Q2 2020 Earnings Call
Good day, ladies and gentlemen, and welcome to the net <unk> second quarter of fiscal year 2020 Conference call. My name is Andrew and I will be your conference call coordinator for today at this time all participants are in listen only mode. Later, we'll conduct a question and answer session and instructions will be given at that time I will now turn the call over to Chris.
<unk>, Vice President corporate Communications and Investor Relations. Please proceed missed noon.
Thank you for joining us with me today, our CEO , George Korean and CFO , Ron passing this call is being webcast slide and will be available for replay on our website at <unk> Dot com.
During today's call, we will make forward looking statements and projections with respect to our financial outlook in future prospects such as our guidance for the third quarter and full fiscal year 2020 or expectations regarding future revenue profitability and shareholder return and our ability to improve execution gainshare reaccelerate growth and expand our sales.
Pasadena without increasing total operating expenses, all of which involve risk and uncertainty.
We disclaim any obligation to update our forward looking statements and projections actual results may differ materially for a variety of reasons, including macroeconomic and market conditions, the I.T. capital spending environment and our ability to expand our total available market acquire new accounts expanding existing accounts capitalize on our data fabric strategy.
Improve the consistency of our sales execution and continue our capital allocation strategy.
Please also refer to the documents we file from time to time with the FCC and available on our website specifically our most recent Form 10-K for fiscal year 2019, including the management's discussion and analysis of financial condition and results of operations and risk factors sections and our current reports on form eight.
Okay.
During the call all financial measures presented will be non-GAAP , unless otherwise indicated reconciliations of the GAAP to non-GAAP estimates are posted on our web site.
Now I'll turn the call over to George.
Thanks, Chris Good afternoon, and thank you for joining us our Q2 20 results reflect the strength of our business model and the value of far innovation.
We delivered gross margin operating margin and bps, all solidly above our guidance ranges.
Despite the ongoing macroeconomic uncertainty and the potential for continuing unpredictability in enterprise purchasing behavior. The fundamentals of our business are strong.
Just come from two great event, and that up inside and Microsoft Ignite and the many conversations I had with customers prospects and partners.
Both underscored the power of our data fabric strategy to differentiate our solution.
And the highlight our success in reaching new customers than buying centers do expand our market share.
At this year's insight user conference. It was clear that we are solving real pain points for customers as the grappled with the complexity of hybrid multi cloud I'd.
I witnessed the tangible enthusiasm for how we are helping customers address these challenges by building their own data fabric that out.
I'm sure those of you who were able to join us felt that excitement.
We saw an increase in overall attendance and for almost half of the customer attendees. This was their post insight.
The number of executive level customers was up 80% from last year and the number of customers with cloud responsibilities doubled.
Hybrid multi cloud is the reality of customers I'd environment.
And net up has the strategy the innovation portfolio.
Customer experience to help them succeed.
Hdinsight, we announced that you're revolutionizing the customer experience and simplifying the business of hybrid multi cloud with Netapp Keystone.
Net Keystone creates a consistent experience from public cloud to the data center, helping customers transform I'd to operate with cloud like Eve and flexibility everywhere.
First for customers, who want truly elastic scaling without having to manage infrastructure. They can consume netapp technology as a cloud service through the world biggest public clouds.
Second for customers, who want a cloud like experience on premises we offer subscription services.
And finally for customers, who want to own and operate technology in their own data centers.
We've introduced a radically simplify the ownership experience for how our customers by optimized and grow with met App.
Customers and partners choose Netapp.
Because of our unique ability to offer of full range of capabilities needed to build their data fabric.
Net up Keystone complements the weather consistent cloud like customer experience across the public cloud and on premises.
Let me be clear our approach to cloud is giving us access to new buyers and workloads as well as increasing the relevance of met up two companies, both large and small.
Cloud gives us both opportunity in the public cloud.
And makes us more attractive for on premise deployments.
While I'm heartened by the enthusiasm generated by our hybrid cloud data services the headwinds, we identified or last quarter's call persisted through Q2.
Both macroeconomic and enterprise spending indicators show continued weakness.
While we cannot predict when conditions will improve we're planning our business assuming no change in these external factors for the foreseeable future.
I'm pleased with our sales discipline and the ability to capture value in this tough market.
To that point, our product gross margins demonstrate that we were able to maintain pricing discipline.
Despite the soft environment.
Regardless of what is happening in the broader macro environment I remain confident that we can return to growth because of our ability to deliver real business value to customers hybrid multi cloud environment.
This increases our strategic relevance and enables us to reach new buyers through new pathways address new workloads and expand our presence with existing customers.
Do better capitalize on our opportunity and replicate our proven areas of success.
We laid out a plan for you last quarter that includes increasing sales capacity by approximately 200 primary sales resources by the end of Q1 F White 21.
Without adding to the total operating expenses for the company.
As of the end of Q2, we are well on track to deliver against this goal.
The sales head count will be deployed primarily in our Americas geography.
They bring capabilities to acquire new accounts as well as engage new buyers with new sources of funding like cloud architects in existing account.
As a reminder, we expect it will take roughly three to four quarters to bring these resources up to full productivity.
And the vast majority of the benefit of this additional capacity will be realized next year in fiscal year 21.
We are also sharpening our attack on the key market transitions of disk to flash traditional lighty architectures to private cloud.
And on premises to public cloud.
In Q2.
Our all flash array business.
Inclusive of all Flash Fas F and Solidfire products and services was up 29% sequentially to an annualized net revenue run rate of $2.2 billion.
We have industry, leading guaranteed storage efficiency, the highest performance and the most complete cloud integration in the market today.
In the corner.
Partner published its magic quadrant for primary storage and net up to the highest ranking in the leaders quadrant for both our ability to execute and for the completeness of far vision.
Moving to our private cloud solutions.
Solidfire Netapp BTI in storage grid.
The building blocks for private cloud deployment, enabling customers to bring public cloud like experience and economics into their data centers.
Our private cloud business inclusive of products and services attained an annualized net revenue run rate of over $300 million in the second quarter up almost 30% year over year.
Now onto cloud data services.
Based on the last month of Q2, our annualized recurring revenue for cloud data services.
Increased to approximately $72 million up 167% year over year.
We continued to see a healthy mix of customers Newton that up in our cloud services.
And expect that our cloud services will continue to enable us to acquire new customers.
Reached new buyers and expand the workloads managed at existing customers.
Q2 is the first full quarter. The Radnet up files has been generally available and we're making great progress.
At Microsoft Ignite I spoke to many customers who are planning to move a broad range of enterprise workloads like Oracle and Sep into the Azure cloud with Azure net up file.
Customers love that they get the widest choice of file protocols.
And on premises class performance and availability within Azure consistent experience from procurement to support to billing.
Global Energy company, that's migrating high performance workloads into the cloud for flexibility scalability global access and collaboration.
Resented at ignite about their experience with Azure interrupt files.
The performance improvements the achieved our outstanding.
Simulation Runtimes would reduce from month to date and in some cases hours to quote the customer.
As you know that file is a lifesaver.
And that's just one example of the excitement be hearing from customers about what we're doing in the cloud.
Volume services available in all three leading Hyperscalers and gives us access to new opportunities from non enterprise customers, where our traditional solutions do not economically reach two new strategic buying centers in the world's largest enterprises, where we are only a small part of their.
Infrastructure.
We are expanding addressable market.
With our cloud data services.
Our many years of work and deep integration with the leading public clouds give us a sustainable competitive advantage in the hybrid multi cloud.
We're delivering an enormous amount of value to a growing number of customers operating and planning to operate in a hybrid multi cloud world.
We're adding new customers each day, we're adding new use cases, each week and we're adding new cloud regions each month to deliver the world's best hybrid cloud data services.
As I've said before customers and partners are choosing net up because of our data fabric strategy and our unique relationship with the Hyperscale cloud providers.
Our cloud data services, not only give us access to customers and workloads that work here too for inaccessible without traditional solutions.
They improve our competitive position for on premise as opportunities.
Only netapp has the strategy.
The innovation portfolio and customer experience to help customers succeed in hybrid multi cloud I'd.
We've made a lot of progress in delivering on our data fabric strategy.
Our on premise solutions are highly differentiated as evidenced by a strong product gross margin.
We are now available in the three leading clouds.
We have delivered both the technology.
And the customer experience needed for success in the hybrid multi cloud.
We are improving our execution and adding demand generation resources to drive new sales motion.
But it is early days and we have more work to do to communicate the full scope of our capabilities.
As we saw it inside an ignite our story resonates with customers because of this I'm confident in our ability to return to growth.
We will continue to return capital to shareholders, while investing for the long term health of the business and capitalizing on our unique ability to help customers navigate the complexities of the hybrid multi cloud.
Before closing I want to share some news about our organization Henri Ricciardi Executive Vice President for worldwide customer and field operation has let me know visit intend to retire at the end of the fiscal year.
Over the past three and a half years that net up arias done much to transform and modernize our sales force to take advantage of the strength of our data fabric strategy and our technology leadership, as we pivoted to new buying centers and the growth areas of the market.
Henri will participate in the search for his replacement and help in a seamless transition while continuing to lead the field and improving our execution.
At the same time I'm excited to announce the promotion of James White more two senior Vice President and Chief Marketing Officer, James came to net up in the Solidfire acquisition, where he was CMO and has since been leading our demand generation and digital strategy in the marketing organization as acting.
Demo James already made a strong impact and I'm glad to have him as the CMO of net app.
With that I'll turn it over to Ron for more details on the quarter and our expectations Ron.
Thanks George.
Good afternoon, everyone and thank you for joining us.
As a reminder, I'll be referring to non-GAAP numbers unless otherwise noted.
His George highlighted in Q2, we delivered strong margins and operating leverage in the face of continued caution from our customers as a result of the macro environment.
Despite the demand uncertainty, we're confident in our product leadership and strategy to reaccelerate growth going forward.
We also remain committed to our capital allocation strategy of returning cash to shareholders to share buybacks and are healthy quarterly dividend.
Before discussing our guidance I'll provide further detail on our Q2 performance.
In Q2, net revenues of $1.371 billion were down 10% year over year, including one point of currency headwind.
We had zero easily revenue in the quarter compared to roughly 20 million of yearly revenue in Q2 19.
Product revenue of $771 million decreased approximately 16% year over year.
Adjusting for Elaine Q2, total revenue would have been down approximately 8% in product revenues would have been down approximately 14%.
Moving down the piano software maintenance and hardware maintenance revenue of $540 million was flat year over year.
Deferred revenue increased 8% year over year in Q2.
Gross margin of 68.6% was above the high end of our guidance range.
Product gross margin was 57.3%, which is an increase of 3.2 points year over year and above our long term target of 56% outlined at our analyst day.
The improvement was driven by continued salesforce discipline.
An increase in all flash product mix and cost reductions and includes nearly half a point of currency headwinds.
Q2, as the 11th straight quarter, we increased product margins year over year, when adjusting for the benefit of utilities.
The combination of software and hardware maintenance and other services gross margin, 83% increase by over 150 basis points year over year, driven by continued productivity improvements.
Q2 operating expenses of $631 billion were down 3% year over year, driven primarily by a reduction of variable compensation.
Operating margin was 22.5% solidly above the high end of our guidance range.
Despite the revenue headwinds EPS of one dollarsnine was up 3% year over year, an above the high end of our guidance demonstrating the operating leverage in our business model.
We closed Q2 or $3 billion in cash and short term investments.
Our cash conversion cycle was a negative four days up 15 days year over year.
So a 52 days was up six days year over year due to linear during the quarter and to a lesser extent customer mix.
The Io was 23 days, a nine day increase year over year.
We continue to expect or cash conversion cycle to remain negative through fiscal 2020.
Cash flow from operations was a negative $53 million well free cash flow was a negative $89 million.
The negative Q2 cash flow metrics are due to timing and do not reflect a change in our underlying business.
The timing issues were primarily accounts receivable.
Additionally, there is a shift in the linear to of cash tax payments and that's why 20.
We are maintaining our expectations for free cash flow to be in the range of 19% to 21% of revenues in fiscal 2020.
During Q2, we repurchased 9.8 million shares at an average price of $51, a 19 cents for a total of $500 million.
Weighted average diluted shares outstanding were 236 million down 28 million shares year on year, representing an 11% decrease.
During the quarter, we paid $111 million in cash dividends.
In total we returned $611 million to shareholders in the quarter.
For fiscal Q3 cash dividend will be 48 cents per share.
Now onto guidance.
We expect revenues for fiscal 2020 to be down approximately 8% year over year, we continue to expect delays to represent approximately 2% of total revenue.
For fiscal 2020, we now expect gross margin to be in the range of 67% to 68%.
Our previous guidance of 66% to 67%.
Due primarily to the improvement in product margins.
Operating margin for fiscal 2020 is expected to be in the range of 21% to 22%.
Implied in this guidance is our expectation that operating expenses will be down slightly year over year in fiscal 2020 due to lower variable compensation.
As a result in the updated revenue and margin gains we expect it appears to be down between five and 8% year over year without the benefit of buybacks.
Now onto Q3 guidance, we expect Q3 net revenues to range between $1.39 billion and $1.54 billion, which at the midpoint implies a 6% decline in revenues year over year, including a half a point of currency headwind.
For Q3, we expect consolidated gross margin to be approximately 67% and operating margin to be approximately 22%.
We expect earnings per share for the quarter to range between $1.14 and the dollar 22 per share.
We are diligently focused on improved execution and addressing the challenges we face.
We are committed to returning the company to growth.
And we remain confident our business model leverage will enable us to deliver long term shareholder returns.
With that I'll hand, it back to Chris to open the call for acuity Chris.
Thanks, Ron well now open the call for acuity, we ask that you'd be respectful of your peers and limit yourself to one question, so and get to as many people as possible operator.
Thank you ladies and gentlemen, if you have a question at this time. Please press Star then one on your touched on telephone and if you wish to withdraw your question press the pound key please standby, while we compile the kunaev roster.
Our first question comes from the line of Wamsi Mohan with Bank of America.
Yes. Thank you your product gross margins north of 57% I've been worry strong we've not seen that in the Lyle actually since 2015 can you talk about how much of that product gross margin was was product mix driven versus commodity price tailwinds or maybe even federal mix and and do you feel that you can sustain or expand.
These margins as you go into into the back half of the year.
Yes, good question.
On a year over year basis, most than it was mix.
Meaning we saw higher percent this quarter of all flash than we did say last quarter.
Some of that was off on cost reduction not just on NAND and other things as well.
That was in the face of having no delays in the quarter.
Against you I did contemplate the ability to keep this level of gross margin through the rest of the fiscal year, you saw that and the increase of the total margin guide.
Okay, great. Thanks, if I could really quickly on Cts you exited last quarter with 5 million in monthly sales seems like you exited this this quarter with about 6 million despite.
Measured Yale quarter can you talk about what are some of the challenges not ramping this faster and I know George you expressed a lot of enthusiasm and all your discussions will that inside of ignite So where do you expect C.D.S. annualized revenue run rate could be as you exit fiscal 20. Thank you.
We aren't going to give you guidance on the Cts business.
I think as we said we've taken longer than you originally expected to get to general availability given the technical sophistication of what we're offering to customers that total addressable market is there we are seeing a lot of demand in interest from customers and we're adding customers and growing footprints on.
Our daily basis.
Got to just need to keep doing the work necessary to scale and enable all of the pathways associated with being able to take the solution to market.
And to replicate the wins that we've got across a broad range of workloads into more customers. So we're focused on execution at this point.
Thank you.
Thanks, Sandy next question.
Next question comes from the line of Rod Hall with Goldman Sachs.
Yes, thanks for the questions.
I wanted to just check and see Ron if you could comment on the accounts receivable and the well, but they did dsos. That's the highest we've seen I think ever in our model. So just I heard you say the tail end of the you know that it was heavily back end loaded in the quarter, but any more color on that and then the delays you're holding this 2% guys.
Good.
Yes, there are no yearly so far so just anything you can say that would help us all have more confidence that you've got visibility into that or are you still having to run on a treadmill, we get them deals just kind of help us understand.
Why you thought competence and that he only guide thanks.
So.
With respect to a are.
Linearity within the quarter and particularly within the month and then to a lesser extent some of the mix of customers. We saw that bought in the last two months. The quarter you saw similar phenomenon in Q4, where we ended pretty back end loaded and of course collected all of that they are in Q1, which yielded a bunch of cash flow it happens sometimes.
The other issue with free cash flow on cash flow, which I mentioned in my script was.
Larger cash tax payments, but I did reiterate the full year guidance, 19% to 21% for free cash flow as a percent of revenue.
With respect to L.A.'s I'll make a comment then let George covenants well last year. This quarter. We ended up giving you a full year guide of roughly 2% of revenue without understanding that we can't easily contemplate when those yields come in within each quarter, but for the full year, we felt comfortable with that we did that based on extensive conversations.
With parts of the Salesforce, making sure they understood the importance of this and the fact that it has a huge impact on earnings because it's essentially pure profit.
So that was a further conversation this quarter and blood to the continued commitment for the second half.
With regard to release of rock I think the fundamental thing that we.
Our doing with them is to enable streamlined customer purchasing it doesn't require them to spend the whole amount of the yearly upfront, it's really to make their overall multi year procurement agreements, but that's a lot more streamlined and to enable us to get broader strategic footprint in the account.
We know these accounts some of them have intending events that this would clearly enable things to get more streamlined and so we're working right. It's we have visibility into these accounts we know what these accounts are.
And we're working hard to bring these forward.
Okay. Thank you.
Thanks, Rod next question.
Our next question comes from the line of Karl Ackerman with Cowen.
Hey, good afternoon, I think or let me ask your question.
And towards the Ron if I may.
Going back to your outlook for December .
He also implying that not all flash array business will decline about 6% sequentially.
That seems to be about in line with the seasonal averages nearline drives but at the same time two of your hardrock suppliers has spoken about improved near line shipments in December .
Half of 2020.
When you also wants to mid range hybrid arrays insight. So are there competitive horses impeding your ability to do a bit better and harbor rates or the next few quarters or is it just conservatism. Thank you.
So im not really sure I understand your question. We've got we're guiding total revenue, we're not adding even specific product revenue and within that not all flash. So im not sure quite understand where you go into.
We feel good about our position in the hybrid array market. We are without question across a range of customer and analysts surveys the best.
Hybrid Irene vendor.
We've introduced two new models I think what we are you know framing up for the next quarter Guide is really an overall product number.
We're not forecasting it to the level of specific product components at this point.
Thank you.
Thanks, Carl next question.
Our next question comes from the line of Mehdi Hosseini with ESI G.
Yes. Thanks for taking my question George you want to go back to the topic of installed base in the past you've talked about install base that is only penetrated.
Into teens at how do you see especially in the context surface strong if say.
Results for the October quarter.
Thank you.
We are up a few percentage points very up at 22% of the installed base now being long at fate as we've said before our installed base is growing and so while we shipped a lot of new systems each quarter, the size and scope of the installed base and its growth.
Leaves the totally penetration that a small number which allows us to have opportunity to continue to refresh overtime. The rest of the installed base sure. Thank you just one clarification. If I may would end of life support for ONTAP seven actually helped.
And.
Expedite or increased penetration rate.
Some of those customers that have not upgraded so far there is a small number but certainly some of those if they look at the economics today offer platform like our C 190.
You should be would choose to go all flash then go to attend Kate This based system, because the economics already better with our solutions to replace 10-K drives.
Great. Thank you.
Thanks, Mehdi next question.
Our next question comes from the line of Aaron Rakers with Wells Fargo.
Yes. Thanks, Thanks for taking the question I, just kind of want to understand a little bit on the guidance side. It would appear based on the gross margin guidance in the current quarter that you're not obviously factoring in L.A. I think last time, you know, it's like a 400 basis point benefit that you saw on product gross margin. So if that.
True and we kind of think about the setup going into the April quarter, it's kind of hit the full year guidance level number. One are you factoring into revenue contribution to kind of hit in absolute increase in revenue.
The April quarter that includes an L.A. and therefore, we should also be thinking that the gross margin.
Into that April quarter is significantly higher.
Just because that you like contribution would fall into that if you kind of hit that 2%.
Total revenue for the full year or is that just not factored into your guidance at all I'm just I'm trying to understand how you kind of pick about the mechanics of the implied guide into the April quarter.
Yes, so remember as we go through the fiscal year. This for Q3 in Q4 product product revenue becomes a larger part of the total which overall is.
Dilutive to overall margin right. So you can't just look at the numbers that you are holding total margin flat to Q3. Therefore, you don't have any element because of mix of product versus services is higher in Q3, obviously.
So there is some Elaine Q3, and Theyre absolutely as some in Q4.
Okay and on absolute basis, you know April quarter versus what you've done over the past few years.
I think it early 18, the storage market was fairly healthy so I'm just trying to.
You have a line of sight that that says look when the absolute sequential basis, you can kind of you'll see that kind of jump that you saw back in 2018 or is there something else. It I'm not I'm just not thinking about in the model.
Well again, you've got.
The benefit of delays in Q3, and Q4 would you didnt have essentially last year Q3 to four to great extent.
That helps things all things meaningful.
Okay fair enough. Thank you.
Hi, Thanks, Aaron next question.
Next question comes from the line of Katy Huberty with Morgan Stanley .
Thank you good afternoon, EMEA with stronger than other segments can you talk about whether that was your own execution or did you see some some improvement in the market and then just generally speaking can you comment on this spending environment relative to that are cautioned that you highlighted in the first quarter to meet its Mike. Thanks.
We saw Q2 relatively unchanged from Q1.
And.
As we said at the start of the year Q1 was a step down from calendar Q1, which was our fiscal Q4 off last year, but Q2 was not.
There were no major changes overall in terms of the trajectory from Q1 in terms of spending customers continued to be cautious. They are scrutinizing transactions. They are buying for what they need today and the differentiation our off our offerings is clearly visible in the fact that our gross margin.
As for really really strong with regard to EMEA. Our teams have done a really good job and I want to salute. Our sales teams. This a lot of execution that has been a big part of our strength in EMEA.
Alright, Thanks, Katy next week.
Our next question comes from the line of Matt Cabral with credit Suisse.
Thank you the services business was down a touch if you put together both hardware and software just wondering if you talk little bit about where you are in addressing some of the renewal issues that you highlighted on prior calls and just how we should think about a returned to growth for services going forward.
So we've made some progress on that and you can see that were essentially flat when you adjust for FX. We saw some work to do there's some organizational work we're doing there's some process work we're doing.
You can't see that yet manifest itself and growth, but as George indicated the installed base is growing.
And we believe that eventually that will get back to growth as well you can see the in the deferred revenue number so it's not going backwards, which is good as it didn't in Q4 lustre, but we have some work to do.
Got it thank you.
Thanks next question.
Our next question comes from line of Alex Kurtz with Keybanc capital markets.
Yes, thanks for taking the question George on last call. It seemed like the Salesforce productivity issue was really.
The main driver to the reset and I'm sure you.
We touched on macro in that call, but it just seemed like that was really the focus.
From the team.
And then fast forward 90 days and you seem very optimistic about the hiring of the new wraps it I just wonder.
What gives you the confidence 90 days later, because it seemed like it was a pretty big step back internally as far as how team was working but maybe we were over estimating that and maybe things weren't as it's difficult to kind of fix as far as hiring productive reps and ramping them.
It's in what we said on the Q1 called was that the.
Quarterly results reflected two thirds of macro one third sales execution.
And so it was a reflection of the macro in the purchasing behavior of our largest customers that drove the majority of the impact in Q1.
We've always believed that our portfolio is really strong and given our position in the market, we have ample room to capture more accounts and to invest some of the really strong gross margin leverage that we're seeing into investment in field sales coverage.
We've always believed our story is differentiated in the market. We are doing exciting things and we had an attractive place to work. So we've been.
Pleasantly surprised with our ability to higher good quality salespeople and we're focused on getting them productive and ramping them I think I would just say we're heads down focused on execution Q2 saw an improvement relative to Q1 in terms of our ability to execute and capture.
The deals in front of us.
Got to keep doing that and I expect us to continue to do that through the course of the year.
Thank you.
Thanks, Alex next question.
Our next question comes from the line of Amit Daryanani with Evercore.
Yes. Thanks, taking my question guys are I guess, Ron you're thinking of gross margins fairly notably for fiscal 20.
Structurally I'm wondering do you think 60 some percent less gross margin that's something that's sustainable long term or was there some specific benefits of and maybe more onetime in nature in fiscal 20, what's is longer term how do we just think about the levers that are enabling this upside and then George how do you think about dealt upcoming midrange solution and what that could do from a pricing a competitive basis.
You guys.
So on it I think if you look at where we are in the quarter and then implied in some of the guide for the rest of year. We are at the model, we articulated at our analyst day for product margins.
A year and a half ago. So we said 55 that point after the six so six change I said 56 to 57 and so yeah I believe it's completely sustainable it's a good 10 points below one of our competitors isn't all flash competitor.
It's 10 points above where we work to two years ago. So it's a really good place to be in a happy it gives us a lot of flexibility to still be aggressive but not under.
With regard to your comment about Deli AMC, we feel very good about our solution set we are seeing by Gartner and customers as the leader for primary storage.
And we are the only vendor in the market with a comprehensive cloud strategy and so we feel good about our position in the market and we're going to capitalize on it which is why we're investing in sales capacity to go capture net new accounts and expand wallet share within existing accounts.
Thank you.
Thanks, and then next question.
Our next question comes from the line of Andrew that high with Wolfe Research.
Hi, Thank you wanted to follow up on our part question and how it relates to guidance you mentioned the weakness you're seeing.
And sort of deteriorating macroeconomic environment, but just wondering why you decided then tightened the full year guidance, especially on revenue kind of taking it from a five point range to a point estimate.
I think when you think about the guide we have two quarters of axles and guiding Q3 discreetly. So you. This essentially have three or the four quarters I think it would be strange thing is keep the same 5% to 10% down when in fact, we kind of know where we think we'll be in Q4 remember Q4 last year.
As a relatively easy compare we were down 3% so.
Getting to that number should not be that difficult, whereas the first half. This year was much different more difficult compare couple that with effect that we have delays in the second half we didnt happen in the first half.
Just felt like it was a better thing to do.
Okay. Thanks, and then separately public sector was.
Kind of down sequentially.
Just was wondering to what extent that was expected and should we think of public sector sort of being in line with the rest of the company on a year over year growth basis into Q3.
And for Q.
You know over the last year.
Or two we started to shift the mix so far public sector business to be more program related and broaden the book of business beyond just the fed to state local and higher education than other parts of the market. As a result, you will see the business.
Trend towards more of.
Standard pattern as opposed to a big step up in Q2.
Thank you.
Thanks, Andrew next question.
Our next question comes from the line of Simon Leopold with Raymond James.
Thanks, I wanted to see if we could touch a little bit on what you're seeing in the macro environment.
Given what we've heard from from others reporting Tonight.
It sounds to me that may be you saw some of the deterioration of enterprise demand a little bit earlier.
And so this is more of an issue of timing and what I'm really looking for from new is how the demand has maybe evolve their change over the course of the quarter versus what you talked about in August is is the weakness shifting among verticals steady has it changed thank you.
I think in aggregate, we did not see material change in Q2 from what we saw in Q1.
With regard to the exposure of specific verticals and so on we have a broad book of business. We wouldn't say that we are exposed to any particular vertical to be able to comments specifically about it I would say, it's reflective of the news that you see in the market right.
You know there our teams in countries like Germany, where the spending pattern is tight who are executing really really well for us and we did see some slowdowns in other parts of the world, but nothing that's unique to Netapp and it's our view is Q2 is reflective of a more stable long term.
Pattern that we see in the market and it isn't materially change from Q1, and that's what we're planning our business around to capture the value from our differentiated offerings by oil.
Being disciplined on price and extracting the value that we feel we deserve.
And then investing some of that benefit from gross margin and operating margin leverage into the quota bearing sales capacity that we talked about last five and we feel that the combination of the two should allow us to.
During get our business back to growth overtime and continue to deliver the earnings model and.
Turns to shareholders that we've committed to.
Thanks, just to clarify one thing did you see seasonal strength in the federal vertical in the most recent quarter that sets up the tougher sequential comp in the January quarter is that material for you. Thanks.
Our book of business in the public sector market is increasingly broad we have diversified our book of business to be.
Deployable in program spending, which is not driven by any specific seasonality pattern, we're growing our footprint in state and local governments, so the public sector.
Business had its normal year end pattern, but it's a smaller component of our all the fed business is a smaller component of our overall public sector business.
Thanks for taking the questions.
Thanks, Simon next question.
Our next question comes from the line of Georgia are winning with Oppenheimer.
Hi, Thank you for taking my question.
George you continue to to be pretty bullish on adding new customers, especially with your.
Cloud offerings can you give a sense of whether that's just share displacement there primarily new workloads and is that transitioning over to some traditional storage sales as well.
We are certainly seeing a broad range of workloads being deployed on our cloud solutions.
Commerce.
Databases, like Oracle and Sep Honda, which are high performance transactional workloads, we see genetic sell bio science applications vertical applications for oil and gas and health care, So really broad set of applications that require.
Consistent performance and high availability.
And I think Thats, what we are uniquely positioned in the cloud for there are customers and many that are saying that listen we're going to if you're going to use you in the cloud we want to harmonize our on premise is environment. So that we can move workloads between the two landscapes and with our announcement.
Keystone a subscription service for on premise as environments. They can now have not only that technology that allows them to standardize workload models between on premise public cloud, but the customer experience and the consumption offering that allows them to do that.
All right and just expanding on your Keystone comments, how long do you think the selling motion will take to get that up and running.
No I think that listen we don't believe that Keystone subscription services will replace Capex purchasing right. We think it'll be a part of what customers want for their IP landscape. We are doing the work to enable our sales teams to be able to you know position that.
Offering in the right way into customers and we think it'll take time, we'll give you updates as we go with regard to our business model, we hold the assets on our books you will see depreciation.
Similar to what where in the PNNT. We have we report cloud data services depreciation right. So it's not going to be material. This year.
Thank you. Thank you George next question.
Our next question comes from the line of Jim Suva with Citigroup.
Thanks, very much and George you Denbury vocal about how much more sales and can you just remind us of the cadence is it kind of higher during six months train good relationships with growing the six months. After so we're kind of looking at school.
Kind of 21 or kind of summer of next year long said the food really starts to bear from these efforts you've got the right timeline or I might be off format.
We said that just to go back to what we said, we said that we were going to hire 200 incremental demand generation headcount.
No over four quarters.
With the last quarter being Q1 of fiscal 21.
And we're on track.
It takes three to four quarters to trailer rep and to get them to full productivity. So we think the predominant benefit of this additional capacity will be in fiscal 21.
Great. Thank you so much for the clarification its greatly appreciate it.
Thank you Jim next question.
Our next question comes from the line of Lou Miscioscia with they will capital.
Okay. Thank you so two questions sort of combined together one of the things about the Salesforce you said a good portion of the Salesforce wasn't selling the entire product line given obviously the relationships. They have their I assume this is just more of a re education and maybe some adjusting to the sales plan I'm just wondering how is that actually happening.
How is it going and then combined with that.
Maybe this is part of it obviously flash improved.
Significantly on a quarter to quarter basis, just are you.
He went through some of the impacts last quarter, but how did you give flash bouncing back so quickly this quarter.
I want to credit the field organization for focus and execution right. I think we said that what we were going to do was to focus on the big market transitions disk to flash.
Turning so ITD public private cloud and the deployment of enterprise workloads in public clouds of sort of the key areas, where we would attack the market and I think credit to the sales leadership and the sales force for the progress in all flash with regard to comment you made earlier about.
You know our ability to sell the full portfolio.
What we observed is that there are different buyers for some of our portfolio than the traditional storage buyer cloud architects.
Dev ops staff.
And workload owners like application owners, we have been focused on.
No, reaching them and bringing them to our user conference. We saw a substantial uplift in the number of people from those pedigrees coming to our user conference, reflecting both the success of our field and marketing teams and reaching them overtime as well as the interest that they have in our portfolio.
Right. So we need specific competency to go after those types of sales motions and we're bringing that into the company as part of our 200 headcount and of course, we're focused on training the storage focused sales force on expanding their relevance to some of these new audiences. So works under way as I said.
Or heads down in executing against these.
Three imperatives, we saw the benefit of that focus in Q2, and we're going to continue to stay laser focused on that through the rest of the year.
Thank you and your next question.
Our next question comes from the line of Amanda the rule with loop capital.
Hi, Thanks, guys, you're taking the questions George.
George that.
Your last analyst day, you guys thoughts about mid single digit revenue growth.
Now that you're getting the sales force you know sort of color re optimize any maybe that either re optimizing distinct from the adding that does the optimization process puts you in that position.
Longer term to the stronger revenue growth if you are marketplace optimize.
And just real quick Ron I believe you had in L.A. expectation in in the results through the quarters. They did you and you basically to deny revenue. So you you outperform year internal product revenue.
Targets for the quarter. Thanks, guys.
So night I think that we have many avenues to grow our business, we have a leading position in primary storage on premises, we have a growing private cloud business and we are the only storage vendor who can support enterprise workloads in all.
If the major public clouds, and so I feel like we have plenty of total addressable market.
We are focused on getting the company back on track to growth right I will tell you more about our long term earnings model. The next time, we hold an analyst day I would just tell you that we have delivered on all of the elements of commitments. We made in terms of gross margins and operating margins and so on and borrowing.
The slowdown in enterprise spending this year, we were on track to meet even the topline numbers that we had committed so we feel strongly about delivering on our commitments right. Now we are entirely focused on executing against the opportunities in front of us and getting the company back to growth additional sales headcount funded by.
The strong margin profile of our business is the first step getting them onboard productive and all of that the focus of the company right now.
From an another you're right I did mention in the Q2 guide we had factored in some amount of the law, which of course didn't come through and it was essentially the entire miss the midpoint.
Simply clubs into Q3, so yes, we Vincent Hemming second where we thought with exception of that one airline.
Okay, great. Thanks very much.
Fernanda next question.
Our next question comes from the line of Niihau Chokshi with Maxim Group.
Yes. Thank you.
So really nice a net new cloud a our within a quarter of 11 million.
Which compares to 7 million in the year ago quarter. So that's.
Very strong net new a our growth is that all those are files, driven or sales capacity driven or something else.
The majority of far.
Growth in.
Cloud data services is from Microsoft Azure net up files.
We saw and the majority of that revenue is from net new customers right. So we don't have.
You know a single large customer that's a big percentage of the total number we're seeing good momentum across a broad range. The use cases, and a broad range of customers trying things out in deploying their first workloads. So as we go forward your focus both on continuing to acquire new customers, but.
Additionally to expand our footprint now that we've got success in some of these customers to broader set the workloads. So thanks for that.
And if I me my understanding is Oh.
You do have some specialists trying to sell cloud data services.
Although I believe also the broader Salesforce is also capable selling the cloud services, what's the sourcing of this new cloud a are between these two sales forces.
Hi, it's hard for me to comment on that I think we've got multiple pathways into the market.
We've got both specialists and generalists within our field, who are focused on selling cloud data services as part of their Remits and we have the Microsoft pathway into market, which we are continuing to work to enable around the use cases on the expanding number of use cases afar technology, so it'll take time, but.
Heads down focused on it and we're really excited about how successful the technology is in serving the customers that have come onboard right for things like databases and E Commerce and content management and media and life Sciences, an incredibly wide range of application frankly.
More than I had expected.
We have compelling business advantage that we offer customers.
Great. Thank you.
Hi.
Our next question comes from the line of Nick total ROE with Longbow Research.
Thank you I apologize for the background noise.
Service margins continue to tick up despite I think you guys are still investing a lot at the Cts business, which is a headwind which should abate at some point.
Ron can you comment about the runway or how do you see the opportunity to continue to grow services margins.
Overtime.
It is something that we are focused on in the sense that we're trying to get more efficient.
Having said that I don't want to be too much more higher than where we are today, it's not something I contemplated in our long term guide at our analyst day.
We saw this quarter so I.
I think.
It's there's good work being done there's more work we can do.
Yes, Sir.
Upside to that number.
Okay, and if it could just follow up or.
Some point in order to hit the fiscal year 21 guide for CD, yes, there needs to be a step function increase I guess on a quarter over quarter basis, I guess, what are the the what needs to to work needs to be done do you guys need Google. We also to go general Bill ability to kind of start seeing really that inflection.
So so working so investors can get more confident around that target exiting fiscal year 21. Thanks.
No we started.
We got to general availability later than we expected given the complexity of integrating a really high performance service. So deeply into these hyper scale cloud.
We are at GA with Microsoft we have clear line of sight into GE with Google.
And.
You know, we think that there is a broad the total addressable markets. There as I said earlier the number of use cases that are being deployed on our platform is broader than we originally anticipated and so we've got work to do to execute to train the salesforce to train the Microsoft channel get our.
Message out to market and bring in the customers to be able to deploy them at our platform. We saw good start to that with the attendance at Microsoft insight, Microsoft Ignite and at Netapp insight, where the number of people coming to talk to us and start to do proof of concepts with US we are really good.
So we've got heads down we got to deliver on.
No getting these customer successful, but we feel like we got a really really good platform and the early results have been really good.
Thanks, Good luck guys.
Thanks, Nick.
Our next question comes from the line of Steven Fox with Cross research.
Hi, Good afternoon, just one question for me, George obviously, you're not making any grand ambitions about the macro so when you mentioned the return of growth I assume for next fiscal year.
Is it mainly driven by the Salesforce execution or how would you sort of rank wouldn't characterize what's most important in terms of getting back to topline growth. Thank you.
I think it's really making sure that we can capture the full range of opportunities that are available in front of us as I said, we have leadership positions in a broad range of categories of primary storage.
We are the only vendor with that.
Cloud strategy and.
Really compelling technology available in the big public clouds, all of the big public clouds.
And we need to be able to go and access the customers that are making those decisions, which is where the sales headcount focus is really a critical part of the go forward plan. The differentiation of our technology is evident in product gross margins right and the leverage of our business model is evident in.
The results, we just showed and the guidance, we gave and I think for US. It's you know the macros could it be the macro we're going to go take share and to go after the addressable market, we're doing that prudently within the guidance off that we gave you and by prioritizing our resources against the biggest opportunities.
Okay appreciate that color. Thank you.
Thanks, Steven next question.
Our last question comes from the line of Matt Sheerin with Stifel.
Yes. Thank you could you talk about the contribution you saw in the quarter from your Big distribution channel partners, several distributors and resellers have called out relative strength in storage following a very weak June quarter.
Is that a reflection of the middle markets being a little bit more stable or bouncing or any changes in your channel partner programs. Thank you.
You know the contribution of indirect channels to our business was relatively unchanged in terms of the overall mix of our business, it's approximately 80% each quarter and.
We feel that that swelled reflective of our overall book of business nothing unusual there.
Our.
You are correct that the Midmarket is relatively less concerned about the impact of the global economic slowdown.
And some of the uncertainty there.
And we have more opportunity to capture share because our share in the mid market is a bit smaller than it is in the enterprise our channel partners. We're focused on enabling a focused set of channel partners. So that they get the full impact of net apps enablement resources and so we've got to narrow group that we work with.
And we're pleased with the progress so far.
Thanks, Matt I'll pass it back to George for some final comment.
Before we close I want to underscore a few key points.
Netapp is helping customers deliver enormous business value in both traditional elect and increasingly in cloud led use cases.
Only netapp has the strategy the brought innovation portfolio and customer experience to help customers succeed in hybrid multi cloud I'd.
We believe we can return to growth overtime by selling the value for our differentiated portfolio.
And investing in additional sales capacity to reached new buyers.
As I saw it insight and ignite, we're making real progress here.
We continue to be disciplined in our spending and have a strong financial model with growing gross margins and operating margins that enable us to return cash to shareholders and invest in the long term health of our business.
Thank you and I look forward to speak with you again next quarter.
Ladies and gentlemen, this concludes todays conference call. Thank you for participating and you may now disconnect everyone have a wonderful day.
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