Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Executives

Gil Shwed – CEO

Tal Payne – CFO

Kip Meintzer – IR

Analysts

Sterling Auty – JPMorgan

Brad Zelnick – Macquarie Research

Shaul Eyal – Oppenheimer

Katherine Egbert - Jefferies & Co.

Daniel Ives - Friedman, Billings, Ramsey

Michael Turits - Raymond James

Brian Freed - Morgan Keegan

Jeff Evenson – Sanford Bernstein

Keith Weiss – Morgan Stanley

Jonathan Ho – William Blair

Todd Raker - Deutsche Bank

Sarah Friar - Goldman Sachs

Phil Winslow - Credit Suisse

Walter Pritchard – Citi

Scott Zeller – Needham & Company

Kash Rangan – BAS-Merrill Lynch

Check Point Software Technologies, Ltd. (CHKP) Q1 2010 Earnings Call April 26, 2010 8:30 AM ET

Operator

Greetings and welcome to the Check Point Software Technologies first quarter 2010 financial results. (Operator Instructions) It is now my pleasure to introduce your host Kip Meintzer, Head of Investor Relations for Check Point Software Technologies.

Kip Meintzer

Welcome to all of you joining today. This is Kip Meintzer, Head of Global Investor Relations for Check Point Software. On the call with me today are Gil Shwed, Chairman and CEO, and Tal Payne, Chief Financial Officer. We'd like to thank all of you for joining us today to discus Check Point’s financial results for first quarter of 2010.

As a reminder this call is being webcast live on our website and is being recorded for replay. To access the live webcast and replay information, please visit the company's website at www.checkpoint.com. For your convenience, the conference call replay will be available through May 3rd. If you'd like to reach us after the call, please contact Investor Relations at +1-650-628-2050.

Now before we begin with management's presentation, I would like to bring the following to your attention. During the course of this call Check Point representatives will make certain forward-looking statements. These forward-looking statements may include our expectations regarding the demand for our security products, our expectations regarding the introduction of new products and the success of those products, and our expectations regarding our business and financial outlook for the second quarter 2010.

Other statements which may be made in response to questions which refer to our beliefs, plans, expectations, or intentions are also forward-looking statements for the purposes of the Safe Harbor provided by the Private Securities Litigation Reform Act.

Because these statements pertain to future events they are subject to various risks and uncertainties and actual results could differ materially from Check Point's current expectations and beliefs.

Factors that could cause or contribute to such differences include but are not limited to the risks discussed in Check Point’s Annual Report on Form 20-F, for the year ended December 31, 2009, which is on file with the Securities and Exchange Commission. As a reminder Check Point assumes no obligation to update its forward-looking statements.

Now, I would like to turn the call over to Tal Payne, Check Point's Chief Financial Officer.

Tal Payne

Thank you Kip, good morning and good afternoon to everyone joining us on the call today. I’m happy once again to begin the review of an excellent quarter. This quarter we achieved record first quarter results which came in at the high end of our projections, as it continued to demonstrate solid growth across all regions.

Our revenues for the first quarter increased by 26% over the same period in 2009 while our non-GAAP EPS was $0.55 representing 22% growth year over year.

Before I proceed further into the numbers let me remind you that our first quarter GAAP financial results include equity based compensation expenses according to ASC 718, expenses relating to our acquisitions including the motivation of intangible and the related tax effects from such items. Keep in mind that the non-GAAP information is presented excluding these items.

In our press release which has been posted on our website we present GAAP and non-GAAP results along with reconciliation tables which highlight this data as well as the reasons for our presentation of non-GAAP information.

Now let’s take a look at the financial highlights for the quarter, in the first quarter revenues came in at the high end of our projections. Revenues reached $245.1 million, representing an increase of 26% compared to $195 million in the first quarter of 2009.

This high growth rate is attributed mainly to the acquisition of Nokia security appliance business from last April, the software blade architecture, and the new appliances we launched last year, which I’ll discuss in a minute.

Moving forward I would like to remind you the anniversary of Nokia’s appliance business acquisition will be in mid April and our future growth excluding future acquisitions is expected to be organic. We had growth across all geographies with our Americas delivering 26% and Europe 31% growth for the quarter.

Revenue distribution by geography for the quarter was as follows, Americas contributed 43% of the revenues, Europe was 42%, and Asia Pacific and Japan, Middle East and Africa regions contributed the remaining 15%.

You will notice that this quarter we changed the way we report our revenues by geography. Since the beginning of the year we have reorganized the sales to Middle East and Africa as part of Asia Pacific and Japan regions.

Looking at the revenues by type, our product and license revenues were $91 million representing 27% growth over the same quarter a year ago. This growth came in mainly out of the integrated appliance product led by IP [series], Power-1, UTM and Smart-1 appliances showed strong growth compared to the sales in the quarter in 2009.

Our software update and maintenance revenues reached an all time high of $154 million this quarter, a 25% increase year over year. The increase was driven by the consolidation of the IP Series service, our [annuity] blade and security services. The growth in deferred revenues was also significant this quarter.

Deferred revenues as of March 31, 2010 were $420 million, an increase of $95 million or 29% over March 31, 2009. From a [inaudible] and quantity perspective, this quarter we saw an increase in the number of larger deals. Transactions greater than $50,000 accounted for 53% of the total order value compared to 44% in the same period a year ago.

We had 21 customers and each had transactions with a value greater than $1 million, compared to 13 in the same period last year. From an operating perspective, we posted great results. Our non-GAAP operating income was $137.6 million in the first quarter of 2010, an increase of 26% compared to the same period in 2009.

Operating margins remained at the high 56%. GAAP net income for the first quarter of 2010 was $98 million, or $0.46 per diluted share. The GAAP income in the first quarter of 2010 included additional motivation of intangible assets in the amount of $3.3 million or $0.02 per diluted share relating to the acquisition of Nokia security appliance business in the second quarter of 2009.

Non-GAAP net income for the quarter was $116.8 million or $0.55 per diluted share, up $95.5 million or $0.45 per diluted share a year ago. Earnings per share were at the high end of our guidance representing 22% growth year over year. This was achieved primarily as a result of the top line performance and expense management.

I would like to draw your attention to the fact that this quarter the number of shares using the computation of diluted earnings per share increased to 213.5 million mainly as a result of the increase in Check Point share price.

In the first quarter our DSO, days sales outstanding, was 69 days compared to 81 days last year, a reduction of 12 days. While we saw a decrease in DSO during the quarter our business remains back end loaded as we have indicated in previous quarters.

We had record cash flow from operations this quarter of $218 million, an increase of 27% from $172 million in the first quarter a year ago. This is mainly as a result of strong collection of last year’s revenue. During the quarter we purchased approximately 1.5 million shares for the total cost of $50 million as part of our share purchase program.

Finally, our cash balances crossed the $2 billion bar, at $2.52 billion. Now let me turn the call over to Gil for his thoughts on the quarter.

Gil Shwed

Thank you Tal, good morning and thank you all for joining us today. The first quarter produced an exceptional result and is quite a nice way to begin the year. These results were ahead of our expectation for the quarter and continued to underscore the success of our product initiative and their acceptance by our customers.

Our [planned] strategy and in our software blade architecture continued to drive our results to date and it is likely reflected in both product and service revenues that benefited from the blade like our IPS blade which is sold [inaudible]. But beyond managing and growing our core business we’ve also made some big steps recently to expand our future potential.

Since the beginning of the year we announced our entering to two new and exciting markets with the introduction of Abra, and our DLP solution. Abra is a new type of mobility solution. It is an encrypted USB drive that provides users a secure virtual workspace with remote access to the [corporate] network.

It enables users to work remotely from any PC while maintaining a highly secure work environment. Abra presents a great extension to our mobility and end point strategies. There was an interest in Abra for multiple applications, for example, disaster recovery implementation, and number one is consultants which carry their own laptops and require access to corporate office, and of course there’s the obvious need of any employee that wants to work from home or on the road.

The second product is our DLP solution, DLP stands for Data Loss or Data Leak Prevention. This universal need which we all experience. Each one who [inaudible] sent an email to the wrong recipient or witness the file mistakenly uploaded to a public website. DLP solutions would protect against intentional or unintentional data loss and are also driven by regulatory requirements.

To date the solution in the marketplace can usually be found working only in text mode and not providing customers with true prevention of data loss. While some solutions are pretty sophisticated they also tend to be very, very complicated. Plus today’s solutions focus on a small portion of the market and leave most of the marketplace untapped.

We built our DLP solution to work in the true prevent mode with a simple and cost effective implementation. We intend to bring DLP solution to a much broader audience and believe that each one of our 100,000 plus accounts is a potential customer for DLP.

It will take us time until these products will have significant impacts on our revenues, however it does provide us with two new high potential product areas that we will pursue aggressively. It is also consistent with our strategy, we want to provide customers with more security, better security, and simple security.

Delivering on this will enable us to secure a bigger part of our customers’ infrastructure. As for financial projections, the first quarter has provided us with a great start for the year. We continue to be cautiously optimistic as we move through 2010.

So for the [first] quarter we expect revenues to be in the range of $245 million to $259 million, non-GAAP earnings per share is expected to be between $0.52 to $0.58. GAAP based EPS is expected to be approximately $0.09 less than that.

Thank you all for being with us on the call today and now let’s open the call to your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Sterling Auty – JPMorgan

Sterling Auty – JPMorgan

I think one of the questions that a lot of us have in the second quarter guidance gives us some indication but Gil now that you’ve got Nokia under your belt for a year, you have these new solutions like IPS that are doing well, how do you think about the organic growth rate of Check Point moving forward.

Gil Shwed

So I think overall it will vary over time and again you got our guidance for the second quarter, and hopefully we will see more changes in the marketplace. As I mentioned I think we are positive and optimistic about the year but I haven’t seen yet our industry moving into a very high growth rate so I think we are now kind of around the 10% growth rate in our modeling.

And I think with the future products, I think we have a lot in our strategy but these will provide more meaningful results in 2011 and beyond.

Sterling Auty – JPMorgan

And then specifically to IPS is either any quantitative evidence you can give us of the success you’re having earlier on or at least can you talk to us of how you expect that transition and what IPS can provide from a revenue perspective that may be smart defense and the NFR acquisition just couldn’t get for you.

Gil Shwed

I don’t have any data in front of me but I think we are seeing good traction, for example our IPS blade revenues grew this quarter by about 50% compared to the old smart defense and other products like that that we have. Big part of it keep in mind is in our deferred revenues and in our support services revenue line because we do sell IPS, its an annuity service and therefore its recorded there in the service line and not in the product line.

So I think so far the traction is pretty positive.

Operator

Your next question comes from the line of Brad Zelnick – Macquarie Research

Brad Zelnick – Macquarie Research

Just to be clear you didn’t say anything about full year guidance and I just want to make sure that the original guidance you had given last quarter still stands for 220 to 230 in non-GAAP EPS and 990 to 140 billion in revenue, is that accurate.

Gil Shwed

That’s accurate and I think after one quarter there’s no need to update the range for the full year and I gave the range for the second quarter and the range for the year still holds, yes.

Brad Zelnick – Macquarie Research

On DLP was this technology completely developed internally and over what time frame and many of your competitors talk about strengths and being able to classify and recognize various content types, I’d be curious to know how deep your expertise is there and how it might compare to other leaders in the market and lastly on DLP, this is obviously a more sophisticated higher value type proposition for customers and as you think about taking it to market maybe you can talk a little bit about how that might be different and how you plan on taking it to market.

Gil Shwed

I’ll try to answer it shortly even though I can speak about it for a very long, we generally started the vision of providing more data security when we did the protect data points acquisition at the beginning of 2007. So when we started developing the [road map] about data security, it started with static data that’s stored on your hard drive but as we started there we said our vision is to protect the data all over and that’s roughly where we started developing our product.

Over these past three years we’ve looked at many companies in the marketplace and we’ve actually really wanted to acquire a company [inaudible] but what we did see is that we sense today and these products today are too complicated, again, they work primarily in text mode, almost nobody is using them in true prevention mode and they are just too complex.

And that’s why you’re saying, which is a high value sale, because it’s a sale that’s focused on a small niche of extremely complicated expensive deals. Now my vision and I think our vision in Check Point is with the need is universal. The need is everyone and what we do want to do is bring DLP to everyone and I think that’s what we’ve focused over the past few years is developing a solution which will be able to do that.

So I think we compare very well in terms of data [inaudible]. We have what we call multi spec technologies that are easier and more sophisticated in their ability to detect multiple conditions and multiple data types. We have like 600 different data types and the potential result of the [inaudible] of the product so we have a lot of depth in the technology that we’ve developed but there is two key elements in the product which makes it completely different than others.

One is its simplicity and the fact that like a software blade you can activate it on every gateway so its really, really easy on the environment and its really easy to activate. Its very different than most DLP solutions today. And the second is what I call self-enforcement or what we call the user check technology that’s basically brings the real decision about the data back to the user.

I think one of the challenges or the problems with many many DLP solutions today almost all of them is that they’ve tried to make an impossible decision about the file, whether this file should be passed or shouldn’t and this decision cannot be made on a computer. Couple of days ago this file was extremely confidential, almost criminal issue to send it outside the company. Two days later it becomes a public file that we send all over the world.

How can a computer make that determination. That’s very very hard and I think what our technology does is brings the knowledge and the decision back to the user so the user is prompted seamlessly with something that tells him or her, that’s the policy that is suspicious, did you really mean to do that and the user can make the determination and give a reason and then it would say, its now 7:00 am in the morning, its time to issue the press release and when we have a clear audit, a clear permission to issue that, and that’s what would make our product very different in the marketplace.

I think we have that combination and in terms of also in terms of pricing and so on, I think we are going on that very aggressively. Aggressively from the standpoint that we want to make DLP widely available to the marketplace and we want to get to thousands of customers, not to dozens or hundreds, like most major DLP players today.

Brad Zelnick – Macquarie Research

Is your current channel sophisticate enough to take this to market.

Gil Shwed

Yes, absolutely, I think from many many discussions that I had with channel partners and with potential customers they all show interest. I think it will take us a long time because its still not a huge market and its still a project that’s fairly complicated but our commitment is to the customers and channels that within a few hours of installing the product they can get effective results with that and I think our channel is focusing on security. They want more value and I think we’ll have some success there.

Operator

Your next question comes from the line of Shaul Eyal – Oppenheimer

Shaul Eyal – Oppenheimer

Good quarter, two quick questions can you help us with kind of what the foreign exchange impact you had this quarter.

Tal Payne

Yes it was quite minor, as we hedged certain portion, we hedged a few currencies and the portion that is actually a specific hedge so the net effect was about $0.50 million.

Shaul Eyal – Oppenheimer

And on the heels of the former question so the blades are doing great and the appliances are doing great, is that going to be the year of when kind of the former acquisition comping to play this year and next year.

Gil Shwed

Well I hope so, I don't know yet. I think we still have some challenges on our end point strategy and I think with Abra and with other things that we are doing, I think we’re quite well positioned but I think we still have a lot of work there and I think it will still take time to get to the results that I think we can deliver and which we deserve.

Shaul Eyal – Oppenheimer

Is it kind of too early to talk about market share gains even though you’re kind of the runner up in that space.

Gil Shwed

I think its still too early for that.

Operator

Your next question comes from the line of Katherine Egbert - Jefferies & Co.

Katherine Egbert - Jefferies & Co.

Good quarter, a couple of things, can you talk about the change in the sales structure where you split out the Middle East and Africa, why was that done.

Gil Shwed

That was a minor change, there was no change in the structure of the organization itself, we just have the group that’s in Israel reporting to the VP that’s also in Israel. There is no, all our leaders in the sales team are doing extremely well. The sales team are doing well, so that’s just a minor change in putting a little bit more local focus and one potential is Africa where we sell very little and I think we want to grow that business. And another market that’s actually working very well is the Middle East which again reports just to a local Vice President rather than reporting out of Israel to a Vice President that’s in Europe to manage our home markets. Really doesn’t have much impact.

Katherine Egbert - Jefferies & Co.

And then on the 10% organic growth for this year, is that an acceleration over what its been over the last couple of years.

Gil Shwed

I think it may be an acceleration over 2008, probably not an acceleration over 2009.

Katherine Egbert - Jefferies & Co.

The large deals, the number of large deals is up dramatically can you talk about why that might be true and also what are you seeing out of Europe.

Gil Shwed

I think the large deals is the result of getting closer to our customers more focused on the account but also was the appliance strategy. Now that we sell larger deals the hardware and the software on that, these deals are clearly getting a much higher ASP and are clearly become larger deals. So that’s a very natural extension of what we’ve done in the business in terms of both our organic strategy and the acquisition strategy.

Tal Payne

I would just add also that as we have also the IP series consolidated with the Nokia acquisition then it allows a larger transactions with the specific customers.

Operator

Your next question comes from the line of Daniel Ives - Friedman, Billings, Ramsey

Daniel Ives - Friedman, Billings, Ramsey

Can you talk vertically speaking where there any significant changes in terms of spending specifically on financials, can you talk about the shrink there that you saw.

Gil Shwed

Haven’t seen much change, I don't know if we did a very in depth analysis but I haven’t seen any major shift or change.

Daniel Ives - Friedman, Billings, Ramsey

And then with the better spending environment are you seeing a change in terms of DLP buying behavior. Is it just now with more spending out there is it easier to get deals done.

Gil Shwed

We’re just starting with DLP so we’ll see how its going, it will be a little bit premature. I think overall customers are showing willingness to spend. They’re showing willingness to consider new technologies. On the same time its not that they are coming up with huge budgets and saying let’s throw the money away so I think what we have now is an okay environment.

It’s a balanced environment where people are not shutting the door but they’re also not rushing to throw away money. Personally I like this environment because it’s a good rational environment to do business in.

Operator

Your next question comes from the line of Michael Turits - Raymond James

Michael Turits - Raymond James

It sounds like software blade sales are going well, can you give us some sense of how much is subscription revenue they are comprising now and also sort of a related question, I notice that gross margins on product went up nicely this quarter on a sequential basis, was that in any way a function of mix between hardware and software.

Tal Payne

The first part regarding the annuity blade, its becoming more and more significant, still not a huge amount. In booking [inaudible] and in the revenue as its an annuity blade so you can recognize its only [inaudible] so its slightly above $5 [billion] at this point.

Michael Turits - Raymond James

And then the related question was that you had a nice sequential increase in your product gross margins, was that in any way a function of the software versus hardware mix.

Tal Payne

No, it actually refers to the operating margin and the growth I think was staying pretty much stable. The appliance is a significant part of our products at this point and we were able to keep it in the quite high levels. If you look at it like a perspective of two three years, you can see that the gross margin slightly reduced but the operating margin stayed the same or even increased slightly.

Michael Turits - Raymond James

High level question, as you see investment both in network security as well as in related data networking products, is your sense that people are just replacing products that had gotten long in terms of life over the last few years, are they significantly accelerated there, the capacity they’re building out in data centers.

Gil Shwed

I think it’s a combination. I think we are seeing people increasing their capacity in data center. I think we’re seeing a lot of replacement of old products and again part of the replacement is increasing capacity too. So I’m seeing all the combination, I’m seeing customers that are building brand new data centers, I’m seeing customers just say upgrading their bandwidth and upgrading their performance.

I see customers that need more functionality. I don’t think that there is one major driver to the market. It’s a combination of all of the above.

Operator

Your next question comes from the line of Brian Freed - Morgan Keegan

Brian Freed - Morgan Keegan

Good quarter, can you talk a little bit about if you have a target in terms of what percentage of revenue you’d like to get from an annuity model over time.

Gil Shwed

I don't think we have a specific target, I think we want to grow all parts of the business. I think we like the annuity business because it provides a more long-term stability but at the same time we also like to grow the immediate products that we get, so I think the main thing is that we want to sell as much as we can and we want to provide more value to customers and we want them buy that so there’s no one magic number.

Brian Freed - Morgan Keegan

And secondly you talked about strength on the IPS and your goal for DLP but within your other appliance blades, can you talk about any of them that you might be seeing notable strength in.

Gil Shwed

I think they’re all doing well. I think the smart, the management appliances are doing quite well. We just launched a new event management blade that I think has a great potential. I didn’t mention it and didn’t speak much about that and the huge potential because I thinks it mainly organic to our business. Its less breakthrough like DLP and Abra that I mentioned.

I think that we can do much better and I think that once we also, keep in mind that most of our install base is not yet running the version [inaudible] blade and I think 2011 most of our install base will move to the blade architecture and then we will be able to up sell or to provide the more value with the additional blade and that’s a major focus that we have, is getting to the point where every customer can just add blades.

Today by the way most of the new sales are on the software blade architecture but the big huge install base that we have still runs last year’s release, R-65, and again the big focus for us is moving everyone to the R-70 which is a software blade and then I think we’ll have, again a big potential just adding more blades to every customer.

Operator

Your next question comes from the line of Jeff Evenson – Sanford Bernstein

Jeff Evenson – Sanford Bernstein

As we think about new architectures for enterprises virtualization and cloud seem to be two of the biggest trends, could you give us an update on the discussions you’re having with enterprises moving in that direction and how the importance of the firewall fits in there versus more traditional architectures.

Gil Shwed

I think in virtualization we have great solutions both the ability to virtual [inaudible] firewalls with our [inaudible] solution, on a single hardware and also the ability to run in an environment and be a virtual firewall, like a virtual server farm that’s call our VE edition for the product.

That’s actually doing quite well, its not a new product. Its almost 10 years old and its actually growing nicely and drives a lot of our high end installation. VE is about a year and a half old and there is a high level of interest but not a whole lot of revenue around that yet which means that customers are talking about that, but they’re not changing drastically their network, our consolidated servers but it doesn’t mean that they completely change the security infrastructure around that because they still keep buying the existing infrastructure.

Cloud computing is another potential, I’ve seen cloud computing needs at companies are changing drastically their network architecture, its actually becoming a little bit more challenging because they open up their networks to include some external parts in it, and that’s a security challenge. I must say that we haven’t solved all theses challenges primarily because most of the leading cloud computing environment are proprietary environments which won’t let any third party get into them and provide a higher level of security.

But we are definitely investing some thinking and R&D into how to provide value there as well.

Jeff Evenson – Sanford Bernstein

As mobile data continues to grow and service providers invest to build their infrastructure how are you pursuing those opportunities if at all.

Gil Shwed

There’s many things we do around mobility, we used to have actually a sophisticated product line for mobility with the acquisition of [Protect Data and Pointsec]. I must say that for the past three years people are doing more on mobile devices. The level of security implemented has not grown consistently with that there.

I think for the future there are a lot of mobility solutions that are developing, software for all the mobile platforms. We’ve actually just now have a new software for [Simbian] that’s about to go to market. There is many other platforms that we also run on that we use daily. Abra is a mobility solution. Its not for mobile phones, or mobile devices but definitely for the mobile work.

So we are doing more and more of it. Still the challenges within many cases with mobile solutions the customers are not yet spending or can get an independent security solution into that environment so are still, we have a lot on the gateway side to protect the enterprise but we are still a little bit lighter to my opinion on the device side itself.

Jeff Evenson – Sanford Bernstein

And what about selling infrastructure like to wireless service providers such as AT&T, or Orange.

Gil Shwed

We do sell a lot to these companies. All the large service providers are huge customers of ours and almost all of them use the many different applications from securing the mobile infrastructure to providing managed services to do all of that, and they’re all very large customers and I think we are working all the time with them to find new applications. This represents a great customer base for us already.

Operator

Your next question comes from the line of Keith Weiss – Morgan Stanley

Keith Weiss – Morgan Stanley

I wanted to ask about the competitive environment particularly around pricing pressure, how has that been putting out in 1Q, are you seeing more or less pricing pressure and the second question was about expense growth. You had another great quarter of controlling expenses and getting operating margin upside to what we were looking for, how do you look at expenses through calendar year 2010, what is the headcount growth plans, how do you expect expenses to trend over the course of the year.

Gil Shwed

From a competitive landscape there wasn’t a huge change. I think we still have the same competitors. Each one has its own strength and weaknesses. I believe personally that we are gaining share and that we are doing relatively well in the marketplace. Our focus, our dedication, our delivery so far looks very nice. Some competitors we’ve seen had problems with products and had a very hard time with new generation of products.

Other competitors had supply chain issues but I think most of that, they are not the key drivers for the marketplace. The key drivers is that people want to buy the product that is good for them and not the tactical issues and the timing issues for the long-term and I think from that perspective I think it’s a great quality of our markets, but it’s not a commodity market, it’s a market when customers are appreciate the value, loyal to her vendor, they are loyal to the architecture which I think big part of that or most of it reflects in our customer base and the way they work with us.

But as I said I think overall the competitive trends have been relatively positive for us in the last few months. As for the operating model for 2010 maybe I’ll let Tal start and I have a little bit more.

Tal Payne

There’s not going to be material changes in the structure excluding obviously acquisitions. In general you will see us continuing to recruit people, mainly in the sales and in the R&D and I would just mention that this year there are salary increases so you will see it on the next quarter going forward. Again nothing dramatic but just as a part of ordinary course of business.

Operator

Your next question comes from the line of Jonathan Ho – William Blair

Jonathan Ho – William Blair

Great quarter, can you talk a little bit about what’s happening with [IPSO to Splat] customer migrations and whether that could be a catalyst for software blade architecture upgrades over the near-term and my second question is just use of cash and maybe your thoughts in terms of in this environment whether you’re going to look at acquisitions or share buybacks.

Gil Shwed

Just to explain even the question, Splat is the Check Point platform for security, secure platform and IPSO is the former Nokia based operating system which runs the same software from us and our plan moving forward for that is to merge the two into a new project, a new operating system that will have the features and the benefits of both platforms. The platforms themselves are not dramatically different. They are based on very similar architecture and so most of the work here is the technical work.

But also there is a big part of the work in merging the teams, there is a high level of loyalty amongst the former Nokia hardware to the IPSO operating system so we’re working very hard to move all the relevant features to the new operating system. Obviously the Check Point [Plus] has gained huge traction over the last three years and its also the most widely used one so of course we want to make sure that we preserve that and keep that.

The new operating system that we have which will be the unified operating system for our products is going to start delivering towards the year end, Q3 Q4, its going to be more sort of, we think it will see success starting to see success, and [stores] need to follow in 2011 and overall I think we’ve seen a lot of customers are really happy with that and our customer conference last year and this year which we just did the major European customer conference and partner conference in London two weeks ago, and next week we have the same conference in the US.

There is a lot of interest in these sessions because customers care about that, and their overall reaction is extremely positive. They like the strategy they think that we listen to them and we understand what they want and I think its now up to us to deliver on that.

Jonathan Ho – William Blair

The use of cash, in terms of looking at the current environment and sort of your thoughts on either acquisitions or share buyback.

Gil Shwed

We’ll keep doing the share buyback, our run rate today is approximately $50 million a quarter and we’ll keep being around that area. We keep looking on acquisitions and at this point we think its fair to say that we’re likely to do some small technology acquisitions. We’re also keep looking for larger potential acquisitions but there aren’t too many large security companies so I’m not anticipating anything that’s really anticipated soon on that front.

Operator

Your next question comes from the line of Todd Raker - Deutsche Bank

Todd Raker - Deutsche Bank

Nice quarter, just a quick follow-up on the question on gross margins, you did see gross margins step up about half a percentage point this quarter, should we be thinking about this as kind of the base line going forward or do you expect gross margins to deteriorate a little bit from here.

Tal Payne

It started around 92%, 93% if you look a year ago, and its now stabilized around 88% and obviously it can tick 1% up, 1% down depend on the proportion of the appliance, what type of appliance and so on, so I don't expect a major change either way at this point.

Gil Shwed

My main focus when I look at that is that all our products have nice contribution to both our revenue line and the bottom line. I don't think that having a 90% or 80% gross margin is good or bad. I don’t think that having a product that contributes to the bottom line 40% or 60% of operating margin is good, both of these are good things to have.

The main focus that we have is generate, is [inaudible] that contributes. And grow the business both from the top line and the bottom line. So there’s no, I don’t think there’s magic in any of these numbers, its mainly finding out where we can generate expansion in growth.

Operator

Your next question comes from the line of Sarah Friar - Goldman Sachs

Sarah Friar - Goldman Sachs

Could you just give us a little bit more color on Europe specifically given that to date broadly for a lot of companies its lagged and yet it seems like this quarter its finally picking up and then secondarily on Abra, do you see that as a competing product to some of what the virtual desktop vendors are bringing such as [Amoka] 5 or is it complementary that you would work with the VDI vendors as kind of the security front end.

Tal Payne

Regarding Europe, Europe had a great quarter, you can see it in the growth. We typically don’t provide the growth rate per region but this quarter we provided it so you can see I reported the 31% growth in Europe which is very impressive including the IP series obviously and when you look at the percentage in the revenue, its 42%, so its remaining pretty much the same in terms of the portion of the pie of the revenues.

So very strong quarter in Europe and its pretty much across the board there.

Sarah Friar - Goldman Sachs

And were there any countries that really stood out that have really come back strong.

Tal Payne

I think the usual ones, nothing extraordinary.

Gil Shwed

In terms of the Abra solution, I haven’t seen any products just like Abra. I think with, really there isn’t any product that does exactly the same. There’s one or two products that have encrypted USB drives but again they don’t provide VPN connectivity and so most other, in virtual desktops are not connected to a way that’s so integrated. And I think that’s the big potential here that we are providing something that’s completely integrated.

Its not a new infrastructure for the company but its integrating into their existing VPN, its simple, and so on and mainly when we have seen customers with that, we’re seeing a lot of interest in that, every customer that gets it says that’s great. At the same time let’s remember that at least the way I see it is most customers also look that it’s a new solution and therefore it means that its in very, very early stages, that the market in general and the cost of entering into that is very low because we’re talking about devices that cost $100, $100-plus per device, so its not huge, doesn’t have to be huge sales even though we’re definitely working on deals that are ten’s of thousand’s, but again they don’t have to start there.

So I think its still unique, I think there’s of course many different remote access and accessibility solution we have many of them as well, but I think customers do look at it as a new category.

Operator

Your next question comes from the line of Phil Winslow - Credit Suisse

Phil Winslow - Credit Suisse

I think last quarter you mentioned that about 80% of product sales are based on a blade architecture, just curious what you saw this quarter and also related to the large deals obviously you’ve had great success there but wondering if you could just let us know what you’re seeing in the small and mid size business category.

Gil Shwed

In terms of the percentage of the software blades, I think it remained quite the same, maybe slightly up. Most of our new platforms are shipping with that and customers deploy that. With regards to—

Phil Winslow - Credit Suisse

The small and mid size businesses.

Gil Shwed

Small and mid size business, first I think we’ve done some pilots in the last quarter about penetrating more channels and more places with SMB channels, with more SMB product, of course we sell to a very wide customer base. Every time we speak about that, I don’t want you to be [inaudible] like we sell only to the higher because that’s definitely not the case. We have 100,000 plus more accounts, we are selling to businesses of all sizes and even if you look at the large deals that we have, they contribute 10% or 20% of the business every quarter not 80% of the business.

So just to keep that in proportion, so we’ve done some more pilots and getting into more areas of the marketplace. Later this year or next year we plan to have more low end appliances and low end solutions that will keep addressing that and I think we’re still a large market there that we’re not addressing yet or that we have other competitors that we can still capture.

And I think we’re working on that.

Operator

Your next question comes from the line of Walter Pritchard – Citi

Walter Pritchard – Citi

I was wondering if you could talk a bit about the business that’s at this point the network business that’s not appliances, I think its still probably a reasonable percentage of the business. I’m wondering do you think that remains with customers continuing to buy software deploy it on their own hardware or do you see a further catalyst here to drive those customers who have not yet adopted your appliances towards that architecture.

Gil Shwed

I think we are not driving and I’m very happy with the software business and so on but I must tell you that I’m even I’m surprised with the level of acceptance of our appliance. I think most customers today do appreciate the simplicity of the appliance. They pay premium for that in many cases, its not, but depends where actually.

On the low end sometimes its even, its cost effective to buy an appliance. On the high end I think that customer want it but they do pay a premium for buying the appliances and right now I see that most of the business is still in appliances. I think its still a good thing to have the open choice for customers. I think its still a good thing to remember what’s our value proposition, our value proposition is not in, is in the software itself and in the functionality and in the architecture and not in the type of hardware.

And again I’m seeing great results on the hardware side, still the value is in the software and overall I think we are enjoying the benefits of that because we generate nice revenue growth and nice profit growth out of that.

Walter Pritchard – Citi

On the $2 billion in cash and the buyback at $50 million, you could buyback stock until the end of time at that level and cash is still going to creep quite a bit higher, is there any issue with you upping that buyback level in terms of Israeli tax issues and any other thoughts in terms of what maybe to do with that cash in lieu of a restricted buyback level.

Tal Payne

We don’t limitation in terms of legal limitation, so we could do it practically if we wanted. The effect is on the shareholder that if we would decide to do it then we would have to withhold taxes above a certain amount. So the amount we can distribute without having a tax effect on the company and on the shareholders in that respect is up to $200, $250 million.

On top of it the company will have to pay taxes on the distribution before obviously they withhold the taxes on the shareholders. So its more effective at this point to go up to the level of what has no tax implication on the company and that’s why we’re using that amount as the guidelines of what’s the buyback that we’re doing.

Operator

Your next question comes from the line of Scott Zeller – Needham & Company

Scott Zeller – Needham & Company

Could you tell us the percentage of revenue from appliances this quarter, you’ve given that out in the past.

Tal Payne

If you look at Q1 last year it was around 45% and this quarter its about 70%.

Scott Zeller – Needham & Company

And then the comments earlier about I think you mentioned you hoped over the next year or two to get the entire customer base onto the blade architecture does that suggest that you have a formal plan in place to migrate the Nokia customer base, is there a formal plan to migrate those customers.

Gil Shwed

It’s a new software version, it runs both on the old Nokia platform and on future platforms, and our regular platform and of course, always we want to upgrade customers to the latest version. Its usually takes customers some time to do that, between two to three years to move from an older version to a newer version.

So we’re just at the first trimester of doing that. But its not different for Nokia or to our other Check Point or open platforms that we have. And yes we do have many many programs to let them do that from converting the old licensing model to the new licensing model at no cost, automatic upgrades.

Our help if any field upgrades are needed but at the end of the day we just have to remember that our products are deployed as critical infrastructure and customers are not easily upgrading critical infrastructure, it takes them time and actually our timeframe is relatively short and if three years to convert most of the install base compared to enterprise software companies is extremely short.

And the reason by the way it should be short is because one thing that everybody needs to remember is security software upgrade is not just from [inaudible] or something that’s nice to have. Security software upgrades means more security and that’s the main reason that people buy the products for the first place. This is an ongoing process that we have all the time.

Scott Zeller – Needham & Company

Could you give us a percentage of revenue or a dollar amount for Nokia contribution and for the end point protection contribution in the quarter.

Tal Payne

I mentioned that many times before, its pretty much impossible to do that in the sense that we don’t see as separate dollars. The customers that purchase, historically IP can purchase now power or UTM and vise versa, historical customers of Check Point can move from UTM-1 or power 1 to the relevant ones in the IP series and in addition we changed the pricing model as well there in the IP series where we added the software blade into it.

So its very hard to separate it, slightly misleading.

Scott Zeller – Needham & Company

Maybe just in general terms, can you tell us if end point is growing again.

Tal Payne

No the end point stayed stable at this time.

Operator

Your final question comes from the line of Kash Rangan – BAS-Merrill Lynch

Kash Rangan – BAS-Merrill Lynch

You’ve been executing on the appliance strategy for a few years, I was just wondering if you could comment on the reverse cycle that’s happening with the new installed base and also secondly are you considering measures from a product and execution standpoint to as much as the growth rate is quite impressive I’m just wondering if you’re considering measures to actually accelerate your growth rate in the years ahead.

Gil Shwed

So first I think there’s many things about surviving what our solutions and the integrated appliances but in terms of the product cycle and the annuity cycle, I think we’ve just started it because we’ve moved many customers that had software before to appliances. And the good news around that with the software, appliances have an annuity cycle.

Hardware lasts for X many years, two, three, four, five, years, and then customers have to replace it. We didn’t finish converting all the installed base to our appliance and I think on the same time we’re starting now the second generation. So if you look at the mainstream Check Point appliances not the IP series that we acquired from Nokia, they are about three, three and a half years old, that means that we haven’t even started their annuity cycle on these products.

So I do think that the hardware, we have lots for at least two or three years. So we are just going to start the first upgrade cycles around that between 2011 and 2012. Now what impact will it have, will have a huge boost to our revenues or will it keep things stable, a little premature to say but at least there is something to hope for in that annuity cycle.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

Kip Meintzer

Thanks everybody for joining us for the call. We’ll be taking calls after and making calls after and we’ll look forward to speaking with you guys next quarter. Thank you and we hope you have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Check Point Software Technologies, Ltd. Q1 2010 Earnings Call Transcript
This Transcript
All Transcripts