Zscaler, Inc. (NASDAQ:ZS) Q2 2024 Earnings Call Transcript

Zscaler, Inc. (NASDAQ:ZS) Q2 2024 Earnings Call Transcript February 29, 2024

Zscaler, Inc. beats earnings expectations. Reported EPS is $0.76, expectations were $0.58. Zscaler, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day. And welcome to Zscaler Second Quarter 2024 Earnings Conference Call. At this time, all participants are in listen only mode. [Operator Instructions] Please be advised that today’s conference is being recorded. I’d now like to hand the conference over to your speaker today, Mr. Bill Choi, Senior Vice President of Investor Relations and Strategic Finance. Please go ahead.

Bill Choi: Good afternoon, everyone, and welcome to the Zscaler second quarter fiscal year 2024 earnings conference call. On the call with me today are Jay Chaudhry, Chairman and CEO; and Remo Canessa, CFO. Please note that we have posted our earnings release and a supplemental financial schedule to our Investor Relations website. Unless otherwise noted, all numbers we talk about today will be on an adjusted non-GAAP basis. You will find the reconciliation of GAAP to the non-GAAP financial measures in our earnings release. I’d like to remind you that today’s discussion will contain forward-looking statements, including, but not limited to, the company’s anticipated future revenue, calculated billings, operating performance, gross margin, operating expenses, operating income, net income, free cash flow, dollar-based net retention rate, future hiring decisions, remaining performance obligations, income taxes, earnings per share, our objectives and outlook, our customer response to our products, and our market share and market opportunity.

These statements and other comments are not guarantees of future performance, but rather are subject to risk and uncertainty, some of which are beyond our control. These forward-looking statements apply as of today, and you should not rely on them as representing our views in the future. We undertake no obligation to update these statements after this call. For a more complete discussion of the risks and uncertainties, please see our filings with the SEC as well as in today’s earnings release. I also want to inform you that we’ll be attending the following conference in March. JMP Technology Conference in San Francisco on March 4th, and Morgan Stanley TMT Conference in San Francisco on March 6th. Now I’ll turn the call over to Jay.

Jay Chaudhry : Thank you, Bill. I am pleased to share our Q2 results, which once again exceeded our guidance for the top line and the bottom line, even amidst an ongoing, challenging macro environment. Revenue grew by 35% year-over-year, and billings grew by 27%. Our customer base spending $1 million or more continues to grow by over 30%. Our operating profit more than doubled year-over-year, and our free cash flow margin reached are record for Q2. During the quarter, we made solid progress on our strategy to scale our go-to-market engine to reach our goal of $5 billion and beyond in ARR. To augment our already strong sales team, we’re adding more experienced leaders with a proven track record of running large operations. Considering these leadership changes, I am particularly proud of our field sales execution this quarter.

Before getting to the details of our fiscal Q2, let me share a few observations on the business environment. Based on my conversations with hundreds of CIOs and CISOs, I expect demand for Zero-Trust security to remain robust in 2024 and expect customer budgets for Zero-Trust to be up this year, particularly in light of the recent surge in the number of high-profile breaches. Threat actors continue to exploit vulnerabilities of firewalls and VPNs, which allow them to spread ransomware laterally inside an organization. In a recent example, a VPN vulnerability was so severe that CISA, the U.S. Cybersecurity agency, took the extraordinary step of mandating that federal civilian agencies disconnect their Ivanti Pulse Secure VPNs within 48 hours.

This is yet another example of why customers are increasingly realizing that their security posture remains vulnerable and are motivated to transform their firewall-based security to our Zero Trust Architecture. Spinning up firewalls and VPNs in the cloud and calling it a sassy solution doesn’t solve cybersecurity challenges. While customers want to consolidate point products, they’re looking for a fully integrated platform that delivers zero trust architecture. Cyber is so mission critical that customers will invest in the industry-leading solutions rather than rely on cheaper or less effective products that are included as part of their ELAs. They want best-of-breed platforms with the best functionality that integrate with other platforms, thus eliminating dozens of point products.

Zscaler’s Zero Trust platform is an integrated and purpose-built solution that delivers comprehensive security and provides a compelling user experience while reducing cost. Strong customer interest in our platform drove a record first-half total bookings with nearly half of net new bookings coming from new logo customers. We added a record number of new logos for our Q2. This demonstrates the momentum in our business and we’re increasing our outlook for revenue and billings for fiscal 2024. We are operating in a strong demand environment for zero trust architecture. To capture this demand and scale our business to $5 billion ARR and beyond, we appointed Mike Rich as our Chief Revenue Officer last quarter. Mike joined us from ServiceNow where he established a scalable go-to-market engine to drive deeper engagements with large enterprises.

Going forward, Mike and his team are focusing on three key areas. First, our existing opportunity-led sales engine has helped us deliver strong growth over the years, enabling us to surpass $2 billion in ARR. To drive our next phase of growth, we are evolving from an opportunity-centric to an account-centric sales motion, leveraging Mike’s experience in building such plans. As we grow our sales organization, we are adding more experienced leaders and strategic sellers with the right level of experience working with CXOs and global system integrators. As we begin our planning for fiscal ‘25, we are developing account plans that are aligned with our customers’ long-term strategic initiatives and we are partnering with our customers to build transformation roadmaps to modernize their security and IT infrastructure.

Second, we launched our top accounts pilot program a couple of quarters ago, which is successfully driving deeper platform engagements and adoption. Building upon our initial success and leveraging Mike’s experience, we are scaling this program across more top accounts. Third, we are increasing our focus on vertical selling. We introduced a vertical specific sales motion a few years ago, starting with the public sector and expanded it to the healthcare vertical last year. Based upon the successful growth in these verticals, we plan to continue to expand program into more verticals by adding domain experts who can drive vertical specific strategies to better align with our customers’ strategic initiatives. We now have a double-digit number of customers spending more than $10 million with us annually.

With our expanded platform and these go-to-market initiatives, I believe we will see more and more of our large enterprise customers reach $10 million ARR levels over time. Now let me highlight three factors that drove our performance in Q2. First, we are seeing continued success in selling our broader platform, including ZPA, Data Protection, CDX, Zero Trust for Workloads, Zero Trust for Branch, and AI -powered solutions. Driven by upsells, our $1 million ARR customer count grew by 31% year-over-year ending the quarter with nearly 500 such customers. Second, we had a strong federal quarter with particular strength in upsells to cabinet level agencies. We have plenty of opportunity to expand further in the federal market. Third, we achieved a Q2 record for new logo additions, deflecting early success with our channel investments.

Our $100, 000 or more ARR customer base grew 21% year-over-year, ending the quarter with over 2, 800 such customers. Let me highlight two new logo deals from the quarter. First, a Fortune 100 Health Care customer purchased ZIA, ZPA, ZDX and Advanced Data Protection for 10, 000 users in a 7-figure ACV deal. ZPA will greatly enhance their security and user experience while eliminating legacy security gateways by consolidating the VPN and VDI appliances. Protecting patient healthcare records is of paramount importance to this customer, which made data protection a crucial consideration for this deal. For the next phase, they are planning to expand to over 100, 000 users, representing a significant upsell opportunity for us. In another new logo deal, after suffering repeated ransomware attacks, a technology company purchased 20, 000 seats of ZIA, ZPA, ZDX and Advanced Data Protection.

They’re phasing out the legacy castle-and-moat firewall-based security, which failed to protect them against ransomware attacks. This customer excluded the incumbent firewall-based SASE vendor from consideration, as they wanted a true Zero Trust architecture. This is a multiyear 8-figure TCV deal, which is expected to generate over 100% ROI for the customer by eliminating the multiple-figure ACV deal. Now, let me highlight two upsell deals that highlight broader adoption of our comprehensive platform. In a 7-figure ACV deal, an existing Fortune 500 Financial services enterprise, currently using ZIA, ZPA and Data Protection, upgraded to our high-end ZPA Transformation bundle and added Endpoint DLP for 73, 000 users. This also marks our largest Endpoint DLP deal since the introduction of this module just two quarters ago in our Data Protection solution.

By moving to the high-end of our ZPA and Data Protection packages, this customer increased their annual spend with us by over 60% to over $10 million annually. In another 7-figure ACV deal, a major global mining company increased their ZIA and ZDX purchases to 48, 000 users and purchased ZPA transformation for 30, 000 users. With the ZPA purchase, the customer is eliminating their VPN appliances and providing Zero Trust access for their workforce spread across remote locations worldwide. With this expanded purchase of our platform, the customer’s annual spend with us nearly doubled to approximately $5 million. Next, let me discuss our opportunities in the Federal market. As I mentioned earlier, we saw strong growth in net new ACV from the Federal vertical in Q2.

After our initial lands at 12 of the 15 cabinet level agencies, we continue to win additional awards as agencies are increasingly adopting Zero Trust architecture to meet the President’s Executive Order. For example, in a seven-figure upsell deal, an agency customer expanded their seats with ZIA, ZPA and Data Protection purchases, nearly doubling their annual spend with us. With this upsell, the customer is already approaching $5 million in annual spend, even though we are still less than 15% penetrated in terms of the number of users, representing a significant upsell opportunity in this agency. With the highest levels of FedRAMP certifications for both ZIA and ZPA, we are very well positioned to benefit from continued growth with our federal customers.

Building upon our success in the US, we are investing in building public sector programs for half a dozen nations that have adopted FedRAMP like certification programs. This is a significant opportunity for us, but like any government initiative this will take time. Moving on, our R&D engine continues to deliver innovations, rapidly expanding our platform and providing larger upsell opportunities. Given our strategic position, we are interacting with more CXOs than ever before and having much deeper engagements. For example, we recently hosted a CXO summit in India, attended by over 200 senior IT leaders, including over 100 CXOs. At the summit, one CXO said and I quote the velocity of features that Zscaler releases every time we meet is extremely impressive.

Our comprehensive platform protects not just users, but also workloads, and IoT/OT devices. While still early, we are seeing growing traction in our emerging platform solutions, including Zero Trust for Workloads, Zero Trust for Branch and Zero Trust for B2B, as well as our AI/ML powered solutions. Zero Trust for Workloads continues to gain wider adoption. For example, in an upsell win, a financial technology company purchased Zero Trust for Workloads for 25, 000 workloads, which contributed to nearly doubling their annual spend with us to over $1 million. A large aerospace company more than tripled their Zero Trust for Workloads purchase, contributing to a 60% increase in their annual spend with us to over $1 million. In January, we launched Zero Trust for Branch which enables one-to-one connectivity between branch devices and applications, thus securing branch IoT/OT devices and eliminating the risk of lateral threat movement.

Our Zscaler plug-and-play appliance would be the only solution customers will need at the branch, as it eliminates the need for legacy SD-WAN appliances, routers, and firewalls, thus dramatically simplifying branch networking and security. Zero Trust for branch is a key component of our Zero Trust SASE solution, which is the industry’s first single vendor SASE solution built on Zero Trust. Zero Trust SASE pairs Zscaler’s leading SSE with our new Zero Trust SD-WAN. We have seen early adoption of our Zero Trust SASE from customers across a range of industries including: A U.S. based Energy and Retail company. A Europe based Fortune 500 manufacturing company. A U.S. based Financial Services company, and many more. Moving to our AI cloud, within this portfolio, our newest products Risk360 and Business Insights are growing rapidly.

Business Insights is helping CIOs and CFOs optimize cost of their SaaS applications, office locations, and more. For example, an existing Global 2000 consumer products customer purchased Business Insights for 97, 000 users to replace their home-grown solution that cost over $500, 000 annually. Recently adopted SEC disclosure requirements and Board level interest in understanding cyber risk are driving demand for Risk360. For example, A Global 2000 manufacturing customer purchased Risk360 for nearly 16, 000 users to automate the process of risk quantification and take proactive measures to reduce cyber risk. We have already delivered several AI innovations, including ML-based data classification, ML-based policy recommendations, Risk360, Business Insights, and more.

In addition, one of the AI products I’m particularly excited about is Breach Predictor. Breach Predictor is our vision to leverage the power of our platform to predict breaches before customers get breached. We are working relentlessly to bring this and more industry leading AI innovations to our customers this year. With our innovation engine humming and delivering cutting-edge products, and our go-to-market organization focused on scaling and growth, I’m more excited than ever about the opportunities ahead of us, and our ability to capitalize on those opportunities. Now, I’d like to turn over the call to Remo Canessa for our financial results.

Remo Canessa : Thank you, Jay. Our Q2 results exceeded our guidance on growth and profitability, even with ongoing customer scrutiny of large deals. Revenue was $525 million, up 35% year-over-year and up 6% sequentially. From a geographic perspective, Americas represented 54% of revenue, EMEA was 31%, and APJ was 15%. Our total calculated billings in Q2 grew 27% year-over-year to $628 million. On a sequential basis, total billings increased 37% quarter-over-quarter. Our calculated current billings grew 26% year-over-year. Our remaining performance obligations, or RPO, grew 29% from a year ago to $3.613 billion. The current RPO is approximately 51% of the total RPO. We ended Q2 with 497 customers with greater than $1 million in ARR, adding 29 such customers in the quarter.

We also saw strength in $100, 000 ARR customers this quarter, which grew to 2, 820, adding 112 customers sequentially. This continued strong growth of large customers speaks to the strategic role we play in our customers’ digital transformation initiatives. Our 12-month trailing dollar-based net retention rate was 117%. While good for our business, our increased success in selling bigger bundles, selling multiple pillars from the start, and faster upsells within a year, can reduce our dollar-based net retention rate in the future. There could be variability in this metric on a quarterly basis due to the factors I just mentioned. Turning to the rest of our Q2 financial performance, total gross margin of 80.8% compares to 80.7% in the prior quarter and 80.4% in the year-ago quarter.

On a year-over-year basis, gross margin benefited by approximately 60 basis points from a change in accounting attributed to the longer useful life of our cloud infrastructure. As mentioned on our previous earnings call, beginning fiscal 2024, we extended the depreciable useful life of our servers and network equipment in our cloud infrastructure from four to five years. Moving on, our total operating expenses increased 3% sequentially and 22% year-over-year to $321 million. We continue to generate significant leverage in our financial model, with operating margin reaching 19.6%, an increase of approximately 700 basis points year-over-year. Our free cash flow margin was 19%, including data center CapEx of approximately 6% of revenue. We ended the quarter with over $2.4 billion in cash, cash equivalents and short-term investments.

Next, let me share some observations about the macro environment and our framework for guidance for the rest of the fiscal year. We believe we are still operating in a challenging macroenvironment and customers continue to scrutinize large deals. Customer interest in our platform remains strong, and we are adding experienced sales leaders to our already strong sales team to position us well for sustainable growth in the long-term. In our outlook for fiscal 2024, we’re balancing our business optimism with ongoing macroeconomic uncertainties and sales leadership changes. Moving on to guidance for Q3 and full year fiscal 2024. As a reminder, these numbers are all non-GAAP. For the third quarter, we expect revenue in the range of $534 million to $536 million, reflecting a year-over-year growth of approximately 28%.

Gross margins of 80%. I would like to remind investors that a number of our emerging products, including newer products like ZDX and Zscaler for Workloads, will initially have lower gross margins than our core products. We’re currently managing the emerging products for time to market and growth, not optimizing them for gross margins. Operating profit in the range of $98 million to $100 million. Net other income of $15 million. Income taxes of $10 million. Earnings per share in the range of $0.64 to $0.65, assuming 161 million fully diluted shares. For the full year fiscal 2024, we’re increasing our guidance as follows. Revenue in the range of $2.118 billion to $2.122 billion, reflecting a year-over-year growth of approximately 31%. Calculated billings in the range of $2.55 billion to $2.57 billion or year-over-year growth of 25% to 26%.

From a modeling perspective, Q3 is typically our seasonally weaker quarter. Consistent with our historical seasonal patterns, we expect billings to decline sequentially by approximately 7% in Q3. Operating profit in the range of $395 million to $400 million, which reflects up to 400 basis points of operating margin improvement compared to last year. Income taxes of approximately $35 million. Earnings per share in the range of $2.73 to $2.77, assuming approximately 161 million fully diluted shares. We expect our free cash flow margin to be up year-over-year and in the low-20% range. We continue to expect our data center CapEx to be high-single-digit percentage of revenue for the full year, reflecting the 3-percentage points to 4-percentage points of headwind to free cash flow margins.

We expect the timing of CapEx spend to be more towards the later part of the second half of the year as we invest in upgrades to our cloud and AI infrastructure. With a large market opportunity and customers increasingly adopting the broader platform, we plan to continue to invest significantly to drive long-term growth while increasing profitability. Before moving on to Q&A, I would like to note that Bill Choi, our Senior Vice President of Strategic Finance and Investors Relations, will be leaving us in a couple of weeks. This is a bittersweet moment for me, as Bill has been instrumental in building the finance practice here, but happy for him as he is moving to pursue his first CFO opportunity at an AI networking company. We wish him great success in his next endeavor.

With that operator, you may now open the call for questions.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from Alex Henderson with Needham.

Alex Henderson: Well, first off, I’ve got to say, Bill, it was great working with you and congratulations on progression in your career. As for you guys on Zscaler, nice quarter. Thanks for a good print. The first question I have for you is really against the backdrop of already expected difficult decision making environment. Has there been any change in deal size, in deal process time, closure rates, win rates over the last quarter that might show some incremental improvement versus where we were in the prior quarter? Are there any green shoots evident in those key metrics?

Jay Chaudhry : Alex, thank you for the question. The short answer is we haven’t seen any meaningful change for a number of things you mentioned. Take, for example, macro. It’s pretty much a similar environment. Our deals keep on growing. We are doing large deals, so there’s no significant crash on deals. We do see demand for cybersecurity products remaining strong. Customers do have budgets for cyber, even though they may be tightening budget for IT overall. And this is because Zero Trust is a top priority. But it boils down to two things when I talk to lots of CIOs. They do want to take care of cyber. But if you can fix cyber, and reduce cost at the same time, it becomes a much better situation. Zscaler happens to be in a position where we do it extremely well.

If you look at most point products out there, they don’t save money. In fact, security generally is a cost. We replace a number of point products, save money, give far better security, as we are sitting in pretty good shape.

Operator: Our next question comes from Brad Zelnick with Deutsche Bank.

Brad Zelnick: Great, thanks so much and congrats to you, Bill. It’s been a fun ride since the IPO. Jay, just following the last question, I appreciate your comments on the environment. You obviously had one of your key competitors last week talking of customer fatigue and you guys are at least in the federal market. You’re telling us a little bit of a different story but can you specifically share thoughts about competitors giving away free product and the impact it can or is already having on Zscaler and maybe the extent to which you’re factoring that into your outlook ahead.

Jay Chaudhry : Yes, thank You, Brad. We really do not see any cyber spending fatigue among our customers. In fact many of the CIOs that told me that cyber is a priority for spend. But they do have ELA fatigue because a lot of stuff has been becoming shelf wear and it’s being scrutinized. Regarding free stuff, many vendors have been trying to give it away for a while and we have been successfully winning against this strategy for a long time. I mean look at our retention rate. It used to be been 90s at IPO now, now it’s high 90s and fundamentally cyber is so mission critical that customers will invest in the industry’s leading solution rather than rely on cheaper and less effective products that are included as a part of an ELA bundle.

Look, we are really dealing with a secular trend too. Just like the role of data center diminished and public out to a call, similarly, the role of firewalls is diminishing and the demand for Zero Trust security is growing and this is bound to impact sales of firewall vendors and this naturally puts the legacy vendors in a defensive position. And they’re trying to cover giveaway products as bundles which end up becoming shelf wear and this strategy starts to unravel over time. We’ll stick to our strategy.

Brad Zelnick: Thanks, Jay, maybe just a quick follow-up one for Remo. Remo on the back half billing seasonality that you’ve set up now for us, could you just maybe speak to any factors we may want to consider and what it is that drives your confidence, and now it looks like a pretty big sequential Q4 as you’ve set it up for us. Thank you.

Remo Canessa : Yes, I mean, we made a go-to-market change during the quarter because you’re aware, Mike Rich, Mike has hit the ground running and is doing an absolutely outstanding job, balancing the strength that we’ve got with our sales organization as well as bringing new leadership in. If you take a look at our guide for the year, it is slightly up, we’re being prudent. The key thing, I think, for our investors to recognize and what Jay said, this is a large market opportunity. It’s a huge market opportunity. And when it’s a huge market opportunity, when you look at companies giving away things for free, especially in security, that’s one area that basically I wouldn’t shortchange. So what we’re seeing with the market opportunity, our engagement with our customers, with Mike Rich on board, we feel good about our guidance going forward.

Operator: Our next question comes from Andrew Nowinski with Wells Fargo.

Andrew Nowinski: Great, thank you, Bill. Certainly going to miss you. Can’t wait to see where you land next. And then, overall, just great quarter. Congrats on another strong execution. I wanted to ask you guys about the US federal sector. It sounds like you had some strong upsells in the US Fed may have contributed to some of your upside this quarter. Do you think some of these agencies that you mentioned that are really under-penetrated, they might serve as a role model to other agencies in the U.S. government which could help you continue your growth there and how does your pipeline look in the U.S. Fed over the next few quarters? Thank you.

Jay Chaudhry : As we have been investing in the federal market for quite some time. We got the highest level of certification and we’re doing very well. In fact, we are heavily engaged with all federal agencies including DOD, 12 of the 15 agencies on our customers. In my prepared remarks, I talked about the federal deal that we doubled the number of users and we doubled that ARR to approximately about $5 million. And with this, we are less than 15% penetrated in the agency in terms of the number of users which means there’s an 85% wide space to go up there. We feel good. We keep on investing in it and I think it’s a strong area for us. Remo?

Remo Canessa : Well positioned. And as Jay mentioned, 12 to 15 basically agencies that we’re in, these are big deals in federal. It’s hard to predict when these deals are going to close. From our perspective, we’re well positioned, very well positioned going forward. We’ve made significant investments with our certifications and also our team, which we feel is outstanding. So the answer to your question, Andy, is we feel good about federal. But, again, bigger type deals, hard to forecast, but we feel good.

Operator: Our next question comes from Tal Liani with Bank of America.

Tal Liani: Hi, guys. I have a small question and a big question. The small one is about billing. You guide it down 7% sequentially and then guide it up 53% if I take the implied 4Q, which is the highest growth in billing. You had the same problem last year. What’s the meaning of it? What’s the meaning of billing being weak and then billing being so strong in the fourth quarter? What needs to happen for it to materialize? So that’s a small one. The bigger one, Jay, maybe you wanted me to take it one at a time or you wanted me just to ask both?

Jay Chaudhry : No, go ahead.

Tal Liani: Jay, the second one is a bigger question. SASE is used to be a very secure, a very safe market for you because there were only two players and maybe two and a half players. And now we’re seeing tons of competition coming in. And competition is coming at very low pricing. And Fortinet is talking about one-third of your price. The newcomers are coming either through bundling, which enables them to reduce price, or as an add-on to a firewall, which again enables them to bundle and reduce price. And if I ask the question in a provocative way, I’ll ask it, what prevents this market from turning into what happened to FireEye and what happened to Sandboxing that when competition started, pricing collapsed in the market?

Jay Chaudhry : So, Remo start with you.

Remo Canessa : So, the things that we’ve got going on in the third order, first of all, this is our normal range, a much of decline over the last five years from Q2 to Q3. I talked about on a prior question the go-to-market changes that we’ve made. That certainly plays into things. Related to the back half in the fourth quarter with the implied increase basically in billing, it’s related to pipeline close rates and the forecast that our team has come up with. Again, from our perspective, we feel it’s prudent guidance. We feel good about it, and we feel that we are in a great position to go forward with the team that we have and will build in our sales organization.

Jay Chaudhry : Okay, regarding your bigger question, that’s SASE, the market and the competition. Let me put it this way. They are point products and the platforms. You absorb point products into platforms. And then there are products that are mission critical, the products that are not mission critical. FireEye, Sandbox was a feature from day one, it’s not a much barrier to entry. Everyone could build it and add it into the main platform. CASB was a point product all along, became that way. Cloud Security Boston Management, a point product gets bundled with something. And then there’s something called platform. For example, the code of our platform, Zero Trust Architecture proxy based, sitting in line, inspecting traffic, and you add things to it.

So it’s almost like ERP. You see lots of product going out in many areas. Customers don’t remove and put in an ERP for vendor A or vendor B because somebody feels like I need to enter the ERP space. I think SASE market is almost like that. This is so mission critical. All traffic goes through us. In fact, a CIO told me, Jay, Zscaler is more mission critical than Microsoft Office 365 because you must work all the time. So with that in mind, our customers may look at this thing. Price is a secondary factor. Reliability, availability, and effectiveness of doing cyber protection is an important factor. My customers also tell me that they have so many firewalls, so many VPNs, and the threats are growing so the credibility of firewall vendors overall is less.

Maybe I can use another analogy. You want to buy a pacemaker; you don’t try to cut corner and buy one at sale. You want to buy something else, yes, you may be able to do so. Yes, competition is coming. We see that, but I can tell you some of the new firewall vendors that announced the SASE act entrance, I haven’t come across them in the recent months as I’ve seen out there. I think the platform keeps on growing. We started with outbound traffic, now inbound traffic. The platform must have the most comprehensive data protection. None of these firewall vendors can do a lot of data protection. Data protection starts with the proper SASE architecture. Then we moved on to expand to workloads, to IoT/OT, and on to B2B. And the pace of innovation is kept on going.

I’m very comfortable with our platform story. We need to keep on focusing on go-to-market to keep on going faster and faster. I hope that helps.

Operator: Our next question comes from Rob Owens with Piper Sandler.

Rob Owens: Great. Thanks for taking my question this afternoon. Could you touch a little bit more on your vertical selling motion and maybe some of those new markets that you will have special overlays for? And I would love a little more commentary around your success with your IoT/OT solution. Thanks.

Jay Chaudhry : Yes, so let’s start with vertical market first. About five or six years ago, we started with a first vertical. That was a public sector. And then within that vertical, we expanded into federal government and state government, education and the like. And those things have been very successful for us. For a year ago, we expanded to health care verticals. And then now we want to expand to a couple of more verticals. When company gets to a certain level, you can actually afford to go vertical because vertical requires a decent amount of footprint. Vertical requires some of the expertise in those areas. For example, we have hired some people who come from very good backgrounds, who have spent time in those vertical markets.

So we think it’s a good natural area for us to expand. And it’s not a new, something totally new for us. We’ve been there, done it, we need to know, we need to learn how to expand it. For example, financial is a strong market for us. It’s almost like a vertical today, though it’s not a formal vertical. So we’ll see, you’ll see us expanding in more verticals. That was the first part. The second part of the question, what was the second part.

Operator: Our next question comes from Matthew Hedberg with RBC.

Matt Swanson: Yes, thank you. This is actually Matt Swanson from that Hedberg. I wanted to follow up on Andy’s earlier question on the federal vertical. Yes, it’s been a place that’s been a little bit mixed among your peers and with the strong results, is anything change from your perspective from a competitive standpoint? Or you mentioned the Zero Trust mandates. Are there things that are changing the federal government that are leaving this scaler better positioned relative to some of your peers that maybe have seen a little weakness in that vertical?

Jay Chaudhry : We have seen no weakness, no slowdown in the federal market. In fact, adoption of Zero Trust keeps on growing, especially under the president’s mandate. So all agencies, whether federal government, civilian side, or defense side, we have strong engagements and we feel very good about it. But as Remo said, some of these deals can be big and lumpy, but we are in good shape. And the certifications we got at the highest level for all products puts us in an especially very good position and our strong sales team in place.

Operator: Our next question comes from Fatima Boolani with Citi.

Unidentified Analyst : Hello. This is Mark on for Fatima. Thanks for taking our questions. Can you maybe just speak up a little bit more on the leverage you guys recognize in this quarter, and then really the meaningful to the on margin expansion, even though there’s a pretty long roster of initiatives you guys is looking to implement, such as verticalization. So any sorts of leverage performance this quarter, and how does sort of your investment stance or philosophy differ today versus maybe three months ago? Thank you.

Remo Canessa : Mark, it’s actually very hard to hear you. So what I picked up was you were asking about a little more information about our vertical approach. Is that correct?

Unidentified Analyst : Can you hear me now?

Remo Canessa : A little better.

Jay Chaudhry : A little better, yes.