Ladies and gentlemen, thank you for standing by, and welcome to the Pure Storage third quarter fiscal 2020 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star one on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star zero. I would now like to hand the conference over to your speaker today, Head of Investor Relations, Matt Danziger. Thank you. Please go ahead, sir.
Thank you, good afternoon. Welcome to the Pure Storage third quarter fiscal 2020 earnings conference call. Joining me today are our CEO, Charlie Giancarlo, our COO, Paul Mountford, our Vice Chair, David Hatfield, and our VP of Strategy, Matt Kixmoeller. Before we begin, I would like to remind you that during this call, management will make forward-looking statements which are subject to various risks and uncertainties. These include statements regarding competitive industry and technology trends, our strategy, positioning, and opportunity, our current and future products, business and operations, including our operating model, growth prospects, and revenue and margin guidance for future periods. Any forward-looking statements that we make are based on assumptions as of today, and we undertake no obligation to update them. Our actual results may differ materially from the results predicted, and reported results should not be considered as an indication of future performance.
As a discussion of various risks and uncertainties relating to our business is contained in our filings with the SEC, and we refer you to these public filings. During this call, we will discuss non-GAAP measures in talking about the company's performance, and reconciliations to the most directly comparable GAAP measures are provided in our earnings press release and slides. This call is being broadcast live on the Pure Storage Investor Relations website and is being recorded for playback purposes. An archive of the webcast will be available on the IR website for at least 45 days, and is the property of Pure Storage. With that, I'll turn the call over to our CEO, Charlie Giancarlo.
Thank you, Matt, good afternoon, everyone. Thank you for joining us on today's earnings call. I will begin by sharing our high-level results and highlights from the quarter. Hat will provide a go-to-market update, and I will close with our guidance for the remainder of FY 2020. Revenue for Q3 was $428 million, up 15% year-over-year, significantly faster than our major competitors and the market as a whole. Continued pricing declines, which were higher than we expected, accounted for the gap to our revenue expectations at the beginning of the quarter. Although we are also seeing signs of a more challenging global business environment, as commented on by other large infrastructure suppliers. Despite these in-quarter headwinds, Pure achieved all-time high gross margins this quarter of 71.7%, well above our guided range of 66%-69%.
Operating margin for the quarter was 6.8%, at the high end of our guided range. These results speak to the resiliency of our model in the current environment. Turning to executive leadership. We recently announced important changes to our leadership team at Pure. After almost seven years, David Hatfield is starting a new chapter at Pure, transitioning to vice chair and serving as a strategic advisor to Pure, reporting to me. Hat is moving into a role where he can leverage his passion, focusing on delivering Pure's value and vision to new customers and partners globally. I'm very excited that Paul Mountford has joined Pure as chief operating officer on November 4th. Paul was most recently CEO at Riverbed Technology, and earlier held the role of chief sales officer.
His deep knowledge and experience makes him the right person to drive Pure's next stage of growth and extend our market leadership. Paul assumes responsibility for all go-to-market activities, including sales, channels, alliances, and marketing, as well as customer experience, including support and professional services. Third, we announced today that Kevan Krysler will be joining Pure as our new CFO in early December. Most recently, Kevan was Senior Vice President of Finance and Chief Accounting Officer at VMware. He will bring a wealth of experience both in finance and in building scale, and has highly relevant industry experience. Prior to VMware, Kevan was a partner with KPMG, where he served both multinational and emerging software and technology companies. He will participate in our next earnings call. These changes and additions to our team will set us up for an incredibly successful second decade. Turning to highlights from the quarter.
We hosted our largest-ever Pure//Accelerate user conference in Austin this past quarter. We introduced almost 12 new products and services, which were all immediately available. We also shared our vision, which will power the next decade of Pure's innovation and growth. We call this vision the Modern Data Experience. In Pure's first decade, we redefined what a modern data storage array looked like, fundamentally resetting the bar for the competitive landscape. Despite these advances, data storage still remains the least cloud-like layer of technology in the data center. Delivering data storage in an enterprise is still an extraordinarily manual process, with storage arrays highly customized and dedicated to particular workloads. It is data that powers digital transformation. Data storage remains one of its biggest obstacles because of the limitations of today's 30-year-old storage architecture.
Pure is transforming storage to a modern, more cloud-like model, helping our customers to run their operations as a true automated storage-as-a-service cloud, delivering consistent data services seamlessly across on-prem and public cloud infrastructure. Pure delivers this Modern Data Experience through our products, solutions, and services built around four key tenets. First, we believe fast matters. Whether we're helping customers launch rockets, detect real-time threats, or compile code and push releases, fast matters. When looking to deliver data for high-performance applications or enabling multiple applications to access data on one consistent platform, fast matters. We deliver solutions that push the boundaries on low latency with our new FlashArray with DirectMemory, high bandwidth for big data with our new twice as large FlashBlade, and greater efficiency with our end-to-end QLC optimized FlashArray//C. Second, we believe in cloud everywhere.
Organizations want to both transform their on-prem operations to the cloud model and seamlessly link to the public cloud for IT agility. Customers also want a single, consistent data storage architecture for all clouds, public and private. Cloud Block Store provides multi-cloud consistent operations, including migration, test dev, disaster recovery, and protection for all applications. Our offering on AWS was made generally available this past quarter. We recently previewed Pure Cloud Block Store on Microsoft Azure at the Microsoft Ignite Conference. Third is a core belief that simple is smart. As we all know, making things ridiculously complex is standard practice in IT. Making things simple is hard work. Pure has built a reputation for delivering products that manage themselves. For those elements that don't, we leverage increasing intelligence from our Pure1 Meta AI engine to deliver a self-driving, self-managing storage experience, preventing problems and enabling as-a-service automation.
We are leveraging these capabilities to simplify the entire enterprise storage experience. Finally, a subscription to innovation. Unlike other products on the market, Pure products look and act like a SaaS service in terms of continual upgrades and new functionality. With Pure's Evergreen Storage, every product a customer has bought in the past and every product they buy today will always be new and will constantly evolve towards an ever more Modern Data Experience, all without service downtime or paying for the same storage twice. Pure is leading the industry in both delivering the Modern Data Experience as well as allowing customers to consume as a true 100% OPEX service. We have seen strong traction and adoption for Pure as-a-Service, formerly ES2, signaling a trend from customers for this type of consumption model.
Unlike other offerings in the market, Pure makes its entire portfolio available as a service. We have reimagined the box-based enterprise storage environment as an integrated enterprise-wide storage experience. We're delivering storage-as-a-service to fuel our customers' digital transformation. Pure's Modern Data Experience sets us up well to continue to grow our share of the large data storage market. With that, I'll turn it over to Hat.
Thanks, Charlie. We believe that our Modern Data Experience is the way forward, enabling digital businesses to extract more value from their data while improving performance and reducing complexity and expense of managing infrastructure. Everpure's modern approach helps companies deliver on their most strategic initiatives, empowering them to achieve outcomes that were not previously possible. Everpure is taking market share. At our investor day, we shared that Everpure was growing 10x faster than our closest competitor. Customers are being done a disservice by others in the industry who still require forklift upgrades and who are not innovating while Everpure's customers benefit from our expanding technology portfolio, industry-leading customer satisfaction, and differentiated Evergreen ownership model. Everpure is being chosen because we enable customers to modernize their existing applications and accelerate their adoption of multi-cloud, containers, and real-time analytics.
Our focus on the cloud, enterprise, commercial, and government segments continues to progress nicely. We finished the quarter with more than 7,000 total customers, adding approximately six net new customers per day, equating to nearly 400 new customers in Q3. The government segment, in particular, continued to be a bright spot in Q3, with business doubling on a year-to-date basis. Turning to momentum in our portfolio. Our ability to make the Modern Data Experience a reality for customers today and into the future has never been more evident.
Our industry-leading Pure1 SaaS platform makes it extremely easy for customers to manage their hybrid cloud environments across our portfolio, including FlashArray//X, FlashArray//C, FlashBlade, and Cloud Data Services. Pure's simple and automated platform allows customers to consolidate their primary and secondary workloads, delivering faster access to more of their data at a much lower total cost of ownership, and is an ideal fit for next-generation data analytics and rapid restore use cases. Following our announcement at Accelerate, we have seen the fastest growth of any product we have ever launched with the introduction of our FlashArray//C, targeted for tier 2. In the quarter, ServiceNow, a leading SaaS company, an existing customer of FlashArray//X and FlashBlade, has now added the all-NVMe FlashArray//C to their environment with the goal of eliminating spinning disk for tier 2 workloads.
We share their vision of creating an all-flash data center for better reliability, cost, and performance, so they can continue to deliver world-class service levels for their customers. Pure's Cloud Data Services, including Cloud Block Store on AWS, enables data mobility and empowers customers to achieve on-prem economics in the public cloud. As part of our multi-cloud strategy, we recently launched our technical preview of Cloud Block Store on Microsoft Azure at the recent Microsoft Ignite conference. With a growing set of products and unique Pure as-a-Service subscription model, customers can take advantage of our innovation on-prem or in their preferred public cloud, whenever and however they want, today or in the future. We've always been the most innovative, now we are also the safest choice for customers.
Lastly, on a personal note, I want to take a moment to thank our customers, partners, and the Pure team for the past seven years. They have been the most fulfilling and rewarding of my career. Together, we changed the industry with Evergreen Storage, built an incredible company culture, and grew the business from zero to more than $1.5 billion, as fast as any enterprise IT company in history. I'll be staying on in my new role to help with transition, planning, and strategy. I'm excited that Paul has joined the team as COO, and I look forward to partnering closely with him to help set up 2020 and beyond for incredible success. While my role is changing, what will never waver is my excitement and enthusiasm in our ability to make an impact on our customers every day.
We are as optimistic as ever to execute on our long-term vision to deliver the Modern Data Experience and provide freedom for organizations to build for today and tomorrow. We truly are just getting started. With that, I will now turn it back over to Charlie. Charlie?
Thank you, Hat. Moving to key financial highlights. We finished the quarter with cash and investments of $1.2 billion, an increase of $59 million from the previous quarter. Free cash flow in Q3 was strong at positive $43 million. We delivered strong deferred revenue again in the quarter. At the end of the quarter, deferred revenue was $643 million, an increase of 39% over the same period a year ago, and included a record amount of Pure as-a-Service deals, again, formerly ES2. I will turn to guidance. In setting our guidance for the remainder of the year, we have taken into account the pricing declines we've seen in the past two quarters, as well as a more challenging global environment. We are highly differentiated as evidenced by our industry-leading growth and gross margins.
Accordingly, we remain focused on continuing to invest in a fiscally prudent manner, as evidenced by our operating profit guide, which is within the range that we offered last quarter. For Q4 of fiscal 2020, we expect revenues in the range of $484 million-$496 million. $490 million at the midpoint. Gross margin in the range of between 67.5% and 70.5%. Operating margin in the range between 10% and 14%, or 12% at the midpoint. For the full year of fiscal 2020, we now expect revenues in the range of between $1.635 billion and $1.647 billion, or $1.641 billion at the midpoint. Gross margin in the range of between 69.2% and 70.1%. Operating margin in the range of between 2.6% and 3.9%, or 3.2% at the midpoint. With that, we'll open it up for questions. Operator?
As a reminder, to ask a question, you will need to press star one on your telephone. To withdraw your question, press the pound key or hash key. Please stand by while we compile the Q&A roster. Your first question comes from the line of Alex Kurtz from KeyBanc Capital Markets.
Thanks, guys. Can you hear me okay?
Yes. Hi, Alex.
Hey. Good afternoon. Hat, it's been great working with you. Hopefully, we'll hear you on future calls. Thanks for working with the investment community.
Thanks, Alex.
A near-term and long-term question here. Real quick on the quarter, Charlie, when you look at units or deals or however you want to look at it, like excluding the ASP dynamic, did you hit that number? Was there deal slippage that was part of this, or is it really on the pricing and you actually got to the number of arrays shipped?
Yeah.
Longer term. Go ahead.
Yeah, go ahead. Sorry. Let me answer that and then I'll let you go on.
Yeah.
Yeah, in turn, we shipped all the units we expected to ship, so it really was an overall pricing issue. That made up for all of the miss. It was entirely on target.
Okay. I think longer term, the question is going to become, customers get used to the lower pricing in the broader all-flash market, right? I think there's a fair skepticism among investors that even with the NAND environment being more favorable for you and your competitors over the next couple of years, perhaps, customers aren't going to respond and allow the market to see a pricing increase. What gives you the confidence that that's not going to happen, that the customers aren't going to just acclimated to the new pricing levels that we're seeing right now?
Well, interestingly, Alex, it's good when customers get acclimated to the new pricing because it allows elasticity to take place and to penetrate. Remember, flash is less than 20% of the overall storage market by bits. It's 30% by dollars, but less than 20% by bits. As pricing goes down, we get to take up more of the magnetic market. The issue is that when pricing drops so quickly in an individual quarter, the market doesn't catch up on elasticity. We saw a double-digit drop in pricing each of the last two quarters. That's just very unusual. It was obviously difficult to predict that sort of thing because it's not normal. Now that pricing is where it is, that bodes well for volumes as we go forward, and it can't continue to drop at that rate. FlashArray//C takes advantage of this.
FlashArray//C is going to now start to penetrate what are typically magnetic workloads in the so-called second-tier market. That's a very good thing for us. Pricing will eventually moderate, will reduce its rate of decline, will continue to decline, but reduce its rate, and that's very good for the Flash business, very good for us.
All right. Thank you.
Your next question comes from the line of Ittai Kidron from Oppenheimer.
Thanks. Maybe, Charlie, I'm going to follow up on Alex's questions. Can you talk about how pricing was in the first three weeks of November? What is your working assumption with regards to your guide, that you are stable pricing from here, or there's more to come? I have a follow-up.
Yeah. Pricing varies a lot week by week, just deal dynamics as you go through, so I can't call exactly when pricing will ease in our market. What we do know is at the commodity level, pricing has not just firmed up, but is higher right now. Commodity pricing for NAND is, in fact, higher as of this month. How long that takes to go through everybody's inventory and the market and pricing, by the time it gets to array pricing, that's why right now we're in a market that's a little bit more challenging to forecast.
Got it. As a follow-up, not that anyone doesn't appreciate good profits, but could one make the case that you're under-investing in your business? Given the growth in your portfolio and what it's reaching from a vertical, an enterprise tier, an application and use case tier, shouldn't you perhaps invest more in your operating business? How do you feel about productivity level? You haven't mentioned that. I assume you're happy with productivity?
Let me start with the first part of that, and I'll pass the productivity one over to Hat. Unfortunately, one can't have it both ways. That is to say, investing aggressively in the business, even during a period of headwinds, and also showing investors and your own company that you can be fiscally responsible. More than that, honestly, every company, we're in a bit of a cyclical business, and we take these opportunities to drive more efficiency out of the business and to allow the organizations to catch up on the growth that they've already put into place and make it more productive. I actually view this as an opportunity to drive efficiency in the operation. As the business hopefully picks up, which I expect it will at some point, we'll begin some additional investment. Hat, do you want to talk about productivity?
Yeah. Productivity is in line with our expectations. The latest cohorts that we brought in are our largest classes, and they're coming in in line with the most productive cohorts from earlier on. Now, we did put a lot of those into the enterprise segment. The enterprise segment, we knew, as we shared in previous quarters, take longer sales cycles, et cetera. With some of the challenging environment that we're seeing in the large enterprise, that may take a little bit longer for it to hit the bottom line, but we're very confident. We timed those investments to be in line with the product expansion capabilities that we've got and the market share gains, and we know they're the right long-term bet for the business. There's no doubt that when things turn, we're going to be very well-positioned to capitalize that in the enterprise.
Very good. Good luck, guys.
Thank you.
Your next question comes from the line of Aaron Rakers from Wells Fargo.
Yeah. Thanks, guys. I apologize for the background noise here. Two questions if I can as well. First of all, just kind of looking at the guidance. The commentary you offered suggested that you are seeing signs of macro softening. Just curious of what you saw as far as the progression of those signs of weakening through the quarter. How do I fit your midpoint of guidance being up $62 million sequentially in revenue versus like $50 million last year on fiscal 4Q, $62 million a year ago in 2018 when the storage market was healthy, relative to that kind of softening macro commentary that you offer? I'm just trying to understand what's kind of embedded in the midpoint of your guidance here for revenue this quarter, and again, I do have a follow-up.
Yeah. Thank you, Aaron. As we went through the quarter, my experience is that when you do see a little bit of macro headwinds, that it is typically the enterprise that slows down their buying first. By slows down, I just mean things slip, second looks, longer decision cycles, et cetera. We have seen some of that. The second is we did term this not so much as macro, but as globally economically challenging. We're seeing things that we think of as Brexit slowdowns, the trade tensions with Asia. Those are the things where we saw more slowdown than other areas, and that just indicates a little bit of global economic headwinds. Hat, I'll let you take the
Yes. I think the headline here is if the pricing were in line with our forecast, we would've been within the range that we had. Really do feel like it's pricing. We are looking at these international phenomenons in the U.K. specifically, Japan specifically, as well as some of the enterprise deals. We're not seeing loss rates decrease. They're improving, if anything. We see really steady win rates that are out there. It's just a little bit more slowing of the decisions, and more pushes. We have that contemplated in our Q4.
Right. The last thing, just on the year-to-year comp, remember last Q4, we had that shipping issue that left product on the dock, so it affects the comps.
Oh, fair point. The follow-up question is, if I can, when we think about the pricing dynamics at NAND, I could appreciate that NAND is still less than, flashes still less than 20% of the bit shipped, but to help us appreciate the pricing dynamic, would you say this quarter we saw an acceleration in the growth of your bit shipments relative to last quarter?
No doubt.
Just trying to understand and put some context behind the elasticity.
Yeah. This year in general, the bit shipments are way up. That's made up for a large portion of the decrease in prices. As I said, when prices decline double digit within a quarter as they have in the last two quarters, it's just difficult to catch up.
Okay. Fair enough. Thank you.
Your next question comes from the line of Simon Leopold from Raymond James.
Great. Thank you. I've got one kind of near term and one longer term question. On the near term, when you're discussing the pricing environment, I'd like to get a better understanding of, is this about a particular price aggressor in the market, or is this the general behavior of everybody responding to essentially the customer's willingness to pay? Is it coming from competitors or from customers? I've got a follow-up.
In my experience, it's coming from competitors. I think there are a variety of different competitive strategies in the market. In our case, we are a value-oriented competitor. We do not lead with price, but we do respond. There's at least one other competitor out there that I feel operates in the same way, but there are competitors that I would argue are cost-plus competitors. That is that They'll sell based on a gross margin model that they've built, and they'll go to price right away. Those are the ones that lead with price in the market, and then we follow. It's really how the cost flows through their P&L, through their inventory that makes the difference.
Thank you. My follow-up is longer term oriented. I want to try to get a better understanding regarding the prospects from the FlashArray//C. You just announced that in September. Presumably that's not really contributing much, but you've talked about TAM expansion. Could you put some numbers around how to think about what that product does for the revenue opportunities? Thank you.
You bet. That product, it has had the fastest growth of any new product we've ever introduced, including our first product. Of course, it was widely anticipated. It was something that we had been talking about with customers for some time, but it bodes very well for us. When you say TAM expansion, let me just make sure we're all consistent here. We discuss it as opening up more of the TAM that we've put into place, and we believe it opens up over the next year or two another $5 billion of TAM that we can expand into. It's a big market. It opens up a new part of the market that we did not generally sell into before.
Great. Thank you very much.
Your next question comes from the line of Wamsi Mohan from Bank of America.
Yes. Thank you. I apologize for the background noise. I'm in an airport. Hopefully you can hear me. While you came in at the higher end of the range for operating margins, your incremental year-on-year is almost the same as the incremental OpEx. Are you running the business with these levels of investment with an expectation of acceleration in the future, or are you expecting this mid-teen growth rate, although much better than the industry, as a new normal? I have a follow-up.
Yeah, we're not viewing that as the new normal. We do believe that as we add new products and as pricing stabilizes, the world will get better. Of course, we're not guiding to next year yet. Obviously, as I said, I think this has been a challenging year with the pricing declines, and we believe life will get better. FlashArray//C, CBS, the products on Azure, and so forth, we're very proud and pleased with the new products we're putting in the market. We believe we'll be the aggressor. If we continue taking market share at the rates that we're taking market share in a market that is fundamentally $30 billion-$50 billion, we've got a lot of opportunity ahead of us.
Okay, thanks, Charlie. Again, as a follow-up, you mentioned price elasticity. It feels like this was the year where you should have seen very significant price elasticity, and I think you said you did. Clearly, that didn't translate into acceleration in revenue growth because of the pricing itself. As you look forward, why should there be an acceleration in revenue growth if price inelasticity kicks in when the pricing doesn't go down quite as fast? I guess I'm trying to just understand this in the context of what the actual true underlying commodity pricing is doing to the revenue growth.
Sure. Well, we've studied this over many years, right? As prices come down, elasticity goes up. Flash takes over more of the magnetic market. You have to have price coming down in Flash in order to take up more of the market. This is going to happen. Now, we would love a world where Flash comes down predictably every single quarter and pricing follows suit a couple of quarters later. That would allow customers to plan, and for us to be able to better guide. The fact of the matter is that Flash prices vary dramatically with supply of new fabs and demand varying, as we saw last quarter with, or the quarter before rather, with hyperscaler demand, and that fluctuation eventually makes its way to our market.
Over the long term, the elasticity is real, and with very fast price dropping, it usually means slower price dropping in the following year. While we can't predict it exactly, on a long-term basis, you can.
Thanks, Charlie.
Your next question comes from the line of Rod Hall from Goldman Sachs.
Hi, this is Bala Reddy on for Rod. Thanks for taking my questions. Just want to better understand the macro weakness that you cited here. If the macro situation had been better in the quarter, would that have compensated the pricing pressure issue that you cited?
I think what you're asking, if the macro had been better, would that have overcome the pricing? The pricing was by far the dominant reason for the gap to original guidance. There's no question, we're only talking about 2% here, and a stronger macro could easily have made that up.
If I look at the full year revenue guidance, like from the first time that you gave in fiscal Q4 last year, the overall guidance is down like 7% for the full year. Can you help us quantify each of the issues that impacted the revenues in the year? I know you cited the weakness in large enterprise as well a couple of quarters back rank order these issues here.
It's the same issue, really. It really is the vast majority is pricing. Of course, a stronger macro, we're not talking about a lot of percent. A stronger macro might have been able to make that up. Again, when you face, really, this year is quite remarkable in terms of the pricing decline in the market.
Thanks. Just as a quick follow-up on the macro question. I know that you have exposure to large as well as mid-market in addition to SaaS cloud too. In the quarter particularly, which of these segments did not do as expected?
Well, we actually had nice progress, as I mentioned, in the public sector. Our commercial business was solid for the quarter. There were some ups and downs internationally, and I think those are tied largely to some of the macro issues. There's some execution in there as well, but the vast majority of it on the international front was tied to very specific markets that are challenged.
Your next question comes from the line of Karl Ackerman from Cowen.
Hey, good afternoon, gentlemen. two questions, if I may. The first is a follow-up question on demand. At your Pure//Accelerate conference, you spoke about how the deal funnel is shifting toward more larger deals. Do you see your incremental revenue opportunity in the global accounts that are outside of the traditional realm of your SMB focus? One of your peers spoke about how the chief procurer of storage is shifting away from the traditional storage IT manager. Are those two dynamics the primary influencers of your performance this year, and I guess, how do we combat that going forward?
Well, this is Hat. I'll take a crack at that. We've seen nice progress in the segments that we serve. Like I just mentioned, in the public sector government space, in the commercial segment, and in the cloud business continuing to represent north of 30% of our overall business. We see sound performance there. Enterprise, large enterprise was a little bit weaker than what we expected, and that we think is tied partially to the overall macro. The changing persona and the decision maker is something that we've been driving for the last few years. Our next generation analytics platform with FlashBlade is largely sold into DevOps, isn't sold into the business owner. We've made a business in our traditional storage attack plan to go at the database admin or the virtual system admin or other folks that actually saw the benefits of flash removing latency.
It's always been a multi-threaded sales process, and so we feel comfortable in our ability to go attack that. A lot of what our focus with the Modern Data Experience is shifting from a product-by-product, business unit by business unit, workload by workload kind of sales campaign into more of a platform and a portfolio sale. Leading with our Pure1 and our Pure as-a-Service subscription model is really differentiated. It really does enable flexibility commercially for customers and technically allows them to put their data where they need to today and move it without penalty in the future. As that starts to continue to get traction, we believe that'll continue to help us get higher up in the organization and sell a real differentiated platform solution versus a point product solution.
I appreciate that. Going back to FlashArray//C for a moment, just curious on what level of revenue assumption is implied for FlashArray//C in the December quarter. I guess, how do you see that progressing over the next few quarters? What do you need to do to drive increased customer adoption? It sounds like it's going well, but just any additional metrics there would be helpful. Thank you.
Right. Well, as you know, we don't really provide metrics on a product-by-product basis. Especially on new products, because new products tend to be lumpy as you're getting through the sales force, new customer experience, and so forth. That being said, as I said, this is the largest and fastest new product adoption cycle that we've seen at the company ever. I think it bodes well for us. It's a product that, by the way, is a FlashArray just with a lower price, lower cost storage module in it. Our customers know it, our field knows it, our channels know it. From that sense, it's easy to sell. Kix, I think Kix has some additional commentary here.
Yeah, I'd also just say that in the last call, there was some concern about whether it might be cannibalistic of FlashArray//X. We made a point of being really close to all of the first deployments of FlashArray//C, and we were really pleased with really the net new use cases and motions that it went into. We largely targeted tier 2 applications that might have been on disk as well as tier 2 DR and opened up new tiers of applications to DR. We're really pleased with them being sold together as opposed to an alternative to one another.
I will add one other piece of color. We have seven and eight-digit deals in the pipeline for this product. Clearly it's something that stands out.
Thank you.
Your next question comes from the line of Katy Huberty from Morgan Stanley.
Yes, thank you. Charlie, can you just be specific around what you're assuming in the January quarter around price elasticity? It sounds like you didn't see that in the October quarter expected to come through. Just not clear whether there's an assumption around whether you see it in January. I have a follow-up.
We certainly didn't expect double digit this past quarter, and we don't expect double digit this coming quarter. We do expect it to moderate. I wish we could be absolutely positive about that, but without knowing the other demand signals for NAND, without knowing the past inventory levels of competitors, as I said, it's hard to pin down with exact timing.
Are you assuming faster unit growth in the January quarter because the lower prices have now been in the market for several months?
Certainly.
Okay. Just a follow-up on FlashArray//C. Can you talk about whether it's the type of customers by size or vertical or what are the most popular applications that you're seeing FlashArray//C get pulled into?
Yeah, this is Kix. I'll take this one as well. I think the first thing to realize about FlashArray//C is that it's lower cost per gig, but it's quite large. Our key target has really been larger organizations who have big swaths of tier 2 data. We've seen it go into larger environments where they're just going after their tier 2 applications. We've also seen customers who deal with very large research data, very large types of IoT data, et cetera, become interested in the platform because it opens up use of Flash at a fundamentally different tier.
Thank you.
Your next question comes from the line of Mehdi Hosseini from SIG.
Yes. Thanks for taking my question. I want to go back to the trends in your product revenue and also deferred revenue. I see a deceleration in both product revenue and deferred revenue. I'm just wondering, outside of the pricing pressure, is it a reflection of delay in the ramp of new products? It seems to me you're still lacking that diversification in the product mix. In that context, is it going to take another fiscal year to see that diversification improving? Is that really needed to see a higher growth rate? This is outside of the pricing trend. I'm just trying to separate pricing from product mix.
Yeah. Currently, our revenue is made up primarily of two physical products, FlashArray, FlashBlade, then, of course, the subscription and support activities surrounding those two. We do have our Pure as-a-Service model, but that's still a relatively small revenue stream associated with that. By far, the deferred revenue is made up of those subscription streams. Now, as we mentioned at our Accelerate offsite, we've seen big pickups in subscription, especially in the elongation of the contract period for the subscription, as customers have found great value in the Evergreen Storage service overall. You're largely correct. I mean, a lot of the growth rate that we expect in the future is based on new product. FlashArray//C is off to a good start. Cloud Block Store, high interest level, but still very early days.
Of course, we are anticipating our file services coming out mid next year. These are all things we look forward to and believe will expand our opportunity.
Just as a follow-up, if file services is coming out mid-year, could that help with acceleration in the growth rate? Or should we just assume that fiscal year 2021 altogether is a transitional phase for the company?
Well, first, again, we're not going to guide fiscal year 2021 just yet. We don't invest in new products just to give engineers fun things to work on. The expectation is that it will improve our growth. We're very focused on growing this company. We're very focused on being the leader in storage, that has a lot of years of growth left to us to be able to deliver that. Of course, we're delivering it as a very new and different architecture, what we're calling the Modern Data Experience, that is going to make it more of a platform rather than a set of isolated boxes.
Got it. Thank you.
Your next question comes from the line of Amit Daryanani from Evercore.
Yep. Thanks for taking my question, guys. I have two as well. First up, maybe just help us put some context around your gross margin, which came in well ahead of your expectations. I'm wondering why not the decision to perhaps be more pricing aggressive and keep the margins within your target and perhaps drive more revenue growth. Was there not that price elasticity for you to take advantage of? You just didn't want to go down that path?
Well, I think you saw one of our competitors also come in with higher gross margin. It indicates that there's been at least some, with such drops, as I mentioned, double-digit drop in price during the quarter. There's been a lot of price activity, but obviously cost activity was better than price activity for at least one of our competitors out there as it was for us. Now, part of the gross margin improvement was based on mix. The mix is a shift towards larger arrays. Now, I'm not talking about a mix between products, but a mix to larger systems, and the larger systems tend to have higher gross margin. We also benefited a lot from a COGS reduction. Your point is, look, the field has complete flexibility to drive price if it's going to win a deal. We don't ever want to lose on price.
As I say, we don't lead with price either. We're doing everything we can to drive the top line. We're not going to hold it for additional margin, but it's the way it worked out this quarter.
Understood. If I could just follow up, on Cloud Block Store, just what feedback are you having or adoption you're seeing from your customers there? Perhaps you could talk about your appetite or the roadmap to have a comparable offering at other platforms beyond AWS.
Yeah. We announced the GA of Cloud Block Store on Azure at Accelerate this year. I'd say the industry analyst and customer excitement around that was very high. We saw both excitement around it translate right into our core business in terms of being able to have conversations around cloud architecture and hybrid cloud that frankly we weren't invited to before. We saw customers really diving in with key use cases. Our key focus in this market has been to really focus on tier 1 applications moving to the cloud. Tier 1 applications run on block storage. To give you an example of one of the first production deployments, we have a customer who runs SAP on-prem on Pure. They've taken advantage of Cloud Block Store to really move test dev to the cloud. It's a perfect hybrid case.
You have SAP running on tier 1 on-prem. You're replicating data to the cloud, refreshing it constantly, that particular customer was able to get 40 to 1 data reduction in their test dev environment. Think about the ROI of saving the cloud savings there and enabling that new model for more agile test dev. These are the types of use cases that we're really driving into the market with CBS.
Perfect. Thank you, guys.
Your next question comes from the line of Jason Ader from William Blair.
Yeah, thank you. Guys, there's been some talk out there on some of the SaaS companies moving their data centers to the big three infrastructure as a service vendors. I'm wondering if that's something that you have seen at all in your SaaS vertical, where some of your traditional customers are deciding to outsource their data centers to the big three, and if so, what's your outlook on that segment of the business going forward?
Yeah. It's a great question, Jason. I think we actually see both activities. We see people, oddly enough, moving to the cloud, but we also see people moving out of the cloud, especially their data storage, because data storage tends to be extraordinarily expensive in the cloud environment. Cloud Block Store is meant to make it easy to move in both directions. That is to say that, it makes it easier to lift and shift into the cloud if your cloud data experience looks similar, if not identical, to what's on-prem. Of course, we add a lot of value in the cloud, as Matt just mentioned, lower cost, and higher performance. Also it makes it easier if you decide, if you're in the cloud using our service, and then want to move back on-prem, as many customers have done, to reduce their overall costs.
It also makes it easier to move in that direction as well. From our standpoint, a terabyte is a terabyte between cloud and on-prem, one contract, one price.
Is it fair to say that your SaaS vertical segment has seen above company-
We've really seen no-
growth rates like you have historically?
We've seen no effect, honestly, from the phenomenon you're talking about in our SaaS business.
Okay. Thank you.
Your next question comes from the line of Matt Cabral from Credit Suisse.
Yeah, thank you. You talked a lot earlier this year about ramping sales capacity by 40%. You touched on this a little bit earlier, can you just talk a little bit more about where you are in getting that cohort productive and just how you're thinking about your hiring plans going into next year, given some of the revenue slowdown you're seeing?
As I mentioned, a lot of the sales capacity investments did go into the enterprise, knowing full well that it was going to take a bit longer for those to ramp and to hit the bottom line, but that it was the right long-term move for us. The new cohorts that we brought on board are ramping nicely. They're really in line with what we had seen previously, and what we expected out of them going forward. As we look at, as Paul and I kind of work together on the allocation of those sales resources across the globe and across the segments. As you do any year, you kind of fine-tune that to make sure you get the right mix of long-term and mid-term ROI. We're very confident the investments that we made are going to pay dividends for us.
It may take a little bit longer, but we're very confident that we made the right bets going into the year.
Just how you're thinking about the hiring plans going into next year, given some of the revenue dynamics.
Yeah. Well, clearly, we invested ahead. We knew this year. We invested ahead those assets, those people that we hired are going to be much more productive in the second year, like in any ramped environment. That allows us to be a bit more, let's say, prudent or slow down our hiring for this coming year, really to match much more our growth rate as we go in.
Got it. Thank you very much.
Your next question comes from Steven Fox from Cross Research.
Thanks. Good afternoon. I was wondering if you could just sort of give us a little more color on the gross margin. If we think about the 230 basis points improvement quarter-over-quarter, how much of that was related to mix versus the benefits of cost over exceeding price declines?
Yeah. A little less than half of it was mix. The largest part, of course, was the cost reduction compared to the price reduction. Costs lowering it. Remember, it takes about six to eight weeks for inventory to flow through our system. Right? We started off with a lot of low-cost NAND and product in the pipeline as we went through the quarter. As I mentioned, towards the end of the quarter, and certainly in this quarter, prices in NAND have literally gone up. The majority of it was price, but a significant portion of it was mix.
Okay. That's very helpful. Then just on the macro pressures you're now seeing, I think like 90 days ago, you sort of had your antennas up, but you really weren't seeing it as much as maybe some of your competitors were. What changed relative to last quarter? Is it just sort of your geographic mix is reflected in the timing of you being hit harder now versus, say, competitors that slowed earlier? Is there anything else we should think of? Thanks.
Yeah, no, I think it is the international mix, tied to some of the dynamics that Charlie and I had referenced earlier. We continue to see larger deals and more bundling, but the decision cycles are just taking longer, and people are pushing into longer periods of time to evaluate, more looks at it, more executives needing to touch deals, et cetera, and so more work. The encouraging thing to us is our win rates continue to be super strong. We're not losing more business, and we're actually seeing more terabytes included in every deal and more bundling. It's just that it's taking a little bit longer to close them.
When you say international mix, you mean your direct mix, not necessarily a second derivative of U.S. customers who are having weaker business overseas.
Yeah, no, customers that are buying from international where the deals are originating. We mentioned the U.K., we mentioned Japan as a couple of those examples that were lower than what we expected.
Got it. Thank you.
Your next question comes from the line of Pinjalim Bora from JP Morgan.
Hello. Hey, thanks for squeezing me in. Hat, great working with you. Could you talk about maybe a little bit more on what drove the decision for you to step away from leading sales channel? Was it thought out from a while ago? As we move into next year, should we expect any big changes in the sales structure processes as the new leadership takes hold?
Yeah. Thanks, for that. I appreciate it. It has been a great joy to be active in an operating capacity in helping build this. It's really a personal driver, to be very direct. I had a health issue in my family that over the summer became very acute. I think over the last several quarters, Charlie and I have been talking about what's right for Pure deserves somebody that's got 150% of their energy that they can put into it. As that health issue kind of surfaced and my need to be a little bit more balanced, it was clearly the right time. We're thrilled to have gotten Paul on board. The company's going to benefit not only from his 150% focus, his scale experience and cross-functional experience to go drive this.
I think the timing is never perfect for these situations, but it's definitely the right thing for me personally, and it's the right thing and very good for Pure to have somebody like Paul step in. The third point I'd make is that I'm still here. I'm very excited. I love this place. As Charlie mentioned, my real passion is to be out in front with customers and teams helping drive this. I look forward to helping not only in the transition, but also playing a role going forward, not only on strategy, but being able out in the field to help with customers. I think it's kind of a win-win for the company and for me.
Okay. Thank you.
Your next question comes from the line of Matthew Sheerin from Stifel.
Hi, thank you for taking the call. This is Alvin Park on behalf of Matthew Sheerin. I just wanted to confirm that revenue contributions from Pure as-a-Service/ES2 was not significantly material. Second of all, I was wondering if you could just give some color into the economics, the revenue recognition, and the cost recognition cadence versus your traditional CapEx sales from Pure as-a-Service.
Sure. Well, first of all, just on an overall absolute basis, that is correct, that it's not as significant. It's up well over 200% year-over-year, so it's growing very nicely. Secondly, it is recognized ratably on a monthly basis over the years as customers purchase the service overall. It's priced at a premium currently to a traditional CapEx model. In a three-year time horizon, it tends to be richer for Pure, but it really helps those customers that really want to operate on an OpEx model overall. Does that answer your question?
Yeah. A follow-up. In a CapEx versus an OpEx, you mentioned OpEx is ratable. Is it safe to say that an OpEx will be more with the subscription service afterwards will be front-end heavy where most of the revenue and cost is recognized up front and tempered down versus?
No. The whole thing is ratable, both revenue and cost.
No, from a CapEx. Yeah.
Oh, no. CapEx, for $100, we recognize approximately $70 up front. And then we have roughly $10 each over the three years.
Okay.
The Pure as-a-Service and what I just said about the $30, the subscription base, those are recognized the same. They're both matched, revenue and COGS.
I see. Going forward, do you have any projections or ideas of what your sales mix might be between the as a services versus your CapEx model going forward?
We've not really provided that breakout. I'd say the as a service model is still relatively new, and new meaning both to customers as well as our sales force. As we start to get more experience under our belt, that might be something that we highlight in a highlighted one of our calls. At the moment, we've not really broken that out, and I'm not sure we're ready to, just from an experience standpoint.
Understood. Thank you for taking the questions.
Your next question comes from the line of Erik Suppiger from JMP Securities.
Yeah. Thanks for taking the question. Pardon me. One, could you just talk what competitors specifically are you seeing the pricing pressure? Is it both Dell and NetApp, or who are you seeing the pressure from? Secondly Well, let me get that one, and I'll have a follow-up.
Yes, I wouldn't say there's any discernible difference between the large competitors from a pricing dynamic in the marketplace. Dell's always been very aggressive and it kind of operates, in our view, in kind of a cost-plus model. You saw NetApp announce 11 points negative on growth year-over-year and increased gross margin on the product line as well. They saw some of the benefits from the COGS reduction as well. I just reinforce what Charlie said earlier. We are a very aggressive team. When we see an opportunity, particularly in the large enterprise, we sell on value. We make sure we establish that. If we need to use gross margin points to be able to win a deal, we won't lose on price. That's something that we continue to be focused on, whether we're competing with NetApp or Dell.
I think the 25 points of delta between us and the only other company so far that's reported is indicative of how differentiated our value prop is and how much share we're taking in the marketplace. We're going to continue to be aggressive. If we could have put more of those gross margin points to work, we would have. That wasn't the gating factor. The pricing dynamic was really kind of across the board. Again, we believe that's temporary. Hopefully, it'll start to firm up in Q4 like we talked about, but we feel very good about next year.
Okay, real quick, I just want to confirm, in the U.S. you did not see the macro concerns. That was all international, is that correct?
No, we saw some of the international tied to specific market dynamics, trade and Brexit, most likely. We did see some slowness in the U.S. enterprise. I think that's an area where we like the trends relative to pipeline and with the narrower span of control of our sales resources, we're getting in the at-bats. So we'll be able to bundle in multiple products and sell more terabytes. It's just taking a little bit longer from a deal push perspective. Win rates are holding nicely as well. We see a little bit of the international and a little bit in the large enterprise U.S.
All right. Thank you.
Your last question comes from the line of Nehal Chokshi from Maxim Group.
Yeah. Thank you. It looks like guidance implies OpEx will be flat Q over Q more or less for a second straight quarter in a row. Looks like there was effectively a hiring freeze that's been in effect since August. A, is this correct? B, provided it's correct, why do this considering the opportunity and what I presume invariably will result in an extended slowdown in top-line growth?
Right. Well, to be clear, there was a hiring slowdown, but certainly not a freeze. In fact, each quarter the net hires will be slightly higher than the quarter before. Again, we have to respond to the market slowdown. We're not going to run at a loss as a company. Also, as I mentioned earlier, I take this opportunity to allow each team to catch their breath after a lot of hiring, and to rebalance their organizations. I actually view it as an opportunity for each group to really make sure that they're disciplined, that they're efficient and effective, and that they rethink how they've structured their team, and take an opportunity to rebuild before the next spurt of growth. You're correct in identifying that there's been a slowdown, but there's certainly not a freeze.
Okay. As a follow-up, you guys did initiate a share repurchase program on the last earnings call. Looks like you didn't utilize it at all. Can you update your thoughts on, A, why you didn't utilize it, and B, what are the parameters around when you will utilize it?
Well, as we indicated when we took out the program, that we wanted that program in case of what we saw as huge price dislocations in the market. We have that facility at our disposal should we choose to use it. We're keeping it as a discretionary opportunity.
Okay. Thank you.
You bet. As we look ahead to the next decade, our goal is to take the fragmented and antiquated architecture of the current data storage environment and recreate it into a unified, automated, multi-cloud data experience. By helping our customers to create a Modern Data Experience, we help them to deliver real business value, and we empower them to realize their digital transformation. I'd like to again welcome Paul and Kevan Krysler to the team, and I want to thank Hat for his partnership and dedication to Pure these last seven years. He's had a great impact on Pure, and I'm excited to continue to work with him in his new role. For those in the U.S., I want to wish you all a very happy Thanksgiving, and I want to thank all of you on the call for your time today.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.