Akamai Technologies Inc (AKAM) — Q2 2023 Earnings Call Transcript

Thank you, operator. Good afternoon, everyone, and thank you for joining Akamai’s second quarter 2022 earnings call. Speaking today will be Tom Leighton, Akamai’s Chief Executive Officer and Ed McGowan, Akamai’s Chief Financial Officer. Please note that today’s comments include forward-looking statements, including statements regarding revenue and earnings guidance. These forward-looking statements are subject to risks and uncertainties and involve a number of factors that could cause actual results to differ materially from those expressed or implied by such statements. The factors include any impact from macroeconomic trends, the integration of any acquisitions, and any impact from geopolitical developments. Additional information concerning these factors is contained in Akamai’s filings with the SEC, including our annual report on Form 10-K and quarterly reports on Form 10-Q. The forward-looking statements included in this call represent Akamai’s view on August 9, 2022. Akamai disclaims any obligation to update these statements to reflect new information, future events, or circumstances, except as required by law. As a reminder, we will be referring to some non-GAAP financial metrics during today’s call. A detailed reconciliation of GAAP and non-GAAP metrics can be found under the financial portion of the Investor Relations section of akamai.com. And with that, let me turn the call over to Tom.

Thanks, Tom, and thank you all for joining us today. I’m pleased to report that Akamai delivered strong results in the second quarter despite the ongoing challenges with the global economic environment and slower Internet traffic growth. Q2 revenue was $903 million, up 6% year-over-year, and up 9% in constant currency. This result was driven by the continued rapid growth of our security and compute businesses, which, when taken together, were up 30% in constant currency. These two business lines now account for 54% of our overall revenue. Q2 non-GAAP operating margin was 29%. Q2 non-GAAP EPS was $1.35 per diluted share, down 5% year-over-year, but up 0.5% in constant currency. As Ed will discuss later, EPS was negatively impacted by foreign exchange rates and a higher effective tax rate compared to last year. Free cash flow was very strong at $223 million in Q2 and it accounted for 25% of revenue. We have been leveraging our financial strength to make substantial investments in enterprise security and cloud computing. We have also used some of this cash to buy back additional stock. In the first half of the year, we spent $268 million to repurchase 2.6 million shares. This puts us on track to go beyond what’s needed to offset dilution from employee equity programs this year. I’ll now say a few words about each of our three main lines of business: security, compute, and delivery, starting with security. Our Security Solutions generated revenue of $381 million in Q2, up 17% year-over-year and up 21% in constant currency. Growth in security was driven primarily by our app and API security portfolio, which includes our market-leading web app firewall, bot manager, account protector, and page integrity manager solutions. Our Zero Trust enterprise security portfolio, led by Guardicore, also performed well in Q2 with numerous significant customer wins. A leading global provider of financial data concerned about ransomware added Guardicore segmentation solution to the seven security products they already buy from Akamai. A major insurance company in France became a new customer for Akamai when they adopted our Guardicore solution to help meet European financial regulations. The sale, led by one of our carrier partners, is indicative of the excitement we are seeing for our Zero Trust Solutions among our partners. Australia’s largest telecom provider, Telstra, expanded their business with us by adding our secure web gateway solution to their portfolio of Akamai products. They told us, 'As part of Telstra’s journey in delivering fit-for-purpose solutions, Akamai has been a key industry partner with network-based anti-phishing malware protection and content filtering. Telstra blocks millions of threats every single day, and Akamai is a key partner in that protection.' Overall, our Zero Trust Solutions delivered $43 million of revenue in Q2, up 59% year-over-year in constant currency. This is an area where we are continuing to make major investments and where we anticipate significant future growth. Turning now to compute. I am very pleased to report that the revenue for our Compute Product Group was $106 million in Q2, up 74% year-over-year and up 78% in constant currency. As a reminder, the Compute Product Group includes Linode and Akamai Solutions for edge computing, storage, cloud optimization, and edge applications.

Okay. Sorry about that, everyone. We are ready to begin the real call. That was the warm-up. I apologize again. And what I’d like to do is introduce our CEO, Dr. Tom Leighton. Just stand by for a minute. Operator, could you put the call on hold for me? We just had a little trouble with technical difficulties on the phone here.

Okay. Thank you, everyone, for your patience today. Again, I apologize for the technical glitch, but we are ready to go. And I’d like to reintroduce our CEO, Dr. Tom Leighton. Tom?

Thanks, Tom, and thank you all for joining us today. Sorry about the production snafu there. Anyway, I am very pleased to report that Akamai delivered strong results in the second quarter, with revenue coming in near the high end of our guidance range and earnings exceeding the high end of our guidance range by $0.07. Revenue grew to $936 million in Q2, up 4% year-over-year, both as reported and in constant currency. Non-GAAP operating margin was 29% and non-GAAP earnings per share was $1.49, up 10% as reported and up 11% in constant currency. As you can see, and as Ed will explain in his portion of the call, our actions to increase profitability are delivering good results. I’ll now say a few words about each of our three main product areas, starting with security, which is our largest source of revenue. Security revenue grew to $433 million in Q2, up 14% year-over-year, both as reported and in constant currency. The improvement in our security growth rate was driven by multiple products, with especially strong growth for our market-leading segmentation solution. We entered the segmentation market with our acquisition of Guardicore in Q4 of 2021, and we are nearing an annualized revenue run-rate of $100 million. At this scale, segmentation is having a bigger impact on our overall security growth rate. Customers are adopting our segmentation solution to help defend against ransomware and data exfiltration attacks, which have become more frequent and damaging. For example, last quarter, we signed a 3-year, $8 million segmentation deal with one of the world’s largest carriers. Large carriers and banks want to protect their consumer data from losses that can damage their brands and trigger large fines from regulators. They also appreciate spending less on legacy firewalls that no longer provide adequate protection. We also saw strong growth in Q2 for our market-leading web app firewall and bot management solutions, where we continue to fare well against the competition due in part to their challenges with reliability and performance. For example, we recently took business away from a competitor, one of the world’s largest micro-blocking platforms. Outages on their former provider's platform made the customers seek a more reliable partner. So they switched to Akamai for their global expansion plan in Europe and Asia. In another example, a leading Asian financial institution recently returned to Akamai, also because of reliability challenges with this competitor’s platform. As we look to the future, we’re also excited about our new API security solution that we announced last week, enabled in part by our acquisition of NeoSec in May. API security is rapidly emerging as a critical need for major enterprises. That’s because, as enterprises modernize their infrastructure to create better digital experiences, they’re making increasing use of APIs to improve developer agility and end-user performance. The problem is that these APIs are often not adequately secured, and they open up new vectors for attack. Our new API security product leverages AI-based analytics and threat hunting capabilities to discover APIs, analyze their behavior, identify vulnerabilities, and help customers defend against attacks. Customers who thought they had 1,000 APIs might turn on API security and discover hundreds more they never knew they had, with vulnerabilities lurking within legacy infrastructure or new applications. This is why banks are establishing API governance groups today, and it helps to explain why IDC and Gartner project that the API security market will surpass $1 billion by 2027. Like our segmentation solution, customers can buy our API security product without being an Akamai CDN customer. These security solutions are CDN agnostic, demonstrating how we can go to market as a security provider first. We also continue to make good progress on the cloud computing front. Akamai is taking a fundamentally new approach to cloud computing, making it fully distributed with many more points of presence that are available with traditional solutions. By leveraging Akamai’s unique platform and capabilities, we believe that we can offer enterprises better latency, better performance, automated scalability, and portability, and reduce costs, especially for applications that incur high egress fees with the hyperscalers. Since our call with you in May, we’ve gone live with three new cloud computing sites in Washington, D.C., Chicago, and Paris, and we plan to open 10 more later this year. These new sites are part of our plan to connect compute, storage, database, and other services into the same platform that powers our edge network today, a massively distributed footprint that spans more than 4,100 locations and 130 countries. Last month, we also announced a doubling of the capacity of our object storage solution, a new premium instance for large commercial workloads that are designed to deliver consistent performance with predictable resource and cost allocation and our plan to launch in beta the Akamai Global load balancer later this quarter. This new integrated service is designed to route traffic requests to the optimal data center to minimize latency and ensure no single point of failure. We believe that the Akamai connected cloud will be ideally suited for applications that benefit from being closer to end users. For example, in e-commerce, our customers want to tailor their online shopping experience to the individual user. They also want the better performance you get by being closer to the end user because better performance translates into higher conversion rates. In video and gaming, our customers want the game engine closer to the end user to reduce latency and tailor experiences based on the user’s device type and connectivity. In AI, the basic models will be generated and trained in the core. But the inference engines, which generate alerts and responses to queries will be more efficient to run at the edge, where and when they’re needed. The cyber attackers exploit advances in AI to create more forms of malware and more dangerous bots, and more security will be deployed at the edge to intercept attacks before they can reach and swap a customer’s data center in the core. In all these areas, our customers also want the ability to spin up instances to handle flash crowds on demand, something that’s very hard to do with competing cloud solutions. In summary, we believe that next-generation applications will need next-generation cloud infrastructure and Akamai is charting the course for this next decade of cloud computing when more of the compute will be done closer to the end user and where we believe our platform will have an important edge over more centralized models. Turning now to content delivery, I am pleased to report that we continue to be the market leader, providing industry-leading performance and scale as we continue to support the world’s top brands by delivering reliable, secure, and near flawless online experiences. We enjoy a strong synergy between our delivery, security, and cloud computing offerings as we power and protect life online. The synergy is both on the top line as long-time delivery customers buy our security and cloud computing products and also on the bottom line as we realize the cost benefits of using a single infrastructure to provide security and compute services as well as delivery. Overall, I am pleased to see that Akamai performed well in the first half of the year. Despite the macroeconomic challenges, we continue to invest in the key areas that we expect to drive our future growth while also taking actions to improve our profitability. Now I will turn the call over to Ed for more on our Q2 results and our outlook for Q3 and the full year. Ed?

Thank you, Tom. Today, I plan to review our Q2 results and provide some color on Q3, along with our increased full-year 2023 guidance. I’m pleased that Q2 was another strong and very profitable quarter. I’ll have more to say about our double-digit EPS growth in a moment. First, let’s discuss revenue. Total revenue for the second quarter was $936 million, up 4% year-over-year. In the second quarter, Security revenue was $433 million, growing 14% year-over-year. As Tom mentioned, security revenue was driven by strong demand for our web application firewall, slot management, and segmentation solutions. Moving to compute, revenue was $123 million, growing 16% year-over-year as reported and 17% in constant currency. On a combined basis, our security and compute product lines represented 59% of total revenue, growing 14% year-over-year and 15% in constant currency. Shifting to delivery, revenue was $380 million, declining 9% year-over-year as reported and 8% in constant currency. International revenue was $456 million, up 7% year-over-year and 8% in constant currency and now represents approximately half of our total revenue. Foreign exchange fluctuations were flat on a sequential basis and negative $6 million on a year-over-year basis. Moving now to profitability. Non-GAAP net income was $228 million or $1.49 of earnings per diluted share, up 10% year-over-year and up 11% in constant currency. The strong EPS results exceeded the high end of our guidance range by $0.07 and were driven primarily by higher revenues, and savings from the headcount actions we took earlier in the second quarter, and continued progress on our cost-saving initiatives. As a reminder, those cost-saving initiatives include third-party cloud savings, rationalization of our real estate costs, depreciation expense, and other operating costs associated with lower CapEx related to our delivery business, disciplined spending with vendors, and tighter travel and expense policy management. With respect to third-party cloud spend, I’m pleased to report that for as long as we tracked this expense, Q2 was the first quarter where total third-party cloud spend declined year-over-year. While the decline was relatively modest, it reflects disciplined vendor management as well as the beginning of savings related to the migration of our workloads onto our own cloud platform. This migration effort to move away from third-party clouds is in the early stages, and we are seeing promising signs. For example, our bot management solution is now running production workloads for hundreds of customers on our own cloud computing platform. As a reminder, we anticipate that the amount of savings we will be able to achieve will start to ramp through the end of 2023 and into 2024 as we bring online the needed capacity and features. Moving to margins. Our cash gross margin was 73%. Adjusted EBITDA margin was 41%, and our non-GAAP operating margin was 29%, slightly ahead of our guidance. Moving now to cash and our use of capital, as of June 30, our cash, cash equivalents, and marketable securities totaled approximately $1 billion. During the second quarter, we spent roughly $137 million to repurchase approximately 1.6 million shares. We now have about $700 million remaining in our previously announced share buyback authorization. Our approach to capital allocation remains the same: to opportunistically buy back shares to offset dilution from employee equity programs over time while maintaining sufficient capital to deploy when strategic M&A presents itself. Finally, I am pleased to announce that Akamai has obtained investment-grade credit ratings from Moody’s and S&P. These ratings are part of a broader financial policy to further reinforce our business and financial strength, not only with investors but also with customers, vendors, and other parties that we engage with from a commercial perspective. The credit rating also broadens our financial toolkit, allowing us to evaluate all available financing instruments to determine what’s best suited for our financial goals. Finally, as a reminder, Akamai currently has two convertible debt instruments outstanding, $1.15 billion due in May 2025 and $1.15 billion due in September 2027. Before I provide our Q3 and full-year 2023 guidance, I want to touch on some housekeeping items. First, our annual merit-based wage increases became effective July 1. This will result in an additional net operating cost of approximately $12 million per quarter. Second, in late July, the IRS released a notice that granted temporary relief for determining eligibility of foreign tax credits. This will result in a lower-than-expected non-GAAP effective tax rate in Q3 and for the full year. Finally, the guidance I will provide assumes no change, good or bad, to the current macroeconomic environment. So with those factors in mind, I’ll turn to our Q3 guidance. We are now projecting revenue in the range of $937 million to $952 million, or up 6% to 8% as reported and 5% to 7% in constant currency over Q3 2022. The current spot rates foreign exchange fluctuations are expected to have a positive $1 million impact on Q3 revenue compared to Q2 levels and a positive $10 million impact year-over-year. At these revenue levels, we expect cash gross margins of approximately 74%. Q3 non-GAAP operating expenses are projected to be $297 million to $302 million. We expect Q3 EBITDA margin of approximately 42%. We expect non-GAAP depreciation expense to be between $121 million to $123 million, and we expect a non-GAAP operating margin of approximately 29% for Q3. Moving on to CapEx, we expect to spend approximately $162 million to $170 million, excluding equity compensation and capitalized interest in the third quarter. This represents approximately 17% to 18% of our projected total revenue for the third quarter. Based on our expectations for revenue and costs, we expect Q3 non-GAAP EPS to be $1.48 to $1.52. The EPS guidance assumes taxes of $42 million to $45 million based on an estimated quarterly non-GAAP tax rate of approximately 16%. It also reflects a fully diluted share count of approximately 155 million shares. Looking ahead to the full year, we have increased revenue to a range of $3.765 billion to $3.795 billion, which is up 4% to 5% year-over-year as reported and in constant currency. At current spot rates, our guidance assumes foreign exchange will have a negative $4 million impact on revenue in 2023 on a year-over-year basis. We are also raising our security revenue growth expectations to 12% to 14% for the full year 2023 and we continue to expect to achieve approximately $0.5 billion in revenue from compute in 2023. And despite a significant year of investments, we are estimating non-GAAP operating margin of approximately 29%. With all that in mind, we have raised our estimated non-GAAP earnings per diluted share to a range of $5.87 to $5.95. Our non-GAAP earnings guidance is based on a non-GAAP effective tax rate of approximately 17% and a fully diluted share count of approximately 155 million shares. Finally, our full-year CapEx is expected to be approximately 19% of total revenue.

In closing, we are very pleased with our financial achievements for the first half of the year, in our ability to increase our overall revenue, security revenue, and non-GAAP EPS guidance for the full year. We believe that Akamai is a special class of business that has the ability and discipline to invest in future revenue growth while continuing to be extremely profitable and generate significant cash flows. With that, we now look forward to your questions.

Hi, guys. Congrats on the quarter and the security developments. And speaking of security, how should we think about the bookings heading into Q3 for this segment or the bookings related to us? And really, the crux of my question is just trying to understand the sustainability here and understanding we’re raising by two points for the full year. Just kind of give some color around the confidence for the year is really what I’m asking.

Hey, Jim, thanks for the question. This is Ed. I’ll take that one. So I would say we had two back-to-back very strong quarters of bookings. That was very encouraging. And we also saw strength. If I look at my sequential growth quarter-over-quarter, we actually saw all three major product lines accelerate. So we saw growth in API and protection; segmentation was very strong. Guardicore was extremely strong in the quarter. And even the infrastructure business still has some hangover effect from the attacks we saw earlier on. So all those product lines grew sequentially quarter-over-quarter. In terms of the customer penetration, if I go back to Q4 and look at where we are now, we saw about a 2.5% increase in customers buying a security product, up to about 75.5%. So we’re seeing great penetration in the installed base. Just one other sound bite for you. We now have about 700 customers who are buying four or more products in security. So we’re seeing really good strength with new customer additions and bookings across all product lines. And then just another thing on segmentation. When we’re seeing renewals with segmentation, we’re seeing those renew very favorably and generally with expansion orders included.

Helpful. And then, Tom, maybe for you on the compute side. How are you guys looking to invest behind the GPU as a service side of Linode? Is this something your customers, particularly your large media customers, are looking to deploy with you, or do you see that as more reserved for the hyperscalers, and so you’re going to be more focused on that AI inference opportunity? Thanks, guys.

Yes. We do support GPUs today. It’s not our primary focus, and that’s just a financial decision. I would say gaming is more where you’d see that with our big media customers doing video and media workflow; CPUs are just fine and much more economical and attractive there. In terms of AI, I think over time, probably that migrates—at least in terms of the inference engines—migrates to CPU as well. I think that, over time, as we talked about, probably something you want to be doing at the edge. But we’re fully capable of supporting GPUs. We do that some today, really based on demand from our customer base and financials.

I wanted to follow-up on the security question in the security business. We got a reacceleration this quarter. I just want to understand, like, some of the drivers behind that, whether you’re seeing a better spend environment. It sounded like the bookings were pretty solid. Is it sort of sales execution? Or are you seeing sort of like newer offerings like Guardicore sort of reach material scale to drive that sort of dollar growth on a year-over-year basis? I was wondering if you could sort of unpack the strength in security and what it could portend for future quarters.

Yes. Ed talked to that somewhat. Let me just give some additional color there. It’s still a challenging spend environment in general. So I would have said that’s changed a lot. We are getting strong sales execution, and security is really important. And as we’ve talked about before, in this environment, financial institutions, they just can’t afford to have a glitch. This is where our reliability really helps and stands out against the competition. They can’t afford to get hacked. Again, we stand out there because we have the market-leading solutions for web apps, firewall, and for bot management. We’re really seeing strong growth with Guardicore, as Ed talked about. What we’re seeing in the marketplace is there’s good tailwinds there. Particularly now you have Generative AI and there's already the tools out there, the variance of that to produce more malignant bots to morph malware, so it’s harder to detect. You can train the bots pretty easily to get around a lot of the firewall defenses. I think you’re going to see more penetration of the traditional defenses. At that point, what you really need is Guardicore to identify when you are penetrated and where, to proactively block the spread. I think you’re going to see more demand for segmentation, which is really the critical defense going forward.

I appreciate the thoughts, Tom. And just as a follow-up, sort of toggling to the delivery business. Just want to get an update, and you guys have talked about this before, but I just want to get an update on sort of the operating principles and the operating philosophy around the delivery business with respect to sort of managing for sort of revenue share versus harvesting for profit to fund investments in the compute business, given the ambitious road map you have there? What sort of the right way we think that you guys are going to strike that balance between those two objectives?

Yes. It really comes down to price and profitability. As we’ve talked about, we have turned down business that is very spiky, and we don’t get what we think paid enough to do it. We’ve left that to others to take. Meanwhile, we're growing the highly profitable delivery business, the core business there. I think we’re starting to see some positive signs there. Traffic growth is not where it was before the pandemic, but getting better. We’re seeing some acceleration there, which is good. Price declines, I’d say, are softening a little bit here. I’m optimistic that over the next one to two years, we should see more of a stabilization of that business. Still price pressure, but I’m pleased with the progress we’re making there and strong cash generation.

Great. Thanks for taking my question. Tom, maybe just to stay on the security side of things. Last quarter, you mentioned actions you were taking on the go-to-market side in security. You mentioned execution as part of the driver of security reacceleration. I’m wondering if you could provide more color on the sort of go-to-market changes that might be working here. We’ve been hearing that Akamai has been more successful in engaging traditional security resellers recently. Has that helped drive an acceleration of growth here at all, or is that still too early and maybe a contributor into the future?

Our partners are very important for security sales. In fact, some of our products are partner-only, for example, segmentation. I’m very pleased to just recently announce a partnership with WWT that will be bundling in our solutions for segmentation and API security. That kind of partnership is obviously very helpful for us in driving a lot of the improved execution. We also have dedicated resources for some of the newer and more advanced security services like segmentation, and I think that helps with sales. We’re seeing customers—new customers to Akamai, which is great—and also upselling our solutions into the existing base. As Ed noted, now 700 customers buying four different security solutions.

No, I think you covered it. We’ve made a lot of the investments already, so there’s not a big investment needed in the sales overlay functions. Very happy with that. A lot of the new customer acquisition is coming from Guardicore. They’re actually getting penetration in some verticals that aren’t traditionally strong. Like this quarter, we saw some wins in education, state, and local government, manufacturing, and pharmaceutical places that aren’t typically very big web properties and are typical CDN customers. We’re seeing really good execution across all parts of security—direct sales, the overlay teams in the channel.

Great. That makes sense. Maybe as a follow-up, Ed, I know Guardicore and some of your other businesses could have some upfront license deals that could contribute in any given quarter. Was there anything to call out from an upfront license recognition in the quarter in security, in particular, that might not be repeatable that we should just know about? And is there any renewals that might be coming up in the back half of the year that we should be aware of?

Yes. So nothing material this quarter—a couple of million bucks—but nothing material. It’s over a couple of points, I call it out, so nothing there to call out. One thing I will say, though, with the licensing we do with Guardicore in particular, it’s term licenses, so it’s generally two to three years typically. Those license deals were new, and one of the comments I made earlier is that we are seeing very strong renewals. So when those license deals come up, we are seeing renewals typically with expansion orders, which is really encouraging. So you have somebody who’s renewing and then adding on more protection across their internal infrastructure. But nothing to call out this quarter.

Great. Thank you. On the delivery business, can you talk to us about any impact you think you might see from the writer's strike? Do you think is that factoring any of that in the decline? And then just comment on the sort of the sequential change in the business there. What’s sort of the outlook there for the rest of the year? Thanks.

Hey, Brian, this is Ed. From the registry, I wouldn’t anticipate any major impact from that, certainly not hearing anything from our customers there. Obviously, that might potentially impact new releases, which could take a couple of years to get out. But I’m not seeing anything there. In terms of the second part of the question, what are some of the fundamentals and what we’re seeing. As Tom talked about, we are seeing traffic growth rates improve. It’s going up a couple of points a quarter. Pricing is still a bit challenging in some of the old web performance verticals in commerce and a little bit in travel. But we’re seeing with the larger customers—big media, traditional media customers—pricing starting to abate a bit there. Still, pricing declines were not nearly as steep. I think its profit continues to improve, and we obviously have Q4 coming up in a few months. Q4 always tends to be a generally strong quarter for the internet as kids go back to school and new gaming consoles are sold and connected devices and all that stuff. It also tends to be pretty popular with new TV series and sports and whatnot, and it’s optimistic that traffic should continue to improve. As Tom talked about, hopefully, we’ll get this business back to stable in the next year or so.

Alright. Great. Are you seeing any more vendor consolidation like we saw earlier this year with some of the larger media companies?

There is one probably real notable one that went from five vendors down to two, and we were a leading provider there and did pick up some additional shares. So, we want the ones who won there, but nothing really notable this quarter. That happened, I think, at the end of last quarter.

Hi. This is RD on for Mark Murphy. Thanks for taking the question and congrats on the quarter. Start off, you mentioned earlier that you expect to see stabilization in the delivery market over the next couple of years. Can you describe what trends you are seeing that kind of lead you to think that?

Sure, I will take this. Tom, if you want to add something. So, I think it’s really in the delivery business, it comes down to pricing and traffic growth rates. We are starting to see traffic growth rates improve, and also comps become a little bit easier. The other thing is we talked about moving away from some of the peak year business. What that will do is improve profitability. The delivery business, to us, is a really strategic asset. It enables us to get really great economics, which will help our cloud business delivery functioning as a cloud in a lot of ways. Also for our security business, which enables us to get the reach, the scale, and the data for security. It’s obviously a very strategic business. In terms of stabilization, I would say we are seeing pricing moderate, especially with the larger customers, which is a good sign, and traffic improving a bit. If that continues, we should be back to hopefully a stable plus or minus a couple of points would be great. But I think one thing that the macroeconomic environment is causing a little bit of churn or challenges in some of the traditional web verticals like commerce. That’s going to have to work itself out as well, and that may take a year or so for that to work its way out. But I think as we see traffic growth and pricing stabilize a bit more, we should be in pretty good shape.

Yes. The only thing I would add is that in this environment with higher interest rates, and money is harder to get, there is a little less enthusiasm for investment in the lots of CDNs out there that are losing money. As Ed noted, Akamai is in a unique position that we generate a lot of cash from our delivery business. We are the market leader—we do it better than anybody. The smaller companies that were okay losing money before, that’s not so easy to do now. I think that does help maybe the overall environment a little bit, and we will see how that plays out over the next year or two.

That’s very insightful. Thank you. And then with regards to Guardicore, it seems like you guys are having a bit of momentum on that front. Any changes in the competitive landscape win rates—anything along those lines?

Yes, it’s gotten more favorable for us. Our lead over the competition has widened as we’ve made a lot of investments in Guardicore to improve its capabilities. We’re now recognized by the analyst community as the market leader by a wide margin, and that’s very good timing because that capability is an increasing need with major institutions. The competitive environment has become more favorable for us because of the work we have done to make it a great product.

Hi. Wonderful. Thanks so much for taking my questions, guys. Nice to see the security reacceleration this quarter. I had a two-part question I wanted to ask about the compute business. First, can you talk a little bit about how some of your product investment in terms of getting Linode to be enterprise scale and to be truly competitive with the likes of either AWS and Azure—things like Kubernetes, for example—how those efforts are going? And maybe what learnings you have had as you have been migrating your own cloud spend onto that platform. The second part—and Tom, you kind of hinted a little bit at this earlier, right? But let me look at what the hyperscale cloud vendors are saying: they are seeing a big uptick in demand right now as a result of generative AI workloads. How do you think about your ability to capture some of those generative AI workloads as companies are thinking increasingly about adopting their generative AI strategy? And maybe are there additional investments you need to make in Linode to be able to capture some share of it? Thank you.

Yes. Great questions. We are making really good progress with Linode, Kubernetes. Really, it’s about scale, and we talked about that. The build-out will be up to a couple of dozen core locations by the end of the year with a ton more capacity than we had before. Object storage and the new architecture there have much more capacity and capability. The certifications—we now have PCI compliance for our use, so we can run our bot manager on it with market-leading bot management solution. We have 300 customers now using that solution on Akamai connected cloud instead of a third-party cloud. That does take advantage of deep learning technology. We have those capabilities. You have to support that on Akamai’s cloud. In terms of competing with the hyperscalers, we are not going to be fully competitive for every application, and we don’t have to be. It’s a $200 billion a year market, growing 15%. We are targeting a subset of that market, primarily initially vertical media and gaming, followed by commerce after that, for applications where performance matters, where scalability matters, and cost matters, especially for applications that involve moving data around or have a lot of hits. You see that particularly in media, gaming, and commerce. That’s where we are targeting, which is a reasonable subset of the $200 billion. If you are an enterprise that uses a lot of the third-party apps available as managed services on the existing platforms, it’s probably harder to migrate, and that’s not where we would go first. Fortunately, often that’s not the case in media workflow and the areas we are targeting. It’s easier for us to manage the porting. We don’t just flip a switch; it’s not that easy, unfortunately. At Akamai, pretty much all of our applications are migrating from third-party cloud onto our compute platform. That does take some effort, but it is eminently doable, and we are going to save a lot by doing that. Our big media customers spend hundreds of millions of dollars a year in the cloud with often their primary competitor. We are in a position that we can now help them based on our experience, migrate a bunch of those applications to Akamai. Good for us, good for them.

Hey, great. Thanks for taking the questions. Just—I know a lot of questions have been asked on security. Can you share the Guardicore growth rate? What kind of growth are you seeing in that business?

Hey, Rudy, this is Ed. About 60% year-over-year. As Tom talked about, we should be at a $100 million run rate very, very soon. I would be surprised if we don’t get there next quarter.

Great. That is very impressive. As it relates to compute, 17% year-over-year constant currency, that’s a fully organic figure this quarter as you have lapped that acquisition. The guide implies, depending on how you model the sequential, it is maybe 1 to 2 points of acceleration by year-end. I guess just how is the pipeline building for Linode as you get some of these sites online? When should we expect to see more material growth acceleration? Just what are your growth aspirations there in terms of maybe 2024?

Yes. When you talk about Linode, almost all of the revenue there is in their traditional business—developers, small-medium enterprises, low-ARPU customers. That business was a little over $100 million a year when we bought it, growing in the teens. It’s growing a little bit faster now, but that’s not—that’s not the game changer. And why we bought Linode was to be able to use it as the base to create a service for major enterprises with mission-critical applications, very high ARPU accounts. Today, we have signed up a few important cases, customers, and do have revenue there now, but it’s small in the millions of dollars. That’s where the growth comes from, and we are trying to get 1% of the $200 billion market, so over a period of time to go from a few million to a couple of billions. We don’t have a timeframe on that yet, but we’re trying to do that as quickly as we can. But that’s where the real growth comes from, and it starts from a very small portion of our roughly $0.5 billion compute business today.

Operator, this is Tom Barth, and it’s time for one more question.

Yes. Thanks for taking my question. I guess maybe to start on the security side, can you just touch about as you see the acceleration that’s happening there? Is that skewing more from new customers or expansion of existing customers? Just any clear that would be helpful. And then, was there any licensing revenues that help you with Guardicore in June?

Hey, Amit, this is Ed. So, as I talked about earlier, there was really no material license revenue in the quarter. As I said, I’d call it anything, if it’s a couple of points of growth or anything like that. So, nothing to report there. In terms of the new customers and existing, we are seeing, as I talked about, a pretty good expansion in the existing installed base, both with just pure penetration rates up a couple of points in the last two quarters. As I look at customers buying multiple products, I mentioned earlier—we have over 700 customers now buying four products. The majority of the revenue growth is coming from the installed base buying more. I’m encouraged with the new logo acquisition, especially what we’re seeing in Guardicore. Very encouraging to see them be able to attract new customers and verticals that were typically not very strong. So again, mostly from the installed base in terms of buying more products, which is great, but it’s very encouraging on the new logo acquisition as well.

Thank you, Amit, and thank you, everyone. In closing, we will be presenting at several investor conferences and road shows throughout the rest of the third quarter. Details of these can be found on the Investor Relations section at akamai.com. Thank you for joining us, and all of us here at Akamai wish you and yours a wonderful rest of the summer. Have a nice evening.