Q3 2020 Earnings Call
Good day, ladies and gentlemen, and welcome to the net <unk> third quarter fiscal year 2020 Conference call My name, Missouri, and I will be a conference call coordinator for today at this time.
All participants are in listen only mode.
Later, we will conduct a question and answer session and instructions will be given at that time.
No it to turn the call over to Kris Newton, Vice President Corporate Communications and Investor Relations. Please proceed Miss Newton.
Thank you for joining us with me today, our CEO, George Korea, and CFO Runtastic. This call is being webcast slide I 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 financial outlook in future prospects, such as our guidance for the fourth quarter and full fiscal year 2020 or expectations regarding future revenue profitability and shareholder returns and our ability to improve execution gainshare reaccelerate growth and it.
Banner sales capacity 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 expanded existing accounts capitalize on our data fabric strategy.
Improve our consistency of sales execution and continue our capital allocation strategy.
Please also refer to the documents we file from time to time with the FCC an available on our website specifically our most recent form 10-K for fiscal year 2019, including the management's discussion and analysis of financial conditions and results of operations and risk factor section and our current reports on form 8-K.
During the call all financial measures presented will be non gap unless otherwise indicated reconciliations of GAAP to non-GAAP estimates are posted on our website.
Now I'll turn the call over to George.
Thanks, Chris Good afternoon, everyone before I get into our results for the third quarter I want to take a moment to talk about wrong today, we announced that Ron has decided to retire by the end of the fiscal year.
I want to recognize his many contributions since joining that up in 2016.
Under Ron's leadership, we have increased product margins by 10 points nearly doubled our earnings power and raised our dividend by over 100%.
He has played a pivotal role in helping net up navigator transformational period.
As we focus on becoming the leader in hybrid cloud data services.
I think you'll agree that he has always been a true and honest broker.
Knowing that this is his last earnings call before he retires, it's certainly bitter sweet for me.
We continuously think about what's next for the company and that includes thoughtful proactive succession planning.
To that end, Ron and I have been talking about the prospect of this transition for some time.
During the search process, we have been focused on finding the right person to take on the role of Chief Financial Officer.
And I'm very pleased with the quality of candidates I expect that butyl have someone in roll before the end up the quarter, Ron will stay on to ensure a seamless transition.
And I'm grateful for that.
Thank you George.
Let me start expressing my deep appreciation for the opportunity to work alongside the talented team here at that up.
These past four years have been incredibly rewarding.
The team has proved to be collaborative innovative and empowering I'm proud of what we've achieved during my time here.
I also want to thank the investor and analyst community as it's been a genuine pleasure working with all of you.
This is an exciting tame power industry and front end up I look forward to helping her next CFO transition in Israel.
Thank you Ron now, let's turn to an overview of the quarter.
Despite the topline challenges we continued our operational discipline highlighted by strong gross margin cash flow and operating leverage.
Without the benefit from anticipated yearly revenue in the quarter.
These results reflect the strength of our business model as we take deliberate steps to better capitalized on our opportunity and returned the company to growth.
However, macroeconomic headwinds and unpredictability in large enterprise purchasing behavior persist.
Customers on a journey to the cloud and they are looking to net up to help them as they grappled with the complexities of data management in hybrid multi cloud I T environments, we thought data fabric strategy, we hope customers address these challenges, giving us access to new buyers and workloads.
As well as increasing the relevance of net up two companies, both large and small.
We not only have opportunity in the public cloud, but we also have increased our value for on premise is deployments.
Our ability to deliver real business value to customers hybrid multi cloud environments fuels my confidence that we can return to growth.
Why do we see exceptional opportunity ahead, we are planning our business assuming no change in external factors for the foreseeable future.
To improve our execution in this environment, we laid out a plan at the start of the fiscal year to replicate approving areas of success by getting in front of more buyers with our full portfolio.
We are on track to increase sales capacity by approximately 200 primary sales resources by the end of Q1 fiscal year 21, without adding to the total operating expenses for the company.
The majority of the sales head count will be deployed in our Americas geography.
They will be focused and acquiring new accounts and engaging new buyers like cloud architects in existing accounts.
We are seeing early signs of success by expanding our reach and focus on new customer acquisition.
Our dedicated acquired districts continued to deliver strong growth across all metrics sales units and customers. The growth of these metrics accelerated in Q3 as did the growth of the pipeline pointing to continued progress in coming quarters.
While the acquired this six performed well, we still need to broaden our share of wallet at our largest customers.
We are making progress here. However, it is in our largest account which have the greatest exposure to the macro that the demand environment is the lease predictable.
In Q3 are all flash array business inclusive of all flash Fas, Yeah front solidfire products and services increase from Q2, two an annualized net revenue run rate of $2.3 billion, we introduced new all flasharray and hybrid flasharray platforms.
As well as a San optimized all flasharray, which delivers a simplified and dedicated San experience our core storage offerings continue to gain industry accolades last quarter net up to the highest ranking in the leaders quadrant of Gawkers magic.
Quadrant for primary storage.
In Q3 net up was named a leader in Ibcs.
While based storage marketscape with the recommendation that customers in need of hybrid cloud solutions should consider net up because of our expanded product portfolio investments and vision.
Our building blocks for private cloud deployments Solidfire net up meets the eye in storage grid enable customers to bring public cloud like experience in economics into their data centers.
Our private cloud business.
Inclusive of products and services grew 10% from last quarter.
It teaming an annualized net revenue run rate of almost $350 million.
To meet the increasing demand for object storage Netapp announced new storage grid software.
Forms and the ability to tier two as your blood storage.
Do you see named Netapp, a leader in its object based storage marketscape, citing our vast experience in unstructured data.
They recommend customers consider storagegrid when dealing with petabyte scale datasets across various deployment locations because of its unique hybrid multi cloud integrations.
Based on the last month of Q3, our annualized recurring revenue for cloud data services increased to approximately $83 million up 146% year over year.
We are now generally available with both cloud volume service.
Plot volumes ONTAP for all the leading Hyperscale cloud providers, Microsoft Azure, Google Cloud and Amazon Web services.
Additionally, we added cloud compliance as a feature to cloud volume's, ONTAP, which help customers comply with todays privacy and other data regulations.
We continue to see a healthy mix of customers, new Jeanette up in our cloud services as the enable us to acquire new customers and reach new buyers as well as expand the datasets managed at existing customers.
Our deep integration for abroad, and growing range of use cases, with the leading public clouds and industry, leading technology for on premise is storage solutions gives us a sustainable competitive advantage.
Let me share with you a few customer examples to illustrate how our data fabric strategy allows us to acquire new customers expand our footprint at existing customers and increase our strategic value.
A U.S. based research hospital in one of our acquired districts chose to go with that up on premises and in the cloud.
Our ability to connect their data centers to each other and to multiple public cloud providers.
All with a consistent management interface placed us well ahead of the competition in addressing the customers' requirements.
Global retailer and current net up customer has halted it's on premise is like <unk> spending in favor of for cloud first strategy.
They plan to migrate the large FCB Ana environment to the cloud to gain flexibility and speed of skill using cloud volumes ONTAP.
And that's your net up files.
Because of our ability to help the customer easily migrate to the cloud.
We re team not only the data currently managed by net up in their data centers.
But we will also move competitors on premises footprints onto laid up in the cloud.
And finally on our Q1 call I told you that people working with the Fortune 10 company to migrate its existing data centers to the cloud.
That customer now has line of sight to move 100 petabytes of data.
Largely from our competitors systems to as your net up files.
By partnering with them to achieve their cloud first initiative, we have elevated net up from an infrastructure provider with a minority position in their data center to a key strategic partner.
The power of our data fabric strategy increases our strategic relevance to customers.
Which creates long term value for net up and our shareholders.
It enables us to reach new buyers through new pathways address new workloads and expand our presence with existing customers and it drives our innovation agenda, which we advanced significantly in the quarter.
We are delivering an enormous amount of value to a growing number of customers.
Only netapp has the strategy the innovation portfolio and customer experience to help customers succeed in hybrid multi cloud I'd.
Our strong business model.
Resulting from the hard work, we conducted to improve gross margin and our cost structure over the last several years enables us to navigate the dynamics of the macro economy.
And customer demand environment, while making the strategic investments necessary to cement our leadership in hybrid cloud data services.
With that I'll turn it over to Ron for more details on the quarter and our expectations Ron Thanks George.
As a reminder, I'll be referring to non-GAAP numbers unless otherwise noted.
George highlighted in Q3, we delivered solid margins and operating leverage in the face of revenue weakness.
Despite the demand uncertainty, we generated strong free cash flow and remain confident in our product leadership and strategy to reaccelerate growth going forward.
Before discussing our guidance I'll provide further detail on our Q3 performance.
In Q3 net revenues of $1.4 billion decreased 10%. Your here, we had zero eel any revenue in the corner, although we had expected approximately $50 million.
Product revenue of $787 million decreased approximately 19% year over year.
Moving down the piano software maintenance and hardware maintenance revenue of $556 million was up nearly 5% year over year with better execution in our renewals business starting to deliver results.
Deferred revenue increased 6% year over year in Q3.
Gross margin of 67.8% was above our guidance.
Product gross margin was 55.4%, which is an increase of 2.8 points year over year.
The year over year improvement was driven by continued salesforce discipline and increase in all flash product mix and cost reductions.
Q3 was the 12 street corner, we increased product margins year over year, when adjusting for the benefit of the delays.
The Q2 to Q3 seasonal decrease in product margins was driven my customer and product mix.
We've seen almost no degradation and product margins as a result of increase NAND pricing.
The combination of software and hardware maintenance and other services gross margin, 83.6% increased nearly 200 basis points year over year, driven by continued productivity improvements.
Q3, operating expenses of $640 million increased approximately 2% year over year, driven by an annual merit increases.
Operating margin was 22.2% and inline with our guidance.
EPS of $1.16 was down 3% year here well within the guidance range.
Because Q3 with $3 billion in cash and short term investments.
Our cash conversion cycle was a positive one day, an increase of 12 days year over year.
So 53 days was up two days year over year.
It was 22 days, an increase of seven days year over year.
And deep here was 75 days down three days year over year.
Cash flow from operations was $420 million.
Free cash flow was $388 million, representing 20% of revenue.
We are maintaining our expectation for free cash flow to be in a range of 19% to 21% of revenues in fiscal 2020.
During Q3, we repurchased 8.2 million shares at an average price of $61 in 20 cents for a total of $500 million.
As of the end of Q3, we had $640 million remaining on our original $4 billion buyback authorization.
We didn't average diluted shares outstanding were 229 million down 26 million shares year on year, representing a 10% decrease.
During the corner, we paid out $108 million in cash dividends.
In total we returned $608 million to shareholders in the quarter.
Our fiscal Q4 cash dividend will be 48 cents per share.
Now onto guidance as we've noted over the past seven corners, the demand environment continues to be challenged.
As a result, we expect Q4 net revenues to range between 1.4, or five $5 billion and 1.6, so $5 billion, which at the midpoint implies a 4% decline in revenues year over year, including a half a point of currency headwind.
Consistent with normal seasonal sequential decline in gross margin from Q3 to Q4 associated with product revenue being a larger portion of the overall revenue mix, we expect consolidated gross margin to range between 60, 667%.
We expect Q4 operating margin to range between 23 in 24%.
We expect earnings per share for Q4 to range between $1.28 and $1.36 cents per share, which at the midpoint implies an 8% increase year over year.
The midpoint of our Q4 revenue guidance implies that total fiscal 2020 revenue will be down 10%.
That is being approximately 1% of total revenues.
Our Q4 guidance also implies fiscal 2020 gross margin of 60, 768% an operating margin of approximately 21%.
We expect fiscal 2020 bps to be down approximately 7% year over year and within the range, we guided last quarter.
As George noted we are seeing early signs of success from our strategic investments in sales coverage.
Which provides confidence in our ability returned the company to long term growth.
I want to again, thank the Netapp team, our shareholders customers and partners for making the last four years a rewarding experience.
With that I'll hand, it back to Chris the open call for acuity Chris.
Thanks, Ron will now open the call for QNX, please be respectful of your peers and limit yourself to just one question. So we get to as many people as possible operator.
Thank you, ladies and gentlemen to ask a question you want me to press Star one on your telephone to withdraw your question press the pound.
Please standby, while we compile the culinary roster.
My first question comes from Karl Ackerman with Cowen.
Hey, good afternoon. Thank you for let me ask a question.
[music].
Ron I guess, if I I guess I'm not sure what we should assume for L.A. revenue in the April quarter Guide.
But even if we were to back out E.L.A. revenue in the guide it would seem that product gross margins will take a step down by a couple of hundred basis points and so I just am I missing something and then secondarily is that would that be based on component cost headwinds from NAND or are there other manufacturing cost we should be.
Thinking about thank you.
Thanks Carl.
We don't guide product margin discreetly.
But what we do have it's about 1% of Elaine spent a year in Q4.
Well, we had before is 2%.
There's a lot other so first of all in.
With respect to component costs.
There is ball mill, we saw quarter to quarter from Q2, Q3 that was a headwind.
Gross margin was 110th of 1%.
So, but there's a whole lot of other beck's right. There's mix by product, we have a higher flash mix. It tends to help margin all things being fully of higher software mix helps gross margin. So there's a lot of dynamics under there I wouldn't read anything into it with respect component costs.
With regard to the Q4 guide the gross margin picture is affected by the fact that the mix between products and services leans more to products than it did in Q3, that's the typical seasonality that we see unit Q4.
Seasonal patterns. So we're not seeing anything specific other than just the mix of products and services being a little different than it was this quarter.
Thank you best of luck Ron Thanks, It's great to meet you and I Hope all 12. Thank you. Thanks, Carl Thank you Carl next question.
Next question comes from Rod Hong with Goldman Sachs.
Yes, hi, guys. Thanks for the question congratulations on the retirement, Ron good working with you.
And I wanted to just go back to these delays.
Calculating if you're saying 1% of full year revenue.
In the exact calculation on that's about 55 million I'm, assuming you know it's this a rough estimate could be 50 million but.
You know just three months ago, you guys thought it'd be 100 million added.
I just I'm just wondering what why you continue to think you've got visibility here and we have so much uncertainty on these delays and.
Hawaii include them in the guidance given all that.
We can see some of them, they're still difficult to predict but and they always for backend loaded. So some of the ones that we expect thank you for probably going to slip out a year.
It's really yet.
But.
It's a very different here the last year last year. The front end loaded this year the backend loaded.
As we told you they are difficult to predict in a quarter and then I think at the ended the year there.
And the there's going to come in here. So it's just that simple having said all that you know we still are really happy with the gross margin performance of the underlying product revenue, it's very strongly won't be a headwind because of a lot equalize yearning here.
Thanks, Ron said Rod. These yeah plays are meant to make it easier for the customer to buy and the benefit from the structure of the L.A.'s.
To being able to buy more product more easily we've always said they are choppy and hard to predict.
We have you know deep engagements, but that customers that we are structurally E.L.A.'s wit, and we had we talk one in the quarter. You know that has moved out and that's why we've also taken down the range from.
2% to 1%. So we're trying to do the best we can to give you what.
You know what's available and we're balancing that with the probability that some of them may not happen anywhere.
Could you could you guys elaborate I mean phase one George is this just a few easily deal that would have amounted to honor millions of that 55, maybe that's a couple of deals or can you give us any idea on that.
Listen I think these are by nature large transactions with a very few customers right.
No one or 2% of our total revenue was not a large number and the number of those transactions up very very few so each of them are.
Lumpy hard to predict and sizeable and I'll just leave it there right. Okay alright. Thank you guys.
Thanks, Rod next question I.
Our next question comes from land Hemo handle with Bank of America.
Hi, Thank you I know you just guided Q4, but can you can you give us any sounds at all at how we should look at fiscal 21, you know you haven't than pricing moving up again. Your compares are quite easy cloud data services seems to be doing better can you give us some guide posts on fiscal 21 talk about maybe at least some other puts and takes.
On revenue and also on gross margins if you could please.
So let me just kind of they're not going to guide you know the next fiscal year will give you that guidance when we actually guided I can tell you that you know first of all the investments we are making additional sales coverage. We are on track against our target of 200 incremental sales.
Sales headcount covering new accounts and driving customer acquisition by the end of Q1 fiscal year 20.
It takes those you know sales reps roughly four quarters to get productive. So the majority of the productivity will show up next year, which should drive the you're on your model to be favorable relative to what we had this year.
And we are seeing the early pay off of some of the investments we made in acquisition accounts and acquisition district as I mentioned in my prepared remarks, showing up positively and accelerating through the course of the year.
We talked with regard to product gross margins as Ron mentioned, we have been maintaining strong margins across the board on product and services, reflecting the differentiation of our offering the work that we've done in terms of driving productivity in the business and the discipline of our sales force to capture the.
Full value a far offerings, and we think that regardless of the late picture, we have a sound business model on the gross margin side.
We have been disciplined operating expenses as we said we have outlaid.
You know.
Sales headcount without adding to the operating expense structure of the company and we'll tell you more about our plans for how we continue to be disciplined on operating expenses next year, but overall the business model of the company is a strong one I have every confidence that on the topline the investments we're making this year together.
With a really strong product portfolio should drive positive territory next year.
George I appreciate the color if I could really quick on the on the E outlays.
Yeah, what does that has a tendency that you're seeing out the customer base, particularly because they don't necessarily out too shallow the cash upfront. So why is this not an indication that there are kicking the tires are on other products or how should people read this hesitancy around signing delays.
I think first of all with regard to you know our competitive position you know the data that we mentioned about our ability to win new accounts and gained share in new districts.
Proves that yes strong competitive position.
With regard to these accounts that we're doing here late discussions with we are deeply deeply involved in those accounts we've got.
Many years, though.
Experience dealing with them and we don't see that their head into an alternate you know architecture, our alternate buying motion I think these transactions are complex they require coordination across many departments in the customer we've always been transparent about the fact that they're lumpy right and is very few of them. So.
So you know my own view is yeah lays out 1% to 2% of our business. The majority of the business extremely healthy. These customers that we are in discussions with you know you have other ways to pursue meeting their needs beyond the laser you're using that another you know in other parts of some of these.
So well tell you more as the lease.
Through and we get more visibility into some of these discussions going forward.
Thank you.
Fonzie next question.
Next question comes from Katy Huberty with Morgan Stanley.
Thank you good afternoon, just looking at that product revenue trajectory the decline accelerated in the January quarter. Despite an easier compare can you just talk about where you saw some of the incremental weakness and in January.
Well I think be easily was the contribution contributing factor to the.
Decline I think if you really had been you know had come in I think the picture would have been quite different Katy I think with regard to the.
Weakness in product revenue it continues to be in the largest enterprises as we've said those are the ones that are most affected by uncertain macroeconomic buying.
Conditions.
And we are trying to balance our exposure to those accounts.
Hey, acquiring new accounts, we've seen good results from that and hopefully those two line should crossover at some point of near future.
Thank you Ron Congratulations on your retirement, thanks, Katy Thanks, Katy next question.
Our next question comes from Tim long with Barclays.
Thank you congratulations as well Ron.
Yeah, George I, just wanted to ask about the the cloud data services business. It is it is kind of moving higher but it seems like the last few quarters, you've been adding more you know more partners that you G.A. added more more products and solutions and I think we're at pretty much four quarters in a row, where the kind of the sequential growth was about 10 million.
Dollars give or take a million in that line. So could you just talk a little bit about what you think it will take for that line to inflect, a little bit more as it is it.
You know more experience with with the partners or other products or what do you think it will be that will will make that line now start to move a little more aggressively higher thank you.
Thanks for the question there two things that we believe will allow us to move that lined up I think the first is you know we continue to do enablement and training and.
We are acquiring more new customers every single day, these workloads or applications that we serve in the public cloud. They are important applications right. Their mission critical applications high performance applications and so it takes a while for the customer to get comfortable with the usage of arc.
Phonology before they adopt and expand we are seeing some of the early customers who did proof of concepts with us started to move some workloads now starting to broaden their book of business. So that would take a little bit of ramp time. This second is.
You too overwhelming demand and the fact that operationally we are in the early phases Safi multi region global rollout, we have a process that you've agreed on with the Hyperscale cloud provider, which is we call, which they call white listing where the customer.
Requires a registration for us to manually approve them being on board. We are you know you know window, where we're working hard to remove white listing and that will allow us to scale demand more.
In a much more automated fashion. So those are the do keep things that we need to get through to be able to scale it even faster.
Okay, and I assume we're still on on track with the long term target here.
You know the rehab.
Early signs of the favorable demand patterns, we see that the market opportunity, it's clearly there to get.
And that's clearly our goal and intent as we said we had about a year behind where we wanted to be because of the time, it's taken us to get these services to production readiness. So we're going to continue to push to see how we can get to that target.
And we'll keep you updated on progress.
Thank you.
Thanks, Tim next question.
Next question comes from Aaron Rakers with Wells Fargo.
Yeah. Thanks for taking the question and also congratulations Ron it's been great working with you.
I apologize to go back to this discussion, but you know maybe just trying to understand the math a little bit more given I think the questions I'll get is.
If I look at the Lumpiness in the email Avis this and I appreciate that you know that that Lumpiness will continue.
I think it's important it's kind of understand what you're saying about the gross margin. So.
If I, if I assumed a B.E.L.A. gross margin.
As close to 100% it seems like your implicit guide on gross margin is back into the mid 65% range. So I guess, what I'm asking is what am I missing and I can appreciate the mix of business is a variable in April quarter, but I'm just I'm just trying to think about you know if he always aren't there how do we think about [noise].
Just structure, you know going through the course of the next couple of quarters.
So we think gross margin for the quarter between 66 cents a few seven.
Last quarter for Q3, it was closer to 68.
Higher mix of product revenue in Q4 that that's the biggest degradation tomorrow.
There's a.
Without going into this business number the product margin I can play than that is actually higher than Q3, because the okay. So.
Just.
You can see on this but I'm, telling you that actually hill altogether. So.
Okay, and the E.L.A. I know that deal a attributes there's there's affects that after the upfront software contributions that actually you have some hardware only revenue that kicks in you know that that has lower margins right. That's not a variable at this point that's right. That's that's kind of the variable either as I said earlier mix now.
Historically have a mix difference in margin between all flash and hybrid and now we do there's a big difference between what you sell flashing the margin personal hybrid plus you know the the mix the software as a as a wildcard so last quarter in Q3, we saw software being less of the total than we did in Q2 that was a little bit a degradation.
So no other dynamics undergo going on under there.
Okay. Thank you very much sure.
Thanks, Aaron next question.
Our next question is from Mehdi Hosseini with say.
Thanks for taking my question on drawn has been very nice work can be doing good luck with your next endeavor George when I look of your guide for the every quarter and it just makes an assumption for the old Flasharray It seems like.
You are going to exit if I 20, with a high single digit decline in all flash array of revenues. So as you reposition the sales force and you reload how should we think about the embedded growth assumption for these particular area. All flasharray are we going Oh, we are we set up for a double.
Digit growth and if so what gives you did come from the confidence other than just hiring 200, more salespeople and I have a follow up.
No I think this year the all flash array business has been affected in two dimensions. One was the fact that our largest customers who were most impacted by the macro war heavily all flash customers so from a product mix.
Respective the fact that our biggest accounts underperformed or bought less impacted our all flash business more substantially them back to pretty much every other product in the company.
The second is that the L.A.'s. We're also heavily all flash oriented so both of those have been contributing factors to the year on year declines in the all Flash category. You know we expect the work that we're doing with the you know deployment of addition.
Salesforce.
Resources, as well and focusing on our compensation plans and our you know sales objective on returning to growth in the all flash category to be able to drive our business at an above market growth rates and we'll tell you more about that as we issued the endpoint 21 guy, but we are taking.
Actions to focus our sales force on the best in class product in the all flash category, which is ours right and we have every confidence that we should be able to meet or beat the market next year show and the quick follow up.
I understand you place have it material impact on product margin, but excluding easily NAND prices are going to go up and they're going to go up.
Much higher than where they are today. So how are you able to manage product gross margin.
Independent of L.A., because I I perceived delays as volatile and there's no way could model. So I just wanted to think about the increase in the bill of material and how you're going to be able to manage that.
So many two things number one is as you saw this quarter, you know I think quarter to quarter Nam prices went up about 4%.
Very minimal effect on our gross margin because hunter your pop in your belief not a big huge portion of the Cogs in a system. It's actually now on trade a lot of in civil software 11, southern parts. So no I think what you should see the shares you're right. This year should project to see NAND go up.
But it won't have a huge materials and gross margin because there's a lot other component.
And is that because you're able to.
The that there was another replacement cycle coming is there a premium because on the margin bombings going higher.
Understand nannies, a small portion, but it's still going higher.
It's a nice thing first of all you know for the drivers in our platforms. We typically half the cost on to our customers right. I think you know NAND is not an embedded component of our system. It is a consumable that we pass onto customers.
And so.
No we don't try to mask the commodities in terms of that drives in our system and so they will be you know at some point as the market adjust upward.
If that is the trajectory we're gonna be you know discrete about making sure that we pass on some of that to our customers right and so we've had that history I think the industry as a whole. The fact that is street, you know and we'll disclose it when we do it right I think with regard to product gross margins they've been strong.
This year and even without a year later because of the fact that our salesforce has been enabled and we know how to sell the value of our offering a substantial portion of that value is actually software that both makes our system. The most efficient in the industry, but also allows.
Customers to uniquely take advantage of hybrid cloud capability that nobody else in the industry has been so we are differentiated in software that's proven out in the you know ability to hold gross margins in a tough economic environment.
Thank you.
Hey, Thanks, Manny next question.
Thank you. Our next question comes from Matt Brown with credit Suisse.
Yeah. Thank you George could you just talk a little bit about the wider demand environment that you're seeing and if it's changed at all versus the prior few quarters and then I guess given its been about a year since you've been calling up macro headwind. What gives you confidence that these larger deals are just actually being pushed as opposed to either competitive losses.
Or some sort of a secular shifts in customer is thinking about their on premise footprint more broadly.
So you know we saw the first signs off the macro being a little bit more choppy was about a year ago. In January we saw a substantial step down from that level of uncertainty into a much more sort of uncertain environment in.
Q1, I think from Q1 off our fiscal Q1 I think from then on it stayed relatively in the same territory I wouldn't say it has gotten worse.
It is you know reflective of three or four key things I think the first is you know buying cycles are longer and the amount of you know spend or transaction is smaller I think you know we have consistently seen a higher rate and number of transaction.
Across a broader range of account.
Especially as we've added sales capacity through the year and so thats indications that we can win in net new account.
But that the average transaction size is more muted you also see the fact as we've said where people are buying for now what's the buying capacity for the long term, even though you and people incentives to buy a larger transaction there more you know sort of comfortable buying for the.
Short term those are some of the key things with regard to what gives us confidence that we can return to growth listen I think first of all we have you know relatively easy comparison. The first half of next year. We fought in capacity ahead of you know that window to get our.
Sales teams you know productive we've got work to do to enable all the 200 that we put in place, but the results from the new.
Deployments of resources in terms of customer wins units you know sales volume use cases have all been really encouraging with regard to these large customers that we're engaged with you know we have deep relationships with them, we know when they're making an architectural choice to go to the cloud.
Because we are and into but part of those cloud discussions of many and you know frankly as.
We said in our prepared remarks, some of them going to cloud might be a near term indirect revenue growth, but they give us a much broader revenue opportunity in the medium term you mentioned, a fortune 10 company, which as they move to cloud has given us a maybe three to four times a lot.
Your opportunity that you had on premises and so we're excited about that opportunity in those accounts that are choosing to move to cloud.
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Hi, Thanks, Matt next question. Thank you. Our next question comes from a non umbrella with loop capital.
Hi, Good afternoon, guys I appreciate you taking the question.
Right for me as well congratulations it's been it's been great working with you have really enjoy it. Thank you Andrea.
You're welcome.
George I know you just said that up that you don't.
At least broadly speaking you don't think that you're seeing.
Spending environment I get more challenging I can you like if I back out the.
Ladies and the strategic revenue.
Yes, if you put up slightly yeah sort of more favorable declines in the Jan corridor, but it was up a meaningfully easier compare and so I don't know the lumber seem to suggest that maybe there is some incremental your parents in the spending environment. So I just wanted to run that by you and just make sure that that.
I understand your kind it accurately and then I'm just going to add one more in there to do you feel like with the new sales force ramp on that your where are you from a productivity perspective that you are where you wanted to be you know at this point if you could update as they're just I think where I'll just pick up what kinda context around that.
Not just the product revenue, but the strategic product revenue spending dynamic. Thanks.
Listen I think that.
We're seeing the environment is choppy right. We are seeing that customer spending enterprise 90 spending for on premises data centers is choppy.
And that has been through for a few quarters now you know do I have enough data to see if the she'd better or worse I don't want I don't have that data right I'm, just saying it is pretty choppy it on certain I think with regard to the salesforce productivity.
We've always said, it's between three and four quarters, roughly four quarters for a new account manager to be fully trained and equipped and ready. We said that we would be adding you know increments. So 50 headcount starting in Q2 fiscal year 20 and finish.
Looking at the end of Q1 fiscal year 21, So we would have for chunks of that we're on track with the hiring and we're working hard on enablement right and so I think if you do the math the majority of the productivity impact of that headcount is actually next fiscal year and.
You know listen we'd love to move the productivity impact earlier, and we're doing everything we can but I think that's where we you should you know reasonably model it.
Okay. Okay, great. Thank you.
In Canada next question.
Next question is from Matt Sheerin with Stifel.
Yes. Thank you I wanted to ask about any potential impact you're seeing from the Corona virus and your supply chain given that most of your key suppliers are in Asia in China, or so any any constraints there or.
Given that you're still early in the quarter and you tend to be more back end loaded by the time you get through the quarter that shouldn't be an issue.
Well, it's in our Q4 revenue guide does not include any disruption to our supply chain from the Corona virus so far.
Two elements of our business and there you know potentially impacting corona virus right on the demand side, we don't have a large business in China. We as you know prosecute that business through a joint venture with Lenovo, who on the distributors of our technology in China.
Our customers are you know do large amounts of business in China. So I would model on the demand side that are impacting watches. The second order you know derivative right with regard to the supply side with regard to our supply chain, yes, we like others have supply base that is.
Built you know that has a meaningful footprint in China.
No we are working pretty hard on contingency planning to minimize disruption. So far we have not seen any but I think you know there.
Probably likely some and we're working hard to minimize that.
Okay. Thank you.
Thank you. Your next question comes from Steven Fox with Cross research.
Thanks, Good afternoon, Congrats Ron I'm on your retirement I'm thinking it might have a future as an analyst going forward.
You may no longer John.
[laughter].
Enter in terms of questions I was just curious its maybe into rounding of the numbers, but it looks like sales through channel. The channel were a little weaker year over here I was wondering.
Hi, Thanks talk little bit about that and also similar question on the public sector markets was there any changes relative to your expectations there.
Seemed like it came off a real regular sort of tend to yeah. There the October fiscal year. Thank you.
So with respect to the mix or channel I mean that Fastlane shoes, Eightys funny I should best place around that mean, there's nothing underlying there that was is permitted or unusual.
Okay got to the public sector business, mostly performed according to plan.
I think we saw pretty normal pattern of <unk> business and our public sector.
And just as a follow up to that any initiatives to sort of maybe re accelerate your business and what are your smaller competitors has been focusing on that area do you see that as a threat or is this more just tied the general budgets.
So I think we have you know a variety of ways to broaden our relevance in the public sector. We are working with some of our cloud provider partners to be part of their initiatives and too. So you know our men and women in uniform in new and interesting ways. So we'll tell you.
More about that as we bring goes to market.
Okay. Thank you very much. Thank you Steve next question.
Thank you know next question comes from Jim Suva with Citigroup.
Thanks, Thanks, very much George if I remember right. It was approximately six months ago, you'd mentioned about increasing sales force by 200, and you mentioned and again I'm. Just wondering is there the tempo where the cadence or that you know going faster than expected in line with expected slower than expected.
Because I'm trying to do is figure out the softer guidance is a big impacted at all buyback Salesforce transition what was it more back end just longer decision, making a claim line.
[noise] with regard to the sales force you know, we said that people would add 200 incremental you know sales resources.
To allow us to acquire new customers, we laid that out in a you know four quarters sort of saying that people to start in Q2 fiscal.
This fiscal year and finish at the end of Q1 fiscal year 21, and we're on track as I said in my prepared remarks.
We are bringing good candidates onboard and we are generally on track. We also said that it would take a typical new sales a wrap about four quarters to get productive. So if you do the math the majority of the benefits of that investment really our next year right with regard to Q.
For the you know that change or the softness is really help us being a little bit more conservative on E.L.A.'s, you know going from a previously you know what we thought would be 2% down do you know, 1%, maybe a shade below 1% in that range right and so I think that.
The majority of the change between what you saw previously and what you see now.
Thank you so much further clarifications and each of which greatly appreciated Ron bulk or you.
Thank you appreciate Jim Thanks, Kim next question.
Your next question is from Simon Leopold with Raymond James.
Thank you for taking the question and Ron Congratulations on the retirement I wanted to see if we can maybe talk about your overall philosophy regarding return of capital you've been buying back a lot of stock another 500 million this quarter.
Paying a good dividend over 100 million and so you have been exceeding your free cash flow and you're almost out of the authorized 600 million. So I assume you're going to update us on that at some point, but I guess, what I'm trying to get too is the long term philosophy and does that transition as CFO.
And that you'll want to wait for the new CFO to set a philosophy or how are you thinking thank you.
Well, yeah, I think it's going to coincide with the change in the fiscal year when we give the guide obviously.
Some clarity around what would happen to the capital allocation policy, but you know the dividend as permanent that's not going to change if anything it's going to go up as we proceed from here on out and to your point, we're almost done with a 4 billion dollar share repurchase. So you know you can see that are getting to it in fairly soon and will company will probably be clarify what the next to tranche will be.
Going forward now I'll, let my successor determined that with George.
I'll, just say that are wrong, and I've had a common philosophy and a shared one around the sources and uses of cash I don't think you should see a radical departure from our belief that you know cash is an important asset a for both investing in the long term health of the business.
And in terms of providing returns to shareholders. So I don't think that you should see a sneak a radical departure from that philosophy go forward.
Great. Thank you that's helpful.
Thanks, Simon next question.
Our next question comes from Loomis Scotia, Let's say what capital markets.
Okay. Thank you Ron Best of luck is could have you. So I wanted to just and I went back further 10 years, but really want to focus on the last seven years, if I take out the E.L.A.'s for the quarter just to look at product revenue on a quarter to quarter basis.
Average growth, it's actually about 39 million from getting this all right and with that four out of the last seven actually were material Mrs and the other three were just basically hitting let's say 73 to 77 million quarter to quarter. So I guess I'd be just a little worried on even this lower price.
Revenue, taking out E. alessi, so again, given the choppy environment and all the uncertainty why would we why would you be able to hit the midpoint.
You're talking about Q4, Q over Q3, yes sequential growth of our product revenue to get to the you know if I'm a modeling.
Very easily software maintenance and services I don't think they're hard to model and thus when I look at product revenue I take out the 50 million again, it seems like your average was 39 million quarter to quarter.
So Q4 has always been the strongest quarter in terms of for year end finish for our sales force.
I think you know we have.
I've done a good amount of work in terms of.
Looking at our pipeline and you know, we're not saying that the guide isn't a requires you don't really good execution and you know doesn't require no disruption due to corona virus or anything else, but I think that you know your we're counting on the fact that we are at the end up a fiscal year in Q4.
Or is this quarter that those sales reps that are in the money or go to bring in transactions right. I think that's the short summary, I think you know like all you know plans to be go into the quarter looking at our pipeline looking at close rates looking at how many transactions that are you know high probability medium for.
Not really low probability are required to get into these numbers than we've done that work. It is a choppy environment and so we've tried to be cautious around the probabilities are you know we've done you know we're doing as much due diligence as we can with regard to the quality of the bookings forecast that we gave you.
You.
Okay. Thank you.
Hi, Thanks Live next question.
Next question comes from Eric much Newsy with Lake Street capital market.
Yeah, you've given us some good clarity on the sales hiring effort I was just curious what we're worried or head count finish up for January 31st and where do you expect it Uh huh ending the year.
So it was roughly flat it hasn't changed all that much. We have you know we haven't been a hiring mode, except on the sales force side.
Holding opex essentially flat this fiscal year some of that's variable confident it obviously implies that we're not adding a lot of people just in certain areas some rather surgically.
Okay, you guys normally have a college hiring cycle that would probably bring on people in Q1.
Continuing to see that are you there.
Kinda suspended.
No that's that's ongoing.
Okay. Thank you.
Okay next question.
Next question comes from Nick had a rough with Longbow research.
Hi, guys. Good afternoon, George we're concerned we're hearing that Ah ha systems are displacing more and more traditional servers and storage systems. So good that that suggests that the market could be moving to that enterprise scale applications that your product addresses but can you provide as withdraw outlook for 2020 in terms of do you expect to see any.
Inflection in your aches, Yeah, I revenue and the next year.
That's an H.C. I address the some of the use cases in the customer data center, particularly ones that are are you know single application use I think that we have a good offering a its differentiated for mix workloads and has.
You know several elements for customers, who require you know good data management capabilities, even in a single application use and we're focusing our you know efforts they need to see I am that part of the market.
No we don't see a CIO displays they sort of the the core of solid state storage right. I think you know fibre channel storage as well as high performance scale out NFS storage is still got athlete. Many many applications and the data center and our original view that easy I might displaced those isn't.
Being proven true and I think you'll see us push aggressively with our.
Flash and hybrid flash products to address those use cases.
Got it if I can follow up just quickly or are you willing to share what percent of customers are still what a proof of concept stage with C. D S.
No. It's too early to comment on that I think I would just tell you. The majority of our customers today on C.D.S. are in early you know production right. So the Irene you could say, they're a proof of concept off their first application deployment on our plan.
Foam and you know the might be in production on that application, but thats. The first of many they want to move to that platform. So broadly speaking you know until we sort of remove on gated demand, which is you know removing what we call white listing every cost.
Summers in sort of a proof of concept mold and once we removed that you should be able to see much more automated onboarding of customers to that platform.
Got it thanks, guys. Good luck Ron.
Thank you next next question.
Next question comes from George I wanting with Oppenheimer.
Thank you for taking my question and best of luck, Ron I think you George could you maybe give us a bit more color on trends in North America are there any you know areas, where you're seeing a market share gains come out workload perspective are you starting see any benefit from the the streamlined purchasing model.
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I think with regard to you know the use of you know consumption and consumption based offerings, we see that our cloud data services plus managed services from partners aren't really good opportunities for customers do you know get going with us in a kind.
Assumption offering I think we made our subscription type model available you're seeing early interest that's very healthy and though we are working with a small group of customers on.
Concepts getting them onboard and you know going from there with regard to the streamlined pricing and packaging off our platforms I think that's a big part of why product gross margins continued to be healthy right I think that customers are able to understand about.
You that we offer in a much more streamlined way then be historically used to and so it's another support element for product gross margins are helping our salesforce establish value with customers with regard to some other shifts we see going on in the market as I mentioned you know we are participating with the high.
The scalar cloud providers in new market opportunities and a especially in the public sector market will tell you more about it as those become real but they expand our total addressable market opportunity in a way that we did as before.
All right. Thanks, George next question.
Thank you I know its final question will come from me, how chalk Shane with Maxim.
Oh, yes. Thank you.
The European Directory on the.
Hardware maintenance one from declining because it will just a flat.
Is there a narrative behind that.
Yeah. So actually if you remember even in Q1 in Q2 adjusted for currency were flat. This quarter. It's up about 5% you know what I tried to put in my prepared remarks, I mean, it's actually started to see the benefits that some of that work we've been doing on renewals. So is finally, starting to pay off better renewal rates that are better structures that are pricing.
Better discounting so you'll have to wait until next year, but that's a ship writes about that trend line is actually in really good shape.
Okay. Thank you.
Thanks, Paul I'm going to pass it back to charge for some final comment.
Our data fabric strategy is creating value for our customers netapp and our investors.
Only net offensive strategy, the innovation portfolio and customer experience to help customers succeed in hybrid multi cloud I T.
Our deep integration with the leading public cloud.
And industry, leading technology for on premise the storage solution gives us a sustainable competitive advantage will continue our strong focus on operational discipline, which enables us to make the strategic investments in sales coverage customer experience in hybrid multi cloud solutions needed to capitalize on the.
Opportunity ahead.
We are seeing early signs of success by getting in front of more customers, which gives me confidence that our investments will pay off in future growth.
Thank you all and look forward to speaking you with you again next quarter.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation you may now disconnect.
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