Good morning, and welcome to the Seagate Technologies Fiscal Third Quarter 20 15 Financial Results Conference Call. My name is Candace, and I'll be your coordinator for today.
At this time, all participants
are in a listen only mode. Following the prepared remarks, there will be a question and answer session. As a reminder, this conference is being recorded for replay purposes. At this time, I'd like to turn the call over to Kate Skolnick, Vice President, Investor Relations. Please proceed, Kate.
Thank you. Good morning, everyone, and welcome to today's call. Joining me today from Seagate's executive team are Steve Lusso, Chairman and CEO Pat O'Malley, Executive Vice President and CFO Dave Mosley, President, Operations and Technology Rocky Pimentel, President, Global Markets and Customers and our General Counsel, Ken Massaroni. We posted our press release and detailed supplemental information about our fiscal Q3 on our Investor Relations site at cgate.com. During today's call, we will review the highlights from the March quarter, provide the company outlook for the 4th fiscal quarter 2015 and then open the call for questions.
We will refer to non GAAP measures on this call, which are reconciled to GAAP figures in our supplemental information on our website. We are planning for the call today to go approximately half an hour and we will do our best to accommodate your questions in that time frame. As a reminder, this conference call contains forward looking statements about the company's anticipated future operating and financial performance, customer demand and general market conditions. These forward looking statements are based on management's current views and assumptions and should not be relied upon as of any subsequent date. Actual results may vary materially from today's statements.
Information concerning risks, uncertainties and other factors that could cause results to differ from these forward looking statements are contained in the company's SEC filings and supplemental information posted on the Investors section of the company's website. I would now like to turn the call over to Steve Lusso. Please go ahead, Steve.
Thanks, Kate. Good morning, everyone, and thank you for joining us today. For the fiscal Q3 2015, Seagate achieved revenues of $3,300,000,000 on a non GAAP basis, gross margins of 28.9 percent, net income of $357,000,000 and diluted earnings per share of $1.08 As we indicated in our business outlook in January, challenges from macroeconomic pressures in Europe and PC demand were factors we needed to manage through the quarter. The magnitude of these factors actually increased intra quarter resulting in impact to our top line revenue beyond our initial expectations, particularly in our EMEA business, which was down approximately $100,000,000 sequentially. In light of these dynamic market conditions, we are satisfied with the company's overall execution this quarter and we are particularly pleased with our sequential gross margin improvements and demonstration of operational expense control.
Overall storage shipments for the March quarter were 55 exabytes up 9% year over year with average gigabytes per drive for the quarter increasing sequentially and continuing to average over 1 terabyte per drive. Cash flow generation was again strong in the March quarter and we achieved $374,000,000 in operating cash flow and $215,000,000 in free cash flow including our previously announced $225,000,000 payment for our tax audit assessment with the state tax bureau in China. Our non GAAP operating expenses were 5 $55,000,000 reflecting expense control around the core business and some optimization in our cloud systems and solutions business. Capital expenditure in the March quarter were in line with our expectations and inventory both internally and externally are within manageable levels. Our balance sheet remains strong and we ended the quarter with $2,600,000,000 in cash and cash equivalents.
During the quarter, we returned 888 shares outstanding. Year to date, we have returned $1,400,000,000 to shareholders and have redeemed approximately 5% of our ordinary shares outstanding. We continue to believe our capital allocation policy is aligned with the long term shareholder value creation and reflects our confidence in our ability to generate strong cash flow from our business. Before I cover our business outlook, I'd like to turn the call over to Dave Mosley to provide an update on the technology portfolio refresh that is underway across our business. Thanks, Steve.
Regarding our comments last quarter that we are in the process of refreshing significant portions of our HDD and SSD product portfolio, I'm pleased to say that we are executing very well on our plans. With our traditional enterprise mission critical HDDs as well as with our newest high capacity cloud offerings. Our 4 terabyte, 6 terabyte and 8 terabyte platforms are performing extremely well in the field and customer adoption was strong in Q3. In the retail space, our 2 terabyte, 2.5 inches drive still leads the industry in aerial density and will be refreshed in the next two quarters to a lesser extent. As the costs of NAND flash have come down over the last several quarters, customers have begun to recognize the combination and the value of combining non volatile caches with HDDs.
With the advantage of selling over 15,000,000 hybrid drives under our belt, we believe we are uniquely positioned to drive continued innovation and lead the industry in delivering this value the value that combination of technology enables. Revenue growth and customer qualification traction for our SSD controllers, solid state drives and PCIe accelerator cards are on track to our milestones. Our recently announced partnership with Micron for our next generation enterprise SaaS SSD is proceeding well and customer feedback has been favorable. In addition, we are very happy with the close collaboration that we have with customers on application specific tuning for SSDs in data center environments, underscoring the quality of our decisions in the M and A space over the last few years. In the high performance computing space, this past quarter saw major new wins with leading academic, public sector and private labs that combined represent more than 120 petabytes of storage capacity, equivalent to the amount of storage needed for 1600 years of HD video.
We also made 1st delivery of a massive scale out storage system that when complete will achieve 1.7 terabytes per second, while ingesting data making that the fastest storage system in the world. And it's built end to end on Seagate storage technology. I'm really pleased with the breadth of technical innovation that the Seagate engineering teams are delivering, while continuing to judiciously manage operating expenses during a period of dynamic market conditions. I'd like to take a moment to thank the entire global team for their continued efforts. And with that, I'll turn the call back over to Steve.
Great. Thanks, Dave. Turning to our business outlook. The long term trends in data growth, big data analytics, machine to machine computing and public and private cloud deployments continue to progress in an encouraging manner. Seagate is expanding and investing in its storage technology product and solutions portfolio to align competitively with these market dynamics and capitalize on exabyte demand growth.
We remain optimistic that calendar year 15 will provide significant opportunities to deepen our customer relationships, leverage our business model and return value to our shareholders. In the near term, macroeconomic pressures in Europe and global currency fluctuations are continuing to have an effect on customers' demand visibility. While we expect Europe to be challenged economically for most of 2015, it continues to be difficult to assess the degree of this impact will have on our client market customers in addition to the timing of the release of Windows 10. Overall demand in the enterprise market is relatively stable. And as we have expressed previously, the nearlinehighcapacity drive market can exhibit variations quarter to quarter as cloud service providers drive higher utilization of storage capacity additions and others prepare for build outs in the second half of the year.
When you take a multi quarter view of this market, the exponential demand for storage is evident as exabyte capacity shipments in 2014 were up 35% over the prior year. From a broad base of discussions with customers, we currently believe that the addressable market in the June quarter will be relatively flat with the March quarter. We are targeting revenues for the June quarter of $3,200,000,000 to 3,300,000,000 dollars and managing to a very lean production schedule. Should macro conditions improve or PC builds accelerate with improved confidence in back to school demand, we could see upside to this forecast and we have the ability to flex up production as necessary. We will continue to shape our top line revenue opportunities that preserve our business profitably and enable us to continue to invest in advancing our storage technology portfolio offerings.
For the June quarter, we anticipate margins of approximately 28.5% taking into account continued dilution impact from our recent acquisitions. We're targeting operating expenses at $555,000,000 as our core product portfolio refresh continues to be on track as well as timing of investments in our new market adjacencies. Looking further ahead, we continue to believe that the second half of the calendar year will be stronger than the first half with demand coming from the PC market, seasonal gaming demand and continued stability in the enterprise market with potential upside from hyperscale deployments. We're confident in the long term dynamics of data growth and the opportunities ahead for Seagate in the storage technology marketplace in 2015 and beyond. I thank our employees for their hard work and our customers, vendors, suppliers and shareholders for their ongoing support.
I'll now open up the call for questions.
And our first question comes from the line of Rich Kugel of Needham and Company. Your line is now open.
Thank you. Good morning. A couple of questions. First, can you comment on what you felt the TAM was in March, so we understand the base for June? And then secondly, just on the PCIe space, Nitro, there's been some competitors complaining that the PCIe market is losing mindshare to SaaS solutions and SATA solutions.
Can you just talk about what you're seeing from a competitive technology perspective in PCIe? Thanks.
Yes. I'll Rich, it's Steve. I'll have Dave answer the second percent percent. So that would translate into a TAM of call it 125, 126. Last quarter being early that we are we made a guesstimate.
We were off by a few 1000000 units I think as it turns out when everything rolled in. So we'll have to see what the other companies report. But our sense is we held share and that would imply about $125,000,000 $126,000,000 something like that.
Okay.
And then Rich, this is Dave. I'll take the second part. Relative to the PCIe space, what we're finding is that the customers who tend to buy these drives really want their applications accelerated in a very specific way. So there's a lot of deep understanding of the application that's required in order to get the design win and a lot of work with the customers specifically to make sure that it has traction across their entire installed base when you install it. There is a very healthy market out there right now for SATA and SAS going into existing plugs without that the requirements of that tuning.
And I wouldn't pit one against the other, although I would say that maybe some of the growth of the PCIe space was a little over blown in the past. It's very customer and application specific and there's a lot of work required in order to get that traction. I think going forward the idea that everything becomes the model where you just unplug what you have against one of those SaaS or SATA plugs and plug in something new is probably not the right answer though, because I think there will be architectural disruption on the software and hardware side that require further optimization. And on a lot of the PCIe space, obviously, that time is money. The application acceleration that you can get means a lot to those customers and we'll continue to do that work.
So Rich, I think on the comment about overblown, I think the point is that going back a few years when people were projecting how big they thought this market was and how fast it was growing, I don't think that was has ever really been substantiated in terms of how these deployments really occur. And with respect to the specific question around our particular product and the traction we're gaining with customers, we
find it to be
quite positive and we
Thank you.
Thank you. And our next question comes from the line of Aaron Rakers of Stifel. Your line is now open.
Yes. Thanks for taking the questions and congratulations on the quarter. Can you talk a little bit about you made a comment about some optimization in the operating expense structure of your cloud solutions business. Can you just remind us where you're at in terms of the ramp of the ZYRIOTEX business and whether or not you still see upside drivers of what you've laid out in the past, I think $650,000,000 to $700,000,000 And then where you stand on realizing or how much maybe further cost optimization realization could be had from that piece of the business?
Yes. So we're still expecting that as things develop over the next call it 1 to 3 quarters that we're going to gain some confidence on increasing that profile on what we think the revenue opportunity is from the CSS business. And on the margin side, we inherited a business that had a lot of good technology, but operationally probably hadn't had some of optimized and drive some of the efficiencies that we typically do on the drive side. So we're actively using that operations capability that we have to push more efficiency and flexibility, which is it's kind of a combination of trying to get the efficiency with the flexibility because these orders come in fairly dynamically with not a lot of time sometimes to address the opportunity especially as we get near the end of the quarter. There's still kind of this systems mentality where stuff is very back end loaded, which we're trying to address operationally as well as how we manage our inventory.
So I think there's a lot there's a fair amount of room there in terms of what we can do on the margin profile over the next 1 to 2 years.
And how much of an overhang is that right now on your gross margin?
On the gross margin, I'll give you an estimate. It's hard to kind of exactly split everything that we're doing because we are an integrated leverage company. But I think at least 50 to 70 basis points.
Okay. Thank you very much.
Yes. Thank you.
Thank you. And our next question comes from the line of Sherri Schrivener of Deutsche Bank. Your line is now open.
Hi. Thanks. Steve, considering the market was a bit weaker than I think most people expected going into the quarter, I was hoping you could give us some commentary on what you saw in terms of pricing. It looks like your ASPs were up more like it looks like on like for like basis they declined a little bit. So I was hoping to get some commentary.
Thanks.
Pricing was about as expected in the quarter. I'll let Rocky talk to it, but it was about as expected. We did have good mix up.
Yes. This is Rocky Pimentel. Yes, I think as Steve said, the mix up was good. I think even in light of the fact this was kind of a seasonal hyperscale service provider consolidation period where their purchasing becomes a little more flattish waiting for their expansion in the back half of the year. It was still strong year over year.
And I think the enterprise was pretty stable. Certainly, the client had pressure, but we tried to apply very disciplined methodology towards making the market at the low end of the drive portfolio. So I think we felt really good about the overall mix in the product portfolio. And certainly, I think it's a reflection of the kind of value that we have going forward in the hyperscale new data center kind of world we're going to see.
Thank you.
Thank you. And our next question comes from the line of Steven Fox of Cross Research. Your line is now open.
Thanks. Good morning. Just broadly speaking on your non HDD business, it looked like it was roughly flat, if my numbers are right quarter over quarter. I know there's seasonality in there. Could you just talk about how your sales are tracking towards some of those long term goals you laid out?
Is there any other positive surprises in non HDD sales? And if you're still targeting some of the leverage for next fiscal year? Thanks.
Yes. Everything is still on track. So all the businesses either hit their plan of records that we had or maybe slightly achieved our internal and we feel good about the opportunity and the growth prospects that we provided previously.
And then Steve there's been a lot of M and A discussion in general around storage recently. I mean I know you guys are always looking at stuff, but is there anything if nothing came out in terms of acquisitions over the next 6 to 9 months, is there any reason to think that you're not your portfolio isn't fully loaded for growth profile? Or what do you have to do to continue to develop it beyond what you've discussed so far?
No. I think we have the pieces we need to meet the growth profile. I think if you see us pursue M and A activities, it will either be to affect the margin profile in terms of the technology that we're providing to the customer or it will be to either expand market share or broaden the technology portfolio in another way that would gain greater revenue growth. So it could either be a play on the gross margin or could be a play on the revenue opportunity. But right now I think the assets that we have support the growth profile that we've indicated.
Great. That's very helpful. Thank you.
Thank you.
Thank you. And our next question comes from the line of Amit Darianni of RBC Capital Markets. Your line is now open.
Thanks. Two questions for me. I guess, one, could you just maybe talk about the enterprise business, especially the nearline drives? Historically, you've had a few good quarters in Nearline drives? Historically, you've had a few good quarters and then you hit a bit of a lull.
So I'm curious to what extent you have good visibility in that business? And as you Yes.
This
Yes. This is Rocky Pimentel. Certainly, the high end of the product portfolio always contributes to our gross margin and that was manifested in this quarter's strength in gross margin despite the challenges we faced in revenue. I think our portfolio and as we've talked about our 8 terabyte and beyond and Dave mentioned the strength of the hybrid program and things like that. I think we feel very positive about the prospects that the high end of the portfolio offer as we go forward throughout this year and then into next year.
And I think with the partnership with Micron and working on hybrid programs and next generation SSD solutions just broadens the non HDD portfolio that Steve was asked about previously. So I think we feel really good about the opportunities we have in our toolbox to go forward over the next several years.
Got it. And then, yes, I'm just curious on the June quarter, it seems that TAM is going to be flat. The mix sounds like it's going to be fairly stable. So could you maybe find out what are the levers that are resulting in a 40 basis points decline in the margin guide that you guys are providing for gross margins?
This is Pat. So you heard us, we're going to try to manage the supply tightly this quarter. And with that, we're going to run the factories probably not the optimal way. So we're planning some downside there. But as Steve and Rocky said, we were quickly poised to take advantage of any opportunity that comes to us and we could get some lift there.
But we're just going to manage supply really tight this quarter. And that manifests itself in a short term margin compression, but long term economic benefit by maintaining that supply. So it could be a little better, but we're managing the business really, really tight this quarter.
Yes. This is Rocky Pimentel. I think to add on to Pat's comments there, the marginal profitability for gross margin on the marginal units that we may benefit from with any kind of upside in the quarter definitely would help us to improve the the outlook the outlook based on a somewhat cautious TAM I guess for lack of a better description.
Perfect. Thanks a lot and congrats on the
quarter guys. Thanks. Okay. We probably have time
for just a couple more questions before the market opens.
We want to be respectful of that.
Thank you. And our next question comes from the line of Katy Huberty of Morgan Stanley. Your line is now open.
Yes, thanks. In the context of the flat TAM for the June quarter, can you just talk about what you're expecting for PCs versus enterprise versus cloud sequentially? And then just your thoughts on Win 10 in the back half and how that impacts PC seasonality this year? Thanks.
Yes. I think actually all of the different markets seem to be at least as we're managing going into the quarter flat. I think where there's opportunity for the upside is probably on the PC side depending again on the OEMs confidence about back to school pool, which I think they'll start deciding probably in the month of June. I think my guess is they got their build plans pretty set for April May June with one level of expectation about back to school, which they're obviously going to prepare for. And then I think if there's some shift in terms of what the macro conditions are, whether or not that's global or just more confidence about what's happening in the U.
S, then you could see an acceleration in June. So think on the client side and maybe that's mostly a notebook comment, I think that's where there's some opportunity for something beyond flat. There was also a lot of inventory and supply chain adjustments in the March quarter that we have perfect visibility on, but it's pretty clear that the OEMs drew down inventories and limited their production. So this quarter they probably have to catch up on the production side to meet even a flat demand or I guess maybe Intel even implied a slight growth. So we're watching that closely.
As indicated on the near line side, capital deployment plans, most as we would see it though the acceleration is probably more in the September and the December quarter. And whether or not they pull anything into the June quarter just to smooth out that pull in September December is I think where the opportunity might be there. And I think the other markets are relatively flat.
So is it fair to say your guidance does not assume a pickup in PCs in the month of June and that would be largely upside versus the guidance you provided?
Yes, that's correct.
Okay. Thanks. And then just Win 10 in the back half and how that impacts seasonality?
Well, I mean it should benefit it, but it seems to be a bit of unknown right now in terms of the timing.
Thank you.
Yes. Thanks. One more question and we should probably let everybody get to work.
Thank you. And our last question comes from the line of Monika Garg of Pacific Crest Securities. Your line is now open.
Thanks for squeezing me in. First question on the could you talk about the visibility? Like your comments suggest that you can you expect pickup in demand profile from hyperscale customers back half of calendar 2015? Just wanted to check those views.
So, Monica, you just want to view the visibility from the customers? Just want to make sure Hyperscale. On the hyperscale.
Hyperscale customers and how do you expect pickup in demand in the back half of than under 2,050?
Sorry. Yes, this is Rocky Pimentel. Yes. As Steve mentioned, the hyperscale, the major global hyperscale service providers are all pretty strong in their dialogue about their capital expansion in the second half of the year. And the question I think as was posed earlier is how do we see the June quarter?
And it's really the opportunity is if the hyperscale providers accelerate their purchasing and start in like the June month, that's an opportunity for us to service. But we're trying to again maintain kind of a cautious demeanor for the June quarter. But certainly hyperscale providers present a very strong opportunity as we go into the back half of the year for sure.
Long lead signals for us would point towards at least sixty-forty split second half to first half in terms of the exabytes they're demanding. And for some it's even greater. So again it seems to be one of the phases where they're going to deploy pretty heavily and then they wait and fill it up and then they deploy again. So that's what we're seeing right now. That's obviously a function of their data growth needs, macro conditions.
But right now that's kind of what we're seeing kind of sixty-forty or even a touch more.
Thanks for the color. Just a follow-up.
Okay.
If my memory serves right, enterprise
We should wrap it up. We're at the market open. So we want to thank everyone for participating and we look forward to speaking with you next quarter. Okay, great. Thanks everybody.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Have a great day everyone.