Kathleen Nemeth - Juniper Networks, Inc. Rami Rahim - Juniper Networks, Inc. Ken Miller - Juniper Networks, Inc..

Timothy Patrick Long - BMO Capital Markets (United States) Rod Hall - JPMorgan Securities LLC Simon M. Leopold - Raymond James & Associates, Inc. Simona Jankowski - Goldman Sachs & Co. LLC Tal Liani - Bank of America Merrill Lynch Jess Lubert - Wells Fargo Securities LLC Aaron Rakers - Stifel, Nicolaus & Co., Inc. James E. Faucette - Morgan Stanley & Co.

LLC Mitch Steves - RBC Capital Markets LLC Mark Moskowitz - Barclays Capital, Inc. Kulbinder S. Garcha - Credit Suisse Securities (USA) LLC Jim Suva - Citigroup Global Markets, Inc. Paul Silverstein - Cowen & Co. LLC Steven Milunovich - UBS Securities LLC Jeffrey Thomas Kvaal - Nomura Securities International, Inc..

Greetings, and welcome to the Juniper Networks Second Quarter Fiscal Year 2017 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Ms.

Kathleen Nemeth, Vice President, Investor Relations. Please go ahead..

Thank you, operator. Good afternoon, and welcome to our second quarter 2017 conference call. Joining me today are Rami Rahim, Chief Executive Officer; and Ken Miller, Chief Financial Officer.

Today's call contains forward-looking statements, including statements concerning Juniper's business, economic and market outlook, strategy, future financial results, capital return program and overall future prospects. Actual results might differ materially from those projected in the forward-looking statements.

Additional information that could cause actual results to materially differ from those in these forward-looking statements are listed in our most recent 10-Q, the press release furnished with our 8-K filed today, and in other documents that we file with the SEC from time to time. All statements made during this call are made only as of today.

Juniper undertakes no obligation to update the information in this conference call in the event facts or circumstances change after the date of the call. Our discussion of the financial results today will include non-GAAP results. Reconciliation information can be found on the Investor Relations section of our website under Financial Reports.

For important commentary on why our management team considers non-GAAP information a useful view of the company's financial results, please consult the press release furnished with our 8-K filed with the SEC today. Please keep your questions to one per firm. With that, I will now hand the call over to Rami..

Junos Node Slicing and Universal Chassis, which reduce operational overhead and create an environment for operational agility to thrive. Junos Node Slicing is a critical technology in the transition to Cloud-Grade Networking and in particular, the movement to disaggregated networking at the edge.

By enabling the ability to run multiple isolated services at the edge, combined with a powerful and efficient data plane, service providers and enterprises can optimize their infrastructure while offering differentiated services with enhanced operational and administrative isolation within a single chassis.

This is enabled by converging multiple concurrent services on the same physical routing infrastructure. This differentiated technology has already enabled a Tier 1 service provider network win for us, and we expect that we'll have broader impact as our customers learn about its powerful benefits.

Universal Chassis is a breakthrough system allowing customers to standardize on a hardware platform across their data center, core and network edge.

It is designed to provide customers with the ability to adapt to ever changing business requirements with a common hardware platform that supports a continuum of optimized switching and routing use cases across their network.

Universal Chassis can create significant value for our customers by enhancing their ROI through reduced qualification and logistics cost along with greater investment protection. Now, I would like to summarize the highlights across Switching, Routing and Security.

In Switching, we saw continued momentum with year-over-year and sequential revenue growth across all verticals. Two effects continued to see strong year-over-year growth in cloud data center, driven by the industry's migration towards 100-gigabit infrastructure and as our customers adopt end-to-end solutions with Juniper's ToR and spine portfolio.

We also saw year-over-year and sequential growth in our EX products. In Routing, the MX had good year-over-year and sequential growth. And we also saw strength in our PTX products within our cloud customers and new insertions in telecom in the second quarter.

In Security, we announced enhancements to our Software-Defined Secure Networks platform and expanded our public cloud offering with the introduction of virtual SRX 4.0. Our SDSN enhancements deliver pervasive security across multivendor environments, public clouds and private cloud.

Juniper's SDSN platform and its ecosystem help organizations unify security for their networks, giving customers a streamlined way to integrate products and manage their security operation regardless of the vendors they choose. In addition, we continue to add new logos to our Sky ATP customer portfolio.

In the quarter, we continued to see momentum with Contrail and had several new customer wins, including a large Strategic Enterprise customer in APAC and a large telecom customer in EMEA. AppFormix and Contrail have been integrated for seamless operations management of Juniper's hardware and software.

This allows us to bring the powerful machine-learning capabilities of AppFormix to our entire portfolio of products, and we are now applying this capability in various customer use cases.

We had another strong quarter in our services business, where we saw strong renewal and attach rates of support contracts and an increase in demand for professional services. To summarize, I'm pleased with our execution and the continued momentum we are seeing in our Cloud vertical and our Switching business.

I am proud of the strength in our product and services portfolio and excited about the opportunity we have in front of us. We saw good momentum in the first half of the year, and we anticipate delivering revenue and non-GAAP earnings growth for the full year.

I would like to extend my thanks to our customers, partners and shareholders for their continued support and confidence in Juniper. I also wanted to thank our employees for their continued hard work and dedication to successfully execute on our strategy and create value for all of our stakeholders.

I will now turn the call over to Ken, who will discuss our quarterly financial results in more detail..

we expect revenue growth for the year, we are focused on earnings expansion with long-term consistency, and intend to maintain an optimized capital structure. In addition, we remain committed to delivering strong operating cash flow. We continue to expect revenue growth for 2017 to be near the midpoint of our long-term model range of 3% to 6%.

As I shared with you last quarter, some elements of our addressable markets are challenged, and timing of customer deployments may vary. We are pleased with our product portfolio and expect to see continued strength from the Cloud vertical. For the remainder of 2017, we expect similar gross margin dynamics as seen in the first half of the year.

We are focused on driving non-GAAP earnings expansion for the full year through revenue growth, operating expense discipline and strong execution. As we stated last quarter, we are driving to our long-term model of 39% of non-GAAP operating expense as a percentage of revenue for the full year.

We intend to return approximately 50% of annual free cash flow to our shareholders inclusive of share repurchases and dividends. In closing, I would like to thank our team for their continued dedication and commitment to Juniper's success. Now, I'd like to open the call for questions..

At this time, we'll be conducting a question-and answer session. Our first question comes from Tim Long of BMO Capital Markets. Please proceed with your question..

Thank you. Ken, if I could just on the Switching strength in gross margins, just talk a little bit about what it would take to get those a little bit more towards the corporate gross margin levels. There are some switch companies that are at these levels for their product gross margins.

So is it scale? Is there something else that needs to happen? Do we need to see more software features? If you could just talk a little bit about how we can see Switching maybe over time become less of a drag to the corporate gross margin. Thank you..

Sure. So, yeah, as we mentioned the product mix to Switching has had a drag on the overall gross margin. Clearly Switching continues to outpace our long-term model expectations. And while the over-performance is having a positive effect on gross profit and overall earnings, it does have a minor impact in our margin.

As far as getting the margins up, it's like all of our products, continuing to innovate, continuing to sell that innovation, continuing to focus on cost, is what – designing for cost, designing for value initiatives, as well as just making sure that we focus on what matters to our customers from a product differentiation perspective.

I do think there will be more and more service – sorry, software attach within all of our product lines including Switching. So that should also provide some tailwinds for the Switching business going forward.

Last but not least, I would say even with these kind of margin (15:05) dynamic that we're seeing, we're very focused on overall growth, profit expansion and earnings expansion. I'm very pleased that we're able to deliver that in the first half and Q2..

Next question..

Our next question comes from Rod Hall of JPMorgan. Please proceed with your question..

Yeah, hi, guys, thanks for the question. I just had I guess a couple of questions for you. One is on the growth rate that you're suggesting for the full year and then Q3.

Just looking at the Cloud, Telecom and Enterprise verticals and thinking about the trajectory of growth in all of those, it seems like you're implying a pretty material slowdown on a year-over-year basis in one or a couple of those.

So I just wonder if you could give us a little bit of color on what you're thinking in terms of growth for those sub-segments that you've been starting to report. And then the second question I had was on gross margin.

Can you just give us maybe, Ken, a little bit of an understanding of those three elements that you listed out on what their impact was quantitatively? Particularly, interested in memory price impacts on gross margin. Thanks..

Sure. Good..

Actually, Rod, let me start. And then Ken, why don't you weigh in? So on the first question around growth, goes without saying we're pleased with what we've seen in the first half of the year. We're off to a strong start for 2017.

It certainly gives us confidence that we can meet our objective of achieving revenue growth and earnings growth in 2017 all up. Having said that, with respect to the specific verticals, remain optimistic about Cloud vertical. A lot of focus inside the company at maintaining the momentum in the Cloud.

However, we've always said that the Cloud vertical is going to have some lumpiness. There's going to be a timing of deployment factor that we need to weigh into our overall outlook on a quarter-over-quarter basis. Telco, it's going to be more of the same. I think nothing really changes all that much either in the positive or the negative direction.

The engagement level with our telco customers is very high. And it's all very much around new architectures, new ways of driving service revenues, et cetera. But the new mode of operation, the new build-out that drive these new modes of service delivery are just going to take some time.

So we're not expecting anything materially different in the short term. Enterprise, there actually in Q2, we saw some good momentum with the exception of the federal government. And there, we have to see how the federal government spending plays out for the rest of the year.

But generally speaking, we've done a good job in compensating for weakness in federal government with the broader enterprise. So all up, we remain optimistic about the year, and we're off to a solid start in achieving both revenue and margin growth for the full year. Go ahead, Ken..

I'll touch on gross margin, but before I do, I just want to talk about federal government for a second. It was up sequentially. We did see year-on-year decline in federal government. So Rami's comments about the broad enterprise really carrying the day from a year-on-year perspective is spot on.

But we did see some sequential growth in the federal government space in Q2. On a gross margin perspective, the three factors that we outlined last quarter are the same three factors this quarter. It really is customer mix, as we expand our footprint with certain strategic customers, particularly in telco, cloud in Asia Pac region.

The second one being product mix, as I already talked about the Switching being a very profitable business for us. Obviously, we're very pleased with the performance of that technology. It does come with a slight drag to the margin percentage. And last but not least was the DRAM memory pricing, you mentioned, Rod.

We don't break out the exact specifics, but I can say that all three were relatively proportionate and they're kind of factors as headwinds to margin.

The one that was probably a bigger headwind than we anticipated when we set the midpoint of the guidance, the one that's the reason why we're on the low end of the guidance, if you will, would be the customer mix.

We definitely saw some opportunity to take down some deals, expand our footprint in certain parts of the world that we think are going to be in the long term best interests of the company. And given that we're able to deliver the revenue and earnings expansion that we were focused on, we went ahead and did that in Q2..

Our next question comes from Simon Leopold of Raymond James. Please proceed with your question..

Great. Thanks for taking my question. I wanted to get one quick clarification and then more of a general thematic question. In terms of my – the thing I want to clarify is it appears you've given us implied Q4 guidance, since we have Q3 and a full year bogey at sort of the midpoint at 3% to 6% range.

And that would imply that Q4, we would see perhaps a slight year-over-year decline in revenue of 1% or 2%. I just want to make sure I'm doing my math correctly. And if so, it would really help us get an understanding of why you see that kind of year-over-year deceleration.

In terms of a more thematic question, I want to delve a little bit into the longer-term trends of Routing. This quarter was relatively flat year-over-year. And it does appear that within your mix, that 2017 Routing is probably going to decline overall and was a little flat – or roughly flat in 2016.

When do you expect the routing market for you and for your headers to turn more sustainably positive and begin to grow again, because we believe traffic continues to grow? Could you help us understand that longer term trend in Routing as well? Thank you..

Sure, Simon. I'll start with the question about Routing. And then we'll address the first question or the point of clarification you're asking about. The routing market is largely driven by the Telco vertical and the Cloud vertical.

And those are a little bit of a tale of two cities right now where the Cloud is really spending quite a bit on their wide area networks, making sure that their customers for their Cloud services continue to get the optimal experience. And that involves investments in their wide area network.

That's somewhat offset by weakness in the Telco vertical, all up, which is obviously significant factor in Routing. So yes, traffic is growing. But there are sort of other factors at play that results in Routing from a revenue standpoint or total addressable market standpoint not growing all that well.

Having said that, I think that there are some things that are going to be happening at some point in the future around metro buildouts, around new modes of delivering services to enterprises that leverage things like new Cloud-managed solutions to connectivity and security that we are very much engaging with our customers on today, difficult to tell exactly when that will result in actual revenue growth for us.

But that said, we're doing everything we can right now to participate in those new modes of spend when they become a reality in the market. The last thing I would say about Routing is there is a big geographic component to this. China is a country that's still investing quite heavily in routing today.

They're driving a lot of the world's sort of wide area traffic growth. And in order for us to participate effectively in that market beyond the level that we are today, we need partnerships.

And there is a, as you know, quite a bit of focus right now by the company on creating partnerships such as the one that we have with Lenovo today, that will enable us to tap into that market as effectively as possible..

Yes, from a second half revenue perspective, as you know, our revenue is largely deployment based, and therefore, it tends to be pretty lumpy. We did provide specific guidance for Q3 at $1.320 billion, which is up approximately 3% year-on-year.

We did not provide Q4 guidance as you mentioned, but we did reiterate that we expect to be within our range, and in fact, near the midpoint of that range. I will say Q4, we expect clearly to be sequentially up. We did have a strong first half this year and we had a pretty strong second half last year.

So the year-on-year growth rates, I would expect to decelerate in the second half as compared to second half of 2016. But I do still expect sequential growth and to be comfortably within our target of 3% to 6% kind of near that midpoint area..

Our next question comes from Simona Jankowski of Goldman Sachs. Please proceed with your question..

Hi. Yes. I just wanted to follow-up on that last point. So as you mentioned, Ken, you did reiterate the full year guidance at the midpoint, which implies Q4 revenue down 1.5%.

And given that just the growth in services alone is going to get you a couple of points of growth for the company as a whole, it does imply a more significant year-over-year decline in products revenue in Q4.

So I guess the question is, is that just conservatism sitting here today in July? Or do you have specific visibility into that quarter? And then the quick other question I had is, as far as your 10% customer, if you can tell us what vertical that customer was in? Thank you..

Yes, I wouldn't characterize it as conservatism, I would characterize it as appropriate. There's a lot of factors to go into our guidance, clearly deal visibility, backlog, deferred revenue, et cetera. And I would also reiterate that we said near the midpoint, so between 3% to 6% is our long-term target. We expect to be near the midpoint.

And I still think that will hold true going into Q3 and Q4 when we get to the full year of near midpoint..

And just to add some color on the first question, Simona, I appreciate the question. Juniper has always been a company that has derived much of its success by focusing on those that operate the world's largest, most scalable networks. And that's certainly true for our service provider on our Cloud vertical.

So, in some sense, due to reasons of strategy where we're focusing as a company, where our strengths lie, and the concentration of where spend is happening in our industry, concentration in our business is not new. I think the timing of deployments just so happened that resulted in a little bit more concentration than usual in the Q3 timeframe.

I'm not prepared at this point to provide any additional details just for reasons of confidentiality about the specific customer though however..

Our next question comes from Tal Liani of Bank of America Merrill Lynch. Please proceed with your question..

Can you hear me? My question is kind of around the question that we had before.

How much of the conservatism in 3Q and 4Q, or maybe 4Q, is related to lower visibility with the big trends that you had in the past few quarters? If I look at the past few quarters, I can generally characterize it by quarters of strong Security – sorry, strong Switching, sorry, strong Switching and strong Cloud vertical.

If you're guiding for Q2 to be down, or implicit guidance, does it mean that you have less confidence with these two big drivers? And can you elaborate on the sustainability of growth trends within these two drivers? Thanks..

So, Tal, I appreciate the question. We're just off to a really solid start this year. I think, as you saw in the Q2 timeframe, we sort of hit the high end of our revenue range. Part of that had to do with sort of just timing of deployments of big projects that we have been working on.

There is no change to our confidence in terms of our strategy, our ability to execute, our products that we have in the market today and the products that we're working on that we know that will be out in the market in the future. And also our vertical focus, so the Cloud vertical continues to be a really important vertical for us.

I don't think that there's going to be any material slowdown in terms of their need to invest in their networks to keep ahead of the traffic that they are seeing on a yearly basis. But we just have to factor into all of this the timing of those deployments and the timing of the projects. And I think you also mentioned Switching.

Obviously very happy with the Switching performance that we have demonstrated well ahead of our long-term model. I think we've said in the past, and I'll say it again just now, that expecting that level of ongoing outperformance at Switching is probably unrealistic only because the numbers start to get big.

But that said, the new products are doing really well. Our customer adoption is excellent. The feedback that we're getting from our customers and our partners is also very, very encouraging and there is a lot more room for us to grow and take market share in the Switching business..

Our next question comes from Jess Lubert of Wells Fargo Securities. Please proceed with your question..

Hi, guys. Thanks for taking my question. Rami, I was hoping you could help us understand the breadth of the strength you're seeing with the QFX and particularly, the spine portfolio, and perhaps how you're feeling about the sustainability of the trends we've seen the last few quarters.

And would you expect Switching to grow sequentially through the year? And then for Ken, I was hoping you could maybe comment to what degree your cost structure changes as the cloud becomes a bigger piece of your mix.

And perhaps, what gives you confidence you can continue to grow the business over time while only marginally increasing the pace of investment? And to the extent you do need to spend a little bit more, where do you see the greatest priorities?.

Sure, Jeff. Let me start. On the question around Switching, we have expected and we have seen that Switching is in fact the main growth driver for the business.

I expect that to continue with the comment I just mentioned around the fact that expecting these levels of outperformance relative to our long-term model in Switching to – at some point they're going to moderate.

But that said, that's not a comment at all that I think you should take that would demonstrate a lack of confidence in the product, the technology and the market focus. All of that I would say is working really, really well for us right now.

And on the point around spine switches, the main intent of our spine switching products has been to enable us to participate in and compete for net new Switching business, especially in the data center. And that's exactly what they're doing.

So even in opportunities where we're coming in with the spine switches and, of course, our top of racks, the bulk of the revenue that we'd see could be in other areas of our portfolio like in the top-of-rack switching but we would not have an ability to compete or to win without the breadth of that portfolio.

So it's as expected and we're very pleased with the momentum thus far. And I think it will continue in terms of being a growth driver for us for the rest of the year and for the foreseeable future..

Yeah. And as it relates to the cost structure, as the shift to the cloud momentum continues, I would say, I mean, the first thing I'll note is we have a highly leveraged R&D organization. So Routing, Switching and Security is highly leveraged across most of our engineers and what they bring to market in those areas.

We'll continue that leverage and the cloud is really – as we deliver products to the cloud, it should be right in our sweet spot of Routing, Switching and Security. So there's a tremendous amount of leverage there.

From a go-to-market perspective, we already have, as you can see from the results, a very successful strategy in winning with the cloud providers and the go-to-market coverage model there is actually quite efficient as compared to, let's say, a broad channel coverage model as an example. So that's something that we'll continue to see going forward.

From a, would will we invest more, I mean, there's a lot of areas, a lot of emerging technology areas that we're continuing to invest in now. And I could see that investment step up over the years as we continue to evolve into new architectures, new kind of software areas of focus that we've been talking about for quite some time..

Our next question comes from Aaron Rakers of Stifel. Please proceed with your question..

Yeah. Thanks for taking the question. I wanted to ask about product cycle. I know that in late June you launched your Cloud-Grade Networking platforms.

I'm just curious of how we should think about the cadence of that product cycle? And when do you believe and how material do you believe that product cycle should be maybe looking out over the next couple of quarters?.

Yeah, Aaron. Let me address that. So Cloud-Grade Networking includes a number of different sub-products. One of them is really around this concept of a Universal Chassis. Ken just talked about how we as a company are operating and executing with far more efficiency. It's true in our engineering group, it's true in other parts of our organization as well.

Well, one of the ways in which we're achieving that is by developing fewer products that address a broader market opportunity. This concept of a Universal Chassis has the ability to address a number of routing or switching use cases.

And it adds tremendous value for our customers because it gives them an ability to evolve their deployments, their investment protection to address a variety of different use cases as their business requires it. The Universal Chassis, the first iteration of it is in the market today.

It's a product that supports both routing and switching, and eventually will also support edge routing capabilities as opposed to just core routing capabilities.

And while it's still early, typically these things take a couple of quarters, maybe nine months to get to revenue, I do expect revenue for this first iteration of Universal Chassis in the second half of this year. And of course, the innovation engine continues to crank.

So across Routing, Switching and Security, you can expect that there's going to be a number of new products that will continue this ongoing cycle of refreshes, and of course that will help us in maintaining the momentum that we've seen thus far over the last couple of years..

Our next question comes from James Faucette of Morgan Stanley. Please proceed with your question..

Great. Thank you very much. I have a couple a (34:49-34:56)....

Hey, James, you're cutting in and out. We can barely hear you..

Thank you.

Is that better?.

Yes, much. Thank you..

I just had a couple of higher-level strategic questions. First, with the appointment of Bikash Koley as CTO, clearly it seems to be enhancing Juniper's Cloud and hyperscale chops, if you will. So I'm just wondering what you hope that Mr.

Koley and his leadership will bring to improve like the product portfolio for your traditional Telecom and Enterprise customers. And I guess along the same lines of long-term view, you've talked recently about how you're modifying your Security portfolio.

But we've started to see a lot of the private security assets that are in the market snapped up, and with your capital return coming in, I was just wondering if you expect to have to be able to do everything internally or if you still think there's room to acquire new technologies and teams as you continue to develop your security capabilities.

Thanks..

Thanks, James, both good questions. First on the appointment of Bikash Koley as CTO, very, very happy with this hire. Just as a reminder, Bikash hasn't actually joined us yet, but we anticipate that he will in the next month. What he brings to the table are a number of different things, but I'll just sort of summarize it in a couple of different ways.

First and foremost, you know that we have over the last couple of years, really honed in our strategy on what we believe is the biggest trend that is impacting our industry. And that is the Cloud. It's by no means saying that this means that it's just around the hyperscalers or the cloud operators.

Cloud is in fact an architectural evolution that's becoming a way of life across every vertical that we participate in today.

And all of our customers in these verticals, whether they be Telco, Cable, Enterprises, government and of course the hyperscalers are looking for real leadership from a product direction, from a services direction that helps them to make this transition to a cloud architecture that helps them become far more agile and to save money, just as the hyperscale providers have demonstrated can be possible.

And of course, Bikash has been a part of that at his current employer, Google. Secondarily, I believe and I've always believed that having real technical knowledge, not just in the products themselves, but in the operation of products and the operations of networks, allow you to develop better solutions for your customers. And Bikash has that as well.

I mean, he has now spent a number of years running what is a large network. And that knowhow helps us in developing better solutions, I think, for all of our customer base. Moving on to the question around Security, so yes, we would look to both organic or inorganic.

But quite frankly, the focus right now on Security has been on achieving stability and returning to growth. And that means a lot of organic work execution that's necessary to turn around this part of our business.

We continue to enhance our product offering with recent emphasis on the enterprise and the mid-range where we actually start – have started to see some momentum. We are getting positive data points from customers, from partners. We're seeing some geo specific momentum so, whereas, EMEA was a bit of a challenge for us in the Q2 timeframe.

Actually there was momentum in Security in EMEA, which gives us some confidence that we're innovating in the right way. And very importantly, Security has become a critical element of some of these future modes of engagements with our customers.

So as we talk to our customers around SD-WAN, for example, one of the really differentiating attributes of our SD-WAN solution is that it has Security embedded. So while we're starting to win opportunities in the SD-WAN space, we haven't yet seen the revenue that will help the Security number, which I anticipate we will start to see in the future.

Once we get the stability, I think, yeah, there is certainly a possibility for us to start to look at inorganic approaches to accelerate the momentum in our business. But we're taking a deliberate, methodical approach right now to this part of our business..

Our next question comes from Mitch Steves of RBC Capital Markets. Please proceed with your question..

Hey, guys, thanks for taking my question. I did want to return back a little bit to the strategic angle, because I think this is the first time in a while when the net cash balance has gone up three times in a row. So it seems like you have quite a lot of flexibility to go after a new asset.

So I'm obviously not looking for names here, but can you maybe talk about what type of technology you guys would be interested in at this point?.

Well, so if you look at – what we've done just historically, we've made a couple of acquisitions in the optical space. We believe there is an architectural inflection point where customers can achieve vast levels of cost efficiency by managing and operating their networks across packet and optical.

And then the last one was a company called AppFormix, which is around automation, in particular, in the cloud data center, but has much broader applicability than that. And that would be sort of indicative of what you might expect in the future as well. I just mentioned Security.

Even in the domain of Security, I think any sort of inorganic activity that we would contemplate or explore would be more around the new modes of security, not so much of around sort of the physical perimeter firewall which is current mode.

New mode is around enabling customers to migrate to public clouds or to hybrid cloud offerings without compromising their data, their users, their workloads. I think, there's quite a bit of innovation right now in the industry in that domain and that would be an area that we would consider as well..

Our next question comes from Mark Moskowitz of Barclays. Please proceed with your question..

Yes. Thank you. Good afternoon. I wanted to build off of the Cloud theme throughout the earlier questions, in terms of understanding dual sourcing.

Do you think that Juniper is benefiting from just the general tide rising? Or are you seeing clouds now articulate their dual sourcing or even triple sourcing of certain product? And then, kind of the offshoot of that question is, is your Security portfolio as it stands today, kind of, building off of James's question, is it inhibiting any sort of further penetration at certain cloud accounts because of holes in the portfolio? Thank you..

Mark, first, I want to understand a little bit more about your first question. When you say dual sourcing, are you talking about the intent of cloud providers to dual source their....

Two vendors..

To have, yeah....

The dual vendors, dual – two vendors..

Yes. I mean, the Cloud vertical for us is not a new vertical. I mean, we have been in this vertical now for as long as I can remember. And we have been, sort of, intimately tied down at the engineering level with our cloud customers now for a number of years. And it's always been a very competitive environment.

So, by no means do I ever feel like there – that we don't need to be on our toes. We're always having to demonstrate to them how we're innovating in ways that are very, very specific to the kinds of network that they're building out, the operational models that they want to deploy, the telemetry capabilities that they want, et cetera, et cetera.

And yeah, some of them do have sort of an internal strategy to go to dual vendor – dual vendors to procure that technology. But even in those circumstances, our goal is to always get the lion's share by demonstrating that we can perform better or innovate in a more appropriate way for their business.

On Security, and I think, the question was around whether we're driving Security products in the Cloud vertical. And that certainly is the case, but I will say that different cloud providers have very different security requirements and security models that they deploy inside of their networks.

In some cases, they believe in the big iron that sits at the edge of their data centers, for example, and secures traffic going in and out of those data centers. For that, we have a fantastic product, our high-end SRX. But that business will be very lumpy from quarter-to-quarter depending on where the deployments are.

In other cases, it's really more around securing through micro segmentation inside of the cloud network. And that's really more around a software approach to security, and that's more of an emerging opportunity for us at Juniper..

Our next question comes from Kulbinder Garcha of Credit Suisse. Please proceed with your question..

Thank you. I just want to clarify what's the thinking on gross margins.

What's the confidence that for the corporate levels that we're at a floor for the long term here (45:02)? Apart from software rising in the mix, the product mix that's going on, what other factors should we think about? I think 62% (45:09) do you think, or are there other factors to think about over the next 12 months? Thanks..

Yeah. So we did, obviously, guidance for Q3 at 62.0%, plus or minus 0.5 point. For the full year, I still expect the gross margin to be in that 62% to 63% range that we talked about on the last call. That's really the line what we expect, and we still continue to focus on earnings expansion.

And I expect earnings to expand actually at a faster rate than revenue for FY 2017. So that's something we're very focused on for this year, kind of, despite some of the gross margin headwinds that we're seeing.

From a longer term, I'm not going to provide guidance beyond this year, but I will say that there's a tremendous amount of focus internally on gross margin. Clearly, it all starts with the right product and innovation and product differentiation.

And that's something that Juniper really has historically been our strong suit and that will continue to be our strong suit going forward. So making sure we provide the right products at the right price point is something we'll continue to drive.

There's opportunity within our cost structure, we've been working on it for the last couple of years, but I still think there's some opportunity to get our cost structure down particularly in the area of designing for value, making sure that we're spending some of our technical resource on not just features and performance, but also some of the cost drivers that matter to our customers today.

And last but not least is the software business, which we mentioned on multiple times. In addition to all this focus on gross margin, we're going to continue to be very focused on OpEx management and overall profitability and that's really what's driving a lot of our business decisions today..

Maybe, Kulbinder, it's worthwhile just summarizing the areas of focus that we currently have with respect to gross margins. First, there is opportunity when it comes to value engineering. And there is a concerted effort right now in the company to optimize our products for cost of goods sold in a way that will help gross margins.

Secondarily, I mean, Ken has mentioned how we've gone after strategic customer insertions in particular in APAC, and we need those to pay off over time. Third, there's innovation. And one of the questions I was just asked around where are you contemplating inorganic moves, one area I did not mention is the area of silicon photonics.

The primary reason is because we believe that there is an opportunity there through innovation to achieve better cost of goods sold from an optical standpoint. And last but not least, it's around business models and it's around software. It's around selling the value through Contrail, virtual security, SD-WAN.

All of these emerging opportunities I think have the ability to not just help top line, but to also help gross margins. But they're largely going to be gated by how fast the industry moves. Now, we're out there sort of really selling the value to our customers.

We're encouraged by the wins that we're getting, but it's sort of the timing of the benefit is not 100% clear at this point..

Our next question comes from Jim Suva of Citi. Please proceed with your question..

Thank you very much. I know gross margins has been a key topic, and I think that's because investors are so focused on the year-over-year declines, yet the revenues increases. So revenue's going up which is great. Margin's coming down and is a concern for investors. So I have two questions, one on that and then one just on the Security side.

So on the gross margins, are we at a level now where gross margins are going to stop going lower or is it more mix-dependent and they potentially could go lower strategically as you look forward to the future? And I do understand the three things you laid out, but I'm just kind of thinking about this bigger picture.

Then my second question is on Security, it was down 12% year-over-year. You laid out some (49:17). How should we think about security going forward? Should we kind of expect that to decline going forward until those holes are plugged? Or why are revenues growing yet your Security is declining? Thank you..

Jim, let me start with the Security question first. So, I outlined the main areas of focus. I also provided some of the data points that we are now picking up on that give us some confidence that the work that we are putting in is going to pay off for us.

I believe the second half and in particular Q4 would be sort of a quarter that I would expect to start seeing some year-over-year growth in the security market. So that's how I view the opportunity right now in Security and how we are expecting the rest of year to pan out.

And Ken, do you want to talk a little bit more about gross margins?.

Yeah. Sure. So as you mentioned, Jim, there's a balance that we're trying to achieve here. So clearly, revenue growth is one of our highlights for the first half. We were up 9% for the first half, 7% for Q2, 11% for Q1. That did come at a gross margin decrement, but overall, we're growing gross profits.

And gross profits really lead to earnings expansion, and that's really where we're focusing as a company. We had very strong earnings expansion in the first half, and I continue to see earnings expansion for the full year.

From a where is margin headed, we did talk about 62% for Q3 guidance, because we expect similar dynamics that we saw in Q2 to persist in Q3. And since the revenue levels are similar, we'd expect the margin levels to also be kind of similar in that range.

Beyond that, we've already mentioned all the initiatives to work on gross profit going forward and gross margin going forward, but we aren't providing any guidance beyond the FY 2017 kind of color that we've already provided.

It's hard to say – given the dynamic nature, it's really difficult to have visibility into gross margins beyond kind of the next couple of quarters at this point..

Our next question comes from Paul Silverstein of Cowen and Company. Please proceed with your question..

Thanks. At the risk of never being allowed back in the queue, I've got a couple of questions for you. One, I appreciate all the questions with gross margin, but I've got a very simple question.

What is the rate of price erosion year-over-year all in? Secondly, within the Cloud, and I appreciate the mix you've been giving on customers, but within the Cloud segment, can you talk about the mix between Tier 1 cloud titans versus the bulk of the cloud, and also the product mix within Cloud? And finally, the exact 2H, where 2H falls out for the year in terms of revenue, how much of that second half dollars is (52:09) influenced by that 10% customer or I assume somewhat lumpy nature of cloud projects in general? I appreciate it.

Thank you..

Okay. Paul, let me start with the second one, the Tier 1 versus broader Cloud. We don't break it out, first of all, but I will say the following. Our penetration in the Tier 1s from a Routing standpoint is one that has been in place now for a number of years.

So we've certainly had way more runway and way more of an ability to achieve the kinds of penetration across our Tier 1 Cloud customers in the Routing space more so than we've had on the Switching side of things. In Switching, we view it as more of an opportunity.

We certainly have a strong Tier 1 presence in Switching, but we have less market share and penetration than we do in Routing. And, therefore, that's certainly a potential growth area for us.

In the meantime, I think what I have said on this call in the past is that there is a broader opportunity in the cloud space, not necessarily with the hyperscalers, but the broader cloud market when you look at SaaS providers, regional cloud providers, telco cloud that's here now that we are benefiting from.

I mean, a lot of our business momentum in fact is from that tier of cloud provider. And I think that's a very healthy thing. Price erosion, again, is not something that is easy to describe without a whiteboard and some slides. We can certainly do something like that maybe at our next Analyst Day. But it's the nature of this business that we're in.

Every time a new port speed is introduced into the market, as it achieves mass adoption, you will expect, as we would do, that pricing will start to go down and it offsets the benefit that you would get from the traffic growth alone in the market.

So all up, the Routing space is roughly a sort of a flattish type of total addressable market from a growth standpoint, but traffic is growing at 40% plus year-over-year. So that would give you an idea of the price erosion that we're seeing in that market space.

In the data center switching side, there of course, there is price erosion just as there is everywhere. However, I think that market is growing at a faster clip than in the data center and that's why we are so focused on data center switching as part of our strategy..

Yeah, and I think you also asked about within the Cloud vertical, the product mix dynamics. And while we don't break out specific products within customer vertical, we have mentioned in the past that the Cloud vertical does have a higher proportion of Switching than say the Telco vertical.

That said, it still is predominantly majority of the Cloud vertical is Routing, as most of our revenue is coming from Routing and that applies to the Cloud vertical as well, but we are seeing Switching become a bigger and bigger piece of that overall vertical historically and I think that will continue going forward..

Our next question comes from Steve Milunovich of UBS. Please proceed with your question..

Thank you. Cisco had some pretty big announcements recently, which I'm assuming you guys looked at and I realize a lot of them are on the campus side, which doesn't affect you. But they did talk about going much more after some of the hyperscalers and having some initial success. They talked about intent-based networking and encryption.

I just wondered, kind of, what your analysis is of their products in terms of how perhaps they affect you, both on the positive and the negative side..

Thank you, Steve. First from the standpoint of hyperscalers, I think we acknowledge that this is a competitive market and especially as we demonstrate the momentum and the success, we can expect that the competitive levels to only intensify.

Having said that, I think it really is just a matter of execution for us, execution from the standpoint of how we engage with them, execution from the standpoint of our innovations and on all fronts, I feel good about where we are and where we're going relative to the hyperscaler opportunity, in addition to the broad Cloud opportunity that is before us.

And as far as Cisco's announcement, I have been now for two or three years talking about automation as being the next big thing in networking. There's a very important reason for that.

If you think about what our customers across every vertical want more than anything else, it is the ability to move fast, to innovate quickly and to do so with a certain level of cost efficiency.

You achieve that by first, providing them with innovative Routing, Switching, and Security products that outpace Moore's Law from an economics of traffic movement standpoint.

But importantly, considering that most of our customers invest far more in the cost of operations than they do in CapEx, the only way to address that problem is through automation.

And for that reason, we've always had a lot of automation capabilities across our platforms, whether it be the automation capabilities of our systems themselves, the API driven nature of those systems, Contrail has a way of automating Cloud operation, AppFormix has an ability to provide machine learning capabilities to create visibility inside of a Cloud data center, our NorthStar Controller is essentially an automation platform for our wide area.

So I think it's good to see our peers in the industry recognize the importance of this trend, and it has been and will continue to be a huge area of focus for us..

Our final question comes from Jeff Kvaal of Nomura Instinet. Please proceed with your question..

Yeah. Thank you very much. I was hoping to stick with Switching a little bit. I think in the past, you have given us some QFX growth rates as a standalone product family. So I'm wondering if that's feasible and then if you could talk around the dynamics if that's shifting at all and what we should expect going forward.

Then the second piece is, EX does end up in some campus environments and that has been up. So, please, help us understand if you think that's sustainable, and that's particularly in light of Cisco's Refresh. Is that likely to impact what you all have going on? Thank you..

Yeah, thanks. I appreciate the question. In Switching, this is pretty consistent with what we've done historically. We don't necessarily break out the performance of all of our specific product lines. And we didn't do that for QFX in Q2.

However, I think it's safe to say that we would not be able to post this type of overall Switching momentum without strong QFX performance. So we're very happy with the performance of our QFX product line in the Q2 timeframe. It's a result of a deliberate strategy and some really solid execution by the team, which I am very proud of.

EX is more of a campus-focus product, although it does see some data center and combined campus data center type of converged build-outs. And we saw good momentum there in the Q2 timeframe as well. Our primary strategy is on the data center, the Cloud, and these larger enterprises that are building out their campuses as on ramps to the Cloud.

And for that, you need a high degree of performance, operational simplicity and automation and I think the EX from all three of those dimensions is an extremely competitive product..

Ladies and gentlemen, we have reached the end of our question-and-answer session. I'd like to turn the call back over to management for closing remarks..

Thank you, Karen. Thank you all for your great questions. As always I want to thank you for those of you who kept your questions to one per firm. For those who didn't, maybe Paul Silverstein, we will talk with you next quarter. Thanks, bye..

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day..