Zscaler management highlighted strong fiscal Q2 momentum, reporting 25% ARR growth and record large-deal volume driven by the Z-Flex flexible buying program ($290 million TCV). Key themes included the strategic pivot to AI security, with CEO Jay Chaudhry detailing the "AI Protect" launch and new solutions for securing AI agents. The company emphasized platform diversification, noting non-user-based revenue now exceeds 25% of new bookings. Management also expressed confidence in the Red Canary integration for AI SecOps and dismissed competitive concerns in the large enterprise market, reaffirming their $10 billion ARR goal.

Key Takeaways

• Fiscal Q2 Financial Performance: Zscaler reported 25% year-over-year ARR growth (21% organic) and raised its full-year net new ARR expectations. The quarter featured a record number of deals valued at over $1 million for a fiscal Q2.
• Z-Flex Adoption: The flexible buying program, Z-Flex, generated $290 million in Total Contract Value (TCV) bookings during the quarter. Since its launch, the program has accumulated approximately $650 million in TCV, driving larger deals with an average duration of four years.
• Diversification of Revenue: Non-seat-based ARR (including workloads and data security) accounted for "25% plus of new bookings" in Q2. Specifically, the Data Security pillar is approaching $0.5 billion in ARR.
• AI Strategy: Management views AI as a net positive tailwind. On January 27, the company launched "AI Protect" to secure AI applications. The company anticipates AI agents will become the new "weakest link" in security, necessitating distinct policy engines.
• Market Penetration: Zscaler currently serves 45% of the Fortune 500 and 40% of the Global 2000. However, with 4,400 customers out of a target market of 20,000 large enterprises, management notes penetration is still less than 25%.
• Red Canary Integration: Following the acquisition, renewal rates for Red Canary have been "elevated" relative to management's initial conservative estimates. The technology is being integrated to build an AI agentic SecOps product.
• Gross Margin Outlook: Despite rising memory costs in the broader hardware market, management maintained a target of "about 80% gross margin," stating they intend to pass cost increases on to customers.
• Sales Efficiency: Management reported that sales productivity increased in the double-digits during Q2, with strong pipeline conversion rates.

Q&A

Meta A. Marshall (Morgan Stanley): While organic ARR growth was 21%, investors viewed it as a step-down from Q1; where did you see strength in the business to support raising full-year expectations?

• Kevin E Rubin: The quarter saw a record number of "$1 million deals" for a second quarter, underpinning the go-to-market transformation. The Z-Flex program was a major driver, contributing $290 million in TCV bookings. Performance was consistent with expectations, giving confidence to raise the net new ARR outlook for the remainder of the year.

Meta A. Marshall (Morgan Stanley): What are investors missing regarding the debate on whether AI will replace cybersecurity versus the view that AI necessitates more cybersecurity?

• Jagtar Singh Chaudhry: AI is a "net positive opportunity" because "hackers are embracing AI faster than enterprises." Companies need to secure AI usage to gain visibility and prevent risks. Furthermore, as enterprises deploy AI agents, these agents—numbering in the millions—are expected to be the "weakest link," requiring a zero-trust policy engine to manage access and prevent hijacking.

Meta A. Marshall (Morgan Stanley): Despite checks showing strong positioning, investors question the number of competitors; have you observed changes in win rates or the competitive landscape?

• Jagtar Singh Chaudhry: In the large enterprise segment (companies with ~20,000 employees), "competition has become less." CIOs are savvy and understand the difference between Zscaler and virtual firewalls. While there is more noise down-market, large enterprises prioritize Zero Trust and ROI, allowing Zscaler to displace legacy firewall costs, which incumbents cannot do without cannibalizing their own revenue.

Meta A. Marshall (Morgan Stanley): With 25% of new bookings being non-seat-based, how do you view the evolution of pricing models beyond the traditional per-seat SASE structure?