Tufin Software Technologies Ltd.
Q3 2019 Earnings Call Transcript

Published: 14 Nov 2019

[Operator:]

Ladies and gentlemen, thank you for standing by. And welcome to the Tufin Third Quarter 2019 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded.I would now like to hand the conference over to your speaker for today, Ryan Burkart, Director of Investor Relations. Please go ahead.

[Ryan Burkart:]

Thanks operator. Good morning, everyone and thank you for joining Tufin's third quarter 2019 earnings conference call. With me on the call today are Ruvi Kitov, our Chief Executive Officer and Jack Wakileh, our Chief Financial Officer.Before we begin, I would like to remind everyone that any statements made in today's conference call that express a belief, expectation, projection, forecast, anticipation or intent regarding future events and the company's future performance maybe considered forward-looking statements as defined by the Private Securities Litigation Reform Act. These forward-looking statements are based on information available to Tufin's management as of today and involves risks and uncertainties, including those noted in this morning's press release and Tufin's filings with the SEC. Such forward-looking statements are not guarantees of future performance. Actual results may differ materially from those projected in the forward-looking statements. Tufin specifically disclaims any intent or obligation to update these forward-looking statements, except as required by law.Please note that a reconciliation of any non-GAAP number to the most directly comparable GAAP number can be found in the tables of earnings press release located in the Investor Relations section of our website. A telephone replay of this call will be available shortly after its completion. You will find the dial-in information in today's press release. The archived webcast will be available for one year on the company's website at tufin.com.With that, I would like to turn the call over to Tufin's CEO and Co Founder, Ruvi Kitov.

[Ruvi Kitov:]

Thanks Ryan, and good morning, everyone. Thank you for joining today. We had a good third quarter and I'm happy with our results. Total revenue was $25.6 million representing strong growth of 32% year-over-year. We saw continued momentum with large enterprises as our automation capabilities; integrations and scalability continue to resonate with customers looking to increase agility and security at the same time.We also made good progress on our investment initiatives and achieve some important milestones on the path to longer-term growth in the US federal market and in the cloud. As many of you know, we are the security policy company, helping large enterprises manage their network policies to improve business agility while mitigating security risk. As these enterprises embrace digital transformation and adopt new technologies such as cloud-based services, SDN and micro services, the IT and cloud environments become increasingly complex and vulnerable to attack.To counter these challenges, enterprises continue to implement additional firewalls, endpoint security controls Identity and Access Management and other security solutions. However, in spite of all these security efforts most enterprises still lack comprehensive security policy management which results in suboptimal trade-offs between the necessary security posture and the business requirements for agility, either security is compromised for agility or vice versa.We give customers the ability to increase agility without sacrificing security. Our products govern how users, systems and applications are permitted to communicate and provide policy based security automation enabling customers to reduce the time that is required to implement complex network changes from days to minutes with dramatically better security and accuracy. In the third quarter, we continue to see strong demand for network security automation solutions as customers increasingly need to improve business agility just to compete in the digital age.One of the largest deals of the quarter was a seven-figure land and expands deal with an existing Fortune 500 energy company. That company had recently completed a merger with one of the entities being a small Tufin customer and they wanted to standardize on a single security policy management solution. When they compared Tufin against competitors, our strengths became clear. Our superior network changed tracking and compliance features stood up first. On top of that, the accuracy of our topology, our workflow management and our automation capabilities were additional differentiators. The customer also had a fragmented network and wanted to define different unified security policies across different parts of the network with different compliance requirements.Our ability to scale across their complex network along with our robust compliance accuracy and automation capabilities made the difference. Another large deal came from a Fortune 500 insurance company that has been a SecureTrack customer for several years. They're in the process of undergoing digital transformation and they targeted the network security change process as part of that initiative. Network changes were taking days and in many instances weeks to complete, so they created a DevOps incubator team to address the need for automation in order to improve agility. They dramatically increase their Tufin footprint extending SecureTrack a much larger percentage of their network and then added SecureChange integrated with Service Now the speed of the network change process, while maintaining compliance with their policy.The last deal I want to highlight is a seven-figure new logo deal in the financial services space. The customer wanted to maintain policy compliance and add full network change management and automated provisioning with a forward-looking roadmap into the cloud and DevOps. What was interesting about this deal and what we're hearing more and more from customers is that they really want a partner who was forward-looking and at a credible roadmap to integrate cloud and DevOps into their network security policy management solution. While our Orca and Iris products are not explicitly part of this deal, the customer was happy to see that their roadmap and Tufin's roadmap are closely aligned.The deal was also helped along by a person who used to Tufin in the previous life at a different company. It's great to see someone who uses the platform experiencing the value and become the champion for Tufin. More and more we're becoming a must-have for network security professionals who have used one of our products in the past. And as we scale the company with security professionals changing jobs often, there's a gradual network effect that's developing for usMoving on, as I mentioned earlier, we've had some important milestones this quarter on our path to long-term growth in the US federal market and continue to make progress in our cloud business. In federal, I'm happy to announce that the Tufin Orchestration Suite has recently been added to the GSA schedule 70 which will enable us to sell to the entire US federal government, as well as state and local governments. We are working with multiple partners that specialize in the US federal market. One of those that I'd like to mention is Network Runners, which is a reseller that recently completed our service delivery partner certification and can now deliver the Tufin Orchestration Suite with engineers that have the necessary security clearances for the US federal government.I'm very excited about the opportunity in federal in the coming years and these are very important first steps. On the cloud front, I'm happy to report that we have moved Orca and Iris products into limited general availability in anticipation of several customers going live this quarter, and a growing qualified pipeline for the products. We expect to move to general availability for all customers in the first quarter of next year.We also continue to grow our sales effort in the third quarter. And we added Jeff Wilmot as VP of Americas sales. This position did not exist previously. And I'm very excited about the new energy, experience and leadership that Jeff brings to the already strong America sales team. On the product front, we recently announced our support for zero-touch automation for VMware NSX-T. This is the next generation of VMware software-defined data center and with this capability we helped customers migrate their applications from VMware NSX-V to their NSX-T environments, thereby supporting end-to-end connectivity for applications across their entire hybrid cloud environment.Our products also continue to be recognized for their excellence. Recently the Tufin Orchestration Suite R192 was awarded five out of five stars in SE magazine's annual risk management test group for the fifth year in a row. While it's great to be recognized for product performance, we remain committed to innovation and our R&D team is growing and working as hard as ever to build the next generation products.With that I would like to turn it over to Jack Wakileh, our CFO to discuss our financials. Jack?

[Jack Wakileh:]

Thanks Ruvi. Let's turn to our third quarter results and guidance for the remainder of the year. Total revenue was $25.6 million in Q3 of this year, up 32% compared to Q3 of last year. Product revenue increased 32% year-over-year to $11.5 million, and our maintenance and professional services revenue grew 33% to $14.1 million.Looking at the geographic mix of Q3 revenue, we have a well diversified geographical distribution with the Americas representing 59% of our revenue; EMEA representing 38% and the remaining 3% coming from Asia Pacific. As I've said in the past given the size of our business and the fact that our revenue may be comprised of seven-figure deals in any quarter, we may experience variability by geography on a quarter by quarter basis.Moving to margins and expenses. I will discuss our results based on GAAP financial measures and where applicable non-GAAP financial measures. Non-GAAP numbers exclude stock based compensation expenses the total amount of $2.6 million for Q3 of 2019 and $0.9 million for Q3 of 2019. Please note that the GAAP to non-GAAP reconciliation can be found in the tables of our earnings press release located in the Investor Relations section of our website. GAAP gross profit for the third quarter was $20.7 million or 81% of revenue compared to $16 million or 83% of revenue in Q3 of 2018. Non-GAAP gross profit for the third quarter was $21 million or 82% of revenue and that's compared to $16.2 million or 84% of revenue in Q3 of 2018.Gross margins compressed slightly due to the expansion of professional services teams to support faster time to value in deploying our solutions with our global 2,000 customers. As we talked about last quarter Tufin is addressing a large market that is primarily Greenfield. As a market leader, we continue to invest in this opportunity and to that end total GAAP operating expenses for Q3 of 2019 were $28.3 million, up from $18.8 million in Q3 of last year.On a non-GAAP basis operating expenses for Q3 were $26.1 million up from $18 million in the same quarter of last year. Breaking out some GAAP expenses into line items, R&D expense for Q3 was $7.8 million or 31% of revenue compared to $5.1 million and 26% of revenue in Q3 of last year. As we mentioned, we remain committed to innovation and our R&D team is growing as we build our next generation of products.Sales and marketing expense for Q3 of 2019 was $15.1 million or 59% of revenue compared to $11.6 million or 60% of revenue in Q3 of last year. G&A expense for Q3 was $3.2 million or 12% of revenue compared to $1.3 million and 7% of revenue in Q3 of 2018. The increase in G&A expenses is primarily driven by the expenses related to becoming a public company. GAAP operating loss for Q was $7.7 million compared to an operating loss of $2.7 million in Q3 of last year.On a non-GAAP basis, operating loss for Q3 was $5.1 million compared to an operating loss of $1.8 million in Q3 of last year. GAAP net loss was $8.3 million compared to a net loss of $3.3 million in Q3 of last year. Net loss per share basic and diluted was $0.24 for Q3 of this year compared to a net loss per share of $0.41 in Q3 of last year. And that's based on $54.1 million and $8.1 million weighted average ordinary shares outstanding respectively.On a non-GAAP basis, net loss for this quarter was $5.7 million compared to a net loss of $2.4 million in Q3 of last year. And net loss per share basic and diluted was $0.17 for Q3 of this year compared to $0.29 in Q3 of last year.Turning now to our balance sheet. As of September 30th, 2019, we had cash and cash equivalents of $122.7 million, compared with $127.5 million as of June 30th, 2019. The deferred revenue on our balance sheet as of the end of this quarter was $37.6 million compared to $27.4 million as of the end of the third quarter of last year. These figures represent the deferred revenue balance after netting of the portion of the deferred revenue that has not been collected as of the reporting date. The gross deferred revenue as of September was $49.8 million compared to $39.7 million as of September of last year.In the third quarter of 2019, we used $4.5 million of cash in operating activities compared to $7.7 million in the same period of last year. Overall, I am pleased with our third quarter results where we delivered strong growth and the small operating loss within our targeted range.Turning to guidance. For the fourth quarter of 2019, we expect total revenue of $34 million to $38 million. We expect non-GAAP operating profit to range between $0 million to $3 million. For the full year 2019, we expect total revenue in the range of $107 million to $111 million. We expect non-GAAP operating loss to range between $10.3 million to $13.3 million,With that I will turn it back to Ruvi for his closing remarks.

[Ruvi Kitov:]

Thanks Jack. I'd like to wrap up by saying that I'm very pleased with our third quarter and the progress that we're making as we invest for growth. We believe that fundamentally your security is only as good as the policy that you define and enforce. And the need for policy centric network automation continues to grow. We are in the early innings of realizing our potential. And I'm optimistic about our market opportunity and our outlook.I'd like to thank our customers, our partners, our investors and all the Tufin employees for helping us achieve our goals. Now let's open up the line for questions. Operator?

[Operator:]

[Operator Instructions]Our first question this morning comes from Saket Kalia from Barclays Capital. Please go ahead.

[SaketKalia:]

Hi, guys. Thanks for taking my questions here. Ruvi maybe just to start with you, can you just talk a little bit about what you're seeing on adoption of SecureChange versus SecureTrack? In the prepared remarks, we talked about a couple deals in the quarter that seemed to extend usage beyond SecureTrack, but can you just talk about that trend perhaps more broadly across the business?

[RuviKitov:]

Sure. Hi, Saket. Good morning. So we're seeing strong demand for automation and in terms of revenues the majority of our business today, but if you're looking at the opportunity and most customers still did not buy SecureChange or secure app from Tufin, so most customers are SecureTrack only customers for us. But as you're looking at the bigger customers and the bigger deals, six figure deals, seven-figure deals, a lot of times those customers are either upgrading to automation. So that's a significant expansion for those customers or those are customers that realize the need for automation day one.And so they buy the full suite, SecureTrack, and SecureChange or Track Change and app and one full swoop for either one data center or across their entire network.

[SaketKalia:]

Got it. That makes sense. Maybe before I follow up for you, Jack, I think last quarter you talked about how services billings here could change as customers opted for billing based on percent completion versus upfront. Can you just give us an update on that? And sort of how that trend at this quarter?

[JackWakileh:]

Yes. Hi, Saket. Sure. So like we updated in the past quarter, we are still working the same mechanism PS is not invoiced upfront, but rather based on milestones. So what this create, this can create some misalignment when comparing this year to previous year, both on bookings and on deferred revenues. So this is something we should take into consideration. And what this means, it means that PS, there will always be a backlog portion of PS that needs to be accounted for when we're measuring our bookings and deferred revenue.

[Operator:]

Our next question comes from Sterling Auty from JPMorgan. Please go ahead.

[MatthewParron:]

Hi, guys can you hear me? Hi, this is Matt on for Sterling. Thanks for taking my question. Looking at your international performance this quarter, you saw a pick down in the EMEA and APAC region sequentially, just wondering how you guys are seeing the macro landscape if there are any growth you guys are kind of seen slip given some of the uncertainty. So any color there would be appreciated. Thanks.

[JackWakileh:]

Hi. Matt. This is Jack; I'll take your question. So as I said in my remarks given the size of our business and the fact that our business can be comprised of seven-figure deals in any quarter. I would let advice to look at the variability between the quarters when you're talking about geography. So yes you may have realized a slower growth for EMEA and APAC for this quarter Q3 but overall we don't think this is the right measure to look at this at this point. All- in0all looking at this year, year-to-date all three regions Americas, EMEA and AIPAC have been growing above 30% and currently this is the way we're looking at i.

[RuviKitov:]

And, hi, this I Ruvi. Just to touch on the macro environment from our perspective at this point we're not seeing any impact to the macro environment, but we're keeping a close eye on it. And we'll continue to monitor it moving forward.

[Operator:]

Our next question comes from Brent Feld from Jefferies. Please go ahead.

[JosephGallo:]

Hey, guys. This is Joe on for Brent. Thanks for taking my question. You guys just said that 2019 and 2020 are your investment years just maybe get a progress report update on where we are regarding hiring, R&D, et cetera and where the bulk of the focus would be going forward, a few more specifics just be helpful as we try to gauge both top and bottom line growth.

[JackWakileh:]

Yes. Sure. So to begin with we guided for top-line and for operating expense. This factors our plans for this year and specifically on certain marketing and R&D, as you've been raising, so you may have noticed that sales and marketing fluctuates between the quarters. Some of the factors in certain marketing are a matter of timing and you can see some shifting between the quarters, but all- in-all we are very in line with our plans for Q3 and the remained of the year.On R&D, it's a little bit different. We started the first half year with a lag in our hiring plan, but as of early Q3 we caught up. We're still a little bit behind the headcount we want to be at, but as we speak now and into Q4 we're seeing the catch-up in progress.

[RuviKitov:]

Hey, this is Ruvi. And just to add some more color to your question on the investment in sales and marketing. So we've defined several growth engines that we're investing in such as the channels going into federal, Japan and several other initiatives. Those are all going very well. We're expanding in all those areas, but I just want to highlight the fact that these are long-term growth engines that we're building. So I'm not expecting any of that to have immediate impact. These are growth engines for let's say a year or two from now.

[JosephGallo:]

Make sense and it's very helpful. And then last quarter you guys hired Larry Alston as GM of cloud, maybe just give an update on the efforts there. I know it's early stages but the long-term potential there is huge. And then I'm just wondering if you've seen an uptick in the place -- you mentioned an uptick in the pipeline for Iris and Orca. I'm just wondering if that's due to the capital one breach if you've had an increase in demand from them.

[RuviKitov:]

Sure. So I'm not sure that it's directly tied to capital one breach. Those things sometimes take time to actually have an impact on the market, but in terms of our momentum, we're seeing stronger pipeline. There's actually customers that are in the process of buying and that's why we move to limited general availability. We're seeing some interesting things increasingly customers are interested not just in Iris or just in Orca but actually in both. A lot of times we see the DevOps teams are interested in visibility within the kubernetes environments. But actually security teams which happen to be our primary customer are interested in visibility and policy control across all environments.Private cloud, public cloud and micro services. So that's one interesting aspect and another thing that we're seeing more and more customers asked for is actually to integrate for kind of Iris back into the traditional Tufin Orchestration Suite with integration points in the SecureTrack, SecureChange and secure app so they could visualize their applications as they go all the way from their internal datacenter out to the cloud and into micro services in the cloud.

[Operator:]

Our next question comes from Shaul Eyal from Oppenheimer. Please go ahead.

[ShaulEyal:]

Thank you. Good afternoon, guys. Good morning, guys. Congrats on the quarter. Ruvi actually on the native cloud and in your comments are absolutely encouraging. Can you also talk to us about this phase process of the cloud product vis-à-vis your core on-premise product? Is there any different with respect to who's buying it within the enterprise?

[RuviKitov:]

That's a great question. Thanks Shaul. So we're actually learning a lot from this. So initially if you look at our approach a year ago, I think we're focused primarily on DevOps organizations. We're going a lot to DevOps conferences and we thought DevOps folks would be very interested in what we're doing which we think is critical. So one of the lessons that we've learned in the past year is that DevOps folks are interested in only in their application development not really interested in security. But security folks are very interested in security and they have almost no visibility into the cloud environment and into DevOps environment.So in terms of a sales process while initially we thought it would be fragmented if we would need to go after DevOps folks in parallel to security folks, more and more we're saying that we're actually going to be selling to our traditional customer and selling with our traditional sales teams. What we've done with the cloud team here is that we have overlays specialists that specialize in the cloud. So that if we have an enterprise account that is interested in Orca and we have specialists that come in they know how to demo these things; they know how to propose the value and demonstrate it.But then in terms of the buying Center who's interested in it, it's the exact same buyer or it's people that want to extend their applications into the cloud. So from a sales perspective, I think it's actually going to be very similar to the sales motion that we're seeing in the enterprise accounts, with some adjustments based on the fact that you need to understand micro services on the cloud.

[ShaulEyal:]

Understood. Thank you for that color. Ruvi or Jack, I know you mentioned the environment is mostly Greenfield driven, but nevertheless we had seen some disruption within your competitive landscape over the course of the past few quarters. Number one maybe just a word about a competitive landscape and maybe one and a half any impact from some of the disruption going on within your competitive environment.

[RuviKitov:]

So I think we were discussing that in the previous quarter as well. We can't really comment on what's going on inside competitors. From our perspective the demand in the market is strong. And the competitive landscape has not really changed significantly right. We have our usual suspects. We have AlgoSec, pharma and Skybox and competitive deals. And most customers actually don't have an automated solution yet. So from an automation perspective which is where the growth really is, it's significantly a Greenfield opportunity and in those we win because we have superior automation capabilities.It's the depth and the breadth of automation including the scalability and the change accuracy. So from our perspective, we're continuing to innovate and be first to market and increasing our leadership.

[Operator:]

Our next question comes from Gur Talpaz from Stifel. Please go ahead.

[GurTalpaz:]

Thank you for taking my questions. Ruvi, you made some interesting announcements a few weeks back with VMware. I want to know if you could talk a bit more about the SDN opportunity more broadly. In the past you've talked about Cisco, ACI, it seems like this is emerging pretty nicely. So may be you could drill in a little bit and understand what you're seeing out there in terms of just the broader opportunities in SDN.

[RuviKitov:]

Sure. Thanks Gur. So we're seeing two things here. One, we're seeing an increase in interest in SDN technologies in general right. A lot more customers are starting to deploy Cisco ACI in production. We have way more customers that are now looking to migrate to VMware NSX-T from NSX-V. So we have large customers that are committing to these massive next generation network projects. In some cases, we're seeing billion dollar projects on a multi-year basis going for their next generation network, which is going to be software defined. So these are going to be huge projects. On that one hand they're going to modernize their network infrastructure and they're going to enable customers to actually reroute the network quickly.And on the other hand from our perspective, I think it's going to actually create even more complexity at the policy level because you're going to have physical firewalls, you're going to have virtual firewalls and then you're going to have this software-defined network whether it's Cisco ACI or VMware NSX and you're going to have firewalls plugged into it because a lot of customers actually extend it by having CheckPoint, Palo or Fortinet for example plugged into ACI or plugged into VMware NSX and customers need that visibility and policy control across the board, both in the layer of the hypervisor so they want to actually see what is happening in Cisco ACI and VMware NSX. And also the advanced firewall technologies like checkpoint Palo Alto and coordinate within those.So from our perspective on the one hand you can have a unified network, but on the other hand at the policy level, it's going to actually increase fragmentation. And when you add the cloud to it the proliferation of networking, software and public cloud infrastructure. I think it's actually a net positive to us in the mid to long term future.So that's the first thing we're seeing. Another thing that is in the software-defined world is a lot of customers are embarking on SD-WAN initiatives, usually these start at networking projects they want to replace MPLS backbones but a lot of these actually have the potential to be security-related. So we're seeing SDN solutions are building technologies, some firewall vendors are building at SD-WAN into their firewall right. So Fortinet were the first in Palo Alto is following them. That's a very interesting area for us.So from our perspective it's another type of technology right SD-WAN router that affects routing but can also act as a firewall. So from our opportunity perspective that is even more network fragmentation yet another type of routing firewall device out there that is becoming increasingly predominant. And it's increasing the opportunity for us.

[GurTalpaz:]

That's really interesting and, Ruvi, you also called out the US federal market as an opportunity, maybe you could elaborate a little more on that not just the US Fed but the public sector more broadly both domestic internationally. Things that you are making some significant investments, how do you think about the opportunity potentially as it exists across the board there?

[RuviKitov:]

It's interesting on one hand we're making a lot of progress building out the federal practice right. So we're happy where we are. We're expecting to see more of a contribution from a sales perspective in 2020 and we spoke about that before. One of the interesting drivers in federal, there's increasing compliance regulations so if you look at FISMA and the federal government risk management framework initiatives, so they're actually mandated to have policy control and you need a tool like Tufin regardless, right. So you need SecureTrack at a minimum but then they have these huge networks and they realize that they need automation as well.The government sector is huge, right, yet complex fragment and networks, $100 billion annual IT budgets. So it's a huge market opportunity for us that is largely untapped both in the US. So everything I mentioned up to now is US federal market. We're seeing pickup in governments everywhere. I think in many ways if you look even at politics things are becoming more polarized and from our perspective as people become more and more defensive, they need more and more security locally within their local government.

[Operator:]

Our next question comes from Jonathan Ho from William Blair. Please go ahead.

[JonathanHo:]

Good morning. I just wanted to maybe touch on the VP of Americas' hire. Can you maybe give us a little bit of additional detail about the role here? And was there a specific opportunity around either channel or sales management that you see? Yet to build out here.

[RuviKitov:]

Sure. Hi, Jonathan. So very happy with Jeff, he's got tons of experience. He is in the Boston area and has grown up in several companies, has lots of experience in enterprise sales; had lots of experience in the channel, had lots of experience in inside sales. So he got a very wide background which is great for us. And if we step back for a moment geographically, the way we're structured we have a VP of APAC. We have a VP of Europe that manages several regional directors. And in the US we had three regional VPS that all lined up to Kevin Malone, our SVP of sales.So Kevin Malone simply had too many direct reports. So from our perspective, we needed another layer of management as we're building out the Americas and growing it. So it's a natural addition just in terms of build to managing and having the right management structure. And Jeff brings tons of experience that is super valuable to us. So both in the channel inside sales and enterprise accounts. I think he is going to help build better productivity within the Americas.

[JonathanHo:]

And then just as a follow-up, based on your earlier comments around Orca and Iris demand, are you guys potentially looking at bundling the solution together or offering some type of SKU that combines both of those capabilities. And then any sense of when we could maybe start to see Orca and Iris contribute more materially just given the GA in the first quarter. Thank you.

[JackWakileh:]

Sure. The GA is going to be in the first quarter. So we're going to start seeing it next year exactly which quarter it's probably too early to tell, but in 2020 we're going to see some impact, but it's going to be minimal. We said that before, but there's a very significant opportunity there. In terms of having a single SKU or actually bundling the price together, I mentioned that in one of my comments, customers are asking to use it, use both products together. So it's definitely something that we're thinking about.We're selling it together. Is there going to be a single SKU or not? We're going to need to think about that.End of Q&A

[Operator:]

We have no further questions in queue at this time. I'll turn the call back to the presenters for closing remarks.

[RuviKitov:]

All right. I just like to say that I'd like to thank everyone. Our investors, our partners, our customers and our employees for another great quarter. Thanks everyone. Talk to you later.

[Operator:]

Ladies and gentlemen, this concludes today's conference call. Thank you once more for participating. You may now disconnect.