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Great. Hello, my name is Colin Loyet. I'm on the Internet and Interactive Entertainment team here at Baird, working on a call with Sebastian. Today, we're happy to have here with us NetApp's VP of Investor Relations, Kris Newton. Just to start us off, she's going to have a safe harbor to read for us.
Hey, everyone. Today's discussion may include forward-looking statements regarding NetApp's future performance, which are subject to risk and uncertainty. Actual results may differ materially from the statements made today for a variety of reasons, described in our most recent 10-K and 10-Q filed with the SEC and available on our website at www.netapp.com. We disclaim any obligation to update information in any forward-looking statement for any reason.
Okay, great. I guess if you wouldn't mind, just for people that are either new to the story or not as familiar with NetApp, could you kind of provide an overview of the company and maybe bring us up to speed on where we're at today?
Sure. NetApp is a 30-year-old company, and we've really transformed the business over the course of those 30 years. At the heart of what we do is deliver value through a software solution called ONTAP. It does data and storage management. The focus of ONTAP has always been how do we enable our customers to do more with less resources, greater efficiency, find greater time to value. Historically, we've monetized ONTAP through the sale of an integrated hardware software stack, initially through a disk-based system and more recently through all-flash systems. Most recently, we've started monetizing ONTAP through the public cloud as well.
We have partnerships with all the leading public cloud providers who make ONTAP available to their customers through a branded solution native to the public cloud, helping us reach a wider and wider scope of customers and put more data under the management purview of ONTAP. We break down our business into two segments: a hybrid cloud segment, which is largely the traditional sale, a CapEx sale of product and associated support, with a growing portion of storage as a service, and then a public cloud segment that includes our relationship with hyperscalers, as well as some additional public cloud services available through marketplace. We generally sell to large enterprises. Our history has largely been on the file or unstructured side of the business, so selling file and then unified storage appliances to large enterprises.
In the past five years, and we included a chart of this in our most recent earnings materials, we have really transformed our business away from a legacy hard disk drive business, which five years ago made up the majority of our revenue, to today, a business that is largely driven by our public cloud services and our all-flash solutions. Together, those businesses make up more than 2/3 of the total revenue. In FY 2025, which is the year we just closed and we just announced our earnings last Thursday, we set a number of records, records for total revenue, all-flash revenue, support revenue, public cloud revenue. We set non-GAAP gross and operating profit records. We set records for non-GAAP operating margin and non-GAAP EPS. As we look into FY 2026, we feel we are in a really good position. We have a fully refreshed product portfolio.
We're entering the year on the back of strong market share gains. We feel like the market is more and more moving to us where customers recognize the value they can get by unifying their storage and bringing high levels of data management to bear against it.
Okay, great. Yeah, so a lot to dig in there. Very comprehensive. Really appreciate that. You talked about the cloud infrastructure and hyperscalers, and I'm sure we're all aware of the CapEx figures this year. If you combine the top four, it's about $250 billion this year, which is a lot of money. You spoke about how you have partnerships with those companies. With NetApp partnering with people like GCP within Google, AWS, Amazon, Azure, could you just kind of explain the nature of these partnerships? And then if you wouldn't mind, why would these companies be purchasing from you? They have all the money in the world. Yeah.
Yeah, so just a point of clarification. They're not actually for our partnerships. They're not buying from us. They have looked to leverage the ONTAP software value into their clouds and make that available to their customers. The clouds have been really great at block storage and at object storage. The one area where they historically faced some challenges was in the area of high-performance file services. For a lot of enterprises that are looking to do cloud migrations, high-performance file services are really important. About close to 10 years ago now, we made ONTAP available in the marketplace of all the leading hyperscalers, starting with AWS and then expanding beyond that. About five years ago, we entered into an arrangement with Microsoft Azure. They had some customers that were migrating to the cloud, and they thought they could benefit from ONTAP.
To speed time to deployment, we deployed our systems in the Azure Cloud and stood up a service called Azure NetApp Files. That has been very successful for both companies. We have since entered into arrangements with Amazon, where we are deploying our ONTAP software directly on the infrastructure in the AWS Cloud available in every AWS region. Most recently, we have added a relationship with Google. The Amazon services, Amazon FSx for NetApp ONTAP, and then with Google, most recently for Google Cloud NetApp Volumes. That service is all based on ONTAP. For customers that use NetApp, both on-premises and in the cloud, they can have a consistent operating environment regardless of where their data resides and really think logically about how they want to manage that data and bring it to bear for different use cases.
For new-to-NetApp customers, consuming NetApp in the cloud is a much easier entry point. You're buying capacity on a per-month basis, and that's a lot easier to do than, say, do a big CapEx expenditure. We see cloud as a great way to attract new customers who can learn the value of ONTAP. The cloud providers themselves have a significantly broader reach when it comes to sales than we do. We're able to reach a broader set of customers, both because of their bigger reach, but then also customers who don't have data centers and wouldn't be able to consume our traditional CapEx systems can benefit from NetApp in the cloud. Customers who are smaller and may not have a dedicated IT organization where it would make sense for them to use something like NetApp on-premises can also benefit from NetApp in the cloud.
We bring them the value of our robust, enterprise-tested, high-performance file services, and then we benefit in a broader reach for customers.
Got it. Yeah, that's very helpful. That will probably play into the next question here. If we start at the top of the P&L, work our way down here, how do you think about the drivers of revenue for this upcoming fiscal year and kind of beyond that? If I can throw in a second part, how do these drivers kind of influence the growth over the next fiscal year with different segments? You talked about with the hyperscaler integration. That would be very helpful.
Yeah, sure. We held an analyst day exactly a year ago today. At that investor day, we laid out four primary vectors to drive top-line growth. The first is all-flash. That market is benefiting from some secular technology transitions away from hard disk drives in the mid-range to flash-based technology. We are seeing growth there. Also, we recently entered the block-only market. I'll give a little bit more on that in a second. That is a share gain opportunity for us as we displace legacy players in that space. Cloud that we talked about. Still in very, very early innings, the rise of enterprise AI. I'll talk a little bit about each of them. I'll start with all-flash. As I mentioned, the market's going through a secular transition in the mid-range.
The high end of the market where people are willing to pay for performance had already transitioned to all-flash, and we have a good business addressing that portion of the market. We're seeing this good shift in the mid-range. We're not only converting our existing customers to our newer C-Series QLC-based all-flash product, but we're also able to displace legacy players because often in their environments, the shift from their former hard disk environment to their new flash environment involves a fairly heavy lift-and-shift migration, which opens up the field for competitors. We're seeing good competitive displacement as well as just general market growth in the all-flash market. As I started at the beginning, what we sell is ONTAP. ONTAP, by its nature, is a unified storage environment.
We got our start in the file space, but in the early 2000s, we added Unified to expand to block, most recently object. However, there is a very large portion of the storage market that only requires block services, and they do not need the value that Unified brings. That means they are not willing to pay for Unified. We brought forward a version of ONTAP that is optimized for block only. That gives us the right product features at the right price point to go after that big block market in a much more optimized and efficient manner. We are seeing good displacement of legacy players there. According to IDC in calendar 2024, we gained a point of share in the block space, which is a lot for a market that is mature and has been fairly stable for some time.
I feel like I beat the cloud growth vectors to death, but I will add that our first-party and marketplace services have been growing in excess of 40%, almost the entirety of last fiscal year. We expect continued very strong growth there. Finally, enterprise AI. A lot of the focus of AI has really been on model training, but now it's time to take those large language models and put them to use in enterprise to recognize revenue and efficiency gains. We think this is going to be a pivotal year for AI as companies look to deploy AI centers of excellence, putting those LLMs to use and inferencing. We expect to see continued uptick. We've been servicing the boring traditional AI market for some time now, doing things like machine learning, analytics, industrial AI. Gen AI is still in the very early days.
We did say on our recent earnings call that in Q4, we saw about a fivefold increase in the level of business around AI. We closed over 150 AI or data lake modernization deals in the quarter. We see a lot of growing excitement from enterprise customers and an urgency to attack the AI market and take advantage of it in our customer base. That is a really exciting thing that we think will start to contribute more meaningfully as we step through 2026 and beyond.
Got it. Yeah. You kind of touched on this a little bit, but talking about the competitive landscape, you talked about in your last earnings call, you had some share gains. Where specifically are you seeing those share gains from? On the competitive front, on the landscape, where are you kind of seeing that going? What about over the next trend over the next year? Where do you think you're taking share within that?
Yeah. The overall storage market is like a low single-digit growth market, but we've really worked hard to pivot our revenue streams towards the higher growth aspects of that market. Most notably, the all-flash market, which is growing kind of in the upper single digits. According to IDC, we gained almost three points of share in the all-flash market in calendar 2024. That was more than any other company that they track. They do a pretty good job at tracking everyone and came at the expense of all the traditional storage players that you can think of. We also gained almost a point of share in the block space, again, really coming from those more traditional players.
Looking ahead, we expect to continue to gain share and grow above market as we see customers continuing to show preference for NetApp, the solutions we bring, and the ability to build an intelligent data infrastructure leveraging NetApp technology.
Got it. Very helpful. If anybody has any questions, feel free to put up your hand or email the placard in front of you. Otherwise, we'll continue with the Q&A. Okay. Just kind of moving down the P&L a little bit, let's talk about gross margins. For a hardware company, relatively high gross margins, I think it's hovering around the low 70%. What are the puts and takes on those throughout the year? Are there any headwinds that investors may have missed to gross margins that may have been overlooked or anything to think about?
Sure. In our reported materials, we kind of give insight into four aspects of gross margins. The first is product gross margin. We've said our target range for product gross margin is in the mid to upper 50s. We're right about there right now. We think Q1 will be relatively flat quarter on quarter from Q4, and we should see a gradual increase throughout the year. That's driven by some recent list price increases that we made kind of exiting in the latter part of last year. They should start to come through. The continued shift of our portfolio to all-flash, which carries a slightly higher gross margin than our disk-based systems, also contributes. We have support gross margin. That's been pretty steady at about 92%. I expect it'll stay there. We have a professional services line, professional and other services line.
That's relatively small in the mix of things, but we do expect gross margin to improve there, driven by the growth of our Keystone storage as a service business. Finally, our public cloud gross margin exited the year at 79.3%. We expect to see a continued increase from there, going up above 80% as we move through fiscal 2026.
Got it. And then kind of last question on the P&L, but earnings last year grew 12% year over year. What are the expectations for earning growth this upcoming year? Any macro factors baked into that? There's a lot of stuff going on. He really knows what's going to happen tomorrow, the next week. So anything around that would be helpful.
Yeah. It's an understatement to say there's a lot going on in the macro. It's our intent to grow OpEx at a lower rate than revenue. Our CFO said on the call, over time, you should expect OpEx to grow about half that of revenue. Never perfect in any given quarter, but generally speaking, that's sort of the relative relationship you should expect. We expect continued earnings growth driven by the leverage through this business model. We foresee revenue growth for FY 2026, some gross margin expansion. All those four lines coming together do lend to a slight improvement in gross margin in our expectations. Continued discipline at the OpEx line. We're continuously looking at where we're invested to make sure that we're allocating resources against the biggest opportunities. We talked about adding quota-bearing sales capacity as we move through 2026, which will help drive revenue.
We talked about making targeted investments in R&D around AI and flash, innovating through software. All that comes together to drive some operating leverage. I'm sure you'll ask about this, but we are doing buybacks that reduce share count. That helps accelerate the earnings growth.
Yeah. That was my last question was about the capital allocation, but maybe we can take that until a little bit later.
Sorry.
No worries. I wouldn't be a good internet analyst if I didn't ask about AI, so we have to address it. It has become a pretty core theme at every conference. What is NetApp's strategy to capture the shift towards AI? Any opportunities that you're looking at? Just over the next one to three years, what is kind of your vision on AI within NetApp?
Yeah. So we look at AI in three ways. How do we use AI internally to drive efficiency and increase revenue opportunities? I can tell you that I have a target to make myself and my team more efficient through the use of AI. I know I'm not alone. We also look at how do we embed AI into our products to help make our customers more efficient. We have things like predictive data analytics. For hybrid flash arrays, we can look to predict what the next data might be to improve the performance of a hybrid flash array. For example, we also have some caching capabilities to help cache colder data into the cloud and recache it back on-prem when we think it'll be used next. Finally, AI is a huge market opportunity for us.
In fact, we think in this fiscal year, we'll actually see the storage demand for enterprise AI inferencing and RAG technologies to outpace that of model training. I think this is going to be a really pivotal AI year in the storage market. Still very early innings, and I think a lot of opportunity ahead, but we have a number of customers deploying NetApp for AI today. We see companies looking to modernize and unify their data estates. A lot of studies show that a data scientist probably copies data like eight to 10 times, which is an incredibly inefficient use of a very expensive resource. We see companies looking to pool their data in a more unified fashion to bring it to bear in AI workloads. That's been a good business for us.
We see companies looking to build AI centers of excellence where they're leveraging large language models against their enterprise unstructured data to gain insight and efficiencies. Finally, we're also selling to tier two cloud providers who are looking to deploy AI as a service for their customers. For NetApp, the entirety of our portfolio is brought to bear in these AI opportunities. For companies looking to deploy AI centers of excellence, they're probably looking at our all-flash systems to get high-performance storage in those environments. For companies that are looking to modernize and unify across their infrastructure, they're probably looking at our object storage and unified storage flash systems. For CSPs, we see companies looking to both leverage our cloud services in conjunction with AI tools in the cloud, as well as build their own clouds leveraging our products.
I think it really will benefit across the board in everything we do. A lot of the early enterprise AI activity has been in the cloud while companies are experimenting. NetApp services plus the AI tools that are native to the cloud providers make a great solution to test and trial. Then as those projects become fruitful and companies want to deploy them in production, bringing that back on-premises where the huge pool of enterprise data sits is probably the next step, and we can work with them with our unstructured and unified data. I think it's a great opportunity for us, really excited about the AI future.
Yeah. No, it's very interesting. I could ask you a lot of questions about, especially with enterprise AI. Yeah, it's all interesting. If we kind of step back, big picture, what are you guys seeing in the macro? I know we talked about it a little bit with earnings, but what's currently baked into the guide? Any puts and takes on how this might affect your guidance over the next year or so.
Yeah. I would say the macro is uncertain. There's probably increased uncertainty compared to where we were six months ago. We've embedded in our guidance kind of some potential customer caution around that uncertainty. Additionally, we're a big supplier to the U.S. federal government, so we've included some caution around our U.S. public sector business. We're the number one supplier or number one market share vendor in a lot of European countries. There have been some concerns around GDP of certain manufacturing or export-driven European countries. We've embedded some caution there. I'd say you'll see that show up in the near term, but that's somewhat mitigated by the overall confidence we have in the fully refreshed product portfolio, expected continued share gains, increased sales capacity, and the customer conversations we're having around big data modernization and AI deals.
It's sort of a cautionary environment, cautious environment, but we're incredibly confident about the value that we're bringing to customers.
Got it. Yeah. No, it's probably going to be changing next week anyway. No, that'll be.
Tweet by tweet.
That's right. Tweet by tweet. Kind of from an investor's point of view, after earnings, do you think there's been anything that investors may have not understood from the last earnings call? Or do you think there's anything that people as of late have been misunderstanding about NetApp that maybe could be conveyed differently? How do you think about that?
Yeah. I think there are two big things. I think the investment community really understands it. The sell side might be a little behind, but I think the buy side really does understand what's happening. One, the nature of our revenue transformation, I think, is really important. We've successfully managed to go through some significant technology transitions, not only see our customer base through those technology transitions, but gain share from competitors through that. Those newer revenue streams in flash and cloud carry a higher gross margin, so it's higher quality revenue in addition to going through the revenue transition. I think that's really important. As we said on our call, we think that the fact that we've gone through that transition will enable us to deliver sustained growth into FY 2026 and beyond.
I think the other thing that the street sometimes misses is the importance of our cloud business. We've had, admittedly, some fits and starts, but we've really honed the services in our cloud portfolio. We've doubled down on the unique and highly differentiated first-party and marketplace services that we have and where we're seeing really strong growth. We expect to see good growth from that business with expanding gross margins, really adding to the overall gross profit of the company. I think that'll be a material thing as we step through 2026.
Got it. No, that's helpful. I guess we have two minutes left or a little bit under two minutes. Last question is, with these investors here, what do you think that we should take away from this presentation to be incremental buyers as we kind of leave?
Sure. For anyone who followed NetApp five years ago, I think fundamentally we are a changed business. You can forget about the history and really look to the future. I think that's probably the biggest takeaway that I would offer anyone. The market is moving to NetApp, and you can see it in the market share data. Customers are choosing us more and more to prepare them for an AI world of the future. NetApp can help customers build an intelligent data infrastructure that unifies their data, enables them to manage it logically, provides high levels of cyber resiliency, security, data protection, all things that I think become more and more important to enterprises as we move into a heavier and heavier AI world.
That's great. Thank you, everybody. And thank you, Kris, from NetApp.
Thanks for having me.
Yeah, thank you.