Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Super Micro Computer, Inc. fourth quarter and fiscal 2017 conference call. The company's news release issued earlier today is available from its website at www.supermicro.com. In addition, during today's call, the company will refer to a slide presentation and the CFO commentary, which can be accessed in a downloadable PDF format in its website at www.supermicro.com in the investor relations section under the events and presentations tab. During the company's presentation, all participants will be in the listen-only mode. Afterwards, security analysis will be invited to participate in a question and answer session. The entire call is open to all participants on a listen-only basis. As a reminder, this call is being recorded today, Thursday, August 3rd, 2017.
A replay of the call will be accessible until midnight, Thursday, August 17th, 2017, by dialing 1-844-512-2921 and entering replay pin 7567416. International callers should dial 1-412-317-6671. With us today are Charles Liang, Chairman and Chief Executive Officer. Howard Hideshima, Chief Financial Officer, and Perry Hayes, Senior Vice President of Investor Relations. Now I'd like to turn the conference over to Mr. Hayes. Mr. Hayes, please go ahead, sir.
Good afternoon, everyone, and thank you for attending Super Micro's conference call on financial results for the fourth quarter and fiscal 2017, which ended June 30th, 2017. By now, you should have received a copy of today's news release that was distributed at the close of regular trading and is available on the company's website. As a reminder, during today's call, the company will refer to a presentation as well as the CFO commentary that is available to participants in the investor relations section of the company's website under the events and presentations tab. Before we start, I'll remind you that our remarks include forward-looking statements. There are a number of risk factors that could cause Super Micro's future results to differ materially from our expectations.
You can learn more about these risks in the press release we issued earlier this afternoon, our Form 10-K for fiscal 2016, and our other SEC filings. All of those documents are available from the investor relations page of Super Micro's website. We assume no obligation to update any forward-looking statements. Most of today's presentation will refer to non-GAAP financial results and outlooks. An explanation of our non-GAAP financial measures can be found in our slide presentation or in our press release published earlier today. In addition, a reconciliation of GAAP to non-GAAP results is contained in today's press release and in the supplemental information attached to today's presentation. I'll now turn the call over to Charles Liang, Chairman and Chief Executive Officer.
Thank you, Perry, and good afternoon, everyone. Let me summarize our fourth quarter. Revenue was $717.9 million, is 36.9% higher year-over-year and 13.7% higher than the previous quarter. Non-GAAP net income was $20.7 million. Non-GAAP earnings per share was $0.39 per diluted share compared to a $0.38 last quarter and $0.20 last year. Non-GAAP EPS was 95.8% higher year-over-year and 3% higher than last quarter. Super Micro achieved a new record high in revenue in the fourth quarter, which exceed our expectations. For the full fiscal 2017, our revenue was over $2.5 billion or 14% better than last year.
Even more remarkable is that our fiscal 2017 second half achieved 27.6% growth over last year, which is many multiples higher than the overall industry and any other tier 1 vendors, which also demonstrates a strong momentum as we finish the fiscal year and come into a major technology refresh cycle with Intel new Skylake Xeon processor. Super Micro has built a strong foundation for sustaining high growth while maintaining profitability every quarter for 24 years. Over the last three years, we have made a significant investment in global production capacity, operations, system solutions, quality, global service, and management software. In the same period, we have grown our engineering staff by over 60%, bringing the most advanced and the broadest portfolio of server and storage, global service, and management software to the market. These are the investments that will power the new Super Micro 3.0.
Super Micro 3.0 positions us as the fastest-growing tier 1 IT infrastructure provider, capable of delivering faster to market product innovations in a global scale with quality management software, on-site service global and support to engage our rapidly growing enterprise customer base. The record high revenue and strong second half growth rate is a direct result of Super Micro 3.0 investments. With the major fundamentals in place and the new Skylake product portfolio shipping, the future investment and expense will begin to flat out, driven improved profitability moving forward. The new foundation of Super Micro 3.0 has three production locations worldwide, totaling almost 3 million sq ft with eight production buildings, including dedicated rack level integration, configuration, and validation. Combined, this capacity can support annual revenue up to $5 billion on hardware alone.
In 2017, we ship approximately 1.2 million server storage nodes in system and subsystems based on leading analyst estimates. This volume is about 10% of the total number of systems shipped in the world. Under Super Micro 3.0, our direct business in large enterprise data center storage and deep learning is expanding rapidly. We are seeing significant more engagement with large enterprise customer than ever before from Fortune 100 companies in technology, social media, major retailers, news media, cable companies, and internet retailers. We are engaging earlier for technology optimization and providing more total solution, which including completed systems, software integration, quality validation, solution optimization, data center management software, and global on-site service. Our channel strategy has also evolved under Super Micro 3.0. We are working more closely with the channel and with their end user to provide solutions that drive demand to our partner.
Channel accounts for 46.3% of our revenue, and we are becoming a more strategic vendor to those channel partners through sales of computer system, which contributed to the growth of total system revenue of 74.3% over the quarter. Under Super Micro 3.0, we also continue to invest in new product lines to enhance our industry-leading solutions, including our complete line of over 100 new X11 system model based on the recently launched Intel Xeon Scalable processor. Our BigTwin SuperBlade NVMe storage systems and AI and deep learning solutions have been optimized to deliver the highest performance and efficiency from the new Intel processor and the latest NVMe innovations, especially all flash and hybrid NVMe solutions. We have seen a major design win for the new 2U 40 BigTwin offering in both service provider and as well as the major storage OEMs.
The advanced feature of our 2U 24 NVMe system secure a large scale deployment at a major financial service company, and we have seen triple-digit growth in our GPU and AI deep learning system sale. We continue to be the leader in NVMe technology, and our ramp of NVMe sales is growing dramatically, which secure several new major data center win and interest from specific robotics such as autonomous driving based on our NVMe competitive advantages. NVMe storage deliver orders of magnitude better performance than traditional solutions, and we have over 80 optimized designs available in variety of configurations, including a 2U system capable of delivering 16 million IOPS, which is one of the highest performance systems in the whole industry. Our global service and management software are critical factors for Super Micro 3.0. They provide a Tier 1 experience for our server and storage portfolio.
They create a stronger and deeper relationship with our customers. Our service team work hand in hand with our enterprise customer to deploy the highest performing and most efficient data center in the world. Our software tools are tightly integrated into the customer's environment and tool set. We achieved $50 million of billings from global service and management software in 2017. That is nearly double from the last year, and we will continue to double yearly moving forward. With the higher margin and amortized revenue model, driven increased profitability over time. Looking forward, the combination of new Intel Xeon Scalable processor and the advance in NVMe products make this technology transition cycle one of the most significant opportunities for our customers in overall decade. Along with Supermicro 3.0, we have the foundation, the products, and a strong pipeline to take maximum advantage of this technology transition.
We believe that fiscal year 2018 will be one of the strongest year in Super Micro's history. For more specifics on our first quarter, let me turn it over to Howard.
Thank you, Charles, and good afternoon, everyone. I will focus my remarks on earnings, gross margins, operating expenses, and similar items on a non-GAAP basis, which reflects adjustments to exclude stock compensation expenses. Reconciliation of GAAP to non-GAAP is included in the financial statements of the company in today's earnings release and in the supplemental details in the slide presentation of prepared remarks accompanying this conference call. Let me begin with a review of the fourth quarter income statement. We end fiscal year 2017 with a record $717.9 million in revenues for the fourth quarter and executing on a number of strategic investments, which put us in very strong position as this technology refresh cycle begins. The investments across a number of markets vertical and geographies around the world have expanded our business opportunities with a host of new and exciting existing customers, especially in large enterprise.
The increase in revenues of 36.9% from last year was widespread across our market verticals, such as enterprise, storage, IoT, and accelerated computing. This was offset in part by a decline in IDC. On a geographical basis, we had strong growth in Asia, Europe, and in the U.S. The 13.7% sequential increase in revenues was primarily driven by strength in Asia. In particular, China was up 35% as we leverage our growing partnerships. Non-GAAP gross margin was 13.5%, down 60 basis points from 14.1% a year ago, and down 50 basis points from 14% sequentially. The decrease from prior year and sequentially was primarily due to cost increases in memory and SSD. Higher sales in Asia, which is typically more competitive, and sales of later stage life cycle products also affected margins.
Offsetting these were operational efficiencies, which we have made over the past few years through capacity utilization, economies of scale, more complete solution sales with higher content of software and services. Non-GAAP operating margin was 4.5%, up 1.4% from 3.1% a year ago, and 20 basis points from 4.3% sequentially. The increase from prior year and sequentially were primarily due to the growing revenue at a faster pace than our operating expenses. This year, we plan to tighten our headcount and expense control with the goal of continuing to leverage the investments we have already made and drive improved profitability. Net income was $20.7 million, up 100.2% from $10.4 million a year ago, and up 2.1% from $20.3 million sequentially.
On a non-GAAP basis, fully diluted EPS was $0.39 per share, which was up from $0.20 per share a year ago and up from $0.38 per share sequentially. The number of fully diluted shares used in the fourth quarter was 53 million. Turning to free cash flow on a sequential basis. Cash and cash equivalents, short- and long-term investments were $115.9 million, up $5.4 million from $110.5 million in the prior quarter. In the fourth quarter, free cash flow was a negative $12.3 million, primarily due to an increase in AR of $92.1 million, offset in part by a decrease in inventory, net accounts payable of $40.9 million. The increase in AR was primarily due to higher revenues, which accelerated late in the quarter.
Overall, cash conversion cycle days was 95, which is five days lower than the prior quarter and four days higher than the same quarter last year. We do expect the SSD and memory issues to last through the end of the calendar year. Now for a few comments on our outlook. As we enter the first quarter of fiscal 2018, we see strong growth opportunities from a technology refresh cycle, which is just starting. We continue to see strong traction for our leading solutions and our growing customer base, especially in large enterprise. These factors, coupled with the investments we have made in our future during the past few years, give us strong momentum to accelerate our growth in the many market verticals we serve, as exhibited by last quarter's results.
The company currently expects net sales for the quarter ending September 30, 2017, in a range of $625 million-$685 million. Assuming this revenue range, the company expects non-GAAP earnings per diluted share of approximately $0.30-$0.40 for the quarter. At the midpoint, this would represent an increase of 24% in revenue and 9% in EPS from the prior year. We continue to expect to reach the $3 billion run rate by the end of the calendar year. It is currently expected that the outlook will not be updated until the release of the company's next quarterly earnings announcement. Notwithstanding subsequent developments, however, the company may update the outlook or any portion thereof at any time. With that, let me turn it back to Charles for concluding remarks.
Thank you, Howard. We finished fiscal year 2017 with record revenue and a strong momentum. Super Micro 3.0 provides the foundation and the product to take advantage of this cycle of technology transition. We believe that fiscal 2018 will be one of the strongest year in Super Micro's history. Operator, as of this moment, we are ready for questions.
Operator, we're ready for questions.
Thank you. If you'd like to ask a question, please signal by pressing star one on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press star one to ask a question, we'll pause for just a moment to allow everyone an opportunity. We'll take our first question from Mehdi Hosseini with Susquehanna Financial Group.
Hi. Thanks. This is David Ryzhik for Mehdi. Just a few, if I can. The midpoint of your revenue guide comes out to around down 9% Q over Q. Just wondering, what are the factors there, particular given that you're entering a product cycle and it assumed that it would be ramping in the September quarter, and I had a follow-up. Thanks.
David. This is Howard. We are seeing the ramp-up as Skylake has launched here. Again, though, September quarter is seasonally soft and this guidance is above seasonal averages.
Got it. Thanks. Regarding gross margins, if memory pricing was a 50-70 basis point hit, and I assume it was 70 basis points, that would've put your gross margins at 14.2%. In the June quarter, given the high volume, the favorable mix from the lower Internet Data Center, just would've thought that the normalized gross margins would've been higher, perhaps, from capacity utilization. Can you just talk about what are the other impacts? You mentioned Asia business. Can you just elaborate a little bit more on some of the mix and if there's any kind of pricing impact that we should be aware of in gross margins? Thanks.
Yeah. Last quarter indeed, memory and flash price grew more than 20%. This quarter although, we are seeing improvement, may grow 10%, for example, for the whole quarter, I hope. The price is still high. That is why we try to be conservative because, for memory, for flash, there are still some unknown factor.
David, I just add to what Charles Liang was saying with regards to that. Again, we are at the end of the technology refresh cycle and coming into a brand-new technology refresh cycle. Typically, at the end of the cycle, the pricing gets a little bit more less on the older technology.
I guess the follow-up would be, should we expect, given that you are entering the product cycle, the favorable margin impact, should we expect Q over Q increase in gross margins?
Yeah, I think the ramp for the products, like we talked before, is probably going to be toward the December quarter. It usually takes them about two quarters to ramp the production to the new chipset.
Great. Thanks so much.
We'll move to our next question from Aaron Rakers with Stifel. Please go ahead.
Great. This is Joseph Quatrochi for Aaron. Thanks for taking the questions. Just want to go back to the September quarter guide and you talking about that it is above seasonal and then Skylake's going to be more of a December quarter story or ramp. What's the kind of outlying driver for the September guide?
Well, I think we talked about a number of new engagements and new customers that we're bringing on board. The pipeline is very strong.
Okay. Maybe can you talk a little bit about the growth you're seeing in China? What's driving that? Is it the FiberHome partnership or something else?
Yeah. Our business in China continue very strong, we continue to gain a major partner, especially large corporate. That trend will continue.
Okay, thanks. Just a quick follow-up on the gross margin. I don't think, maybe I misheard, the manufacturing utilization this quarter. Do you think this could be the bottom of gross margin as we work through some of these memory cost increases?
Basically, we hope so.
Okay, thanks.
We'll take our next question from Brian Alger with Roth Capital Partners.
Hi, guys. Good afternoon. Congrats on a good finish to the year. Obviously, a bit challenging with memory, but congrats nonetheless. As you look in the full year out, you've talked about Super Micro 3.0, this diversification that you're now enjoying, is there a new focus for the company, or is diversification really the name of the game as we look going forward?
As you may know, we invest a lot. Like in that three years, we grew 60% engineering manpower. That's why we are able to implement our global service team, and we are able to make our server storage data center management software completely ready. With all those ready, we are able to continue to gain enterprise customer. Indeed, the last 12 months, we won more than 15 large enterprise customer. This year, we believe we will accelerate the large enterprise customer gaining.
Fantastic.
That means we are truly ready. Function like a true Tier 1 company with product advantage and with complete solution, including service.
Great. I guess maybe a technical question. Obviously, storage was a really strong performer in this past quarter, up significantly both year-over-year as well as sequentially. In the past, historical Super Micro, you guys used to ship a lot of JBODs, basically. Now, you guys have a very strong NVMe product portfolio, and I'm curious as to how much of your storage solutions these days are solid state as opposed to rotational.
Indeed. Last year, the whole year, we grew about 30% in our storage system overall. Looking forward, we will continue to have a strong growth in storage, especially at NVMe base.
Is there a margin difference? If we normalize availability of NAND and DRAM, Howard, is there a significant difference in terms of the gross margins that you guys can generate with these NVMe systems as opposed to the JBOD systems that you were shipping previously?
NVMe, new technology, we suppose to have a much better profit margin. The shortage. Then at the same time, we need a much more volume because we are faster growing. In that case, we had to pay a premium to gain more volume. That's why margin was low.
Understood. Guys, thanks again, and congrats on the finish to the year.
Thank you.
We'll move to our next question from Nehal Chokshi with Maxim Group. Please go ahead.
Thank you. Two-part question here. First, memory and NAND flash price increases for the quarter, how much was it to you guys on a quarter-over-quarter basis?
Well, as Charles mentioned earlier, we saw price increases around 20%. Within the commentary, I said that it had about 50-70 basis point impact to our gross margins.
Okay. I guess there's some customers that did not accept price increases, or you had an existing fixed price contract, what I'm trying to get at is that there must have been some % of customers that didn't accept that. A, what is that %? B, it seems like, given the incremental revenue, it was actually negative incremental EPS, from what I can tell, that this was actually a negative incremental gross margin business because they didn't accept the increased price. B, is that correct? If that is correct, why honor that contract?
Again, the contract was in place, and it's expired and been renegotiated. Again, we had contracts there, and it was terminated. Again, the volume went up, and it did hurt us a bit, as we mentioned earlier in our press releases.
Okay.
It's been recognized.
Okay. If I may, I'd like another follow-up question, different topic. The ASP per server really took off. It was up 43% year-over-year and 13% Q-over-Q. What's behind this significant increase?
Well, I think, like I said, we're getting to more full boxes now. As Charles mentioned, we're building our breadth into the large enterprise type customers, data center customers that are taking full boxes. Previously, if you remember, our server solutions category had everything from bare bones to complete server solutions. We're now moving more into complete server solutions, including software and support services.
Okay, thank you. I'll move back into the queue.
We'll take our next question from Alex Kurtz with KeyBanc Capital Markets. Please go ahead.
Hey, guys. Can you hear me okay?
We can, Alex.
Great. Just on some numbers here, what was the utilization rate in the quarter, and what was the emerging storage growth rate?
Yeah. For the quarter, Alex, it was about 60% on utilization.
Yep. The emerging storage names?
Let me get back to you on that question.
Okay. My question for you guys is just taking a deeper look here at the data center business. Obviously, IBM was a tough comp in fiscal 2017, but even if you, I think, exclude IBM out of the data center number, it was down this year in fiscal 2017. Historically, the IDC business has been a good business for you guys. What's going on there? Even if you exclude IBM, it looks like things are down. Can the IDC business grow in fiscal 2018 at the same growth rate as the rest of the business?
Yeah. Indeed, in last year, including last quarter, the major challenge to us was not enough memory. Not just the price is high, but in lots of cases, we had to wait for memory. There's not enough memory, and some PO we had to wait for Flash. That kind of impact. That's why we have a less IDC, Internet Data Center business, especially.
Memory specifically held up projects, Charles, is that right?
Your question again.
Memory impacted your ability to deliver on some opportunities in the IDC space. Is that what you're saying?
Part of reason, but also because memory price is so high, and as you know.
Yeah
Internet Data Center profit margin are basically more limited. That's why we have.
Okay
a less win in that area.
Just last question for Howard. I can get the storage number later, but what would stop you from getting back to a 15%+ gross margin exiting fiscal 2018, Howard? Assuming that memory does play out the way you think it does, and you have Skylake kicking in, which always is helpful for you. Why can't investors think about a 15%+ gross margin exiting fiscal 2018 if all those things were to come together?
I think, like we've talked about here, Alex, we've got a number of investments. We're going to be leveraging our investments, being better on our operational efficiencies and operating expenses. Obviously, there are a lot of opportunities for us to grow that margin through this year, especially with the refresh cycle coming. With regard to, just to circle back on the next-gen, it was about 76% year-over-year growth.
You guys still feel that, you did have that one vendor that was acquired by a larger OEM, that hasn't impacted your emerging storage business yet? That hasn't changed?
No, it hasn't, probably will provide us with great opportunities going forward as well.
To work with that OEM that acquired that company?
That's correct.
Okay. All right. Thank you.
With those companies.
Great. Thank you.
Once again, to ask a question, please signal by pressing star one on your telephone keypad. We'll take our next question from Nehal Chokshi with Maxim Group. Please go ahead.
Yeah. Thanks. One bookkeeping question. Number of subsystem units?
Number of subsystem units was 1,014,000.
Okay. Thank you. Then, of the 15 new large-scale enterprise customers in fiscal year 2017, how many of them began in this quarter?
Can you say that again, Nehal? Sorry.
In the presentation, there was a statement that there was 15 new large scale enterprise customers during fiscal year 2017. I am wondering how many of those actually started deployments within this June quarter.
Indeed, all of them start deployment in last year, and around half of them start to move on June quarter. Because it's new, that's why the first deployment is not that big, but kind of relatively a very good size, though.
Effectively, I think there was like a 170% quarter-over-quarter increase in the enterprise revenue. Was that because of all these new large scale customers, or was it because you had significant expanse from the large scale customers?
I believe majority from the new enterprise customer.
Okay. For those that did become Super Micro customers at the beginning of the fiscal year, how has the cadence of orders been from those large scale customers?
Certainly, the opportunities are there. As we said earlier, the pipeline is very good for us.
Okay. Great. Congratulations. This is very encouraging.
Yeah. Last year, we won, I believe, more than 15 large enterprise customer. This year, we foresee at least win another 25 or 30.
Great. Thank you.
We'll take our next question from Mehdi Hosseini with Susquehanna Financial Group. Please go ahead.
Hi. Thanks. This is David Ryzhik again for Mehdi. Just to clarify, what % of total revenue in the June quarter did enterprise make up? Just giving your target of adding 30 new customers in fiscal 2018, do you have a target of what % enterprise can make up of total revenue exiting the fiscal year?
Yeah. For the quarter, David, it was about 8% of total revenues.
Great. Do you have a target exiting 2018?
We haven't put a target out there. Certainly, we have plenty of opportunities.
The hope at least is double.
Yeah.
Right? Double.
Yes.
Great. Just related to that, how can we think about OpEx for fiscal 2018? You do have an aggressive strategy to add onboard these new customers. I would assume that would require some investment, yet in your slide deck, you talked about that leveling off. Just how can we think about the quarterly OpEx as moving through fiscal 2018?
As in the chart we share with you, last three years, we grew about 450 engineers just to enable Supermicro 3.0. Pretty much the whole program already established. Looking forward, we don't have to invest much extra investment.
Got it. I guess, no real need to invest in sales and marketing capacity to onboard additional enterprise customers, or you feel like you have what you need?
Pretty much ready.
Okay.
If we had to hire more, we're limited.
Got it.
Okay.
Thank you. Mm-hmm. Yep. Thank you.
Thank you.
We'll take our next question from Aaron Rakers with Stifel. Please go ahead.
Yeah. Thanks for taking the questions, and I apologize for kind of joining a little bit late, maybe some housekeeping things first. How should we think about the progression of the tax rate?
In the prepared remarks, and this is a new concept for us a bit, Aaron, so if you look on the website, you'll see some prepared remarks for us. It'll say that we do have a guide for this quarter of about 34% on the tax rate.
I guess I was asking more beyond that. It's been somewhat volatile quarter by quarter over the last few quarters. Understanding it's somewhat driven by the international mix, et cetera. Again, I think it would be helpful to understand with some of the tax things that you've done over the last few quarters, what should we be thinking about the progression? Where do you think a normalized tax rate kind of falls out for the company?
Well, I think certainly it gets better for us as we go further offshore and increase our foreign presence. At this point, we're guiding 34% for the quarter.
Okay. Fair enough. If you didn't have the constraints this last quarter on DRAM, it sounds like maybe a little bit of flash or SSDs as well, what do you think your revenue could have been? Was that a $20 million impact, $30 million, $50 million? I'm just kind of trying to frame how constrained you are in terms of fulfilling the potential incremental revenue.
Indeed, it's a lot more.
I missed that. Was that a lot more?
It won't be more than small.
Aaron, I think we've done a very good job of managing this, going through the process of managing this. Quite frankly, we're delivering orders and doing it. We saw some acceleration at the end of the quarter, but again, we've done a pretty good job of managing the SSD and memory shortage.
Okay. How much strategic inventory on memory and SSDs are you carrying coming out of this quarter? I think last quarter you talked about kind of $63 million of excess inventory.
It's similar to that.
It's similar to that. Okay.
Similar.
Your current view of when things kind of get back to normal, where you're executing in a quarter that there is no supply constraints, when would you expect that to be?
Yeah, we haven't forecasted that per se. We said out there that.
Okay.
Basically, the memory and flash shortage problem will be getting better from now on, I believe.
Yeah.
By December quarter, I believe we will see some significant improvement.
Okay. The final question, I'm sorry to go back to it, but the enterprise business growing as much as it is pretty remarkable. As that grows and becomes a larger potential piece of your overall business, how do we think about the margin profile of that vertical relative to the margin of your overall business today, say, relative to the 13.5% gross? I'm just trying to understand how we should think about that given what should be a positive mix of software, maybe services that are wrapped around that traditional enterprise customer base.
Yeah. Basically, enterprise customer are more picky for quality for solution. The margin will be slightly better at least. Yeah.
Okay. Is it 200 basis points?
We haven't quantified that, Aaron. It's gonna be better.
Okay. Fair enough. Thank you very much.
That does conclude today's question and answer session. Mr. Liang, at this time, I'd like to turn the conference back to you for any additional or closing remarks.
Thank you for joining us today. We look forward to talking to you again at the end of this quarter. Thank you everyone. Have a great one.
This concludes today's call. Thank you for your participation. You may now disconnect.