Proofpoint, Inc.
Q4 2015 Earnings Call Transcript

Published: 29 Jan 2016

[Operator:]

Good day, everyone. Welcome to the Proofpoint Fourth Quarter 2015 Earning Results Conference. Today's call is being recorded. At this time, I'd like to turn the conference over to Mr. Paul Auvil, Chief Financial Officer. You may begin, sir.

[Paul R. Auvil:]

Good afternoon and welcome to Proofpoint's fourth quarter and full-year 2015 earnings call. Today we will be discussing the results announced in our press release that was issued after the market closed. I am Paul Auvil, Chief Financial Officer of Proofpoint, and with me on the call today is Gary Steele, Proofpoint's Chief Executive Officer. During the course of this call, we will make forward-looking statements regarding future events and the future financial performance of the company. These forward-looking statements are subject to material risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. We caution you to consider the important risk factors that could cause actual results to differ materially from those in the forward-looking statements contained in the press release and this conference call. These risk factors are described in our press release and are more fully detailed under the caption Risk Factors in Proofpoint's most recent Form 10-K and Form 10-Q filed with the SEC and the company's other filings with the SEC. During this call, we will present both GAAP and non-GAAP financial measures. These non-GAAP measures exclude stock-based compensation expenses, acquisition-related costs, accretion of the debt discount and amortization of the debt issuance costs associated with our convertible debt, additions to deferred revenue from acquisitions, costs associated with litigation, as well as the amortization of intangibles related to acquisitions, non-recurring income tax benefits, other income and expense. These non-GAAP measures are not intended to be considered in isolation from, a substitute for, or superior to our GAAP results, and we encourage you to consider all measures when analyzing Proofpoint's performance. A reconciliation of GAAP to non-GAAP measures is included in today's press release regarding our fourth quarter and full-year 2015 results, which can be found in the Investor Relations section of our website. In addition, please note that the date of this conference call is January 28, 2016, and any forward-looking statements that we make today are based on assumptions that we believe to be reasonable as of this date. We undertake no obligation to update these statements as a result of new information or future events. So with that said, I'll turn the call over to Gary.

[Gary L. Steele:]

Thanks, Paul. I'd like to thank everyone for joining us on the call today. We were very pleased with the results for the fourth quarter, capping off another great year for the company. We delivered full-year billings growth of 39%, revenue growth of 36%, and we more than tripled free cash flow over the prior year. We believe that this performance, which pairs compelling top-line growth with meaningful expansion of free cash flow, puts Proofpoint in an elite category within the SaaS industry, matched only by a few other subscription businesses of our size and scale. Throughout 2015, we continued to benefit from strong demand for our advanced threat protection solutions, ongoing high competitive win rates, robust add-on activity, and consistently high renewal rates. Demand for our cloud-based solutions, which combine ease of implementation with high product efficacy, has fueled our ability to displace legacy vendors throughout the year. The overall demand environment for our security solutions that can identify and block advanced malware continues to be strong. The ease with which bad actors can use social engineering to craft highly targeted spear phishing campaigns makes it imperative that advanced malware solutions work across multiple communication mediums. The one tactic that is constant across today's cyber-criminal activities is e-mail-based phishing. Back in September of 2015, it was widely believed that the prominent Dridex arrests would lead to waning volumes in malicious campaigns. Instead, we've seen the opposite, with Dridex campaign volumes up more than a factor of 10 over the past several months. We've also observed innovation in malware as attackers are experimenting with new versions of similar malware such as Vawtrak and Nymaim to bypass traditional defenses. Our customers in EMEA have also experienced a significant uptick in malicious activity as these actors are not targeting U.S. companies alone. More recently, we published research on a rogue app store, targeting non-jailbroken iOS devices discovered by our TAP Mobile Defense solution. This illicit app store with over 1 million apps was able to circumvent the official Apple App Store vetting process, effectively facilitating the downloading of malicious apps onto mobile devices. Once downloaded, these apps can perform a range of malicious activities, including stealing sensitive data. As organizations look to solve these types of challenges, Proofpoint's Targeted Attack Protection suite, which combines solutions for e-mail, social and mobile, is ideally suited to address these threats. Underlying this suite of products is our proprietary graph database that correlates threat intelligence over hundreds of billions of nodes in real-time and provides unparalleled visibility into advanced threat actors and campaigns worldwide. Now, turning to some of our key accomplishments during the fourth quarter. We were very pleased with the ongoing momentum of Targeted Attack Protection during the quarter, as we once again grew the TAP business by over 100% year-over-year, meaningfully exceeding our expectations back in October. We ended 2015 with a little over 1,100 active-paying TAP customers, almost doubling since the first of quarter of 2015, based on the figures that we reported during our Analyst Day back in June. This is the ninth consecutive quarter where the TAP business has more than doubled on a year-over-year basis, still driven by the ongoing demand for TAP's next-generation capabilities, a solution that uniquely combines the application of big data analytics and dynamic cloud-based malware analysis to identify and block zero-day and polymorphic malware. As a reminder, while we believe that revenues from this business will continue to produce meaningful growth on an absolute basis, we do expect that the year-over-year growth when measured on a percentage basis will begin to moderate as these absolute comparisons become more difficult given the increasing scale of the TAP business. Some of the noteworthy TAP wins during the quarter included a Fortune 100 energy services company that added TAP for 75,000 users; a large government agency that added TAP for 50,000 users; and the Fortune 50 consulting company that added Protection and TAP for over 50,000 users. During the quarter, we also closed a handful of TAP Mobile Defense deals as enterprises begin to focus on blocking or removing malicious mobile apps that are running on their employee devices. TAP Mobile Defense not only identifies these malicious apps but can also proactively remove them by leveraging integration with the leading enterprise mobility management platforms, including VMware AirWatch and MobileIron. It is important to note that this was our first full quarter of selling TAP Mobile Defense, and we're pleased with the progress we're seeing so far. In regards to the ongoing momentum at our core protection business, the strong demand continues to be driven by our high win rates versus the competition. A few examples of Protection wins during the quarter included a Fortune 500 energy company that purchased Protection for over 120,000 users; a regional health services company which purchased Protection, Privacy and TAP for over 25,000 users; and a Fortune 500 global beverage company that purchased Protection, Privacy and TAP for 85,000 users. In regards to our partnership with Intel McAfee, we are very excited about the relationship and being chosen as the exclusive partner for Intel Security customers as they end-of-life their e-mail security product line. Note that for some time now, we have had success displacing Intel Security solution with our best-of-breed cloud-based platform, and this partnership should help to accelerate this transition over the next 12 months and beyond. During the fourth quarter, in particular, our new business from existing Intel Security customers when measured as a percentage of our new business in total was in line with our historical averages, reflecting the fact that this end-of-life program has yet to contribute to our financial results. That said, I will note that we did see an overall acceleration in our pipeline from the Intel Security base, and as such we are optimistic in terms of the potential contribution from this effect in coming quarters. During the fourth quarter, Proofpoint continued to benefit from the overall transition to the cloud, driven by the shift to Office 365. Specifically, enterprise customers moving to Office 365 continue to look for additional security capabilities to complement and enhance the baseline solutions provided by Microsoft. In addition, the move to the cloud is continuing to force the displacement of on-premise solutions and the need to replace the existing compliance infrastructure that had been deployed on-premise and supported the legacy Exchange Infrastructure. This continues to create a catalyst to drive demand for our broader cloud-based compliance capability as part of this migration to Office 365. Examples from the fourth quarter include a Fortune 500 technology company that purchased Protection and TAP for 70,000 users; and one of the nation's most advanced medical technology companies that purchased Protection and TAP for 6,500 users. In regards to the momentum with our social media security solutions, we were very pleased with the ongoing demand during the fourth quarter. We also continued to innovate at a very rapid pace, and we're excited to announce the support for Instagram during the quarter. Some of the key wins included a Fortune 500 technology company seeking to track and audit their numerous social accounts, while detecting fraud and risks on their social footprint; and a global 100 bank seeking to track and audit their social accounts for compliance risks, as well as detecting fraud. We were also excited to announce the acquisition of Socialware, which expanded our social media compliance expertise. We see this as a large market opportunity particularly in the financial services industry, as these enterprises look to enable their employees to use social media to communicate with their clients and prospects while meeting their compliance mandates. Specifically, in Q4, a Fortune 100 bank expanded their deployment of our complete social suite, which included social compliance in addition to the ability to stop security compromises and assist in preventing social media fraud and phishing. Given that the adoption of social media as a tool in enterprises continues to be relatively nascent, we expect our demand to track the overall development of this market. As a result, we believe that Proofpoint remains very well positioned to take advantage of this growing opportunity, particularly given the increasing number of highly visible social media hacks. During the fourth quarter, we also continued to see organizations interested in moving to the cloud to replace their aging on-premise archiving infrastructure. We closed a number of smaller deals during the fourth quarter and exited the year with a solid pipeline of larger opportunities. Sales cycles on these larger archiving opportunities tend to be longer than the cloud security deal, and as a result, we expect to see momentum develop over the course of the year as these deals come in. We are also very proud to be positioned in the Leaders Quadrant in Gartner's 2015 Magic Quadrant for enterprise information archiving for the fourth consecutive year. We view this as further confirmation of the company's proven ability to execute in the archiving market, enabling organizations to significantly reduce costs, comply with regulations and streamline eDiscovery for all their data. I'd also like to point out that during the quarter, we were very pleased with the momentum of the channel. Historically, the channel has contributed approximately 50% of our new and add-on business. But over the course of 2015, I am pleased to report that the channel's contribution to our new and add-on business has increased to approximately 60%. Finally, we continue to make progress toward further expansion abroad. During Q4, our international business accounted for 17% of total revenues, which was consistent with prior quarters and grew 4% year-over-year reflecting a difficult comparison to the same quarter last year. Note that the growth rate would have been in the low teens when taking into account the impact of foreign exchange. And as we enter 2016, we expect the impact from foreign exchange to lessen, resulting in growth rates of 20% or better, given the results delivered by the team in 2015 and the outlook headed into the coming year. Some of the international deals won include

[Paul R. Auvil:]

Thanks, Gary. We were very pleased with our ability to, once again, meet or exceed expectations on all of our key financial metrics during the fourth quarter. Proofpoint continued to benefit from the combination of a healthy growth rate of new customers, a strong cycle of add-on sales to our install base and a world-class renewal rate that remains well over 90% across the approximately 4,000 Proofpoint customers that represent our target market. During the fourth quarter, total revenue was $74.9 million, up 33% year-over-year and above our previously announced guidance range of $72.5 million to $73.5 million. These strong results were driven by a 37% year-over-year growth rate in our subscription revenue. As a reminder, our fourth quarter of 2014 had a spike in hardware revenue of roughly $1 million over our typical run rate, driven by several large Sendmail customers who chose to refresh their MTA appliance infrastructure. As we noted at that time, we did not expect to see a recurrence of these sorts of purchases in future periods, and this effect created a headwind to total revenue growth of approximately two full percentage points during the fourth quarter of 2015. Looking at the revenue breakdown by segment, during the fourth quarter, our protection and privacy segment comprised 82% of total revenues, growing 39% annually. The archiving and governance segment made up the remaining 18% and grew 11% year-over-year, as a number of smaller deals closed during the quarter. We continue to be excited about the prospects for our archiving business over the course of 2016, as we expect the larger and somewhat more complex deals in our pipeline will find their way to the finish line later in the year as customers clean up their own premises archives and move them to the cloud. In the near term, we expect the sales team to be focusing most of its effort toward our security and advance threat products where customers are deploying budgets at a somewhat faster pace and with greater urgency. As a final point, note that this segment was down nominally on a sequential basis due to timing of services revenues related to import, export and data storage. Billings for the fourth quarter totaled $97.5 million, reflecting growth of 30% on a year-over-year basis and exceeding the high end of our previously announced guidance range of $90 million to $92 million. As a reminder, during the fourth quarter of 2014, we recorded over $5 million of early renewals pulled in from our first quarter of 2015, which created a headwind against our fourth quarter 2015 billings. Absent this effect, the year-over-year growth rate is approximately 40%. With regards to duration, it was consistent with our last quarter and at the low end of our historical range of 15 months to 22 months. Turning to expenses and profitability for the fourth quarter, on a non-GAAP basis, our total gross margin was 73% which was in line with our expectations and reflects the investments we are making in our cloud infrastructure in response to the strong demand environment. In terms of our operating expenses, we continue to invest in sales and marketing, as well as research and development to support future growth. During the fourth quarter, total non-GAAP operating expenses increased 41% over the prior-year period to $57.9 million, representing 77% of total revenue, up from 73% during the same period last year, primarily due to an increase in sales commission expense driven by the strong bookings activity during the quarter. Non-GAAP net loss was $4.4 million, or $0.11 per share, based on 40.5 million weighted average shares outstanding and was at the better end of our guidance range of a loss of $0.11 to $0.12 per share. Non-GAAP net loss during Q4 2015 included an unfavorable impact from foreign currency translation related to our cash held in local currencies of approximately $0.2 million. Fourth quarter 2015 adjusted EBITDA was $0.6 million and was above our original guidance range of $0.3 million to $0.5 million, driven primarily by the upside to revenues. On a GAAP basis, GAAP net loss for the quarter totaled $31.4 million or $0.77 per share based on 40.5 million weighted average shares outstanding. I also wanted to call out that our GAAP results included $2 million in patent litigation expenses related to our ongoing defense of patent litigation instigated by Finjan. Turning to a quick summary of financial results for the full-year 2015, total revenue was $265.4 million, an increase of 36% compared to 2014. This growth was driven by a 37% increase in subscription revenue, which accounted for 97% of total revenue during the year, up from 96% in 2014. As a reminder, 2014 results included a $7 million contribution from Sendmail deferred revenue recorded during the year as compared to $3.1 million here in 2015. Billings for the full year of 2015 were $324.3 million, up 39% year-over-year and above our final guidance for the year. For 2015, our adjusted EBITDA of $4.6 million was a significant improvement over 2014 and represented the first full year of positive adjusted EBITDA in the company's history. Non-GAAP net loss for the year was $13.9 million or $0.35 per share based on $39.8 million weighted average shares outstanding. In terms of cash flow, during the fourth quarter, we generated $8.1 million in operating cash flow and invested $7.7 million in capital expenditures, resulting in positive free cash flow for the quarter of $0.4 million which was slightly above our guidance. As a reminder, during Q3 2015, we had a strong collection cycle which had the effect of accelerating some cash flow into the third quarter from the fourth quarter, driven by a few large customers who paid earlier than expected during that quarter. On a full-year basis, we generated $45.5 million in operating cash flow and invested $25.8 million in capital expenditures, resulting in free cash flow generation of $19.7 million for the year, a more than threefold increase over the $6.3 million in 2014 and above our guidance. Turning to the balance sheet, we ended the fourth quarter with $406.2 million in cash and short-term investments and $345.7 million in debt, as compared to $416.4 million in cash and short-term investments and $340.7 million in debt as of September 30, 2015. This sequential decrease in cash during the quarter was driven primarily by cash used for the acquisition of Socialware, which was partially offset by the free cash flow generated, ongoing stock option exercises and the contributions to capital for our employee stock purchase plan. As a reminder, we carry two series of convertible notes on the balance sheet that are due in 2018 and 2020. The first series, due in 2018, pays annual interest of $2.5 million in two equal installments during the second quarter and the fourth quarter. The converted price on these notes is $39.02 and if converted, 5.2 million shares would be issued. The second series, due in 2020, pays annual interest of $1.7 million in two equal installments, also during the second quarter and fourth quarter. The conversion price on these notes is $81.23 and if converted 2.8 million shares would be issued. I would like to highlight that we are currently generating a net loss and as such, our weighted average share count of 40.5 million shares for Q4 of 2015 does not include the impact of vested stock options. If we were profitable today, our fully diluted share count would have been approximately 43.8 million shares when applying the treasury stock method to these vested options. We ended the third quarter – or rather the fourth quarter with an accounts receivable balance of $54.5 million, resulting in DSOs of 59 days, which was in line with our expectations. Total deferred revenue increased $61.1 million or 38% year-over-year to $223.7 million during the fourth quarter, up from $162.7 million in the year ago period. Now turning to our financial outlook starting with the full-year 2016. We ended the year with good momentum and believe that we are in a position to increase market share and extend our technology leadership, as we continue to invest in new product development and expand our sales and marketing resources worldwide. As a result, we are increasing our outlook for the full-year 2016 as compared to the initial views that we shared on last quarter's call. From a full-year perspective, we are raising our revenue guidance to a range of 30% to 31%, or $345 million to $348 million, a full percentage point above the initial guidance range that we provided in October which is all the more meaningful when viewed in the context of our upside performance here at the end of 2015. We continue to expect billings to grow at a rate that is a few percentage points higher than revenue for the year with a range of $428 million to $431 million and a reasonable step-up from our initial guidance in October, due to our performance here in the fourth quarter of 2015. We believe this guidance is a strong starting point for the year given the high growth rates delivered over the course of 2015 and, as a result, the challenging year-over-year comparisons that we face here in 2016. We expect full-year 2016 non-GAAP gross margins to be approximately 74%, achieving the low end of our five-year target range of 74% to 76% that we provided at the time of our IPO. We are very pleased to be able to reach this goal a full year earlier than expected while continuing to invest in our threat analytics and big data infrastructure to support growth. With respect to adjusted EBITDA for 2016, in October, we provided an initial range of approximately $7 million to $9 million for the full year. As we've refined our outlook for the coming year, we are increasing the baseline modestly to $8 million to $10 million. That said, note that during the October call, we also indicated that for 2016, we are changing our accounting for commissions in the fiscal year 2016, moving from our historical approach of expensing commissions during the period in which they are incurred to the accounting policy used by most larger SaaS companies, including Salesforce, ServiceNow, Workday, and Ultimate Software, where commissions are amortized over the term of the revenue contract, thus providing a better matching between revenue and expenses on the income statement. Under this new approach, we will begin the year with a deferred commissions balance of $23 million on the balance sheet, and the expected full-year impact to sales expense is a favorable benefit of approximately $4 million. As such, under this new commission accounting, our EBITDA guidance for 2016 is now $12 million to $14 million for the full year. Note that the timing of this $4 million benefit is not linear over the course of the year as its impact is most greatly felt in the fourth quarter when accelerated commission payments are in effect for the sales team at the end of their plan year. As such, the approximate expected impact by quarter is as follows

[Operator:]

Thank you. We do ask that you please initially limit yourself to one question with one follow-up. And we'll go first to Rob Owens with Pacific Crest.

[Rob Owens:]

Great. Thank you and good afternoon. Curious, as you're starting to see some early traction in the social markets, are those the same buyers of typical security products? Are they different buyers within large organizations? Just looking for some color there. And then number two, as you continue to broaden out the platform, would you move to more of a sales quota where you have ascribed quotas for some of the different products because I know right now, it's kind of an all-in-one and whatever the sales guys sell, they sell? Thanks.

[Gary L. Steele:]

Hi, Rob. It's Gary. So on your first question in terms of traction in social, what we see there is two real buyers driving the decisions. One is obviously the Chief Information Security Officer, CISO, and they're collaborating with the individual in digital marketing that owns the social presence for the enterprise. And they want to make sure that – the person on the marketing side wants to make sure that our capabilities work with the digital strategies that they have. So for example, we just announced Instagram support. If that's critical as part of the digital strategy, that person is weighing in on that. So, it is the individual in digital marketing in conjunction with the CISO. Going to your second question, in terms of assigning quotas to individual products, I have to say we've had very good success in allowing our sales reps to drive sales where they feel they have the most opportunity. And so, I do not foresee a change in our compensation system that would incent certain products over others.

[Paul R. Auvil:]

Yeah. And I think the only thing I'd add to that is keep in mind one of the things that we've done is we have a whole team of people that go out and close net new deals and then a large add-on sales team that follows in. So, part of our strategy is we want the people that are closing the net new accounts, whatever the easiest way is into the account, yeah, I don't care, just go get that deal. Get us a footprint of the customer. And then the add-on team has a series of different strategies to go in and sell the variety of additional products that that customer didn't initially buy. And since we're seeing very good success with that at this point, we don't have any intention of changing it at this time.

[Rob Owens:]

Great. Thanks, guys.

[Gary L. Steele:]

Thanks, Rob.

[Operator:]

We'll move next to Philip Winslow with Credit Suisse. Philip Alan Winslow - Credit Suisse Securities (USA) LLC (Broker) Hi. Thanks, guys, and congrats on just an awesome finish to the year, which for what was a great year as a whole too. I have a question on just Office 365. You guys have talked about this as a driver in the past. And obviously, Microsoft just put up a big Office 365 quarter again tonight as well. It seems like they're creeping more into the enterprise. How much of that is still a driver for you all to essentially come along with Office 365 in the enterprise? And just what are you seeing there and how are you thinking about that going forward?

[Gary L. Steele:]

Yeah. So like you've commented, we definitely see Office 365 moving from the low end of the market into mid-market enterprise. And every CIO or CISO that I've talked to is talking about either a short-term plan or a long-term plant to get to Office 365, so that's clearly a market trend. As we've indicated on our call today and in historical calls, we've seen this as a primary catalyst for growth in our business. We don't see that changing because we see, given the broad concerns that organizations have around security, they are looking for additional capabilities to enhance what Microsoft provides at a basic level. And so, we believe as we look out at 2016, we think Office 365 is going to be a great catalyst for us and our continued growth. Philip Alan Winslow - Credit Suisse Securities (USA) LLC (Broker) Great. And I got another question, but I'll get back in the queue. Thanks, guys.

[Operator:]

We'll now hear from Jonathan Ho with William Blair.

[Jonathan F. Ho:]

Hey, guys. I know you gave a little bit of initial color in terms of the Intel McAfee relationship, but I was just wondering if you could go a little bit further and just give us maybe a sense of timing (37

[Paul R. Auvil:]

Yeah. This is Paul. So we're very excited about that partnership. And as Gary commented in his prepared remarks, the early contributions from the partnership are really not visible in our financial results in that the business that we closed associated with transiting people from McAfee to Proofpoint was consistent with what we've seen historically as we've always had success in moving a subset of their customers over each quarter. We obviously would expect that transition to accelerate, but it's a bit hard for us to forecast right now. So in the guidance that we've put together, quite candidly, we're not assuming much in the way of an incremental benefit there because it's just very hard to assess. I will say again, I think as Gary alluded to, we did see a very nice uptick in pipeline kind of above our normal averages with regards to McAfee transitions showing up in the pipeline of deals that the sales team is working on. But I think it's a little early to make any more explicit statements about it. But stay tuned. We will in future calls as we see progress definitely call out additional details. Just at this stage, keep in mind that they only announced this at the end of October. So there were only a couple of months where customers on their side were even aware that this transition would be required. And they've been given a pretty long period of time to assess and ultimately make that decision and move. So we will expect to see some early evidence in Q1, but it really won't be likely till later in the year where this effect really starts to come in to the fore in our results.

[Jonathan F. Ho:]

Great. Thank you.

[Operator:]

We'll hear now from Matt Hedberg with RBC Capital Markets.

[Matthew George Hedberg:]

Thanks, guys. Congrats from me as well on a great end to the year. You talked a little bit about the partnership with Palo Alto. I guess I'm wondering, could you give us a little bit more details of maybe the level of integration you expect initially? Could that level increase at some point? And at some point, could Palo Alto, for instance, start selling TAP directly into their install base for instance?

[Gary L. Steele:]

Yeah, so we're very excited about the partnership, and this is really driven by demand from customers, demand from partners. And the integration that we're providing today, we've basically integrated Targeted Attack Protection, SocialPatrol with WildFire. So at a very simple level, you can think about it, if we see a attachment coming in and we're doing analysis, TAP's doing analysis on that particular attachment, we will check it against all of our dynamic malware analysis, and we will also send it off to WildFire to see what WildFire thinks about it. So, a customer gets the benefit of having the combined intelligence of Proofpoint and Palo Alto to determine whether something is malicious or not. That is a pretty good level of integration. This is something we've been working on for over six months, and we've gotten very good early feedback from customers. There's probably more work that we could do, but we're obviously going to be working hard with customers and channel partners, get some feedback, and take it from there. But we feel like we're in a very good position given the investment we've already made.

[Matthew George Hedberg:]

That's great. And then maybe a quick one to follow up to Rob's question earlier on social. Should we expect more standardized pricing as we move throughout this year, because I know sometimes it's been a little bit more ad hoc from a customer-to-customer basis?

[Paul R. Auvil:]

I think it's still early at this stage. I mean we're definitely converging toward, I'd say, what I view as a standard set of pricing practices. But again, given the very nature of the product line, it's a bit different than our other products in that some of the elements are per user per year base. So again, stay tuned. We'll probably have some additional insights on that over the next quarter or two. But what I would just say is we're very pleased with the deals that we closed and some of the brand names in the fourth quarter, and we definitely feel like Social's off and moving at a good clip at this stage.

[Matthew George Hedberg:]

Got it. Thanks, guys.

[Gary L. Steele:]

Thank you.

[Operator:]

We'll hear now from Melissa Gorham with Morgan Stanley.

[Melissa A. Gorham:]

Great. Thanks for taking my question. I just have a question on investment priorities. Paul, you mentioned your intention to reinvest some of the savings that you get into some of the strategic growth initiatives. Can you maybe just detail what those are, and how we should think where you're going to prioritize your spend for next year?

[Paul R. Auvil:]

Yeah. I mean in terms of on the engineering front, obviously, maintaining excellence in the advanced threat product category is critical, along with maintaining the extremely high world-class efficacy of our protection solution. But beyond that, there are other areas like mobile which is an exciting new emerging area where we're putting some shoulder to the wheel, if you will. Social, we have a great product footprint, but there are additional capabilities to be added to that product line where we'll be making investment. And as well in archiving, for example, we have some pretty compelling capabilities that we'll be releasing later in the year and probably highlighting during Analyst Day in June. So those are all key areas of focus for us. Now, that said, don't expect to see us jump into another new product category and introduce a product in a whole new area. As we look at the TAM across all of those products, it's a $9 billion opportunity, and we're a $216 million business growing based on the current guide, 30% to 31%. So we've got plenty of opportunity across those product lines. So it's really about continuing to maintain the world-class nature of those products and expand features to make them that much more compelling to the customer base.

[Melissa A. Gorham:]

Great. Thank you.

[Paul R. Auvil:]

Thanks.

[Operator:]

And from Citi, we'll hear from Walter Pritchard.

[Walter H. Pritchard:]

Hi. Thanks. Gary, I'm wondering if you could tell us a little bit about on the social side sort of what your experience tells you now with this year under your belt selling that product. And the buying center is sometimes the same; and sometimes, you go into the marketing department. And just curious how you're feeling about that and, I don't know, what the outlook is for that business in 2016.

[Gary L. Steele:]

Yeah. As Paul indicated, we feel very good about the potential there and the types of customers we're winning as referenced in our prepared remarks. We're really excited about that. What we see as a little bit different in social than we have seen in, say, TAP for example is the initial buy is oftentimes a starting point where it's not the whole organization that benefits from the capability. And so, it's much more of a land-and-expand market opportunity versus what we do in our core protection and TAP where we typically get the whole enterprise in the initial transaction. So that, to me, is the big fundamental difference. And we're getting better and better at expanding the initial deals we win. And I think as we work our way through 2016, we'll see more efficiency in that side which I think will drive a lot of value to the company. So I'm very optimistic. And as we indicated in the prepared remarks, I think the other dynamic here is social as a vehicle to market and sell to a broad set of constituents. It's a relatively new market, and organizations are investing there because they understand the opportunity. But we're still relatively early, and I do believe our progress tracks the overall maturity of that market.

[Walter H. Pritchard:]

Thank you.

[Operator:]

And from Deutsche Bank, Taz Koujalgi.

[Imtiaz Koujalgi:]

Hey, guys. Thanks for taking my question. I have a question on the Intel partnership. I know it's too early to give numbers, but if you can just compare qualitatively what kind of tailwind you'd expect from the Intel migration versus what you experienced from Postini a few years ago. If we could just look at – if I look at the installed base of Intel today versus what Postini was before the migration began, how do you compare this opportunity versus the kind of tailwind you got from Postini a few years ago?

[Gary L. Steele:]

Let me start and Paul will jump in. So one of the things that's very different about our relationship with McAfee from what transpired with Google Postini, in a McAfee world, we are the exclusive partner. We are their recommended solutions that their sales team is talking to customers about. And that's very different than what happened in the Google Postini world where it was just jump ball, like we just had to have sharp elbows and go after the ball. In this scenario, we have a lot more support, a lot more capability from the Intel Security corporate side as well as their sales team. So I think that we're very well positioned. And I'll let Paul comment on kind of the overall size of opportunity.

[Paul R. Auvil:]

Yeah. I mean we have the details but are not privileged to share them. But analyst reports put the McAfee business somewhere in the $80 million, $90 million dollar range as of the time they made the announcement. So, it's of the same magnitude as the Postini business was from what we could garner at the time that Google decide to shut it down. Now, one important difference is that at that time in the past, we were less than half the size we are today. So while that total opportunity is roughly the same in terms of absolute dollars, as a percentage of our business, it's quite a bit smaller. But on the other hand, add to that the fact we're been picked as exclusive partners, so it gives us a bit of an advantage. So I know that's setting it up as sort of a framework to consider. In terms of what kind of tailwind it could provide, clearly, as you kind of think through it, we've already been transiting a reasonable number of their customers every quarter. And so this is – part of what we're still trying to parse is exactly how much additional left above and beyond the normal rate of closure of converting McAfee customers to Proofpoint that we've seen historically that this change will really produce. And again, in all candor, we're really not quite sure. So, if I had data, I'd probably try to share a little more color with all of you. But I just don't have it yet because what we've seen, as I mentioned earlier, is a nice pipeline step-up. I don't see close rates yet. And absent that, as we put the guide together, so this 30% to 31% on revenue, it assumes not much more than our historical rate of benefit from the McAfee business that we've converted in past quarters. So hopefully, that at least gives you some additional data points to think about as you're trying to frame it for yourself. But for now, we're taking a conservative approach and assuming very little beyond what our historical rate of transit has been from moving customers from the McAfee framework over to Proofpoint.

[Imtiaz Koujalgi:]

Okay. Thanks.

[Operator:]

We'll hear now from Erik Suppiger with JMP Securities.

[Erik L. Suppiger:]

Yeah. Just following on the McAfee question, you said market data estimates $80 million to $90 million. What would you estimate that the duration of those appliances are? Do they typically have maybe a three-year or four-year kind of life span in which case, you'd expect most of those customers to transition over a few, three years or so?

[Paul R. Auvil:]

So yeah, that's a good question. So what was formally announced at the end of October by Intel Security was that the cloud customers had until January of 2017 to move over, which we believe was somewhat less than half of their total business. And much of that was in the SMB space which is not a market that we serve specifically. And then the rest of it was on-premise, either served with physical or virtual appliances. Those customers were given essentially a five-year window to move, which then puts a finer point on your question about, well, how long do people really run their old appliances and will people really move over sooner? I would say that anecdotally, our experience at Proofpoint from our legacy appliance business is that people will typically run an appliance somewhere in the three- to four-year range, depending on the customer. You occasionally have outliers that'll run to five years but not many. And of course, a meaningful number of those McAfee customers are already somewhere in the middle of that timeline. And so, as you think about the five-year timeline that McAfee gave those customers, it certainly would seem that some meaningful majority of them would move within the next 24 months, either because they're getting to the end of what they would consider to be the normal life of the appliance, or they just feel like they would like to move to a next-generation solution. And given the fact that this is not something that Intel Security is going to focus on, it would be better to move to a world-class provider who's focusing on this as a long-term market strategy sooner rather than later.

[Erik L. Suppiger:]

Okay. Then what kind of multiple expansion do you think you might be able to get out of that customer base? So you've been buying probably a relatively modest level of service from – feature set from McAfee. Do you have a sense for whether that could increase 50% or double, or any thought process in terms of the multiplier effect?

[Paul R. Auvil:]

Yeah. I think there's some good opportunities here. So first of all, as people move from on-premise to cloud – and we think a number of these on-premise customers will likely move to cloud because they're also all thinking about moving to Office 365. So, look, if I'm going to change e-mail security providers, I may as well just go to the cloud even if I may not move to Office 365 for a few years – just check that box as part of the process. So we typically see on the order of a 30% uplift as people move to the cloud from an on-premise solution. So there's that. But probably, much more importantly, we find most protection customers are thinking about and considering Targeted Attack as a complement to their current e-mail security solution. And that is essentially a double or more on top of what they're currently paying. Meaning if you're paying $10 a user a year, you're going to pay at least another $10 for the Targeted Attack capability. And so that all, by itself, roughly doubles the value of that opportunity. So again, maybe stand back and think about that $80 million to $90 million number, to your point, we view it if you go and sell TAP to those people is roughly twice that size if we are successful in driving that add-on. And of course, we have many customers that run our privacy and our archiving solutions. And so, that even further expands the size of that revenue opportunity with those customers.

[Operator:]

And Tim Klasell with Northland has our next question.

[Tim E. Klasell:]

Yes. Excuse me. Good afternoon and congratulations on the quarter. Just two quick questions. First, you mentioned your initial success with the mobile product. Can you give us an idea of what you see for pricing around that?

[Paul R. Auvil:]

Yeah. Pricing on mobile, it's a little bit like social in that we're still getting our arms around exactly how that will price per user per year. Social is a bit different because it's got some per-user pricing, and then it's got pricing that's more based on the nature of the properties that are being protected. But in the mobile space, it's early now, but I think it's got the potential to price at a meaningful fraction of the Targeted Attack pricing that we see per user per year. But again, I can't tell you exactly where that's going to land. We've got some runway that we still need to cover there. But we're excited about the revenue potential around that product line.

[Tim E. Klasell:]

Okay, great. And then sort of jumping back to Office 365, as more of the medium- and larger-sized organizations go over to Office 365 – and obviously, that's a catalyst for you. Are you seeing those deals come through the Microsoft resellers? Are you having to do those direct?

[Gary L. Steele:]

It's a combination today. We're obviously engaged with those customers; some direct, some channel. It is interesting if you think about our channel, which is really a security-centric channel, that's very different than the Microsoft channel. So we've built some good relationships on the Microsoft side. A good example of that would be CDW which is obviously a big reseller of Office 365. So, we're approaching it both ways, leveraging the Microsoft channel where we can and working those deals direct and through and getting access to our security partners as well.

[Tim E. Klasell:]

Okay. Great. Thank you. Very helpful.

[Paul R. Auvil:]

Thanks, Tim.

[Operator:]

And from Stifel, we'll go to Gur Talpaz.

[Gur Talpaz:]

Great. Thanks for taking my question. So I had a question on the TAP attach rate, particularly as it relates to your guidance. It looks like you crossed the 25% marker there about in Q4. How do you think about the TAP attach rates sort of improving, especially when you kind of layer in your guidance and your outlook and how that relates? And then going one step further, how do you sort of break down TAP AD and TAP URL in the discussion? Thank you.

[Paul R. Auvil:]

Sure. So I guess a couple things. One, we are finding that the majority of customers are buying both TAP URL and AD at the same time. We do still have customers that maybe buy one or the other. But given the nature of the threat landscape right now, the Dridex campaigns that Gary alluded to are all attachment-based, so you need an attachment defense solution. But there's a whole bunch of spear phishing that includes URLs, so you really need to cover off both. So, most of our deals these days are TAP URL and AD as a bundle. With that said, to your point, I mean we're really pleased to be at basically a 25% attach rate which we think really speaks volumes to the quality and caliber of the product. That said, I think honestly, we feel like we ought to be able to drive that attach rate well into the high-double digits. Probably, you never get anything quite to 100%. It just doesn't work that way. But I think over an extended period of time, getting it into the 80% range certainly is well within reasonable expectations from our perspective and something that we're certainly driving to.

[Gur Talpaz:]

Fantastic. Thank you.

[Operator:]

And Craig Nankervis with First Analysis has our next question.

[Craig Nankervis:]

Thanks. Good afternoon, guys. I'm just curious – I'm not sure that I heard; I might have missed it. But your add-on sales as a proportion of your billings growth, that had really been increasing as a proportion. I wonder where that came out in Q4, and how you're looking at that, say, this year.

[Paul R. Auvil:]

Yeah. Our target, as we think about the balance of building out both sales team members that hunt and those that drive add-on business, is to maintain about a 50/50 balance. And you're right, we didn't include it in script. But simply, as the script was so darn long at some point, how long are we going to go through prepared remarks? It was still around 50/50 and it varies. Some quarters, it's 60/40. Other quarters, it's 40/60. But when you look at the new and add-on (56

[Craig Nankervis:]

Okay. Thanks. And just also, is there any change in the trend of TAP opening the door for new business? Is that happening more frequently, less frequently, or just sort of as it's been?

[Gary L. Steele:]

No, that sales motion is very much identical. So we go in talking about advanced threats and the risks that they pose to the enterprise, and that is what is opening the door today. And that's what our sales team is focused on. But they obviously open the door for whatever opportunity they have budget for, but that is the tactic that we use to get in the door.

[Craig Nankervis:]

Yeah. Okay. Thanks very much.

[Gary L. Steele:]

You bet.

[Paul R. Auvil:]

Thanks, Craig.

[Operator:]

We'll move next to Steve Koenig with Wedbush Securities.

[Steve R. Koenig:]

Thanks, gentlemen. Can you speak about your motivations behind the Palo Alto Network partnership? For example, is it going to lead to direct monetization, or is it more of a strategy to contain e-mail competitors and keep Proofpoint's product capabilities in the forefront? And is there any charge to customers for using this threat intelligence from the other vendor that they may not own?

[Gary L. Steele:]

Yeah. I'll answer that question first. So if you own – if you're licensed for WildFire and you're licensed for TAP, there is no charge for the integration. So again, if you're customers of Proofpoint and Palo Alto, you just get better security together without paying anything extra, which I think is, frankly, quite compelling. Second thing is we have a lot of mutual customers, organizations that had been running Palo Alto and Proofpoint. So, much of the work that we did was customer and channel-driven, and I think that the benefits that people are seeing today, there is a lot of excitement around that. We clearly see no competition between ourselves and Palo Alto. And I think there's this broader understanding today that to adequately protect yourself, you need to do something on the network side, you need to do something on the e-mail side, and you oftentimes need to do something on the endpoint. And so collectively, between the broad platform that Palo Alto offers and ourselves, we basically cover all those off. So from a competitive point of view, we're really delivering something quite compelling in a combined fashion.

[Paul R. Auvil:]

Yeah. And I think I might add just to put a finer point on it, you can't get the benefit of Proofpoint's Intel if you're not a Proofpoint customer, but you're a Palo Alto customer and vice-versa. And neither of us is selling that as an add-on, if you will. So you only get the benefit of this better-together integration if you're both a Palo Alto and a Proofpoint customer.

[Steve R. Koenig:]

Got it. That's very helpful. Thanks, guys.

[Paul R. Auvil:]

Thanks, Steve.

[Operator:]

And from Dougherty & Company, we'll go to Catharine Trebnick.

[Catharine A. Trebnick:]

Well, thanks for taking my question. Mine is on the competitive landscape. Have you seen anything different in terms of pricing from either Cisco IronPort or even the push that Mimecast is making in North America? Thank you.

[Gary L. Steele:]

Sure. We've really seen very little change in terms of the overall competitive landscape. Specific to your question regarding Cisco, we didn't see any fundamental changes there. We find that we're quite competitive when we're faced with head-on-head deals. And with respect to Mimecast, we don't frankly see Mimecast that frequently, given that their focus has been on smaller businesses where we're focusing on midsize and large.

[Catharine A. Trebnick:]

All right. Thank you.

[Gary L. Steele:]

Thanks.

[Operator:]

And we'll move on to Michael Kim with Imperial Capital.

[Michael Wonchoon Kim:]

Hi. Good afternoon, guys. Could you talk a little bit about the opportunity and your visibility around larger deals in the archiving segment and your visibility on closing some of those deals towards the second half of the year, and then secondarily how you feel about your go-to-market strategy? I think obviously on the protection side, there's a good rhythm there. But do you think there needs to be some adjustments or fine-tuning in the sales approach or the channel partners?

[Gary L. Steele:]

Yeah. I'll dive in here and Paul may have some additional comments. So the one thing that I would say is that, as we talked about earlier, our compensation plan allows for people to go sell what is easy to sell. And so clearly, given the high demand from enterprises for security, our sales team has been taking advantage of that. And that is what has driven so much of the success that we've had with TAP and core protection. We do fundamentally believe – as we indicated in the prepared remarks, we really believe in this broader transition from the on-premise archive world to the cloud, and there's very little innovation outside of companies like Proofpoint in that particular segment. And so, we feel like we're very, very well positioned there. As a result – as we indicated, there's a significant amount of demand from larger customers looking to move large-scale archives that have traditionally been on premise to the cloud. Those deals are ones where they will take some number of quarters to close. Those are deals that have a reasonable level of complexity given the amount of data stored in those systems. And so, we expect those to be more towards the second half of the year than the first half most likely. But we are seeing this broad demand given the state of those aging archives that live on premise. So, we feel quite optimistic about this. And I think that to your specific question, do we feel like we need to do something different on our go-to-market, we actually don't. We feel like we've got this well covered, and we're pleased with the pipeline that we see today.

[Michael Wonchoon Kim:]

Okay. Great. Thank you very much.

[Gary L. Steele:]

You're welcome.

[Operator:]

And we'll take a follow-up from Erik Suppiger.

[Erik L. Suppiger:]

I was just wondering what kind of additional partners are you looking at. You had talked about some additional partners coming. Are these going to be more channel-oriented, or are they going to be more technology-oriented like Palo Alto?

[Gary L. Steele:]

Yeah. The thing that we recognized is there's opportunity in an environment where most large customers have to run a multitude of vendors to solve their security requirements today. We believe that integration across the ecosystem is important to customers. And so, as we think about what those partners would look like, they look more like Palo Alto where we don't have competition. But we see a lot of overlap in our customer base and our channel where we can deliver value there. And working together will make the overall solution better.

[Erik L. Suppiger:]

Very good. Thank you.

[Gary L. Steele:]

You're welcome.

[Operator:]

And at this time, I'd like to turn the conference back to management for any closing remarks.

[Gary L. Steele:]

Well, great. Thank you very much. We appreciate everybody taking the time to join us today. We're very pleased with the results from fourth quarter and full-year 2015, and we look forward to updating you again in April. Thank you.

[Operator:]

And that will conclude today's conference. Again, thank you all for joining us.