Q1 2020 Earnings Call
Good day, ladies and gentlemen, and welcome to the net App first quarter fiscal year 2020 Conference call. My name is Latif and I will be your conference call coordinator for today.
At this time, all participants are any listen only mode.
Later, we will conduct a question and answer session and instructions will be given at that time.
I will now turn the call over to Kris Newton.
Vice President corporate Communications and Investor Relations. Please proceed mr. <unk>.
Thank you for joining us on our Q1 fiscal year 2020 earnings call with me today are CEO , George Korean and CFO , Ron passing 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 the second quarter and full fiscal year 2020, our expectations regarding future revenue profitability shareholder returns and our ability to improve execution gainshare and expand our sales capacity without increasing total operating expenses all of which involve risk and uncertainty we disclaim any obligation to update our forward looking statements and projections actual results may differ materially for a variety of reasons, including macroeconomic and market conditions, the I.T. capital spending environment and our ability to expand our total available market acquire new accounts and new buyers expand an existing accounts capitalize on our data fabric strategy improve the consistency of our sales execution and continue our capital allocation strategy.
Please also refer to the documents we file from time to time with the SEC and available on our website specifically our most recent Form 10-K for fiscal year 2019.
Including the management's discussion and analysis of financial condition and results of operations and risk factors sections and our current reports on form 8-K.
During the call all financial measures presented will be non-GAAP , unless otherwise indicated reconciliations of the GAAP to non-GAAP estimates are posted on our website I'll now turn the call over to George.
Thanks, Chris Good afternoon, everyone. Thank you for joining us as we discussed on our call on August 1st while I'm clearly disappointed in our weaker than expected top line results. The fundamentals of our business saw robust and I am confident that we have the right strategy and technologies to address the market transitions to all flash arrays private cloud and cloud data services, we have a strong business model as the result of the hard work, we've conducted to improve gross margin and cost structure over the last several years. This enables us to navigate the ongoing macroeconomic headwinds and make the strategic moves that position us well to return to growth.
We have further analyze the dynamics of what happened in the first quarter and they confirmed that we are seeing a combination of slowdown related to overall macro conditions.
And company specific go to market execution issues, we continue to see pressure on deal sizes longer sales cycles, and deferral of transactions, but as I noted on our road you'll recall, our underperformance is not across the board.
Our APAC Europe , and us public sector geographies were mostly on track.
Even in the areas, where we experienced the greatest weakness.
Top global accounts and the Americas, there were pockets of strength and high performing teams.
We have been very successful with some of our global accounts, but we need to expand our wallet share in others.
We have deep relationships with too few of these customers, which increases our susceptibility to a slowdown in spending related to the macro.
In the Americas, roughly 40% of our districts were successful in acquiring new customers, reaching new buyers within existing customers and effectively selling our entire portfolio.
And as a result grew year over year.
Performance across districts is inconsistent.
Our sales leadership and I are committed to improving our sales execution.
Through necessary leadership changes better inspection and discipline expanded account coverage acquisition and portfolio selling.
Let me underscore the fact that we do not believe that the revenue shortfall was related to a change in the competitive environment.
Our win rates remain constant.
And our product gross margins remained strong.
In short we need to replicate our proven areas of success.
By getting in front of more buyers with our full portfolio.
To better capitalize on our opportunity we will expand our sales capacity without increasing total operating expenses by continuing to make disciplined tradeoffs in our spending priorities.
To that end I will now provide more detail on the specific steps we are taking.
First.
We plan to add approximately 200 primary sales resources in the next 12 months with a focus in the Americas.
We will do this without increasing the total operating expenses for the company.
The new sales head count will focus on acquiring new accounts.
As well as engaging new buyers and finding new opportunities in existing accounts.
Second we will sharpen the focus of our all flash go to market.
Including marketing sales and services to emphasize our strong value proposition in mission critical environments, where customers continue to prioritize spending.
We expect that this combined with the additional sales capacity will return us to a position of growth in the all flash market.
Third.
Now that our services are generally available in Azure and will soon be in Google, We expect to see an acceleration of cloud data services revenue as their sales teams ramp in selling our service.
We continue to focus on expanding the range of use cases and deployment scenarios.
And enabling the various pathways to market to sell these services.
And finally, we will scale our growth in the private cloud market through focused marketing and sales efforts.
The increased sales capacity focused on reaching non storage buyers will support this effort.
We are materially stepping up our efforts to address the appropriate buyers for our private cloud and cloud data services offerings as they are different from our traditional storage buyers.
To recap.
I'm confident that we can return to growth by increasing our sales capacity.
Adding new accounts.
Reaching new non storage buyers.
And selling the full portfolio.
We expect that these efforts will accelerate our participation in the growing private cloud and cloud data services markets and drive share gains.
Additionally, these actions will broaden our pipeline, while lowering risks stemming from customer concentration.
In Q1.
Our all flash array business inclusive of all flash Fas Yep, and Solidfire products and services declined 24% year over year to an annualized net revenue run rate of $1.7 billion.
This comparison includes a significant amount of yearly revenue related to all flash in Q1, a year ago that did not repeat in Q1 this year.
While I'm disappointed by the performance of this part of the business.
I remain confident in our competitive positioning.
And our opportunity for continued success.
We have industry, leading guaranteed storage efficiency.
The highest performance and the most complete cloud integration in the market today.
And the actions we are taking to increase sales coverage and target mission critical workloads will help return our all flash business to growth.
Moving to our private cloud solutions Solidfire Netapp meets the eye in storage grid are the building blocks for private cloud deployments.
Enabling customers to bring public cloud like experience and economics into their data centers.
Our private cloud business inclusive of products and services attained an annualized net revenue run rate of $250 million in the first quarter up 85% year over year.
Now onto cloud data services in Q1, we achieved a general availability with Microsoft with Azure Netapp files, and beta release with cloud Volume's service for Google Cloud.
Based on the last month of Q1, our annualized recurring revenue for cloud data services increased to approximately $61 million.
Up 189% year over year.
We continue to see a healthy mix of customers new to Netapp in our cloud services and expect that cloud services will continue to enable us to reach new buyers and contribute to our acquisition of new customers.
We are very pleased with the initial ramp of Azure Netapp filed since becoming generally available.
I'll share a customer example to illustrate why we are so excited.
We are working with a fortune 10 company to meet its cloud first initiative.
While delivering an equal or better experience to their on premises environment with all the agility benefits of the cloud.
The customer began testing as you know that files, while it wasnt preview and now that is generally available they have established a footprint of almost two para bites.
And our growing by 100 terabyte per week.
While some of this data will migrate from existing Netapp systems.
Roughly two thirds of the data they will move to agile data files currently resides on competitors storage systems.
Our sales team partnered closely with the Azure team to leverage our expertise to help the customer establish a data strategy in the cloud.
By working directly with the customers cloud leadership.
We have moved from being merely an infrastructure provider with a minority position in the customer's data center to a key strategic partner.
This is a great example of not only how our cloud strategy helps us expand our opportunity by displacing competitive footprint.
But how also reaching new buyers in this case the cloud team contributes to our growth.
As I have described many times.
Customers and partners are choosing netapp because of our data fabric strategy and our unique relationships with the Hyperscale cloud providers.
Before closing.
I would like to acknowledge and thank some longtime net apres, who are moving on for their contributions to our company Tom Mendoza Vice Chairman.
Joel Reisz, MVP storage systems and software business unit.
And Thomas Stanley Senior VP of the Americas, we wish them all well.
As we aligned to execute and thrive in a highly dynamic environment change is inevitable.
To that end I'd like to recognize.
Two key promotions.
Brad Anderson to he VP and GM overseeing both our cloud infrastructure and storage systems and software business units and Scott Allen, the Chief Accounting Officer.
I would also like to welcome Sanjay ROE Hachey senior VP and GM.
Of Asia Pacific.
I look forward to their contributions in the continuing evolution of net app.
I am confident in our strategy and the fundamentals of our business model.
Our continued strong cash generation is a great example of the underlying health of our business. We remain committed to our capital allocation policy of returning cash to shareholders through share buybacks and the recently increased quarterly dividend.
We will remain fiscally disciplined with our expenditures while still investing for the long term health of our business.
We consistently received positive feedback from our customers and partners on the value of our data fabric strategy and the strong performance of our best teams demonstrates our ability to capitalize on the strength.
We are confident that we can return to growth by replicating their success in reaching more customers and buying centers with our full portfolio.
We will keep you updated on the progress of these initiatives on future calls I'll now turn the call over to Ron Ron.
Thanks George.
Good afternoon, everyone and thank you for joining us.
As a reminder, I'll be referring to non-GAAP numbers unless otherwise noted.
To reiterate Georges sentiment, we are clearly disappointed with the Q1 results and are committed to addressing the challenges we faced during the quarter.
Despite the magnitude of our Q1 revenue shortfall.
The gross margin and cost structure improvements we've made over the last three years provide support for our free cash flow generation.
As a result, we remain committed to our capital allocation strategy of returning cash to shareholders through share buybacks and our recently increased quarterly dividend.
Before discussing our guidance I'll provide further detail on our Q1 performance.
In Q1, net revenues of $1.236 billion were down 16% year over year, including over one point of currency headwind.
Product revenue of $644 million decreased approximately 26% year over year.
As a reminder, the Q1 19 compare includes 90 million of E. coli revenues, which did not repeat this quarter.
Adjusting for either late Q1 revenue would have been down approximately 11%.
And product revenues would have been down approximately 18%.
Moving down the piano software maintenance and hardware maintenance revenue of $523 million decreased 1% year over year.
And was flat when adjusting for currency.
Deferred revenue, which was up 8% year over year in Q1 continues to be a strong indicator of the health of our installed base.
As we mentioned on the Q4 call and to provide greater insight into the dynamics of our business, we have updated our strategic and mature product view.
Strategic product revenue includes add on software private cloud solutions and all products related to all flash arrays.
Mature product revenue now includes OEM and all products related disk and hybrid arrays.
Historical recast of the strategic mature breakout can be found on our website.
As a reminder, cloud data services revenue is included in software maintenance.
Gross margin of 67.2% was above the high end of our guidance range.
And includes approximately a half point of currency headwind.
Product gross margin was 53.4%, which is an increase of 2.8 points year over year when adjusting for each delays.
The increase was driven by sales force discipline and cost reduction and includes nearly a point of currency headwinds.
Q1 was the 10th straight quarter, we increased product margins year over year, when adjusting for the benefit of the delays.
The combination of software and hardware maintenance and other services gross margin of 82.1% increase by 50 basis points year over year.
Q1, operating expenses of $652 million were flat year over year.
Operating margin was 14.4%.
EPS of 65 cents was above the preliminary estimate we provided on our August 1st call, but below our original guidance range.
We closed Q1 with $3.5 billion in cash and short term investments.
Our cash conversion cycle was a negative 10 days up 10 days year over year.
Dsos were 40 days was up two days year over year and down 30 days sequentially.
The underperformance in revenue in the quarter drove Deo to 25 days, an eight day increase year over year.
We expect our cash conversion cycle to remain negative throughout fiscal 2020.
Despite the revenue shortfall in the quarter cash flow from operations was $310 million.
Free cash flow of $278 million represented 22% of revenues and was up approximately 6% year over year.
During Q1, we repurchased 3.9 million shares at an average price of $64 a seven cents for a total of $250 million, which is consistent with our planned run rate heading into fiscal 2020.
Weighted average diluted shares outstanding were 243 million down $26 million year over year, representing a 10% decrease.
During the quarter, we paid out $150 million in cash dividends in total we returned $365 million to shareholders.
Representing 131% or free cash flow generated in the quarter.
Our fiscal Q2 cash dividends is 48 cents per share.
Now on to guidance.
As we discussed on our August 1st call, we expect revenues for fiscal 2020 to be down between five and 10% year over year.
We continue to expect sequential growth within the year to be consistent with our normal seasonal patterns.
Except for the volatility introduced by email A's.
For fiscal 2020, we now expect gross margin to be in the range of 66% to 67%.
Above our previous guidance range of 64% to 65%.
Due primarily to the mix shift towards higher margin maintenance revenues as a result of the weakness in product sales.
Operating margin for fiscal 2020 is expected to be in the range of 19% to 22%.
Implied in this guidance is our expectation that operating expenses will be flat to slightly down year over year in fiscal 2020.
As George highlighted we expect 200 head Count tour sales coverage model over the next 12 months.
As a result of the current revenue guidance, we expect EPS to be down between two and 15% year over year without the benefit of buybacks.
Given the relative weakness of our Americas business in Q1, we now expect our effective tax rate to be approximately 18% to 19% in fiscal 2020.
Additionally, we expect to continue to generate meaningful free cash flow in the range of 19% to 21% of revenues.
Now onto Q2 guidance, we expect Q2 net revenues to range between $1.325 billion and $1.475 billion, which at the midpoint implies an 8% decline in revenues year over year, including over a point of currency headwind.
For Q2, we expect consolidated gross margin to be approximately 66% and operating margin to be between 18 and 19%.
We expect earnings per share for the second quarter to range between 91, and 99 cents per share.
We are diligently focused on improved execution and addressing the challenges we face.
We are committed to returning the company to growth.
As we implement the action plan George outlined.
And we remain confident our business model leverage will enable us to deliver long term shareholder returns.
With that I'll turn it back to Chris to open the call for Kuni, Chris will now open the call for queuing. Please be respectful of your peers and limit yourself to one question. So we can get to as many people as possible. Thanks for your cooperation operator.
Thank you ladies and gentlemen, if you have a question at this time. Please press Star then one on your touched on telephone. If your question has been answered all your wish to remove yourself from the queue. Please press the pound key to prevent any background noise. We ask that you. Please place your line on mute. Once your question has been stated.
Our first question comes from the line of money out Chokshi of Maxim Group. Your line is open.
Thank you.
You probably covered this in the script, but.
Your guidance does call for a significant improvement on a year over year revenue growth profile.
And I appreciate all the detail on what you're doing to address the shortfall.
It is it.
Choose to say that these things that you're doing you expect to actually result, and that improvement this quickly.
If you look at our two.
Seasonality there are sort of two or three elements that come into play. The first is Q2 is typically a strong quarter for us public sector business.
The second is cloud data service.
And our private cloud business should continue to perform in a normal seasonal acceleration model and then the third is that.
We have factored in at probably probability weighted a little impact from Elaine.
In Q2 as you might know from the call script, we did not see any either late in Q1.
Understood. Okay, and then the deferred revenue continues to trend up year over year.
Despite the significant year of your product revenue decline below even the July 2015 in July 2016 levels. That's safe to say that this is a reflection of an increasing attach of software services per dollar of installed base.
So it's a function of several things Thats. One it's also a function of we're doing a little better job on renewal and.
Sale this sale rate for service.
Our study.
So it's a focus area. It has been for a while we told you that.
And we're doing a little better at it.
Great. Thank you.
Thanks next question next question comes from Rod Hall of Goldman Sachs. Your question. Please.
Yes. Thanks for the question guys I wanted to start off I guess with the ebay weakness you called out, Georgia and see it yet it looks like I mean, if we back that out the hybrid.
Trajectory, which was okay, I mean things seem more stable there. So I wonder if you could just drill into that in a little bit more detail. What you see going on there is just a factor of this macro weakness or are you seeing people backing off or they have paid investment, but keeping up with hybrid.
And then I wanted to just double checked it as a.
Housekeeping measure the Youre guiding with the delays in the guide this quarter just want to check that because I thought previously you guys had decided not to guide deal is anymore. So.
Thanks Rod.
It's.
Factored in with a probability so there are some in there and we factored it down a little bit just in case, so and there was some in there last year. So it yeah, that's a fair compare.
Included in the full value.
Okay.
With regard to the mix of air Phase and.
Hybrid.
If you recall last year, we had two elements that drove the airframe business. The first was we had several large.
Global customers that purchased a lot of the phase and as we noted on our call. Those customers are most impacted by that spending slowdown in hardware. The second was that we also had about 90 million of yes late last year and a good chunk of that was attributed to our flash purchases. So those two one time items on that compare was what drove the.
Fein number down substantially more than HFSA I would not say that there was any pattern of customers not choosing a phase as opposed to HFI and abroad demand environment.
Okay, great. Thank you George.
Thanks Rod next question next question comes from Matt Cabral of Credit Suisse. Your line is open.
Thank you I just wondering if you talk a little bit more about what's driving the uptick in gross margin guidance for the year and in particular, just how we should think about the trajectory of product margins against just the potential for a pickup in the competitive environment. If some of this large deal alignment lingers a little bit.
Yes, so there's a couple of factors that make us one is obviously into the quarter as well.
Product revenue was down year over year.
So as a result of the services margin, which is higher than product we hire on the overall margin then pushes.
Lamar's now having said that we've told you formula several years, we're working on improving gross margin.
We've had 10 consecutive quarters of gross margin improvement on the product margin side and that should continue throughout the year a little bit.
It's both from a pricing standpoint and cost as well.
I want to call out the good work done by our sales team on maintaining discipline I know that.
You know there are some people think that the tradeoff between revenue and margin I think our teams have remained disciplined around the pricing environment. The strong gross margin indicates our competitive differentiation and we have not walked away from revenue.
Due to concerns about gross margin, we have strategically used gross margin and our business model as an opportunity where we just felt like it warranted.
Thank you.
Thanks, Matt next question.
Next question comes from maybe Hosseini.
Of ESI, Jamie Your line is open.
Yes. Thanks for taking my question just going back to your comment on that.
It seems to me that if our even if I were to exclude the yearly from slide 19.
Overall revenue could be down into high.
Slide 40 versus slide 19 is that a fair assumption.
It is down a good amount I think it is primarily due to.
Our exposure from being.
Very broadly deployed in big global strategic accounts that.
Not have as robust as spending pattern this year.
The business is the dominant business that we have in the peak global customers and they were the most impacted by some of the uncertainty that we saw with regard to macro.
Hi.
Thank you Mehdi next question.
Our next question comes from Andrew Nowinski of Piper Jaffray. Your line is open.
Great. Thank you.
I just had a question.
On your OEM business last quarter, you talked about moving away from some OEM partners and focusing more on a more strategic partners such as Lenovo.
I think the OEM revenues included in the mature segments. I was wondering is that 307 million you did in mature this quarter in line with what you're expecting or did you also see weakness that your OEM partners. Thanks.
Yes, we saw a little bit of weakness and as you know it can be fairly lumpy, it's hard to predict oftentimes when OEM customers going to buy we feel comfortable with the outlook for the year for OEM, which as we told you last quarter is probably not as robust and we're accepting that.
But again you know, we we didnt see a robust quarter. This quarter, we get expensive to make the year plan for OEM is a small percentage of the mature category and frankly, the smallest percentage of the mature category. We are driving focus on Lenovo and it'll take some time for that business to ramp once the DRAM. So it will stabilize the OEM revenue.
Alright. Thanks.
Thanks, Andy next question.
Next question comes from Katy Huberty of Morgan Stanley . Your line is open.
Yes. Thank you George you talked about why Youre flash business in particular as is down double digits. This quarter given the large enterprise exposure. What do you think the market for flash storage did in the quarter as the market also declining and then can you talk about how long it will take for the 200, new hires to reach their full sales quota and what will be the funding source of those hires given you don't expect to grow opex. Thanks.
I couldn't comment yet on the overall flash market Katie I think that our view is that.
Than prices remain low.
You know flashes, a compellingly better technology than disc for a broad range of.
Transactional applications and so as a percentage of the mix it should benefit from the fact that that prices are lower.
In terms of.
The headcount that.
So we're going to have to wait to see.
What other people report and sort of an overall market ramp up to comment about flash, we think that in our case the.
Concentration of our largest customers also being our largest flash customers drove the sort of change in our flash business.
With regard to the investment, we're making in sales and primary demand creation headcount there not all discrete quota bearing head count there are some technical sales head count as well we are going to do that over 12 months I think you will see a ramp through that period as we get operationally ready and deploy best sales headcount and so you should quarterize 200 over four quarters and it typically takes us about three to four quarters to get them fully productive after they are onboard.
Thank you with regard to what trade offs were going to make listen we've done a good job, making trade offs over the last several years you can see that in our.
Operating margins and gross margins and we'll continue to make the appropriate choices to prioritize our investments into the biggest opportunities. We think we have a really good portfolio.
And we think that based on the results, we're seeing with our best teams, we can deploy more head count and capture more of the market footprint.
And so we're going to stay disciplined around that.
Thanks, Katy next question. Our next question comes from Amit Daryanani of Evercore ISI. Your line is open.
Yes.
Thanks, a lot guys I guess George was hoping to talk a little bit about how do you see the cloud services business ramping up fiscal year.
And you were fairly positive acting on how different is your ramp has gone, especially with GE.
Wondering how would you contrast, the Google process as you go forward and how do you think that will be comparable at different what's what's happening with that youre, especially given the past Google I think bought something comparable in lots the pottery simply.
First of all we are very pleased with the progress of our cloud services business, it's up 189% year on year and I think the range of things that we see the differentiation of our technology the ability to.
Migrate big customer workloads in a really cost effective manner to the public cloud and to be able to displace competitive footprint, they're all showing up I think with regard to the plan what of what we're executing to it is to quantify more workloads.
And to get deployed into more data centers that gives us a broader footprint of opportunity to go after to train the sales force both the Microsoft Salesforce and the net App salesforce.
Around selling these technologies in joint ways and that will take time. These are big teams and it takes us time to get all of them trained.
We do so you should expect a ramp through the course of the year getting stronger each quarter as more people are enabled with regard to Google you know, we think that we have as good an opportunity to migrate customer workloads to the Google cloud Elas to file is not a competitive product to what we have is the commodity offering to compete with the low end file storage service, it's not an enterprise grade file storage service and so we feel that our opportunities on diminished. We are in beta and we are focused on the next step which is to get to general availability. So far what we see is a similar pattern of customer trials testing and so on and so we've done an operational readiness with one cloud provider. We are going to work on a second and then as we get to GA, We'll give you more details about it.
Perfect. Thanks for the insights.
Thanks, Matt next question.
Next question comes from Steven Fox of Cross Research Your line is open.
Thanks, Good afternoon, and thanks for all the color on the quarter.
Im just struggling a little bit with the assumption that some of the macro weakness is fairly compartel compartmentalized around the large Oems is there any other points or conversations you could point to rather that would seem that you don't see further weakness in some smaller customers in Europe and the us going forward I'm just curious.
A confidence level in the macro at this point thanks.
I think that.
You know our perspective on the macro is very similar to what is reflected in the public commentary on the markets. We saw weakness in certain parts of Europe , where GDP growth is challenged for example, in Germany, a little bit and in the UK, where the sort of ongoing dialogue on Brexit is causing temporary pauses in spending.
And then we site in the global customers too we do a lot of business with right. I think we did not say that the enterprises that for the next year down weren't exposed to the macro it's our exposure to a particular customer is a lot lower when they're smaller.
And we have a diverse book of business in the smaller and mid sized customers than in the giant global customers. So I would tell you that what we experience was the combination of macro and the big relationships that we have with some of these large global accounts.
That's helpful. Thank you very much.
Thanks, Steve next question.
Next question comes from Lou Miscioscia of our capital market. Your line is open.
Okay. Thank you I guess, George if you could give us a view as to how I guess you viewed the sales operation since when you came in I think that if we go back to.
2015, when you first started one of the options I think your predecessor had talked about was materially increasing the sales force could you view that as that would fix some of the problems and I guess the question I have and a bit of the difficulty I have it here. We are X number of years later I realize the macro was very weak so completely understand that but you would think that the sales force would be at a run rate level now. After all these years that you wouldn't have to go out and either a increase it and I'm not saying that that's wrong, but also be that that there is a high level of.
One that you talked about in the last call that we're not at the appropriate productive level I think we would be at a pretty good steady state. So if you could just help us understand that and maybe also a milestone or number you're adding 200 I mean, how big is the sales force at least maybe that will help us understand.
That statistically maybe why Theres a couple of issues here. Thank you.
I think first of all you know with regard to the work that we've done in the field organization. As we have said we have transformed meli many elements of the field organization, particularly by implementing our coverage model that allows us to prioritize our resources against the biggest accounts and the biggest opportunities. We started the implementation of coverage against the big Global accounts in a more systematic way two to three years ago, which is what drove the results that we had alongside the big global accounts.
We don't cover 100% of the largest 2000 to 3000 accounts in the world and we believe given the results that we've had that we have the opportunity by expanding coverage to a broader set of accounts that we can grow our business.
We have also implemented new selling motion right like covering certain markets through the channel you saw us restructuring parts of our European organization. So that we could afford the investments in covering the bigger accounts into bigger countries by moving some of our countries approximately 15 of them to be served through the channel. We have constructed a joint venture in China together with Lenovo. So that we could participate in the China market in a more efficient fashion. So weve done a lot of things to change the structure and the composition of the sales force.
We think that by adding.
You know a combination of resources to go after the market approximately 8% to 10% increase in coverage weve should be able to continue to grow our business and the top line, which is the fundamental issue. We've had if you look at the rest of the PML. We've had an exceptionally strong results across gross margin operating margin and all of the other elements of cash generation and we think that this is specifically a top line issue, we think that by broadening our coverage and footprint, we should be able to mitigate the impact of the macro on a few large customers that today, we are exposed to.
Okay. Thank you.
Thanks, Liz next question.
The next question comes from Tim Long of Barclays. Your line is open.
Thank you.
I could just ask kind of a two parter here on on visibility.
Obviously, what happens last quarter too took a little bit by surprise can you just talk a little bit about this full year view in how you feel about the second half and did you do some factoring.
Kind of pipeline like you did for.
He plays in the quarter and then just just Ron if you could remind me the visibility into the installed base I get that the deferred.
Roes, but we did have.
The decline in the.
In a few of the revenue lines.
The products services and hardware maintenance. So if you could just flush that out for us that that install base view that would be great. Thank you.
So let me start with that one so.
When you look at maintenance, you've got to kind of combine the software maintenance. However remains together because we've changed the value associated with each of a period of time certainly as it relates to the newly installed base and the added together to down 1% year over year, we've just for FX or flat in fact, the matters. We are growing our installed base of systems under contract and have been so really for the last eight quarters. So it's actually very healthy, which you see reflected deferred revenue number.
With regard to our outlook for the rest of the year you know we are not expecting.
Rapid resolution of either the macro or some of the uncertainty around trade and so we factored in a fairly conservative profile and outlook in the overall picture. It is reflective off typically the R&D.
Based on a very slow start in Q1 and it.
It includes some of the fact that our second half has an easier compare compared to our first half of this year and so we're not expecting some miraculous rebound in terms of the macro environment I think with regard to yes plays as we said.
Yes, please come price about 2% of the total.
Our revenue in the year, we don't break it out on a per quarter basis, you should factor in some sort of run rate for the year plays within our broader guidance. It just to add to that Tim remember we have no later than Q1 limited in Q2. So most of the delays will happen in the second half.
Okay, the second half.
Okay. Thank you. Thanks, Tim next question.
Our next question comes from Jim Suva of Citigroup. Your line is open.
Thanks, very much Ron and Georgia, a quick question for each of you.
Ron You just mentioned limited delays next quarter and then more in the second half if I heard that correctly and when you say more in the second half what are we thinking about the annual run rate that you've been talking of or how should we think about the alloys in the second half and then George if you can just help us understand.
Adding 200 salespeople in America, that's very good and a couple of quarters to ramp, but I think I heard you say no additional expenses. So how does that work out is that just a reallocation or how do you work out more people with no additional cost.
Yes, so just on the delays.
I will give you the number in Q2, but its not huge obviously affected down which means that mostly the delays will be in the second half again to Georges point, we told you the equaliser roughly 2% of total revenues. So we've six so the majority of the second half the year.
With regard to the sales capacity as I said, they are not our primary quota bearing head count.
The majority of the 200 should be quota bearing headcount, but its a combination of frontline quota bearing headcount technical resources and management.
We are going to deploy them in a great fashion over four quarters and you should expect a ramp through those quarters as we get the operational momentum of hiring and all of that in place. It takes three to four quarters. As we've said consistently for a sales rep to get productive right and some of these are going to be focused on selling our private cloud and public cloud portfolios, which have a different business model our profile than a traditional storage system.
With regard to how do we expect to.
Higher 200 people and not impact.
Operating expenses I'll, just say, we have north of 10500 people on the Companys payroll and so we'll make the appropriate tradeoffs across our broader employee population as we think about people leave the company in the shape of people, we hire will shape it towards the sales organization. So that we can.
Accelerate the turnaround.
Great. Thank you so much for the details and clarification since greatly appreciate it.
Thank you Jim Thanks, Kim next question.
Next question comes from Aaron Rakers of Wells Fargo. Your line is open.
Yes, thanks for taking the question I want to go back to Amir's question earlier on the on the cloud data services business.
First of all just to kind of clarification, you know relative to what you said on the pre announcement now today are you endorse thing. The fact that you still believe you will be at that four plus 400 plus million run rate.
Exiting fiscal 21, and then kind of building on that one of the comments in the prepared remarks is that.
Cts is ramping and there are some elements of cannibalization to the traditional business I'm trying to understand how you think about that.
Should we consider that as CBS ramps, there there's going to be some cannibalization of the traditional on premise business for you guys. Just just any kind of clarification or help on that would be would be useful.
First of all I think we are pleased with the momentum that we have in the CDN business. We still have the plan to be in the 400 to 600 million annual recurring run rate exiting Q4 of fiscal 21.
And we're executing to that plan, there's a lot of work that goes into that but having a leading hyperscale or like Microsoft now generally available is a good benchmark and the next benchmark is to scale them add to get Google cloud platform to general availability. So our heads down and executing our game plan I think with regard to the pace of customer adoption, we feel very good about the early results right and I think that you should see that ramp through the course of the year.
With regard to cannibalization I would just tell you that.
So the fact that Netapp technology is available in the Microsoft cloud or the Google cloud doesn't necessarily mean that the customer is going to move the net workloads first to the cloud they have a pattern of workloads. They wanted to move to the cloud we get to participate in a much broader opportunity as a result of having our technology now being the enterprise platform for both Microsoft and Google at the expense of our competition right that loses every dollar that moves to the cloud they're going to get zero, we get to participate in two of the biggest hyperscalers now capturing those workloads onto our platform does it on the margin caused some cannibalization that's already factored into the on premise business versus the public cloud business forecast that people have we just now get to participate in a much more meaningful way in the public cloud business than anybody else and it's.
I'm ways that is also helping us now with new footprint on premises as customers now say listen I discovered net app in the public cloud I want to give them a bigger footprint on prem.
Very helpful. Thank you.
Thanks, Eric next question.
Next question comes from a number of loop capital Your line is open.
Good afternoon appreciate.
Taking the question.
Yes, just going back to Anthony I guess, just a quick two parter.
Forgot yours around if I could ask would love to get a sense.
If you are seeing incremental pricing pressure in the last couple of quarters in as they even as its from the customers.
As the deal sizes.
Hello has shrunk a bit.
And then just taking a day of say Olympic incentives. If you think that that macro aside industry penetration the velocity of industry penetration has been slowing at all.
And your thoughts around that thanks a lot.
You know I'll tell you what we saw with our assay business is that customers bought more of the midrange configurations.
And.
But the capacity that they needed for the next year or rather than rightsizing. The equipment for a three year outlook right and that is you know what I would do if I were faced with an uncertain budget environment. So we did see that fairly systematically I think with regard to save versus the overall storage market I think that the.
The economics of air faith compared to hybrid continues to grow and get better right. If you look at NAND prices. They continue to make assay a much more attractive value proposition than they were in the past every seat every quarter and so if I were a customer I would continue to prioritize ethane for all by transactional applications.
The overall landscape for storage is dependent on the macro and so you know I don't see the mix changing I just look at the overall water level being determined by the macro.
Okay got it thats helpful. I appreciate the context. Thanks.
Thanks, Amanda next question.
The next question comes from Eric Martinuzzi of Lake Street. Your line is open.
Yes, I just wanted to clarify a couple of weeks ago, you talked about the shortfall being about two thirds macro one third nineth specific wanted to make sure that was it still felt that was the case. After a couple of weeks of analysis and then second part of the question has to do with you Steve turned over your MVP Americas wondering if there was any.
Any turnover below that at senior level, because obviously that would make the you know adding to the sales more more of a back end loaded 2020 effort I would think that that might slow things down on the sales hiring.
Listen I think that our analysis.
Leads us to draw the same conclusion, which is it's two third macro.
No one third yes, we could have executed better we did see some exposure from our being concentrated in some of the larger accounts right and I think that thats consistent.
I want to just say that our leadership team, we wish all of the members of our leadership team well.
We have the need to continue to add capacity. That's the fundamental area of focus for US we'll continue to make inspect our business and we'll provide you updates on our execution improvements over time.
Ill just leave it there.
Look were their second level turnover, obviously, there was at the VP level that kind of level down from that no.
Okay. Thank you.
Thanks, Eric next question.
Next question comes from Andrew Bedtime of Wolfe Research Your line is open.
Thank you I wanted to follow up on the full year outlook and what role macro plays. So if you look at when Q regarding the geographic the geographic breakdown of your reps.
And especially focusing on EMEA and APAC. Once you numbers were pretty close to our expectations and if you link the geographic split back to your full year guide are you embedding sort of flat or slightly down EMEA and APAC for the year and then uncertainty in Americas gets you to downtown at the low end to down five at the high end orders the bottom slash top of the range Embeddable bear case for EMEA and APAC.
I'd rather not go into some of the specific assumptions. We've made by deal I think we did look at several things we look to what we're seeing in the macro environment. Each of those geographies, we talk to the local sales leadership et cetera.
We're making judgments overall so.
I can't tell you the exact trade offs are made but when we're looking at.
The downside is down 10% for the year. So obviously you will see that probably most profoundly down in the America's Cup, given where we are but beyond that I am not going to give any other details.
I'll, just say I think all of the calculations and factors. We considered are in the public domain right and we use those factors to determine broad based economic trajectory is and then combine that with the judgment and the.
Pipeline data of our sales teams and the historical linearity pattern of our business.
All right. Thank you. Andrew next question next question comes from Nick Todorov of Longbow Research. Your line is open hi, Thanks for taking the question you guys talked about customer concentration in a couple of times today can you give us a little bit more color. Maybe an example of how much revenue your top or top 10 or 15 customers account for.
We're not going to break that out I would just say that the impact of.
What happened during the quarter was primarily due to the fact that some of our largest global accounts that we have very strategic relationships with.
Did not spend you know anywhere close to what.
They spent last year I'll give you. An example, we had two large customers that are exposed to the China tariff situation that have cut their capital spending by north of 30% year on year clearly we are a part of that.
Spending profile and so I would just say that.
We have really good relationships with the big set of customers and we're planning to broaden those relationships to another.
Broader set of customers over the course of the next year to 18 months.
Okay and can to squeeze one more in can you remind us how much you have remaining on your buyback authorization and that will be from me. Thanks.
We have 1.6 billion left on the authorization.
Okay. Thanks, guys. Good luck.
Thanks, Nick next question.
Next question comes from Simon Leopold of Raymond James Your line is open.
Thank you.
During the prepared remarks, you did indicate that youre not seeing any changes in the competitive environment.
I just wanted to.
Get a better understanding of whether or not we might see some market share shifts as measured by the third party that might reflect differences in geographies or differences in terms of footprint, where maybe a competitor might be upgrading its legacy footprint and you completed that task.
Trying to get a little bit of better understanding of how you can be confident that it's not about competition and how to square. This with third party research. Thank you.
I think that.
You know what we mean when we say it's not a competitive factor is that our win rate in competitive transactions remains the same.
Our product gross margins were up 280 basis points year on year, when you adjust for E. alessi, which shows the strength of our differentiation right. I think there may be differences in how the results play out four different providers, depending on their customer bases. We did see exposure from our biggest customers not buying as much right and I think that what we are convinced off is that if we expand our footprint and broaden our customer coverage given the strength of the performance. We've had in the places where we saw.
No budget available and our ability to win competitive transactions, we should be able to broaden our book of business and reduce the effects of customer concentration.
Thank you for the clarification.
Thank you Simon.
Next question.
Next question comes from maybe Hosseini.
Sightsee Your line is open.
Yes, I have two follow ups run if I were just to look at your guidance for the October quarter operating margin. This seems to me that the Opex was actually go up by 10 to 15 million is that.
Fair assumption.
Yeah, I mean, it goes up as a function of revenue share.
Okay. So just going back to the comment of adding.
Additional salespeople. This opex is just nature of the revenue and nothing to do with yes. It is a resource.
Okay, you won't see huge impact opex in the quarter for the hiring takes a while to get people on board.
You will see some increases baked in there, but most of that's just a function of that linearly throughout the year linear revenue and Uh huh.
Cost structure so.
Just had a quick follow up to the question earlier are your comments suggest that there is a higher decline in spending that flight 40 versus the slide 19, but I would say look at the back half of this slide 20, I see a nice rebound driven by the migration of the 10-K RPM to SSD and that should build momentum into calendar year into the fiscal year 21 is that a fair assumption as to what could drive rebounding.
I think first of all you know what we said was that was reflective of Q1 results Q1 F Y 20 over Q1, F.Y. 19 being down in the high teens right.
I think with regard to the rest of the year I'm not going to break out the same versus HFSA I think that EFI is advantaged on a whole bunch of dimensions and should continue to get a bigger share of the pie of storage relative to HFSA than it was in prior years, just because of NAND economics, you will see all kinds of things.
I think we will continue to use every opportunity we can to drive transition off this base systems and hybrid based systems to our flash systems. The piece. So those upgrades is a combination of yes, good technology being available, but also budget cycles being available and so we're you know we've got a leaning on the technology side and give customers every opportunity to upgrade but we'll have to wait to see how the macro plays out to see how many of those budget cycles are available.
Got it thank you.
Thank you Mehdi I'll now pass it back to George for a couple of closing comments.
Thanks, Chris.
Im disappointed in a weaker than expected topline results, but I remain confident that we have the right strategy and technology to address the key market transition we have a strong business model as a result of the hard work, we conducted to improve gross margin and cost structure over the last several years.
Our continued strong cash generation is a great example of the underlying health of our business.
We will remain fiscally disciplined with our expenditures while still investing for the long term health of the business.
And we remain committed to our capital allocation policy of returning cash to shareholders through share buybacks and a quarterly dividend.
The robust fundamentals of our business enable us to navigate the ongoing macroeconomic headwinds and make the strategic moves that position us to return to growth.
I hope to see you at the Investor section of our annual insight user conference on October the 29 in Las Vegas.
Thank you again.
Ladies and gentlemen. This concludes today's conference. Thank you for your participation and have a wonderful day you may disconnect. Your lines at this time.