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Shares of Fortinet Inc. FTNT have been gaining solid momentum, of late. One of the major reasons behind this could be the company’s stellar first-quarter 2018 results. Also, encouraging second-quarter and full-year outlook drove its shares higher.
Notably, the company has gained approximately 11.4% since it reported first-quarter results on May 3. The stock has outperformed its industry in the year-to-date period. Fortinet has appreciated 43.1%, while the industry has gained 23.9% during the same time period.
A large number of deal wins and customer additions during the recently-reported quarter proved conducive to top-line growth. The company’s bottom line benefited fromhigher revenues and improved gross profit due to sales mix shift to higher-margin subscription services, which were partially offset by elevated operating expenses, particularly sales and marketing (S&M).
In fact, Fortinet has an impressive earnings surprise history, beating the Zacks Consensus Estimate in the trailing four quarters, with an average positive earnings surprise of 26.2%. Backed by the impressive results, the company issued upbeat outlook for the second quarter and full year.
Let’s take a look at what factors are driving Fortinet’s back-to-back robust quarterly performances.
Shift in Business Model Driving Revenues & Margins
Fortinet is currently focusing on selling more subscription-based services. This unique business model is helping the company generate stable revenues while expanding margins. Subscription-based service is a high gross margin business (approximately 80%) compared with the hardware-centric model.
Notably, the company generates more than 50% of the total revenues from these services, which helped it generate a 70-bp gross-margin expansion in 2017 and 220 bps (basis points) in the first quarter of this year. We believe the strategy will continue to improve the company’s top and bottom-line performances.
Gaining Market Share in UTM Space
According to industry analysis, Unified Threat Management (UTM) is believed to be one of the fastest growing segments in Network Security with high-single to low-double digits projected growth. Given Fortinet’s sustained focus on enhancing its UTM portfolio through product development and acquisitions, we believe the company will continue to increase its market share in the segment and retain its leadership position.
Fortinet has a diversified product portfolio for PCs, mobile and enterprise security. This apart, its partnerships with Exodus Intelligence, Cisco ACI, NTT Communications and VMware NSX Partner Ecosystem have been helping it gain market share. Notably, the company holds a market share of 18-20% in the space.
The stock currently trades at a forward earnings estimate at 40.9x, which is way lower than the industry to which it belongs to average of 82.9x. Given its recent track record of revenues and earnings growth, as well as the long-term forecast, the stock is highly undervalued which indicates that it still has significant upside potential.
Moreover, Fortinet has a VGM Style Score of B. We note that our VGM score highlights the determining elements in a stock that can push the stock price higher. We can essentially filter out the negatives and focus on the positives which drive its price.
Consequently, we believe the stock has huge potential to surge higher and therefore, investors should consider it for near-term opportunities. The stock currently carries a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Some Other Stocks Worth Considering
Some other top-ranked stocks in the broader technology sector are Mellanox Technologies MLNX, NVIDIA NVDA and Texas Instrument TXN, all sporting a Zacks Rank of 1.
The long-term expected EPS growth rates for Mellanox, NVIDIA and Texas Instruments are 15%, 10.3% and 9.6%.
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