Fortinet Inc

NASDAQ:FTNT

Earnings Call Transcript 2022-Q1

[Operator]

Good day, and thank you for standing by. Welcome to the Fortinet First Quarter 2022 Earnings Call. At this time all participants are in a listen-only mode, after the speakers’ presentation, there’ll be a question-and-answer session. [Operator Instructions]. And please be advised that today's conference is being recorded. [Operator Instructions].

I would now like to hand the conference over to your speaker today, Peter Salkowski, Vice President of Investor Relations. Please go ahead, sir.

[Peter Salkowski, Head of IR]

Thank you, Laurie. Good afternoon, everyone. I'm pleased to welcome everyone to our call to discuss Fortinet's financial results for the first quarter of 2022. Speakers on today's call are Ken Xie, Fortinet's Founder, Chairman and CEO; and Keith Jensen, our Chief Financial Officer. This is a live call that will be available for webcast via -- will be available for replay via webcast on the Investor Relations website.

Ken will begin our call today by providing a high-level perspective on our business. Keith will then follow or then review our financial and operating results for the first quarter before providing guidance for the second quarter and updating the full year. We will then open the call for questions. [Operator Instructions].

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 on all references to financial metrics that we make on today's call are non-GAAP, unless stated otherwise. Our GAAP results and the GAAP to non-GAAP reconciliations is located in our earnings press release and in the presentation that accompanies today's remarks, both of which are posted on the Investor Relations website. Ken and Keith's prepared remarks today for the earnings call will be posted on the Quarterly Earnings section of our Investor Relations website immediately following today's call.

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

I will now turn the call over to Ken.

[Ken Xie, Founder, Chairman and CEO]

Thanks, Peter, and thank you to everyone for joining today's call to review our outstanding first quarter 2022 results. Our better-than-expected first quarter results demonstrate the strong demand of our cybersecurity innovation. Total revenue growth of 34%, driven by record product revenue growth of 54%. Total billings increased 36%. Our strong results reflect new order that was significantly greater than anticipated, partially offset by an increase in backlog. As a result, bookings increased 50% year-over-year to 1,276 billion, which included booking growth for SD-WAN or 54%, Global 2000 growth of 61%, OT growth of 76%.

For the quarter, net new backlog was 9% of bookings as we continue to navigate a challenging supply chain environment. We believe that the hybrid network adhere for foreseeable future, and Fortinet is pushing the boundary of what is possible with innovation to enable customers to successfully operate in today's elevated threat environment. Our solid performance and market share gains are being driven by our effort to make our customers our entire infrastructure more secure and integrate in a zero trust network.

Fortinet as secure-driven network approach converged networking functionality with security capability fueled by our powerful for ASIC SPU to provide the best performance and rich functionality. The new FortiOS 7.2 offers multiple new and enhanced service across FortiGuard, FortiCare and FortiTrust such as VPNA, identity, demand unboxing, advanced device protection for OT and IoT environment, associated service and in-line capacity. And Fortinet provides one of the broadest security service offering and an average of half the cost compared to our main competitors.

In addition, we have prioritized our most organic research and development efforts on integrating security product into our centralized FortiOS fabric platform, which Gartner refer to as a cybersecurity mesh architecture.

Today, we announced a new suite of FortiGate powered by our food ASIC SPU, the FortiGate 3700-F,600-F and 700-F deliver high-performance converged networking and security, with security computer reaching of 5 times on average better performance than competitive offerings.

During the quarter, we are pleased to review -- to receive the Gartner Peer Insight Customer Choice Award for both 1H infrastructure and next-generation firewall for three years in a row. Our innovation position Fortinet as one of the most influential cyber security leaders. These growth drivers and organic innovation is accelerating our growth potential to new level.

Before turning the call over to Keith, I would like to thank our employees, customers, partners and suppliers worldwide for their continued support and hard work. It is their collective effort and a trust that will contribute into Fortinet's strong growth and market share gains.

[Keith Jensen, CFO]

Thank you, Ken, and good afternoon, everyone. Before adding to Ken's comments and going into more detail on our Q1 financial results, I'd like to briefly discuss a wording change in how we describe our business. FortiGate is now referred to as the core platform and non-FortiGate is now referred to as the platform extension. This change helps to emphasize the importance of our FortiOS operating system.

FortiOS drives our entire security platform across multiple platform extension use cases, including Zero Trust access, cloud security, security operations and secure networking. With that in mind, let's start with a more detailed Q1 discussion.

Customer demand was again strong and broad-based across geographies, customer sizes, industries, use cases and security solutions, reflecting three key demand drivers, the elevated threat environment, convergence of security and networking and customers consolidating across our platform offerings. These key growth drivers are contributing to our strong results and accelerating pipeline growth. In short, we believe we are in a period of sustained high growth for the cybersecurity industry and Fortinet.

Moving to the Q1 financial results. Total revenue of $955 million, was up 34%, driven by record product revenue growth of 54%. Taking into account an $80 million, sequential increase in product backlog. Product bookings growth was 87%. Product revenue growth was -- broad based with core platform and platform extension product revenue growth at 50% and 59%, respectively. While we continue to see robust product growth from our SD-WAN and operational technology, or OT, the core platform product revenue growth was mainly driven by the wide range of other use cases embedded in our operating system.

Service revenue was up 24% to $584 million. Support and related services was up 26% to $271 million, while security subscription services revenue was up 23% to $313 million. To offer one observation about how customers may be responding to the supply chain challenges, we are seeing indications that a subset of customer’s place product orders further in advance, and may have delayed purchases or registrations of the related service contracts. This, together with the timing differences with age product and service revenue recognition, creates a lag between product and service revenue growth rates. We expect quarterly service revenue growth to accelerate throughout the rest of the year.

As summarized on Slide 6, total revenue in the Americas increased 32%. EMEA revenue increased 25%. And APAC posted revenue growth of 57%, which includes the contribution from AlaxalA. EMEA's growth includes the impact of suspending operations in Russia. Nonetheless, EMEA easily exceeded their internal targets.

Looking forward, EMEA's pipeline growth indicates continued strength in our EMEA business, despite the situation in Eastern Europe and its potential impact on European economies. Platform extension revenue grew 49% and accounted for 34% of total revenue, up 3 percentage points.

Moving to bookings, backlog and billings. We are experiencing exceptionally strong demand, demand that continues to exceed supply by more than historical norms. Bookings were up 50% to $1.3 billion, reflecting exceptional demand and a $116 million quarter-over-quarter increase in total backlog, bringing backlog to $278 million.

Larger enterprises continue to favor Fortinet's industry-leading cost for performance advantage and are increasingly more appreciative of our integrated platform strategy. The platform strategy allows customers to converge networking functionality with security capabilities and consolidate multiple point products.

The following key metrics illustrate growing demand from enterprise customers. Global 2000 bookings were up over 60%. Large enterprise bookings were up over 65%. Secure SD-WAN bookings grew 54%, reflecting the convergence of networking and security as well as a strong economic case. OT bookings were up 76%, illustrating the continued response to the elevated threat environment.

As a reminder, backlog is excluded from the current quarter billings and revenue. However, it is expected to provide increased visibility and a top line tailwind in future quarters.

At $1.2 billion, billings were up 36%. Core platform billings were up 30%, and accounted for 67% of total billings. As shown on Slide 7, high end FortiGate posted very strong billings growth with a mix shifting 6 points towards high-end appliances. Platform extension billings were up 50% and accounted for 33% of total billings, up 3 percentage points. Average contract term was consistent year-over-year and down 1-month sequentially at 27 months.

Moving back to the income statement. Total gross margin was 74.4% as the revenue mix tilted 5 percentage points to product revenue from higher-margin services. Product gross margin of 57.4% reflects the impact of component and freight cost increases as well as higher less predictable component expedite fee expenses and the impact of consolidating AlaxalA’s results. Service gross margin of 85.2% was impacted by AlaxalA, costs associated with the expansion of our data center footprint and increased labor costs.

Operating margin of 22% exceeded the midpoint of our guidance range by 200 basis points due to increased sales productivity and efficiencies in other OpEx areas offsetting the gross margin decline. Headcount increased 26% to 10,860.

Moving to the statement of cash flow summarized on Slides 8 and 9. Free cash flow was $273 million, representing a margin of 29%. Capital expenditures in the quarter were $123 million, including $93 million for real estate investments. Adjusted for real estate purchases, our free cash flow margin was 38%. Our capital expenditure strategy includes investing in cloud and data center infrastructure, as well as our office and warehouse capacity to support our higher levels of growth. We repurchased approximately 2.3 million shares of our common stock for a cost of $691 million. At the end of the quarter, the remaining share repurchase authorization was approximately $830 million, with the authorization set to expire in February 2023.

Inventory turns at 3.5x were up nearly 1.5x year-over-year.

Now let's spend some time reviewing backlog in a bit more detail. As I mentioned earlier, very strong demand for about $116 million increase in total backlog to $278 million. To put this in perspective, total backlog at the end of the first quarter was approximately 6% of our trailing 12-months total billings. We shipped 60% of the Q4 ending hardware backlog in the quarter.

In consistent with prior quarters -- the prior quarter, 73% of the backlog relates to expected future product shipments, while the remaining 27% relates to various services. We believe our backlog is very strong and should provide a billings and revenue tailwind to growth in future periods. And there are several reasons and comments we make to support our view, including: existing customers account for 93% of our backlog. And no single end customer accounts for more than a low single-digit percentage of backlog; there are 10 deals in backlog, 9 from existing customers with the remaining balance of over $1 million that together, account for less than 10% of total backlog.

Remaining balances defined as the original order amount less the partial shipments we've made; just 5% of Q4 backlog was canceled in Q1, suggesting that double ordering is not a significant contributor to our backlog. We do not believe that customers are meaningfully pivoting to software form factors from hardware. The software is frequently a more costly option and may require architectural redesign and investment and changes in form factors and other equipment beyond just the firewalls. We believe our competitors are similarly impacted by the supply chain.

And finally, more customers are accepting the supply chain challenges and working with us to mitigate the issues by switching products, adjusting deployment schedules and accelerating evaluations of new products.

Similar to others, we are experiencing ongoing supply chain challenges. Our responses to these challenges include: significantly increasing inventory purchase commitments; redesigning products; qualifying additional suppliers; and working closely with our suppliers to further enhance our resiliency and mitigate the effects of disruptions. We expect supply chain constraints to be challenging throughout the remainder of the year. As a result, we expect component and logistics costs remain elevated and backlog to increase through the course of the year.

As we balance our pricing actions with the opportunity for continued market share gains, we have passed along most, but not all cost increases. As such, we expect ongoing pressure to gross margins. While the situation is very dynamic, we believe we will have access to sufficient inventory to meet our guidance. The outlook is also subject to the disclaimers regarding forward-looking information that Peter provided at the beginning of the call.

For the second quarter, we anticipate bookings in the range of $1.325 billion to $1.385 billion, which at the midpoint represents bookings growth of 40%. And we expect billings in the range of $1.225 billion to $1.265 billion, which at the midpoint represents growth of 30%. Revenue in the range of $1.005 billion to $1.035 billion, non-GAAP gross margin of 74.5% to 76%, non-GAAP operating margin of 22% to 23.5%; non-GAAP earnings per share of $1.05 to $1.10, which assumes a share count of $165 million to $167 million. We estimate second quarter capital expenditures to be between $75 million and $85 million. We expect a non-GAAP tax rate of 17%.

For the full year, we anticipate backlog could approach or possibly exceed $500 million, and expect billings in the range of $5.500 billion to $5.508 billion, which at the midpoint represents growth of 32.5%. The revenue in the range of $4.350 billion to $4.400 billion, which at the midpoint represents growth of 31%. This assumes the current supply chain environment remains constrained throughout the year.

Total service revenue in the range of $2.640 billion to $2.700 billion, which represents growth of approximately 28%, and implies full year product revenue growth of approximately 36%.

Given our current view of component costs and other supply chain pressures, we expect non-GAAP gross margin of 74% to 76%; non-GAAP operating margin of 24% to 26%; non-GAAP earnings per share of $5 to $5.15, which assumes a share count of between $166 million and $168 million. We estimate full year capital expenditures of between $270 million and $300 million. We expect our non-GAAP tax rate to be 17%. We expect cash taxes to be approximately $260 million.

Lastly, I want to remind everyone that we'll be holding an Analyst Day on May 10, coinciding with Accelerate 2022. A link to register for the webcast is located on the Events and Presentation page of Fortinet's Investor Relations website.

And along with Ken, I'd like to thank our partners, customers, suppliers and all members of the Fortinet team for all their hard work, execution and success.

I'll now hand the call back over to Peter to begin the Q&A.

[Peter Salkowski, Head of IR]

[Operator Instructions] Operator, we can open the line please.

[Operator]

[Operator Instructions] And our first question is from Fatima Boolani from Citi. Your line is open.

[Fatima Boolani, Citi]

Good afternoon. And thank you for taking the question. Keith, a question for you is on the product revenue performance quarterly, one of the more standout metrics among others in the front. You gave us a sense of the top-down dynamics that are helping with respect to the demand environment, the threat environment and consolidation activity as it relates to discrete products. But from a bottom-up or a more micro perspective, can you talk to us about the net impact of the pricing increases that you've realized in the quarter? And if you can speak to linearity in the quarter, if there might potentially have been some acceleration or pull forward of demand that you might have seen later on in the year? Thank you.

[Keith Jensen, CFO]

Yes, I think the color I can offer on that is I think linearity was again strong in the quarter. We've been, I think, seeing strong linearity for probably four quarters in a row now, measuring month 1 versus month 2. And we did, we've talked before about the price increases. I think the -- and we've talked previously that after discounting, you probably get 55% or something like that -- pardon me, you get 45% afterwards. That was probably a little bit optimistic on my part. I think I was going to get 45% was a little more discounting than maybe I anticipated through that process. And I forgot your third area that you mentioned, I didn't write it down to, I'm sorry. Linearity pricing, something else.

[Fatima Boolani, Citi]

That’s good enough. Thanks.

[Operator]

And our next question is from Brian Essex from Goldman Sachs. Your line is open.

[Brian Essex, Goldman Sachs]

Great. Thank you very much for taking the question and congrats on the results. Really impressive acceleration. Maybe for my one question, I'll commit to keeping to that. Would like to know where you're seeing -- you've got some nice traction upmarket, it seems. And I'd like to know, how we should think about product as you go upmarket as well as services, the margin involved? And maybe if you can hit on lead times as well. I've heard you've done a pretty good job of keeping lead times much lower than your peers. Is that winning new business upmarket substantially as you go to market?

[Ken Xie, Founder, Chairman and CEO]

Definitely, the Fortinet operating team did a very, very good job and also the model we have, working with a manufacturer, working with a -- doing our own ASIC chip directly is also helping. So that's where compared to a lot of other vendors using like third-party on-time supply, which has more difficult to deal with the current supply chain issue. So we do see like with the price increase sometime like as Keith mentioned, there are some more strong requests for some discount and which also we have actually discount, probably to discount more easy to go to a product side than compared to the service side. There's a certain recognition roof, you cannot discount service too much.

But also since we have a large strong product, we use security computing region. So that's where for the same function, our performance tend to be 5 times better than competitors. So we do have a market pricing power, which converts customers to move towards our product.

At the same time, thinking for the service, we do offer a very broad service, similar better than competitor, but we probably only had about average about half, especially with all the bond orders since. So that's where we do have the pricing power, both on the product and service. That's where the customer doing this time to towards our solution. And also there's a lot of new cases, which our competitors don't have in solution like whether the SD-WAN, vertical to OT, some other part, which also drives quite a lot of additional growth for us.

[Keith Jensen, CFO]

Yes, I'd probably offer a little more color behind Ken's comments there, if I could, Brian. I think if you think about the market, let's take the networking equipment, switches and access points. I think the constraint exists all around the board, if you will. I don't know that us versus more traditional networking companies have any more availability in those products than anybody else. And when we look at our backlog, that mix seems to certainly support that.

Firewalls, I don't see a lot of customers switching over availability. I offered the comment earlier the script, the prepared remarks that 93% of our existing backlog -- or pardon me, of our backlog is with existing customers. So there's 7% of new logos information in that number, not a very big number. And if I look at new logos in terms of the billings and accounts that we got from the quarter, it was very, very normal in terms of both of the billings and the new logos. I think we're about 5,500 or so on new logo. So I don't really see that, if you will, to the concern.

And then if I can pivot back to Panama just quickly, I think your final question was about pull forward and space come up again. But again, I think if we were seeing that in light of these tremendous results I don't think I'd sit here and see a pipeline with such a significant growth is what we're seeing. So I don't really know that I would describe this as any sort of pull forward.

Are there customers, large enterprises that came to us in place orders for a longer period deployment schedules. Certainly, and I think some of the comments in the script covered that.

[Brian Essex, Goldman Sachs]

Great. Thank you.

[Operator]

And our next question is from Saket Kalia from Barclays. Your line is open.

[Saket Kalia, Barclays Bank]

Okay. Great. Hey guys, thanks for taking my question here. Maybe a question for both of you, Ken and Keith. I feel like we've talked a little bit about some of the redesign efforts with some of the newer appliance families recently. I was wondering if you could just talk about some of those efforts that Fortinet has done to maybe help some of those supply chain issues. And how helpful those changes could be in terms of fulfilling the demand that you're seeing?

[Ken Xie, Founder, Chairman and CEO]

Yes. We start in the redesign effort end of last year without the supply restriction audience. You can see the product we announced today, the 4070-F and even the 600-F, probably would move to like kind of redesign, and then some of them also leverage our new FortiASIC chip. That's really helping customers have a different choice, is so important in some shortage.

But also in general, we have a much broader product, both in the -- we call the core product FortiGate core platform and also the platform extension. And so that's gives customers a much better choice. So if silicon products, I'm surely they can easily steer to the next product and -- but still offer much better solution compared to other competitors. So that's where the redesign actually does help in a lot to reduce the supply chain limitation we have and also give customers more choice. So we kind of -- we're keeping that effort and keeping off a very broad product portfolio and which we do feel during the supply chain issue or maybe will last you towards the whole year this year will be definitely helping us and helping customers.

[Saket Kalia, Barclays Bank]

Very helpful. Thanks.

[Operator]

And our next question is from Adam Borg from Stifel. Your line is open.

[Adam Borg, Stifel]

Great. And thanks so much for taking the question. Either for Ken or Keith, I'm sorry if I missed it, but in the past few quarters, you've talked about increasing traction in some of your non-traditional verticals. I was just curious, how they performed this go around? And assuming you saw a continued traction there, how are you thinking about making any additional investments to just better capitalize on the opportunities there? Thanks so much.

[Keith Jensen, CFO]

Yes. Peter has got me on a word limit on the script, so I apologize that I got taken out because I thought it was worthwhile comment. But in any event, yes, we got more of the same. We've been looking at about a 3-year 5-point shift to that other group. The other group is everything outside the top 5, and we got that again in the current quarter.

I think that if you look at it in that other group, the one vertical that continues to stand out, and I don't think it's surprising when you think about it, has been manufacturing. And I think that, that really speaks to the threat environment, ransomware, OT, things of that nature, manufacturing is trying to desperately to break into the top five of our verticals and getting them closer and closer every quarter.

[Adam Borg, Stifel]

Great. Thanks so much.

[Operator]

And our next question is from Jonathan Ho from William Blair and Company. Your line is open.

[John Weidemoyer, William Blair]

Sorry for that. I was on mute. Yes, this is John Weidemoyer for Jonathan. Thanks for taking the question. If I heard you correctly, when you mentioned use cases, SD-WAN and OT, you mentioned -- did you say that are the other use cases contributed more to growth or just grew faster?

[Ken Xie, Founder, Chairman and CEO]

The SD-WAN OT definitely grew faster than the overall company beat there. And also...

[Keith Jensen, CFO]

I think the growth rates were faster, but the total contribution was greater than the other use cases that we're trying to parse there.

[Ken Xie, Founder, Chairman and CEO]

And also the other prices are strong, also above average.

[John Weidemoyer, William Blair]

Okay. I just want to clarify that. And I'm hoping that doesn't count as actually my question, but I'll make it easier one for my question. R&D spending going forward, what are your intentions? Do you anticipate any stepped-up investment? Or do you anticipate pretty much typical what you've done in the past?

[Ken Xie, Founder, Chairman and CEO]

We kind of feel the real estate is kind of considered some long-term investment, but starting doing that like 10, 15 years ago. And that our rental cost probably less than half compared to competitors similar of our size. So that's where the $100 million we save every year, probably where we're putting both the real estate and also the R&D some other investments.

Sorry, I misunderstand as R&D is not real estate. Yes, the real yet R&D, definitely, we will continue to invest in a lot of long-term R&D projects. is from the ASIC, which we made the investment more than 20 years, give us a huge advantage on technology and also enable us pretty much become the only vendor that can meet this convergence of our security networking trend to offer our high-speed security whether inside the company, one solution within the data center to drive tremendous growth and also much better we call the secure computing region. And also the service with a large quantity of product being deployed, we can offer the service much cheaper than a competitor for same service, and that's really drive a huge value add to the customer.

[Keith Jensen, CFO]

Yes. I think from a business model view point, I think we kind of like where we're at with the level of investment that we're making in R&D, we can move by one point or two in a given period. And if you peel back a little bit and just look at the R&D team, there's certainly a significant number of engineers and percentages that are working on the ASIC and the chips and so forth. But I would also offer that we have more software engineers than we do hardware engineers.

And I think the reason for that is it goes back to some of the early comments in the text about how important the operating system is to us. The ASIC enables the operating system. They have to work together. But there's a significant investment there. And I think also the other places with some of these platform extensions, excuse me, my term, we're seeing the opportunity there, I think, to make some more discrete investments and maybe mature some of those products along a little bit more. Just not suggesting significant changes in total spending, but just giving some insights in terms of where we see spending.

[John Weidemoyer, William Blair]

That’s very helpful. Thank you very much.

[Operator]

And our next question is from Michael Turits from KeyBanc. Your line is open.

[Michael Turits, KeyBanc Capital Markets]

I was interested in the comments that you made about the strength of hardware and not same form factors switch over significantly to software. And obviously, your product numbers were great. So can you talk about -- and I know you've done it before, but both Keith and Ken, talk about the sources of the hardware/appliance security demand and what the source are and really how sustainable that strong growth should be for how long into the future?

[Keith Jensen, CFO]

I think you got to be a little bit both. I think the high end FortiGate taking six points of market share is a pretty good indicator. Obviously, the high-end FortiGates are very much targeted at large enterprises. And I think that dovetails very nicely with some of the growth numbers that we gave on G2000 and on the large enterprises as well.

I still think that, that's an opportunity for us where we have sometimes not always viewed as being viewed as the incumbent. But I think if you look at our progress over the years in the enterprise sector, particularly in the U.S., which maybe has a little further to go, we're very, very pleased with that. And I would maybe supplement that in terms of enterprise success with the metric that we've talked about from time to time in the past. I think maybe three or four years ago, we talked about in the U.S. of having an account rep ratio of about 65 accounts to 1 rep in the U.S. And that's not really an enterprise model.

And then we made a comment that continuously that we would work to move that number down within the framework with balanced growth and profitability. That number today is about 13 or 14 accounts per rep. So I don't think it's a coincidence that you're seeing the success in the large enterprise with the large appliances given the level of investment that we've been able to make in that segment of the market.

[Ken Xie, Founder, Chairman and CEO]

Also from our beginning, we more look at how to secure the whole infrastructure, especially for the area. Like in the past, whether in the high-speed environment or kind of a branch or remote access is very, very difficult to involve in security because of speed requirement because all these kind of difficult to manage. So that's what we see with our own ASIC and the long-term investments on ASIC, which will enable us to really get in this new area, the traditional network security cannot solve. So that's where we see huge growth in this area.

And at the same time, we do keep in promoting we call the convergence and network security. So that's where we competing power from ASIC and also the new FortiOS keeping upgrade every year. So we do see more and more security case and more security being deployed in the whole infrastructure just beyond the traditional network security deployment.

[Operator]

And our next question is from Hamza Fodderwala from Morgan Stanley. Your line is open.

[Hamza Fodderwala, Morgan Stanley]

Hey guys, thank you for taking my question. And thanks for the great detail earlier in the call. Keith, maybe one for you. Just you attributed the gap in the product and the services growth to customers, at least a slight uptick in early ordering versus last quarter, it sounds like, I think that you mentioned about 60% of the hardware backlog that you had in Q4 was billed in Q1.

So in terms of your Q2 billings guide, how do you think about that backlog to billings conversion, particularly in a perhaps less certain macro environment and perhaps a little bit more than uptick in early ordering?

[Keith Jensen, CFO]

Yes. I think as it relates to how we think about what the backlog might mean, and we just remind people, we made the switch, I think, in the middle of the fourth quarter, asked our sales team to run the business on bookings and then we’ll convert it to billings here, which means working very, very close with our manufacturing team and our operations team. In terms of what they're seeing in terms of availability and what levers they have to pull.

And with that in mind, I think the key now, I spend a lot more time with operations as part of the forecasting guidance process than I do with the sales team. And where we've kind of sold out on that is that I get a weekly update from the sales team in terms of what their expectations of backlog are going to be, and we've been doing that every week this year, and I think some of last year.

And they've shown to be fairly darn accurate. I think what you see right now in the first quarter was very high bookings, which drag along some backlog. But I think that the operations team has done a very good job. One thing that we do now use is this concept of what -- how much was net backlog increased as a percentage of bookings. And that number has hovered right around 8.5% to 9% in the fourth quarter in the first quarter. And so when we want to sanity check, what we're hearing from the operations team, we now have a metric that we didn't have six months ago in terms of a little bit of history, and we apply that metric to it, say, does that seem reasonable for all their hard work when you get done, does it seem like it's a reasonable number, and we think it has been.

[Operator]

And our next question is from Adam Tindall from Morgan -- at Raymond James. Your line is open.

[Adam Tindle, Raymond James]

Okay, thanks. Good afternoon. Keith, I just wanted to ask a question to try to get to the heart of real-time demand and certainly appreciate all the disclosures you've been giving. I'm looking at bookings, obviously, it's been strong on a year-over-year basis, but from Q4 to Q1 sequentially, it was kind of the same level of increases last year. And if I heard you correctly, you can correct me if I'm wrong, but I think your guidance for Q2 bookings implied maybe down a little bit sequentially. And I'm wondering if that's starting to signal that we're plateauing on incremental growth in demand and returning to a new or a more normal orders cadence?

[Keith Jensen, CFO]

Yes. I think the -- I probably want to check the numbers. I'm looking at a bookings number in the first quarter, it was about $12.75 and a bookings number in the second quarter that I think we talked about thinking at the midpoint, $13.55. So I don't know that I'm seeing a deceleration as that you may be concerned about.

[Adam Tindle, Raymond James]

Okay. I misheard you on the Q2 guidance. I was just looking at from Q4 to Q1. And maybe another one to tackle while we're at it. You talked about the seasonality shift last quarter, two to three points to the back half of the year. Looks like that might be a little bit more smooth based on the updated Q2 guidance and full year guidance. Maybe just what changed on that expectations for a back half versus now?

[Keith Jensen, CFO]

Yes. I think what we ended up on the full year number. Through all the analysis that we do, I think the raise for the full year is roughly the beat that we had in the first quarter plus the raise that we had in the second quarter. And we sanity check that we're looking at our pipeline growth or sales capacity, what we think the price increases are going to deliver some more metrics around the backlog and want to make sure that we getting too far ahead of ourselves and over our skis. And I think that's a pretty good number to be at right now in the current environment. There remains a lot of uncertainty, as you know, out there and getting overly bullish on Q3 and Q4 right now. I think we'd like to see how this plays out a little bit more.

[Adam Tindle, Raymond James]

Understood. I'm looking forward to the Analyst Day, I'm sure Peter will plug it.

[Peter Salkowski, Head of IR]

On that note, next question, please.

[Operator]

And our next question is from Andrew Nowinski from Wells Fargo. Your line is open.

[Andrew Nowinski, Wells Fargo]

Great. Thank you. And congrats on the nice quarter. I just want to ask about your pipeline because this is the second quarter in a row that you've talked about pipeline strength. At the end of Q4, I think you said you had a strong pipeline entering 2022, and now you're saying you have an accelerating or you're seeing accelerating pipeline growth. I'm just wondering if you could put a finer point on that accelerating growth comment and where you’re seeing that growth accelerating. Thanks.

[Keith Jensen, CFO]

I don't -- I think it's pervasive. And I -- we look at the three different sources of pipeline, the way we talk about the channel, the marketing team and the direct sales force. I think we're pleased with the contribution from all three of them, no doubt about that. We've talked for an extended period of time a few years about the importance of the channel and investments that we make and partnering with them and working together on that. And I think that the channel is holding up their side of the bargain as well.

I think the marketing team, give them a ton of credit. I love the Fortinet championship event and the continued success for it and how they've now leveraged that in other geographies as well. And the direct sales team continues to perform at a very high level and you're seeing the numbers. And obviously, to the extent that you were able to continue to add headcount, like the metric I gave earlier, more people are going to drive more pipeline. So I don't know that I would isolate it to any one of those three areas of where it's coming from or even geographically. I mean it's been strong throughout. Ken, I don't know

[Ken Xie, Founder, Chairman and CEO]

Yes. I agree. Both additional investment we made in the marketing sales, and also restructure the team make it more efficient and drive quite a lot of additional pipeline for us.

[Andrew Nowinski, Wells Fargo]

Okay guys. Thank you.

[Operator]

And our next question is from Ben Bollin from Cleveland Research. Your line is open.

[Benjamin Bollin, Cleveland Research]

Thanks. I appreciate for taking the question. I was hoping you could address a little bit about how you view service opportunities longer term. You suggested you're expecting some catch-up or acceleration on services through back half based on backlog lead times procurement, but interested in how you think the elevated level of appliance placements this year could influence demand for services even beyond 2022.

[Ken Xie, Founder, Chairman and CEO]

Yes, it's a great question. We do see the service will be -- drive additional growth, additional margin for us going forward, especially the new FortiOS 7.2, we offer quite a lot of new service. And a lot of service today, we don't charge customers. And also, on average, our service cost is about half of our own competitors. So there's a lot of room we can grow the service and improving the margin there.

So that will be -- and also with the other we call the platform extension product, which is upsell, cross-sell, which will also kind of drive quite a lot of additional service on the total solution there. So that's where we do believe the service is -- I think in Q1, you see the product revenue growth so strong. And -- but on the other side, the short-term service revenue, also very strong. That's probably be starting to come in later this year. And at the same time, the additional server will be launched with FortiOS 7.2 like the Fortitrust on the CTA, on identity. There's some other service, the CASB, some other we have, we believe will be additional revenue, additional sales, additional margin for us.

[Keith Jensen, CFO]

Ben, it's Keith. And just from a modeling point of view, keep in mind that those price increases that we had in the second half of last year and the first quarter of this year, that we get that lift in product revenue immediately. It takes a little bit longer to see it in the services line because of how the timing of rev rec. Then I think you're going to start to see between new sales and renewals, the new price points that have been created for the services will start to have an impact, and that's part of the acceleration that we talked about.

[Benjamin Bollin, Cleveland Research]

Thanks guys.

[Operator]

And our next question is from Rob Amen from Piper Sandler. Your line is open.

[Unidentified Analyst]

Hey guys, this is Justin on for Rob. I just wanted to follow up on the OT topic. You guys have quantified the success in selling into this use case for a couple of quarters now. I'm just curious how you view the OT as a driver into 2022 and beyond, especially when you consider the explicit federal government guidance and broader spending intentions around protecting critical infrastructure?

[Ken Xie, Founder, Chairman and CEO]

Yes. The OT definitely sees a bigger market going forward, probably bigger than the SD-WAN, which we see pretty strong growth and also -- so that's where the total OTs catching up. I think in the last point -- OT maybe close to 10% of the business and -- but the growth is very, very strong. So that's where we do see a lot of potential, and we also invest a lot in this area to meet the demand.

[Unidentified Analyst]

Got it. Thanks.

[Operator]

[Operator Instructions] Our next question is from Gray Powell from BTIG. Your line is open.

[Gray Powell, BTIG]

Great. Thanks for taking the questions. And congratulations on the really strong results. So yes, I guess I was just hoping to drill in on the SD-WAN side. How should we think about the growth of your SD-WAN business this year with just within the context of guidance or maybe relative to the overall company growth -- and then how do you feel about the competitive environment in that category and just your ability to maintain growth at or above market rates the next few years?

[Ken Xie, Founder, Chairman and CEO]

First, I do because SD-WAN will continue to grow like 30%, 40% year-over-year in the probably the next 5 years and because it's a technology definitely can read the travel based on application, all these things is a wire benefit for the consumer for the customer. So for us, we offer the only security combined with SD-WAN and also leverage on ASIC to have a huge performance advantage that give us more function. So that's where we -- so far, the SD-WAN we sell as a part of the platform, the FortiGate platform where we don't even try the service, but that's also additional compared to our other vendors, they do have some kind of service charges regular SD-WAN.

So we do see -- we have a huge advantage, both on the function on the cost and the SD-WAN and will continue keeping gaining market share. We do feel we'll be keeping growing above the market growth. But also we feel this is the product we call convergence of our security and networking together. So SD-WAN is more address on one side, but also will helping drive the land side inside the company, the segmentation is a data center and eventually make the whole infrastructure very secure for the customer.

[Gray Powell, BTIG]

Understood. That’s very helpful. Thank you very much.

[Operator]

Thank you. And our next question is from Irvin Liu from Evercore ISI. Your line is open.

[Irvin Liu, Evercore ISI]

Hi, thanks for the question. So I was surprised to hear that 93% of backlog is from your existing customers. But I was wondering if you can help us parse through some of that strength within your existing customers. How much of this is addressing the broader growth of their IT workloads and more attack surfaces versus a like-for-like growth in -- or versus, let's just say, installed base refresh? Or is this more of you displacing other vendors within your current customer base?

[Keith Jensen, CFO]

Yes. I can't really quantify it. I just haven't looked at it that way. It's a good question, a good approach. If I were to make informed judgments, if you will, I think that expansion is by far the largest opportunity for us. It's just the nature of the business. And I think the refresh and the competitive placements are probably fairly close to each other, I would imagine, for the remainder. There is refresh for us is we have a very long product suite. So we Ken will always have a new product. You saw the three new products come out be announced today. So there's always some sort of refresh activity in our own product that's going on there.

But we -- I would also note that we are consistently getting more at bats, if you will, more opportunities with sales, more competitive displacement. So I would imagine just my gut is, again, refreshing competitive displacements are probably in a similar neighborhood, but expansion is the biggest.

[Ken Xie, Founder, Chairman and CEO]

Also, we have the biggest customer installation base in the industry. So we have probably call to 40% of total deployed in the industry, probably more than the number 2, number 3, number 4 add together. So that give us a quite a broad customer base. And I think it's close to 600,000 customers, some of them are only using Fortinet solution in part of infrastructure. So now we do see the benefit expand to the additional infrastructure and also what we call fabric of mesh network, we manage it together. So we do see a lot of expansion beyond the initial deployment.

[Irvin Liu, Evercore ISI]

Thank you. That’s helpful.

[Operator]

And our next question is from Gregg Moskowitz from Mizuho. Your line is open.

[Gregg Moskowitz, Mizuho Securities]

Hey, thank you for taking the question. Keith, just to follow up on early ordering last quarter, you had estimated that low single digits of your Q4 business came from product ordered in advance. How would you size this for the Q1? And then just a clarification, if I may. Because obviously, the backlog went up very impressively. Are switches and access points still about two-thirds of your backlog today? Thank you.

[Keith Jensen, CFO]

I think the backlog is being closer to 50-50 between networking equipment or I guess, I should call it platform extension because it's in there and the firewalls or the core platform. I think it's kind of balanced out. I do think it's low-end FortiGates that are still dominating in the Fortinet space, if you will.

I don't remember quantifying early ordering as a percentage, if you will. It's certainly something we've talked about here internally is our way of measuring that. And I think that's why we kind of provide -- Peter is going to give me some coaching here.

[Peter Salkowski, Head of IR]

Well, I think what we said in the fourth quarter last year was that we had -- we knew of some transactions, a couple of deals that we knew were going to be ordered -- that be delivered into 2022 that were ordered part of backlog and we're in the backlog in 2021 at the end of the year. That was a few -- a couple of other million dollar deals that we were doing, too.

[Keith Jensen, CFO]

Yes. I think the constraints, if you will, on that is more around when is the supply going to be available because it's in backlog, we can deliver as soon as the supply arrives. But that's just more a function of how we're working with our suppliers or anything else.

[Gregg Moskowitz, Mizuho Securities]

That’s helpful. Thank you.

[Operator]

Thank you. And there are no further questions on queue. Do you have any closing remarks?

[Peter Salkowski, Head of IR]

Thank you, Laurie. I'd like to thank everyone for joining us on the call today. As a reminder and a plug, Fortinet will be hosting an Analyst Day on Tuesday, May 10, next week. A link to register for the webcast can be found on the Events and Presentations page of the company's Investor Relations website. If you register now, it's a little quicker next Tuesday. You can also register day of. But again, thank you very much for your time. Appreciate the interest in Fortinet. Everybody, have a great day. Take care. Bye-bye.

[Operator]

Thank you. And this concludes today's conference call. Thank you for participating. You may now disconnect.