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Zscaler (ZS), a cybersecurity company that specializes in zero trust and private access applications, delivered a strong beat-and-raise 3Q23 earnings report even as customers continue to scrutinize IT spending, especially for larger projects.

Some may recall that on May 8, ZS raised its Q3 revenue guidance to $415-$419 mln from $396-$398 mln, while forecasting an acceleration in billings growth to 38-39% from 34% in Q2. Revenue came in at the high end of that upwardly revised range at $418.8 mln, while billings growth of 40% actually surpassed its updated view.

• The company's upside results and outlook comes on the heels of a disappointing performance from competitor CrowdStrike (CRWD) which issued quarterly results on Wednesday night.
• While CRWD also exceeded top and bottom-line expectations, market participants homed in on the company's slowing ARR growth and a tepid revenue outlook for Q2 and FY24 that was essentially only in line with estimates.
  • Overall, the report didn't live up to investors' lofty expectations, creating some uneasiness about a business climate that's characterized by elongated sales cycles and tighter capex budgets.

Those same concerns, though, didn't materialize following ZS's earnings report.

• In fact, during the earnings call, CEO Jay Chaudhry struck a positive tone about the business climate, stating that cybersecurity continues to be the top priority among IT executives and that enterprises are increasingly phasing out legacy security systems in favor of zero trust architecture.
• Although Mr. Chaudhry did acknowledge that customers are still scrutinizing large deals, he also noted that many customers are ultimately expanding their commitments as they consolidate their security systems around ZS's Zero Trust Exchange platform.
• This assertion is illustrated by the fact that ZS ended the quarter with 400 customers that have ARR north of $1.0 mln. In the year-earlier quarter, ZS had 288 customers exceeding $1.0 mln in ARR.
• A primary driver for the increase is that more customers are bundling the ZIA (Zscaler Internet Access), ZPA (Zscaler Private Access), and ZDX (Zscaler Digial Experience Monitoring) offerings together, enabling ZS's net retention rate to exceed 125%. 

The good news doesn't end there.

• Due to ZS's optimization efforts last quarter, including the streamlining of operations and a workforce reduction of approximately 3%, the company's Q3 operating margin expanded by about 600 bps yr/yr to 15.3%.
• When combined with the 46% revenue growth, this margin expansion led to a 182% yr/yr surge in EPS to $0.48. Looking ahead, the company's upside Q4 EPS guidance of $0.49 equates to a yr/yr increase of 250%.

Overall, ZS's beat-and-raise report now only shows that enterprises are still prioritizing their investments around cybersecurity, but they're also gravitating towards the company's zero-trust platform as hybrid work and public cloud adoption accelerates.