Greetings and welcome to the Juniper Networks Fourth Quarter 2019 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce Jess Lubert, Vice President, Investor Relations. Thank you. Please begin.

Thank you, operator. Good afternoon and welcome to our fourth quarter 2019 conference call. Joining me today are Rami Rahim, Chief Executive Officer and Ken Miller, Chief Financial Officer. Today’s call contains certain forward-looking statements based on our current expectations. These statements are subject to risks and uncertainties and actual results might differ materially. These risks are discussed in our most recent 10-Q, the press release and CFO commentary furnished with our 8-K filed today and in our other SEC filings. Our forward-looking statements speak only as of today and Juniper undertakes no obligation to update any forward-looking statements. Our discussion today will include non-GAAP financial results. Reconciliation information can be found on the Investor Relations section of our website under Financial Reports. Commentary on why we consider non-GAAP information a useful view of the company’s financial results is included in today’s press release. Following our prepared remarks, we will take questions. Please limit yourself to one question and one follow-up. With that, I will now hand the call over to Rami.

Thank you. Good afternoon everyone. We reported solid results during the December quarter. Total revenue of $1.280 billion was above the midpoint of our guidance and we returned to growth on a year-over-year basis. Strength for the quarter was driven by our cloud and enterprise verticals which more than offset expected weakness within our service provider business. Non-GAAP earnings per share of $0.58 came in $0.01 above the midpoint of our forecast as top line strength flowed through to the bottom line. For the year, 2019 played out largely as we anticipated and we were encouraged to finish the year on a high note. Some of the highlights from the year included a third consecutive year of enterprise growth, including a record quarterly performance during the December quarter, a return to year-over-year growth in the cloud vertical following a difficult product transition which we believe will position us for additional growth in the years to come, the successful acquisition of Mist, which is already exceeding our initial expectations and has the potential to have a material positive impact on our P&L on a go forward basis. Strong software growth that we expect is likely to continue due to the value of our off-box platforms like Contrail and efforts to better monetize the value of our existing solutions and significant progress enhancing our go-to-market organization which we believe will help us capitalize on the various technology innovations we are bringing to market and gain share as many of our markets transitioned over the next 2 years. We expect to build on many of these accomplishments in 2020. We believe we are executing well and positioned to sustainably grow the business starting this year. While this will require some incremental investment, particularly in go-to-market, we remain committed to growing non-GAAP earnings this year and expect the investments we are making in 2020 will create the top line momentum needed to drive incremental leverage and earnings growth in future years. Now, I would like to provide some insights into the quarter and address some of the key developments we are seeing within each of our core verticals. Starting with cloud, we experienced better than expected results during the December quarter as the business grew 18% year-over-year, an increase year-over-year for a third consecutive quarter. We continue to see momentum within our customers, wide area networks, particularly for some of our switching products this past quarter, although our Cloud routing business also saw double-digit growth year-over-year. Order trends remained healthy and despite some likely seasonality, we are optimistic regarding our ability to once again grow this business on a year-over-year basis during the March quarter. We are encouraged by the success we are seeing with some of our largest cloud customers and continue to believe we are positioned to grow with their capacity requirements now that the MX to PTX transition is largely behind us. That said, we have also been experiencing growth with Tier 2 cloud providers and believe we are gaining share as many of these accounts increasingly leverage their own private clouds. While our existing cloud use cases should present modest growth opportunities for us over the next few years, we are very much focused on leveraging the 400-gig cycle to capture hyperscale switching opportunities inside the data center, where historically we have maintained limited share. On this last point, we believe we have delivered the systems silicon and software needed to win hyperscale switching share during the 400-gig cycle and plan to introduce additional solutions and capabilities over the next few quarters. These solutions are now in our customers’ labs and we remained optimistic regarding our ability to secure wins. While early 400-gig deployments are expected to begin during the second half of the year, we do no expect material revenue to materialize until 2021 due to the availability and cost of optics. We achieved record enterprise results in the December quarter with this business growing 2% year-over-year despite the difficult comparison. These results were better than expected and we were pleased to grow despite a year-over-year decline in our federal business which moderated following several strong quarters. We believe our portfolio of enterprise solutions is truly differentiated and resonating in the market, which is driving increased confidence that the go-to-market investments we are making should position us to take share and grow this business in the years to come even in a challenging macro environment. Some of the items driving confidence in our enterprise outlook include the following. First, I couldn’t be more pleased by the momentum we are seeing with Mist and the opportunity to bring AI to the broader enterprise market. Mist is a truly differentiated platform that offers industry leading scale and AI capabilities. Mist AI engine leverages more than 4 years of advanced learning to help customers improve network operations and the user experience as compared to our peers which simply focus on uptime of the network access points, routers and switches. Mist capabilities are clearly resonating in the market. Mist’s customer base grew more than 150% year-over-year in the December quarter and aggregate bookings for Mist and the direct pull-through it enables exceeded $100 million run-rate on an annualized basis. While Mist is already exceeding our initial expectations, we believe we have just scratched the surface of Mist’s potential and the impact it is likely to have on the broader Juniper portfolio. To this point, we are seeing strong initial demand for our recently launched Mist Wired Assurance that brings cloud management and AI capabilities to the EX portfolio. This capability has already enabled us to secure EX wins with several Fortune 100 accounts, including a Fortune 10 that previously were not Juniper EX customers. We plan to Mistify additional elements of our switching and security portfolio through the year, which we believe should create incremental pull-through opportunities in future periods. We are investing to further monetize Mist with our existing customer base and capture new logos as the industry transitions to Wi-Fi 6 and the AI driven enterprise. Second, our enterprise switching business is seeing healthy momentum growing both quarter-over-quarter and year-over-year in the December quarter with our QFX data center products experiencing record orders. We believe our industry-leading EVPN VXLAN capabilities and Contrail Fabric Management software platforms are resonating in the data center market and should position us to grow this business moving forward. While our EX portfolio declined year-over-year, sequential momentum has been strong now for several quarters and we expect to see better year-over-year trends on a go forward basis as the productivity of our go-to-market organization improves after last year’s organizational transformation and the Mist pull-through we are starting to see further materializes. Third, our secure SD-WAN capabilities are seeing healthy traction. While this opportunity remains in the early innings, we believe our ability to offer cloud management, security and Wi-Fi capabilities is resonating with many of our customers and should not only position us to gain share in what is expected to be a large and fast growing market, but also present another catalyst that helps pull through our broader campus networking portfolio. Our service provider business remains challenged. However, we experienced healthy quarter-over-quarter growth in the December quarter and the pace of year-over-year declines began to moderate, which is a trend that we expect to continue during the upcoming year. The move of our MX 5G line card from qualifications to deployments, the success of our Contrail telco cloud platform, high-end security opportunities and the availability of new edge products are amongst some of the reasons we expect our service provider vertical to present less of a headwind in future periods. While our security revenue slightly declined year-over-year during Q4, our security orders grew 24% quarter-over-quarter and 3% year-over-year and came in at the highest levels in the last 4 years. We saw notable strength in our mid-range portfolio, which saw orders increase nearly 35% year-over-year and we remain optimistic regarding the outlook for our high-end offerings. We believe our security portfolio is highly competitive, which was recently validated by NSS Labs, which provided a recommended rating for our high-end data center offerings and Gartner which ranked us as a top supplier for both data center and distributed enterprise security use cases in its critical capabilities report. We are encouraged by the momentum we are seeing and the success of our connected security strategy, which focuses on bundling security with our traditional networking platforms. We think customers are increasingly looking to consume security as part of a networking solution and believe we are well-positioned to capitalize on this trend. We are continuing to see success in our software business, which grew 25% year-over-year and accounted for more than 12% of our revenue during the December quarter. While much of our software revenue today is driven by on-box software licenses, our off-box software orders increased more than 90% year-over-year and off-box subscriptions increased more than 170% year-over-year due to Contrail, security subscriptions and Mist. Based on the momentum we are seeing, we believe our software as a percentage of sales will continue to increase over time especially as subscription-based pricing models become more pervasive and gain traction in the market. Not to be overlooked, our services business delivered a record quarter and the business grew more than 2% on a full year basis. Our services team continues to execute extremely well with improved attach rates and renewals, the primary factor driving strength in both the quarter and the year. Our service pipeline remains healthy and we remain confident in our ability to once again grow this business during the upcoming year. Finally, I would like to highlight that we are making solid progress in our sales transformation initiatives. Our population of quota carrying sales reps is up by approximately 20% from the trough levels we experienced during the Q1 of 2019 and we are making solid progress against our productivity goals. We believe our investments in go-to-market should create tailwinds through the course of the year and present an important revenue driver that helps us capitalize on the various innovations we are bringing to market, particularly within the enterprise vertical during the upcoming year. I would like to extend my thanks to our customers, partners and shareholders for their continued support and confidence in Juniper. I especially want to thank our employees for their hard work and dedication, which is essential to creating value for our stakeholders. I will now turn the call over to Ken who will discuss our quarterly financial results in more detail.

Thank you, Rami and good afternoon everyone. I will start by discussing our fourth quarter results and then cover the full fiscal year and end with some color on our outlook. We ended the fourth quarter with $1.208 billion in revenue and non-GAAP earnings per share of $0.58 both above the midpoint of guidance. The higher than midpoint results were driven by greater than anticipated strength in cloud, and to a lesser extent, enterprise. As we expected, we are exiting the year stronger than we entered. We are pleased with our 2% year-over-year growth in total revenue. Looking at our revenue by vertical, on a year-over-year basis, cloud increased 18% and enterprise increased 2%, while service provider declined 5%. On a sequential basis, all verticals, all technologies and all geographies are up. Service provider increased 9% sequentially with growth across all products and services. Enterprise growth of 7% on a sequential basis was primarily driven by switching. Our cloud business increased 3% on a sequential basis primarily driven by routing and services. From a technology perspective, routing grew 4%, switching increased 11% and security grew 7% sequentially. Our services business increased to 3% year-over-year and 7% sequentially primarily due to strong renewals. As Rami mentioned, we saw continued solid performance from our software offerings, which increased 25% year-over-year and was more than 12% of total revenue in the quarter. In reviewing our top 10 customers for the quarter, 3 were cloud, 6 were service provider, and 1 was an enterprise. Product deferred revenue was $133 million, up 3% sequentially and down 8% year-over-year due to the timing of the delivery of contractual commitments. Non-GAAP operating expenses increased 4% year-over-year and 1% sequentially. Cash flow from operations was $96 million, down sequentially and year-over-year primarily due to timing differences related to payments to suppliers and customer collections. We expect to see a rebound in cash flow in the first quarter when it will likely exceed $200 million. We paid $64 million in dividends reflecting a quarterly dividend of $0.19 per share. We entered into an accelerated share repurchase program for $200 million in shares, which was completed earlier this month. Moving on to the results for the full year, fiscal 2019 largely played out as we expected with revenue declining 4% versus last year. While the service provider business remained challenged declining 12%, our enterprise business grew for the third consecutive year, and our cloud business returned to full year growth. On a full year basis, security grew 3% year-over-year and our services business grew 2%. Software grew 16% and was greater than 10% of total revenue for the full year. However, routing declined 12% and switching declined 4% versus 2018. Both results were primarily due to weakness in service provider. In reviewing our top 10 customers for the year, 4 were cloud, 5 were service provider and 1 was an enterprise. Non-GAAP gross margin expanded over 20 basis points due to the strength in our service margin, which more than offset lower product volume and China’s tariffs. Our focus on disciplined non-GAAP operating expense management continued with a decline in operating expenses of $10 million. Non-GAAP diluted earnings per share declined 9%. For the year, we had cash flow from operations of $529 million. During 2019, we took a balanced approach to capital allocation. From a return to shareholder perspective, we repurchased $550 million worth of shares and paid $260 million in dividends totaling 193% of free cash flow. In addition, we used approximately $360 million to acquire Mist, and approximately $450 million to pay down debt. Before we move on to Q&A, I would like to provide some color on our guidance which you could find detailed in the CFO commentary available on our website. At the midpoint of our first quarter guidance, we expect year-over-year growth in both revenue and non-GAAP earnings per share. Beyond the first quarter, we expect revenue and non-GAAP earnings per share to grow on a sequential basis and we expect modest growth for the full year. We expect non-GAAP gross margins to experience normal seasonal patterns in the first quarter and improve with volume throughout the course of the year. While non-GAAP gross margins can be difficult to predict and can be impacted by deal and customer mix, we currently expect full year gross margin to be flat to slightly up versus 2019 levels. We expect first quarter non-GAAP operating expense to increase sequentially due to the reset of variable compensation and typical seasonal increase in fringe costs. Through the course of 2020, we expect quarterly non-GAAP operating expense to remain near Q1 levels. While we expect non-GAAP operating expenses to be up on a full year basis, as we invest to take advantage of market opportunities, we remain committed to discipline operating expense management and expect earnings to grow in 2020. For 2020, we expect non-GAAP tax rate on worldwide earnings to be 19% plus or minus 1%. Finally, our Board of Directors has declared a 5% increase in our quarterly cash dividend to $0.20 per share to be paid this quarter to stockholders of record. 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.

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first question comes from line of Ittai Kidron with Oppenheimer & Company. Please proceed.

Thanks. Hey, guys. Nice to see the cloud business clicking again. Can you talk about visibility in the cloud business and revenue concentration there? How has that improved? And as 400 kicks in, I know you’ve talked about more the next year event, but you expect that ramp to be lumpy. How should we think about that?

Yes. Thanks for the question. So first, needless to say, it’s great to see the performance in our cloud business in the Q4 time frame. The year largely played out as we expected, in fact, probably saw a little bit stronger results in the Q4 timeframe than what we had originally anticipated. The success in the hyperscaler is always going to be concentrated and CapEx concentrated. However, I’m pleased with the fact that we saw success across a broad number of customers, not just within the hyperscalars, but also in Tier 2 cloud where I think we’re doing actually quite well. Also the breadth of the technologies with strength in those switching and in routing, that we’re quite pleased with. We have a unique position when it comes to the routing footprint that we retain in the hyperscale space. And we fought hard to retain it, as you know, with the prior transition that we’ve undertaken over the last year and a half. At this point, I think that is largely behind us and we are now in a situation where the strength of the business, the momentum is going to be very much based on the timing of deployments. So that I think gets us to sort of mid to low single digit growth type rates in the cloud segments in the 2020 timeframe. Certainly, as you get into the 400 gig deployments, and in particular, in the data centre and DCI that post, that presents a much bigger opportunity for us to go after. And we’re doing just that. I mean, all of our focus, our energy, our investments are going into the 400 gig system, the software, the specific features that our customers are requiring and we are engaging with our customers in order to have a very good shot at not just getting our fair share, but more than our fair share in that segment. And timing of that is going to be closer to the end of the year into next year for where meaningful revenue happens. And it’s largely tied to the timing of the projects within hyperscale as well as the finding and availability of 400-gig optics.

Got it. And as a follow-up it’s very nice to see that mist is kind of pulling EX, but maybe can you tell us, is that the mode of operation? Do you lead with a bundle right now or mid sales people try to make introductions or – and vice versa? How much of this is truly the preferred path for you into customers?

That’s a great question. I think there are really two sales plays that we undertake when it comes to the enterprise space and the specific customer and their requirements, their presence. So one sales play is very much data center oriented and it is around satisfying the sort of highly automated private cloud data center with a simple fabric management, high performance, EVP and VXLAN type functionality that I think we have real strength and we saw really good momentum in the data center, switching space in the Q4 time-frame, in fact, record orders for the QFX in Q4, largely driven by both cloud as well as the enterprise. The second sales play is very much aligned with what you’re talking about, which is around the campus. And there we are finding a lot of success in leading with Mist, the highly differentiated cloud-based management, AI-driven simplicity and user experience that now allows us to start the conversation to open the door and then to insert EX switching, which I think is leading to the sequential performance that we’re starting to see with the EX portfolio. And I’ll just mention that we just recently introduced functionality that makes that sales play not just one of a commercial play, where we start with one product and then leads us to a conversation with the other, it’s very much a technical tie-in where the Mist cloud, the management, the AI analytics and assurance now actually technically ties in the acts where you give the customer the ability to look at the performance of their network across both wired and wireless and I think that’s a very unique offering that we have now in the market.

Thank you. Our next question comes from the line of Amit Daryanani with Evercore. Please proceed.

Thanks a lot for taking my question. I have two as well. I guess supposed to adjusting the free cash flow numbers, historically I think December quarter has been one of the better free cash flow quarters for you guys, the conversion at least versus net income was fairly low. Can we just talk about what happened in the December quarter free cash? When should we expect that to pick-up as you go into the March quarter?

Yes. So free cash flow was down a little bit compared to our normal kind of seasonal average, primarily just due to timing of both purchases as well as some cash collections from customers. We did see a build-up in deferred revenue and we saw some strong bookings particularly in the services side, service renewals and you see our DSL also went up in the Q4 time period which is not abnormal. We absolutely expect that timing to revert. We expect Q1 to be a strong cash flow quarter for us. In fact, I would expect it to exceed $200 million in Q1. So the cash – the cash flow that you were expecting to see in Q4 was just pushed down a bit into the Q1 timing.

Perfect. Really appreciate that. And then, I guess, I’ll just follow up. When I listened to your calendar ‘20 commentary around gross margin being flat to slightly up, OpEx, I think, you said would be up year-over-year as well. What does that embed from a revenue perspective for you guys? Is that going to be some flat volumes or does that factor in some revenue leverage as well? Because, I guess, I would think if revenues are up we would see better leverage, especially in the gross margin line.

Yes. For revenue, we were comfortable with current Street estimates for 2020, which we’re looking for about 1% growth. From a gross margin perspective, we think flat to slightly up volume would help, but modest growth, call 1% level, it’s not going to have a tremendous impact on gross margins. I’d expect flat to slightly up gross margin perspective. We are driving for a full year earnings growth in 2020 as well.

Perfect. Thanks a lot.

Thank you. Our next question comes from the line of Samik Chatterjee with JPMorgan. Please proceed.

Hi. Thanks for taking the question. If I could just start off with the telecom vertical and kind of what’s embedded in terms of revenue outlook. As you mentioned, your full year outlook is for modest revenue growth, but how you think about the telecom vertical within that? And what could potentially drive some upside to the expectations. What do you need to see from the service providers?

Yes, certainly, Samik. So, we actually saw a pretty good recovery on a sequential basis in telcos and the service provider vertical in Q4. 2019 was largely played out as we expected, we had expected the second half to be stronger than the first half, and that essentially panned out as expected. A lot of the momentum was in the Q4 timeframe. There is a couple of reasons for this: one is, timing of orders, timing of projects that we had visited into. There’s only so much time that a service provider can go without having to invest in their network. So that certainly benefited us. The other thing that I’d like to call out is, the breadth of the solutions that we’re now selling into the telco domain where we have, obviously, very tight relationships and strategic discussions with is increasing. So not only are we now selling routing technology, which is our traditional business, but we saw good strength in switching and in security. Not to mention in software, in particularly, around the cloud and telco cloud solutions that we’re now offering across a large number of customers. So when I extrapolate out into 2020, I would not return – I would not estimate or predict a return to growth. I think growth is in the cards for further out in a couple of years timeframe, but for 2020, I’d say, less headwinds supported by some of these other solutions that we are now introducing and selling to our telco customers. I do think that there are going to be some catalysts out there that we can leverage. 5G, although the timing is somewhat unpredictable, I do believe it’s going to be big and it’s going to be a catalyst for investments that will play out over a number of years. Our Metro portfolio which will start to come together for us later this year, I think will be good. Our partnerships, our strategic partnerships with companies like Ericsson, I think starts to help and not to mention just the portfolio. So we introduced last year some pretty meaningful enhancements and upgrades to our MX portfolio and those have gone through certifications. And I think we’ve now started getting into the early deployments I think, starts to benefit us throughout this year.

Got it. If I can just follow-up, on the last earnings call, you had mentioned you are seeing some weakness in the bookings from the enterprise customers. You had revenue growth with the Enterprise vertical this quarter. But if you can just kind of help us with whatever the trends you saw play-out during the quarter, how did it end the quarter in terms of bookings? How did you end the quarter?

Yes. We did mention in Q3 that we were seeing some more caution from some of our Enterprise customers. And I’d say that Q4 played out largely as Q3 did. There is some level of caution that is out there that is maybe delaying some orders, however, look, I mean, we had a good enterprise quarter. I think even in a scenario where there is weakness in the macro, our share in the enterprise vertical leaves a lot of room for growth and I have optimism based on the strength of our portfolio, especially around the data center switching portfolio as well as the campus wired wireless switching solution as well. And couple that with the hard work that the that we did over the last year in restructuring our sales force, cutting in order to invest in front line sellers that we are now starting to see the benefit of. So as I mentioned in my prepared remarks, compared to trough levels of last year, where we stopped we are now at 20% increase in the number of quota carrying sales reps that are out already. Now many of them are relatively new and are still in the process of becoming fully productive. I think as that happens throughout this year, we’re going to start – we are going to really benefit from it, especially second half of the year.

Got it. Thank you. Thanks for taking my questions.

Thank you.

Thank you. Our next question comes from the line of Simon Leopold with Raymond James. Please proceed.

Great. Thanks for taking the questions. I wanted to ask two. The first one is, just maybe if we could double click a little bit on what’s occurring in your gross margins. In other words, I guess I’m trying to get a better understanding of how much of the forecast for the year as well as the March quarter is related to mix, geographies, customer mix, product mix. I know all these sort of factor-in, but maybe if you could help us with a bridge to get an idea of how to model that?

Yes. So deal mix is very much two factor, I would say. If you look at the full year basis, 2019 versus 2018, the primary driver to the drop-in product gross margin was both tariff and volume. So mix did not play a big factor on full year basis ‘19 versus ‘18 however in a quarterly basis, so for example, Q3 last year versus Q4, the quarter we just ended, you did see some negative mix trends that affected the margin marginally. So any given quarter, it’s going to vary based on deal mix on a kind of a more longer term period, we’re managing it quite effectively. We did see some headwinds last year with tariffs as well as boiling things down. Those are really the two drivers in the product was margin. We saw tremendous strength in service gross margin, which enabled us to deliver fairly flattish, overall gross margins for the company.

And then as follow-up, just want to get a better sense of the 400-gig market opportunity. It sounds like you are a little bit more pessimistic about the timing, pushing the volume into 2021. And I guess one of the things I’m trying to understand here is, will you be shipping essentially 400-gig capable chassis in essentially establishing a footprint that might be equipped with 100-gig optics waiting for the optics to be at the right price point or does the whole product cycle really go along with the optics availability and is really a 2021 cycle? Hopefully that makes sense.

It certainly does. And let me be clear, I think that’s what we are seeing with respect to the timing of 400-gig. Of the solution, deployments, the opportunity that is there for us is not different than anything that our peers are seeing as well. We’ve done everything that is in our control right now. I mean, retaining our routing footprint was necessary because that gives us an amazing platform off of which to increase our relevance within the cloud vertical and we’ve done that. In terms of the solutions and the product, we already have our first 400-gig systems that are in the market based on both custom and merchant silicon, the new operating system that’s very much developed with our cloud vertical in mind, with the kind of modularity, Linux-native capability, the programmability has now seen its way into the market. We are very much engaged with our customers in early deployments, in early lab certifications. And the timing is essentially tied to the timing that our customers are looking to deploy. And yes, optics plays a big role in the timing and not just the availability of the optics, but also in the – the economics of those optics.

Great. Thank you very much.

Thank you.

Our next question comes from line of Aaron Rakers with Wells Fargo. Please proceed.

Thanks for taking the questions. If I can start just on a strategic basis, one of your biggest competitors has talked recently about selling silicon directly into the cloud verticals, obviously, getting what’s your proprietary silicon strategy? I’m just curious of how you think about whether or not that would present an opportunity for Juniper to do something similar or how you see that engagement possibly, with some of the cloud customers? I do have a follow-up.

Yes. Thanks for the question, Aaron. I will start by just saying that, I have a ton of confidence and I certainly have a lot of experience and background in this domain from my engineering days here at Juniper. In our silicon strategy, in our silicon execution and the strength and the competitiveness of our silicon products that make their way into a variety of our systems, in particular, when it comes to 400-gig, I think we have a unique offering already in the market, but still to come in terms of the full breadth of the solutions that we are bringing to market based both up on merchants silicon, in certain classes of switching silicon, but also on custom silicon that we have developed over the last several years. When it comes to sort of efficiency performance coupled with security and encryption, we really believe that we have done something very special here. So very well equipped to deal with what we know is a competitive environment. Disaggregation, selling software and silicon separately is not a new concept. In fact, I believe architecturally we have done a lot over the last couple of years to disaggregate our software from our silicon in a way that allows us to achieve much more nimbleness in how we develop our systems and can move and adapt to different silicon offerings. That said, in terms of the business model of selling software and silicon separately, we certainly we have experienced, because we have now done this for quite some time in selling software separately from the system and from silicon. We did – we started this doing – we started this, years ago. As far as selling silicon separately, while I have confidence in our silicon itself, that business model, I am not sure that there would be a huge market for it, quite frankly. So it’s something that we would be open to, it is something that we would take a close look at going forward. But for now, we’re going to be very focused on selling the systems, the software and the silicon photonics capabilities when they hit the market later this year.

Yes. That’s great answer. And then just as a quick follow-up, just on a model basis back to the gross margin. When I look at gross margin here in this last quarter, you saw a pretty healthy services gross margin. Was there a one-time items in there or how do we think about the services gross margin going forward relative to the – I think it was 65% you just reported.

Yes. So services gross margin clearly benefited from the very strong services revenue. As you saw, actually a little bit more less there than we expected beginning in the quarter. The cost is little more fixed. Most of our cost of services is really our – our services JTech facilities, labs, etcetera. So we are seeing a relatively stable cost line and its revenue ramps sequentially as it did last year. You did see a bigger market than normal. I would expect that to come down a bit in Q1 as revenue seasonally will come down for services and the cost will remain kind of at fixed levels.

Perfect. Thank you.

Thank you. Our next question comes from the line of Jeff Kvaal with Nomura. Please proceed.

Yes, thank you. And Rami, I am hoping to peel back that answer on the independent ship a little bit, why don’t you think that there would be a market for standalone silicon? And then I guess the broader question with that is do you feel like the Cisco announcement makes the web scale market more or potentially less competitive heading into the 400G cycle?

I think the cloud demand has always been a very competitive environment and let’s just say that we are very used to and comfortable operating in that competitive environment and doing well despite the competition. Again, I will just reiterate part of my answer I think that there is a large market out there for selling the software. Many of our customers are looking at buying especially off-box software. The opportunity to sell a network operating system disaggregated from silicon, we have a ton of experience here is limited. There are only a few number of customers that are interested in that model. Lot of them talked about it, but ultimately they desire the simplicity of a system that includes the software and in some case merchant silicon, in other cases in custom silicon. As far as selling silicon separately like I said, the focus for us right now is on a technology that we believe has breadth in demand and that is in the 400-gig silicon photonics space. As far as silicon forwarding engines and switch silicon is concerned, I doubt that if we entered that market, we are going to see the other OEMs being customers of ours. So that really limits it to the cloud providers themselves. And based on our conversations, very specific engagements that we are having with them, I think for now the demand is more in the converged systems and meeting their requirements in terms of the programmability, the telemetry capabilities, the power, efficiency, the performance of their requirements that we are confident that we are satisfying.

Okay, thank you. And then it seems you say that Tier 2 cloud was an area of success for you, how much runway do you have in that? Is that a sustainable theme for 2020 and beyond?

I think so yes, because what we are seeing with Tier 2 cloud is. First, there are number of customers that we have seen sort of pivot back to a strategy where they want to deploy their own data centers as opposed to just moving to or embracing the public cloud offering. So that certainly is a trend that will help Tier 2 specifically. Second, not only did we retain customers and saw sort of strength in the build out of data center worldwide, but we have won some new logos that I think will help us in coming quarters.

Thank you. Our next question comes from the line of Alex Henderson with Needham. Please proceed.

Thank you very much. Just wanted to make sure I understood the mechanics around what you are suggesting for the 2020 timeframe. It sounds like 2% revenue growth, modest increase in gross margins. Are you suggesting that your OpEx increases will be roughly comparable to the revenue growth? And therefore the only margin leverage you will have is slight improvement in gross margin hence operating profit growth fairly consistent with the revenue growth? Is that the way we should be reading the commentary on 2020?

Yes. So we are comfortable with the current Street revenue estimates for 2020, which are approximately 1% revenue growth. I believe at those kind of revenue numbers we should expect gross margin to be flat to slightly up. OpEx will be up on a full year basis. I do expect us to continue to be opportunistic with our capital return program as well with share buybacks. So the combination of that we believe will get us to earnings growth on a full year basis next year or this year.

I see. And just going back to the commentary around the switching market, is your co-packaged technology helping you penetrate into any of the Tier 1 cloud companies where they want to get experience with that co-packaging functionality? It seems that, that’s one of the distinguishing characteristics of your 100-gig products currently and obviously, it would be better to learn about it at 100-gig and then try to deploy it at 400-gig?

Alex, I am not sure I fully understand the question, but when I think co-packaging really that comes to co-packaging of optics and switching silicon. That’s something that’s more a future trend that we do believe in, but it’s not a here and now it will actually take a number of years before that becomes a necessity or something that’s technically or economically feasible. Having said that, we do very much believe that our silicon photonics technology, our IP that we have that we are initially embracing to put into standalone pluggable transceivers has future applicability into co-packaging. And that is an outcome that we very much are working towards, but it’s certainly not a here and now, it’s really more of a future trend.

Yes, thank you.

My pleasure.

Thank you. Our next question comes from the line of Rod Hall with Goldman Sachs. Please proceed.

Hi, thank you for taking my question. This is Ashwin on behalf of Rod. I got one two-part question and one another question on APAC. First on 400-gig, Rami, can you give us an update on the timing of 400-gig silicon photonics and any update on the progress there? And sort of related to that, I wanted to check if you guys are willing to sell 400-gig boxes to run someone else’s software on it? And I have a follow-up.

Yes. Thanks, Ashwin. So silicon photonics, a lot of progress has been made. The big challenge with silicon photonics is not so much about the technology itself. I believe from a technology standpoint we have something that’s unique, highly differentiated in the market today or relative to what’s out there in the market today. The challenges around production manufacturing in large volumes and what we have done over the last several months now is that we have struck up strategic partnerships with strong manufacturing entities, companies, fab houses that specialize in this type of technology that will mitigate the risks associated with the large scale manufacturing of the technology. So at this point, I feel good about the differentiation. I feel good and confident that we are going to get to a solution that we can ship to our customers later this year. And this is not easy, this is certainly a lot of technical hurdles that are in the way, but I do believe that we are overcoming one by one. And like I said, before the end of the year we should have our first products in the market. As far as your question, yes, a question about 400-gig, so it is – it’s an interesting question, I actually think the demand – there is a greater demand for software – network operating system software that will sit on white box hardware than there is for something that is the other way around. That said, what there is of course an interest in by some of our cloud customers in particular is a very efficient implementation of SONiC on a system that we build that could either be merchant or in some cases custom. And so SONiC as sort of this lightweight NOS, network operating system that some of our cloud customers are asking for, something that we have very much embraced, we have invested in, we have demoed versions of this on our systems that I think have demonstrated to our customers how seriously we are and there is more to come in this space.

Thank you. And just as a follow-up on Asia-Pacific and the revenue growth there, I think that region has been declining for about eight quarters straight now. Just wondering what’s driving that and what could sort of turn around the business there?

Yes, I will take that. So, I think part of this has to do with the fact that some of our big customers in the APAC region, we really had – we had some level of concentration, especially in the telco space and to a lesser degree in the cloud space that – just we are not spending as much over the last few quarters as they had done traditionally and that resulted in some weakness. I also just would acknowledge, I think we have had some execution challenges in Asia-Pacific that we have had to address and we are actually going to be announcing a new APAC leader fairly imminently at this point.

Yes. I would just add that we did see two consecutive quarters of sequential growth in Asia-Pac and we did see enterprise up on a year-on-your basis. So we are seeing some pockets of strength there. I think there is more to come. I would expect all of our geographies to have the potential to grow in 2020.

Thank you. Our next question comes from the line of Meta Marshall with Morgan Stanley. Please proceed.

Great. Thanks, guys. You spoke about the 20% increase in quota-carrying comps and I just wanted to kind of check and make sure that kind of all positions that you were looking to hire for are filled at this point and then just increases in OpEx throughout 2020 are just more commissions as they become productive? And then I have a second question.

Yes, thanks for the questions. So, most of the positions have been filled. Our OpEx outlook certainly factors in both the filled positions and those that we anticipate will be filled shortly. And I just highlight the fact that we took the harder path here of cutting to invest. We have restructured. We reduced layers and increased span of control and simplified the organization, which freed up the capacity for us to go and to invest in frontline sellers and I think that has – that was tough to do, but it was the right thing to do. So certainly, you will not see a 20% increase in OpEx for our sales organization, but it’s great to see that we are going to have 20% more sellers that are actively positioning and selling the technology and the differentiation that we believe we have, especially in the enterprise space.

Got it. And then just maybe on the CTO transition, just any kind of customer feedback or kind of as Raj starts making the rounds with customers any kind of early commentary would be helpful? Thanks.

Yes. Thanks for the question. I think that the CTO transition has gone remarkably smoothly. Bikash did a very nice job in sort of seamlessly transition over to Raj. There was in fact a period of overlap between the two executives. Raj is an outstanding technical leader that has experience in the cloud provider space, but also in the enterprise, was at Intel for a number of years, so has some experience in the silicon photonics space, at VMware, lot of experience in enterprise software. So, I think the breadth of his experience has already in just the month or two that he has been onboard been a huge benefit to us and I think he is going to do a fantastic job leading the technical strategy in this company going forward.

Got it. Thanks.

Thank you. Our next question comes from the line of Paul Silverstein with Cowen. Please proceed.

Thanks guys for taking the question. And I will apologize because I am going to ask you to revisit some questions from earlier. First off, Ken, on the margin questions you have been asked, a couple of things. One, I thought that the announced reduction in the last round of tariffs, I thought that, that would benefit you and your peers, will that not be the case? Secondly, what is the rate of price erosion, has that changed one way or the other? I assume from your margin guidance, it hasn’t. And third, going back to Simon’s question, when we think about the levers going forward, it sounds like mix is the number one lever. If I look at what you did back when before you had the whole MX to PTX and the impact to new revenue, you were doing 64 and 63 off several 100 million or higher revenue. Is it to get back to that level or to get back to the 62 plus, is it primarily a function of better volumes that magnitude or is there something else? And then I have got a straightforward question Rami in your response to the demand question, if I may?

Yes. So with respect to tariffs, first, I would say that we have been predicting tariffs would impact our business by 30 to 50 basis points for the year and that’s largely played out as we expected. I would remind you that’s a total gross margin impact. If you actually take the impact of product gross margin, it’s greater than that as the denominator gets smaller, right. So if you look at product only gross margin, the tariff impact is greater than 30 to 50 basis points. As it relates to Wave 4 and the change there, we did not see a benefit in time to impact Q2. We will slightly benefit from that in the Q1 tariffs. But our biggest opportunity is to continue to mitigate the entirety of the tariff as we continue to look at retooling our supply chain. So, that’s something that’s ongoing. We weren’t able to mitigate much in Q4. In fact, our Q4 tariff exposure was the highest of any of the quarters in 2019 which is time, just not having enough time to really react to Wave 4. We are now reacting and we expect to be able to mitigate some tariff impact going forward. As far as the big levers, I would order them and volume is number one. I mean, we did although we are pleased with our Q4 returned to growth we are still seeing product revenue down. That is obviously a negative to our gross margin, our product gross margin in particular. So getting the volume back would be number one. Obviously, if we can mitigate tariffs further that would help. And last but not least, on a mixed perspective, as our software business continues to get stronger, particularly as we start to get more renewals in our subscription software business, we should see some lift in our software margin as well.

Thank you. Our next question comes from the line of Brian Yun with Deutsche Bank. Please proceed.

Hey, guys. Thanks for squeezing me in. Also I had kind of a question on 2020 outlook, mainly the levers for sort of top line growth. Wondering in your view sort of what those are that can kind of cause revenue to perform better than expected and then any headwinds or speed bumps we should kind of be aware of in 2020, maybe if you could talk about the cloud and enterprise vertical, I think you touched on service provider earlier? So that would that would be helpful. Thank you.

Yes. Thanks, Brian. Let me start and maybe Ken has something to add. And it’s best to think about it from the standpoint of verticals. I think in the cloud space we saw good – we closed the year strong in 2019. I wouldn’t expect that Q4 performance is sort of sustainable on an ongoing basis based purely on the footprint that we have. I think sort of mid single-digit – mid to low single-digit growth rates in the cloud provider space based on existing footprint is a reasonable assumption. In the enterprise space, I would say continued momentum and if anything maybe even better strength in the second half of the year as we get to more productivity with the increased number of sellers that we have, that’s out there not to mention the continuously increasing strength of our joint portfolio. So, the EX switching portfolio being managed by the Mist cloud, the initial versions of that have now entered the market, it’s only going to get stronger and more competitive throughout the year. So I am quite optimistic about the enterprise vertical in 2020. And I think that’s going to be a good growth catalyst for us. In SP, it’s moderating declines, right, sort of mid single-digit declines in SP is probably in the right ballpark. And it’s based on a number of factors that have already highlighted around the fact that SPs need to invest eventually, 5G becoming more of a catalyst to investments, the fact that we are broadening our solutions in our portfolio that we are selling to the SP into software switching and security. That’s how we think about it.

No, I think that makes sense. I think if you wanted to ask what could go wrong, I would say, clearly the enterprise business operating in that dynamic macro environment, if that were to change materially that could have an impact on our ability to grow enterprise, Rami already mentioned kind of service provider and cloud.

Thank you. Our last question will come from the line of Tejas Venkatesh with UBS. Please proceed.

Thank you. I have two questions. You had new MX and PTX products out in the market recently, I wonder if you could update us on the uptake and refresh opportunities? And then secondly, you have talked about switching strength into when opportunities in the cloud, I wonder if you could clarify whether these were new wins that were coming through? Thank you.

Yes. So as far as the routing products, MX and PTX, I think we have now seen a few quarters of PTX momentum driven largely by the cloud vertical. And I am quite optimistic that, that can continue. The MX, we introduced new MX 5G line cards, roughly at first half of last year timeframe. Those typically take 6 months to 9 months of certification. That has happened now over the last couple of quarters. And I think that starts to result in some growth opportunities for us into 2020. And I think the second question was around switching in the cloud provider space and whether there were net new logos? And the answer is, yes, in the Tier 2 space I think we have seen momentum as a result of both satisfying the growth demand of Tier 2 clouds, especially Tier 2 cloud providers that have made a strategic decision to either stick with or to in-source their data center infrastructure, but also net new logos worldwide that I think will help us throughout this year.

Thank you. That is all the time we have allotted for our question-and-answer session. Allow me to hand the floor back over to Jess Lubert for closing remarks.

Before we conclude the call, I do want to make you aware we will be hosting a Tech Talk on our secure SD-WAN strategy on Thursday, February 13. We will also be attending the Goldman Sachs and Morgan Stanley technology conferences this quarter. Thank you for your questions and we look forward to meeting and speaking with you through the quarter.

Thank you. This concludes today’s conference. You may disconnect your lines at this time and thank you for your participation.