Q1 2022 NetApp Inc Earnings Call

[music].

Good afternoon, ladies and gentlemen, welcome to the net App first quarter fiscal year 2022 earnings call.

At this time all participants are in a listen only mode.

Later, we will conduct a question and answer session and instructions will be given at that time.

I would now like to turn the call over to Kris Newton, Vice President Investor Relations.

Thank you for joining us with me today are CEO, George Kurian, and CFO, Mike Berry. This call is being webcast live and will be available for replay on our website at <unk> Dot com.

During today's call, we will make forward looking statements.

And projections with respect to our financial outlook and future prospects, such as our guidance for second quarter and fiscal year 2022, our expectations regarding future revenue profitability and shareholder returns the value, we bring to customers our ability to execute and our ability to bring industry leading capabilities to market.

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 an uneven recovery of the COVID-19 pandemic and the it capital spending environment.

Statements meant as well as our ability to gain share in the storage market grow our 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 specifically, our most recent Form 10-K, including in the management's discussion and analysis of financial condition.

And results of operations and risk factors section.

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.

I'll now turn the call over to George.

Thanks, Chris Good afternoon, and thanks to everyone for joining our Q.

Environment fiscal year 'twenty two earnings call.

<unk> on our accelerating momentum through fiscal year 'twenty, one we delivered a strong start to fiscal year 'twenty two with results of the high end or above our guidance for Q1.

Broad based strength drove 12% revenue.

One book.

And 16% product revenue growth year over year.

Public cloud revenue grew triple digits again this quarter up one.

155% from Q1, a year ago.

Our results reflect solid customer demand and strong execution.

<unk> in the quarter.

Cloud and digital transformation initiatives remain top customer priorities and we continue to benefit from these sizable long term trends.

Customers need to simplify and modernize existing data centers and deployed traditional applications.

By our Glee and confidently at.

At the same time customers are also accelerating their use of cloud adopting modern application architectures like kubernetes and micro services for new workloads.

And deploying data rich applications like machine and deep learning.

Our data fabric strategy, we are uniquely positioned to solve our customers' most significant challenges in both modern and traditional applications on premises and in hybrid multi cloud environment.

As I've said, many times, our public cloud services.

With the not only allow us to participate in the rapidly growing cloud market.

We also make us a more strategic data center partner to our enterprise customers driving share gains in our hybrid cloud business.

In Q1, we introduced our new segment reporting disclosures.

For hybrid cloud and public cloud corresponding with how do I look at our business.

We provided financial information for both segments in our earnings materials to give you better insight into the dynamics of the two segments.

We will maintain our focus on driving growth with our hybrid.

Our portfolio.

Scaling our public cloud services in fiscal year 'twenty two.

In Q1 hybrid cloud revenue grew 8% year over year.

Led by outstanding growth in our all flash array business, which increased 23%.

Clearly, we're an annualized net revenue run rate of two $8 billion base.

Based on our strong revenue growth I am confident that we again gained share in the storage and all flash market.

In the quarter, we delivered significant innovation there.

Our advances are flexible foundation for hybrid cloud Utah.

Unified data management across on premises and cloud environments.

And simplifies consumption and operation of hybrid cloud services.

We further enhanced the industry's leading and only cloud.

Ready storage operating system by introducing untapped $9 nine with security enhancements, new integrated data protection capabilities and improved <unk> performance.

We also released storage grid, $11, five which support for data encryption using external.

Management Ransomware protection with us three object blocks and increase performance with intelligent load balancing.

And we announced a broad range of enhancements to Keystone Flex subscription with new features for service providers additional cloud support.

Chemo delivered flex spot as a service.

Integration with Equinix Colocation services.

Public cloud revenue grew 155% year over year, driven by cloud volumes cloud insights and spot buy net app, it's been a year since we acquired.

Partner spot and we are excited by the innovation, we brought to market under the spot buy Netapp brand and the momentum we have with the spot offerings.

Public cloud are are grew to $337 million, an increase of 89% year over year and public.

<unk> dollar based net retention rate remains healthy at 192%.

Our partnerships with the cloud providers are strong and growing.

I am honored that we were recognized by Microsoft as the winner of their global customer experience partner.

Cloudier.

And of their U S. S E T on Azure partner of the year Award.

We continue to broaden our public cloud services.

Arne storage and data management services today, we help customers extend migrate automate and.

Of the mine the infrastructure and data management capabilities for enterprise and cloud native applications.

Customers use net up public cloud services.

Because we enable them to use more cloud at less cost.

In Q1, we announced spot.

Ought to see a fully managed secure and cost effective cloud desktop as a service for Azure virtual desktop and Windows 365. Additionally.

Additionally, we acquired data mechanics.

To accelerate the roadmap for spot waves and infrastructure.

Application automation and optimization platform for high growth Big data and machine learning workloads in the cloud.

We also continued to deliver on our vision and strategy around application aware infrastructure and data management for containers.

Spot Ocean.

<unk> and its cloud infrastructure for containers automatically scaling compute resources to maximize utilization and availability with the optimal blend of spot reserved and on demand compute instances, reducing costs by up to 90%.

In Q1.

Automate we evolved spot ocean into our suite of <unk> solutions with ocean continuous delivery and ocean insights.

Ocean continuous delivery focuses on the most painful aspects of modern application delivery by automating mission critical deployment and verification.

<unk> processes.

Ocean insights is an analytical tool that gives users a full view of their application clusters, and then reviews the potential savings from ocean.

Last year, we introduced Astro control, a rich set of storage and application.

Acacia where data management services for cloud based kubernetes workloads.

<unk> extends the data fabric to the cloud native world and in Q1, we extended Astra to be a deployable on premises software solution Astra.

Our strict control center.

<unk> or wherever a customer chooses to deploy kubernetes applications.

We can accelerate the deployment operation and protection of these critical environments let.

Let me share with you our customer story to highlight the value Astro control center brings to enterprise customers.

As a.

Its transformation strategy, a leading telecommunications provider is using a modern architecture based on container native applications. These workloads are mission critical and the customer turned to net up and Astra control center to address the challenges of data.

Part of protection and disaster recovery that don't exist in kubernetes natively.

Additionally, Astro help them realize their vision of application portability across multiple kubernetes distributions and data sharing across multiple clusters.

We have.

<unk> been recognized for our industry, leading enterprise storage and data management technology.

Public cloud services drive further differentiation expand our addressable market and enable us to reach new customers.

We deliver not only industry, leading storage services in the cloud.

Long, but also cloud automation and optimization services and cloud infrastructure monitoring services.

You should expect us to capitalize on our advantage by enhancing our go to market activities.

Deep learning our cloud partnerships.

And delivering best in class.

Cloud and inorganic innovation.

Our strong customer momentum and the uniqueness of our public cloud services position furthers my confidence in our ability to reach our goal of $1 billion in public cloud <unk> in fiscal year 'twenty five.

Our strong first.

Organic results underscore our value to customers in a hybrid multi cloud data driven digital world.

We are confident that we are well positioned with the right portfolio and strategy to solve our customers' most pressing challenges.

With focused execution and.

Quarterly leadership in hybrid multi cloud we are reshaping the industry. We made a number of innovation announcements this quarter and we will continue to bring industry, leading capabilities to market further enhancing our differentiated position in cloud and software.

I am excited for what this year.

<unk> and I am confident in our ability to deliver topline growth as we support our customers on their cloud and digital transformation journeys.

Before I turn the call over to Mike to walk through our financial results and expectations.

I want to thank the Netapp team, our customers and our partners for.

I will bring outstanding quarter.

I also want to remind you that we'll be hosting our fully digital insight customer event in October I hope, you'll be able to join us with that I'll turn it over to Mike.

George Good afternoon, everyone and thank you for joining us as a reminder, I'll be.

The non-GAAP numbers unless otherwise noted fiscal 'twenty two is off to a great start with strong revenue gross margin and operating leverage across the entire business.

Excellent execution by the whole net app team yielded Q1 billings of 1.38 billion.

We reversed up 20% year over year revenue came in at $1.46 billion up 12% year over year.

Our solid Q1 results were driven by healthy demand across both our hybrid cloud and public cloud segments gross.

Operating margin and EPS all came in above the high end of guidance.

As George noted in our earnings materials today, we introduced our new segment reporting disclosures for both hybrid cloud and public cloud.

Cloud captures all the revenue streams from our enterprise data center.

<unk>, which include product support and professional services or public cloud segment provides incremental visibility into the revenue and gross margin profile of our rapidly growing cloud business.

Total hybrid cloud revenue of $1.38 billion was up eight.

<unk> year over year within hybrid cloud, we delivered product revenue growth for the second consecutive quarter and expect this trend to continue throughout fiscal 'twenty two.

Product revenue of $730 million increased 16% year over year.

Consistent with.

Persons, we saw throughout fiscal 'twenty, one software product revenue of $414 million increased 33% year over year, driven by the continued mix shift towards our all flash portfolio.

Total Q1 recurring support revenue was $578 million flat.

The year over year.

Excluding the 14th week from last year's compare recurring support revenue was up 8% year over year.

As George highlighted public holiday, our exited Q1 at $337 million up 89% year over year and 12%.

Sequentially public cloud revenue recognized in the quarter was $79 million up 155% year over year.

The growing scale of our public cloud platform continues to positively impact the overall growth profile of net app delivering four of the 12.

Slap in revenue growth.

When combined software revenue recurring support and public cloud revenue totaled $1.1 billion and increased 17% year over year, representing 73% of total revenue versus 71% in Q1 'twenty one.

Point recurring support in public cloud revenue of $657 million was up 8% year over year constituting 45% of total revenue.

Excluding last year's 14th week from the compare recurrent support in public cloud revenue was up a healthy 16% year over year.

We ended Q1 with over $3.9 billion in differed revenue an increase of 8% year over year.

Q1 marks the 14th consecutive quarter of year over year deferred revenue growth, which continues to be the best indicator of the health of our recurring revenue.

Total gross.

<unk>, a 69% was an all time company high reflecting the value of our software portfolio and public cloud platform.

Total hybrid cloud gross margin was also 69% in Q1.

Within our hybrid cloud segment product gross margin was 55.

5% and benefited from the continued mix shift towards software rich all flash systems.

Our recurring support business continues to be very profitable with gross margin of 92%.

Public cloud gross margin of 71% was accretive to the overall.

Corporate average this is <unk>.

A major milestone for the public cloud business as we continue to build out a diversified portfolio of cloud based software offerings. We expect this trend to continue as an increasing percentage of our public cloud business is built on software only solutions.

Q.

Q1 highlighted the tremendous leverage in our operating model with operating margin of 23%, an all time high for our Q1.

EPS of $1.15 came in above the high end of guidance and was up 58% year over year.

Cash.

Cash flow from operations was $242 million and free cash flow was $191 million.

During Q1, we repurchased $100 million in stock and paid out $112 million in cash dividends.

In total we returned $212 million to.

Representing 111% of free cash flow.

We closed Q1 with $4.5 billion in cash and short term investments.

As you all know the supply chain situation remains fluid our excellent supply chain and procurement team continues to work closely with our partner.

Holder ecosystem with the goal of keeping backlog and customer lead times at normal levels towards this goal, we will continue to invest incremental dollars into inventory and longer term commitments to help mitigate any potential supply risks.

Adding this effort is the fact that we have a singular.

<unk> software platform that powers all of our key storage products, which provides us added flexibility to work with our contract manufacturers and customers to meet and demand.

With our strong execution in Q1, and our expectation of continued growth for the remainder of the year.

We are raising our fiscal 'twenty two guidance across the board.

We now expect revenues to grow 8% to 9% year over year with billings growth expected to outpace revenue growth given the continued strength and recurring support contracts and our public cloud platform we.

Also have growing confidence.

<unk> and our public cloud opportunity and are raising the low end of our fiscal 'twenty. Two guide, we now expect to exit fiscal 'twenty two with public cloud.

<unk> of $450 million to $500 million.

Driven by enhanced go to market activities deeper cloud partnerships and continue.

New product innovation as George noted, we are solidly on track to deliver on our commitment to eclipse $1 billion in public cloud <unk> in fiscal 'twenty five.

In fiscal 'twenty, two we expect total gross margin to be approximately 68% with product margin.

Approximately 55% for the full year.

We anticipate operating margin to range between 23% to 24%.

Operating expense expectations remain unchanged at $2.75 to $2.8 billion.

Driven by container.

Continued investment in revenue generating activities, including expanding our public cloud portfolio.

Targeted investments in go to market resources and continued investment in our customer success sales team as.

As we discussed at our Investor Day last September we continue to grow revenue.

Faster than operating expenses.

We are committed to delivering $4.85.

To $5 <unk> in fiscal 'twenty, two EPS, representing 22% year over year growth at the midpoint implied in this guidance is our expectation that other.

Other income and expense will be a negative $60 million to $65 million and our effective tax rate will remain at 19%.

We now expect to generate more than $1.2 billion in free cash flow in fiscal 'twenty two as our hybrid cloud business continues to fund the growth in our pub.

<unk> cloud platform.

We are committed to the capital allocation framework, we outlined during our Q4 call. The dividend will remain the first call on capital while share repurchases will continue to play a key role in our capital allocation strategy.

In fiscal 'twenty, two we expect buybacks to offset dilution.

From our equity plans for modeling purposes, we expect share count to remain flat at 229 million shares exiting fiscal 'twenty two.

Consistent with <unk> long history of disciplined M&A, the remaining free cash flow generation will go towards our acquisition strategy.

<unk>, which will remain focused on bolstering our strategic public cloud roadmap.

Now onto Q2 guidance, we expect Q2 net revenues to range between $1.49 billion and $159 billion, which at the midpoint implies.

9% increase year over year.

We expect consolidated gross margin to be approximately 68% and operating margin to be approximately 23%.

Assumed in this guidance, our Q2 operating expenses of $690 million to $700 million.

We.

<unk> made our tax rate to be approximately 19%.

And we expect earnings per share for Q2 to range between $1.14, and $1.24 per share.

Assumed in our Q2 guidance is our expectation that other income and expense will be a negative $15 million to $20 million.

As a reminder, Q2 tends to be our seasonal trough for free cash flow. This is further compounded by the one time tax payment associated with the sale of our Sunnyvale campus.

In closing I want to thank the entire netapp team for working tirelessly throughout Q1.

To maintain the momentum we had exiting last year.

We are at a unique inflection point in the company's history as we continue to build out a truly differentiated public cloud platform, while maintaining an unwavering focus on the hybrid cloud business as a result, we.

We are more confident than ever in our ability to deliver long term value to our shareholders customers and partners as we execute against both opportunities.

I'll now hand, the call back to Chris to open 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, ladies and gentlemen, as a reminder to ask a question it will need to press Star then one on your telephone.

To withdraw your question press the pound key again Thats star one to ask a question. Please standby, while we compile the Q&A.

Roster.

Our first question comes from the line of Katy Katy Huberty with Morgan Stanley. Your line is open.

Yes. Thank you good afternoon, congrats on the quarter, especially the cloud profitability milestone.

I have a question on the cloud business last quarter you emphasized the.

Seasonality that you expect in this business a weaker one Q3 Q.

Stronger <unk> seasonality. So I just wanted to confirm that that would imply in your second quarter that you would expect an IRR sequential increase that's greater than what you just posted for the July quarter.

Quarter, and then just to add color to that any shift in the sources of cloud RR and revenue in terms of your different cloud offerings or the different public cloud platforms that are driving the growth. Thank you.

Hey, David It's Mike Thanks for the question I'll take the first one.

George I'll jump in on the second one so we would expect the same seasonality we discussed last time, a little bit more in Q2 and in Q4 on a sequential basis, that's really driven by our as you know our biannual sales plans that we have now so yes, correct, we would expect sequential to be a little bit higher in Q2.

I think with regard to the second question you had TD with the mix of offerings, we feel really good about spot buy net app and the work that we're doing with the hyper scaler, both especially Microsoft and Google were strong in the quarter.

The seasonality reflected.

In fact reflected in the offerings that are sold by net are they grew nicely, but not as much as the hyper scaler on spot.

Thank you.

Thank you.

Our next.

It comes from the line of Jason Ader with William Blair. Your line is open.

Yes. Thank you.

First question on the public cloud growth.

<unk>, how much of that was organic.

Sorry.

Jason It's Mike if you look.

The revenue growth there was 155% year over year growth. If you exclude the acquisitions there was still very strong at about 138% So super strong.

Great and you had spot in the numbers last year correct.

It's a great question, we all AD spot for.

Look at it in a month we closed early early July so it was very little in Q1 last year. Okay. Alright, So Q2 will be kind of apples to apples that was spot.

Yes, youre going to get a full quarter in.

In Q2 as here Alright, and then George.

The growth on the product side how much.

Less coming from pent up demand as the economy.

Started to reopen here over the last several months six months or so.

And then what type of sustainable revenue growth you think is reasonable beyond this year, where there's some I guess easier comps.

Listen I think we have never signal.

Do you think.

<unk> mapped back or anything like that our belief has been that other than a small number of customers who were directly impacted by COVID-19. The vast majority of the customers that we work with had a steady demand pattern for several quarters now certainly.

We are seeing strengthening in demand as the economies reopen.

But this is a reflection of more long term trends transformational.

Our customers are doing to digitize our hybridized their business.

They are doing to build cloud environments and so on.

Certainly think that we see this as the pent up demand kind of model I think with regard to the sustainability of our business. We feel really good about product revenue as we said, we think that we can sustain product revenue growth each of the quarters of this year and particularly our flash segment.

Segment is very very strong and so we see really good momentum there and no reason to feel anything but real good confidence about where we are listen we just finished a phenomenal quarter.

In Q1, we grew our all flash business by 23% overall product.

<unk> revenue by 16% and cloud by 155% year on year, we raised our fiscal year, two 8% to 9% growth.

And anticipate delivering close to $5 and earnings per share. These are all record numbers right operating margins all year and earnings per share.

<unk> for the company, so I feel very very very good about where Bihar.

Thanks very much.

Thank you.

Our next question comes from the line of Aaron Rakers with Wells Fargo. Your line is open.

Yeah. Thanks, Thanks for taking the question I guess kind of two related.

Two questions. If I can first of all is the kind of industry. We've seen a lot of evidence of component constraints in an inflationary component pricing dynamics.

As you've seen that how how do you believe your customers have behaved as far as you know.

Putting orders in place how has your lead times.

<unk>, maybe changed with relation to that or has that not been a factor and you don't believe that will be a risk factor as we move forward.

Listen I think that components.

Being constrained in the supply base being dynamic and fluid is something that everybody in the industry.

History faces our team has done an excellent job and the fact that we have a single operating system and a single architecture for the vast majority of our revenue gives us flexibility to adapt and react in real time to potential supply constraints both the growth.

Gross margin guide and the revenue guidance that we've given anticipate puts and takes across the supply chain.

With regard to our ability to manage pricing in an inflationary environment.

The product gross margin strength.

Strength in Q1, and the outlook for Q2 remains.

Strong and it's a reflection of the discipline that our field organization with regard to do IC customers buying up prop.

Product ahead of schedule to deal with supply constraints.

I don't see that maybe there are occasional anecdotal situations, but the vast majority as we've said.

Or is it pretty steady and strong demand pattern across a broad range of Geos you see that in our results. This quarter, Mike do you want to add it.

No as George talked about.

So obviously very very fluid I would just give another shout out to not only our team, but obviously our partners as well for.

All the work that goes on.

Good quarter, and we expect them to continue to perform in and help us get through this.

Everybody in the industry faces.

That's perfect guys. Congrats thanks again.

Thank you.

Our next question comes from the line.

Yeah, Arnie with Evercore Your line is open.

Yes.

Thanks, a lot and thanks for taking my question I, just got one I guess.

George really impressive set of numbers across the board and you took up your EUR estimates.

Estimates for the year by 25 looking at the low end.

Just understand what is giving you the confidence.

You raised the guide this early in the year is it better sales execution and go to market are you just seeing better adoption of the cloud company just help me understand what's driving the confidence to uplift the guide for fiscal 'twenty two on cloud services, and then Mike related to that.

You achieved that in the gross margin numbers of cloud services a lot quicker.

Quicker than you may have thought so how does the rest of the year. It looked like from a cloud gross margin perspective.

With regard to our confidence in the cloud business I think we feel very very good about the portfolio that we have it serves a broader and broader range of use cases, both traditional.

Initial application as well as.

Net new applications second we are adding a lot of customers both through net ask pathways and particularly the hyper scaler pathways.

Once a customer joins our platform as you can see from our dollar.

Net retention rate they expand quite substantially with net.

The portfolio when they do a lot more with US I think those three key sort of fundamentals of the business.

Drives my confidence in being able to take up the bottom of the range too.

This.

In the year.

And then on the gross margin question. So great question. If you remember back in September we talked about Hey, there's really four things that we think will drive increased gross margins in the public cloud business and it was revenue scale and we certainly exceeded our expectations there increased hardware utilized.

Early ish and the team is doing a wonderful job, making sure as we deploy that hardware that we drive utilization.

Remember as well on tap drives everything here at net up on Prem as well as in the cloud and we continue to see great improvements there.

One that I think is underappreciated is more software keep in mind that of.

Jose for major products in that portfolio.

While volume services cloud volumes on tap cloud insights and spot only services is heart called hardware dependent the other three are all software cloud offerings and they've grown all very nicely, which has helped us get to where we are from a margin perspective.

So thanks for that and then Hey, Jason just so I can sleep at night. So I gave you 138. It was 135 still a very good number on the organic revenue growth if you exclude all acquisitions.

So thank you for that question.

Thank you.

Thank you.

Our next question comes from the line of Broadcom with Goldman Sachs. Your line is open.

Yeah, Hi, guys. Thanks for the question I guess I wanted to come back to these product gross margins and just try to check I mean, you beat your guide substantially beat our expectations substantially.

For total gross margin I should say, but also.

So product is over two points better than what we anticipated I Wonder if you could talk a little bit about what the surprise was there I mean, what what was different than what maybe what you were thinking last quarter and then I've got a follow up on that.

Sure Rob it's Mike. So I think there were there are two things that really drove that outperformance.

The first one was the large majority of which was to growth in all flash.

And that going from I believe it was 11% year over year growth last year to 23 as you know that comes with much better margins more software rich mix matters as well and that business as we've talked about in the past the other thing that helps the percentage.

As well as pay as you know we de prioritize things like HCI last year those come in at lower margin percentages. So you add those two together and that's really what drove the higher gross.

Product gross margin number.

Okay. That's great that's helpful a lot.

<unk> I wanted to also ask about cash flow seasonality I know you.

I heard you call out the next quarter should be a low point for cash flow.

And that you know and then you've given us full year guide on cash flow and I'm just curious like it.

What is pushing all of that cash flow to the back end of the year is it.

Quite a bit of confidence.

Nation accrual, but I'm, just curious kind of why the.

Flow of cash looks the way that it does this particular year. Thanks.

Sure. So I love cash flow questions happy to answer those anytime so hey in Q1, and if you look at the balance sheet you see there.

Accrued expenses were down significantly and that's when a lot of variable pay.

Paid in Q1 and Q2.

Because cash flow is largely going to final billings growth from an aggregate perspective Q1 from a total dollar perspective is our lowest.

Billings that then flows into lower collections in Q2.

As well that's.

<unk> get the other big mover, there is cash taxes and I highlighted that keep in mind, we will pay about $40 million in state and federal taxes on our Sunnyvale campus than in the second half as we build billing stats when collections go up everything else is largely relatively similar the big movers are seasonality of.

<unk>.

Variable pay timing and then cash taxes.

Great, Okay, and like you said the the big thing on a year to year. It's just that sale of the headquarters last year, which positively impacted cash flow quite a bit right.

So that yes, and keep in mind that it helps cash balances.

Collect identical into operating cash flow, though right.

Right.

Right.

Okay, great. Thanks, very much Mike helpful.

Absolutely. Thank you.

Thank you.

Our next question comes from the line of Matt Cabral with Credit Suisse. Your line is open.

Yeah. Thank you very much.

It sounds like the demand environment continues to pick up curious what youre seeing from a competitive standpoint.

As that demand has improved whether it's discounting or pricing and just what youre seeing in terms of the broader environment at this point.

I think we see as I said in my prepared remarks solid steady demand.

<unk> across all the Geos I think quantified geographies have executed extremely well to capture that demand I feel very good about the differentiation in our offerings both on premise as well as in public cloud that gives us a chance to drive.

Our new conversations with customers.

You know our public cloud services, clearly had a bar on premises hybrid cloud business because customers see us as the only storage vendor. We think cloud was already operating system and a path for them to get to public cloud and the combination of those two is allowing us to bring.

Customer new customers and to be able to maintain a differentiated value proposition in the market. So very good execution by the team again steady solid demand across all geographies.

Yeah.

Okay.

Thank.

Bring up.

Our next question comes from the line of Panic, Turkey with Jpmorgan. Your line is open.

Hi, good afternoon. Thanks for taking my question I just had one on operating margins you are guiding to 'twenty three 'twenty four for the full year, that's about a 300 basis points expansion.

Thank you feedstocks.

Look beyond this fiscal year, how should we think about headroom on margins I know you referred to Opex leverage a couple of times in your prepared remarks, but just trying to think about kind of the magnitude of margin expansion beyond this fiscal year and the drivers between gross margin and Opex leverage.

Do we think about the balance with that.

But listen I think overall as we said we continue to be a disciplined management team and the way we run the business you should expect as you see in the numbers. This year that we should grow topline I hand off expenses and that should create leverage in the model I think as.

The outlined we wanted to get to 55 points product gross margins in the hybrid cloud business, we have achieved that and we want to maintain that for the rest of this year you know and then in terms of public cloud.

We said that we wanted to get it to be accretive to the margin.

Mike.

Core business, which it is and we want we have expectations to continue to improve that over time towards a more SaaS like gross margin model both of those elements topline as well as gross margin should allow us to be you know kind.

<unk> started to leverage in the operating margin model of the company do you want to add.

But those are the puts and takes.

Great. Thank you.

Thank you.

Our next question comes from the line of Karl Ackerman with Cowen Your line is open.

Yes. Thank you.

Clearly your all flash array portfolio grew 23% off a difficult compare and that only gets better in the second half.

From a comparison standpoint, so you know.

It seems that that's driving the bulk of your upwardly revised fiscal 'twenty two outlook for hardware, but I'd love to hear what you are seeing from hybrid arrays.

Both commercial and even SMB environments, because component providers would also suggest that.

That area is also doing well too thank you.

I think hybrid arrays as we have consistently said have a place in customer environments.

<unk> is set of use cases.

As we have consistently maintained that a hybrid array has a better solution to offer than in all flash arrays, and so we continue to see an opportunity for hybrid arrays.

Have a go forward endurance placed in customer's environments are hybrid array business is strong.

So there's some business we have a differentiated value proposition and hybrid just like we do in all flash.

Thank you.

Thank you.

Our next question comes from the line of Steven Fox with Fox Advisors Your line.

Strong.

Hi, Thanks, Good afternoon, George you threw a lot at us on the public cloud side in your prepared remarks about the types of services you have today, and where they're going if we sort of step back and you mentioned with how the near term trends are going but if we step back and thought about the two to three year plan.

Around what will be the dominant.

On his own practices, then versus now and what maybe is it in this in the revenue base. Today can you just sort of all of that in perspective for us how it drives towards that $1 billion <unk> target. Thank you.

Yes, I think we are in the early innings of enterprise use of cloud for.

<unk> mission critical business critical applications I think we see that over the next few years as businesses deployed more of their core operations on public clouds. The opportunities we have around compute automation management through spot.

Our storage and data protection and management through cloud volume and monitoring through cloud insights will it be a very very strong business and all of the hyperscale or partners that you work with see it much the same way, which is why they're building more and more capabilities with US we also see.

Some growth engine in.

In the public cloud segment with all of the cloud Native work, we are doing around containers and some are less so spot Ocean. We mentioned is the same value proposition that spot brings for enterprise applications do containerized applications.

Sure.

A new strong adoption we've worked with.

Some of the Hyperscale is around a strong control and we are starting to see that.

Get to ramp, especially with new cloud Native Kubernetes application and then we started work on cloud insights of kubernetes to bring.

<unk> monitoring and management, so I feel very good about the portfolio. There's a lot of organic innovation and spot has proven to be a really stellar acquisition for the company.

Thanks, very much appreciate that color.

Thank you. Thank you.

Our next question comes from the line of Pik.

Nick <unk> with Longbow Research your line is open.

Yeah, Thanks, and congrats on great results guys.

George maybe kind of give us more color on your on Prem share gains can you talk in which segments of the market you see the strongest momentum there.

Also if you can.

Not your direct sales grew faster than your indirect for a second quarter in a row is there any particular reason for that.

I think with regard to where we see strength I mean, this was a really balanced quarter across all the geographies you can look at our results in the Americas you look at the results.

Com in Europe, and in Asia Pacific We grew in all of the major geographies very very nicely. So I feel very good about that with regard to the direct versus indirect I think it's a reflection of some of our largest customers who continue to buy direct.

Being a strong contributor too.

Some of our all flash array growth right. So I think thats.

Sort of the puts and takes I wouldn't read anything into.

This specific.

Quarter on quarter trends in the channel I continue to see good opportunities to grow our business across both direct and indirect channels.

Thanks.

Yeah.

Yeah.

Thank you.

Our next question comes from the line of Shannon Cross with Cross Research. Your line is open.

Thank you very much I, just wanted to dig a little bit more into the longer term.

<unk> from obviously the shift to cloud now that you're breaking it out.

And I understand on the gross margin side, but I'm curious if there are SG&A and R&D differentials that you know.

In terms of how you would allocate or how do we think about it from an opex perspective, and then the same on cash flow I know it'll be lumpy, depending on the investments you need to support cloud, but longer term how should we think about.

The mix shift impacting the model. Thank you.

Hey, Janet it's Mike So a couple of things as it relates to Opex keep in mind that the.

Two largest operating expense line sales and marketing and R&D. There is a lot of shared resources across there, let's do R&D first we've talked about it we get a lot of efficiency.

Geez.

From the <unk> group in terms of the work they do both on Prem and in the cloud we would expect to continue that we're where they're focused on both of those and we get a lot of.

We got a lot of efficiencies there clearly most of the growth in that line has been focused around cloud and it probably still will.

B that doesn't and that excludes any acquisitions that could certainly play into that as well and then from a sales and marketing perspective, we now have it where our core sales team is selling both in and so that will continue to be a focus but we will also add.

Like our customer success team that we've talked about that's largely.

Focus on the cloud business in terms of expansion and upsell and cross sell to that team. So I think over time, you'll continue to see that investment there from a cash flow perspective, I think that probably largely follows where operating income would if you're down to free cash flow you get a little bit of difference in terms of the.

The hardware, but we've also talked about the next couple of years, we will continue to see a good bit of hardware, especially as it relates to azure, but over the next couple of years that will flatten out it's much more of a of a hey, we're adding in a certain location versus seeding. It once you get to almost 100% then it's more.

Ill go replacement motion. So those are the puts and takes around opex and casually. Thanks for those two segments.

Thank you.

Thank you.

Our next question comes from the line of Jim Suva with Citigroup. Your line is open.

Thank you and the additional.

No colors and detail who is greatly appreciated.

The upside for this quarter was it due to mostly volumes or better pricing and if the answer is both can you kind of help us to say it was a little bit more of one versus the other thank you.

Hey, Jim its Mike It was largely related to volumes, we haven't seen much of a change in external pricing for as we've talked about competitive environment has always been competitive but relatively similar so it's largely going to move with volumes. We saw we didn't see much of a mix shift we've talked.

About that in previous quarters. So it was all relatively consistent mostly driven by volumes.

Thank you so much and congratulations and we appreciate the details.

Thank you.

Thank you.

Our next question comes from the line.

Yeah.

Your line is open.

Okay. Thank you Hey, George when we look back to 2018. It was a very strong year. So when we get to 2022 and I'm referring to.

Spending broadly.

Capital equipment for data centers, when we get to 2022.

We'll be at the four year anniversary not necessarily looking at guidance and maybe it's obviously a little bit early to ask that question.

But given the macro and you know.

The last cycle and that we had a couple of down years in 39.

Can you see that that enterprise and commercial customers are.

Hopefully coming strongly back.

Market in 2022.

This is we have seen any consistent demand.

For our offerings in our capabilities for several quarters now I wanted to just.

Remind us that we had a strong year last year, particularly.

In the second half of last year, and so we continue to see that the overall demand environment is.

Is brightening steadily we have said from for many quarters, we saw the U S and China, leading the recovery Europe, a few months six to 12 months behind that and then.

Then the developing economies, maybe another six to 12 months behind that we continue to hold that prospectus with.

The benefit of several quarters of experience and so I feel very very good I think that we have customers who are seeing a better economic environment.

<unk> starting to build confidence in spending in technology I think within that segment hybrid cloud digital transformation initiatives are well positioned and netapp is well positioned to go after that.

<unk>.

Okay. That's helpful. Thank you any comment on component availability.

Pricing, obviously your margin structure.

So congratulations on that but.

But.

What should we think about for the next six months there. Thank you.

Listen I think as Mike and I said in prepared remarks, you know Doug.

The component supply chain is a dynamic and fluid supply chain is well.

Understood in the industry our team has done.

Excellent job managing through that we have good deep relationships with suppliers and long term commitments with many of them.

As Mike and I have suggested we will continue to use cash.

To buy ahead of what.

What we need so that we can maintain supply availability, we think that's a good use of cash.

In the current environment and.

Then having a single operating system that drives the vast majority of our business allows us to qualify and adapt to the environment that we're in so I.

I want to thank our supply chain team for continued execution and our engineering team and our partners for working with Us and I think.

I think our sales teams have done a really good job managing through the environment to capture the value that we should for our products.

Okay. Good.

Good luck on the rest of the year.

Thank you.

Thank you.

Our next question comes from the line of Guanxi Mohan.

<unk> of America. Your line is open.

Yes. Thank you George on the assay side can you give us an update on where you stand with respect to penetration.

<unk> of the installed base and where are you seeing any changes on the competitive side and I have one clarification for Mike too.

It's 29% so it's up another percent.

We have said consistently our installed base continues to grow as we acquired.

Higher new customers, the new workloads and flash is penetrating that install base and incremental 1% to 2% at a time right. So a long runway ahead on that installed base with regard to the competitive environment again, we don't see any sort of substantive changes.

Think.

We have a really good offering in the market I think we believe we have taken share.

In the environment.

And we're going to continue to stay focused on winning not only traditional workloads, but also new types of workloads like deep learning machine learning data lakes and others.

With our all flash portfolio.

Okay, Thanks, George and Mike just a clarification on this product gross margins.

I heard your commentary on sort of a better software mix also discipline in the field, but was there any contribution from either new elas or renewal of prior elas.

If that had any impact.

On margins in the quarter.

Yes. So thanks for the question Lindsay so as we've talked about such a small piece of the business, we're not going to talk about elas, Here's what I would point you to and I've said it every quarter. If you look at the financial results specifically the amount of software and hardware revenue you can see that in Q.

In Q1 software increase, but so did hardware they've basically moved in lockstep the last four quarters.

If the if anything if there was any large transactions that are different than our current mix you will see it in the numbers.

Okay. Thank you.

Thank you.

Your next question comes from the line of Simon Leopold with Raymond James Your line is open.

Thank you I wanted to see if you could talk a little bit about your methodology for forecasting the business.

Your public cloud compare to your hybrid cloud there there are different animals.

They are different maturity and I just wanted to understand how you're doing it and if you have some advice for the analyst community of what we can do to better enable our ability to forecast your public cloud trends. Thank you.

Yeah, So hey, Simon it's Mike So I'll I'll.

I'll take that one when we look at the public cloud business certainly it as much as it is similar to some of the hybrid cloud dynamics I'll talk about that in a second there are certainly new transactions that we forecast not only coming in from the hyper scaler, but from our sales team as well we get pipeline reports, we see what that looks like so we're.

We're able to forecast that.

More and more it's also renewal rates being able to forecast renewals and then really the big driver of all cloud software businesses upsell cross sell.

That's obviously difficult for you folks to see those details, but we look at all of those certainly sales capacity as part of that.

No.

Hybrid cloud business keep in mind I think it's now $2.3 billion of support revenue every year. So that's much more of a renewal rate. We do look at cross sell up sell and we also look at.

Where we are in terms of pipelines and conversion rates and a big piece for US is obviously do we.

We have enough sales capacity. So I know, we get a lot of questions about hey, net App should go.

Quarter on quarter sequentially I would just encourage you when you look at that sequential keep in mind, Hey, the last couple of years.

<unk> have been very different than the last 10.

And it makes it.

It makes it a little bit difficult, but.

Hopefully when we get through this COVID-19 environment and it gets back to normal those are those are more relevant I think now it's very difficult to use those sequential growth to try to forecast the business.

Thank you.

Thank you.

Our next question comes from the line.

Sidney Ho with Deutsche Bank. Your line is open.

Thanks for taking my question just a quick follow up on the public cloud business.

Obviously, you raised your you know target exit rate for this year, our gross margin is already above the corporate average and it sounds like it's going to go higher given the software mix I.

You haven't talked too much about operating margins, but should we think about this revenue stream will eventually get to above corporate average levels is there a certain revenue target we should be thinking about that when that happens.

Oh is there a time element maybe what what are some of the things that we should consider when we think about this.

This business grows.

Yeah.

So Sidney it's Mike just to make sure I get that you're talking about the operating profit for the public cloud segment. That's your question correct correct. Okay. Yeah.

I think the best way that I would encourage you to look at that is here's the great thing about the the cloud businesses. There was a lot of good comps out there that we looked.

At all the time.

And as we look at businesses that are call. It 250 million and there are as they grow to a billion. They are you you see not only a slight uptick in gross margin, but then obviously you see the dynamics of operating income. So I would encourage you to take a look at some of those compares.

We look at that a lot in terms of benchmarking our business.

Largely what ends up happening is they turn cash flow positive before they turn operating income because of again the way they recognize revenue ratable. So I would encourage you to take a look at those and.

There was really no reason to believe as we sit today that we wouldn't follow that comparable.

Terrible group as we March to a $1 billion in Iraq.

Great. Thank you.

Thank you.

Yeah.

Thank you.

Our next question comes from the line of NASA Ballroom with loop capital. Your line is open.

Hi, Good afternoon, you guys really appreciate your take.

Good question.

I'd love to get your thoughts on and you see it sort of more workload shifts to the cloud to what to what extent. If any are you guys also seeing a hardware benefit.

Particularly and sort of like an on prem hardware benefit expense position to move workloads to the.

Cloud, particularly given your yourself with.

Thank God.

I think with regard to the work that we're doing in public cloud.

Mike has mentioned and I've said before the vast majority of our solutions are software based and.

And we scaled back.

Software I'm using clustering. So that you can go faster by going wider I'm, just sort of more you know more computing demand with regard to certain traditional applications that are more sort of scale up applications like an S. H E.

Or something like that.

That requires a scalable platform to support it that's where we use hardware and I think the software that we have can be run on generic hardware for the broad range of use cases.

Our own proprietary our own hardware or narrow really specific application use cases.

Okay got it yeah. That's helpful. Thanks, a lot.

Thank you.

Our final question comes from the line of Nicole Joshi with Northland Capital markets. Your line is open.

Yep, Thank you and congrats on the strong results and nice to see the increasingly a couple.

Our return to shareholders as well.

My question here is that it sounds like the acceleration of all flash array as well as behind the acceleration of software product revenue, 33% year over year growth.

So is that correct and then what do you see as a sustainable growth rate in product software.

Yeah. So.

33% increase in the software portion of product revenue, it's driven per the earlier question. It really by two things one is the ink the really nice growth in all flash, but also less growth in HCI and some of the products that have less software and more hardware and.

And I would expect if going forward if if we're talking about growth in product revenue given the continued mix shift towards all flash you should expect to see software the software portion grow faster than the total product portion.

Okay.

But a 20 plus percent growth in products.

Software be viable.

So we're not going to guide to that other than to say it should grow faster than than the total product number.

Understood. Thank you.

Thank you and Uh Huh I'm going to pass it back to George for some closing remarks, thanks, Chris in closing we delivered a great start.

Talk to FY, 'twenty, two and very well positioned for continued growth throughout the year cloud.

Cloud and digital transformation initiatives.

Top customer priority and we continue to benefit from these sizable long term trends our hybrid cloud and.

And public cloud offerings.

<unk> net add in a unique position to address our customers' most pressing challenges.

Our cloud and software intellectual property truly differentiates us as a result, I'm more confident than ever in our ability to deliver long term value to our shareholders customers.

<unk> and partners.

Thanks for joining us.

Thank you.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation you may now disconnect.

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Good afternoon, ladies and gentlemen, welcome to.

<unk> first quarter fiscal year 2022 earnings call.

At this time all participants are in a listen only mode.

Later, we will conduct a question and answer session and instructions will be given at that time.

I would now like to turn the call over to Kris Newton.

The next President Investor Relations.

Thank you for joining us with me today are CEO, George Kurian, and CFO, Mike Berry. This call is being webcast live and won't be available for replay on our website at <unk> Dot com.

During today's call, we will make forward looking statements and projections with respect to our financial outlook and.

By aspects such as our guidance for second quarter and fiscal year 2022, our expectations regarding future revenue profitability and shareholder returns.

We bring to customers, our ability to execute and our ability to bring industry, leading capabilities to market all of which involve risk and uncertainty we.

Future from 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 an uneven recovery of the COVID-19, pandemic and the I T capital spending environment as well as our ability to gain share in the storage.

We disclaim get grow our cloud business and generate greater cash flow.

Please also refer to the documents we file from time to time with the SEC and available on our website specifically our most recent Form 10-K, including in the management's discussion and analysis of financial condition and results of operations and risk factors section.

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.

I'll now turn the call over to George Thanks, Chris Good afternoon, and thanks to everyone for joining our Q1 fiscal year 'twenty two earnings call.

Building.

And our accelerating momentum through fiscal year 'twenty, one we delivered a strong start to fiscal year 'twenty two with results at the high end or above our guidance for Q1.

Broad based strength drove 12% revenue growth and 16% product revenue.

Building up year over year public.

Public cloud revenue grew triple digits again, this quarter up 155% from Q1 a year ago.

Our results reflect solid customer demand and strong execution by ERP in the quarter.

Loud and digital.

Gross and initiatives remain top customer priorities and we continue to benefit from the sizable long term trends Custer.

Customers need to simplify and modernize existing data centers and deployed traditional applications quickly and confidently.

At the same time.

For me customers are also accelerating their use of cloud adopting modern application architectures like kubernetes and micro services for new workloads and deploying data rich applications like machine and deep learning.

With our data fabric strategy we.

Our uniquely.

<unk> positioned to solve our customers' most significant challenges in both modern and traditional applications on premises and in hybrid multi cloud environments.

As I've said, many times, our public cloud services, not only allow us to participate in the rapidly.

Definitely growing cloud market there.

They also make us a more strategic data center partner to our enterprise customers driving share gains in our hybrid cloud business.

In Q1, we introduced our new segment reporting disclosures for hybrid cloud and public cloud.

Corresponding with how do I look at our business.

We've provided financial information for both segments in our earnings materials to give you better insight into the dynamics of the two segments. We will maintain our focus on driving growth with our hybrid cloud portfolio while scaling.

Called public cloud services in fiscal year 'twenty two.

In Q1.

Cloud revenue grew 8% year over year.

Led by outstanding growth in our all flash array business, which increased 23% to an annualized net revenue run.

Our rate of two $8 billion.

Based on our strong revenue growth I am confident that we again gained share in the storage and all flash market.

In the quarter, we delivered significant innovation that advances our flexible foundation.

<unk> cloud.

Unified data management across on premises and cloud environments.

<unk> simplifies consumption and the operation of hybrid cloud services.

Further enhance the industry's leading and only cloud ready storage operating system.

<unk> for introducing untapped $9 nine with security enhancements, new integrated data protection capabilities and improved sand performance.

We also released storage grid, $11, five which support for data encryption using external key management.

Ransomware protection.

But even with that three object blocks and increase performance with intelligent load balancing.

And we announced a broad range of enhancements to Keystone Flex subscription with new features for service providers additional cloud support our partner delivered flex spot as a service.

Protect and integration with Equinix co location services.

Public cloud revenue grew 155% year over year, driven by cloud volumes cloud insights and spot buy net app, it's been a year since we acquired spot and we are excited by.

It can be brought to market under the spot buy net up Brian and the momentum we have with the spot offerings.

Public cloud <unk> grew to $337 million, an increase of 89% year over year and public cloud dollar based net retention.

The innovate remains healthy at 192%.

Our partnerships with the cloud providers are strong and growing.

I am honored that we were recognized by Microsoft as the winner of their global customer experience partner of the year.

And of their year.

<unk> S. A pea on Azure partner of the year Award.

We continue to broaden our public cloud services beyond storage and data management services.

Today, we help customers extend migrate automate and optimize the infrastructure.

U N data management capabilities for enterprise and cloud native applications customers.

Customers use net up public cloud services.

Because we enable them to use more cloud at less cost.

In Q1, we announced spot P C a fully managed.

I had a cure and cost effective cloud desktop as a service for Azure virtual desktop and Windows 365.

Additionally, we acquired data mechanics.

To accelerate the roadmap for spot waves and infrastructure and application.

Automation and.

Sedation platform for high growth Big data and machine learning workloads in the cloud.

We also continued to deliver on our vision and strategy around application aware infrastructure and data management for containers.

Spot Ocean automates cloud infrastructure for containers.

Optima automatically scaling compute resources to maximize utilization and availability with the optimal blend of spot reserved and on demand compute instances, reducing costs by up to 90%.

In Q1, we evolved spot Ocean Intuit.

Of Dev Ops solutions.

With ocean continuous delivery and ocean insights.

Ocean continuous delivery focuses on the most painful aspects of modern application delivery by automating mission critical deployment and verification processes.

Ocean insights.

Suite is an analytical tool that gives users a full view of their application clusters, and then reviews the potential savings from motion.

Last year, we introduced Astra control, a rich set of storage and application aware data management services.

For cloud based kubernetes workloads.

<unk> extends the data fabric to the cloud native world and in Q1, we extended Astra to be a deployable on premises software solution.

<unk> control center.

Wherever a customer chooses to deploy <unk>.

Many of these applications.

We can accelerate the deployment operation and protection of these critical environment let.

Let me share with you our customer story.

Highlight the value Astro control center brings to enterprise customers.

As a part of its transformation strategy a leading.

Leading telecommunications provider is using a modern architecture based on container native applications.

These workloads are mission critical and the customer turned to net up and asked our control center to address the challenges of data protection and disaster recovery.

That don't exist in kubernetes natively.

Additionally, Astro help them realize their vision of application portability across multiple kubernetes distributions and data sharing across multiple clusters, we have long been recognized for our industry.

Three leading enterprise storage and data management technology.

Our public cloud services drive further differentiation expand our addressable market and enable us to reach new customers.

We deliver not only industry, leading storage services in the cloud.

But also cloud automation.

Emission and optimization services and cloud infrastructure monitoring services.

You should expect us to capitalize on our advantage by enhancing our go to market activities.

<unk> our cloud partnerships.

And delivering best in class organic and inorganic innovation.

Our strong customer momentum and the uniqueness of our public cloud services position.

My confidence in our ability to reach our goal of $1 billion in public cloud <unk> in fiscal year 'twenty five.

Our strong first quarter results underscore our value to.

Customers in a hybrid multi cloud data driven digital world.

We are confident that we are well positioned with the right portfolio and strategy to solve our customers' most pressing challenges with focused execution and demonstrated leadership in hybrid multi cloud.

We are reshaping the industry.

We made a number of innovation announcements this quarter and we will continue to bring industry, leading capabilities to market further enhancing our differentiated position in cloud and software.

I am excited for what this year will bring and I am confident in our ability.

Deliver topline growth as we support our customers on their cloud and digital transformation journeys.

Before I turn the call over to Mike to walk through our financial results and expectations.

Want to thank the Netapp team, our customers and our partners for an outstanding quarter.

They didn't want to remind you that we'll be hosting our fully digital insight customer event in October I hope, you'll be able to join us with that I'll turn it over to 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.

I also fiscal 'twenty two is off to a great start with strong revenue gross margin and operating leverage across the entire business.

Excellent execution by the whole net app team yielded Q1 billings of $1.38 billion up 20% year.

<unk> noted per year.

Revenue came in at $146 billion up 12% year over year.

Our solid Q1 results were driven by healthy demand across both our hybrid cloud and public cloud segments gross margin operating margin and EPS.

Year, all came in above the high end of guidance.

As George noted in our earnings materials today, we introduced our new segment reporting disclosures for both hybrid cloud and public cloud.

Hybrid cloud captures all the revenue streams from our enterprise data center business, which include product supplier.

Art and professional services or public cloud segment provides incremental visibility into the revenue and gross margin profile of our rapidly growing cloud business.

Total hybrid cloud revenue of $138 billion was up 8% year over year within hybrid.

We delivered product revenue growth for the second consecutive quarter and expect this trend to continue throughout fiscal 'twenty two.

Product revenue of $730 million increased 16% year over year.

System with the trends we saw throughout fiscal 'twenty one.

<unk> cloud software product revenue of $414 million increased 33% year over year, driven by the continued mix shift towards our all flash portfolio.

Total Q1 recurring support revenue was $578 million flat year over year.

Excluding the <unk>.

Week from last year's compare recurring support revenue was up 8% year over year.

As George highlighted public crowd AAR exited Q1 at $337 million.

Up 89% year over year, and 12% sequentially public cloud revenue recognized.

The quarter was $79 million.

Up 155% year over year.

The growing scale of our public cloud platform continues to positively impact the overall growth profile of net app delivering four of the 12 points in revenue growth.

When combined.

<unk> software revenue recurring support and public cloud revenue totaled $1.1 billion and.

Kris 17% year over year.

Representing 73% of total revenue versus 71% in Q1 'twenty one.

Recurring support in public cloud revenue.

<unk> $657 million was up 8% year over year constituting 45% of total revenue.

Excluding last year's 14th week from the compare recurring support in public cloud revenue was up a healthy 16% year over year.

We ended Q.

<unk> said all of our $3.9 billion in differed revenue an increase of 8% year over year.

Q1 marks the 14th consecutive quarter of year over year deferred revenue growth, which continues to be the best indicator of the health of our recurring revenue.

Total gross margin of 69.

<unk> was an all time company high reflecting the value of our software portfolio and public cloud platform.

Total hybrid cloud gross margin was also 69% in Q1.

Within our hybrid cloud segment.

Gross margin was 55% and.

Precipitate from the continued mix shift towards software rich all flash systems.

Our recurring support business continues to be very profitable with gross margin of 92%.

Public cloud gross margin of 71% was accretive to the overall corporate average.

And this is a major milestone for the public cloud business as we continue to build out a diversified portfolio of cloud based software offerings. We expect this trend to continue as an increasing percentage of our public cloud business is built on software only solutions.

Q1 highlighted.

Mendes leverage in our operating model with operating margin of 23%.

And all time high for our Q1 <unk>.

EPS of $1.15 came in above the high end of guidance and was up 58% year over year.

Cash flow from operations.

$242 million and free cash flow was $191 million.

During Q1, we repurchased $100 million in stock and paid out $112 million in cash dividends.

In total we returned $212 million to shareholders representing.

Was 111% of free cash flow.

We closed Q1 with $4.5 billion in cash and short term investments.

As you all know the supply chain situation remains fluid our excellent supply chain and procurement team continues to work closely with our partner ecosystem.

Presenting with the goal of keeping backlog and customer lead times at normal levels towards this goal, we will continue to invest incremental dollars into inventory and longer term commitments to help mitigate any potential supply risks.

Aiding this effort is the fact that we have a singular software platform.

<unk> powers all of our key storage products, which provides us added flexibility to work with our contract manufacturers and customers to meet and demand.

With our strong execution in Q1, and our expectation of continued growth for the remainder of the year, we are raising our fiscal.

That two guidance across the board.

We now expect revenues to grow 8% to 9% year over year with billings growth expected to outpace revenue growth given the continued strength and recurring support contracts and our public cloud platform we.

Also have growing confidence in our public cloud.

2020, and are raising the low end of our fiscal 'twenty. Two guide we now expect to exit fiscal 'twenty, two with public cloud <unk> of $450 million to $500 million driven by enhanced go to market activities.

Deeper cloud partnerships and continued product innovation.

As George noted we are solidly on track to deliver on our commitment to eclipse $1 billion in public cloud <unk> in fiscal 'twenty five.

In fiscal 'twenty, two we expect total gross margin to be approximately 68%.

Product margin of approximately 55.

5% for the full year.

We anticipate operating margin to range between 23% to 24%.

Operating expense expectations remain unchanged at $2.75 to two 8 billion driven by continued investment in revenue.

Generating activities, including expanding our public cloud portfolio targeted investments in go to market resources and continued investment in our customer success sales team.

As we discussed at our Investor Day last September we continue to grow revenue faster than operating expenses.

Expenses.

We are committed to delivering $4.85.

To $5 <unk> in fiscal 'twenty, two EPS, representing 22% year over year growth at the midpoint implied in this guidance is our expectation that other income and expense will be a negative.

<unk> $60 million to $65 million and our effective tax rate will remain at 19%.

We now expect to generate more than $1.2 billion in free cash flow in fiscal 'twenty two as our hybrid cloud business continues to fund the growth in our public cloud platform.

We are committed to the capital allocation framework, we outlined during our Q4 call. The dividend will remain the first call on capital while share repurchases will continue to play a key role in our capital allocation strategy in fiscal 'twenty, two we expect buybacks to offset dilution from our equity plans.

Following purposes, we expect share count to remain flat at 229 million shares exiting fiscal 'twenty two.

Consistent with <unk> long history of disciplined M&A the remaining free cash flow generation will go towards our acquisition strategy, which will remain focused on bolstering.

From a strategic public cloud roadmap.

Now onto Q2 guidance, we expect Q2 net revenues to range between $149 billion and $159 billion, which at the midpoint implies a 9% increase year over year.

Here, we expect consolidated gross margin to be approximately 68% and operating margin to be approximately 23%.

Assume then this guidance, our Q2 operating expenses of $690 million to $700 million.

We anticipate our tax rate to be approximately 19%.

<unk>.

And we expect earnings per share for Q2 to range between $1.14, and $1.24 per share.

Assumed in our Q2 guidance is our expectation that other income and expense will be a negative $15 million to $20 million.

As a reminder, Q2.

Percentage to be our seasonal trough for free cash flow.

This is further compounded by the one time tax payment associated with the sale of our Sunnyvale campus.

In closing I want to thank the entire Netapp team for working tirelessly throughout Q1 to maintain the momentum we had exiting last.

Two we are at a unique inflection point in our company's history as we continue to build out a truly differentiated public cloud platform, while maintaining an unwavering focus on the hybrid cloud business. As a result, we are more confident than ever in our ability.

<unk> to deliver long term value to our shareholders customers and partners as we execute against both opportunities.

Now I'll hand, the call back to Chris to open the call for Q&A.

Yes.

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, ladies and gentlemen, as a reminder to ask a question you will need to press Star then one on your telephone to withdraw your question press the pound key again Thats star one to ask a question. Please stand by while we compile the Q&A roster.

Our first question comes from the line of Katy Katy Huberty with Morgan Stanley. Your line is open.

Yes. Thank you good afternoon, congrats on the quarter, especially the cloud profitability milestone.

I have a question on the cloud business last quarter, you emphasized the seasonality that you expect in this business a weaker <unk>.

<unk> and stronger to Q4 Q seasonality. So I just wanted to confirm that that would imply in your second quarter that you would expect in a or our sequential increase that's greater than what you just posted for for the July quarter, and then just to add color to that.

<unk> any shift in the sources of cloud <unk> and revenue in terms of your different cloud offerings or the different public cloud platforms that are driving the growth. Thank you.

Hey, David It's Mike. Thanks for the question I'll take the first one and George will jump in on the second one so we would expect.

That same seasonality, we discussed last time, a little bit more in Q2 and in Q4 on a sequential basis, that's really driven by our as you know our biannual sales plans that we have now so yes, correct, we would expect sequential to be a little bit higher in Q2.

Thanks.

With regards to the second.

Question, you had TD with mix of offerings, we feel really good about spot buy net app and the work we're doing with the hyper scaler spot, especially Microsoft and Google are strong in the quarter I think the seasonality reflected.

And as we.

Second reflected in the offerings that were sold by net FTE grew nicely, but not as much of the hyper scaler on spot.

Thank you.

Thank you.

Our next question comes from the line of Jason Ader with William Blair.

And as open.

Yes. Thank you.

First question on the public cloud growth.

And your IRR, how much of that was organic.

Sorry.

Jason It's Mike if you look at the revenue growth there was 150.

5% year over year growth. If you exclude the acquisition there was still very strong at about 138% So super strong.

Great.

You had spot in the numbers last year correct.

Great question, we only on spot for less than a month, we closed early in early July.

So it was very little in Q1 last year, Okay. Alright, So Q2 will be kind of apples to apples that was spot.

Yes, youre going to get a full quarter in Asia in Q2, this year, Alright, and then George.

On the growth on the product side, how much do you think is coming from pent up demand as the economy.

<unk>.

To reopen here over the last several months six months or so.

And what type of sustainable revenue growth do you think is reasonable beyond this year, where there's some I guess easier comps.

Listen I think that we have.

Never speak no no DC snapped back or anything.

Like that our belief has been that other than a small number of customers who were directly impacted by COVID-19. The vast majority of the customers that we work with.

Steady demand pattern for several quarters now certainly we are seeing strengthening in demand.

The economies reopen.

This is a reflection of more long term trends transformational.

Our customers are doing to digitize our heightened is their business. The work, we're doing to build cloud environments and so on so I don't think that we see this as a pent up demand.

<unk> kind of model I think with regard to the sustainability of our business. We feel really good about product revenue as we said, we think we can sustain product revenue growth each of the quarters of this year and particularly our flash segment is very very strong and so we see really good momentum.

Let them there and no reason to feel anything but real good confidence about where we are.

We just finished a phenomenal quarter.

In Q1, we grew our all flash business by 23%.

Overall product revenue by 16% and cloud bi.

155% year on year, we raised our fiscal year, two 8% to 9% growth.

And anticipate delivering close to $5 and earnings per share. These are all record numbers right operating margins all year and earnings per share for the company. So I feel very very very good about.

About webinar.

Thanks very much.

Thank you.

Our next question comes from the line of Aaron Rakers with Wells Fargo. Your line is open.

Yeah. Thanks, Thanks for taking the question I guess kind of two related questions. If I can.

First of all is the kind of industry.

Three we've seen a lot of evidence of component constraints and deflationary component pricing dynamic.

As you have seen that how do you believe your customers have behaved as far as.

Putting orders in place how has your lead times may be changed with relation to that or.

Or is that not benefactor and you don't believe that will be a risk factor as we move forward.

Listen I think that component.

Being constrained in the supply base being dynamic and fluid. It is something that everybody in the industry faces our team has done an extra.

Excellent job and the fact that we have a single operating system and a single architecture for the vast majority of our revenue gives us flexibility to adapt and react in real time to potential supply constraints.

The gross margin guide on the revenue guidance that <unk> given.

We anticipate puts and takes across the supply chain.

Regards to our ability to manage pricing in an inflationary environment.

The product gross margin.

Strength in Q1, and the outlook for Q2 remained strong and is a reflection of the discipline that our field.

The organization with regard to do IC customers buying up.

Product ahead of schedule to deal with supply constraints.

I don't see that maybe there are occasional anecdotal situations, but the vast majority is we've said it is a pretty steady and strong demand.

And pattern across a broad range of Geos, you'll see that in our results. This quarter, Mike do you want to add any.

As George talked about.

Obviously very very fluid I would just give another shout out to not only our team, but obviously are our partners as well for all the work that goes on at a really good.

Quarter, and we expect them to continue to perform and help us get through this as everybody in the industry faces.

That's perfect guys. Congrats thanks again.

Thank you.

Our next question comes from the line of Amy <unk> with Evercore. Your line is open.

Thanks, a lot and thanks for taking my question I just had one I guess.

George It really impressive set of numbers across the board and you took up your EUR estimates for the year of about $25 million the low end.

Just understand what is giving you the confidence to raise the guide this early in the year is it better sales.

Execution go to market are you just seeing better adoption of the cloud company just help me understand what's driving the confidence to uplift the guide for fiscal 'twenty two on cloud services, and then Mike related to that.

You achieved that in the gross margin numbers of cloud services a lot quicker than you may have thought so how does the rest of the year. It looked like from a cloud gross margin perspective.

<unk>.

With regard to our confidence in the cloud business I think we feel very very good about the portfolio that we have.

A broader and broader range of use cases.

Traditional application as well as.

Net.

New applications.

We are adding a lot of customers both through net pathways and particularly the hyper scaler pathways.

Third one is the customer joins our platform as you can see from our dollar based net retention rate may expand quite substantially.

Actually not.

They liked the portfolio when they do a lot more with us.

I think those three key sort of fundamentals of the business drives my confidence in being able to take up the bottom of the range too.

This early in the year.

And then on the gross margin.

Questions are great question. If you remember back in September we talked about there's really four things that we think will drive increased.

Margins in the public cloud business and it was revenue scale or we certainly exceeded our expectations. There increased hardware utilization. The team is doing a wonderful job, making sure as we deploy.

That hardware that we drive utilization remember as well on tap drives everything here at Netapp on Prem as well as in the cloud and we continue to see great improvements there and the one that I think is underappreciated is more software keep in mind that of the four major products in that portfolio.

Cloud volume service as cloud volumes on tap cloud insights and spot only services is hard coat hardware dependent the other three are all software cloud offerings.

And they've grown all very nicely, which has helped us get to where we are from a margin perspective. So thanks for that and then hey, Jason just so I can sleep at night.

Maybe $1.38 it.

It was 135 still a very good number on the organic revenue growth if you exclude all acquisitions.

Thank you for that question.

Okay.

Thank you.

Thank you.

Our next question comes from the line of Rod Hall with Goldman Sachs.

Sachs. Your line is open.

Yeah, Hi, guys. Thanks for the question I guess I wanted to come back to these product gross margins and just try to check.

Beat your guide substantially beat our expectations substantially.

For total gross margin I should say, but also product is over two points better than what we anticipated I.

Wonder if you could talk a little bit about what the surprise was there I mean, what what was different than maybe what you were thinking last quarter and then I've got a follow up on that.

Sure Rob it's Mike. So I think there were there are two things that really drove that outperformance in the first one was the large majority of which was to growth in all flash.

And that going from I believe it was 11% year over year growth last year to 23 as you know that comes with much better margins more software rich mix matters, as well and that business as we've talked about in the past.

The other thing that helps the percentage as well as pay as you know we de prioritize.

It's things like HCI last year those come in at lower margin percentages. So you add those two together and Thats really what drove the higher gross.

Product gross margin number.

Okay. That's great that's helpful.

I wanted to also ask about cash flow seasonality I know you I think.

I heard you call out the next quarter should be a low point for cash flow.

And that and then you've given us full year guide on cash flow and I'm just curious.

What is pushing all that cash flow the back end of the year is it I mean, I see quite a bit of compensation accrual, but I'm just curious kind of why the.

Flow of cash.

Cash looks the way that it does this particular year. Thanks.

Sure So love cash flow questions happy to answer those anytime so hey in Q1, and if you look at the balance sheet you see there.

Accrued expenses were down significantly and that's when a lot of variable pay gets paid in Q1.

In Q2.

Cash flow is largely going to final billings growth from an aggregate perspective Q1 from a total dollars perspective is our lowest.

Billings that then flows into lower collections in Q2.

As well.

The other big mover, there is cash taxes and I highlighted that.

Keep in mind, we will pay about $40 million in state and federal taxes on the Sunnyvale campus than in the second half as we build billing starts when collections go up everything else is largely relatively similar the big movers are seasonality of collections.

Variable pay timing and then cash.

Yes.

Great, Okay, and like you said the big thing on a year to year. It's just a sale of the headquarters last year, which positively impacted cash flow quite a bit right.

So that yes, and keep in mind.

Helped cash balances identical into operating cash flow, though.

Right.

Tak Yep, Okay, great. Thanks, very much Mike helpful.

Absolutely. Thank you.

Thank you.

Our next question comes from the line of Matt Cabral with Credit Suisse. Your line is open.

Yeah. Thank you very much it sounds like the demand environment continues to pick up I'm curious what you're seeing from.

A competitive standpoint.

Demand has improved whether it's discounting or pricing and just what youre seeing in terms of the broader environment at this point.

I think we see as I said in my prepared remarks solid steady demand.

Across all the Geos.

I think qualified geographies of exit.

Under an extremely well to capture that demand I feel very good about the differentiation in our offerings both on premises as well as in public cloud that gives us a chance to drive you know value conversations with customers.

Public cloud services purely <unk>.

<unk> premises hybrid cloud business, because customers see us as the only storage vendor. We think cloud is already operating system and a path for them to get to public cloud and the combination of those two is allowing us to bring on new customers.

And to be able to.

Borrowing a differentiated value proposition in the market. So very good execution by the team against Teddy solid demand across all geographies.

Yeah.

Okay.

Thank you.

Our next question comes from the line of.

Maintenance Chatterji with Jpmorgan Your line is open.

Hi, good afternoon. Thanks for taking my question I just had one on operating margins you are guiding to 'twenty three 'twenty four for the full year, that's about a 300 basis points expansion, but if you start to look beyond this fiscal year, how should we think.

Headroom on margins I know you referred to Opex leverage a couple of times in your prepared remarks, but just trying to think about kind of the magnitude of margin expansion beyond this fiscal year and the drivers between like gross margin and Opex leverage how should we think about the balance with that.

Listen I think overall as we've said we continue.

<unk>.

<unk> management team and the way we run the business.

You should expect as you see in the numbers. This year that we should grow topline ahead of expenses and that should create leverage in the model I think as Mike outlined we wanted to get to 50.

<unk> five points product gross margins in the hybrid cloud business, we have achieved that and we want to maintain that for the rest of this year.

And then in terms of public cloud.

We said that we wanted to get it to be accretive to the margin structure of the core business, which it is.

We want we have expectations to continue to improve that over time towards a more SaaS like gross margin model.

Those elements topline as well as gross margin should allow us to be.

Kind of create leverage in the operating margin model of the company.

I think you want to add any no well put.

What are the puts and takes.

Great. Thank you.

Yeah.

Thank you.

Our next question comes from the line of Karl Ackerman with Cowen Your line is open.

Yes. Thank you.

Your all flash array portfolio grew.

Eight 3% off a difficult compare and that only gets better in the second half.

From a comparison standpoint, so it.

It seems that that's driving the bulk of your upwardly revised fiscal 'twenty two outlook for hardware, but I'd love to hear what you are seeing from hybrid arrays across both commercial and even SMB environment.

'twenty two is component providers would also suggest that.

That area is also doing well too thank you.

I think a hybrid arrays as we have consistently said haven't placed in customer environments.

<unk> is set of use cases, we have consistently maintained.

It's become a hybrid array has a better solution to offer than in all flash arrays, and so we continue to see an opportunity for hybrid arrays.

Have a go forward endurance placed in customer's environments.

Grid array business is a strong business, we have a differentiated value proposition.

Then in hybrid just like we do in all flash.

Thank you.

Thank you.

Our next question comes from the line of Steven Fox with Fox Advisors. Your line is open.

Hi, Thanks, good afternoon.

Physicians you threw a lot at us on the public cloud side in your prepared remarks about the types of services, you have today and where they're going.

If we sort of step back and you mentioned with the near term trends are gone, but if we step back and thought about the two to three year plan.

Round, what will be the dominant services, then versus now and what may.

George is it in this in the revenue base today can you just sort of put all of that in perspective for us how it drives towards that $1 billion target. Thank you.

Yes, I think we are in the early innings of enterprise use of cloud for mission critical business critical applications.

Maybe I think we see that over the next few years as businesses deploy more of their core operations on public clouds. The opportunities we have around compute automation management through spot storage and data protection and management through.

<unk> volume and monitoring through cloud insights will be a very very strong business and all of the hyperscale or partners that you work with see it much the same way, which is why they're building more and more capabilities with US. We also see a new growth engine.

In the public cloud segment.

Cloud is all of the cloud native work, we are doing around containers and some are less so spot Ocean. We mentioned is the same value proposition that spot brings for enterprise applications do containerized applications tenancy.

Strong adoption, we've worked with.

Segment some of the Hyperscale is around a strong control and we are starting to see that.

Get to ramp, especially with new cloud Native Kubernetes application and then we started work on cloud insights for kubernetes to bring monitoring and management. So I feel very good about the portfolio.

There's a lot of organic innovation and spot has proven to be a really stellar acquisition for the company.

Thanks, very much appreciate that color.

Thank you. Thank you.

Yeah.

Our next question comes from the line of Chip.

Nick <unk> with Longbow Research.

Your line is open.

Yeah, Thanks, and congrats on great results guys.

Maybe you can give us more color on your on Prem share gains can you talk in which segments of the market you see the strongest momentum there.

And also if you can comment on your direct sales grew faster than your indirect.

For our second quarter in a row is there any particular reason for that.

I see.

With regard to where we see strength I mean, this was a really balanced quarter across all the geographies you can look at our results in the Americas you look at the results in Europe and in Asia Pacific.

Direct <unk> grew in all the major geographies very very nicely. So I feel very good about that with regard to the direct versus indirect I think it's a reflection of some of our largest customers who continue to buy direct being.

Being a strong contributor to some of our all flash array growth right.

We think thats.

Sort of the puts and takes I wouldn't read anything into.

This specific quarter on quarter trends in the channel.

Good to see good opportunities to grow our business across both direct and indirect channels.

Got it thanks.

Hi.

Thank you.

Our next question comes from the line of Shannon Cross with Cross Research. Your line is open.

Thank you very much I, just wanted to dig a little bit more into the longer term impact from obviously the shift to cloud now that you're breaking it out.

And I understand on the gross margin side, but I'm curious.

There are SG&A and R&D differentials.

In terms of how you would allocate or how do we think about it from an opex perspective, and then the same on cash flow I know it'll be lumpy, depending on the investments you need to support cloud but.

Longer term, how should we think about sort of the mix shift impacting the model. Thank.

Its Asia and its Mike So a couple of things as it relates to Opex keep in mind that the two largest operating expense line sales and marketing and R&D. There is a lot of shared resources across there, let's do R&D first of all you talked about it we get a lot of efficiencies from the <unk> group in terms of the work they do both on Prem and in.

Thank you.

We would expect to continue that we're where they're focused on both of those and we get a lot of thought and we've got a lot of efficiencies. There clearly most of the growth in that line has been focused around cloud and it probably still will be that doesn't and that excludes any acquisitions that could certainly play into that as well.

The club and then from a sales and marketing perspective.

We now have it where our core sales team is selling both in and so that will continue to be a focus but we will also add.

Like our customer success team that we've talked about that's largely focused on the cloud business in terms of expansion and upsell and cross sell to them.

So I think over time, you'll continue to see that investment there from a cash flow perspective, I think that probably largely follows where operating income would if youre down to free cash flow you get a little bit of difference in terms of the hardware, but we've also talked about in the next couple of years, we will continue to.

She has been a hardware, especially as it relates to azure, but over the next couple of years that will flatten out it's much more of a of a hey, we're adding in a certain location versus seeding. It once you get to almost 100% then it's more of a replacement motion. So those are the puts and takes around opex and casually I think.

<unk> two segments.

Thank you.

Thank you.

Okay.

Our next question comes from the line of Jim Suva with Citigroup. Your line is open.

Thank you and the additional color and detail who is greatly appreciated.

The upside.

For those this quarter was it due to mostly volumes or better pricing and if the answer is both can you kind of help us to say it was a little bit more of one versus the other thank you.

So hey, Jim it's Mike It was largely related to volumes we haven't.

<unk> pretty much of a change in external pricing for as we've talked about competitive environment has always been competitive but relatively similar so it's largely going to move with volumes. We saw we didn't see much of a mix shift we've talked about that in previous quarters. So it was all relatively consistent mostly driven by volume.

Thank you so much and congratulations and we appreciate the details.

Thank you.

Thank you.

Our next question comes from the line of Blue Misdeal Shea with des Walsh. Your line is open.

Okay. Thank you Hey, George when we looked.

Haven't seen that to 2018 it was a very strong year. So when we get to 2022 and I'm referring to.

Spending broadly.

On a capital equipment for data centers, when we get to 2022 will be at the four year anniversary not necessarily looking at guidance and maybe it's obviously a little bit early to ask that question.

Look back, but given the macro and.

The last cycle and that we had a couple down years in 39.

Can you see that enterprise commercial customers are hopefully coming strongly back to the market in 2022.

This is we have seen.

Question consistent demand.

For our offerings in our capabilities for several quarters now I wanted to just.

You know remind us that we had a strong year last year, particularly in the second half of last year and so we continue to see that the overall demand environment.

He is.

Is brightening secondly, we have said from for many quarters, we saw the U S and China, leading the recovery Europe, a few months six to 12 months behind that and then the developing economies may be another six to 12 months beyond that we continue to hold that perspective.

Environment.

The benefit of several quarters of experience and so I feel very very good I think that we have customers who are seeing a better economic environment.

Turning to build confidence in spending in technology, I think within that segment hybrid.

Without digital transformation initiatives are well positioned and netapp is well positioned to go after that.

Yes.

Okay. Good that's helpful. Thank you any comment on component availability and pricing obviously your margin structure has improved so congratulations on that but.

But.

<unk>.

Should we think about for the next six months there. Thank you.

Listen I think as Mike and I said in prepared remarks, you know the component supply chain is a dynamic and fluid supply chain is well understood in the industry. Our team has done.

Excellent job managing through that we have good.

Deep relationships with suppliers and long term commitments with many of them I think as Mike and I have suggested we will continue to use cash.

To buy ahead of what we need so that we can maintain supply availability, we think thats a good use of cash.

The current environment, and I think that having a single operating system that drives the vast majority of our business allows us to qualify and adapt to the environment that we're in so I want to thank our supply chain team for continued execution and our engineering team.

And our partners for.

And working with Us and I think our sales teams have done a really good job managing through the environment to capture the value that we should for our products.

Okay guys. Good luck on the rest of the year.

Thank you.

Thank you.

Our next.

Or what comes from the line of Guanxi Mohan with Bank of America. Your line is open.

Yeah. Thank you George on the assay side can you give us an update on where you stand with respect to penetration of the installed base and are you seeing any changes on the competitive side and I have one clarification from.

Quest is 29% so it's up a lot.

Perfect.

We have said consistently our installed base continues to grow as we acquire new customers and new workloads and flash is penetrating that installed base and incremental 1% to 2%.

At that time right. So a long runway ahead on that installed base with regard to the competitive environment again, we don't see any sort of substantive changes I think we have a really good offering in the market I think we believe we have taken share.

In the environment.

And we're going to continue to stay focused on winning not only traditional workloads, but also new types of workloads like deep learning machine learning data links and others with our all flash portfolio.

Okay, Thanks, George and Mike just a clarification on these product gross margins.

Environment I heard your commentary on sort of a better software mix also discipline in the field, but was there any contribution from either new elas or renewal of prior elas.

If that had any impact on margins in the quarter.

Yes. So thanks for the question Lindsay So as we've talked about look it's such a small piece of the.

And so we're not going to talk about Elas, Here's what I would point you to and I've said it every quarter. If you look at the financial results specifically the amount of software and hardware revenue you can see that in Q.

Q1 software increase but so did hardware they've basically moved in lockstep the last four quarters.

The business day, if anything if there is any large transactions that are different than our current mix you will see it in the numbers.

Yeah.

Thank you.

Thank you.

Our next question comes from the line of Simon Leopold with Raymond James Your line is open.

Thank.

I wanted to see if you could talk a little bit about your methodology for forecasting the business.

Your public cloud compare to your hybrid cloud.

There's different animals, they are different maturity and I just wanted to understand how youre doing it and if you have some advice for the analysts.

Any of what we can do to better enable our ability to forecast your public cloud trends. Thank you.

Yes, So hey, Simon it's Mike So I'll take that one when we look at the public cloud business certainly it as much as.

It is similar to some of the hybrid cloud dynamic.

It's can you about that in a second there are certainly new transactions that we forecast not only coming in from the hyper scaler, but from our sales team as well we get pipeline reports, we see what that looks like so we're able to forecast that.

More and more it's also renewal rates being able to forecast renewals and then really the big driver.

River of all cloud software businesses upsell cross sell.

That's obviously difficult for you folks to see those details, but we look at all of those certainly sales capacity as part of that.

Hybrid cloud business keep in mind I think it's now $2.3 billion of support revenue every year. So that's.

I will talk more of a renewal rate, we do look at cross sell up sell and we also look at.

Where we are in terms of pipelines and conversion rates.

Big piece for US is obviously do we have enough sales capacity. So I know, we get a lot of questions about hey, net app should go quarter on quarter sequentially.

I would just encourage you when you look at that sequential keep in mind.

Last couple of years.

Have been very different than the last 10.

And it makes it I understand it makes it a little bit difficult but.

Hopefully when we get through this COVID-19 environment and it gets back to normal those are those are more relevant.

<unk> now, it's very difficult to use those sequential growth to try to forecast the business.

Thank you.

Thank you.

Our next question comes from the line of Sidney Ho with Deutsche Bank. Your line is open.

Thanks for taking my question just a quick follow up on the public cloud.

I think that's it.

Obviously you raised.

Exit rate for this year.

Martin it's already above the corporate average and it sounds like it's going to go higher given the software mix I know you haven't talked too much about operating margin, but should we think about this revenue stream will eventually get to above corporate average levels is.

Turning revenue target, we should be thinking about when that happens.

They'll always be a time element, maybe what what are some of the things that we should consider when we think about.

This business grows.

Yeah.

So Sanjay it's Mike just to make sure I get that Youre talking about operating profits for the public cloud segment.

Your question correct correct Okay.

I think the best way that I would encourage you to look at that is here's the great thing about the.

The cloud business is there is a lot of good comps out there that we look at all the time and as we look at businesses that are call it $250 million in IRR as they grow to 1 billion.

Doug.

Are you seeing not only a slight uptick in gross margin, but then obviously you see the dynamics of operating income. So I would encourage you to take a look at some of those compares when you look at that a lot in terms of benchmarking our business largely one ends up happening is they turn cash flow positive before they turn operating.

Income because of again the way they recognize revenue ratable. So I would encourage you to take a look at those and.

There was really no reason to believe as we sit today that we wouldn't follow that comparable group as we March to a $1 billion.

Great. Thank you.

Thank you.

<unk>.

Thank you.

Our next question comes from the line of a novel Ballroom with loop capital. Your line is open.

Hi, Good afternoon, guys really appreciate you taking the question.

I'd love to get your thoughts on as you see sort of more workloads to the cloud to what to.

Dennis any are you guys also seeing.

Hardware benefit.

Particularly in sort of like an on Prem hardware benefit.

And then workloads to the cloud.

Particularly given your yourself.

Thanks, a lot.

I think.

To what extent to the work that we're doing in public cloud as Mike has mentioned and I've said before the vast majority of our solutions are software based.

And we scale that software out using clustering. So that you can go faster by going wider.

To serve more.

Regarding more computing demand.

With regard to certain traditional application that are more sort of scale up applications like an S. H E R.

Or something like that that requires a scalable platform to support it that's where we use hardware and I think the software.

You know it can be run on generic hardware for the broad range of use cases are on proprietary our own hardware or narrow really specific application use cases.

Yeah.

Okay got it yeah. That's helpful. Thanks, a lot.

Thank you.

Behind our question comes from the line of <unk> Joshi with Northland Capital markets. Your line is open.

Yep, Thank you and congrats on the strong results and nice to see the increasingly a capital return to shareholders as well.

My question here is that it sounds like the acceleration of our all flash array as well as behind.

Our population of software product revenue was 33% year over year growth.

So is that correct and then what do you see as sustainable growth rate in product software.

Yes, so 33% increase in the software portion of product revenue.

Driven per the earlier question it really by two things.

<unk>.

The really nice growth in all flash, but also less growth in HCI and some of the products that have less software and more hardware and I would expect if going forward. If if we're talking about growth in product revenue given the continued mix shift.

Well Flash you should expect to see software the software portion grow faster than the total product portion.

Okay.

A 20 plus percent growth in product software be viable.

So we're not going to guide to that other than to say it should grow faster than.

And then the total product number.

Understood. Thank you.

Thank you and Uh Huh I'm going to pass it back to George for some closing remarks. Thanks, Chris in closing, we delivered a great start to FY 'twenty, two and very well positioned for continued growth throughout the year.

Cloud.

Towards its own transformation initiatives remain top customer priorities and we continue to benefit from these sizable long term trends are.

Our hybrid cloud and public cloud offerings, putting <unk> in a unique position.

Our customers' most pressing challenges our cloud.

And software intellectual property truly differentiates us.

As a result, I'm more confident than ever in our ability to deliver long term value to our shareholders customers and partners.

Thanks for joining us.

Thank you.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation you may now disconnect.