Welcome to the
4th Quarter 2019 Alistair Networks Financial Results Earnings Conference Call. During the call, all participants will be in a listen only mode. After the presentation, we will conduct a question and answer session. Instructions will be provided at that time. As a reminder, this conference is being recorded and will be available for replay from the Investor Relations section at the Arista website following this call.
I will now turn the call over to Mr. Curtis McKee, our Corporate and Investor Development Officer, you may begin.
Thank you, operator. Good afternoon, everyone, and thank you for joining us. With me on today's call are Jayshree Lal, Arista Networks' President and Chief Executive Officer and Gita Brennan, Assistant Chief Financial Officer. After Arista Networks issued a press release announcing the results for Q4 ending December 31, 2019. If you would like a copy of this release, you can access it online on the company's website.
During the course of this conference call, Arista Networks Management will make forward looking statements, including those relating to our financial outlook for the Q1 of the 2020 fiscal year, longer term financial outlooks, industry innovation, our market opportunity, the benefits of recent acquisitions and the impact of litigation, which are subject to the risks and uncertainties that we discuss in detail in our documents filed with the SEC, specifically in our most recent Form 10 Q and Form 10 ks, and which could cause actual results to differ materially from those anticipated by these statements. These forward looking statements apply as of today. You should not rely on them as representing our views in the future. We undertake no obligation to update these statements after this call. Also, please note that certain financial measures we use on this call are expressed on a non GAAP basis and have been adjusted to exclude certain charges.
We have provided reconciliations of these non GAAP financial measures to GAAP financial measures in our earnings press release. With that, I'll turn it over to Jayshree.
Thank you, Curtis, and welcome to your first Arista earnings call. And thank you, everyone, for joining us this afternoon for our Q4 2019 earnings call. We delivered a non GAAP revenue of $552,500,000 with a non GAAP earnings per share of $2.29 Services contributed approximately 19% of the revenue, consistent with the typically higher renewals at the year end. Our non GAAP gross margins were 65.2 percent influenced by a strong performance of the enterprise vertical and associated software attached products. Overall, our 2019 gross margin came in at 64.7%.
We registered a record number of 1,000,000 other customers in Q4 as a direct result of our enterprise momentum. By the end of 2019, we have acquired over 6,300 customers cumulatively with Microsoft at 23% of total revenue and Facebook at 16.6%. In Q4 2019 and actually much throughout the year, cloud titans was the largest vertical. The enterprise segment is now consistently the 2nd largest and strongest segment, followed by the financials in 3rd place, Tier 2 cloud specialty providers in 4th and service providers in 6th place. Both service providers and Tier 2 plus providers have been slow for us.
A risk, as you know, in terms of geography, 2019 international contribution was 24% with the Americas at 76%. In terms of new products in 2019, Arista, as you know, delivered than a year of disruptive products redefining networking with a highly differentiated software stack management and flagship platforms. The 7,280 and 7,500 series especially have become the gold standard in 100 gigabit spine networking. We also introduced substantial 400 gigabit innovations to 10 new platforms. We launched a new portfolio of cognitive campus edge products for wired, power over Ethernet switches and wireless including Wi Fi 6.
Our enhanced software flexibility brings federated management and control teams across multiple merchant specific data planes, and this is one of our key differentiators. We continued our systematic innovations in Cloud EOS and CloudVision features. In particular, we have doubled our CloudVision customers delivering real time streaming telemetry availability scale, automation with change control as well as 3rd party interoperability. We are pleased with the increased acceptance of total software bookings, both in subscription and perpetual licenses, now approaching 5% of total revenue annually. We began Q1 2020 with the close of our 3rd acquisition, Big Switch Networks, an STN pioneer founded almost a decade ago.
This is a strategic step for us in bringing a strong combination of engineering expertise, deeper entry into the network private broker market and increased software multi cloud visibility. As you know, we've always been focused on software driven networking as a mission in Avista. With Big Switch, we're expanding that mission through more deep analytics trends, complementing our switch based DAN or data analyzer platform with Dixwitch's deeper monitoring fabric of public, private and hybrid cloud. Both companies also share a unique visionary status with data center networking and the Gartner Magic Quadrant. We welcome the JCN team, BFM team into Arista family and really look forward to a strengthened partnership, not only with them, but with Dell Technologies as well as the approximately 300 customers we're getting to know better.
While the Big Switch acquisition is not material, we do expect this to contribute to our software strength and bookings, and our goal is to become accretive in calendar 2021. As we wrap 2019, I really do believe that Arista is in the clear forefront of making cloud area networking more and more mainstream. We see that networking and the future of it is not silos or boxes with multiple operating systems and spaghetti OFS, but a new uniform software driven place in the cloud architecture. We are proud of our market leadership, the number one spot in 100 gigabit Ethernet switching and ready for 400 gigabit migration ahead of us. We are experiencing trials that are going well with several customers.
We are poised to achieve our first $100,000,000 target for the 1st 4 quarters of campus revenue as well. Our go to market strength continues to be an important investment area for us as we have doubled the sales and systems engineering capacity over the past few years. With the promotion of Chris Smith to Senior Vice President of Worldwide Sales and Ashwin Kohli to Senior Vice President of Customer Engineering reporting to Anshul Sadana, their transition to their new roles has been seamless following the departure of Manny Rivelo to PE Pharm in conjunction with his executive advisory role to us. Both Krish and Ashwin have long tenure with us and epitomized the risk of waste. As I've traveled the world, including hundreds of customers we touched, it is clear to me that we're winning strategic enterprise franchises across high-tech, media, banking, healthcare, insurance and retail sectors to name a few.
Large enterprises are increasingly frustrated and anxiously seeking better quality and architectural leverage to cloud based principles. Our programmability with software and quality with the lowest critical vulnerabilities in the networking industry is a refreshing and welcome change to them. Arista is gaining strategic relevance, almost doubling our $1,000,000 customers within the past 3 years. I expect this momentum to continue and to happen across all the non cloud verticals. With that, I'll turn it over to Ida for more financial specifics.
Thanks Jayshree, and
good afternoon. This analysis of our Q4 and full year 2019 results and our guidance for Q1 2020 is based on non GAAP and it's due to our non cash stock based compensation impacts, written acquisition related charges and other non recurring items. Full reconciliation of our selected GAAP to non GAAP results is provided in our earnings release. Total revenues in Q4 were 552,500,000, dollars down 7% year over year and at the midpoint of our guidance of $540,000,000 to 560,000,000 Service revenues represented approximately 19% of total revenue, up from 15.2% last quarter, reflecting typical Q4 'seventeen renewal seasonality in conjunction with the lower product revenue number. International revenues for the quarter came in at 137 $7,000,000 or 25 percent of total revenue, up from 19% in the 3rd quarter.
Looking to the year, international revenues accounted for 24% of total revenue, down from 28% from the prior year. This shift in geographical mix for the year was largely driven by heavier U. S. Deployments by our cloud titan customers. Overall, gross margin in Q4 was 65.2%, above the upper end of our guidance range of 63% to 65%, up from 64.4% last quarter, which reflected a lighter price hike in contribution in the period, combined with good performance from our enterprise and financial verticals.
Operating expenses for the quarter were $154,300,000 or 27.9% of revenue, down from last quarter to 163,000,000 dollars R and D spending came in at $96,200,000 or 17.4% of revenue, down from $105,300,000 last quarter. This decline largely reflected lower engineering and prototype costs in the period. Sales and marketing expense was $46,400,000 or 8.4 percent of revenue, with increased headcount somewhat offset by reductions in other sales costs. Our G and A costs were consistent with last quarter at approximately 12,000,000 or 2.1 percent of revenue. Our operating income for the quarter was $205,800,000 or 37.3 percent of revenue.
Other income and expense for the quarter was a favorable 11,200,000 and our effective tax rate was approximately 15.5%. This lower tax rate reflected the release of some uncertain tax provision related returns following final agreement with development tax authorities. Please note, however, that we do expect to see some upward pressure on the effective tax rate over time as various tax jurisdictions continue to modify our tax rules. This resulted in net income for the quarter of $183,400,000 or 33.2 percent of revenue. Our diluted share number for the quarter was 80,260,000 shares, resulting in a diluted earnings per share number for the quarter of $2.29 up 1.8% from the prior year.
Now turning to the balance sheet. Cash, cash equivalents and investments ended the quarter at approximately 2,700,000,000 dollars We repurchased $51,500,000 of our common stock during the quarter at a weighted average price of $189 per share. This brings our total repurchases for the year to $256,000,000 over 3 quarters. As a reminder, our Board of Directors has authorized a 3 year $1,000,000,000 stock repurchase program commencing in Q2 'nineteen. The program allows us to repurchase shares of the common stock opportunistically and is funded from operating cash flows.
We generated 227,000,000 of cash from operations in the 4th quarter, reflecting strong net income performance and a decrease in working capital requirements of approximately $115,400,000 DSOs came in at 65 minutes, up from 63 days in Q3, reflecting the timing of the loans in the period. Inventory turns were 2.9x, down from 3.1x last quarter. Inventory increased to $244,000,000 in the quarter, up from $240,000,000 in the prior period. Our total deferred revenue balance was $575,000,000 up from $529,000,000 in Q3. As a reminder, our deferred revenue balance is now almost exclusively services related with any significant product deferred revenue balance having been recognized to the income statement in the first half of the year.
As Jayshree mentioned, we had 2 greater than 10% customers this year, Microsoft at 23% and Facebook at 16.6%. If you exclude the recognition of product deferred revenue referenced above Facebook, it represented approximately 12% of revenue for the year. Accounts payable days were 44 days, up from 31 days in Q3, reflecting timing of inventory receipts and payments. Capital expenditures for the quarter were $2,400,000 Now turning to our outlook for the Q1 and beyond. While we're not in a position at this point to provide full year guidance, we wanted to reiterate the various puts and takes discussed on our last call.
2019 has been a challenging year for our cloud business with significant volatility and an overall unique design picture. As we look forward to 2020, we believe this trend continues with demand from this part of the business being flat to down on a year over year basis. This trend combined with tough year over year revenue comparison due to direct mix of $118,000,000 of product deferred revenue in the first half of twenty nineteen, would likely result in a meaningful decline in cloud revenue for 2020. Enterprise and financials are expected to grow healthily, but are not yet large enough to fully offset the expected revenue decline from cloud. Service provider and specialty cloud will likely remain sluggish for the year.
On the gross margin front, we would reiterate our overall gross margin outlook of 63%, 65%, and customer mix is the driver. Focusing specifically on Q1, we expect it to trend lower in this range, given a lighter revenue number and a typical Q1 rating for those clients. We continue to manage investments in the business carefully with targeted growth in sales and R and D headcount, balancing the need to expand our market coverage with prudent financial management. We announced the acquisition of Big Switch Network earlier today. This represents an immaterial transaction that brings us some additional software capabilities and a strong engineering talent pool.
From the financial perspective, this is a software subscription business with upfront license revenue recognition and a fair amount of service and deferred revenue. We're beginning the business with accounting integration now and the acquisition will be recorded in our financials in the Q1. We have included a small revenue contribution and 2 months of expenses to Deep Switch in our guidance for the Q1. We will provide additional clarity on the go forward income statement impacts once we've completed the purchase accounting analysis. Finally, our guidance for Q1 does not reflect any impact from the ongoing coronavirus outbreak in China.
While we do not have a significant direct manufacturing footprint in China, there may be some indirect supply chain impacts. We look to monitor and attempt to mitigate these as the situation unfolds. With all of this as a backdrop, our guidance for the Q1, which is due to non GAAP results and excluding any non cash stock based compensation impacts and other non recurring items is as follows: revenues of approximately 522,000,000 to 532,000,000 dollars gross margin of approximately 63%, operating margins of approximately 34%. Our effective tax rate is expected to be approximately 21% with diluted shares of approximately 80,500,000 shares. I will now turn the call back to Curtis.
Curtis? Thank you, Rita.
We are now going to move to the Q and A portion of the Arista earnings call. Due to time constraints, I'd like to request that everyone please limit themselves to a single question. Thank you for your understanding.
We will now begin the Q and A portion of the Arista earnings call. Your first question comes from Pierre Ferragu with New Street Research. Your line is open.
Hi. Thanks for taking my questions. I was wondering on like the opportunity for your cloud, private and clients. So we understand like flat to slightly down year on year, which means that we'll have a bit of a recovery during the year. And I think it's surprising that it's contrasting a lot with what we've heard from other suppliers on the liquid side, on the linole side.
We've had much we've seen much better numbers in the second half of last year and much more positive comments about the first half of this year. So you don't seem to be on a similar cycle. Things seems to be coming back slower for you guys. And so any way you could help us understand that would be very helpful.
Yes. Shok here. I will take part question and Anshok can elaborate. The core CapEx spending has never correlated 1 to 1 with Arista's network numbers. And the reason is many because as you know, it's a very small part of their total CapEx.
It's almost negligible, the network fees. And often, they make the compute and the storage decisions first and the network comes later. So there's a lag. So our visibility right now, as I've often told you, is 1 to 2 quarters. And we can't say much about the whole year, let alone Q2 or second half.
So while we are making predictions based on our 2019, both the absorption of deferred revenue and the credit understanding of their plans, things might change. They're reflecting what we know best as of now, especially when you look at our year over year comps for 2018 2019. Anshul said, I did good enough. He has nothing more to add.
Thanks, Jayshree.
Your next question comes from Nita Marshall with Morgan Stanley. Your line
is open.
Great. Thanks. I just wanted to know if
you could kind of give a little bit of an
update on the campus business traction. I'm just
wondering if you had
seen any kind of pause in purchasing activities due to macro? Thanks. Well,
only started shipping in Q3 2019. We've had 2, 3 quarters now of campus. And I'm very encouraged by the enthusiastic response from both our existing customers as well as new customer acquisition. As I look at our $1,000,000 customers that I was talking about and the record number we have achieved, many of them have also been campus. And so we I see that, at least from our little oasis or island, we're not really a macro bellwether.
We're more of a technology bellwether. And the technology in both on our PoE and Wi Fi has been very well accepted along with our clients and cloud vision and Q4 was a very good indication of that.
Great. Thanks. Your next question comes from Eric Holder with JMP Securities. Your line is open.
Yes. Thanks for taking the question. One, what are the priorities in terms of your integration with Big Switch? What are you going to be doing? Which products are you going to be focusing on?
Then secondly, is there anything that we should be concerned about with China? Would you see any evidence of impact from the virus issues going on there?
I'll take the first question. And Anshul, maybe you, as you know, with your COO title, you know more about what's going on there. So on the priorities for the Dix Bridge, well, as I said, first of all, we were incredibly impressed by the engineering team. So we have selected the best of the best, and we are very much part of the acquisition has closed. And I want to give a big shout out to Mark Jackson and Nida for the hard work that went into that.
It's a 10 year old company. There's a lot of detail. So the at the end of the close of the acquisition, we have absorbed approximately 75 employees, a large percentage of them in engineering. And there are 2 product lines that Ipswitch carries, the BMF, which is the monitoring product, which is, as I explained, is a perfect complement to Dans. Dans is Vista's in line integrated switching product and EMF is just icing on the cake.
It has deeper visibility, service nodes, recorder nodes, the monitoring fabric, etcetera. And then DCF, which is meant for more of a converged fabric. And we fully expect that to be a very important piece, especially with our convergent structure partners like Dell Technologies. So both products will be fully supported and carried through, but with different channels.
To your question on China and supply chain with respect to coronavirus, as Iida mentioned, we don't do any direct manufacturing in China. So it really comes down to secondly the effects of our and other suppliers, other sub suppliers in the raw materials coming from China. So far, we haven't seen any big impact because it's just been a few weeks after the really a few days after the end of the Chinese New Year. And our my lectures are saying they are okay for the short term. However, if the situation continues for a long period and there is really a supply of raw material and over an extended time and it can have impact in the future.
So it's too early to say anything right now And we expect more answers from the Chinese suppliers to the factories through the rest of the month and even in March. So again, too early, but for now, we're okay.
Your next question comes from Rod Hall with Goldman Sachs.
In Girls, I wanted to I guess I wanted to for Girls and Guys, it's probably the right order for them actually. I want to ask a couple of vertical questions. So, Ita, you had commented that cloud, you expect a meaningful decline. And I don't know if you could give us any more feeling for what you mean by that. We were thinking kind of low double digits sort of decline this year, but I don't know if that sounds like more than that.
And then the other on the positive side of this equation, the service provider commentary, you said sluggish. We were thinking that would be declining this year, but it almost I just want to clarify, do you think that that are you expecting a little bit of growth there or stabilization there, kind of flattish revenue there? And then a bigger picture question, Jayshree, is have you guys considered disclosing these verticals or some subset
of them? Is that something
you could maybe look forward to at some point in the future, at least on an annual basis, so we can all track kind of what's happening under the covers in the verticals?
Okay. Right. I'll try and answer as many of your questions. The last one first. So the answer is we try to do our best by ranking them.
And I guess you're looking for more granularity. So we'll definitely take it under advisement like we do anything you suggest. And maybe that's a data point for Analyst Day. And going back to your cloud decline and service provider, flat to down, I think definitely means flat to double digit down. We don't exactly know how much now because we're in the Q1.
I think Anshul and the team will get much more visibility in maybe Analyst Day or second half, because that's when you really get a good sense. But Q1 is such a seasonal quarter. We don't have enough data. It's more an extension of Q4. So ask us this question again in May or June, and I think we'd have a lot more to say.
Service providers, yes, I think when it actually explained the definition of sluggish to me, which is it's not that bad. And I think the worst was last year. So it's bottomed out and it can only get slightly better is our feeling. But we're not like holding our breath or anything. We believe it can get worse.
It's fluctuation. Would it be some range around 0 than j3 not negative?
0 plus or minus. Yes. Negative note? Not minus. Not declining further.
Yes.
I don't think it's our hope. Right? I mean, it's a decline fair amount in 2019. I would like to think that it starts to cover a little bit from there, but sluggish kind of implies slowly.
Okay. That's better than I thought. So I appreciate that. Okay. Thank you.
Your next question comes from John Marchetti with Stifel. Your line is open.
Thanks very much. Just Jayshree, just as we're getting closer to this, reaching the end of this sort of first 100,000,000 on the campus side and you've added a couple of pieces there. Just curious as we look out the next couple of years, how maybe we should think about that business trending up towards a little bit more of a meaningful contribution to the overall growth rate? And then, Edith, just real quick on the tax rate, I just wanted to make sure that I heard it correctly that at least starting in 2020, we should expect this lower rate to continue and that it may pick back up over time, but we're at least expecting that lower tax rate to continue over the near term? Thanks.
Yes, let me take the tax one first, Mary. So the Q4 tax rate of 15% to 1,000,000, I mean, that's a
one time, right? It's some very specific reserves that were released in the period.
As we go forward, we've been
thinking that the structures actually is somewhere around 21%. That's what we
guided for Q1. There's probably more upward pressure than downward pressure on that over time. So I think 21%, 21.5%, it's
in that range somewhere.
But I think for now, you're in the
21% range for Q1.
And then maybe you see a couple of basis tens of basis points kind of increase over time, but it will take time. That was more kind
of a longer term structural rate statement. The 21% plus or minus
hasn't really changed in the current sector. And John,
the second question on the campus, I think being a new kid in the block when there's been a fairly mature market and a $10,000,000,000 TAM, largely Cisco and maybe HP Aruba, Just for us to enter in and be taken seriously is the 1st quarter of business. And I have to say, the enthusiasm for Arista, the software, the cognitive, cloud vision has been very well received. So I think delivering the 1st 4 quarters of $100,000,000 will really establish a baseline for more growth. As I said at the last analyst meeting, I'd be very disappointed if we didn't have that more growth translate into doubling and doubling again. So my team would be looking to $500,000,000 to $200,000,000 and then to $400,000,000 and then some.
But more on Analyst Day maybe on exactly how we do that in the details.
Great.
Your next question comes from Jason Ader with William Blair. Your line is open.
Thank you. Jayshree, you guys have prided yourself from K1 on a single OS. Now with Dixwitch, you're going to have a second OS. So I'm just wondering how we should be thinking about future of Dixwitch's OS. Yes.
No, that's a really good question. We've actually done 3 acquisitions and had to deal with the OS twice before. So to answer your big switch question, let's take the other 2. Metamako, very SDG centric. It was really for the high frequency trading market, low latency.
The OS did not play a big role and when it does, it will be EOS, right? Mojo, really a radio management Wi Fi, we immediately integrated into CloudVision. And again, the OS was less important than the CloudVision integration to bring wired and wireless together. Next, we fully expect that same cloud vision integration with DANs and DMS, the monitoring fabric. So the OS will be somewhat transparent and the unification of inline bands and the monitoring fabric will be much more important.
The big cost fabric is the unique product and we believe the go to market channel there is not necessarily a particular Arista customer who is looking for EUS or CloudVision, but a technology partner like Dell Technologies or Nutanix that wants to integrate this with their servers and storage. So very much like Sonic or EPOS, this is a conversion infrastructure solution.
So is it right to think about that serving a part of the market that you probably never would have served and therefore you can reconcile it with the overall strategy?
That's correct. Again, it's early days and we're still learning. And both Doug Murray and Kyle, the co founder, are teaching us as we speak. But if you look at their over 300 customers, the overlap with our customers is only 1 third. So, 60%, 65% of the customers are new to us.
Great.
Thank you, Jason.
Your next question comes from Brian Yoon with Deutsche Bank. Your line is open.
Hi. Thanks for taking the question. I wanted to ask about your 400 gig opportunity. Can you talk about expected market share for 400 gigs, maybe just at a high level, especially versus your peers? I think it's fair to say that you were dominant in 100 gig at hyperscale clouds.
But is the expectation to win the majority of 400 gig deals? Or are you taking a more conservative view where your peers might see sizable wins as well? Thank you.
Well, I think our peers should have seen sizable wins on 102. I don't know why they missed the boat. But it's very unnatural for a company to lose the speed transition. So the fact that Arista became number 1 has never been done in the networking industry before. Now what's achieved at 400 gig overall time line is we have been consistent on that.
We are seeing early trials. We expect mainstream deployments this year, particularly in the second half. And obviously, the cloud will play a big role, but it will also be some of the high end enterprises and service providers as well. And so given the trials we're seeing, we don't expect material revenue of 400 gig until the second half of this year and really 2021. And the other thing I'd point out is, nobody just builds 400 gig in isolation.
It always happens in conjunction and they're always mixing and matching 100 gig and 400 gig. So Anshul, you want to add to that?
So, yes, we have 2 comments here. Ryan, I know everyone focused on 4. And I think I do want to remind you and everyone else, HonelyCare is actually growing in 2020, not in this case just yet. And there are many other accretions coming from as well, whether it's 8x50 going to 4x100 or 8x100 as well. It's not just the single transition that our customers are planning or working with us on, the multiple serious and regional roadmap has been discussed.
Lastly, there is some dependency on the DCI or backbone network on availability of the optics at scale, and that's still expected to be second half, maybe even end of the year. And hence any material requirements in that space will be in 2021. Anshul, just
to reiterate your point, the TAM for 100 gig is 4,500,000,000 dollars I don't know the TAM for 400 gig will even hit a few 100,000,000 this year.
Pilot is not a TAM.
Yes. Pilot is not a TAM. Okay. Good one liner.
Thanks, Brad.
Your next question comes from Ittai Kitchen with Oppenheimer. Your line is open.
Hi, Ittai.
Yes. Hi, ladies.
Two questions for me. I know Curtis tries to limit these to one, but I'll try to sneak one in. How about you, Frank? Yes. Regarding the acquisition of Big Switch, I do want to understand your relationship with Yale and also if there's a revenue concentration for Big Switch.
If I remember, Microsoft is a big customer for them, so if you could discuss that. And then on Dell, they also have other companies they work within this space, Qumulus, if I remember correctly. Help me understand how do you think the nature of that relationship is going to look like going forward?
Well, that's a good question. First of all, we didn't see any significant revenue concentration and certainly not Microsoft. That have been a past statistic, but not true now. So there's obviously some big customers and they have some top 10, but not specifically one that is a 10% concentration. So coming back to your question on how do we see this, we see the partnership with Dell getting stronger.
How Big Switch was selling was really software only disaggregated from hardware and a lot of the hardware was Gels switches. We continue to plan to offer that model and strengthen our partnership with Dell and make that stronger. So we are not changing the sales motion and it complements all the risk of doing in the high end enterprise and cloud titans very, very well. So no change.
Very good.
Thank you, Ita.
Your next question comes from Amit Dariani with Evercore. Your line is open.
Hi. This is Ervin dialing in for Amit. I also had
a question about your interface switching business. It continues to do very well for you. But can you perhaps help us understand what the margin profile for this business looks like versus your broader portfolio?
Okay. I would generally say the margin is about the same, but if you said versus our router portfolio as opposed to the same. More pricing pressure in the campus always because the market is defined that way, but the margins want to get to be different.
Thank you.
Thanks, Erwin.
Your next question comes from Ben Bollin with Cleveland Research.
I wanted to go back to 400 gig. I was hoping you could talk a little bit about how you think the builds for 400 gig differ from what you saw in 100? And specifically, I'm interested in any thoughts you have on how your partners approach their own OS development efforts, any switch standardization efforts, just any high level thoughts there. And then how do you think the margin opportunity for 400, how
does that compare to what you saw with 100?
In terms of the 400 gig architecture and how our largest customers are leading the way there, The entire architecture needs to differentiate a server flow, let's say, in a case, unable to go through the network. So you have to operate it end to end. You cannot just upgrade in silos and be done with it. For large scale architectures, upgrading the backbone and the DCI networks is almost necessary step 1 before you can do 400 gig in the broader leaf front design. And that's depend on VR, other OpEx and so on and perhaps the customer is going on already in the last trials that we are involved in today.
For AI, which are closed clusters, 400 is already starting to see a little bit of the economy, but these are still very small scale, simply a 30 to 500 ish type of design in a mini leased plan. And better, I'm just working with our customers very well. In this core development, it may not be just the OS, but problem I think we've already addressed with our best customers and partners. But actually core development with the NIC and the SPG and the GPU and so on, that is also happening already.
Your next question comes from Sami Badri with Credit Suisse. Your line is open.
Hi, thank you. I had a question for you regarding Ipswitch and just the operating margin drag that Ipswitch acquisition is going to create in 2020? And maybe I was hoping for some specifics on 2021 accretion that you mentioned. Is this a 1Q, 2Q2021 accretion or is this a back half of twenty twenty one accretion that you are anticipating?
I'll answer the second question and then yes, if you could I wouldn't call it too much of a drag, but maybe but in terms of when it will be accretive, the forecast we have challenged the team with is to be accretive by the end of 2021. Obviously, I'd like to see it sooner. Yes. I mean,
I think once we get out of Q1, Q1 was always going to be a quarter that was tight on the operating margin perspective just to confirm where the revenue came in at and the mix of business that we have with cloud being heavier. So you are seeing a lower kind of operating margin in Q1. I think once we get out of Q1, we talked in the last call about a 35% operating margin being kind of the target. And I think we can absorb this glitch within that, right, as we move through the year. And then we'll have more to say kind of on the top line on the next call once we sort out sort of the purchase accounting and then the stuff that we need to work through.
Got it. And just actually a clarification is the $100,000,000 run rate for campus, does that include any big switch contribution? Or is that just the stuff ex Big Switch?
No. Big Switch was not there in December 2019, right? So I was thinking about Q3 and Q4, we're well on our way to $100,000,000 And I just want to clarify, it's not run rate, it's revenue. So it's real revenue.
Your next question comes from Tejas Venkatesh from UBS. Your line is open.
Thank you. It looks like Microsoft was only down 5% in 2019, a bit better than what you were expecting. Given that in the past you provided early color on what Microsoft could be as a percentage of revenue, I was hoping Jayshree you could do that for 2020. And then secondly,
if you're I'd be a fool to do that right now. Wouldn't you say after the surprises we had last year? I'm teasing you.
Well, this one's much better. But the second thing I wanted to ask about was, is TRC Cloud now less than 10% of revenue? And is the visibility sort of improving given that it was such a drag in 2019? Thank you.
That's a good question, Tejas. None of our 5 verticals that I report are less than 10% revenue.
Your next question comes from Aaron Rodgers with Wells Fargo. Your line is open.
Thanks for taking the question. I kind of want to build on that last kind of question is, if you look forward, last quarter you alluded to that one of your large cloud titan customers were actually just flat out pausing with regard to their spending dynamic as it relates to maybe a server cycle of variable kind of consideration. As you think about your outlook today, how would you characterize if whether or not that's changed at all? Has a slowdown become more pervasive across your cloud titan customers? Just any kind of update on how you kind of roll up that cloud titan forecast this year relative to what you thought kind of the last quarter?
Yes. That's a good question, Aaron. So first of all, just to reiterate, all the surprises we received from that specific cloud titan remain and are being factored into the 2020 forecast. So those numbers will be lower this year, right? As for the other cloud segments, each one is unique.
So it's not necessarily feeding into the others. So that is specific to that one. And each one has their architecture, their timelines, their migrations, their CapEx plans. So I wouldn't roll one into the other.
Okay. Thank you. Thanks.
Your next
question comes from Paul Soliszky with Cowen. Your line is
open. I've got a similar question
but from a different angle, just like the cloud. So the impact of the quarters, Gary, something about that traumatic pause. I think you also mentioned the fact that it wasn't just a question of when they would return, to what magnitude when they did. So the question I now have to you is, I assume the definition of your visibility for microscopic system is not what it was when it's
been far from it. What visibility how
would you characterize the visibility today looking downstream, not just the next quarter to further out? Do you have any visibility as to what those customers will look like a year from now? And it's obviously about a quarterly period, but obviously speaking from an annual standpoint, what the contributions are there?
Hi, Paul. So if you go back consistently to our last 3 years, I think we've always said we don't have more than a 1 to 2 quarter visibility on any of our subchitings, and that hasn't changed. So I wouldn't be able to give you annual visibility of what the spend this year versus next year would be. I do think we get greater visibility in the second half of this year on how the next year will look like, but in terms of broad trends. But that answer hasn't changed despite the pause and puts and takes.
If I can ask, we don't have visibility into that surprises. Referencing the $1,000,000 plus deals you
did almost double over the past 3 years. Can you
tell us how many $1,000,000 deals you have in enterprise? 100, many 100.
I mean, it can't be many 100 because you're usually well beyond your $100,000,000 I'm talking about campus specifically.
You're only talking about campus? Oh, I see. I don't have that answer, but I was talking about overall enterprise, including campus.
Okay. So
you don't have to Your
next question comes from Jeff Paul with Nomura Instinet. Your line
open. Yes, thanks very much. We have been hearing from some of the
larger OEMs that the server chipset availability is a little tighter than they might
have hoped.
I wouldn't have necessarily thought that there would be an implication for Arysta a year ago, but given the tenor of the conversation we had last quarter, I'm wondering if that is something that we should be monitoring just in case some of your other webscale customers can't
get all the servers
they want or some of
the Tier 2 players can't get
the servers they want and that may then impinge upon your switch sales to them?
No, just it doesn't really impact us as much on our short term variation over there. Especially the cloud companies, they decoupled supply chain planning for these issues and have 1 or 2 months of gaps anyway. If it's a fluctuation of 1 or 2 months, it doesn't really impact us.
Okay. Thanks, Anshul. And then as a clarification, I think in the past, you've talked about the likelihood of coming back to year over year revenue growth in the Q4 of 2020. Is that still sort of a reasonable place for us to seek a yard mark?
Yes, Jeff. That's our hope.
Your next question comes from Alex Kurtz of TD Capital Markets.
Thanks. I just want to clarify the comment about the
sluggishness for cloud service provider and service provider.
That sluggish comment, Jayshree, and you have those for both
verticals? Yes. Combined. Combined. Okay.
Thank you. Jayshree, last quarter, you outlined changes in how you thought the cloud service provider segment was considering on prem versus on prem infrastructure spend and maybe some of them moving back to cloud. You just give
us an update on how you
see that vertical? I know you outlined it here in the growth projection, but that was a change from prior view. So I was just wondering if there's any
update on that segment specifically.
Nothing's changed significantly, although some of the Tier 2 cloud providers have resumed some small spend, but some of them are still evaluating.
All right. Okay. So no longer you don't see it as a near term secular opportunity right now from what you can see?
No, not in the first half. I think it's less of not a drag. I mean Not a drag, but not an amazing upside either.
Your next question comes from Paul Liani with Bank of America. Your line is open.
Hi, guys. Two questions. First, if I remove Facebook, which I have sorry, Amazon, Microsoft, which I have perfect numbers. I'm confused.
Eventually, I'm going to get to
the right answer. Yes. So if I remove Microsoft, which I have perfect numbers for both years, and then I assume this book is 9% last year because that's the highest number below 10% versus what's this year, the growth is only 6%. If I assume for Facebook 5%, again, it wasn't a 10% customer, so it has to be below that. So if I assume anything below, the growth is even lower than 6%.
So the question is, why aren't you growing faster with everyone else? Forget Facebook and Microsoft, why don't we see faster growth like we used to do? Because we've always been doing this exercise without Microsoft, and the growth was always very strong. And the second question, not related, why can you pause it?
We're still processing your first question because we're still trying to understand how you computed this. Did you compute deferred revenue in your question?
No, I did not.
The part of the the issue going from 2019 to 2020 is that
you have this deferred revenue, dollars 118,000,000 which is
like 5% of revenue, if
you're familiar with both, right, that
you have to backfill effectively
in 'twenty, right? That kind of puts a drag on the code before you start, right? So you have to adjust for that.
But even with that, what we're
saying is that cloud vertical will be kind of flat to down from a demand perspective, right?
Yes. By the way, is the deferred related to Microsoft or is the deferred related to everyone else?
If you trace back in time, it was non Microsoft and obviously it's
a large number. So you can figure out that it is a Facebook impact, right? And we talked about that as a 16.6% with the deferred, probably 12% of revenue is asset deferred, right?
Okay. Your
next question comes from Simon Leopold. Sorry. Your next question comes from Simon Leopold with Raymond James. Your line is open.
Great. Thank you. I got confused not only from Paul's question there. Anyway, I wanted to ask you about the commentary several of the hyperscale providers made about extending the useful lives of their servers. Wondering how that translates into your business for intra data center switching.
And if this was an aspect that you were aware of when you had provided your forecast last quarter or whether the commentary we heard during this earnings season was also new to you? Thank you.
No. Simon, when we did our earnings call last quarter, we very much stated what we have seen from at least one of the cloud titans where they were delaying the refresh. And now you've seen the market that some of the other companies are in this as well. But we're not seeing this with the other Arista customers so far even in the cloud space. So for us, it's limited to one customer.
We don't deal with the other large cloud company are listening to as much. So we're not as exposed But it's not a market wide spend. It's very specific to their architecture, the mix generation they're on and the sort of phase of offload they're looking for to decide which GPU generation to And
is there a way or some math to figure out how to translate if, say, they extend the life by 1 year. So instead of 3 year replacements, they get a 4 year. Is there some arithmetic or rule of thumb to help us think about how to quantify the impact for you?
We don't have it. I'm quite sure someone on this call has a model around that. But no, that's not something we thought it would affect. Okay.
Mostly it's a day over year in the spend.
Your next question comes from Jim Silva with Citi Investment Research.
I sincerely just had one question because I'm just a very simple guy and not as smart as others. But whether it be Jayshree or VIDA or Curtis, a quarter or 2 ago, you talked about applied cloud titan keeping a refresh cycle or elongating their purchasing. Some of the commentary back to that was, well, maybe they're using white box or maybe they found a better compute standard or a way to fit more through compression or duplexing or some other standard. Now that we've had several months behind us, can you give us any visibility of do you feel more confident that it truly is just a delay? Are they looking at other solutions?
Or just kind of revisit that topic?
Thank you.
Yes. So Jim, I think all the theories of those answers are not true. I think it has been pretty straightforward with us that they have always been using Arista as well as some internal development and we've been working with them on the internal development. So we feel very comfortable that their forecast has changed and they continue to be an important partner with us.
Okay. Thank
you so much. It's appreciated.
Thank you, Jim. Your next
question comes from Samik Chatterjee with JPMorgan. Your line is open.
Hi. Thanks for taking my question. I just wanted to kind of given kind of your commentary on the slow spending you're seeing from your customers, You obviously have a Q1 seasonality that's weaker than what we've seen historically. As we look through the rest of the year, is it kind of fair to assume given the visibility you have right now that the seasonality for the remainder of the year will be weaker than what we saw in normal years like 2018, for example. And are you still comfortable reiterating the full year guidance guide that you gave last time, which was the modest decline in revenues?
Okay. So Samik, I'm very confused by your question. We did not give are you talking about cloud customers or customers at large?
What's your question? Cloud customers.
Cloud customers. Okay, okay. That makes sense. Yes, yes. So look, we feel the same way as we did last time, which is we had a lot of weakness in the spending, and it's reflected in our Q1.
I think we will know better about the rest of the year when we get to the second half more. But as it stands, nothing's changed. The CapEx that they will spend, Arista feels in a very strong position to compete, differentiate and get the business. So we're not losing market share. We're winning the sockets.
But the rate of spend and adoption, we do believe, will be flat to down near this year.
Your next question comes from James Fish with Piper Sandler. Your line is open.
Hey, Jamie. Happy almost Valentine's Day.
Can you guys go over
the linearity of the major customers over the course of the year and if it's not half loaded at all? And just wanted to be clear, is CloudTitan going to be flat to down double digit on top of the $118,000,000 headwind? Or is the flat to down double digit inclusive of the headwind?
Right. So the meaningful revenue decline and the double digit are all referencing revenue, right?
So saying basically the revenue numbers will decline meaningfully, right? That includes $118,000,000 right? When we talked about demand and we said that we expect it
to be flat to down, that's not referencing
that double digit number, right? That's a commentary that obviously will play out as you see where it goes, but it's not trying to say that it's a double digit number.
And then to answer your question on Q4 linearity, I'm just looking at the chart now Scott has given me, it was pretty linear across the 3 months. We had a record $1,000,000 of customers in Q4 and good spend across our top 50 customers. So nothing unusual except more campus.
Your next question comes from Tim Wong with Barclays. Your line is open.
Hi, Tim. Tim, are you there? Tim? Tim? Let's go to the next one.
Tim, call back.
Your next question comes from Ryan Coons with Capital Markets Securities. Your line is open.
Hi. Thanks for
taking the question. I was wondering if you could
speak to your outlook for international. Obviously, hyperscale has been
a big piece of that shipping to their international destinations.
But you could speak to kind of any updates on strategy or channel development there that's going to supercharge that business for you?
Anshul and the team have invested pretty significantly in international, especially, of course, the developed countries in Europe and Asia Pac. We had a strong quarter, and we're starting to see some important customer wins in the enterprise and even some small service providers. We obviously are much more channel led in international. That's always been the case. So that's been a strong area of experience for us.
And I actually want to add to that. I think that's a strong area of growth.
No, actually, as both in headcount growth, we actually have a significant amount of heads added to international. And on the channel side, the channel development plan we have is a separate one for years. So the separate one called EMEA and APAC as well, with a different ecosystem, different sort of health management and so on. And that's coming along reasonably well. As Jesi mentioned, the international locations are mostly for the supply channels, but now we're working with time to make it channel later as well.
So if we remove clouds and so on, the rest of the organic international business is doing well.
And one other just quick add to what Danshu said, generally our customer logos are higher internationally than in the U. S. Lower purchase of sale, but out of the 5,300 cumulative customers have come international.
Your Your
next question comes from Tim Wong with Barclays. Your line is open.
Okay. Sorry about that. I just wanted to ask hi, how are you doing? I just wanted to ask kind of 2 related questions. First, could you talk a little bit there's been a lot of chatter about silicon diversification in switching areas.
So can you give us your views obviously with the big customer making announcement and starting to talk about some traction there? So what do you think the impact is there? And related, what are you seeing just overall on white box these days? Are you seeing any change to who's using it or how they're using it?
Thank you.
Okay. Well, as you know, Arista has always been a big proponent of merchant silicon. And ASICs notwithstanding this new announcement have been around 30 years. It's not ASICs by themselves are not new. We do see 3 dimensions.
1st of all is from a best of breed system standpoint, we couldn't be more pleased with our system we received from Broadcom, both on the Trident Tomahawk side and Jericho. We have very high confidence. It's a case where you can't just build one point product. You have to have a full roadmap. And we've always been ahead of vendor specific ASICs, and we believe that will continue.
In terms of software, silicon by itself is not so interesting if you can't build the system. So obviously EOS, we feel is the most competitive software differentiated across many merchant silicon devices. I think it's we've supported it over 18 silicon family, maybe more than that. And so in general, we feel like that leaves only one other thing, which is Cisco selling chips. And obviously, different browsers are going be competing with Intel and Broadcom on that one.
Your last question comes from Paul Leiani with Bank of America. Your line is open.
By the way, I just want to comment something. We'll take it offline, but we shouldn't remove the curve that I can explain later why. The number is the number. You can remove both sides. But in any case,
I wanted to ask about the gross margin.
Why is it declining sequentially next quarter? I don't think anyone asked this question.
No, they didn't. Sorry, I
just talked to our customer mix, right? We were
a heavy enterprise and financials in Q4,
and we'll be heavier cloud mix in Q1. Q1 always has a heavier cloud mix because enterprise just takes time to ramp in the Q1.
Got it. Thank you. Great. All right. Okay.
So this concludes the Arista Q4 2019 earnings call. Thank you for joining us today. Please note that moving forward, our earnings calls will move to Tuesday, starting with the Q1 2020 call, which will take place on Tuesday, May 5. Lastly, we have posted a presentation, which provides additional information on our fiscal results, which you can access on our Investors section of our website.
Thank you for joining, ladies and gentlemen. This concludes today's call. You may now disconnect.