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Fortinet Reports First Quarter 2011 Financial Results and Announces Two-for-One Stock Split

Fortinet (NASDAQ: FTNT) – a leading network security provider and worldwide leader of unified threat management
(UTM) solutions – today announced financial results for the first quarter ended March 31, 2011.
Financial Highlights for the First Quarter of 2011
– Billings1: Total billings were $106.7 million for the first quarter of 2011, an increase of 34% compared to the first quarter of 2010. We define billings, a non-GAAP financial measure, as revenue recognized during the period plus the change in deferred revenue from the beginning to the end of the period.
– Revenue: Total revenue was $93.3 million for the first quarter of 2011, an increase of 34% compared to the first quarter of 2010. Within total revenue, product revenue was $40.2 million, an increase of 48% compared to the first quarter of 2010. Services revenue was $48.7 million, an increase of 26% compared to the first quarter of 2010. Ratable product and services revenue was $4.4 million, an increase of 9% compared to the first quarter of 2010. Revenue includes a $3.3 million positive impact related to the implementation of new revenue recognition rules.1
– Deferred Revenue: Deferred revenue was $266.0 million as of March 31, 2011, an increase of 26% compared to deferred revenue as of March 31, 2010, and up $13.4 million from December 31, 2010.
– Cash and Cash Flow: As of March 31, 2011, cash, cash equivalents and investments were $432.7 million, compared to $387.5 million as of December 31, 2010. Cash flow from operations was $40.2 million for the first quarter of 2011, compared to $21.8 million for the first quarter of 2010. In the first quarter of 2011, free cash flow was $36.5 million, compared to $20.8 million for the first quarter of 2010. We define free cash flow, a non-GAAP financial measure of liquidity, as net cash provided by operating activities less capital expenditures and the upfront payment related to the patent settlement.1
– GAAP Operating Income: GAAP operating income was $17.4 million for the first quarter of 2011, representing a GAAP operating margin of 19% and an increase of 160% compared to the first quarter of 2010. Excluding the impact of the new revenue recognition rules and its related tax effects, operating income would have been $15.0 million during the first quarter of 2011, representing an operating margin of 17%.
– Non-GAAP[1] Operating Income: Non-GAAP operating income was $20.0 million for the first quarter of 2011, representing a non-GAAP operating margin of 21% and an increase of 126% compared to the first quarter of 2010. Non-GAAP operating income and operating margin exclude stock-based compensation expense and income from patent settlement. Excluding the impact of the new revenue recognition rules and its related tax effects, non-GAAP operating income would have been $17.6 million during the first quarter of 2011, representing a non-GAAP operating margin of 20%.
– GAAP Net Income and EPS: GAAP net income was $13.6 million for the first quarter of 2011, based on a 25% tax rate for the quarter. This compares to GAAP net income of $4.2 million for the first quarter of 2010. GAAP diluted EPS was $0.17 for the first quarter of 2011, based on 81.4 million weighted-average diluted shares outstanding, compared to $0.06 for the first quarter of 2010, based on 74.9 million weighted-average diluted shares outstanding. Excluding the impact of the new revenue recognition rules and its related tax effects, EPS would have been $0.14 during the first quarter of 2011.
– Non-GAAP[1] Net Income and EPS: Non-GAAP net income was $13.9 million for the first quarter of 2011, based on a 33% tax rate for the quarter. Non-GAAP net income for the first quarter of 2010 was $5.8 million, based on a 35% tax rate. Non-GAAP diluted EPS was $0.17 for the first quarter of 2011 based on 81.4 million weighted-average diluted shares outstanding, compared to $0.08 for the first quarter of 2010 based on 74.9 million weighted-average diluted shares outstanding. Non-GAAP net income and non-GAAP EPS exclude stock-based compensation expense, income from patent settlement and the related tax effects. Excluding the impact of the new revenue recognition rules and its related tax effects, non-GAAP EPS would have been $0.15 during the first quarter of 2011.
Management Commentary
Ken Xie, founder, president and chief executive officer of Fortinet, stated: “The first quarter marked a strong start to the year for Fortinet with solid execution and a healthy pipeline of business. Our recent investments in our global sales organization and sharpened focus on penetrating the large enterprise have resulted in significant momentum in our business across geographic regions, with especially strong performance in the Americas. Our ability to demonstrate the price performance advantage of our solutions and to introduce new cutting edge technologies continues to strengthen our competitive position in the marketplace, particularly as demand trends in the broader UTM market accelerate.”
Ken Goldman, chief financial officer of Fortinet, stated: “We are very pleased with our solid first quarter results, which exceeded our expectations across the board. Our ability to successfully execute our global go-to-market strategy combined with the underlying strength of our business model drove strong top line results, healthy profitability levels, and substantial cash flow generation. We remain focused on investing in our sales and R&D resources in order to expand our reach into new high growth verticals and emerging markets.”
Stock Split
Fortinet also announced today that its Board of Directors has approved a two-for-one stock split of the company-s outstanding shares of common stock to be effected in the form of a stock dividend. The stock split will entitle each stockholder of record at the close of business on May 9, 2011, to receive one additional share for every one share owned as of that date. The additional shares resulting from the stock split are expected to be distributed by the company-s transfer agent on or about June 1, 2011. Upon the completion of the stock split, Fortinet will have approximately 153 million shares of common stock outstanding.
Conference Call Details
Fortinet hosted a conference call on April 27, 2011, at 1:30 p.m. Pacific Time (4:30 p.m. Eastern Time) to discuss the Company-s financial results. A live webcast of the conference call and supplemental slides will be accessible from the Investor Relations page of Fortinet-s website at http://investor.fortinet.com and a replay will be archived and accessible at: http://investor.fortinet.com/events.cfm A replay of this conference call can also be accessed through May 11, 2011, by dialing (800) 642-1687 (domestic) or (706) 645-9291 (international). The replay passcode is 60694521.
Following Fortinet-s earnings conference call, the Company hosted an additional question-and-answer session at 3:30 p.m. Pacific Time (6:30 p.m. Eastern Time) to provide an opportunity for financial analysts to ask more detailed product and financial questions. This follow-up call will be webcast live and accessible at http://investor.fortinet.com, and will be archived and available after the call at http://investor.fortinet.com/events.cfm. A replay of this conference call will also be available through May 11, 2011, by dialing (800) 642-1687 (domestic) or (706) 645-9291 (international). The replay passcode is 60696602.
[1] A reconciliation of GAAP to non-GAAP financial measures has been provided in the financial statement tables included in this press release. An explanation of these measures is also included below under the heading “Non-GAAP Financial Measures.”
Forward-looking Statements
This press release contains forward-looking statements that involve risks and uncertainties. These forward-looking statements include statements regarding the momentum in our business across geographic regions, the continued strength of our competitive position and our plans to invest in our sales and research and development resources to expand our reach into new high growth verticals and emerging markets. Although Fortinet attempts to be accurate in making forward-looking statements, it is possible that future circumstances might differ from the assumptions on which such statements are based. Important factors that could cause results to differ materially from the statements herein include the following: general economic risks; specific economic risks in different geographies and among different customer segments; uncertainty regarding increased business and renewals from existing customers; uncertainties around continued success in sales growth and market share gains; risks associated with successful implementation of multiple integrated software products and other product functionality risks; execution risks around new product introductions and innovation; the ability to attract and retain personnel; changes in strategy; risks associated with management of growth; lengthy sales and implementation cycles, particularly in larger organizations; technological changes that make our products and services less competitive; risks associated with the adoption of, and demand for, the UTM model; and the other risk factors set forth from time to time in our filings with the SEC, copies of which are available free of charge at the SEC-s website at www.sec.gov or upon request from Fortinet-s investor relations department. All forward-looking statements herein reflect our opinions only as of the date of this release, and we undertake no obligation, and expressly disclaim any obligation, to update forward-looking statements herein in light of new information or future events.
Non-GAAP Financial Measures
Fortinet has provided in this release financial information that has not been prepared in accordance with GAAP. Fortinet uses these non-GAAP financial measures internally in analyzing its financial results and believes they are useful to investors, as a supplement to GAAP measures, in evaluating Fortinet-s ongoing operational performance. Fortinet believes that the use of these non-GAAP financial measures provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing its financial results with other companies in Fortinet-s industry, many of which present similar non-GAAP financial measures to investors. Note that in addition to other non-GAAP measures, Fortinet is providing additional non-GAAP financial information to illustrate the effects of the newly-adopted revenue recognition rules for comparability purposes on a period-over-period basis.
Non-GAAP financial measures should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with GAAP. Investors are encouraged to review the reconciliation of these non-GAAP financial measures to their most directly comparable GAAP financial measures below. As previously mentioned, a reconciliation of our non-GAAP financial measures to their most directly comparable GAAP measures has been provided in the financial statement tables included below in this press release.
Billings. We define billings as revenue recognized plus the change in deferred revenue from the beginning to the end of the period. Fortinet considers billings to be a useful metric for management and investors because billings drive deferred revenue, which is an important indicator of the health and visibility of Fortinet-s business, and has historically represented a majority of the quarterly revenue that Fortinet recognizes. There are a number of limitations related to the use of billings versus revenue calculated in accordance with GAAP. First, billings include amounts that have not yet been recognized as revenue. Second, Fortinet may calculate billings in a manner that is different from peer companies that report similar financial measures. Management compensates for these limitations by providing specific information regarding GAAP revenues and evaluating billings together with revenues calculated in accordance with GAAP.
Free Cash Flow. We define free cash flow as net cash provided by operating activities minus capital expenditures and the cash received from the patent settlement. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that, after the acquisition of property and equipment, can be used for strategic opportunities, including investing in our business, making strategic acquisitions, and strengthening the balance sheet. Analysis of free cash flow also facilitates management-s comparisons of our operating results to competitors- operating results. A limitation of using free cash flow versus the GAAP measure of net cash provided by operating activities as a means for evaluating Fortinet is that free cash flow does not represent the total increase or decrease in the cash balance from operations for the period because it excludes cash used for capital expenditures during the period and the cash received in connection with our patent settlement. Our management compensates for this limitation by providing information about our capital expenditures on the face of the cash flow statement and under the caption “Management-s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources” in our Quarterly Report on Form 10-Q and Annual Report on Form 10-K. Fortinet has computed free cash flow using the same consistent method from quarter to quarter and year to year.
Non-GAAP operating income and operating margin. We define non-GAAP operating income as operating income plus stock-based compensation reduced by the income from patent settlement. Non-GAAP operating margin is defined as non-GAAP operating income divided by revenue. Fortinet considers these non-GAAP financial measures to be useful metrics for management and investors because they exclude the effect of stock-based compensation expense and patent settlement related income/expenses so that Fortinet-s management and investors can compare Fortinet-s recurring core business operating results over multiple periods. There are a number of limitations related to the use of non-GAAP operating income versus operating income calculated in accordance with GAAP. First, non-GAAP operating income excludes stock-based compensation expense. Stock-based compensation has been and will continue to be for the foreseeable future a significant recurring expense in Fortinet-s business. Second, stock-based compensation is an important part of our employees- compensation and impacts their performance. Third, the components of the costs that we exclude in our calculation of non-GAAP operating income may differ from the components that our peer companies exclude when they report their non-GAAP results of operations. Management compensates for these limitations by providing specific information regarding the GAAP amounts excluded from non-GAAP operating income and evaluating non-GAAP operating income together with operating income calculated in accordance with GAAP.
Non-GAAP net income and EPS. We define non-GAAP net income as net income plus stock-based compensation expense reduced by the income from patent settlement, less the related tax effects for both periods presented. We define non-GAAP EPS as non-GAAP net income divided by the weighted-average shares outstanding, on a fully-diluted basis. We consider these non-GAAP financial measures to be a useful metric for management and investors for the same reasons that Fortinet uses non-GAAP operating income and non-GAAP operating margin. However, in order to provide a complete picture of our recurring core business operating results, we exclude from non-GAAP net income and non-GAAP EPS the tax effects associated with stock-based compensation and the patent settlement. We used a 33 percent effective tax rate to calculate non-GAAP net income for the first quarter of 2011. We believe the 33 percent effective tax rate is a reasonable estimate of a long-term normalized tax rate under our global operating structure. Our effective tax rate for the first quarter of 2010 was 35 percent which reflects only our foreign tax provision as our US operations had net operating losses to offset any taxable income. The same limitations described above regarding Fortinet-s use of non-GAAP operating income and non-GAAP operating margin apply to our use of non-GAAP net income and non-GAAP EPS. Management compensates for these limitations by providing specific information regarding the GAAP amounts excluded from non-GAAP net income and non-GAAP EPS and evaluating non-GAAP net income and non-GAAP EPS together with net income and EPS calculated in accordance with GAAP.

Fortinet (NASDAQ: FTNT) is a worldwide provider of network security appliances and the market leader in unified threat management (UTM). Our products and subscription services provide broad, integrated and high-performance protection against dynamic security threats while simplifying the IT security infrastructure. Our customers include enterprises, service providers and government entities worldwide, including the majority of the 2009 Fortune Global 100. Fortinet-s flagship FortiGate product delivers ASIC-accelerated performance and integrates multiple layers of security designed to help protect against application and network threats. Fortinet-s broad product line goes beyond UTM to help secure the extended enterprise — from endpoints, to the perimeter and the core, including databases and applications. Fortinet is headquartered in Sunnyvale, Calif., with offices around the world.