Keith Jensen
Chief Financial Officer at Fortinet
Thank you, Ken and thank you, Aaron. And good afternoon, everyone. Let's start with the key highlights from the second quarter. Overall, we are very pleased with our execution in the quarter. We achieved record growth and operating margins at 81.5% and 35.1%, respectively, while delivering topline numbers at the high end of our guidance range. Revenue grew 11% as product revenue exceeded our expectations, driven by robust software revenue growth and sequential hardware growth that more closely aligned with historical norm. We also added 6300 new logos as we continue to invest in our channel partners, as you'll hear in a moment, we believe we are on a pace for another rule of 40 year.
At the same time, we accelerated our investments in the fast growing, Unified SASE and security operation markets with the acquisitions of Lacework and Next DLP. Lacework strengthens our position in the high growth CNAP market and expands our total addressable market by $10 billion, While Next DLP improves our position in the standalone enterprise data loss prevention market. Combined, Fortinet will gain over 900 customers and talented sales and engineering teams. And I'll just pause here to offer a very warm welcome to team members from both companies.
Continuing with our Q2 highlights. We have taken the lead in partnering with the US Cybersecurity and Infrastructure Security Agency or CISA through a secure by design pledge and are leading with our responsible transparency practices. We want to emphasize we understand customer trust is paramount to our business. Our continued success across all customer segments in each of our three pillars represents hundreds of thousands of end customers testing and buying for Fortinet security solutions. Simply stated, this is a significant scale advantage and a responsibility few others have. And also offers customers validation at a very robust level. We are committed to responsible updates and deployment processes, supply chain controls, product security measures and transparency. To understand more about the proactive measures we take to safeguard our customers and our reputation, please visit our trust website at fortinet.com/trust.
Looking at billings in more detail. Total billings were consistent year-over-year at $1.54 billion, overcoming the headwind from the drawdown in backlog in the comparable quarter. At the same time, total bookings increased year-over-year and more importantly, the sequential growth rate approached pre-COVID pre-supply chain norms. Unified SASE and SecOps delivered strong growth along with software, while product sales recovered more than expected. We continue to see significant progress from our investments in both pillars. And saw strong pipeline growth of 45% for Unified SASE and 18% for SecOps. Both pillars are gaining significant momentum within our installed base as over 90% of Unified SASE and SecOps billings are coming from existing customers. Larger enterprises continue to be our largest customer segment, with large and mid enterprises combining to represent 86% and. 82% of Unified SASE and SecOps solutions, respectively.
Within Unified SASE, FortiSASE billings continue to grow at triple digit rates, as existing customers can seamlessly integrate our solution within minutes to secure their hybrid workforce. While FortiClient customers are able to use a single agent to secure Internet, private and SaaS application. We've also integrated FortiAP with FortiSASE for securing thin edges and unmanaged devices. Our Unified SASE solution continues to gain market recognition. For the second consecutive year, we've been recognized as a challenger in the Gartner Magic Quadrant for Single-Vendor SASE, with the third highest placement and the ability to execute access. And as mentioned earlier, we are further improving our FortiSASE solution by adding powerful data loss prevention capabilities from Next DLP.
Rounding out the billings commentary, the SMB was again the top performing customer segment, while international and emerging was again our best performing geography. On an industry vertical basis, technology and transportation grew at double digit rates, while service provider and manufacturing were more challenged.
Turning to revenue and margins. Total revenue grew 11% to $1.434 billion, driven by service revenue growth and software licenses. Service revenue of $982 million, grew 20%; accounting for 68.5% of total revenue. Service revenue growth was led by 36% growth in SecOps and 27% growth in Unified SASE. As noted on slide five, Unified SASE includes SSE and related technologies together with SD-WAN.
Product revenue decreased 4%, but better than expected to $452 million. Excluding the impact of backlog, product sales growth improved 14 points quarter-over-quarter and a similar amount year-over-year. Software license revenue growth continue to accelerate at 26% and represented a high teens percentage of product revenue, nearly five point increase in the software mix year-over-year. Combined revenue from software and licenses and software services such as cloud and SaaS security solutions, increased 32% accelerating from 23% a year ago and providing an annual revenue run rate of over $800 million.
Total gross margin increased 360 basis points to a quarterly record of 81.5%. And exceeded the high end of our guidance range by 400 basis points benefiting from higher product and services gross margin, as well as a five point mix shift to higher margin service revenues. Product gross margin is 66%, increased 250 basis points year-over-year, mainly due to increased software mix and lower indirect cost. On a quarter-over-quarter basis, product gross margin increased from 56% to 66%, as hardware demand increase and inventory levels and related inventory charges move closer to historical norms. Service gross margin of 88.6% increased 240 basis points as service revenue growth outpaced labor cost increases and benefited from the mix shift towards higher margin FortiGuard's security subscription services. Operating margin increase 820 basis points to a quarterly record of 35.1%. And was 840 basis points above the high end of our guidance range, reflecting the record gross margin as well as cost efficiencies within the business.
Looking at the statement of cash flows summarized on slides 16 and 17. Free cash flow was $319 million for the quarter and $927 million for the first half of 2024 or $1.1 billion after adjusting for real estate and infrastructure investments. Cash taxes in the quarter were $252 million. As a reminder, last year's second quarter benefited from the deferral of approximately $190 million in cash tax payments, which were ultimately paid in the fourth quarter of 2023.
Infrastructure investments totaled $23 million. Average contract term in the second quarter was 28 months, flat year-over-year and up one month quarter-over-quarter. TSO decreased seven days year-over-year and increased two days quarter-over-quarter to 68 days. While we did not repurchase shares in Q2, share buybacks have totaled $5.3 billion over the last four plus years. And the remaining buyback authorization is $1 billion.
Now, I'd like to share a few significant wins from the second quarter. In a seven figure deal, an international government agency purchased 12 solutions across all three pillars, including eight SecOps solutions. This new customer selected Fortinet because of our operating systems ability to consolidate over 30 networking and security functions into a single, unified platform covering SecOps, SASE, and secure networking. The customer was impressed with the integrated security, end-to-end visibility and automated response features of our FortiOS operating system.
Next, in a seven figure win, a large utility company expanded our partnership by signing their first enterprise agreement with us to safeguard their OT environment. This deal displaces five legacy vendors and includes ruggedized equipment deployed to the customers' power plants, control centers and substations. Keys to this expansion win were our proven expertise in securing critical infrastructure and our price for performance advantage.
And lastly, in a competitive displacement win, our retail store chain purchased our FortiSASE solution in a seven figure deal. This customer chose Fortinet because of our integrated FortiOS platform as they were able to seamlessly integrate FortiSASE with their existing Fortinet security solutions.
Now, I'd like to offer some comments on customer inventory digestion and the firewall refresh cycle. Last quarter, we pointed to a 25% improvement in the number of days to register FortiGuard contracts from its peak and view this as an early but soft indicator that "inventory digestion" at end users appeared to be normalizing and the firewall market could start to show signs of recovery. To provide an update on this indicator and other signs of possible improvement in the firewall market, we can share that as shown on slide 19 in the second quarter, the days of registered security service contracts improved another 12 days and has now returned to 2020 pre-supply chain pre-COVID crisis levels. Inventory commitments and levels are normalizing at our contract manufacturers and in the channel. And, as noted earlier, the sequential increase in hardware sales in the second quarter aligned more closely with historical norms. While these indicators are positive, we believe customers are currently managing a tough macro environment in a key election year in the US, and we believe this is having an impact on our customers' purchasing decisions. As a result, we believe a full refresh cycle is unlikely to occur in 2024, but more likely in 2025.
Moving on to guidance. As a reminder, our third quarter and full-year outlook, which are summarized on slides 21 and 22, is subject to disclaimers regarding forward-looking information that Aaron provided at the beginning of the call. Before reviewing the outlook, I'd like to offer a few modeling notes in light of our Lacework and Next DLP acquisition. Covering estimates included in our Q3 and full year guidance.
For billings, the acquisitions increased Q3 by approximately one half point and the full year by approximately one third point. Total revenue, increased Q3 and full year growth by one point and one half point, respectively. For gross margin, they decreased Q3 and full year margins by less than one half of a point for each period. For operating margin, they decreased Q3 and full year margins by three points and 1.5 points respectively.
Inclusive of these acquisition related estimates, for the third quarter, we expect billings in the range of $1.530 billion to $1.600 billion, which at a midpoint represents growth of 5%. The revenue in the range of $1.445 billion to $1.505 billion, which at the midpoint represents growth of 10.5%. Non-GAAP gross margin of 79% to 80%. Non-GAAP operating margin of 30.5% to 31.5%. Non-GAAP earnings per share are $0.56 to $0.58, which assumes a share count of between 767 million to 777 million. Capital expenditures of $40 million to $60 million, a non-GAAP tax rate of 17% and cash taxes of $125 million to $145 million.
And again for the full year inclusive of the numbers we gave a moment ago, we expect billings in the range of $6.400 billion to $6.600 million. Revenue in the range of $5.800 million to $5.900 million, which at the midpoint represents growth of 10%. Service revenue range of $3.975 billion to $4.025 billion, which at the midpoint represents growth of 18%. Non-GAAP gross margin of 79% to 80%. Non-GAAP operating margin of 30% to 31.5%. Non-GAAP earnings per share of $2.13 to $2.19, which assumes a share count of between 767 million and 777 million. Capital expenditures are $320 million to $360 million, non-GAAP tax rate of 17% and cash taxes of between $525 million and $575 million. I look forward to updating you on our progress in coming quarters.
Before we begin the Q&A session, it is with deep sadness that we recognize the passing of our friend Peter Salkowski, our SVP of Finance and Investor Relations. Peter was an integral part of the Fortinet team for over six years. And was renowned for his passion for mentoring and developing the next generation of leaders. We'll miss Peter and fondly remember his commitment to fostering talent and nurturing potential within our company. I know that Peter worked closely with many of you on this call, and the outpouring of condolences and heartfelt memories you've shared since his passing, clearly shows a positive impact he has on so many people's lives. Peter took great pride in his contribution to Fortinet. And rightly so, having contributed to increasing shareholder value from $8 billion to $46 billion during his tenure at Fortinet. We'll miss Peter.
Aaron, back to you.
