it’s going to present itself in how our prospects interact with our merchandise.

We’ll leverage our giant cybersecurity information set and telemetry to supply a extra intuitive and pure language-driven expertise inside our merchandise, which is able to enhance NPS and drive effectivity advantages for our prospects. And eventually, as our staff leverage generative AI, we’ll drive important effectivity in our personal processes and operations throughout the enterprise. We intend to deploy proprietary Palo Alto Networks safety LLM within the coming 12 months and are actively pursuing a number of efforts to understand these three outcomes. Our portfolio method, firm’s total scale, and concentrate on effectivity have enabled us to drive important leverage.

We’re properly forward of schedule right here, and we’re not accomplished. As we proceed to execute our plans, we see extra alternatives for effectivity. With our visibility into incremental leverage, we proceed to see the working revenue ranges in our fiscal 12 months 2023 steerage as a baseline to construct upon. With that, I’ll flip the decision over to Dipak to debate the small print of Q3 and our steerage.

Dipak Golechha — Chief Monetary Officer

Thanks, Nikesh, and good afternoon, everybody. For Q3, income was $1.72 billion and grew 24%. Product income grew 10%. Complete service income grew 29%, with subscription income of 838 million, rising 31%; and assist income of 495 million, rising 25%.

Transferring on to geographies. We noticed income development throughout all theaters, with the Americas rising 24% 12 months, EMEA up 23%, and JPAC rising 24%. The power of our next-generation safety capabilities continues to drive our outcomes, with NGS ARR of $2.6 billion, rising 60%. We noticed power throughout all three platforms: community safety, cloud safety, and safety operations.

We delivered whole billings of $2.26 billion, up 26% and above the excessive finish of our steerage vary. Complete deferred income in Q3 was $8.1 billion, a rise of 38%. Remaining efficiency obligation, or RPO, was $9.2 billion, growing 35%, with present RPO just below half of our RPO. Our non-GAAP earnings per share have been considerably forward of our steerage, rising 83% 12 months over 12 months.

We once more delivered sturdy money stream in Q3 with trailing 12-month adjusted free money stream of $2.8 billion, rising 68% 12 months over 12 months. Transferring on to the remainder of the monetary highlights. Non-GAAP gross margin of 76.1% was up 320 foundation factors 12 months over 12 months, pushed primarily by a better software program combine, scale back provide chain prices, and a few efficiencies in buyer assist. Our non-GAAP working margin of 23.6% elevated 540 foundation factors 12 months over 12 months.

Along with bettering gross margins, slower headcount additions contributed to our working leverage. Primarily based on our efficiency in Q3, we’re elevating our fiscal 12 months ’23 non-GAAP working margin steerage. Non-GAAP web revenue for the third quarter grew 86% to $359 million, or $1.10 per diluted share. Our non-GAAP efficient tax fee was 22%.

We once more delivered GAAP profitability in Q3 with GAAP web revenue of $108 million or $0.31 per diluted share. Now, turning to the stability sheet and money stream assertion. We ended Q3 with money, equivalents, and investments of $6.7 billion. It’s value reminding buyers that our 2023 convertible be aware will mature on July 1, 2023, and we count on to settle the principal obligation with money on our stability sheet of $1.7 billion.

The surplus might be settled in shares. These shares have beforehand been accounted for in our non-GAAP diluted shares excellent. Q3 money stream from operations was $432 million, with whole adjusted free money stream of $401 million this quarter. Inventory-based compensation declined by 90 foundation factors as a share of income sequentially.

On a year-over-year foundation, stock-based compensation was down 220 foundation factors as a % of income. As we glance ahead, we stay targeted on worthwhile development. At our Analyst Day in 2021, we outlined plans to drive 50 foundation factors to 100 foundation factors of margin growth yearly in fiscal 12 months 2023 and financial 12 months 2024. Within the months main as much as this profitability dedication, we targeted in depth on optimally balancing investments in our enterprise and alternatives to seize efficiencies and profit from our rising scale.

Because of this, we got here out of this effort with important conviction in significant working leverage. In fiscal ’22, we began implementing these plans however confronted provide chain challenges that unexpectedly drove greater prices. Whereas the provision chain was unsure as we entered fiscal 12 months 2023, we additionally noticed indicators of a altering macroeconomic setting. As such, it was the precise time to speed up our effectivity plans.

We targeted our headcount additions in gross sales and R&D to gasoline our medium-term development prospects. Exterior of those essential funding areas, we have leveraged our scale and employed know-how to accommodate our development in different enterprise areas. Moreover, provide chain challenges have continued to abate at an growing tempo, serving to to enhance our gross margin. The end result has been a major acceleration in working margin growth via the primary three quarters of fiscal 12 months 2023 and likewise will increase to our working and free money stream margin steerage via the 12 months.

As you see with our steerage for non-GAAP working margin in fiscal 12 months 2023, we’re almost 300 foundation factors forward of the midpoint of our fiscal 12 months 2024 vary that we implied again in 2021. We now see our fiscal 12 months 2023 non-GAAP working margin as a baseline to construct on sooner or later. Transferring on to steerage. For the fourth fiscal quarter of 2023, we count on billings to be within the vary of $3.15 billion to $3.20 billion, a rise of 17% to 19%.

We count on income to be within the vary of $1.937 billion to $1.967 billion, a rise of 25% to 27%. We count on non-GAAP EPS to be within the vary of $1.26 to $1.30, a rise of 58% to 63%. For the fiscal 12 months 2023, we count on billings to be within the vary of $9.18 billion to $9.23 billion, a rise of 23% to 24%. We count on NGS ARR to be within the vary of $2.80 billion to $2.85 billion, a rise of 48% to 51%.

We count on income to be within the vary of $6.88 billion to $6.91 billion, a rise of 25% to 26%. We count on product income development within the vary of 15% to 16% of fiscal 12 months ’23 as we see provide chain challenges normalize as we exit fiscal 12 months ’23. For the fiscal 12 months ’23, we count on working margins to be within the vary of 23% to 23.25%. We count on non-GAAP EPS to be within the vary of $4.24 to $4.29, a rise of 69% to 70%.

We count on our adjusted free money stream margin to be 37.5% to 38.5%. And we count on to be GAAP worthwhile for fiscal 12 months 2023, together with in This fall. Moreover, please think about the next modeling factors. We count on our non-GAAP tax fee to stay at 22% for This fall ’23 and financial 12 months ’23, topic to the result of future tax laws.

For This fall ’23, we count on web curiosity and different revenue of $50 million to $55 million. We count on This fall diluted shares excellent of 326 million to 332 million. We count on fiscal 12 months diluted shares excellent of 322 million to 324 million. And we count on This fall capital expenditures of $35 million to $40 million.

With that, I’ll flip the decision again over to Walter for the Q&A portion of the decision.

Walter Pritchard

Thanks, Dipak. [Operator instructions] Our first query will come from Saket Kalia of Barclays, with Hamza Fodderwala from Morgan Stanley on deck. Saket, you are muted. All proper.

Why do not we go to Hamza —

Saket Kalia — Barclays — Analyst

OK. Are you able to hear me now?

Walter Pritchard

Go forward.

Saket Kalia — Barclays — Analyst

Sorry. It did not let me unmute. Thanks a lot for taking the query right here and good job to the workforce executing in a really difficult setting. Nikesh, possibly a variety of good issues to speak about, however I would love to simply double-click on the working margin enchancment right here that you’ve got seen and actually a brand new baseline that the workforce is creating going into subsequent 12 months.

Perhaps the query is, are you able to and Dipak possibly speak about what areas the workforce is discovering effectivity and what are the alternatives for effectivity possibly going ahead as properly? Thanks.

Nikesh Arora — Chairman and Chief Government Officer

Yeah. Look, I will preface that. As Dipak highlighted, the provision chain disaster is all however over. And as you realize, there have been some hostile impacts to gross margins by — pushed by {hardware}.

I believe the product combine is in our favor as we go from {hardware} to software program. Our gross margins are approach higher on software program than they often are on {hardware} given software program firewalls are a lot, way more worthwhile for us. Coupled with that, I believe what Dipak actually has been driving for the final 12 months as we flipped into the brand new macroeconomic setting has been an actual concentrate on useful resource utilization ROI, in addition to ensuring we’re targeted on our hiring solely on workers the place it is vital. We additionally talked about streamlining gross sales forces.

For those who keep in mind, Saket, we’ve got the dialog round ensuring our SASE workforce is built-in with our core, which saved us tons of of heads by way of effectivity, in addition to driving extra final result and output from a SASE perspective. Typically, these have been a few of the key drivers, however, Dipak, did you need to add one thing?

Dipak Golechha — Chief Monetary Officer

No, I believe you’ve got lined all of it. I believe, Saket, we have talked about this earlier than.

Nikesh Arora — Chairman and Chief Government Officer

Microphone.

Dipak Golechha — Chief Monetary Officer

Yeah. You recognize, we scale properly as an organization, proper? And I believe that is throughout all of the completely different components of our P&L. I believe Nikesh has talked concerning the provide chain. We talked concerning the opex.

I simply additionally talked about cloud internet hosting and cloud consumption. As we get larger and we eat extra, we’ve got the power to return to our service suppliers and attempt to negotiate a greater contract. So, I believe throughout all of the areas of the P&L, we scaled fairly properly as an organization.

Nikesh Arora — Chairman and Chief Government Officer

And I believe to your query by way of the place this goes, as Dipak stated, this can be a new baseline. We expect there may be continued alternative from right here. And we have not even factored within the potential affect of generative AI as you’ve got been listening to all of the dialog within the {industry}. We’re nonetheless engaged on it.

We’re understanding it. We’re relooking at processes. However, you realize, we imagine there’s a there there. We expect there might be a possibility sooner or later to get extra effectivity from generative AI as we go forward and implement a few of the capabilities via our group.

So, I believe there’s upside, each within the continued efforts of what Dipak has been driving for the final 9 months and there may be the — type of the icing on the highest is the potential software of generative AI as we proceed to develop enterprise over the following few years.

Saket Kalia — Barclays — Analyst

Received it. Nicely accomplished. Thanks.

Walter Pritchard

Thanks, Saket. Subsequent query is from Hamza Fodderwala from Morgan Stanley, with Brian Essex from J.P. Morgan on deck. Hamza, go forward.

Hamza Fodderwala — Morgan Stanley — Analyst

Hey, guys. Good night. Hope you may hear me OK. Perhaps a query for Nikesh and Lee Klarich if he is round.

Nikesh, on AI, you realize, you’ve got clearly been interested by this lots based mostly on what I can inform out of your Twitter. However, you realize, we have been at RSA final month, and whereas there’s a variety of alternative round AI, did there appear to be a variety of dangers round information safety, round type of the information that these fashions are skilled on. So, I am curious, as you have got that AI-based dialog along with your prospects, how are you getting them comfy round that to actually leverage the complete capabilities of AI to automate their SOCs?

Nikesh Arora — Chairman and Chief Government Officer

Yeah. I believe there’s two completely different components of it. I believe one half is us utilizing AI already in our merchandise the place we’ve got been utilizing it for some time to have a look at sample recognition, take a look at what’s telling us from a real-time evaluation of information perspective. As I discussed, we deploy over a thousand AI fashions to go take a look at what occurs the following time.

That is all proprietary. It is taking place. In our occasion, it is not an LLM that is going out and getting skilled. It is a proprietary AI mannequin utilized by Palo Alto Networks, constructed by Palo Alto Networks, getting used for a particular use case and a activity for safety.

Now, to the extent that we intend and can deploy conversational AI in our fashions, we’re working with each public mannequin and open-source mannequin on the market to grasp how can we construct it utilizing our personal proprietary information. I do not know. Lee, did you need — are you able to elaborate on that, please? What did you need — are you able to focus on —

Lee Klarich — Chief Product Officer

Sure. Sure, after all. It’s totally early within the giant language mannequin adoptions that we’re seeing. And as you level out, there are a variety of dangers related to them, significantly in enterprise use instances.

You recognize, we have already seen some examples the place information has fed into giant language fashions with out the understanding of how the information can be used, and the information has been publicly — made publicly obtainable, though it was confidential. So, it is very clear that there’s sensitivity there. There’s additionally sensitivity from a safety perspective of issues like immediate injection assaults, information poisoning, and issues like that that must be taken under consideration. The — and so I believe what we’ll see is the enterprise use instances of LLMs will evolve somewhat bit extra — truly, they should evolve somewhat bit extra methodically and thoroughly to take these safety challenges under consideration.

On the identical time, although, it is also vital to acknowledge that they provide large promise, as talked about Nikesh earlier, by way of having the ability to assist information product adoption, product utilization, to assist improve safety capabilities, and to drive better efficiencies throughout the enterprise.

Nikesh Arora — Chairman and Chief Government Officer

Yeah. I believe to cap it off, I believe there is no such thing as a doubt we’ll proceed to deploy our proprietary AI fashions for XSIAM or for our community safety use instances I highlighted. We imagine in our preliminary evaluation over the past three months and driving a variety of these work streams internally that there’s a there there with generative AI. So, we imagine that we’ll be deploying generative AI over the course of the following few months, and we’ll speak extra about it at later occasion.

However we predict that has a possibility each to considerably enhance our buyer effectivity and the efficacy of our merchandise, on the identical time, additionally to drive efficiencies inside the best way we run Palo Alto Networks. I believe final however not the least, which is one thing you did not ask, however I will say, you realize, individually, Lee and his workforce have been working onerous to see and take a look at the hostile affect that generative AI might have by way of adversaries utilizing generative AI to construct new malware to attempt to assault our prospects. And there is a variety of work we’re doing as properly to verify we’re capable of shield our prospects towards any such exercise that’s carried out utilizing generative AI.

Hamza Fodderwala — Morgan Stanley — Analyst

Thanks.

Walter Pritchard

Thanks to your query, Hamza. Subsequent query is from Brian Essex at J.P. Morgan, adopted by Brad Zelnick from Deutsche Financial institution. Brian, go forward.

Brian Essex — J.P. Morgan — Analyst

Yeah. Hey, good afternoon, and thanks for taking the query. And to observe up on Saket’s feedback, good development in working margin right here, and it is good to see money stream margin steerage go up as properly. If I might take down — for those who might possibly peel again a few layers on that, core drivers of that money stream margin enchancment and the way sustainable it’s.

We observed that capex seem like — seems to be prefer it’s somewhat bit decrease than you beforehand guided to. So, simply questioning, you realize, as we sort of, you realize, take a look at that as a foundational metric to lean on for valuation, how sustainable is that? And as we sort of forecast working margins going ahead, ought to that, I suppose, hole between working margins and money stream margins stay comparatively constant going ahead?

Dipak Golechha — Chief Monetary Officer

Yeah. So, Brian, thanks for the query. Let me simply begin off with like the most important driver over the long run is absolutely simply to strengthen new bookings, at the very least new billings, after which comes down. Then the inspiration, actually, is your working margin then makes up the bottom that you are able to do in your money.

You recognize, there are a number of different elements however do acknowledge that once we got here into the 12 months, the rates of interest have been at a unique stage. We’ve had the good thing about greater rates of interest. We have deployed a variety of our money that we earn curiosity revenue. We — you realize, we’re not predictors of rates of interest, however essentially, we imagine that that can proceed to be a tailwind for our money era.

After which final however not least, we do have PANFS. We’ve a certain quantity of our enterprise that, you realize, we do construction and financing. Frankly, that is been broadly in keeping with what we assumed in the beginning of the 12 months. However these are actually the drivers.

And we really feel fairly comfy on, you realize, what we’re capable of do with these completely different drivers in delivering on numbers.

Brian Essex — J.P. Morgan — Analyst

Nice. Thanks.

Walter Pritchard

Nice. Thanks, Brian. Subsequent query is from Brad Zelnick at Deutsche Financial institution, adopted by Andrew Nowinski at Wells Fargo. Go forward, Brad.

Brad Zelnick — Deutsche Financial institution — Analyst

Nice. Thanks a lot for the query and good job each to Nikesh, Dipak, and all the workforce. Nikesh, my query is about M&A, which I really feel like sometimes comes later within the name, however I really feel prefer it’s such an important alternative proper now. What is the hurdle to doing a big deal? And may you remind us how you consider transformative M&A? And simply associated to that, your rivals naturally knock you on having grown via acquired innovation.

Simply to set the document straight, are you able to speak about how a lot a precedence and a spotlight it’s to have a deeply built-in product?

Nikesh Arora — Chairman and Chief Government Officer

Yeah. Brian, I believe initially, I am amused that you just’re asking for transformational M&A. I believe — I really feel like, someway, we at Palo Alto Networks have been going via a change already for the final 5 years. Let me speak concerning the two completely different components.

One, and I would prefer to bust the parable of the notion that we have grown our innovation via M&A as a result of just about all the XSIAM product that we constructed, which is now going to be one of many quickest platforms of Palo Alto Networks, is homegrown. It was constructed by our workforce internally. It was designed, constructed, and delivered by the Cortex workforce. So, I believe it is a disservice to them to say that a few of the fastest-growing platform is being constructed at Palo Alto Networks was acquired.

Equally, our next-generation firewalls or our SASE product. Our SASE product, for essentially the most half, is completely homegrown, pushed by the safety capabilities that we constructed utilizing our firewalls, in addition to our digital firewall enterprise. I believe nearly all of our M&A has been targeted on constructing our cloud safety portfolio the place we felt the place we would have liked to be assertive and be on the market within the entrance. And I might say, you realize, auxiliary capabilities, whether or not it is an automation with XSOAR or auxiliary capabilities on our assault floor administration.

So, backside line, we’re very comfy with the three platforms that we’ve got and what we have to get accomplished. I believe we have been very clear about from an acquisition perspective, we search for product functionality the place we will take product functionality and connect that and ensure we will resolve extra issues for our prospects that they are . So, from that perspective, my view on M&A is constant that we discover one thing fascinating and {industry} development which is added incremental tech functionality, we’ll do it. I believe from a transformational M&A, I believe we will remodel this firm and have — proceed to remodel it to the place it’s based mostly on our innovation and our stability of execution.

I believe we’ll proceed to do this. I do not suppose the market is especially low-cost but if we have been to attempt to search for a transformational M&A, and I believe it is sort of a twin — double-edged scenario. One, I believe we proceed to get stronger as we get execution underneath our belt, and we proceed to develop in worth as Palo Alto Networks. And if a few of the giant gamers on the market find yourself committing missteps, then we’ll go check out it.

However for now, I really feel very comfy with the place Palo Alto has within the {industry}. I really feel very, very comfy with the amount of money we’ve got on our stability sheet. And I imagine it’s our job to maintain our heads down and maintain executing as a result of it is a robust market. And I believe one of many issues which, you realize, was introduced up only a minute in the past, I believe the alternatives from AI haven’t been totally comprehended by most enterprise companies.

I believe we’re going to endure a change, each as Palo Alto Networks, in addition to usually an enterprise software program {industry} over the following 12 to 24 months as we embrace generative AI. I believe that is the actual alternative and problem in entrance of us. And I believe half of the folks on the market will get it mistaken. And hopefully, we’re on the precise facet of historical past.

Brad Zelnick — Deutsche Financial institution — Analyst

You are doing an important job. Stick with it. Thanks, Nikesh.

Walter Pritchard

Thanks for the query, Brad. Subsequent query is from Andy Nowinski from Wells Fargo, adopted by Matt Hedberg from RBC. Andy, go forward.

Andy Nowinski — Wells Fargo Securities — Analyst

OK. Thanks and congrats on an important quarter. So, almost each single vendor and almost each single reseller we talked to says they’re seeing an elongation of gross sales cycles. But, you appear to defy these headwinds with large development in giant offers and in prospects spending $5 million and $10 million with you.

I suppose would you view this as an vital inflection level because it pertains to type of consolidation in that for those who can drive giant offers on this macro-constrained setting, you can probably see an acceleration of these consolidation tendencies when the macro improves?

Nikesh Arora — Chairman and Chief Government Officer

Are you predicting a macro enchancment, Andy?

Andy Nowinski — Wells Fargo Securities — Analyst

I definitely hope so.

Nikesh Arora — Chairman and Chief Government Officer

Nicely, look, I believe, in the beginning, I do not need to go away you the — with any impression that the macro is just not onerous. It’s onerous on the market. I believe every part you are listening to from resellers, from different folks within the {industry} is true. Clients are spending extra time being attentive to offers.

Clients are taking longer. Some are right-sizing offers. Some are specializing in issues which are vital. Some are in search of financing.

Some need to pay yearly. So, all the consequences that you just talked about are true within the {industry}. And we acknowledge this towards the top of our first quarter. And I will let you know what, we have been working at double time, like actually the day Dipak type of shut the doorways on us having the ability to ebook something this quarter, we’re on the market trying to find the following quarter.

We’ve a giant quantity to hit this quarter. We’re on the market within the area. We’re executing. Our groups are on the market.

So, you realize, as you most likely recognize, there isn’t any magic on the planet round the truth that our quarter-end on July thirty first, there isn’t any price range year-end for any a part of the world on July thirty first. It is a date that is been created that Palo Alto end this 12 months This fall on July thirty first, which implies we’ve got to run as onerous as we will to get enterprise accomplished by July thirty first. We all know that is the top of our 12 months. We all know that is the top of our quarter.

Our prospects know that. So, what we’re doing is we’re getting forward of it. We’re hoping that us getting forward of it and persevering with to carefully execute goes to permit us to have the ability to enhance our conversion charges. And our conversion charges on our pipeline are down.

Guess what? You draw up extra pipeline. Subsequently, your conversion fee that is down nonetheless permits you to make the numbers that you’ve got promised the Avenue. That is what we have been attempting to do. And as I’ve stated, the macro is tough, and we will maintain attempting to maintain our heads down and execute.

Andy Nowinski — Wells Fargo Securities — Analyst

Thanks, Nikesh. Sustain the great work.

Walter Pritchard

Nice. Thanks, Andy. Subsequent query is from Matt Hedberg at RBC, adopted by Gabriela Borges at Goldman. Go forward, Matt.

Matt Hedberg — RBC Capital Markets — Analyst

Thanks, Walter. My congrats once more, workforce. Excellent outcomes. I suppose, for Nikesh or Lee, on the success you’ve got seen so far with XSIAM, you famous — you primarily have full entry to SIM budgets proper now.

I am curious, with a few of the giant offers you are seeing, are these usually changing legacy SIM distributors or are you truly producing new TAM that did not exist beforehand?

Nikesh Arora — Chairman and Chief Government Officer

So, Matt, I will let Lee soar in and speak about a few of the specifics. However I will let you know what, each one in every of these offers is a alternative of a legacy SIM or an information retailer. As well as, we don’t choose XSIAM with out our endpoint merchandise. So, you need to purchase Palo Alto Cortex XDR to deploy XSIAM as a result of we imagine the one strategy to have normalized good supply — single supply of true to information is to deploy our endpoint merchandise.

After which we use that, as I confirmed within the AI funnel, of how we will go cross-correlate that and go drive nice safety outcomes. So, in each case, we’re changing an present method. However I’ll let you know, the SOC {industry} is the other way up. It was designed to date to go — perceive when a breach occurs, how the breach occurred, and attempt to work out the best way to remediate it.

And people remediation occasions, as I highlighted, are six days. And now, most trendy assaults are out and in in underneath 12 hours. So, for those who’ve acquired a SOC infrastructure the place it permits you to provide you with what occurred to you after six days, the dangerous actors have gone out and in in 12 hours, you have got a mismatch. And that could be a drawback.

However, Lee, are you able to spotlight a few of the key use instances that — the place seen within the first 30-plus prospects that we’ve got, what’s pushed a few of this transformation?

Lee Klarich — Chief Product Officer

Yeah. Look, almost — so XSIAM is changing the SIM. It is also changing different instruments within the SOC as properly. The — there’s three core components to how that is taking place.

The primary is round information. As you noticed, 3.5 petabytes of information is being ingested and analyzed. Information is the important thing to driving good AI, and XSIAM is particularly designed to have the ability to ingest giant quantities of information throughout completely different information sources into an AI information lake. Second is how we drive AI-based analytics on that information, be capable to detect assaults in actual time.

That is one thing that the standard SIM {industry} was simply not properly designed to have the ability to do. That’s driving the imply time to detection that you just’re seeing. After which three is the combination of automation natively into XSIAM that enables us to drive the imply time remediation down from what previously was, in lots of instances, days all the way down to hours and even minutes. And so, in all the XSIAM deployments we’re seeing, it is wonderful how rapidly we’re seeing the outcomes that we noticed in our personal SOC once we deployed and operationalized XSIAM.

Nikesh Arora — Chairman and Chief Government Officer

I believe the very last thing I will add in right here. Sorry, Matt. The one factor I will add to that is that over the past 15 years, what has occurred is the associated fee and worth equation in present SOCs has diverged tremendously. So, persons are spending some huge cash accumulating information and enormous information shops, and so they’re not getting satisfactory worth out of it, and so they’re not getting satisfactory safety outcomes out of it.

So, I believe that could be a large hole. And that hole is one thing we have been — we constructed this product to attempt to fill. And now, it actually may be very early days for us I believe. You recognize, the truth that we’ll get to $100 million in a time span which we thought was aggressive and fewer than that.

I believe it tells us there’s an enormous potential on the market, which implies we’ve got to maintain our heads down once more, maintain constructing, maintain executing, and maintain attempting to resolve the issues that our prospects are presenting in entrance of us. However I’ve feeling about this.

Matt Hedberg — RBC Capital Markets — Analyst

Definitely appears that approach. Thanks.

Walter Pritchard

Nice. Thanks, Matt. Subsequent query is from Gabriela Borges at Goldman Sachs, with Adam Tindle from Raymond James on deck. Gabriela, go forward.

Gabriela Borges — Goldman Sachs — Analyst

Good afternoon. Thanks. Both for Lee or Nikesh, I wished to ask about your cloud safety technique in Prisma, particularly with respect to how you consider the precise stability of incentives that you just give prospects upfront to catalyze adoption, after which additionally how you consider the stability of top-down development versus product-led development on condition that DevSecOps, DevOps, a few of these instruments appear to be pushed by product-led development as properly. Thanks.

Nikesh Arora — Chairman and Chief Government Officer

Lee, go forward. Reply that query.

Lee Klarich — Chief Product Officer

So, one of many challenges that we got down to handle with Prisma Cloud was this elementary problem in enterprise cybersecurity, type of the proliferation of level merchandise. Each time there is a new safety want, there is a new product, after which prospects change into the system integrator of all these completely different level options. They usually spend extra time attempting to be the system integrator than they’re truly getting the worth from the merchandise. And so, with Prisma Cloud, we have taken the distinctive method of constructing a platform the place we will ship many alternative capabilities pre-integrated from the identical location.

Now, on the identical time we did that on the technical facet, we additionally approached it from a type of the adoption facet and I will name it the procurement facet of getting a single Prisma Cloud credit score system that makes it very easy for purchasers to purchase a stage of capability after which merely use it to undertake as a lot of the platform as they want and once they want. And so, we have — it is allowed us to focus extra of our consideration by way of how we interact with prospects and the way the product works on in-product adoption, guided adoption of extra capabilities, and enabling them to simply use increasingly more the providers as they want them, versus having to return and switch each module into a brand new transaction with a buyer. And as you noticed from what Nikesh confirmed, the brand new credit score utilization 12 months over 12 months going up about 44% 12 months over 12 months, however then additionally the variety of prospects with two or extra, three or extra, or 4 or extra modules, within the case of 4 or extra, virtually doubling 12 months over 12 months, reveals how properly that’s working.

Walter Pritchard

Nice. Thanks, Gabriela. Subsequent up, Adam Tindle, Raymond James, adopted by Gregg Moskowitz from Mizuho. Adam, go forward.

Adam Tindle — Raymond James — Analyst

OK. Thanks. Good afternoon. I need to begin by simply acknowledging the development in working margin is absolutely spectacular and dedication to that being a baseline is a extremely vital level.

If I am interested by tomorrow, a few of the distracting questions that may come up can be round product income. I believe you grew 10% 12 months over 12 months in Q3, and also you had beforehand guided the fiscal 12 months to 10%. But when I noticed within the slides accurately, I believe you are now elevating that to fifteen% to 16%. So, what’s driving that improve in product income and the acceleration in This fall regardless of the cautionary feedback, and something we will take into consideration by way of places and takes to product income as we take into consideration fiscal ’24 so we do not get forward of ourselves? Thanks.

Nikesh Arora — Chairman and Chief Government Officer

Yeah. Adam, I believe there’s two components to it. One is, as you’ll recognize, we highlighted that software program has change into 30% of our product income. So, we — you realize, whereas once you ebook a {hardware} firewall, you get greenback for greenback for income.

In software program, you do not get a greenback for greenback for income. You recognize, there may be some a part of an amortized worth we get from our software program firewalls and a few a part of our SD-WAN, which turns into a part of our product income. So, we’ve got to run more durable on billings to have the ability to ship product income within the context of software program. However as I discussed, our digital firewalls grew at 55% this quarter.

They grew at 40% for the 12 months, to date. It is a tailwind we had not anticipated. On the identical time, the {hardware}, as I discussed, is just not as sturdy as we might anticipated. So, they stability one another out.

However in — the stability is in favor of software program for now coming off a low base of final 12 months. So, in consequence, we’ve got been capable of enhance our product income steerage. Clearly, it comes at the price of providers income as a result of a few of our software program has now has to work triple time to have the ability to ship product income. So, I believe that is the context through which you must give it some thought total, the place there’s been a draw from one facet and a partial give on the opposite facet within the product income.

Nonetheless, given our RPO is rising approach forward of income, it simply means we’re saving up a variety of income for a future wet day. That sounds about proper financially?

Dipak Golechha — Chief Monetary Officer

No, that is —

Nikesh Arora — Chairman and Chief Government Officer

Giving credit score for a wet day space.

Dipak Golechha — Chief Monetary Officer

The one different factor that I might possibly simply add to that’s merely the provision chain dynamics that Nikesh talks about in his remarks. I imply, that does have some elements, however we actually have been capable of, with a world-class workforce, get forward of the provision chain actuality. And so, which will clarify a few of the variability you are seeing.

Walter Pritchard

Nice. Thanks, Adam. Subsequent up, Gregg Moskowitz from Mizuho, adopted by Shaul Eyal from Cowen.

Gregg Moskowitz — Mizuho Securities — Analyst

Thanks. Are you able to hear me?

Nikesh Arora — Chairman and Chief Government Officer

Sure.

Gregg Moskowitz — Mizuho Securities — Analyst

All proper. I’ve a follow-up for Lee or Nikesh on generative AI. So, your feedback on LLMs have been useful, however do you suppose gen AI will tilt the scales in favor of Palo Alto and maybe another safety distributors over time? Or is it in the end extra prone to trigger a fair sooner recreation of cat and mouse between the distributors and the attackers? How do you see this enjoying out?

Nikesh Arora — Chairman and Chief Government Officer

Nicely, we predict, look, in the beginning, the good thing about generative AI, to date, is twofold, proper? One is in its means to summarize information and provide you with entry to data a lot sooner. Can I think about a gross sales rep at Palo Alto getting access to their fingertips about all Palo Alto data? After all, I can. Can I think about my buyer assist folks getting access to wonderful quantities of data that is on the tip of their fingers to allow them to reply buyer questions a lot sooner? Can I think about for — showcasing that data on to my prospects? As you see within the {industry} now, all of the sudden a plethora of copilots begin to emerge in each product. So, I believe that’s going to change into an apparent advantage of generative AI.

Now, remember, it depends on one precept known as having a variety of information. It is essential that whether or not you are utilizing it for sharing your data out of your prospects — to your prospects, you want a variety of that information. It’s a must to clear all of your information processes and have that. Secondly, for those who’re within the safety enterprise, it undoubtedly helps when you’ve got the biggest information lake on the planet who’ve safety information.

So, from that perspective, I believe it favors the individuals who have a variety of information already as a part of their technique and so they have constructed a enterprise at the back of a data-led technique. I believe not simply particular to safety, in any {industry}, particularly client web. For those who’ve been a UI firm, you have got one thing to fret about. You recognize, for those who’re a journey reserving operator or one thing that simply takes different folks’s information and makes a greater UI, you have got one thing to fret about.

So, I believe from that perspective, it favors firms which have large quantities of information. I believe the second factor that is additionally vital to grasp, now, if I’ve 14,000 folks and I spend 1000’s of — billion — $1 billion in buyer assist or extra, there’s leverage. I can go spend $30 million, $40 million, $50 million deploying LLM and saving half my price. For those who’re operating a small firm and your complete price is $50 million, it most likely would not behoove you to exit and create an LLM-based generative AI undertaking to exit and pay and take away $20 million of price.

So, I believe it additionally advantages folks of scale who’re capable of drive efficiencies utilizing generative AI throughout the enterprise, permitting them to develop their enterprise a lot sooner with restricted sources. Does that assist?

Gregg Moskowitz — Mizuho Securities — Analyst

It does. Thanks, Nikesh.

Nikesh Arora — Chairman and Chief Government Officer

Nice.

Walter Pritchard

Nice. Thanks, Gregg. And Shaul Eyal from Cowen, our final query.

Shaul Eyal — Cowen and Firm — Analyst

Thanks for that. Good afternoon. Congrats, workforce. Nikesh, I need to return, truly.

You recognize, Brad was asking about M&A. I need to ask concerning the aggressive panorama, however particularly with the main focus possibly on the CNAPP entrance. So, my query is, how do you consider it? Any change? Do you suppose that the product proper now, because it stands, is complete, or something you could be pondering of possibly augmenting particularly on the CNAPP entrance? Thanks for that.

Lee Klarich — Chief Product Officer

We’ve, by far, essentially the most complete cloud-native software safety platform there may be. That does not imply that we do every part. However we do excess of some other resolution on the market. There is a large quantity of concentrate on delivering capabilities that we have been constructing internally, organically among the many workforce.

We have seen the newest one we delivered with secrets and techniques scanning only a few months in the past. We have seen excellent early adoption of that. On the identical time, we’re additionally delivering on the newest acquisition of cybersecurity, the place we count on that to change into a brand new module within the subsequent couple of months obtainable to all of our Prisma Cloud prospects. And so, the — you realize, Nikesh talked about how we have leveraged M&A previously to assist construct a few of the key know-how areas of Prisma Cloud, which is totally true.

We’ve additionally proven a capability to ship new cloud safety capabilities organically and be very profitable at that. And proper now, we be ok with the stability of each these capabilities and the way we’re bringing them collectively and the way we proceed to ship new improvements.

Shaul Eyal — Cowen and Firm — Analyst

Thanks.

Walter Pritchard

Thanks for the query. With that, we’ll conclude the Q&A portion of the decision, and I would prefer to cross it again to Nikesh for his closing remarks.

Nikesh Arora — Chairman and Chief Government Officer

Nicely, thanks very a lot once more, all people, for becoming a member of us. We stay up for seeing you — a lot of you on the upcoming investor occasions. I additionally need to as soon as once more take a possibility to thank all of our staff who labored very onerous in a really devoted vogue, as you all know, to assist us obtain the outcomes. Not solely that, a giant thanks to all of our companions and our prospects all over the world.

Have an exquisite day. Thanks.

Length: 0 minutes

Name contributors:

Walter Pritchard

Nikesh Arora — Chairman and Chief Government Officer

Dipak Golechha — Chief Monetary Officer

Saket Kalia — Barclays — Analyst

Hamza Fodderwala — Morgan Stanley — Analyst

Lee Klarich — Chief Product Officer

Brian Essex — J.P. Morgan — Analyst

Brad Zelnick — Deutsche Financial institution — Analyst

Andy Nowinski — Wells Fargo Securities — Analyst

Matt Hedberg — RBC Capital Markets — Analyst

Gabriela Borges — Goldman Sachs — Analyst

Adam Tindle — Raymond James — Analyst

Gregg Moskowitz — Mizuho Securities — Analyst

Shaul Eyal — Cowen and Firm — Analyst

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