Q3 2021 NetApp Inc Earnings Call
[music].
Ladies and gentlemen, thank you and standing by and welcome to the net our Q3 fiscal year 'twenty 'twenty One conference call. At this time all participants are in a listen only mode.
After the Speakers' presentation there'll be a question and answer session to ask a question at that time. Please press Star then one when you touched on and telephone.
And as a reminder, today's conference call is being reported.
I would now like to turn the call sturdy host Ms. Kris Newton Ma'am you may begin.
Thank you for joining us with me today are our CEO, George Korean and CFO, Mike Berry. This call is being webcast live and will be available for replay on our website at net dot com.
Tom.
During today's call, we will make forward looking statements and projections with respect to our financial outlook and future prospects such as our guidance for the fourth quarter fiscal year 2021.
Our expectations regarding future revenue profitability and shareholder returns and our ability to continue overall growth gain market share and scale, our cloud business, 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, such as the continuing impact of the COVID-19, pandemic and the I T capital spending environment as well as our ability to gain share and the storage market.
Scalar cloud business and generate greater cash flow. Please.
Please also refer to the documents we file from time to time with the SEC and available on our website and specifically our most recent forms 10-Q and 10-K, including in 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 GAAP to non-GAAP estimates are posted on our website.
Now I'll turn the call over to George.
Thanks, Kris and thanks, everyone for joining us today.
I hope that you and your loved ones have stayed safe and healthy since the last time, we spoke.
I'm pleased to report that we delivered another strong quarter with our third consecutive quarter of revenue and billings growth despite the challenging environment.
And the third quarter, our team delivered revenues at the top of our guidance range and operating margin and EPS above the high end of our expectations.
Our performance in Q3 was broad based with notable strength in Americas enterprise.
The incremental sales capacity be added and FY 'twenty continues to pay off.
Additionally, our run to net up competitive takeout program is delivering continued success.
And we gained share and displace competitors installed bases.
Most importantly, this quarter, we once again demonstrated our ability to grow in both of our key markets.
Cloud and all flash arrays.
As we have said many times cloud is additive to our business.
What we do and the cloud helps expand our on premises business and.
And that our enterprise hard and software and experience provide a solid foundation for our work and the cloud.
Cloud services. They are our <unk> grew to $237 million and increase of 186% year over year.
We saw good momentum across the portfolio with Azure Netapp files and spot being the standout services, both delivering significant growth.
We continued to expand with existing customers, while adding new enterprise and cloud native customers.
Cloud services dollar based net retention rate is a healthy 227%.
Our cloud partners are asking us to expand regional deployment.
Brought in workload certifications and invest and go to market activities to support this rapidly growing business we.
We had a significant presence at both AWS re invent and at Google sales kickoff meeting.
This engagement helps us stay top of mind with their sellers.
And reach customers with our cloud value proposition.
We are benefiting as customers move more tier one workloads, such as <unk> to the cloud.
Our cloud volume service delivers the performance and availability required by mission critical applications.
To address the substantial cloud opportunity ahead.
We are pulling forward investments with our public cloud partners, adding dedicated sales capacity and expanding our presence and additional regions. As we look ahead, we have.
Have a strong pipeline to support our Q4 target.
Our cloud partner engagement, and expanding product roadmap and reinforce our confidence in our long term goal of achieving $1 billion and Claudia are in fiscal year 'twenty five.
Our all flash business grew 11% year over year, two and annualized net revenue run rate of $2 $6 billion.
For the third consecutive quarter, we believe we outpaced the market gaining share from competitors and converting our installed base from hybrid arrays to all flash.
At the end of Q3, 27% of installed systems, where all flash and giving us plenty of headroom for continued growth.
Our all flash arrays received accolades from industry analysts and customers alike.
And they integrate cloud connectivity with the speed and efficiency of flash to deliver a smart.
Powerful and trusted solutions for the most demanding enterprise workloads.
In Q3, we expanded the breadth of our flash offerings with the introduction of the fast 500 F. Our first all flash array leveraging <unk> technology.
The fast 500 F is a highly scalable solution for deployments that support huge volumes of unstructured data.
As medical imaging electronic design automation and computer aided design and manufacturing.
Our cloud services and Flash systems are built on the same primary software Foundation.
On top of.
This shared R&D Foundation gives us significant leverage in our R&D investment.
We are able to innovate and test at cloud speed, while bringing new functionality to the enterprise data center at a pace.
Can absorb.
This shared innovation also benefits customers, giving them a similar operating environment and consistent data management tools on premises and in the cloud.
It also enables them to move their data seamlessly to the right location at the right price at the right time.
As I noted on our last call Netapp is helping customers accelerate their digital transformations and put their data to work to elevate their businesses.
Digital transformation is now and necessity, requiring speed and agility to respond to changing business conditions.
Hybrid cloud is the detector it architecture and digitally transform their enterprises.
For the foreseeable future.
Having an integrated flexible data management foundation is critical to the success of digital transformation efforts.
Because of this data is growing in scale and importance.
We believe that net App is a primary beneficiary of this strength.
We are uniquely positioned to address customers' requirements for workloads that moved to the cloud.
And as well as those that maintain and modernized on premises.
Let me share a few wins from the third quarter.
To illustrate why customers choose netapp to manage their data in the hybrid cloud.
Global pharmaceutical manufacturer Nick.
Needed to overcome the compliance challenges.
Of regulatory mandates, while minimizing security risks and moving to the public cloud.
They selected Netapp, all flash Fas to underpin their AI, driven health care because of our cloud connectivity and the ability to achieve petabyte scale.
Along with our unique data protection and data management capabilities.
And a leading global clinical trial laboratory.
Net app displays Dell to host workloads for the company's AI labs.
We won because of our performance cloud connectivity and data management and security capabilities.
The ability to leverage Netapp cloud services when necessary.
It's critical to the customers decision.
Calendar 2020 was a difficult year for all of us and I'm glad to have it behind us.
I wanted to express my gratitude to the Netapp team for quickly coming together to deliver solid results by helping our customers thrive.
While working remotely.
We see reasons for optimism for calendar 2021.
With expanding vaccine availability and improving public health conditions.
However.
Uncertainty about the new normal and.
As well as the tax and regulatory environments remain.
In uncertain markets.
Data is even more critical.
And as organizations look to drive competitive advantage and we are confident and our strategy and the strength of our business going forward.
Cloud and all flash Fas fueled the momentum and our high margin software cloud services and recurring maintenance revenue streams.
This growth coupled with our disciplined opex management balanced approach to investing and the business and sustained capital returns will create significant long term shareholder value.
The new net App is a cloud led software company and it's built on a solid foundation.
We are a trusted partner to the world's leading organizations who are undertaking digital transformations.
We have unique strategic partnerships with the world's leading clouds, including deeply integrated technology and go to market efforts.
And we have a strong business model with a proven track record of turning market transitions to our advantage.
As the recovery gradually unfolds, we believe we will be and an even stronger position at.
As customers continue to turn to net app to help them solve the challenge of managing data in the hybrid cloud and.
I'll now turn it over to Mike for more details on our results Mike.
Thank you George Good afternoon, everyone and thank you for joining us as a reminder, I'll be referring to non-GAAP numbers unless otherwise noted.
We delivered another solid quarter with revenue at the high end of our guide and operating margin and EPS above expectations importantly, solid execution yielded Q3 billings of $1.6 billion up 6% year over year.
This is our third straight quarter of year over year billings growth.
And Q3 net revenue of $1.47 billion increased 5% year over year, including two points of currency tailwind.
We believe our two key strategic focus areas, our industry, leading all flash storage business and public cloud services, both continue to outperform the market.
When combined software revenue recurring maintenance and cloud revenue totaled $1.1 billion and increased 13% year over year, representing 72% of total revenue.
We ended Q3 with three $8 billion and deferred revenue and increase of 7% year over year deferred revenue continues to be a leading indicator for future recurring revenue growth as.
As we highlighted at our Investor day, all flash systems carry higher software and maintenance dollar content relative to the rest of our portfolio.
As George highlighted our all flash revenue of $652 million was up 11% year over year positioning us for share gains for the third consecutive quarter.
Only 27% of our installed systems, where all flash at the end of Q3, providing a very healthy runway for our flash business.
Public cloud services delivered a solid $237 million and they are growing 186% year over year and 10% sequentially. We continue to see strong demand from our customer cohorts with Q3 dollar based net retention rate coming in at 227 <unk>.
<unk>.
Given the strong sales pipeline heading into Q4, we expect to exit fiscal 'twenty, one with cloud AOR of $260 million to $290 million.
We remain excited about our expanding cloud product roadmap, which includes continued co development and deep R&D partnerships with the public cloud partners as.
As we head into fiscal 'twenty, two we are investing and additional cloud sales capacity to support our expanding product roadmap and.
And our partners go to market motion.
We remain confident and our ability to deliver $1 billion and cloud <unk> in fiscal 'twenty five.
Total product revenue of $775 million decreased approximately 2% year over year.
As George noted and the corridor, we saw good engagement from enterprise accounts, particularly in the Americas, where the sales capacity added last year is paying dividends.
Consistent with the growth we delivered in Q2.
Software product revenue of $428 million increased 14% year over year, driven by the continued mix shift towards our all flash portfolio.
Recurring maintenance and cloud revenue of $627 million was an all time company high and was up 13% year over year constituting 43% of total revenue.
To help with your modeling of maintenance. Please note Q3 and includes a $7 million year to date adjustment from hardware maintenance revenue to software maintenance revenue to be clear. This adjustment did not impact total maintenance revenue in the quarter.
Gross margin of 67, 3% was at the high end of guidance.
Product gross margin was 53, 4% and consistent with our expectations.
Our recurring maintenance and cloud and other services business continues to be a very profitable and growing business for us.
With gross margin of 82.9%.
Q3 operating expenses of $668 million were in line with our expectations.
Operating margin of 21, 9% and EPS of $1 10, we're both nicely ahead of our guidance demonstrating the strong operating leverage and our business model.
Cash flow from operations was $373 million and free cash flow was $341 million, representing 23% of revenue year.
Year to date free cash flow of $650 million is up 13% year over year we.
We expect operating cash flow to grow double digits for the full fiscal year.
During Q3, we re initiated our share repurchase program buying back $50 million and stock.
During the quarter, we also paid out $107 million and cash dividends.
And total we returned $157 million to shareholders in Q3, representing 46% of free cash flow.
We closed Q3 with $3.9 billion and cash and short term investments.
Now to guidance.
We expect Q4 net revenues to range between $144 billion and $1.54 billion, which at the midpoint implies a 6% increase and revenues year over year.
And includes three points of currency tailwind.
Given our growing confidence and the business, we narrowed the revenue range to $100 million.
We expect consolidated gross margin to be approximately 67% and operating margin to range between 21 and 22% in Q4 of.
Assumed and this guidance, our operating expenses of $675 million to $685 million.
Given the magnitude of our cloud opportunity, we plan to pull forward investments in both sales capacity and.
And our product roadmap position.
Positioning our cloud services for continued rapid growth heading into fiscal 'twenty two.
We anticipate our non-GAAP tax rate to be approximately 18%.
And we expect earnings per share for Q4 to range between $1 six and $1 14 per share.
Assumed and this guidance is interest expense of $15 million.
In closing I want to thank the entire Netapp team for continued execution and commitment and delivering another outstanding quarter, we remain incredibly well positioned to capitalize on the industry transitions and market opportunity ahead.
I'll now hand, the call back to Christoph and the call for Q&A Kris.
Thanks, Mike, Let's open the call for Q&A. Please keep to just one question. So we can get to as many people as possible operator.
Thank you again, ladies and gentlemen, if you like to ask a question. Please press Star then one on your Touchtone telephone.
One moment please.
Our first question comes from Katy Huberty of Morgan Stanley. Your line is open.
Please make sure your phone is Elliot.
Thank you for the question.
I wanted to and I have two questions. The first is.
And Youre expecting cloud <unk> sequential growth to accelerate next quarter can you just talk about is that on the back of the investments that you're talking about accelerating in the quarter or is this just pipeline dynamics, where you had some deals that maybe didnt convert and in January and and were pushed into the April quarter.
Sure.
It's on the back of pipeline dynamics, we have a strong pipeline heading into Q4, and it's our fiscal year and so we have every confidence that our sales teams are going to make a real good push to finish the year strong we've had a really good year to date and Q3.
We saw organic growth of 123% and cloud era as well as total growth of 186% and if you look at the midpoint of our range.
And that we have guided to the incremental growth in Q4 is the same incremental number at what we did in Q2. So we feel good about the finish.
The investments that Mike and I are both making is to help continue to scale. The cloud business. The majority of the benefit of that will really be next fiscal year.
Great and then George how would you compare the pipeline today that the broader deal pipeline today versus three months ago, and how does that shape. Your view of what the demand recovery will look like over the next several quarters.
We've got three really good quarters, and if you look at our the finish to Q3. If you look at both day sales outstanding as well as inventory turns and we had a regular January so linearity was good throughout the past quarter.
Q4, you know the early signs are very constructive the pipeline's strong our competitive position I would not trade for anyone else and the market. So I feel really really good about the opportunity ahead, not only in Q4, but going forward I think what you see and our guidance is a bit of prudence.
And given that there are still a COVID-19 environment that while the vaccine availability provides incremental confidence there are many other elements that need to come together to really give total line of sight to the new normal that includes tax regulation new policy decision framework.
The government the stimulus package and other things. So we feel very good about the year, we feel really good about the pipeline heading into Q4, our competitive position is strong and differentiate it as we have demonstrated with share gains for three successive quarters. I think what we are trying to balance is the really good carpet and.
And our business with the fact that we're still operating in a pandemic environment.
Mike you want to add.
Thanks, George and Canadian by broad thing I'd add too and when you take a look at the guy and keep in mind that.
Year to day basis billings are up and that's really what we are focusing and Paul Todd about 7% and revenue and you adjust for the 14th week is about three so embedded in that guidance and it's still a pretty significant growth and delay which to us and as the leading indicator of business from their customers.
Alright, Thanks, Katy next question.
Our next question comes from a net <unk> of Evercore. Your line is open.
Thanks, a lot for taking my question I guess I was.
And just hoping you could talk a little bit more around the all flash array growth double digits is fairly impressive.
I guess I'd love to understand how much of this growth do you think is coming from conversion of your installed base to all flash arrays versus net new customers is there a way to kind of piece that out and then over time, what's the optimal level for this 27% hardware installed base getting to as a percent of all flash array.
So our overall installed base, which is a very large number is growing.
And both systems and customers right. So we feel very very good about the opportunity.
We've been and this business and the all flash array business for many many years and we are growing the penetration of the all flash footprint and our installed base by roughly 1% a quarter.
And so there's a long runway ahead.
Very long runway ahead of all flash penetration.
What we are feeling very very good about is the fact that we've demonstrated share gains we're not demonstrating the rate of penetration of the market and the rate of share gains without winning net new customers and net new workload, yet installed base continues to be an opportunity, but what I feel.
Really good about is the fact that we are growing at the expense of the competition this year.
Got it thank you.
Thank you and Matt next question.
Our next question comes from Med D E and F D or something.
Yes. Thanks for taking my question, just as a follow up to them and it's a question.
How should I think about the overall flash array growth this year because of this run rate you can do perhaps a high teen growth.
And I wanted to just kind of more color on.
And then I have a follow up.
I think there's two ways that I think about it one is what's the aggregate market and then what's the percentage of the market that is all flash I think as we said the aggregate market continues to get better steadily we feel very good about the progress we.
Made as part of the overall market, we think that you know the macro trends this coming year should be better than what we had in the past year theres, a little bit of uncertainty with the specific timing of when everything gets better, but overall sort of the bigger picture Theres no question that 'twenty, one calendar year will.
It be a better year than 'twenty I think within that then we have gained share and the market and within our overall portfolio, we see all flash and continuing to be a greater part of the mix, especially as newer technologies that make flash and more cost effective.
<unk> comes to market. So things like you will see wherever you are and the early innings off so as I said, we don't think flash will be 100% of the storage market. We think it'll be a substantial percentage and we think that that transition affords us the opportunity to gain share of new customers as well as to sell.
And more software rich higher margin configurations to customers.
Great and just as a follow up to that how do you see material costs, specifically and.
And then cost impacting and.
And especially in the context of increased acuity see procurement.
And it's Mike So I'll answer that and do as long as we get obviously and the first half we saw significantly higher NAND prices.
They have modulator and a bit and.
Came back to I'll call. It relatively flat in Q3, we do expect it to be a tailwind to us slightly in Q. All our Q4 looking into 'twenty. Two I think youll see that continue we are starting to see some of the demand pick up, especially and the second half of next year, especially.
Around mobile and and Hyperscale as well as you all know mobile series and 40% of that business. So we expect and the second half of next year for that to kind of reverse itself also keep in mind DRAM prices are up quite a bit for us it's not nearly the percentage of component cost, but that offset a little bit.
And for Us <unk>.
Just getting started with that so there's not much of an impact I'll call. It in the near term.
Thank you.
Thank you Mehdi next question.
Next question comes from Nick and Telegraph at Longbow Research. Your line is open.
Yes.
Yeah. Thanks.
George you talked about your cloud partner of SaaS King for additional broader workload certification and maybe can you give us a little bit more color on that and also any additional color you can give us on the different customer sets that are adopting your cloud services is there any way you can glean unit and between the the growth youre seeing from existing enterprise customers.
This new cloud only customers and and also what are you seeing from your public sector customers when it comes to demand for Cts.
Okay. So let me get that in three ways. The first was listen we are certified for a broad range of workloads with Microsoft and Google and they are we are pursuing additional workloads with them as customers.
As you know deploy on our platforms and this could be you know software vendors that are deploying software as a service environments and the public clouds. This could be new types of applications containerized applications cloud native applications. There are a whole new set of opportunities for net app.
And it is also certifications and deployments and parts of the world, where we havent deployed yet so we completed the fed ramp certification, which opens up the public sector market for our Azure Netapp files, there's opportunity to do that with other cloud providers and others.
This.
For example, our monitoring services.
And the portfolio. That's one set of things that we're going to keep doing the other is expanding deployments. So we've covered with <unk>.
Some of the cloud providers, we've covered the large markets now we are starting to pursue.
And of the World for example, and Asia Pacific or Latin America that we didn't cover before and so this is the ongoing build out I think with regard to the effects of customer types that we see we are really excited at the progress that we've achieved this year.
Acquiring customers at an accelerating pace and our cloud business and.
And once they join net apps cloud portfolio, you know our dollar based retention rate shows up really strongly they really like our offerings and they expand deployment substantially with us.
They are across a broad range of verticals more and the less regulated and in the regulated industries, where we are still going through certification.
The second day, they cover a broad range of customer types, whether they are digital natives that never bought from net App enterprises that were primarily competitors customers or customers that used net app as our all flash array business.
And our cloud business have demonstrated for multiple quarters in a row cloud.
Cloud is additive to our overall business and there are customers, who start with us in the cloud, who then come back and buy stuff and the data center. So very pleased with the progress.
And that we are doing with the cloud providers will continue to expand and scale and scope and which is why again I feel really good about our long term opportunity and.
And ability to reach the $1 billion here, our targeted fiscal year 'twenty five.
Alright, Thanks, Nick next question.
And next question from Steven Fox of fact advisors. Your line is open Sir.
Thanks. Good afternoon I was wondering if you could just talk about what the impact of the mix of all flash arrays was on margins and not necessarily I know understand the software.
The percentage helped but like I think last quarter, you benefited from larger scale.
<unk> sales what was it like this quarter and what do you think what's your thinking into the next quarter. Thank you.
And as David and Mike. Thanks for the question and so yes, we talked a lot and Q2 about the.
And.
And all flash this is being driven by high end and when we gave our guidance for Q3, we talked about hey, we thought that would normalize a little bit and that's exactly what happened. So we had another very strong quarter and all flash system, but it is a little bit more I'll call. It normally distributed.
Between low mid and high and that's what we saw and I think you can see that and the product margins and then again they were helped a little bit by lower NAND costs. So it came in pretty much what we expected a much more normal distributions and that's also what we're expecting going into Q4 again.
It's tough for us to do demand shaping out those.
Because of the great flexibility and our products our customers can theres different configurations, and still achieve that performance. So we expect it to be pretty normal and similar to Q3.
Great. Thank you very much.
Thanks, Steve next question.
And next question is from Shannon Cross of Cross Research. Your line is open.
Thank you very much mentioned strength in the Americas enterprise and wondering if you could dig a bit deeper and it into it maybe on a sector basis and then what are you seeing and hearing from your customers and she's look forward over the next few quarters.
And you can either stick with Americas, and you could go in and talk geographically. Thanks.
I think I'll, just say that we feel very good about the finish to Q3. The book of business was balanced geographically, we drew out the Americas because of the fact that the performance was particularly strong in the Americas as you know our business is preponderance.
And our price, meaning small medium business is a small percentage of our total business. It didnt performed badly and performed well, but it's a small percentage of our total business on the enterprise I think what we saw was a continuation of the trends that we saw in Q2, which is <unk>.
Stabilization of demand normal linearity through the quarter.
<unk>.
You know sort of Covid.
Strong segments, meaning the ones that were had business models that were less impacted by Covid like financial services or healthcare continued to be strong demand sources for us and we have really good offerings and that part of the market I think with regard to the outlook.
Again, I think as we said.
Many many customers are starting to prioritize the new normal and what business looks like going forward digital transformation becomes a key part of any businesses go forward plans and we are a big part of enabling a modern data foundation for digital transformation. So those projects.
And continue to move forward net App has really good technology to also help in hybrid cloud and cyber security projects for example protection against Ransomware and other types of malicious data threats and we saw a good pickup across the portfolio from that as well.
Thank you.
Thank you Shannon next question.
Next question is from Ananda Baruah of loop capital Your line is open.
Hey, guys I appreciate it.
Yes, I'd love to get your thoughts you talked about increasing.
The investment on sales capacity and coverage on cloud.
And we should we anticipate any impact to margins and intermediate term as you ramp that or what is the momentum just kind of overwhelm the incremental cost saves.
And on and so I think a little bit different than what we did last year.
A really great things like bringing on 200 sales force for US. This is just much more continued investment and that business and I think that youll see more of last year's play right into the P&L.
As we've talked about continued great growth and that business. So our goal is to continue to add sales capacity in line with that revenue growth to continue to drive it. So I wouldn't expect to see any kind of a bump on margins specifically related to that.
Awesome, Okay, great no that's great I appreciate it.
Thanks and on that next question.
And you have your Deutsche Bank. Your line is open.
Great. Thanks for taking my question.
And to look at your fiscal fourth.
And fourth quarter revenue guidance at the midpoint, it will be up 6% year over year up 1% quarter over quarter do you expect every reportable business is to be up similarly on a sequential basis, and particularly interested and your comment on software and maintenance given how strong and it wasn't the quarter I understand there was a reclassification that helped the software side last quarter. Thanks.
Yeah.
Yes.
If you can bifurcate the deferred revenue numbers and keep in mind, Sydney and the dialogue if you look at total maintenance.
No impact to that so as we look to Q4, we would expect to see maintenance continue to be strong in the quarter.
I think sequentially you saw maintenance actually drop a little bit we would expect to see it grow slightly cloud continued to grow and.
And then product revenue likely growing or similar levels to what we've seen in Q1, two and three and this goes back to Casey's question, because again I just wanted to keep.
Talking about this is keep in mind that billings growth has been 610, and 6% and the first three quarters product growth over that time and you back out the 14th week as average about 3% so net matters here and a loss and.
And so to that point and to the earlier question on maintenance, we do expect to see continued growth and maintenance as we do more all flash systems continued growth and cloud and product revenue will be a result really of the MX and <unk> and all flash.
Hopefully that helps.
Yes. Thank you.
Alright, Thanks, Sidney next question.
And Paul the Raymond James Your line is okay.
Hi, This is Victor Chu in for Simon Leopold I wanted to follow up on the enterprise spending question from.
And when asked previously do you have a sense for which.
Areas enterprises will.
And be prioritizing as they resume spending and recovery for example campus and investments versus data center investments et cetera, and how cut and then it falls into that picture.
Yeah.
We don't do a lot of business in the campus.
Think we and the primary and part of our business is in the data center and I think as I mentioned earlier.
We saw a good pickup in throughout the year people have been prioritizing big transformational projects, which they cannot defer because they don't want to fall behind their competitors we.
We saw priorities and hybrid cloud and modernizing data center environments using flash technologies. Those are our key bets and they've played out really well for us throughout the year I think in Q3, we saw normal linearity. So you know.
You can see from our DSO and from our inventory turns that we did not have a backend loaded quarter. It was pretty steady linearity throughout the quarter and we feel good about that that's a good sign heading into the rest of the calendar year for us and so we feel you know.
We've done well we've control what we can control really well the macro environment is still uncertain, but it's getting better and so we'll take those.
And we will continue to execute.
That's helpful. And then just quickly along the lines of drivers could you provide us an update around your as a service offering and <unk>.
Progress you see there.
And as the pandemic disrupted.
And the push out.
Timeline of kind of kind of trials and the acceptance around that.
We serve customers in multiple ways.
And as a service offering we have ways to support them on public cloud environments, which are as a service and instantaneous and we have the ability to give them financial solutions and or manage subscription solutions. Our Keystone portfolio continues to me.
The progress and the market we have some good wins in the quarter. We've had some good successes against competitors and we feel really good about our offering there. It's early going and we don't unlike some of our other competitors. We don't think that the market has a single mandate customers want to buy and multiple we.
And we have the ability to meet those requirements and multiple ways.
That's helpful. Thank you.
Thanks, Victor next question.
Karl Ackerman of Cowen Your line is open.
Yes, Thank you Mike.
How should we think about the growth you're seeing and your as a service offerings between existing accounts versus new accounts and I'm, hoping you can shed light on the margin and content differential between new and existing accounts this quarter as well as in the context of your progression towards a 1 billion cloud <unk> target. Thank you.
Yes, so if we if we take a look at.
New versus existing accounts as George talked about we really look at the and public cloud business as being the driver of new customers for us and we've seen that in addition, when you look at the dollar based net retention.
But obviously our existing customers, we're seeing great growth there as well one of the nice things about the cloud business is from a margin perspective, it's not going to vary that much.
In terms of new versus existing certainly existing customers that have more than one product.
And to see some margin expansion there as well as we look across new versus existing I don't think there and no material difference there.
However, I think that will help expand those margins as we go forward. We've talked about are our driver call in terms of driving gross margins and the cloud business.
And as they take on more than one product more data services and.
More solutions that will certainly help us scale that business at a higher margin.
And if I could add as we mentioned that.
Our financial Analyst day cloud over time will become accretive to the margins gross margins of the overall business. We feel good about the progress we have made towards achieving that objective, we're not breaking out the cloud gross margins, but we did make progress.
Even this past quarter, so, we're making steady progress towards achieving that objective with regard to Keystone Keystone does not we have not seen to date and the existing customer that has an all flash deployment suddenly show up and say I want to convert that to a Keystone and deployment. These are.
Usually net new environments, and customers and or net new customers. It's not like we're seeing our traditional deployed environment convert to a keystone basis and so these are additive opportunities to and overall business and they are healthy margin opportunities.
Very helpful. Thank you.
Thank you Karl next question.
Next question comes from Rod Hall of Goldman Sachs. Your line is open.
Thanks for the question I, just wanted to check and with you guys on supplies and I know semiconductor suppliers shortages affecting a lot of people just curious if you can comment on.
And whether youre anticipating that and the guide and also what you think the supply outlook for the remainder of this year and then maybe real quick you could comment that EBITDA number was super strong again, just comment on whether you think you've gained share again and substantial share like you did last quarter or maybe a little bit less share just curious what you think that overall E&P market and.
Done this quarter.
Yes.
And Rod and bar and I'll take the first part and then George will jump in and out in the second one and so every so when we looked at the semi supply chain yes.
News and noise out there on that line.
We don't expect there to be any impact for Q4.
As we look into next year for us and hopefully not as much of a P&L impact we will likely like other folks well buy ahead, a little bit to make sure that we have and offer that supply and 19 times inventory turns and we've talked about this back when I first started last year unattractive and see that come down a little bit it's accrued.
And the thing to do given the cost of capital and make sure we have that supply side.
And our expenses that impact more of the balance sheet and the P&L and certainly well keep you up to speed and we go through this.
With regard to the all flash array number.
We feel that we continue to take market share I think that our portfolio continues to be the best one and the market and based on other people that reported. This week are today, we have taken share right. So we'll wait for the rest of the roundup to come but we feel really really good about our position and the market.
Had three really good quarters, we're focused we're executing and we're taking share and I feel really good about our position better today than even at the start of the year.
Great. Okay. Thank you.
Thanks, Rod next question.
Our next question is from Ramsey line of Bank of America. Your line is open.
Thank you.
You noted this pull forward and some of the spend relative to cloud.
Cloud and I was wondering.
Hey.
Are you changing or think that that would change the cts.
Number of 400 to 500 for fiscal 'twenty, two and secondarily, how long should we expect that elevated opex is it a one quarter phenomena or is that going to be sort of the new normal and then we see opex sort of.
And from there. Thank you.
Yeah.
One day, it's Mike So our net as we've just talked to a couple of minutes ago. We just expect to continue to invest and the cloud business as we see the opportunity and we clearly see a great opportunity and asphalt and sales and and R&D to make sure. We're moving the product roadmap forward. So I don't think again, youll see a bump or a reduction and the margins as it relate.
So that the goal is to continue to invest and that as we go forward, but we haven't we rollout will talk to you about where we think we'll finish next year when we get into fiscal 'twenty two.
But we think that this is as you know George and I will talk about a disciplined spending around opex and disciplined spend and for US also means we want to invest where we see a return and we absolutely see a return on those dollars.
Okay, Thanks, Mike and if I could sorry, if I missed this but you had extremely strong free cash flow margins and the quarter can you can you comment on what drove that.
Yes, absolutely I love to talk about cash so.
Two things on cash are lumpy and team one is keep in mind that.
Compared to last year, we paid virtually all of our U S. Federal taxes in Q1 Q2 of last year. So let's talk about year to date and margins were great and this quarter I think it was 23% on a year to date basis, our free cash flow is up 13% year over year also keep in mind that in that number and first.
'twenty one we've also pay and about $75 million of taxes related to the IP transfer from the spot acquisition, so it's actually a little bit stronger than that.
As George talked about our Dsos were Super strong and they were 49 days, although anytime you get below 50 is great. So linearity certainly help our invoicing and collections and the quarter, where you had very strong free cash flow results feel really good about that on a year to date basis.
Thanks, a lot.
Alright, Thanks, Tom James next question.
Thanks, Our next question from Genesis.
Citigroup investment your line is open.
Thank you.
Provided a lot of good clarity and I have one question and it's probably best for both George and Mike to answer it but can you just walk us through.
And when NAND pricing goes higher like George how does your sales force react to that and then Mike maybe the the.
Margin and revenue impact is and impact margins a lot can you offset it fast enough or does your billings and get them.
Patch it favorably from higher NAND prices are now I'm kind of worried about not worried I'm wondering about the relationships the talks and the financial and when component pricing since youre doing so well and all flash away raise when NAND component prices go up what's the sales force reaction and the financial implications.
Okay, and maybe I can start first.
We have a broad range of purchasing agreements with customers I think for some there are preferred pricing agreements are master purchasing agreement, where they are locked into pricing schedules, where we don't have the ability to move pricing up or down depending on what happens to NAV.
Prices in the transactional environment, where there's no long term pricing agreements.
And we take a look at the you know.
Pact of commodity prices, we typically pass that through either beneficially R and.
Didn't do disadvantage.
And do customers, we're not trying to hedge it.
I think we are cognizant this time in the Covid environment of the particular challenge that our customers face. So we've tried to be a good partner to them as Mike and I. Both said at financial Analyst Day Post Covid given the continued progress of our all flash array business, we see the ABA.
<unk> to return to the mid fifties product gross margins.
Yes, and just to keep going down that path and as George talked about we do see that path. We don't expect to see the kind of increases that we saw I think earlier and the first half supply and demand will certainly take that the other thing to keep in mind too and this is why we've talked about and so much and I will always push you to look at the total gross.
Margins, because also a cloud bookings and billings Dan impacted by the more we do renewals, which is a huge part of our business and it's been a great success story also helps as.
And as well so from a financial perspective, and that's something we look at sure but there are so many other things to that drive it keep in mind and megawatt DRAM may go down something else may move around and we haven't.
Great supply chain team they are looking at it all the time and so.
Terms of what it means financially, but again, we don't know going into next year, where and the final supply and demand will and we'll certainly keep you up the day to every corner.
Thank you so much from the details and clarifications, it's greatly appreciated.
Alright. Thank you Jim next question.
Next question comes from the heart Celski abnormal and capital your line is open.
Thank you and great quarter, and it looks like the guidance.
Can you talk about and it's great that you guys are talking about a 1 billion by fiscal year 'twenty five for public cloud services, but what do you expect to be the sustainable growth rate after and you've got there and what's sustainable dollar based net revenue retention rate to drive that as well.
Listen out.
I think we have strong aspirations to grow our cloud business.
I think we have every confidence that we have a multiyear game plan.
Achieving the $1 billion of IRR number I think we will give you the ability to sustained growth rates beyond that.
When we get to it and what I'll give you a sense software cloud is a gigantic market and the growth of cloud over the next five years will be much bigger than the growth of cloud over the past five years. So if you think that there is constraints to overall <unk>.
Pam I just think that.
You know, even the $1 billion <unk> will be a small part of the overall cloud market in that timeframe. So we're not Tam constrained I think our position and the market is unique and.
And we are continuing to execute on product roadmap.
Spansion and go to market investments as Mike and I have talked about and prepared remarks with regard to dollar based net retention I think it reflects the strength of our offerings when a customer.
<unk> is up and is activated and starts to work with us they grow substantially in terms of their usage of our products, which is really good I think both Mike and I see that over time, it should trend back towards more industry norms I think 227%.
Which we had this quarter is well above industry norms, reflecting the early phase of our cloud journey, Mike feel free line, yeah, keep going down that path and we talked about this at Investor day, We do expect it to come back to call it industry norms and Thats key.
All at a 110 120 <unk> hundred 30.
Very importantly, once you get to a $1 billion and you've talked although that certainly we wanted to continue to be a driver of new customers.
Cash that upsell cross sell renewal motion is so critical that's actually part of the sales investment that we're making and to make sure. We have that great support team that can go in there and help our customers once they sign up for those services. So.
And there's a lot of great examples of product.
Companies and do that well, so we do expect and.
In conjunction with getting there and there won't be able to continue to drive great retention, but it will come down to the industry norm over time.
Okay, Great and then if I can bring that into on a shorter term basis.
<unk> provided a target of 260 to $2 90 for the end of this year at the low end of that range.
And what would have to occur.
Cause that seems like that would be probably a disappointing outcome and then Conversely at the high and there's a range what would have to happen that would seem to be and amazing outcome naturally.
I think it's all execution I think.
We see a good strong pipeline in Q4, it comes down to transaction execution getting customers signed up and managing through the COVID-19 challenges that customers are still facing right. We have customers, whose employees are not on site, who we can.
Get to negotiate with only a certain number of days of the week.
And that's what it comes down to I think the overall demand profile for our services is fantastic I think we've added customers at an accelerating pace through the course of the year and the types of workloads that we are deploying these aren't mega market opportunities.
He says virtual machines.
File sharing high performance computing, so we're not opportunity constrained I think we just got to execute and bring in the transactions.
Okay, great. Thank you.
Alright, Thanks, Tom next question.
Next question competent Jason Ader, William Blair. Your line is open.
Hey, everyone. This is bill <unk> on for Jason Ader, Thanks for somebody and I know you've talked on a spot was a standout in the quarter and you also talked about the analyst day out they're almost 90% of customers, where there is overlap between spot and that App and obviously there have also been some changes to your sales, Oregon and in the last couple of quarters sales and are joined.
And in July.
And George can you please talk line.
Typical customer conversations.
That's versus a year or two ago, given some of those leadership changes as well as the introduction of the newer products.
And those products through acquisitions, such as talent and temporary spot.
Yes, I think first of all we have a massively larger customer base now than we did a couple of years ago right, even a year ago, we have a massively larger customer base.
Whether thats acquired through net App sales force, whether that's acquired through Microsoft or Google sales force our spot.
The installed base of customers to whom we can cross sell and upsell product like Mike mentioned is massively larger at this point than it was a year ago.
I think with regard to what spot price to the table is they bring two assets to the table. One is that they are able to solve a large and growing customer problem, which is the problem of unused.
Our unspent cloud dollars and that is a topic that is near and Dear to every CFO and CIO that I talked to including Mike and net App, where a customer of spot and they gave us a substantial amount of money, we are able to use spot not only to go after cloud.
Native digital native customers that never bought from net App.
As well as to now find ways and two new parts of large enterprises that they didn't know net app and now get pleasantly surprised and buy the whole cloud portfolio. So I'm Super excited. They also have a really good offering for container based workloads that in combination with some of our storage offerings gives us.
Really expanded set of differentiated capabilities for truly cloud native applications.
Perfect. Thank George.
Thanks, Bill next question.
Thank you and our last question comes from Paul Chung of Jpmorgan. Your line is open.
Alright, Thanks for taking my question. So you mentioned nice market share gains and and all flash. So just to follow up there can you just expand on how youre displacing competitors, which types of verticals are you seeing more success.
I know your gross margins are down mostly on mix, but any any impact from from pricing is there anything you want to highlight on how you're beating competition. Thank you.
With regard to the competitive programs are run to net up competitive program continues to have really good results Q3 was the strongest of the three quarters that we've had the program running and it is a broad mix of customers.
Given the mix of our business there, mostly enterprise accounts and we are winning new footprint meeting new workloads displacing the larger legacy incumbents, so whether it's and HP are hitachi with their products or whether it's daniel going through a transition.
Mid range, we are winning against those players.
You know the strength of net App is our software differentiation. The fact that we can simplify our customers' datacenter quite substantially with the single unified architecture and be able to give them a good roadmap to cloud and a way that nobody else can do and.
And the mid range is the sweet spot right. That's the place where they'll it's the largest market segment and it is where we are most differentiate it and so we feel really good we got to just keep executing we've got the game plan in place. We're focused we're driving good results. We just got to keep on it and I feel really.
Good about the progress we've made to date.
Thanks, so much.
Thank you Paul I'm going to pass it over to George for some final comments. Thanks Kris.
In closing I want to again, thank the netapp team for delivering another quarter of solid results.
And over a year since the Covid pandemic impacted all of our lives.
And despite this challenging environment, we have successfully executed against our strategy.
We have refocused the business.
And shown that we can grow both our cloud storage and.
Our core storage and cloud businesses simultaneously.
We have improved execution and our increased sales capacity continues to yield positive results.
And we've maintained fiscal discipline, maintaining operating margins of 20% year to date and.
As the recovery unfolds I'm confident that we're in a great position to continue to capitalize on the growing importance of data and and our unique position and helping customers manage their data and the hybrid cloud.
You stay safe and we'll talk again next quarter Goodbye.
Ladies and gentlemen does that conclude today's conference. Thank you all for participating you may all disconnect have a great day.
[music].
[music].
[music].
[music].