What changed in this filing

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Item 1. Financial Statements

2020-08-06 compared with 2020-05-07 · 315 added, 139 removed, 438 unchanged (51% of the section changed)

3 unchanged sentences

(unaudited, in millions, except per share amounts)

2020 December 31,

CURRENT ASSETS:

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Accounts receivable—net 498.7 544.3

Inventory 126.0 117.9

Prepaid expenses and other current assets 57.1 41.2

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DEFERRED TAX ASSETS 218.9 232.6

GOODWILL 67.2 67.2

OTHER INTANGIBLE ASSETS—NET 23.4 31.1

OTHER ASSETS 55.9 60.0

TOTAL ASSETS $ 3,330.6 $ 3,885.5

LIABILITIES AND STOCKHOLDERS’ EQUITY

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Common stock, $ 0.001 par value— 300 shares authorized;

162.6 and 171.7 shares issued and outstanding at March 31, 2020 and December 31, 2019, respectively

161.8 and 171.7 shares issued and outstanding at June 30, 2020 and December 31, 2019, respectively

Additional paid-in capital 1,154.3 1,180.3

Accumulated other comprehensive income (loss)

Accumulated other comprehensive income 2.5 1.1

Retained earnings (accumulated deficit) ( 613.1 ) 140.3

5 unchanged sentences

(unaudited, in millions, except per share amounts)

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Product $ 211.9 $ 189.9 $ 404.2 $ 352.6

Service 403.6 331.8 788.2 641.7

Total revenue 615.5 521.7 1,192.4 994.3

COST OF REVENUE:

Product 84.4 82.7 160.7 152.9

Service 50.7 45.6 103.1 88.4

Total cost of revenue 135.1 128.3 263.8 241.3

GROSS PROFIT:

Product 127.5 107.2 243.5 199.7

Service 352.9 286.2 685.1 553.3

Total gross profit 480.4 393.4 928.6 753.0

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INTEREST INCOME—NET 4.0 11.0 13.2 21.2

OTHER EXPENSE—NET

OTHER INCOME (EXPENSE)—NET 0.9 ( 0.4 ) ( 7.1 ) ( 0.9 )

INCOME BEFORE INCOME TAXES 121.6 85.8 238.7 146.1

PROVISION FOR INCOME TAXES 9.5 13.1 22.6 14.6

NET INCOME $ 112.1 $ 72.7 $ 216.1 $ 131.5

Net income per share (Note 8):

Basic $ 0.69 $ 0.42 $ 1.30 $ 0.77

Diluted $ 0.68 $ 0.42 $ 1.27 $ 0.75

Weighted-average shares outstanding:

Basic 161.6 171.1 166.1 170.6

Diluted 165.4 175.1 169.8 175.0

See notes to condensed consolidated financial statements.

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(unaudited, in millions)

Three Months Ended

Other comprehensive income (loss):

Change in unrealized gains (losses) on investments

tax provision (benefit) related to change in unrealized gains (losses) on investments

Other comprehensive income (loss)

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Net income $ 112.1 $ 72.7 $ 216.1 $ 131.5

Other comprehensive income:

Change in unrealized gains on investments 7.3 1.5 2.1 2.5

tax provision related to change in unrealized gains on investments 1.7 0.4 0.7 0.7

Other comprehensive income 5.6 1.1 1.4 1.8

Comprehensive income $ 117.7 $ 73.8 $ 217.5 $ 133.3

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(unaudited, in millions)

Three Months Ended March 31, 2020

Comprehensive Income (Loss)

Retained Earnings (Accumulated Deficit)

Three Months Ended June 30, 2020

Common Stock Additional

Capital Accumulated

Comprehensive Income (Loss) Accumulated Deficit Total

Stockholders’

BALANCE—December 31, 2019

Shares Amount

BALANCE—March 31, 2020 162.6 $ 0.2 $ 1,128.4 $ ( 3.1 ) $ ( 589.2 ) $ 536.3

Issuance of common stock in connection with equity incentive plans - net of tax withholding 0.6 — ( 12.9 ) — — ( 12.9 )

1 unchanged sentence

Stock-based compensation expense — — 48.9 — — 48.9

Net unrealized gain (loss) on investments - net of tax

Net unrealized gain on investments - net of tax — — — 5.6 — 5.6

Net income — — — — 112.1 112.1

BALANCE—June 30, 2020 161.8 $ 0.2 $ 1,154.3 $ 2.5 $ ( 613.1 ) $ 543.9

Three Months Ended June 30, 2019

Common Stock Additional

Capital Accumulated

Comprehensive Income (Loss) Accumulated Deficit Total

Stockholders’

Shares Amount

BALANCE—March 31, 2019 170.7 $ 0.2 $ 1,108.1 $ ( 0.2 ) $ ( 50.0 ) $ 1,058.1

Three Months Ended March 31, 2019

Comprehensive Loss

Accumulated Deficit

Issuance of common stock in connection with equity incentive plans - net of tax withholding 0.8 — ( 19.9 ) — — ( 19.9 )

Repurchase and retirement of common stock ( 0.5 ) — ( 3.0 ) — ( 31.7 ) ( 34.7 )

Stock-based compensation expense — — 45.0 — — 45.0

Net unrealized gain on investments - net of tax — — — 1.1 — 1.1

Net income — — — — 72.7 72.7

BALANCE—June 30, 2019 171.0 $ 0.2 $ 1,130.2 $ 0.9 $ ( 9.0 ) $ 1,122.3

Six Months Ended June 30, 2020

Common Stock Additional

Capital Accumulated

Comprehensive Income Retained Earnings (Accumulated Deficit) Total

Stockholders’

Shares Amount

BALANCE—December 31, 2019 171.7 $ 0.2 $ 1,180.3 $ 1.1 $ 140.3 $ 1,321.9

2 unchanged sentences

Stock-based compensation expense — — 93.7 — — 93.7

Net unrealized gain on investments - net of tax — — — 1.4 — 1.4

Net income — — — — 216.1 216.1

BALANCE—June 30, 2020 161.8 $ 0.2 $ 1,154.3 $ 2.5 $ ( 613.1 ) $ 543.9

Six Months Ended June 30, 2019

Common Stock Additional

Capital Accumulated

Comprehensive Income (Loss) Accumulated Deficit Total

Stockholders’

Shares Amount

BALANCE—December 31, 2018 169.8 $ 0.2 $ 1,068.3 $ ( 0.8 ) $ ( 57.5 ) $ 1,010.2

Issuance of common stock in connection with equity incentive plans - net of tax withholding 2.5 — ( 18.3 ) — — ( 18.3 )

Repurchase and retirement of common stock ( 1.3 ) — ( 7.8 ) — ( 83.1 ) ( 90.9 )

Stock-based compensation expense — — 88.0 — — 88.0

Cumulative-effect adjustment from adoption of ASU 2018-02 ( 0.1 ) 0.1 —

Net unrealized gain (loss) on investments - net of tax

BALANCE—March 31, 2019

Net unrealized gain on investments - net of tax — — — 1.8 — 1.8

Net income — — — — 131.5 131.5

BALANCE—June 30, 2019 171.0 $ 0.2 $ 1,130.2 $ 0.9 $ ( 9.0 ) $ 1,122.3

See notes to condensed consolidated financial statements.

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(unaudited, in millions)

Three Months Ended

Six Months Ended

2020 June 30,

CASH FLOWS FROM OPERATING ACTIVITIES:

Net income $ 216.1 $ 131.5

Adjustments to reconcile net income to net cash provided by operating activities:

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Amortization of investment premiums (discounts) ( 0.4 ) ( 3.0 )

Other 5.5 0.5

Changes in operating assets and liabilities:

Accounts receivable—net 44.5 41.5

Inventory ( 17.9 ) ( 5.5 )

Prepaid expenses and other current assets ( 15.2 ) ( 5.4 )

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Deferred tax assets 13.0 ( 4.4 )

Other assets 0.7 2.4

Accounts payable 9.7 ( 14.6 )

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Payments made in connection with business combination, net of cash acquired ( 3.1 ) —

Other ( 0.4 ) —

Net cash provided by (used in) investing activities 216.8 ( 375.6 )

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Taxes paid related to net share settlement of equity awards ( 58.9 ) ( 56.5 )

Other ( 0.1 ) —

Net cash used in financing activities ( 1,089.3 ) ( 111.1 )

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

NET DECREASE IN CASH AND CASH EQUIVALENTS ( 306.1 ) ( 90.3 )

CASH AND CASH EQUIVALENTS—Beginning of period 1,222.5 1,112.4

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Transfers of evaluation units from inventory to property and equipment $ 10.2 $ 9.9

Liability for purchase of property and equipment and asset retirement obligations

Liability for purchase of property and equipment $ 24.9 $ 9.9

Liability incurred for repurchase of common stock $ — $ 1.0

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All intercompany balances, transactions and cash flows have been eliminated.

The results of operations for the three months ended March 31, 2020 are not necessarily indicative of the results for the full year or for any future periods.

The results of operations for the three and six months ended June 30, 2020 are not necessarily indicative of the results for the full year or for any future periods.

The condensed consolidated balance sheet as of December 31, 2019 is derived from the audited consolidated financial statements for the year ended December 31, 2019.

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Actual results could differ materially from those estimates.

There have been no material changes to our significant accounting policies as of and for the three months ended March 31, 2020 .

There have been no material changes to our significant accounting policies as of and for the three and six months ended June 30, 2020.

Recently Adopted Accounting Standards

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ASU 2019-12 is effective for us beginning on January 1, 2021.

Early adoption of the amendments is permitted.

We are currently evaluating the impact of ASU 2019-12 on our condensed consolidated financial statements.

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Product revenue is generated by sales of our FortiGate products and other hardware and software solutions.

Service revenue relates to sales of our FortiGuard security subscription, FortiCare technical support services and other services.

Service revenue relates to sales of our security subscription services, which mainly consist of our FortiGuard security solutions, as well as our FortiCare technical support services and other services.

Disaggregation of Revenue

The following table presents our revenue disaggregated by major product and service lines (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Product $ 211.9 $ 189.9 $ 404.2 $ 352.6

Security subscription 222.6 183.1 434.0 352.7

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Deferred Revenue

During the three months ended March 31, 2020 and March 31, 2019 , we recognized $ 348.9 million and $ 288.6 million in service revenue that was included in the deferred revenue balance as of December 31, 2019 and December 31, 2018, respectively.

During the three months ended June 30, 2020 and June 30, 2019, we recognized $ 307.9 million and $ 252.0 million in service revenue that was included in the deferred revenue balance as of December 31, 2019 and December 31, 2018, respectively.

During the six months ended June 30, 2020 and June 30, 2019, we recognized $ 656.8 million and $ 540.6 million in service revenue that was included in the deferred revenue balance as of December 31, 2019 and December 31, 2018, respectively.

Transaction Price Allocated to the Remaining Performance Obligations

As of March 31, 2020 , the aggregate amount of the transaction price allocated to remaining performance obligations was $ 2.23 billion , which was substantially comprised of deferred security subscription and technical support services revenue.

As of June 30, 2020, the aggregate amount of the transaction price allocated to remaining performance obligations was $ 2.32 billion, which was substantially comprised of deferred security subscription and technical support services revenue.

We expect to recognize approximately $ 1.28 billion as revenue over the next 12 months and the remainder thereafter.

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We apply a credit-loss percentage to each of the pools that is based on our historical credit losses.

We review whether each of our significant accounts receivable that is more than 60 days past due continues to exhibit

We review whether each of our significant accounts receivable that is more than 60 days past due

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

similar risk characteristics with the other accounts receivable in the pool.

continues to exhibit similar risk characteristics with the other accounts receivable in the pool.

If we determine that it does not, we evaluate it for expected credit losses on an individual basis.

The COVID-19 pandemic and the recent economic downturn prompted us to perform additional credit reviews of our existing customers, including obtaining recent credit reports and reviewing their latest available statements of financial position.

After performing our additional reviews, we determined that, while there may be delays in our collections, the risk of credit loss on our trade accounts receivable as of March 31, 2020 was expected to be consistent with prior periods and that our methodology for estimating credit losses was appropriate.

The allowance for credit losses was $ 1.1 million as of March 31, 2020 , and the allowance for doubtful accounts was $ 1.2 million as of December 31, 2019.

Provisions, write-offs and recoveries were not material during the three months ended March 31, 2020 .

In addition, we have seen an increase in requests for extended payment terms.

After performing our additional reviews, we increased the allowance for credit losses for certain accounts receivable.

The allowance for credit losses was $ 2.2 million as of June 30, 2020, and the allowance for doubtful accounts was $ 1.2 million as of December 31, 2019.

Provisions, write-offs and recoveries were not material during the six months ended June 30, 2020.

Deferred Contract Costs

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The amortization of deferred contract costs is included in sales and marketing expense in our condensed consolidated statements of income.

Amortization of deferred contract costs during the three months ended March 31, 2020 and March 31, 2019 were $ 31.3 million and $ 25.1 million , respectively.

Amortization of deferred contract costs during the three months ended June 30, 2020 and June 30, 2019 were $ 33.2 million and $ 25.9 million, respectively.

Amortization of deferred contract costs during the six months ended June 30, 2020 and June 30, 2019 were $ 64.5 million and $ 51.0 million, respectively.

FINANCIAL INSTRUMENTS AND FAIR VALUE

The following tables summarize our investments (in millions):

March 31, 2020

June 30, 2020

Cost Unrealized

Gains Unrealized

Corporate debt securities $ 502.2 $ 3.0 $ ( 0.1 ) $ 505.1

Commercial paper 75.6 0.2 — 75.8

government securities

Certificates of deposit and term deposits (1)

69.0 0.1 ( 0.1 ) 69.0

government securities 60.8 0.2 — 61.0

Total available-for-sale securities $ 707.6 $ 3.5 $ ( 0.2 ) $ 710.9

December 31, 2019

Cost Unrealized

Gains Unrealized

Corporate debt securities $ 576.1 $ 1.0 $ ( 0.1 ) $ 577.0

Commercial paper 148.7 0.1 — 148.8

government securities

Certificates of deposit and term deposits (1)

66.4 — — 66.4

government securities 195.0 0.2 — 195.2

Total available-for-sale securities $ 986.2 $ 1.3 $ ( 0.1 ) $ 987.4

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The following tables show the gross unrealized losses and the related fair values of our investments that have been in a continuous unrealized loss position (in millions):

March 31, 2020

Less Than 12 Months

12 Months or Greater

June 30, 2020

Less Than 12 Months 12 Months or Greater Total

Value Unrealized

Corporate debt securities $ 62.6 $ ( 0.1 ) $ — $ — $ 62.6 $ ( 0.1 )

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December 31, 2019

Less Than 12 Months

12 Months or Greater

Less Than 12 Months 12 Months or Greater Total

Value Unrealized

Corporate debt securities $ 117.3 $ ( 0.1 ) $ 16.1 $ — $ 133.4 $ ( 0.1 )

Commercial paper 26.0 — — — 26.0 —

government securities

Certificates of deposit and term deposits 13.0 — — — 13.0 —

government securities 47.1 — — — 47.1 —

Total available-for-sale securities $ 203.4 $ ( 0.1 ) $ 16.1 $ — $ 219.5 $ ( 0.1 )

The contractual maturities of our investments were as follows (in millions):

2020 December 31,

Due within one year $ 610.5 $ 843.1

Due within one to three years 100.4 144.3

Total $ 710.9 $ 987.4

Available-for-sale securities are reported at fair value, with unrealized gains and losses and the related tax impact included as a separate component of stockholders’ equity and in comprehensive income.

Accrued interest of $ 4.7 million as of March 31, 2020 is excluded from both the fair value and the amortized cost of our available-for-sale securities and is recorded in Prepaid expenses and other current assets in our condensed consolidated balance sheet.

Accrued interest of $ 3.7 million as of June 30, 2020 is excluded from both the fair value and the amortized cost of our available-for-sale securities and is recorded in Prepaid expenses and other current assets in our condensed consolidated balance sheet.

We have elected to not record an allowance for credit losses for accrued interest for available-for-sale securities and will reverse the accrued interest against interest income in the period in which we determine the accrued interest to be uncollectible.

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We adopted Topic 326 on January 1, 2020, and now consider whether unrealized losses have resulted from a credit loss or other factors.

The unrealized losses on our available-for-sale securities as of March 31, 2020 and as of December 31, 2019 were caused by fluctuations in market value and interest rates as a result of the economic environment.

We concluded that an allowance for credit losses was unnecessary as of March 31, 2020 and that the impairments as of December 31, 2019 were not other than temporary because (i) the decline in market value was attributable to changes in market conditions and not credit quality, and (ii) we concluded that neither do we intend to sell nor is it more likely than not that we will be required to sell these investments prior to recovery of their amortized cost basis.

Realized losses on available-for-sale securities were insignificant in the periods presented and are included in Other expense—net in our consolidated statements of income.

The unrealized losses on our available-for-sale securities as of June 30, 2020 and as of December 31, 2019 were caused by fluctuations in market value and interest rates as a result of the economic environment.

We concluded that an allowance for credit losses was unnecessary as of June 30, 2020 and that the impairments as of December 31, 2019 were not other than temporary because (i) the decline in market value was attributable to changes in market conditions and not credit quality, and (ii) we concluded that neither do we intend to sell nor is it more likely than not that we will be required to sell these investments prior to recovery of their amortized cost basis.

Realized gains and losses on available-for-sale securities were insignificant in the periods presented and are included in Other income (expense)—net in our consolidated statements of income.

We use the specific identification method to determine the cost basis of investments sold.

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Assets Measured at Fair Value on a Recurring Basis

The following tables present the fair value of our financial assets measured at fair value on a recurring basis as of March 31, 2020 and December 31, 2019 (in millions):

March 31, 2020

December 31, 2019

The following tables present the fair value of our financial assets measured at fair value on a recurring basis as of June 30, 2020 and December 31, 2019 (in millions):

June 30, 2020 December 31, 2019

Assets Significant

Inputs Significant

Inputs Aggregate

Assets Significant

Inputs Significant

(Level 1) (Level 2) (Level 3) (Level 1) (Level 2) (Level 3)

Corporate debt securities $ 505.1 $ — $ 505.1 $ — $ 577.0 $ — $ 577.0 $ —

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Money market funds 347.0 347.0 — — 15.0 15.0 — —

Total $ 1,057.9 $ 408.0 $ 649.9 $ — $ 1,019.4 $ 210.2 $ 809.2 $ —

Cash equivalents $ 347.0 $ 32.0

1 unchanged sentence

Long-term investments 100.4 144.3

Total $ 1,057.9 $ 1,019.4

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

There were no transfers between Level 1 and Level 2 of the fair value hierarchy during the three months ended March 31, 2020 and year ended December 31, 2019 .

There were no transfers between Level 1 and Level 2 of the fair value hierarchy during the six months ended June 30, 2020 and year ended December 31, 2019.

Inventory consisted of the following (in millions):

2020 December 31,

Raw materials $ 14.1 $ 9.7

Finished goods 111.9 108.2

Inventory $ 126.0 $ 117.9

PROPERTY AND EQUIPMENT—Net

Property and equipment—net consisted of the following (in millions):

2020 December 31,

Land $ 93.3 $ 93.3

Building and building improvements 148.0 147.4

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Property and equipment—net $ 392.6 $ 344.3

Depreciation expense was $ 13.6 million and $ 12.7 million during the three months ended March 31, 2020 and March 31, 2019 , respectively.

Construction-in-progress consists primarily of costs incurred in connection with the construction of a second building at our headquarters campus.

Depreciation expense was $ 14.1 million and $ 12.3 million during the three months ended June 30, 2020 and June 30, 2019, respectively.

Depreciation expense was $ 27.7 million and $ 25.0 million during the six months ended June 30, 2020 and June 30, 2019, respectively.

INVESTMENTS IN PRIVATELY HELD COMPANIES

Our investments in the equity securities of privately held companies totaled $ 1.0 million and $ 5.3 million as of March 31, 2020 and December 31, 2019 , respectively.

Our investments in the equity securities of privately held companies totaled $ 1.0 million and $ 5.3 million as of June 30, 2020 and December 31, 2019, respectively.

These investments are accounted for at cost, adjusted for changes in observable prices minus impairment.

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These investments are recorded as Other assets in our condensed consolidated balance sheets and would be measured at fair value if indicators of an increase in value or impairment existed.

During the three months ended March 31, 2020, we determined that one investment was impaired.

As a result, we recognized and included a non-cash impairment charge of $ 4.3 million in Other expense—net in our condensed consolidated statements of income.

As of March 31, 2020 , no other events have occurred that would affect the carrying value of these investments.

In the first quarter of 2020, we determined that one investment was impaired.

As a result, we recognized and included a non-cash impairment charge of $ 4.3 million in Other income (expense)—net in our condensed consolidated statements of income.

As of June 30, 2020, no other events have occurred that would affect the carrying value of these investments.

GOODWILL AND OTHER INTANGIBLE ASSETS—Net

As of March 31, 2020 and December 31, 2019 , we had goodwill of $ 67.2 million .

There were no impairments to goodwill during the three months ended March 31, 2020 or during prior periods.

As of June 30, 2020 and December 31, 2019, we had goodwill of $ 67.2 million.

There were no impairments to goodwill during the six months ended June 30, 2020 or during prior periods.

FORTINET, INC.

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Other Intangible Assets—Net

The following tables present other intangible assets—net as of March 31, 2020 and December 31, 2019 (in millions, except years):

March 31, 2020

Weighted-Average Useful Life (in Years)

Accumulated Amortization

The following tables present other intangible assets—net as of June 30, 2020 and December 31, 2019 (in millions, except years):

June 30, 2020

Weighted-Average Useful Life (in Years) Gross Accumulated Amortization Net

Other intangible assets—net:

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December 31, 2019

Weighted-Average Useful Life (in Years)

Accumulated Amortization

Weighted-Average Useful Life (in Years) Gross Accumulated Amortization Net

Other intangible assets—net:

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Total other intangible assets—net $ 71.8 $ 40.7 $ 31.1

Amortization expense was $ 4.0 million and $ 3.0 million during the three months ended March 31, 2020 and March 31, 2019 , respectively.

Amortization expense was $ 3.7 million and $ 2.9 million during the three months ended June 30, 2020 and June 30, 2019, respectively.

Amortization expense was $ 7.7 million and $ 5.9 million during the six months ended June 30, 2020 and June 30, 2019, respectively.

The following table summarizes estimated future amortization expense of finite-lived intangible assets—net (in millions):

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Basic net income per share is computed by dividing net income by the weighted-average number of shares of common stock outstanding during the period.

Diluted net income per share is computed by dividing net income by the weighted-average number of shares of common stock outstanding during the period, plus the dilutive effects of restricted stock units (“ RSU s”) and stock options.

Dilutive shares of common stock are determined by applying the treasury stock method.

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A reconciliation of the numerator and denominator used in the calculation of basic and diluted net income per share is as follows (in millions, except per share amounts):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Net income $ 112.1 $ 72.7 $ 216.1 $ 131.5

Basic shares:

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Effect of potentially dilutive securities:

RSUs 2.6 2.9 2.5 3.2

Stock options 1.2 1.1 1.2 1.2

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Net income per share:

Basic $ 0.69 $ 0.42 $ 1.30 $ 0.77

Diluted $ 0.68 $ 0.42 $ 1.27 $ 0.75

The following weighted-average shares of common stock were excluded from the computation of diluted net income per share for the periods presented, as their effect would have been antidilutive (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

RSUs 0.1 0.1 0.3 0.4

Stock options 0.6 0.7 0.5 0.5

Total 0.7 0.8 0.8 0.9

We have operating leases for offices, research and development facilities and data centers.

Our leases have remaining terms that range from less than one year to approximately seven years , some of which include one or more options to renew, with renewal terms of up to five years .

Our leases have remaining terms that range from less than one year to approximately six years , some of which include one or more options to renew, with renewal terms of up to six years .

We do not include renewal options in our lease terms for calculating our lease liability, as the renewal options allow us to maintain operational flexibility and we are not reasonably certain we will exercise these renewal options at the time of the lease commencement.

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The components of lease expense were as follows (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Operating lease expense $ 4.4 $ 3.7 $ 8.7 $ 7.3

Variable lease expense (1)

0.4 0.6 1.0 1.2

Short-term lease expense 1.0 0.7 1.9 1.4

Total lease expense $ 5.8 $ 5.0 $ 11.6 $ 9.9

(1) Variable lease expense for the three months ended March 31, 2020 and March 31, 2019 predominantly included common area maintenance charges and parking expense.

(1) Variable lease expense for the six months ended June 30, 2020 and June 30, 2019 predominantly included common area maintenance charges and parking expense.

Supplemental balance sheet information related to our operating leases was as follows (in millions, except lease term and discount rate):

Classification

Operating lease ROU assets - non-current

Operating lease liabilities - current

Accrued liabilities

Operating lease liabilities - non-current

Other liabilities

Classification June 30,

2020 December 31,

Operating lease ROU assets - non-current Other assets $ 42.1 $ 44.3

Operating lease liabilities - current Accrued liabilities $ 15.7 $ 15.5

Operating lease liabilities - non-current Other liabilities 27.6 30.6

Total operating lease liabilities $ 43.3 $ 46.1

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Supplemental cash flow information related to leases was as follows (in millions):

Three Months Ended

Six Months Ended Six Months Ended

2020 June 30,

Cash paid for amounts included in the measurement of lease liabilities

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Maturities of operating lease liabilities as of March 31, 2020 were as follows (in millions):

Year ending December 31,

Maturities of operating lease liabilities as of June 30, 2020 were as follows (in millions):

Year ending December 31, Amount

2020 (the remainder of 2020) $ 8.5

Thereafter 2.0

Total lease payments 45.7

Less imputed interest ( 2.4 )

As of March 31, 2020 , we had additional minimum lease payments of $ 5.1 million relating to operating leases that had been signed but had not yet commenced and therefore were excluded from the table above.

These leases will commence during 2020 and will have lease terms of approximately five to seven years .

As of June 30, 2020, we had additional minimum lease payments of $ 8.2 million relating to operating leases that had been signed but had not yet commenced and therefore were excluded from the table above.

These leases will commence during 2020 and will have lease terms of approximately three to seven years .

MUTUAL COVENANT-NOT-TO-SUE AND RELEASE AGREEMENT

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We estimated the stand-alone selling price of each distinct performance obligation and allocated the $ 100.0 million transaction price.

During the three months ended March 31, 2020 , we recorded $ 36.8 million in Gain on IP matter in our condensed consolidated statement of income, consisting of the $ 36.0 million allocated to the functional patents and $ 0.8 million of amortization of the deferred component.

We recorded $ 13.2 million in Accrued liabilities and Other liabilities in our condensed consolidated balance sheet as of March 31, 2020 .

During the three and six months ended June 30, 2020, we recorded $ 1.1 million and $ 37.9 million in Gain on IP matter in our condensed consolidated statements of income, respectively.

We recorded $ 12.1 million in Accrued liabilities and Other liabilities in our condensed consolidated balance sheet as of June 30, 2020.

COMMITMENTS AND CONTINGENCIES

The following table summarizes our inventory purchase commitments as of March 31, 2020 (in millions):

The following table summarizes our inventory purchase commitments as of June 30, 2020 (in millions):

Total 2020 2021 2022 2023 2024 Thereafter

Inventory purchase commitments $ 282.1 $ 281.8 $ 0.3 $ — $ — $ — $ —

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These forecasts are based on estimates of future demand for our products, which are in turn based on historical trends and an analysis from our sales and marketing organizations, adjusted for overall market conditions.

In order to reduce manufacturing lead times and plan for adequate component supply, we may issue purchase orders to some of our independent contract manufacturers, which may not be cancelable.

As of June 30, 2020, we had $ 282.1 million of open purchase orders with our independent contract manufacturers that may not be cancelable.

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

order to reduce manufacturing lead times and plan for adequate component supply, we may issue purchase orders to some of our independent contract manufacturers, which may not be cancelable.

As of March 31, 2020 , we had $ 247.2 million of open purchase orders with our independent contract manufacturers that may not be cancelable.

Other Contractual Commitments and Open Purchase Orders —In addition to commitments with contract manufacturers, we have open purchase orders and contractual obligations in the ordinary course of business for which we have not received goods or services.

As of March 31, 2020 , we had $ 10.9 million in other contractual commitments having a remaining term in excess of one year that may not be cancelable.

As of June 30, 2020, we had $ 27.8 million in other contractual commitments having a remaining term in excess of one year that may not be cancelable.

Litigation —We are involved in disputes, litigation, and other legal actions.

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However, certain agreements include covenants, penalties and indemnification provisions including and beyond indemnification for third-party claims of IP infringement that could potentially expose us to losses in excess of the amount received under the agreement, and in some instances to potential liability that is not contractually limited.

To date, although from time to time there are indemnification claims asserted against us and currently there are pending indemnification claims, there have been no material awards under such indemnification provisions.

Periodically, we, like other security companies and companies in other industries, may experience cybersecurity threats, malicious activity directed against our information technology infrastructure and unauthorized attempts to gain access to our and our customers’ sensitive information and systems.

Although from time to time there are indemnification claims asserted against us and currently there are pending indemnification claims, to date there have been no material awards under such indemnification provisions.

Similar to other security companies and companies in other industries, we have in the past experienced, and we may in the future experience, cybersecurity threats, malicious activity directed against our information technology infrastructure or unauthorized attempts to gain access to our and our customers’ sensitive information and systems.

We currently are unaware of any existing claims or proceedings related to these types of matters, including any that we believe are likely to have a material adverse effect on our financial position.

STOCKHOLDERS’ EQUITY

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We maintain the Amended and Restated Fortinet, Inc.

2009 Equity Incentive Plan (the “Amended Plan”) pursuant to which we have granted RSU s and stock options.

2009 Equity Incentive Plan (the “Amended Plan”) pursuant to which we have granted RSUs and stock options.

We also previously had an Employee Stock Purchase Plan (“ESPP”) for eligible employees, which was terminated in February 2019.

As of March 31, 2020 , there was a total of 12.1 million shares of common stock available for grant under the Amended Plan.

As of June 30, 2020, there was a total of 12.0 million shares of common stock available for grant under the Amended Plan.

FORTINET, INC.

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Restricted Stock Units

The following table summarizes the activity and related information for RSU s for the periods presented below (in millions, except per share amounts):

The following table summarizes the activity and related information for RSUs for the periods presented below (in millions, except per share amounts):

Restricted Stock Units Outstanding

Number of Shares

Weighted-Average Grant Date Fair Value per Share

Number of Shares Weighted-Average Grant Date Fair Value per Share

Balance—December 31, 2019 6.1 $ 64.56

Balance—March 31, 2020

As of March 31, 2020 , total compensation expense related to unvested RSU s granted to employees and non-employees under the 2009 Plan, but not yet recognized, was $ 440.8 million .

This expense is expected to be amortized on a straight-line basis over a weighted-average vesting period of 2.9 years.

RSU s settle into shares of common stock upon vesting.

Upon the vesting of the RSU s, we net-settle the RSU s and withhold a portion of the shares to satisfy minimum statutory employee withholding tax requirements.

Total payment of the employees’ tax obligations to the tax authorities is reflected as a financing activity within the condensed consolidated statements of cash flows.

Granted 1.6 120.02

Forfeited ( 0.2 ) 72.69

Vested ( 1.7 ) 56.98

Balance—June 30, 2020 5.8 $ 81.49

Stock compensation expense is recognized on a straight-line basis over the vesting period of each RSU.

As of June 30, 2020, total compensation expense related to unvested RSUs granted to employees and non-employees under the 2009 Plan, but not yet recognized, was $ 427.5 million, with a weighted-average remaining vesting period of 2.9 years.

RSUs settle into shares of common stock upon vesting.

Upon the vesting of the RSUs, we net-settle the RSUs and withhold a portion of the shares to satisfy minimum statutory employee withholding tax requirements.

The payment of the withheld taxes to the tax authorities is reflected as a financing activity within the condensed consolidated statements of cash flows.

The following summarizes the number and value of the shares withheld for employee taxes (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Shares withheld for taxes 0.2 0.3 0.5 0.7

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The following table summarizes the weighted-average assumptions relating to our employee stock options:

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Expected term in years 4.4 4.4 4.4 4.4

Volatility 39.0 % 34.4 % 34.4 % 34.2 %

Risk-free interest rate 0.3 % 2.2 % 1.1 % 2.5 %

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Options Outstanding

of Shares Weighted-

Price Weighted-

Life (Years) Aggregate

Balance—December 31, 2019 2.7 $ 50.37

Balance—March 31, 2020

Options vested and expected to vest—March 31, 2020

Options exercisable—March 31, 2020

The aggregate intrinsic value represents the difference between the exercise price of stock options and the quoted market price of our common stock on March 31, 2020 for all in-the-money stock options.

As of March 31, 2020 , total compensation expense related to unvested stock options granted to employees but not yet recognized was $ 38.6 million .

This expense is expected to be amortized on a straight-line basis over a weighted-average period of 3.1 years.

Granted 0.6 118.50

Forfeited — 80.97

Exercised ( 0.4 ) 40.78

Balance—June 30, 2020 2.9 $ 66.01

Options vested and expected to vest—June 30, 2020 2.9 $ 66.01 4.7 $ 206.0

Options exercisable—June 30, 2020 1.4 $ 41.09 3.5 $ 134.3

The aggregate intrinsic value represents the difference between the exercise price of stock options and the quoted market price of our common stock on June 30, 2020 for all in-the-money stock options.

Stock compensation expense is recognized on a straight-line basis over the vesting period of each stock option.

As of June 30, 2020, total compensation expense related to unvested stock options granted to employees but not yet recognized was $ 38.5 million, with a weighted-average remaining vesting period of 3.0 years.

Additional information related to our stock options is summarized below (in millions, except per share amounts):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Weighted-average fair value per share granted $ 46.92 $ 26.38 $ 35.51 $ 27.08

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Stock-based compensation expense, including stock-based compensation expense related to awards classified as liabilities, is included in costs and expenses as follows (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Cost of product revenue $ 0.4 $ 0.4 $ 0.8 $ 0.8

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The following table summarizes stock-based compensation expense, including stock-based compensation expense related to awards classified as liabilities, by award type (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

RSUs $ 45.9 $ 41.9 $ 88.1 $ 81.1

Stock options 3.7 3.1 6.8 5.6

ESPP — — — 1.3

Total stock-based compensation expense $ 49.6 $ 45.0 $ 94.9 $ 88.0

Total income tax benefit associated with stock-based compensation that is recognized in the condensed consolidated statements of income is as follows (in millions):

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Income tax benefit associated with stock-based compensation $ 10.9 $ 10.4 $ 20.9 $ 20.4

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The Repurchase Program does not require us to purchase a minimum number of shares, and may be suspended, modified or discontinued at any time without prior notice.

During the three months ended March 31, 2020 , we repurchased 10.0 million shares of common stock under the Repurchase Program in open market transactions at an average price of $ 90.36 per share and for an aggregate purchase price of $ 899.9 million .

As of March 31, 2020 , $ 692.9 million remained available for future share repurchases under the Repurchase Program .

Our effective tax rate was 11 % for the three months ended March 31, 2020 , compared to an effective tax rate of 2 % for the same period last year.

During the three and six months ended June 30, 2020, we repurchased 1.4 million and 11.4 million shares of common stock, respectively, under the Repurchase Program in open market transactions at an average price of $ 99.69 per share and $ 91.55 per share, respectively, for an aggregate purchase price of $ 146.1 million and $ 1.0 billion, respectively.

As of June 30, 2020, $ 546.8 million remained available for future share repurchases under the Repurchase Program.

Our effective tax rate was 8 % for the three months ended June 30, 2020, compared to an effective tax rate of 15 % for the same period last year.

Our effective tax rate was 9 % for the six months ended June 30, 2020, compared to an effective tax rate of 10 % for the same period last year.

The effective tax rates for the periods presented are primarily comprised of U.S.

federal and state taxes, withholding taxes, foreign taxes and excess tax benefits from stock-based compensation expense.

The tax rates for the three months ended March 31, 2020 and March 31, 2019 were impacted by U.S.

federal and state taxes, withholding taxes and foreign taxes that were $ 28.3 million and $ 17.5 million , respectively, which were offset by excess tax benefits from stock-based compensation expense of $ 15.2 million and $ 16.0 million , respectively.

federal and state taxes were lowered by a tax benefit of $ 4.8 million from the foreign-derived intangible income deduction for the three months ended March 31, 2020.

As of March 31, 2020 and December 31, 2019 , unrecognized tax benefits were $ 65.6 million and $ 67.5 million , respectively.

The tax rates for the three months ended June 30, 2020 and June 30, 2019 were impacted by U.S.

federal and state taxes, withholding taxes and foreign taxes that were $ 28.2 million and $ 24.5 million, respectively.

federal and state taxes were lowered by a tax benefit of $ 5.0 million from the foreign-derived intangible income deduction for the three months ended June 30, 2020.

The tax rates for the three months ended June 30, 2020 and June 30, 2019 were impacted by excess tax benefits from stock-based compensation expense of $ 10.0 million and $ 11.7 million, respectively, and release of reserves of $ 8.7 million and $ 10.0 million, respectively, on uncertain tax positions and the interest due to the expiration of the statute of limitations.

The tax rate for the three months ended June 30, 2019 was further impacted by an increase in tax expense of $ 10.3 million related to the U.S.

Court of Appeals for the Ninth Circuit’s (the “Ninth Circuit”) opinion in Altera Corporation and Subsidiaries vs.

Commissioner of Internal Revenue (“ Altera ”), as described below, regarding stock-based compensation expense in cost sharing arrangements.

The tax rates for the six months ended June 30, 2020 and June 30, 2019 were impacted by U.S.

federal and state taxes, withholding taxes and foreign taxes of $ 56.5 million and $ 42.0 million, respectively.

federal and state taxes were lowered by a tax benefit of $ 9.6 million from the foreign-derived intangible income deduction for the six months ended June 30, 2020.

The tax rates for the six months ended June 30, 2020 and June 30, 2019 were impacted by excess tax benefits from stock-based compensation expense of $ 25.2 million and $ 27.7 million, respectively, and release of reserves of $ 8.7 million and $ 10.0 million, respectively, on uncertain tax positions and the interest due to the expiration of the statute of limitations.

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

rate for the six months ended June 30, 2019 was further impacted by an increase in tax expense of $ 10.3 million related to the Ninth Circuit’s Altera decision, regarding stock-based compensation expense in cost sharing arrangements.

As of June 30, 2020 and December 31, 2019, unrecognized tax benefits were $ 62.9 million and $ 67.5 million, respectively.

If recognized, $ 57.6 million of the unrecognized tax benefits would favorably affect our effective tax rate.

It is our policy to include accrued interest and penalties related to uncertain tax benefits in income tax expense.

As of March 31, 2020 and December 31, 2019 , accrued interest and penalties were $ 14.5 million and $ 14.1 million , respectively.

As of June 30, 2020 and December 31, 2019, accrued interest and penalties were $ 13.4 million and $ 14.1 million, respectively.

It is reasonably possible that our gross unrecognized tax benefits will decrease by up to $ 4.4 million in the next 12 months, due to the lapse of the statute of limitations.

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The focus of these audits is the inter-company profit allocation.

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

On June 7, 2019, the Ninth Circuit overturned the U.S.

Tax Court’s decision in Altera Corporation and Subsidiaries vs.

Commissioner of Internal Revenue (“Altera”) and ruled in favor of the Commissioner, validating the regulations requiring stock-based compensation to be included in a cost sharing arrangement.

Due to the uncertainty surrounding the status of the current regulations and questions related to the scope of potential benefits or obligations, we incurred an unrecognized tax benefit of $ 8.5 million as of March 31, 2020 related to the Ninth Circuit’s Altera decision regarding stock-based compensation in cost sharing arrangements.

We continue to monitor developments in this case and any impact it could have on our tax provision.

Tax Court’s decision in Altera and ruled in favor of the Commissioner, validating the regulations requiring that stock-based compensation be included in a cost sharing arrangement.

On June 22, 2020, the Supreme Court of the United States (the “Supreme Court”) issued an order declining the petition for certiorari in Altera .

As a result, the Ninth Circuit’s decision requiring that stock-based compensation be included in cost sharing arrangements is the controlling law at present.

However, as we are no longer part of a cost sharing arrangement, this does not impact our future income tax provisions.

The Ninth Circuit’s decision, together with Supreme Court’s order, did not have a material impact on our condensed consolidated financial statements.

On March 27, 2020, the President signed into law the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”).

The CARES Act provides numerous tax provisions and other stimulus measures, including temporary changes regarding the prior and future utilization of net operating losses, temporary changes to the prior and future limitations on interest deductions, temporary suspension of certain payment requirements for the employer portion of Social Security taxes, technical corrections from prior tax legislation for tax depreciation of certain qualified improvement property and the creation of certain refundable employee retention credits.

The Company does not expect there to be a material tax impact on its consolidated financial statements at this time and will continue to assess the implications of the CARES Act and its continuing developments and interpretations.

We do not expect there to be a material tax impact on our condensed consolidated financial statements at this time and will continue to assess the implications of the CARES Act and its continuing developments and interpretations.

On July 9, 2020, the United States Department of the Treasury and the Internal Revenue Service (the “IRS”) released final Section 250 regulations, providing guidance on foreign-derived intangible income deduction and global intangible low-taxed income.

Generally, the final regulations are applicable for taxable years beginning on or after January 1, 2021.

However, taxpayers may apply the final regulations for taxable years beginning on or after January 1, 2018.

We are in the process of analyzing the tax impact from the final regulations on our foreign-derived intangible income deduction calculation.

DEFINED CONTRIBUTION PLANS

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Our board of directors approved 50 % matching contributions on employee contributions up to 4 % of each employee’s eligible earnings.

Our matching contributions to our 401(k) Plan and the RRSP for the three months ended March 31, 2020 and March 31, 2019 were $ 2.2 million and $ 1.7 million , respectively.

Our matching contributions to our 401(k) Plan and the RRSP for the three months ended June 30, 2020 and June 30, 2019 were $ 2.2 million and $ 1.7 million, respectively.

Our matching contributions to our 401(k) Plan and the RRSP for the six months ended June 30, 2020 and June 30, 2019 were $ 4.4 million and $ 3.4 million, respectively.

SEGMENT INFORMATION

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Our chief executive officer reviews financial information presented on a consolidated basis, accompanied by information about revenue by geographic region for purposes of allocating resources and evaluating financial performance.

We have one business activity, and there are no segment managers who are held accountable for operations, operating results and plans for levels or components below the consolidated unit level.

We have one business activity, and there are no segment managers

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

who are held accountable for operations, operating results and plans for levels or components below the consolidated unit level.

Accordingly, we have determined that we have one operating segment, and therefore, one reportable segment.

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The following tables set forth revenue and property and equipment—net by geographic region (in millions):

Three Months Ended

Three Months Ended Six Months Ended

Revenue June 30,

2020 June 30,

2019 June 30,

2020 June 30,

United States $ 200.6 $ 173.5 $ 382.2 $ 323.8

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Total revenue $ 615.5 $ 521.7 $ 1,192.4 $ 994.3

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Property and Equipment — net

2020 December 31,

United States $ 245.5 $ 197.4

Canada 121.6 120.5

Latin America 6.2 5.5

Total Americas 373.3 323.4

EMEA 14.0 15.2

Total property and equipment—net $ 392.6 $ 344.3

The following distributors accounted for 10% or more of our revenue:

Three Months Ended

Three Months Ended Six Months Ended

2020 June 30,

2019 June 30,

2020 June 30,

Exclusive Networks Group 31 % 31 % 31 % 31 %

Ingram Micro * 11 % * 11 %

The following distributors accounted for 10% or more of net accounts receivable:

2020 December 31,

Exclusive Networks Group 31 % 36 %

Ingram Micro 11 % 10 %

* Represents less than 10%

SUBSEQUENT EVENT

FORTINET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

SUBSEQUENT EVENTS

Share Repurchase

Subsequent to March 31, 2020 through the filing of this Quarterly Report on Form 10-Q, we repurchased 1.5 million shares of our common stock under the Repurchase Program, for an aggregate purchase price of $ 146.1 million .

In July 2020, our board of directors approved a $ 500.0 million increase in the authorized stock repurchase amount under the Repurchase Program and extended the term of the Repurchase Program to February 28, 2022, bringing the aggregate amount authorized to be repurchased to $ 3.0 billion.

As of August 6, 2020, $ 1.05 billion remained available for future share repurchases under the Repurchase Program.

Business Combination

On July 20, 2020, we acquired OPAQ Networks, Inc.

(“OPAQ”), a privately held Secure Access Service Edge cloud provider.

We acquired OPAQ for approximately $ 13.0 million in cash consideration, subject to certain adjustments.

We are currently in the process of evaluating the business combination accounting, including the consideration transferred and the initial purchase price allocation.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 1. Financial Statements