Can Zscaler Turn AI Hype Into Real Revenue Growth?

SPEAKER_1 (0:01)

Let's go inside out on cyber security. And Zscaler, in particular, head of the company's Investor Day tomorrow, joining us to do that is Ahmed Khan, who's the equity analyst at Technology over at Morningstar. Ahmed, thank you so much for your time this morning. Hope you had a nice weekend. So Zscaler was kicking off this Investor Day tomorrow morning with all these AI agents running around. One can imagine there's a lot of attention on these companies right now. What they have to say, what are you expecting?

Ahmed Khan (0:27)

When we're thinking about Zscaler's upcoming Investor Day, I think the key thing that investors are going to be looking for is a momentum when it comes to AI. So how exactly is the company positioning itself to benefit from these tailwinds to cyber budgets that have already showed up in some of the forward-looking commentary and the market's reaction when we're looking at larger peers such as Palo Alto and CrowdStrike.

And number two, Mike Rich, who is the CRO, recently left. I think investors are going to be looking for like, okay, what's the, how do we get comfortable that Zscaler is positioning itself in a way that it can benefit from the AI tailwinds, but also in a way where the execution on the product strategy also stays solid.

SPEAKER_1 (1:14)

Okay, understood. How is this one differentiating itself from the bunch? Because obviously we've also seen a lot of consolidation in the space, particularly around Palo Alto. I know that a lot of them have wanted to sort of position themselves as kind of one-stop shops for enterprises looking for, obviously a number of services that they want addressed.

How has Zscaler positioned itself in the space versus some of its peers?

Ahmed Khan (1:44)

So what Zscaler, the core product is all about network traffic.

And how do you inspect that? How do you secure that? And if you think about what agentic or AI agents proliferating both from an enterprise using AI agents themselves, but also potentially nefarious AI agents trying to access your network, you can see that network traffic is going to trend up quite massively. And I think that's how, that's the Zscaler's positioning. Now, some of the drawbacks that investors will call out when it comes to Zscaler, are such as like most of their pricing is still done on seats. And if you're thinking about the traditional seats based sort of licensing model being under threat because of AI, how does a company like Zscaler adapt? Our view is that if you think about network traffic and its explosion, Zscaler will be able to monetize that because inspecting that traffic actually gets more valuable, not less over time.

SPEAKER_1 (2:42)

Yeah, I mean, but when you look, I mean, obviously, it's trading higher than the rest right now. It's up about 3.5% going into this next catalyst for it tomorrow. But I'm just wondering, I mean, if you look over the course of the last 52 weeks, I mean, it's trading down 33% compared to say like a CrowdStrike up 118% and Fortinet up 110%. Palo Alto is still up about 90%.

What is it that investors, the street's just not buying right now that, you know, we may hope to try to address with this investor day tomorrow?

Ahmed Khan (3:12)

I think honestly, over the last year or so, what we've seen is Zscaler's execution has not been as great as some of their peers. Now, the companies that you mentioned, Fortinet, Palo, CrowdStrike, they're clearly seeing AI tailwinds for Fortinet and Palo. A lot of it is hardware with people buying more firewalls, again, because of the network security angle that I mentioned earlier.

CrowdStrike has just been firing on all cylinders with their product portfolio beyond endpoint. I think, you know, you mentioned consolidation earlier, which I think is a very important point. And I think that has been one of the headwinds against Zscaler, where a lot of their peers have actually over time branched out in other areas of cybersecurity, and buyers are trying to consolidate their cybersecurity spending versus Zscaler that has remained somewhat constrained to network security. Recently, obviously they made the Red Canary acquisition, which gets some exposure to security operations. And so far, the execution on that acquisition is not being stellar, which also contributes to the stock price over the last year that you highlighted.

SPEAKER_1 (4:19)

Yeah, I think investors seemingly are looking for that full service provider, that complete solution at the moment, as you pointed out with some of that consolidation, particularly around IT budgets as well. Ahmed, thank you so much for your time. Great preview of what to perhaps expect tomorrow. Ahmed Khan, Equity Analyst, Technology, Morningstar. Let's trade Zscaler now with Tom White, host of FastMarket. Good morning, Tom. As we've just spelled out here, I mean, this is an underperformer against the pack. Yeah, just walk us through an example trade.