Good morning. I've been told it's still the morning.
It is.
I've since stepped out, so I'm assuming it's still morning of day two. We've had a lot of meetings, and I can't believe, like I said, it's still the morning. Welcome to day two. Asiya Merchant. I lead Citi's tech hardware and tech research here at Citi. I am delighted to have Seagate CFO, Gianluca Romano, here with me.
I also have Shanye here in the audience. She heads Seagate's IR team. This obviously is fireside interactive. I do have some prepared questions. I do leave time at the end for investors, so if you have burning questions, please make sure. We're short on time here always. Do raise your hand, please. We will bring the mic to you so that folks on the web can also hear. I'll first turn it over to Gianluca for some prepared comments.
Thank you, Asiya, and thank you everyone for being here today. As always, I will be making forward-looking statement today, and you can learn more about the risk associated with those statements on our website.
All right. Great. Gianluca, I have been asking a lot of these companies, obviously you guys are seeing great growth here. Investors sit back. There is always going to be skeptics worried about, is this cycle really different? Why is it different? So maybe you can opine on that. Why do you think the cycle is different for the HDD space and for Seagate in particular?
Well, I would say every cycle has different drivers. I would say we are very happy on the situation today. It is not for sure the beginning of the cycle because it is already more than three years that we are improving our revenue and our profitability. We discussed at our last earning release, now based on the POs that we have in place, how we see improvement also for the entire fiscal 2027, fiscal year 2027. Every quarter we see improvement in both revenue and profitability. So it is for sure a strong cycle. We see demand growing even faster than what we were thinking. So the gap between supply, demand is not decreasing, it is actually a little bit increasing.
We are trying to grow our exabyte as fast as we can through technology transition and moving from our 30 TB drive HAMR to our 40 TB drive HAMR. We also discussed about the next drive, that will be a 50 TB drive that we will start to qualify about in a year from now. So just not four quarters from now, we will be already in call with a new drive. So this is where we really focus, is technology transition, drive more exabyte as a company, moving the mix up, through the technology. Of course, we are not increasing our units, but we are increasing our exabyte and we are targeting that at least 25% CAGR in the next two or three years.
Okay. As I said, there are always folks who are going to say, "But when do they think they can digest this capacity?" As if the build is complete, but obviously we are seeing CapEx numbers go up. Citi themselves raised their AI CapEx numbers as well. Just as you think about the build that is happening and the exabytes that are getting deployed for storage, in particular HDD storage, do you foresee at least over the next, I do not know, two to three years, that there is going to be some digestion of this storage media that has been deployed?
Based on our LTAs, I would not say so. No. We see volume growing every year. We have LTAs in place for the next two, three years, and we see those volumes going up. We have purchase orders in place for the next four or five quarters, and that are very specific POs with the right mix, with the right price, with the right time to deliver. But then we have also a longer-term LTA where we commit on a certain exabyte volume that our customers need to plan their data center growth. And we see those volumes actually increasing year over year. So we don't see today any change in the trend that we have seen in the last two or three years.
Okay. And then, obviously as the industry is transitioning from training, we're seeing a lot more inferencing. Inferencing tends to be just that much more data being generated. Just how do you think about that 25% exabyte CAGR that you've laid out? And I know that's supply versus demand.
Yeah
So demand's probably greater than that. But when you think about the incremental HDD capacity that your customers are deploying, is there any way for the investors to think about, okay, this is going towards training, or towards inferencing, or this is just more traditional HDD demand that was getting replaced?
Well, there are a lot of drivers for demand. Of course, AI today is a huge part of that demand. There are a lot of traditional application that require a lot of data, and on top of that, you have AI, and more recently you have video AI that is consuming even more exabyte. But there are also other application that you will see in the next two or three years. We are looking at robotic AI, how to use more robotic automation in manufacturing and also outside manufacturing for more normal life that require a lot of video cameras, a lot of monitoring, a lot of data storage. You will see also, I think, a strong improvement in autonomous driving. And all those cars, if you are in San Francisco-
Yeah.
...or if you are in Phoenix, you see a lot of cars going around. All those cars have a lot of cameras, and they collect data all day long, all night long, and all the data gets stored to improve their performance and also for compliance. When those new application will start to evolve in different places and in different part of the world, that is a lot, a lot of data storage that will be required. We see a lot of reason why data storage will continue to grow. When we put all the data together, the new applications, what our customers are telling us, and the other component inside the data center, when you put all together, we don't see today a reason why this trend should not continue.
Okay. KV caching. I know Dave Mosley on the call talked about KV caching, and typically when you're KV caching, you think of a very high-performance storage, which tends to be more flash. How does KV caching, sorry, affect HDD demand? How are you thinking about demand coming through for you guys?
I would say there is, for sure, already a lot of demand for our normal storage.
Right.
Actually, demand is already above supply, so it's not that we are really looking for more demand. But I would say if you look at data center, you have storage, and you have where you run the application. You move the data from storage, that is hard disk, into an end when you run the application. In reality, there is another tier that is, let's say, in the middle, that is the warm storage that you call KV cache. Inside KV cache, you have also different tiers. I would say for sure there are some tiers inside KV cache that can use hard disk drive. I would say that is the only part where you can see a little bit of overlap between NAND and hard disk.
Otherwise, now the normal storage is hard disk. The running of the application is on NAND, but there is something in the middle that could go the same both direction, and I think hard disk can for sure be part of that warm storage in the future. I would say today, again, demand is well above supply, so it's not that we have a lot of opportunities, but could be.
Okay. If that were to materialize and as you see that opportunity materialize, in order to participate in that space, do you guys need to do some development here? Is there some partnership with flash, or is it really just the technology innovation within HDDs?
Yeah. No, I don't think we need to partner with flash. I would say depending from the tier inside the KV cache, there are probably some requirements for performance of the hard disk, so we will have to meet those requirements. Now I think we have for sure the technology to do it, and then we need to see what is the capacity per drive that it will be required. But we have a lot of opportunities, I think, to develop the right performance for whatever storage level is required.
Right. Okay. One of the things, we had some of our enterprise OEMs just report earnings just before Labor Day, NetApp, Dell, very strong growth there as well.
Yes.
I know you've talked a little bit, it's a smaller part of your portfolio. Just what are you seeing there, and as you talk to your customers, your enterprise OEM customers, what are they seeing on storage from the enterprise side, and how much do you think is durability here?
It's very interesting. I would say in the first part of the last three years, the majority of the increase in demand was coming from public cloud. That has continued. At a certain point, we started to see enterprise OEMs or more on-prem data center demand to start to grow again. They buy a little bit different kind of drives. If you look at the capacity of the drives, every segment has a different capacity. The capacity actually goes up every year, but they don't all buy the highest capacity drive. Public cloud, they buy the highest capacity drive. On-prem data center, they buy a little bit lower capacity.
Today, if we sell a 40 TB drive to a public cloud, we probably sell a 28 TB, 30 TB drive to on-prem data center. Probably in two years from now, on-prem data center will consume a 40 TB drive, but they don't have the same structure. So they need to evolve their architecture to use a bigger drive. Public clouds, they already have a very sophisticated architecture, so they can get all the capacity and the highest capacity drive. When you start to go in different segment, you see a different kind of capacity. This is why now we produce actually between 2 TB- 40 TB because every segment has-
Right.
...a different demand.
Then-
But it's very good. Now, they are growing, and I think they will be very important to this business. Also depend where this new application will become important in term of storage. Now, some of the application could be more on-prem, so maybe a certain point on-prem will grow faster than today. I'm sure public cloud will continue to grow very rapidly, but now there are some application that maybe companies prefer to keep on-prem or hybrid. Now some, they go on-prem, some they go on public cloud.
Yeah.
We serve all our customers now in the same way, and now it is a very good business already today.
Okay. All right. Demand obviously consistently outpacing supply here, it is obviously reflected in your own pricing. It has gone from declines to stable to much better even in the June quarter, and I think you just talked about further pricing improvements. Just help investors always push back. A lot of their capacity is already allocated and built to order, those agreements like you talked about. Where is this incremental pricing? I am always surprised, well, okay, pricing was much better. Where is that coming from? Is it this enterprise that we just talked about?
No, I would say it is in every segment. As we were discussing before, demand is above supply and is actually growing a little bit faster than what we were expecting. The gap is eventually a little bit bigger. When demand is above supply, now you have opportunity to increase your price. As you know, we do this in a way that is not super aggressive.
Right.
I think it is very reasonable. We do not want to create a problem to our customers, and we want to keep this sequential improvement going for a long period of time. We have already done this for three years, and based on our orders that we have in place, we said that earning release every quarter of this fiscal year, we will actually see an improvement in both revenue and profitability. Based on the LTAs, I can say I think this will go on even after. We want to keep this for a very, very long time. To do that, you need to do in a way that is sustainable. We are doing that, but of course, we are increasing price as we have done in the past.
Okay. When you talk about units, right? I know you're trying to maintain your units-
Yeah.
...do the areal density to get your exabyte going. As you think about unit growth, are you seeing any change, whether it's from your peers out there who are also stressing unit demand, units being kind of flattish. But any changes you're thinking about the fact that, okay, there is a lot of upside here in terms of meeting demand, because clearly supply is undershooting demand.
Well, we think the best way to address the growth is through technology. So growing the content of the drive, not the units, not the number of the units that we sell. Now we have a very strong technology, and with this technology, with HAMR, we can grow without the need to increase the units. That would change a little bit the dynamic between supply and demand. Now, of course, we want to keep a good balance between supply and demand, and so we like the situation today. It help us to continue to improve every quarter. Technology is where we focus. We have developed HAMR for many years. We are starting to sell HAMR product almost two years ago.
Yep.
We are already on second generation HAMR. We discussed at our earning release, we will start third generation HAMR in just few quarters from now. We are progressing very well. When you go from 30 TB- 40 TB, you increase 33% your capacity. It is a very good increase in exabyte, even if the units remain the same. Going from 40 TB- 50 TB is another 25%.
This is where we focus, of course, on the PMR part of the business. The lower capacity drive. To increase capacity per unit, you need to increase the bill of material. You need to have one more disk and two more heads. If you want to go from an 18 TB drive to a 20 TB drive, you need to add one disk and two heads. As I said before, we sell from 2 TB- 40 TB. HAMR is only on the top-
Right.
...of the capacity, so 30 TB and up. But between 2 TB and 28 TB is basically PMR. On that part, to increase the capacity, you need to have a little bit more heads and more media, because you need to increase the component inside the box. With HAMR, you really focus just on the technology. We have two dynamics going on.
Maybe in future, when we go high enough in capacity, even HAMR can have 11 disk or 12 disk, but it is still space inside the box that we could use at a certain point. Today is less important because when you go from 30 TB- 40 TB, you have a 33% increase. If you go from 10 disk to 11 disk, you only gain 10%. Today is not so interesting for us. Maybe in the future will be interesting to add another disk and maybe two disk.
Yeah. You talk about HDDs. I think they are still a very small percentage of data centers, but a critical component. You look at alternatives that are out there to storage, and obviously the pricing there is significantly higher on a per terabyte basis. When you think about the infrastructure spending that is continuing, storage being a very critical component, I think the question we always get is, how much more pricing flexibility is there for HDDs? Just given the alternative, and is just significantly much higher priced.
You are talking about the neo cloud space or generally the data center?
No, AI, just infrastructure spending on the clouds. When you think about how much more pricing flexibility is there as you continue to, as spending continue.
Well, I think there is no reason why we should not get a similar result in the future than what we got in the past, because demand is actually higher than the gap between demand and supply is actually a bit higher. Again, we are not a big part of our customer CapEx.
Right.
It's not that we are impacting so much their spending overall, even with our increase. We don't want to be super aggressive. We want to be reasonable, but we want to keep this very, very long. Every quarter is different for many reason. Some quarters you have more volume because you have prepared your manufacturing for a new product, so we have a lot of the new product coming out. Other quarters, you have a lot of new contracts that are renegotiated, so you have good pricing, sequential improvement. It depends also what you did a year before because that can impact your comparable. Every quarter is different. There are a lot of variables, but the result is the same. Revenue will go up and profitability will go up.
As we think about these transitions, you talked a little bit about density goes up as you go from 30 TB- 40 TB, and then eventually you have the 50 TB there as well. Just on the cost per bit reductions, now that you're in your second generation HAMR, obviously yields could be better. How should we think about that cost per terabyte decline that you're on?
It's very good. I would say, now we produce internally where the technology is, so on the heads and on the media. Of course, the cost to produce a head on a media, the unit cost actually is not changing if it is a 3 TB or a 4 TB or a 5 TB. So we have a very good cost per terabyte decline on what we produce.
What we buy externally depends. There are some years where the component cost is going down, so that adds to the cost decline. There are some years where it is a mixed bag. Some components are increasing, some components are declining. In some years, if you think about the COVID period of time, all the components were actually going up and there was a little bit of inflation. That part really is different and is less under our control. But on what we control, of course, we have a very good cost decline.
When we are thinking about these qualifications for the 50 TB, you said about a year from now, are your customers just getting maybe faster at qualifying this now they have played around with HAMR, now second generation, or is it the same length of qualification cycles?
Well, I would say the first generation HAMR was a little bit more difficult.
Right. Of course.
Well, for sure with the first customer because-
Right.
...now it took longer to find the right configuration of the drive to work as it is used in a big data center.
Right.
I would say for every customer, they took a little bit more time to test. Now, it's not that it was different, they were just testing for longer. Just now to be sure where the change into the technology was now resulting in some unexpected result. Second generation is going very fast.
Okay.
I would say right now they don't even think about technology as just a new product. But on something where they already know very well. I don't think it will be different HAMR compared to what was PMR.
Right. Okay. Each time you do a ramp, as you are transitioning from 40 TB- 50 TB, for example, there are some inefficiencies that do creep in, whether it is shipping product just for qualifications, and so you cannot recognize that as revenue. As you think about and you are getting faster and learning from your prior transitions, how should we think about those manufacturing inefficiencies as you transition?
I would say, well, there is always a little bit of transition cost when-
Right.
...you go from one product to the other. I would say it is normal for the business. It has always been similar. So we always have some transition even with PMR products. I would say because now we grow more, now you go from 40 TB- 50 TB. So now you will see eventually more variability in the exabyte. Now, when you grow from 18 TB- 20 TB, if the unit are similar, now you grow by 10% or less, 5%. Now with HAMR, you could have quarter where the exabyte growth is very variable. Now, when you prepare the line for the transition, we do not grow so much.
Right.
When you start to get the output, you have a quarter where maybe you jump a little bit. So you will have a little bit more variability on exabyte volume, but the CAGR will be about 25%.
Yeah. All right. Just going to turn around, see if there's any questions from the audience. Please do raise your hand. Okay, I'll continue. Nearline capacity, obviously again, you said you have LTAs you're extending quite. Yet your CapEx is just 4%-6% of your revenue. You want to stick to that range. At what point, I know investors constantly ask, at what point would you have to see to maybe just step up that CapEx? Or do you see, again, whether it's transitions to higher terabytes, I don't know if that causes a step-up in that sort of CapEx as a percentage of revenue?
No, I would say, we see a strong demand already today. Already demand is above supply. I would say what this industry needs is two things. One is when you are on HAMR, especially the heads, they require a little bit longer cycle time. Basically, a heads is produced on a wafer. This wafer has to go through all the PMR equipment like before, and then has to go through some specific HAMR equipment. So cycle time is longer. So if you want to extract the same volume, you need a little bit more space or you need to start more wafer and get the same output.
So, of course, a little bit more space is now is part of what we need. And especially on the PMR, you need a little bit more heads and more media because you grow through more components, not through technology. This is what we do now. We increase the number of heads, we increase the number of media, we increase a little bit the space that we need. Everything in our CapEx range, so between 4% and 6%, so it's very reasonable.
Okay.
All this, when you put all this together, you will see it's the same number of units, but about 25% more exabyte.
Okay. Just on gross margins, again, very strong incremental margins. On top of that, you have OpEx leverage, of course, in the model as well. When you think about the margin expansion, I know there's various variables-
Yes.
...but there's pricing, cost per terabyte declines. There is some other on the OpEx side as well, then you have flexibility in terms of OpEx leverage. So help investors understand, which are the biggest drivers on that margin expansion story?
Yeah. Of course, pricing and cost are both very important. I would say, if you look our last quarter, I think we had a very good performance on both. Maybe even more on pricing than cost. I would say, and we were discussing before, every quarter is a bit different. We had a huge increase in revenue in the June quarter that was coming also from a very good volume that was coming from our 40 TB. It's a new product. You go into September, now we guided another very significant increase in revenue and in profitability.
Now, of course, this also means that in this quarter, we have a good level of new contracts with high volume, so there is a good pricing support in the specific quarter. We are preparing more 40 TB volume coming out because we will have other customer that will be qualified fairly soon. So again, some variability between volume and pricing in term of revenue and, of course, pricing and cost in term of what we produce that will generate finally the improvement in gross margin.
Okay. Without talking about necessarily units or CapEx growing, there's just so many opportunities. We've already talked about physical AI, robotic AI, KV caching, of course, AI inferencing demand continue to grow. Just on the OpEx side, you've kept an OpEx to revenue target there. If these things speed up at the pace that we think it could speed up to, how are you thinking about R&D spending and sales SG&A spending?
Yeah. I think, in term of head count, we don't see a reason why we should really increase our head count. I think we have all the talents that we need to work on HAMR and the business is not changing from a sales perspective. The number of customers are so far the same, so we need more or less the same people to support.
So I think we will be fairly stable in term of head count and OpEx. The majority of the cost is head count, with some variability in R&D material because now there are some period where you run a little bit more material in R&D, some period a little bit less. But I'll say, for this fiscal year, we guided our OpEx fairly stable around the $300 million per quarter.
Right.
I would say for the next three, four quarters, we don't see any reason for changes. If we see future opportunity maybe in technology to do something different, maybe we will take the opportunity, but so far we don't see it.
Okay. All right. These LTAs that you're signing with your customers, they're now extending beyond. I know some of them are just volume-
Yes.
...beyond a certain this thing. Maybe how have the volume assumptions changed? Can you help investors understand, within these agreements, they're growing bigger-
Yeah.
...obviously, but when you talk about how much capacity they need, just within what's written in the agreement, are you guys building a lot more flexibility in these agreements beyond the next four-quarter period?
No, not a lot of flexibility. No, we try to allocate all what we think we can produce.
Okay.
Of course, we do not allocate more than what we are sure we can produce. We do not want to run into that situation where we promise something, and we cannot deliver. We promise what we think we can deliver now, assuming everything goes well, and we transition now in a certain way, product after product. As we said before, we see more volume, so higher volume for all the customers that are into those LTAs. This is why we feel comfortable that now it is not a short-term cycle. It is actually a very different trend.
I would say every time we re-discuss the agreement, our customers are asking for more volume, not less volume. This gives us even more confidence. And of course, now we try to go as fast as we can to the next product and next product and next product. When you talk about three, four years out in time, it will be a capacity that is way higher than 50 TB. We need to keep all that into consideration and try to commit to a number that we can achieve and can at least satisfy a good part of the demand that our customers have today.
Okay. And then capital structure, Gianluca, that has been important for you.
Yes.
You've been working on bringing that net leverage down. I think now you are well below your target levels. There is a lot of that convert tech that you been, you know, retiring as well-
Yeah.
...how do you think about that optimal capital structure for Seagate? How much cash do you want to keep? How much do you want to return?
Yeah, I think in term of debt, we are almost done.
Okay.
Now all the activities we wanted to do this quarter are at this point already done. But it's still one note with high interest rate that we want to address possibly next quarter. After that, I think we are good. Now we will have a very low level of debt. We will generate a very strong free cash flow. Now we are already generating a very strong free cash flow, and therefore, we will move to now what we have done very consistently in the past, so higher share buyback and now I'm still focusing on a good return in term of the dividend.
Okay. And just remind us, like free cash flow margin, have you shared a target?
We didn't share a target.
Okay.
Our cash flow has improved a lot.
Right
especially in the last couple of quarters. I think last quarter was already above $1 billion. It was $1.1 billion. Now we said, of course, increasing revenue, increasing profitability will result, also in higher free cash flow. So we will generate a strong free cash flow this quarter and next. After that, all the debt that we wanted to repay will be repaid. So we are already doing a good level of share buyback this quarter, and we will do also next quarter, but after that, we will probably do even more.
Yeah. Fair enough. All right. Let me ask the audience questions here. On the hype. Well, I will continue then. You have all these other various opportunities you talked about, hyperscalers, enterprise, robotics, physical AI. Which is the one that you are sort of most excited about, or maybe investors don't appreciate it? I mean, hyperscaler story's been growing. They have been growing. Enterprise seems to be now something that's coming up as well. But when you think about what investors are underappreciating about the growth opportunity for HDDs and for storage, what are investors missing?
Well, I think everything that is based on video, so robotics, for example, there is a lot of video attached to the robot. So all that part is what will consume more exabyte. So you say, "Well, what are you more interested in?" Is whatever has a video attached because we consume more exabyte in term of storage. So autonomous driving, I think, will be huge. And robotics, especially when it's applied into manufacturing, will be huge, or quality control, so that is based on a video.
So all those part, I think, will be extremely important to hard disk. Of course, everything is then linked to AI, because then AI improve the result and give back a tangible improvement to people and companies that are using AI. This is why it's so important to us. Now, it's a benefit for everyone, but it's a cost, of course, but it's very important to everyone.
And sovereign AI, we talk a lot about hyperscalers. Where does sovereign AI come into? Is this just another end market that you're addressing through your hyperscaler customer with your other customers?
Today, yes.
Yeah.
I would say now there is a lot of sovereign AI. There are some data centers that needs to be in a certain country and somehow segregated from external access.
Right.
But they're still built today by the same big cloud guys. They control manufacture the big data center, and then very often you see employees are only from a certain country, and there are some way to separate that data center from maybe having visibility externally. But they're still built by the same big public cloud companies. So we sell hard disk to them-
Right.
...and then they install into those specific data center. But in future could be different. Now could be other companies that now specialize only on sovereign data center. But today, I would say it's mainly through the big public cloud.
Right. And the same for the Neoclouds. It seems like that's the end market-
Yeah.
...but they're fulfilled through the-
Yeah. Neocloud today, they basically run the compute application.
Right.
They do it for the big public cloud. We basically have the same customers.
Right.
We sell storage, they sell compute. We sell storage directly to the public cloud.
Yeah.
The Neocloud access the data that is on a hard disk into the public cloud, they import into their data AI data center. They run the application, and the result gets stored again into the public cloud storage.
Right.
The storage is centralized into the public cloud. It's huge and it's centralized. In future, if data center want to have different customers, they cannot access the public cloud storage anymore because they don't work for them. They work for someone else. They will need to have their storage. So at that point, you could see some of what we today we sell to the public cloud will be sold to the Neocloud.
Okay.
And they will start to have their own complete data center, including storage. I think it is good from a customer diversification. In term of volume, probably not very different because now today is a probably bigger volume centralized with a certain number of customers. Tomorrow, some of that volume will go to the Neocloud. But will be positive from a customer diversification and-
Okay. We are up on time, Gianluca.
Perfect.
But just maybe-
Thank you.
Why should investors still be holding or buying more, rather, of Seagate stock?
Absolutely. I would say, basically what we said at the beginning, demand is very strong. There are a lot of new applications that will drive the need for more storage. There is no replacement in data center for hard disk storage. The only way to store data and use data into a big public cloud or on-prem data center is hard disk. Demand will continue to grow, and we will continue to increase our exabyte, or as the level that we discussed, and we are continuing our strategy in terms of pricing and customer support that has resulted in better revenue and better profitability for already three years, and we see this continuing.
All right, great.
Thank you.
Thank you very much.