Q3 2022 Hewlett Packard Enterprise Co Earnings Call
Good afternoon, and welcome to the third quarter 2022, Hewlett Packard Enterprise Earnings Conference call. My name is Chuck and I'll be your conference moderator for today's call. At this time, all participants will be in a listen only mode. We will be facilitating a question and answer session towards the end of the coffin should you need assistance during the call. Please signal a conference specialist.
By pressing the star key followed by zero as a reminder, this conference is being recorded for replay purposes I would now like to turn the presentation over to your host for today's call Mr. Andrew Simon <unk>, Vice President of Investor Relations. Please proceed sir.
Great. Thank you good afternoon, everyone I'm, Andy <unk> head of Investor Relations for Hewlett Packard Enterprise I'd like to welcome you to our fiscal 2022 third quarter earnings Conference call with Antonio Neri, Hpe's, President and Chief Executive Officer, and Terry <unk>, Hpe's Executive Vice President and Chief Financial Officer.
Before handing the call over to Antonio Let me remind you that this call is being webcast a replay of the webcast will be made available shortly after the call for approximately one year, we posted the press release and the slide presentation accompanying today's earnings release on our HPE Investor Relations webpage at investors HPE Dot com.
As always elements of this presentation are forward looking and are based on our best view of the world and our businesses as we see them today for more detailed information. Please see the disclaimers on the earnings materials relating to forward looking statements that involve risks uncertainties and assumptions for a discussion of some of these risks uncertainties and assumptions. Please refer to H b.
<unk> filing with the SEC, including its most recent Form 10-K and Form 10-Q, HP assumes no obligation and does not intend to update any such forward looking statements. We also note that the financial information discussed on this call reflects estimates based on information available at this time and could differ materially from the amounts ultimately reported.
And Hpe's quarterly report on Form 10-Q for the fiscal quarter ended July 31 2022.
Also for financial information that has been expressed on a non-GAAP basis, we have provided reconciliations to the comparable GAAP information on our website. Please refer to the tables and slide presentation accompanying today's earnings release on our website for details throughout this conference call all revenue growth rates unless noted otherwise are presented on a year over.
A year basis, and adjusted to exclude the impact of currency.
Finally, after Antonio provides his high level remarks tariff will be referencing the slides and our earnings presentation throughout his prepared remarks as mentioned the earnings presentation can be found posted to our website and is also embedded within the webcast player for this earnings call with that let me turn it over to Antonio.
Well, great. Thank you Andy and good afternoon, everyone. Thank you for joining today's call.
As we have demonstrated throughout 2022, HP is delivering for our customers and our shareholders in the third quarter HP flu revenues increased profits and strengthening gross margins through further operational focus and execution and despite continued tight supply conditions and unfavorable foreign exchange.
And our results you will see the customer demand for our industry leading portfolio.
We continue to oscillate a recruitment revenue this fiscal year, which validate the compelling value proposition, we offer our customers and the long and the strong response to HP Green Lake our unified HCM cloud as a service platform.
Customers continue to prioritize investments in <unk>.
They find Hp's technology solutions to be particularly relevant in today's complex microeconomic environment with technology innovation is critical to accelerate this transformation and deliver important business outcomes.
In the third corridor total HDD revenue increased 4% year over year to $7 billion.
Which was also above the sequential outlook, we have given.
New orders exceeded our expectations. Despite finally, starting to decelerate the growth rates.
In our quarterly exit backlog to another record level.
That is significant considering that for the previous four consecutive quarters, we have grown orders, 20% or more year over year.
We continue to see robust customer demand in the market and a high quality bootable south pipeline.
Our HB Green Lake customer base is growing and our customers are voting with their loads and data in.
In Q3 with double HPE grew like new logo growth year over year, and our existing <unk> and our customers continue to renew and expand contract with us.
The HB Green Lake platform that has an extra bytes of data under management and customers worldwide come back more than 2 million devices to it.
The momentum is reflected an annualized revenue run rate up 28% and total as I said with orders up 39% year over year, bringing our year to date orders growth to 86%.
These indicators show enduring demand for as a service solutions, even while supply constraints limited some installations.
Once again, we expanded gross margins in the quarter non-GAAP gross margin of 34, 7% was up half a point sequentially and matched the highest we have ever generated since we began our as a service state within 2019.
We improved non-GAAP operating margin, even more than gross margin to 10, 5% this quarter at 120 basis points sequentially and 70 basis points year over year.
non-GAAP diluted net earnings per share was <unk> 48, and.
A 9% sequential rise and 2% year over year.
Our cash flow from operations was $1 $3 billion and our free cash flow in the quarter was $587 million.
This is in line with our typical seasonality as we improved cash conversion cycle in the second half.
From a supply chain perspective, the dynamics remain largely unchanged from the last few quarters with certain components still in tight supply, which limited shipments.
However, we have made progress in proactive measures, we have taken to enhance the resilience of our supply chain, including state and the amount of products that do not require supply constraint components offer a new multi sourcing options and implementing polo design changes to our world class engineering capabilities.
We could also see some easing in supply condition, if consumer demand continued to slow and component capacity capacity shift to towards enterprise customers.
Overall, we expect supply chain to remain challenge supply demand challenge into next year, although with some very early signs of potential easing in the near term.
We remain focused on translating customer demand and for profitable revenue growth as shown in our Q3 results.
Customers continue to tell us that they need to drive that important digital transformational work, while managing costs.
And it is clear we can meet those needs with our edge to cloud portfolio delivered through the HB connect platform.
<unk> brings a unified hybrid cloud experience to our customers data and workloads, enabling them to consume it as utility.
In June I was thrilled to join 80000 customers and partners again in person.
Hey, guys at HP discover.
We unveiled a series of new cloud services and enhancements for the <unk> connect platform to further advance the hybrid cloud experience for customers.
We are particularly excited to announce HP can elect for private cloud enterprise, which addresses customers' desire for their own automated flexible enterprise grade private cloud.
We recognize the important role our partner ecosystem plays in our success and the success of our customers to continue to expand our growing partner ecosystem and enable them to adapt the customers evolving requirements. We launched a new program helps partners build their business on top of our HB can the next platform.
Customers are entrusting <unk> with their most critical workloads and applications.
Japan, <unk> network, Japan's leading card credit card payment network and an existing <unk> customer expanded its contract in Q3 to add 100% fault tolerant platform running on HP nonstop servers with an integrity will then integrate the software.
The new implementation will power their cognate systems demanding transaction intensive applications as Japanese consumer rapidly increase use of credit cost and cashless payments.
In India, the country's largest public sector still producer also expanded adoption of <unk> platform to increase productivity and reduce energy consumption.
By modernizing its critical S&P environment with HBV Lake the organization can respond more quickly to business demands and has renewed its data center footprint by over 60% to help reach sustainability goals.
These are just two examples of existing customers doubling down on each week in the platform to address needs. We see this as an important endorsement of the valuable role HBK Lake plays in our customers' IP strategy.
At the edge, we continue to drive innovation with our solutions Aruba had an impressive quarter with revenue rising 12% year over year and orders increased more than 15% for the seven consecutive quarters.
In Q3, Aruba announced new AI ops capabilities that reduce the time my T teams spend a manual tasks like network troubleshooting performance tuning and security enforcement.
These new AI basing sites, leveraging a robust industry, leading data lake for more than 120.
All of our users who are now on the HPV neck platform to enhance visibility operations and the user experience.
Our edge technology was on display earlier this month as we create and secured network to power the Birmingham Commonwealth Games 2022 in the U K a.
Aruba provided against network connecting thousands of staffs and volunteers and over 4400 athletes across 20 venues and 38 from current events to ensure smooth execution of the games.
Committed to live in a legacy of digital sustainability in the region HP is now working with the local organizations to make this technology used for the event available to the community, including schools and hospitals.
As data continues to grow and evolve rapidly we're seeing customers use our technology to a lot of data in incredible ways Kathryn.
Kathryn a hospital one of the largest hospital and lead incentives for heart disease in the Netherlands is using <unk> software to build a cloud native data Lake House that securely collects and analyzes anonymised patient data from internal and external sources.
This will accelerate mobile training and tech anomalies.
On the 500000 electrocardiograms already available for data analysis were higher position to identify the correct that notice and treatment.
And in one of the most exciting breakthroughs to showcase the power of AI at scale. Early this month I was pleased to visit the Oak Ridge National Laboratory to celebrate frontier rewards first fastest and greenest extra scale supercomputer that HB built for the lab frontier represents a new way.
A scientific discovery and innovation that will strengthen U S national security and industry competition.
<unk> has a long history of industry first and one of a kind of innovation that advances advances societal progress.
We see this as a part of our purpose to advance the way people live and work.
We also deliver on our purpose through our commitment to create a more equitable and sustainable world. Early this summer we took the bold step of accelerating our net zero carbon emissions target by 10 years to 2040.
Effective strategies to achieve net zero carbon emissions at <unk>.
Corn storm of corporate longevity, and we continue to help customers drive their own sustainable transformations.
I am proud of Hp's Q3 performance and the progress we are making to cement our position as the leading edge to cloud company.
When I speak to customers. It is very rewarding to hear how they're using our differentiated portfolio to solve their most critical business problems.
Every day, we are proving how essential hp's to the customers and communities. We serve we couldnt do this without the dedication of our 60000 team members, who impressed me every day with revolve innovation and disciplined execution.
We have crafted a strategy at HP that is winning in the marketplace and I am confident in our ability to execute on our commitments with strong demand a solid pipeline and a unique.
<unk> cloud offering that is delivering revenue growth and expanded gross margins and operating margins for our company.
I look forward to updating you about our strategic priorities and outlook when we host our security analyst meeting in late October I Hope you will join to hear how we plan to continue to generate value for HP shareholders.
Let me now ask Pat to discuss our performance in detail and go through our business segment results <unk> over to you.
Yes.
Thank you very much Antonio.
Start with a summary of our financial results for the third quarter of fiscal year 2022.
As usual I'll be referencing the slides from our earnings presentation to guide you through our performance.
I'm going to discuss the key highlights on slide one so now let me discuss our Q3 performance details starting with slide two.
We continue to see healthy demand across our differentiated edge to cloud portfolio.
As expected year over year order growth rates moderated to down 9% this quarter as we begin to lap challenging compares.
As a reminder, orders were up 29% year over year in Q3, our fiscal year 'twenty one.
We continued to grow our backlog sequentially this quarter to a new record level that is up 96% year over year.
Our backlog is also expected to be roughly flat next quarter and remains firm with no meaningful cancellations.
This maintains our confidence in achieving both our fiscal year 'twenty two revenue outlook of 3% to 4% growth adjusted for currency and our longer term, 2% to 4% revenue CAGR outlook provided at our 2021 Securities analyst meeting.
In Q3, we delivered revenue of $7 billion up 4% year over year and above our outlook of up low single digits sequentially, Despite an ongoing challenging supply environment and greater currency headwinds.
Based on current rates, we now expect currency to be a two five point headwind to revenue for the full year as opposed to the 50 basis points expected at the start of our fiscal year.
We continue to be very pleased with the resiliency and expansion of our non-GAAP gross margins. Despite the inflationary environment and ongoing supply chain disruptions that are driving up material and logistics costs.
We delivered non-GAAP gross margin of 34, 7% up 50 basis points sequentially and flat year over year, driven primarily by strong pricing discipline and our continued mix shift towards higher margin software rich offerings.
non-GAAP operating margins were 10, 5% up 120 basis points sequentially, and 70 basis points year over year, reflecting operating leverage from strong gross margin.
And Opex savings from our cost optimization actions taken during the pandemic.
We expect to gain further operating leverage in the short term as we drive more revenue growth and benefit from investments in the high growth margin rich areas of our portfolio.
With our better than guided revenue growth, we delivered non-GAAP diluted net earnings per share of <unk> 48.
Up 9% sequentially, despite elevated input costs from the ongoing industry wide supply constraints and foreign exchange impact.
As previously indicated cash flow from operations is following our normal seasonality this year and working capital has also turned into a tailwind in the second half.
In Q3, we generated $1 3 billion of cash flow from operations and free cash flow of $587 million.
We continue to make further investments in strategic inventory to navigate the current supply environment and we are now at peak inventory levels.
We will begin to work our inventory balance down next quarter and into the following year and I'll touch more on that shortly in our outlook.
Finally, we continued to return substantial capital to our shareholders, we paid $156 million of dividends in the current quarter and are declaring a Q4 dividend today of <unk> 12 per share payable in October .
We also repurchased $197 million in shares on track towards our goal of at least $500 million of share buybacks executed this fiscal year and bringing our year to date total capital returns to $851 million, reflecting our confidence in future cash flow generation.
Slide three highlights key metrics, demonstrating our progress in our as a service business with more recurring revenue at higher margins.
Total as a service orders remained robust up 39% year over year as we begin to lap more challenging compares.
Our year to date as the service orders are up 86%, which is the best indicator of the long term health of this business and supports our confidence in achieving our three year CAGR target of 35% to 45% from fiscal year 'twenty, one to fiscal year 'twenty four.
Our <unk> growth rate improved from last quarter and was up 28% year over year to $858 million, but still face a supply constraints continuing to limit some installations.
We also continued to expand our as a service margins as our mix of both software and services continues to increase to 64% in Q3 up six points year over year, with our expanding cloud and SaaS offerings, particularly in edge and storage.
Let's now turn to our segment highlights on slide four.
Our growth businesses continue to show improving topline momentum and record levels of backlog fueled by strong demand.
In the intelligent edge, we achieved both a record level of orders and revenue in the quarter.
We grew orders double digits for the seventh consecutive quarter and have roughly 20 times, our normal levels of backlog.
Revenue growth accelerated to 12% year over year outperforming the competition and demonstrating particular strength in silver peak and our edge as a service offerings, both up strong double digits.
We delivered operating margins of 16, 5% up 390 basis points sequentially, and 40 basis points year over year, reflecting the improving operating leverage in this business and this despite higher component and logistics costs.
In HBC and AI revenue grew 15% year over year and backlog of awarded contracts remained robust at just under $3 billion.
Our Q3 operating profit margin was three 4% up nine points sequentially and is expected to increase further next quarter with a recognition of large deals.
In compute demand remained robust with backlog growing sequentially to another record and is now at five times normal levels.
Revenue was down 1%, reflecting a continued difficult supply environment with some improvement expected next quarter with new multi sourcing options for certain components and demand steering towards new solutions.
We also continue to be very focused on executing our dynamic pricing strategy that has been effective in managing the increased supply and logistic costs and gives us a very high quality backlog.
The results are showing up in our operating margin performance at 13, 3%.
Up 210 basis points year over year, and still well above our long term target set at some 2021 of 11% to 13%.
Within storage, we achieved another record level of backlog and revenue was up 1%.
We continue to emphasize our own IP margin reached products that were up double digits, including nimble and hyper converged.
Our as a service offerings within storage like block are also leading order and <unk> growth among our business segments.
With the favorable mix shift our operating margins improved to 14, 7% up 210 basis points sequentially.
With respect to <unk> operational services combined with storage services orders grew again and are up year to date mid single digits in constant currency similar to levels for total fiscal year 'twenty one despite the exit of our Russia business.
As you know this is a key component of recurring revenue and profits for each of our segments.
Within HPE financial services volume increased 4% year over year in constant currency with strong performance in Green Lake and revenue rose 1%.
It's worth noting that our leasing business is well insulated from rising interest rates over time, as we price based on a spread and customer often choose to extend their leases during uncertain macroeconomic conditions.
Our profitability also continues to benefit from higher residual value realization and bad debt write offs have returned to pre COVID-19 levels.
Our operating margin was 11, 8% up 70 basis points from the prior year and our return on equity at 19, 5% remains well above the 18% plus target set at some 2021.
Slide five highlights our revenue and EPS performance, where you can see our revenue and EPS continued to grow despite a difficult supply environment, the exit from our Russia business and increasing headwinds from currency.
Year to date through Q3, we have already experienced a headwind of <unk> <unk>.
Currency and <unk> from exiting Russia.
In spite of these headwinds we delivered a better mix of higher margin urging earnings across our portfolio as we continue to execute our edge to cloud strategy.
This improvement can be seen on slide six where we delivered non-GAAP gross margins in Q3 of 34, 7% up 50 basis points sequentially and flat year over year showing their resilience in spite of the increased components and logistics costs.
This was driven by both our strategic pricing actions and a favorable mix shift we've been driving to edge owned IP storage and our as a service business.
Moving to slide seven you can see our non-GAAP operating margins this quarter of 10, 5% up one two points sequentially and up 70 basis points year over year.
This reflects revenue growth combined with both gross margin expansion and Opex savings to give us strong operating leverage across the business.
This has also been achieved while continuing to invest more in both R&D and our go to market and strategic areas of the business for future growth.
On slide eight let's spend some time reminding everyone about the status of our unique setup in China through <unk>.
As disclosed in late April we have extended our existing put option that is truck at 15 times trailing 12 months earnings through to October 31, 2022.
We did this to enable the new investors at the unit group level to complete their restructuring and are now determining the longer term path forward for our stake.
We value our presence in China, the second largest and fastest growing it market, although prior to the execution of any extension, we will balance our strategic and financial benefits of our continuous involvement in China with rising risks, including geopolitical risk.
<unk> makes up a significant portion of our P&L and cash flow and you can see that we are generating growing value to shareholders with our unique setup.
Our equity interest rose, 21% in fiscal year, 'twenty, one and has grown another 9% in this Q3.
Needless to say, we will keep you up to date as we arrive at a longer term solution for this valuable asset.
Okay.
Turning to slide nine our cash flow from operations was $1 3 billion in Q3.
This is aligned to our normal pre pandemic seasonality and our expectations are working capital tailwind in the second half.
We have been strategically building inventory throughout this year to navigate the supply chain environment.
While we still expect to start working down inventory levels in Q4, it will take longer than expected and into fiscal year 'twenty, three but still puts us in a better position to convert to continued order demand into revenue and cash in future quarters.
Now turning to our outlook on slide 10.
As discussed Antonio and I are very pleased with the continued demand strength and growing backlog that gives us confidence in achieving our original Sam revenue guidance in fiscal year 'twenty two for growth of 3% to 4% adjusted for currency that now includes a two five point.
Headwind from foreign exchange rates on a full year basis.
More specifically for Q4 'twenty two we expect revenue to be up at least 5% sequentially as reported which includes the larger currency headwinds.
This is still above our normal seasonality to reflect some improvements in supply due to the full resumption of factory activity in China, and our actions to multi source more components and steer the demand.
From an EPS perspective, we are tightening our fiscal year 'twenty two non-GAAP outlook range as we move towards the end of the year to $1 96 to $2 or four.
This reflects the impact from the supply environment, which we expect to sustain into Q4 and further appreciation of the U S dollar since last quarter.
As a result, this implies that for Q4 'twenty two we expect GAAP diluted net EPS of <unk> 32 to <unk> 40.
And non-GAAP diluted net EPS of <unk> 52 to <unk> 60.
Furthermore, our free cash flow is also being impacted by exiting our Russia business as well as headwinds from unfavorable currency movements that were previously absorbed in our prior outlook.
As a result, we now expect to deliver our fiscal year 'twenty two free cash flow of one seven to $1 9 billion.
So overall I am very pleased with our results in the quarter that can be characterized by sustained demand and very solid execution navigated a continued challenging supply environment.
With record levels of high quality backlog, we are very well positioned to capitalize on the ongoing extra cloud opportunity and close out a strong fiscal year 'twenty two.
We look forward to seeing you at our next securities Analyst meeting in October to provide our outlook for the fiscal year and beyond.
Now with that.
Let's open it up for questions.
We will now begin the question and answer session to ask a question you May Press Star then one on your Touchtone phone if youre using a speakerphone. Please pick up your handset before pressing the keys.
Your question. Please press Star then Q. We also request that you only ask one question and we will pause momentarily to assemble our roster.
Andy first question will come from Shannon Cross with Credit Suisse. Please go ahead.
Thank you very much.
I wanted to talk a bit about the relative strength in your guidance and how youre thinking about your backlog and that obviously contrasting that with your competitor that reported last week, who had a much more conservative or.
Dire outlook on on demand frankly, so I am curious how have you stress tested the backlog I mean, what gives you confidence in coming out and effectively taking up guidance because theres more of a currency hit now. So just any color you can give us maybe even on a geographic basis or a vertical basis in terms of what youre here.
<unk>. Thank you.
Okay.
Sure. Thank you Shannon for the question I may start in Antartica, Please feel free to add your comments.
I will say this quarter churn levels characterize in my mind by enduring customer demand.
And you see what the backlog is now is a record level more than three ex normal historical seasonality in some segments. It's just amazing to see the demand momentum and think about the robust 20 times historical levels Geneva compute five times historical levels.
So that's very pleasing and I think is a testament of our value proposition because green Lake is a pull through platform for us across every aspect of our portfolio as we said on the supply chain.
The supply chain dynamics remained largely unchanged by what has changed for us is that over the months and the quarters, we have taken actions to dual source or to steel demand.
Our products and then obviously implement design changes I think because of our combination of about portfolio and customer segments. We believe we are very well positioned to move forward through this challenge.
As we go into next quarter any until 2023, but but we expect supply to remain challenged as we get into 2023.
That said.
The fact of the matter is that.
We believe that ultimately we are going to see easing signs because of what.
What we see in the consumer space and even in automotive and industrial which are the conversation with our suppliers as they start thinking now how to balance that supplier substrates and then obviously enterprise is well positioned in terms of cleaning. The backlog. This is going to still take quite a bit of time.
And Thats a good news for us because it gives us momentum in Q4 into 2023.
Which is great because remember two things have happened in that backlog number one is price for a strong gross margin orthotics just went through so many ways protected for that gross margin and number two we have not seen any meaningful cancellation at all.
Yes, Shannon if I can add on.
A couple of comments, while we are doing is we are.
Engineering, new solutions that are less dependent on components.
We are experiencing shortages, we're steering demand toward those solutions and this is across every facet of our portfolio. We are also multi sourcing the most constrained components and this is helping working through the backlog, but as Antonio said this will remain a challenged environment.
Into next year and that is actually for us an opportunity to continue to drive revenue with high quality margins into fiscal year 'twenty three.
Do you want to pick up on your point that you made very rightly about.
The guidance and having absorbed 200 basis points incremental.
In foreign exchange terms. This is a very important point.
200 <unk>.
Extra basis points of headwind is about $580 million of revenue and multiply. This by the op margin and you can really look at what impact would that have had on EPS. So we are very pleased with the performance of our business and the fact that in spite of substantial foreign exchange headwinds, we are able to make.
Maintain the.
Revenue guide of 3% to 4% in constant currency.
And therefore, our EPS guide as a results so thanks for pointing that out okay.
One more thing Shannon is for you to also understand is that as we continue to grow the service component of this.
<unk> solutions for storage compute private clouds, and the like are more standardize which give us a better predictability on that front. So that will also help us move through these supply tight environment.
Thank you.
Thanks for the question Shannon can we go to the next one please operator.
The next question will come from meta Marshall with Morgan Stanley . Please go ahead.
Great maybe.
Building upon that question.
The opex or kind of your Etfs commentary.
Indicate maybe slightly higher opex into Q4, particularly given kind of the gross margin leverage that you saw in the last quarter or so.
You noted some of that is FX adjusted but I would think that there is kind of an FX tailwind on the Opex piece is there just wanted to get a sense of.
Is it are you seeing larger than expected expenses in opex as their last gross margin leverage.
Maybe we recognized some higher priced inventory just anything to kind of note there into Q4 would be helpful. Thanks.
Of course, thanks for asking the question so.
FX is a obviously a headwind to revenue because 55% of our revenue in the company is denominated in non us dollar currencies.
But it's a as you point out a tailwind to opex to some degree some of the costs that we incur is therefore lower on a dollar basis net net FX is a headwind to operating profit and EPS.
And so we started our cost containment in the middle of the pandemic as you may recall in April May 2020, and we stayed disciplined on Opex moving forward and this is shown to you by our gross and operating margin performance, we feel comfortable about our gross margin trend and.
We believe per my script that there is further opportunity to extra.
Extract operating leverage in Q4 and beyond thanks to the growth in high margin areas of our portfolio such as.
The edge.
I would feel pretty comfortable about the situation. If you look at our gross margins.
Add more color there up 50 basis points sequentially and flat year on year and this is in spite of a inflationary environment that would put a lot of pressure on.
Supply chain logistics costs and material cost, obviously, but also on labor costs. So on the whole look for our margins and where they stand relative to those headwinds that we just discussed.
I will I have met a couple of things first of all year over year, you see a slight decline in opex as a percent of revenue, but that opex that we report overseas buzzard maturities R&D and efficacy, but when you look at our Opex.
As our productivity and lever against our orders and what we have done you can see with the backlog. We have we have improve our productivity, particularly on the sales force side and then in R&D to <unk> point, we started this program in.
Q2, 2020 at the beginning of the pandemic in fact, I will say, we were the first company to come out with a.
Our resource allocation and optimization program.
That allow us to modest cost in a disciplined way by the reposition of our resources in the areas of growth, we want to drive going forward and so.
Patrick Rightfully. So said, we will continue to see operating leverage as we convert the backlog and with scale out revenue, which obviously, we have a significant backlog, but as a percent of the order momentum that productivity has significantly improved.
Great excuse me thanks, Peter for the question operator can we go to the next one please.
The next question will come from Toni <unk> with Bernstein. Please go ahead.
Yes, Thank you for taking the question.
I'm wondering if you could just comment on linearity throughout the quarter in terms of orders and whether you saw any degradation.
And then I was hoping you could just maybe help quantify sort of the aggregate backlog because as you noted your order compares are very difficult going forward, 20% plus for the last four quarters. So if orders ended up being down 10% a year for the next three or four quarters, that's $2 8 billion.
Less in orders.
My sense is you may have three or $4 billion in incrementally higher backlog than normal so that would still suggest to reported revenue growth could grow but I'm wondering if you can also just sort of talk to that dynamic of.
The tough order comps and likely facing negative order growth and whether the backlog ultimately measures up according to the math that I outlined that should make everyone feel good about continued revenue growth. Thank you.
Sure.
It's a great question, Tony So first and foremost.
I want to point out to you that we don't comment on and give a specific figure on the backlogs, but suffices to say that its close to double what it used to be last year at this time of the year.
That's the first point to take away and we're working through it and its firm there are no meaningful cancellations. So that's a tailwind to revenue generation and we are executing better and better in our global operations team to convert that backlog into into revenues orders are there and they are there. When you really look at segment by segment, we gave you.
In our presentation the detail of the order growth. So you can see the order growth in the edge for example, which has been.
On relentless we've had seven quarter in a row of substantial order growth at the edge in double digits.
The same holds true for other parts of our portfolio.
<unk> has its own dynamics with futures and a substantial order book north of $3 billion.
So demand is not is not slowing to the point, where this affects our fiscal year 'twenty three guide that we gave you.
At Sam last year, and we reiterated during the course of this year, we still see continuous demand even in Q3, the demand was sustained across our portfolio in compute in storage in <unk> at the edge, it's probably lower than what it used to be four quarters ago for obvious reasons. These are tough compares but the way to think about.
It is that the tide has come up and maybe now the tide is a little bit caching is breath, but it's still there relative to where we were at the pandemic.
Data point.
Okay.
I will say, Tony just to add on that.
We use the word steady because obviously you can use the word.
In the context of the.
The compares here a steady steady and then within the steadiness we have growth.
<unk> unique segments that continue and Fedex talk about the edge, we have a 20 <unk>.
Backlog in that business and even our computer we still have five times, so and the other thing to remember here is that <unk> is a a slower rate of orders intake because that creates us momentum renew when an expanded and cross selling across the business. So I think the original <unk>.
Items, we gave a song last year, which was 2% to 4% over the long term period still absolutely true and then when we get together at <unk>.
Tom here at the end of October we got I'll tell you what we're going to do specific for 'twenty, three but I sit here today and I feel pretty good about the momentum we have because demand is steady and our strategy is resonating with the people to service.
Thank you.
Perfect. Thanks, Toni next question please.
The next question will come from Tim long with Barclays. Please go ahead.
Thank you.
Yes, I want to get back to the kind of service.
Our businesses.
You guys are sticking to the longer term guide here, just a little acceleration from what we have in this past quarter.
Could you kind of dig into that a little bit what are you seeing that's going to sustain.
That level of high growth over multiple years of the new new programs or new products that are going on maybe transitioning the model. So that we can keep that.
<unk> five to.
35% to 45%.
Growth rate for Ara. Thank you.
Sure.
All our as a service transformation through the edge to cloud platform Green Lake is my number one priority and is central to our strategy to bring that unified hybrid cloud experience that everybody's talking into market ultimate customers want to consume it solutions in <unk>.
And ways and this utility model is growing very very rapidly and I will add here. We were the first with that with our strategy and so we have a little head start here and you'll see that in our order momentum right year today, we grew <unk> bookings by 86%.
And so clearly that gives you the confidence that the 35% to 45% is absolutely achievable, but what it gives me more confidence honestly Tim is the fact that we're now as of this cover just two months ago and you look at the breadth of our solutions through the platform and.
The experience that we provide whether it's to deploy connectivity anywhere in your enterprise and where to deploy a private cloud that we came out with a new private cloud enterprise solutions, where you can't run any type of world what is virtualized content, arrhizal, better metal or whether to deploy data solutions through extra.
Volume from the data is growing and that platform today has now more than the extra bytes of data under management and 2 million devices.
Under management as well, so our confidence to deliver the 35% to 45% is absolutely there and remember that our velocity at the analyst meeting we guided by the end of 2024 to have close to $2 $3 billion.
And we believe we are on track to do that you have any comments on that.
So I think you said it very well on selling our simply.
We emphasize one thing strategically is clearly the word is now hybrid.
Our customers I've spoken the market has spoken in the world as hybrid.
For us to scale and as a service business in a hybrid world for any player to do so you need to build a platform without the platform you cannot scale durably scale.
And take advantage of the hybrid world and.
And when you really look at what that means it translates into higher margins in this business over time.
The margins of this business are getting richer and richer as we add more services onto the platform and more software content onto the offerings and we've made meaningful progress increasing our software and services makes by six points year over year to the current level of about 64%.
And we are targeting over 75% by fiscal year 'twenty four as we add more and more software content with storage data services, such as <unk>. So if we add more.
Software content with networking services, such as silver peak and new workloads. So we believe.
Our <unk> is already well above corporate average gross margins and we are driving it to even higher levels by adding more and more software high value content.
Okay. Thank you very much.
Thanks for the question Tim next one please.
The next question will come from Amit <unk> with Evercore. Please go ahead.
Yeah. Thanks for taking my question I guess I was hoping you could talk a little bit about the October quarter guide and what you're implying here.
I think the implication is margins would be up about 100 basis points, if not more sequentially in alright, I know you talked about better mix potentially there, but maybe you can just help us understand how do you think revenues could look like sequentially versus historical seasonality in October and then as you think about this 100 basis plus margin expansion on the operating line sequentially. What are the big Enablers is that if you would.
On the call does that that'd be helpful.
Yeah, Okay. So let me try and break that down for you through the P&L Amit.
We're entering Q4 with as Antonio said enduring demand and a record backlog and yes, there are still uncertainties in supply chain and the macroeconomic environment with effects.
Spite of this we believe we can grow revenue in.
By at least 5% on an as reported basis.
And this reflects above normal seasonality with some supply improvement, but we will still face also a greater currency impact.
And so if you take that 5% revenue growth on a as reported basis and you assume that gross margins will be down modestly quarter over quarter.
You have to make that assumption because compute margins will return to more historical ranges.
You combine that with the fact that opex should be down modestly because of a the measures we're taking and the pause we are putting on hiring and expenses that are discretionary in nature.
<unk> will.
Probably remain flat to slightly down quarter on quarter, given the higher interest expense that we are seeing due to interest rates increasing tax rate will remain stable you can assume a 14% effective tax rate as guided at Sam.
You take all of that math of revenue gross margin opex or any attacks.
And you get to the guide that we gave you a 52% to 60 non-GAAP EPS for Q4 dollars 22.
Perfect. Thank you for running the whole model tool here.
Richard Thanks for the question on it next one please.
Next question will come from Ann Rakers with Wells Fargo. Please go ahead.
Yes, thanks for taking the question.
I wanted to go back to kind of the operating margin sustainability and particularly around the compute segment. If we look back over the past several quarters, you've seen anywhere from high single digit kind of high teens declines on a unit basis. However.
<unk> has been up 10% to 20% year over year. So I guess my question is how are you thinking about the durability of that profitability given that ASP uplift that we've seen over the past several quarters and can you kind of separate.
Pricing uplift that you've seen between mix versus the pass through of increased component pricing over the past few quarters. Thank you.
Yes, maybe I'll start and then I guess to Todd. Thanks for the question I mean, obviously, we are managing our compute business that are different than our competition and you'll see that in our operating margin performance at 13, 3%, which is over 200 basis points year over year up.
But we always guide you and the rest of those three until 911% to 13%. So we expect that overtime to return to those levels somewhere in that range.
But at the same time, we continue to be incredible discipline in pricing.
And the backlog that we have which is now five times historical levels has been price with that in mind.
Pricing discipline and so that's why you would give us the confidence that as we go through the next handful of all of those gains will continue to see solid performance, but in the end.
We'll see obviously the balance between units and A&P, because particularly memory pricing, we'll start taking effect, but at the same time. We are focusing also on profitable growth units in different segment of the market and one strategy to do so as our Green Lake platform.
Because we are able to reach different customers with different <unk> with a margin that's more accretive particular, because all the green lakes.
Deals.
Comps with.
The attach of <unk> and one area, you're going to see US also shifting is the softer comps with a compute platform will be delivered also as a SaaS offering on the Green Lake platform as we have now enter or soon to be entered a genuine 11. So there is that dynamic of unit.
<unk> and then offer configuration with us that we are going to thrive through the next generation here, but.
11% to 13% is more reasonable in our mind and clearly we are doing so by managing our backlog and new orders intake data do you have any comment on that.
Can I, just add a little bit more color on.
The revenue units dynamic here right. So.
I wanted to flag that our backlog consists of very healthy increases in both units and <unk> right.
The revenue is in every quarter as more and more coming from the backlog.
And specifically for Q3 regarding units <unk> units were down high teens.
Cause of supply chain tightness, but <unk> also in the high teens because of Richard can fix and the pricing actions that we've taken place. So it remains a very dynamic business to watch for Antonio flagged.
The need to monitor Ram prices, which were doing on a daily basis, and we can be very quick at flipping.
Our pricing strategy the other way.
The market realized but I think the longer term trend that I would like you to focus on is the Richardson fix these are the lead driver and the more structural driver of AUR increases rather than the pricing.
Tools and measures that we can take and we are very very pleased overall with the way, we're driving price margin units and mix in this compute business and as Antonio pointed out at 13, 3% op margins.
This is by far the most profitable compute server business in the industry.
Thank you.
Great. Thanks for the question next one please.
The next question will come from <unk> Mohan with Bank of America. Please go ahead.
Yes. Thank you so much.
Tarek, maybe just to follow up on the pricing commentary when you think about the structural versus cyclical impact any way you can parse that on how much of that pricing youre seeing is structural versus cyclical and as you were talking about to supply improvement how should we reconcile that with.
Backlog remaining elevated if we look into fiscal 'twenty, three and we start to see moderation over there.
Unit growth and <unk> soften can you just help us think through the impact of cash flows as well. Thank you so much.
Yes so.
It's hard to really parse out what is.
Structural by way of can figs and or pricing.
Related with respect to what drives our overall au pay and the compute business and the reason for it is.
Our own actions, we have started to steer the demand towards new can fix where we do have the supply and particularly the gencon plus servers are very successfully in the market today and these are by definition.
Higher <unk> relative to the Gen 10, and so I would say a large chunk of the success that we have there is driven by our own engineering and are the steering of the demand to be able to fulfill the orders that we have in the backlog.
And then specifically for cash flow.
Overall at the company level the dynamic that you all need to take into account is starting from the revenue growth that we flag, which would be at least 5% on a revenue basis our reported basis.
Lying the margins commentary that we discussed youre going to have a certain amount of cash earnings growth in Q4 sequentially relative to Q3, but the most important driver of free cash flow in Q4 is our cash flow conversion cycle.
We already started to see in Q3 as foreshadowed the working capital, becoming a tailwind and in Q4 as we.
Churned through our backlog and we drive therefore higher revenues, we're also going to drive inventory levels down and our overall cash conversion cycle will move from a positive 18 today to a negative figure which is favorable to free cash flow generation in Q4.
That's the key dynamic that wanted to takeaway as we work through the inventory the inventory has peaked in Q3.
It will take longer than expected to work through that but overall, our focus is on managing our cash flow conversion cycle.
Taking it back down to a negative number which is good for free cash flow.
And we're going to start doing so.
With our team immediately in Q4, and we will keep it there for the upcoming quarters.
So.
Just a comment on that question around structural in units and the like.
We have talked about this now for a number of years, so I will say.
And every generation that we introduce in the compute business call agenda in Gen 10, five soon Gen 11, Youll see that generally speaking the rule over two third one third stays through overtime to third.
Structural.
It is related to the number of options you can attach to the server platform and thats driven by more memory and more storage and different class of storage because obviously as you go to Nvme and then it go nvme over fabrics and others, including smart mix the comparable the service becomes richer.
On nature and therefore, the content <unk> also becomes richer because now you have different quantities to support so overtime and all when I look at the trends, it's still kind of the same two third one third and this business.
<unk> continued to be over $12 billion no matter, how you look at it.
But I am confident as we go through here with Green Lake the type of configuration becomes richer as well because the cloud experience that were built around it.
Okay.
Hey, Thanks. Thanks for the question one is the operator I think we have time for one more please.
The last question will come from Rod Hall with Goldman Sachs. Please go ahead.
Yeah, Hi, guys. Thanks for the question and thanks for squeezing me in.
I guess most of my questions have been answered I thought maybe I would ask about financial services.
That number has been down the last three quarters.
Just curious whether you guys are seeing anything with.
Then that from origination point of view or anything else that might give us some hint as to what is going on with different various parts of that business. We know their business is outside of your own they're in there for comparison by the way Dell said they saw increased increased originations there because of what they're seeing in the broader macro and I have just one.
Kind of whether you had any more color on that.
Yes, certainly so yes, similarly too.
Our competitors, we are seeing originations are what we call.
Financing volume up it has increased 4% year over year.
And this is driven by strong performance in Green Lake, but also.
Whatever else, we decide to finance in HPE financial services, So the 13 billion lease portfolio.
Continuing to produce substantial amount of profits and those profits come from two sources one is the money over money business.
As all.
All of those financial services are it's about spreads and making and making sure that the spread is unaffected by rising interest rates. This continues unabated.
And we also are seeing the second.
<unk>.
Profitable driver of growth in <unk>, which is the fact that in this macroeconomic environment customers tend to use.
Their equipment for longer which improves the realization of residual values and so this is all taking in the right direction. We're very pleased with this and if you look back at the quality of the returns from <unk>, It's extremely high.
That has returned to pre COVID-19 levels, which is remarkable and it shows the resilience of the portfolio and quality of the portfolio and this is what stands behind a high return on equity of 19, 5%, which is up one three points from the prior year and this.
As well above.
My long term guidance for this business for the NRI of 18% plus and well above pre pandemic level, so very happy with the performance of H BFS.
That's great. Thanks, a lot appreciate it.
Sure.
Thanks, Rob for the question Antonio maybe I'll turn it over to you for any final.
Final remarks.
I will just make one point on the last question, which is important that you understand as well <unk> is very strategic when you pivot towards the service because as the business growth you're going to manage a lot of assets and fleet management is an essential component of the strategy.
And that gave us a huge advantage when you have a NASA lifecycle management set of capabilities.
And scale.
Because in some cases customer will say hey.
Im Okay, we use <unk> solution, and we will have the ability to deliver faster for our customers. So.
Don't want to lose that point that from a strategic perspective, now just closing I know.
Some of you have to go program to the <unk> call, but I'll, we'll wrap it up saying we had another solid quarter performance as we have done throughout 2022.
Thank.
Our focus on the strategy and operational execution is absolutely delivering for shareholders.
And thats reflected in our results and guidance.
Our pipeline is incredibly strong and.
Backlog is now record breaking and that will give us the confidence to deliver against our 22 commitments and the guy that we just provided today, but what I am really more pleased about is the HB is becoming more and more relevant to our customers because of our approach.
And so we have trusted our unique differentiated their strategy that address what I call. The data first modernization challenges and the opportunity we see in the market and thus is resonating with HPV Lake So very confident in our ability to deliver what we discussed today in Q4 and into 2023, and we have a very talented management team.
<unk> and 60000 employees that really driven by this purpose to pivot the company and deliver for our shareholders. So thank you for your time and we hope to see you at the security analysts maintain electric cover thank you.
Yeah.
Ladies and gentlemen, this concludes our call for today. Thank you for your participation you may now disconnect.
Okay.