Article from Seeking Alpha
January 5, 2012
Xyratex (XRTX) Q4 2011 Earnings Call January 5, 2012 4:30 PM ET
Operator
Good day, ladies and gentlemen, and welcome to the Fourth Quarter and Fiscal Year 2011 Xyratex Earnings Conference Call. My name is Keith and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. And I would now like to turn the conference over to your host for today, Mr. Brad Driver, VP, Investor Relations. Please go ahead, sir.
Brad Driver
Thank you, Keith. And good afternoon, everyone. Thank you for taking the time to join us this afternoon. I'd like to welcome investors, research analysts and others listening today to Xyratex's Fourth Quarter, Fiscal Fourth Quarter, and full fiscal year 2011 Results Conference Call.
On our call today are Steve Barber, Chief Executive Officer; and Richard Pearce, Chief Financial Officer. Today's call is being recorded and will be available for replay on Xyratex's Investor Relations homepage at www.xyratex.com.
I'd like to remind everyone that today's comments, including the question-and-answer session, will include forward-looking statements, including, but not limited to, a forecast of future revenue and earnings and other financial and business activities. These statements are subject to risks and uncertainties that may cause actual results and events to differ materially. These risks and uncertainties are detailed in Xyratex's filings with the Securities and Exchange Commission, including the company's 20-F, dated February 22, 2011.
Also, please note that in addition to reporting financial results in accordance with Generally Accepted Accounting Principles or GAAP, Xyratex routinely reports certain non-GAAP financial results. These non-GAAP measures, together with the corresponding GAAP numbers and reconciliation to GAAP, are contained in our earnings press release. We encourage listeners to review these items.
I would now like to turn the call over to Richard to review the financial details of the quarter and the full year.
Richard Pearce
Thank you, Brad and good afternoon, everyone. I'd like to thank you for joining us today. Our press release is available both on PR Newswire and our website. I'd now like to provide you with some commentary about our results for the full fiscal year and the fourth quarter of 2011. Please note that all numbers are in accordance with GAAP unless stated otherwise.
Revenue for the full year was $1.45 billion, down 9.6% compared to fiscal year 2010. Revenue for the fourth quarter was $388 million, down 2.3% as compared to the fourth quarter of last year and up 7.1% from our prior fiscal quarter. Sales of our Network Storage Solutions products in the fourth quarter were $353 million, representing an increase of $26 million or 7.9% compared to the fourth quarter of last year and up 4.7% compared with $337 million in our prior fiscal quarter. Revenue from our Network Storage Solutions products for the full year increased 5.2% to $1.32 billion in 2011 compared to $1.26 billion in 2010, accounting for 91% of total revenue and 95% of gross margin.
The change from the prior year reflects growth across the majority of our major customers, including Dell, EMC, HP and IBM, offset by a proportional product volume shift as per our contract with our largest customer, NetApp, which Steve will describe in further detail. Sales of our Storage Infrastructure products in the fourth quarter were $35 million, down 50% compared to the fourth quarter of last year and up 36% compared with our prior fiscal quarter. Revenue from our Storage Infrastructure products for the full year was $124 million, down 64% compared to $343 million in 2010, accounting for 9% of total revenue and 5% of gross margin. The fiscal year performance for our SI division reflects reduced demand for capital equipment from our 2 major customers, Seagate and Western Digital, as a result of their proposed acquisitions from Samsung and Hitachi, respectively. The impact of the 2 natural disasters in Japan and Thailand reduced demand for PC drives and increased competition from Teradyne.
For fiscal year 2011, gross margin was 15.4% as compared to 17.6% in fiscal 2010. The decrease from the prior year was primarily due to the decrease in SI revenue, partially offset by an increase in our NSS gross margin. Gross margin for 4Q 2011 was 17.7% compared to 16.1% in the same period a year ago and 16.7% in our prior fiscal quarter.
For the full year, gross margin in the NSS business was 16.1% as compared to 13.3% in fiscal 2010. The gross margin for Q4 2011 was 17.7%, up from 13.3% a year ago and up from 17.2% in the prior quarter. The increase, as compared to the last year was primarily due to favorable changes in customer and product mix.
For the full year, gross margin in the Storage Infrastructure business was 8.3% as compared to 33.4% in fiscal 2010. The gross margin for Q4 2011 was 18% compared to 29.7% in the fourth quarter of last year and 9.6% in the prior quarter. The decrease as compared to last year was primarily a result of decreased revenues relative to fixed costs.
For the full year, non-GAAP operating expenses increased by 21.4% to $179.1 million as compared to $144.6 million in 2010. The primary reason for the increase was increased R&D investments in the new SI product platform and the NSS ClusterStor beta program launch. Decisive actions were completed during 4Q to reduce expenses in our SI business to better align our cost structure with our business expectations.
Non-GAAP operating expenses in the quarter were $44.3 million compared to $42.5 million in 4Q of last year and $45 million last quarter. 4Q expenses includes $2.75 million of restructuring costs. The full benefit of this restructuring exercise will be experienced beginning in Q1 2012, partially offset by increased expenditure related to our ClusterStor business. We expect Q1 expenses to be in the range of $40 million to $43 million.
For fiscal year 2011, GAAP net income was $28.3 million or $0.93 per diluted share compared to GAAP net income of $139.4 million or $4.46 per diluted share for fiscal year 2010. On a non-GAAP basis, full year net income was $39 million or $1.28 per diluted share compared to $135.7 million or $4.34 per diluted share a year ago.
GAAP net income in the quarter was $18.5 million or $0.65 per diluted share compared to GAAP net income of $32.3 million or $1.02 per diluted share in the fourth quarter of 2010.
On a non-GAAP basis, net income for the fourth quarter was $20.8 million or $0.73 per diluted share compared to non-GAAP net income of $21.9 million or $0.69 per diluted share in the fourth quarter a year ago. The reconciliation between non-GAAP and GAAP net income is provided in our press release.
Turning our attention now to the balance sheet. Cash and cash equivalents at the end of the quarter was $132.6 million, down from $136.2 million at the end of Q3. This includes expenditures for share purchases of $8.4 million in the quarter. Cash flow generated from operations was $7.5 million in the quarter. Inventory increased by $6.9 million to $164.2 million in the quarter, primarily due to our proactive steps in securing sufficient disk price supply related to the recent flooding in Thailand that Steve will discuss in more detail.
Inventory turns was 7.9 compared to 7.8 the previous quarter. Accounts receivable increased by $25.5 million in the quarter to $200.7 million and day sales outstanding was 47 compared to 44 in the previous quarter. Headcount at the end of the November quarter was 1,960 permanent employees, a reduction of 77 employees or 3.8% over the previous quarter. This reflects the actions taken to align our SI expense levels with our future business expectations.
Now before I turn the call over to Steve for his comments, I would like to provide you with our business outlook for our fiscal first quarter 2012 ending February 29.
Our outlook range is wider than normal due to the uncertainty surrounding disk drive availability. For our first quarter of 2012, we are projecting total revenue to be in the range of $275 million to $355 million, down 24% to 2% as compared to last year and down 29% to 8% as compared to 4Q '11. This reflects the anticipated product transitions that Steve will discuss in more detail in addition to normal seasonality.
We are experiencing increased demand for our SI products, in part related to the recent flooding in Thailand. We believe this may results in a onetime revenue benefit of approximately $50 million across Q2 and Q3. However, we expect margins to be lower as a result of costs associated with expediting this equipment to meet our customers’ urgent needs.
For Q1, gross margin is expected to be 15.5% to 16.5%. We are estimating non-GAAP earnings per share to be between $0.07 and $0.41. Non-GAAP earnings per share excludes noncash equity compensation, amortization of intangible assets, specified non-recurring items and related tax expense. The number of shares outstanding at the end of Q1 on a weighted average treasury method is expected to be 28.5 million. Our cash position at the end of Q1 is expected to be approximately $150 million.
In summary, we had a good quarter primarily as a result of better than expected gross margins in our NSS business. The full year was represented by a strong performance in our NSS business in contrast to our SI business where performance was significantly below our original expectations. The reason behind the poor performance in SI have been discussed over the last several quarters and we have acted to reduce our cost structure to reflect this.
I was particularly pleased with our cash generation. In fiscal 2011, our net cash increased by $42 million to $132 million whilst during the same period, we repurchased shares to the value of $32 million. I do believe our R&D investments in 2011 have put us in a good position to take advantage of many of the future opportunities we have identified.
I'll now hand over to Steve for his comments.
Steve Barber
Thank you, Richard. I was pleased with the overall performance in the quarter. We executed well to the needs of our customers and addressed our cost base in certain areas of the business to match current market conditions and our business outlook. Some highlights from the quarter include, we took proactive steps to secure sufficient disk drive supply to meet the needs of our customers once the impact of the Thailand flood began apparent. Looking forward, we continue to work closely with our customers and the disk drive suppliers in order to meet as much of our customers’ needs as possible, recognizing the overall industry disk drive supply challenges expected through the first half of 2012.
With the support of our supply base, we have recovered supply lines for a range of other components impacted by the Thailand floods, with the replacement tooling, relocation of production, and qualification of alternative supply components. We established a dedicated task force to work with Western Digital, most severely impacted by the floods, to assist them into defining the opportune recovery plans for their Thailand facilities. And we successfully launched our first full solution product, the ClusterStor 3000, which we designed specifically to meet the needs of the high performance computing sector and expanded our OEM customer base with our alliance with Cray based on this platform.
For fiscal year 2011, our NSS business performed well, seeing strong demand across our market-leading customer base. We shipped over 4,000 petabytes or 4 exabytes in the year, a 33% growth in shipped capacity year-over-year, a clear indication of the growth in data storage demand and enabled by us integrating higher capacity disk drives within our storage platforms. For calendar 3Q, we once again maintained our position as one of the leading providers in the enterprise storage systems market, providing 19.6% of total petabytes shipped.
Our SI business was significantly impacted by constrained CapEx investment by the industry due to a number of factors, including the proposed acquisition by Western Digital of Hitachi's disk drive business and recently completed Seagate acquisition of Samsung's disk drive business. Additionally, there was some over spending in 2010 as some of the disk drive manufacturers sought to catch up after a period of constrained CapEx spending in 2008 and 2009, and we encountered increased competition. Finally, 2 natural disasters limited capital spending for periods of time through 2011. Recognizing this market environment, we focused on reducing cost and restructuring the business a better reflect anticipated revenue opportunities in the near to mid-term.
Looking forward into 2012, we are optimistic of the result of the opportunities that we see for the overall business. We have many new growth opportunities that we are currently engaged in that we believe will allow us to offset reductions in certain current enterprise storage programs and position us well for growth in this business in future periods.
In our SI business, we ended the year with a lower cost base and a tightly focused investment portfolio. We expect a onetime benefit of the result of the Thailand floods as the disk drive and disk drive supply chain providers work to recover their damaged production facilities. The pace and scale of this equipment refurbishment or replacement activity will however be determined by the pace of recovery of key component supply, particularly recording heads.
In addition, we anticipate some rebound in CapEx spending in the second half of the year once hopefully the Western Digital HGST acquisition is completed. And there is clarity within the disk drive industry as to this consolidation, and our disk drive customers can resume capital spending.
We recognize the desire by the disk drive providers for dual sourcing. And as a result, we've seen increased competition within some product areas. Hence, we continue to focus our R&D investments in new product innovation and working in close collaboration with our customers to enhance the install base, improve factory efficiency and lower the operating costs.
We believe this will allow us to continue to provide innovative and competitive products and achieve a significant market share within each customer. In addition, we are continuing our investments in component process equipment in anticipation of higher growth in component volumes compared to disk drive units. As the rate of growth of areal density has declined, we expect the number of heads and disks within disk drives to increase over the next few years, ahead of the commercial availability of the next generation recording technologies, including HAMR being introduced into volume production.
In the Enterprise Storage business, in the near-term, we are monitoring and working through some potentially challenging disk drive supply issues as a result of the floods in Thailand that may impact our ability to meet demand for – from our system enclosure customers. We believe, based on discussions with our disk drive suppliers and our customers that we are well positioned in the medium term and beyond with regards to securing disk drive supply and meeting the needs of our customers. Our procurement team is working very hard to reduce the near-term risks associated with some of the supply constraints and minimize the impact to our planned shipments and revenue. The challenge we believe, may well not be a macro shortage of enterprise class disk drives but more the challenge of accurate forecasting with limited flexibility to change forecast in an environment of no buffer inventories that have historically enabled moderate changes in disk drive model mix of the point of finish system shipments.
With regard to recent this drive the price fluctuations, whilst our contractual terms generally treat these costs as a pass through, we will continue to work to minimize the increases to our OEM customers. As we have commented previously, we are managing a number of transitions within our storage platform customers through 2012. With our NetApp business reducing from 75% to 50% of NetApp's midrange product volume in accordance with the agreement signed in 2008 and a planning assumption that our proportion of this business decreases by an equivalent percentage over the following 2 years. In addition, we are anticipating a reduction in our EMC business as they did a main business transitions to an in-house EMC platform solution.
Offsetting these revenue stream reductions, we are expecting continued growth from both IBM and HP together with initial revenue from ClusterStor products and other customer opportunities. With our increasing focus on providing higher value add solutions together with our cost actions to realign the business, we see the opportunity to increase earnings in fiscal year 2012 compared to fiscal year 2011. We are currently engaged in a number of new development programs and in early discussions with customers for potential programs, including but not limited to, development and supply of complete OEM products, products with disk drives are integrated at the last moment by our customer for increased end user sales flexibility and designed services royalty-based models where we develop and customize products for the OEM customer and enable our customer to maximize their relationship with contract manufacturing partners for volume production and fulfillment.
We currently provide such a service as part of our agreement with NetApp with a portion of total demand being fulfilled by their CM partner. Our business development focus remains dual path, serving both global data storage leaders together with selected emerging customers with innovative disruptive technologies, proven management teams and solid funding structures. Xyratex has a strong record of supporting emerging storage customers through leveraging our product platform, development expertise, global manufacturing and fulfillment capability and in some cases, our balance sheet to enable early working capital needs. We are currently partnered with a number of such innovative emerging customers, some of whom we announced previously and we will continue to seek to engage with such companies with our technology, enterprise, data storage platforms and system integration expertise can assist these companies in scaling their businesses.
In November, we announced an OEM agreement with Cray, a recognized leading supplier in supercomputing. Cray's Sonexion storage solutions leverages our high-performance computing, or HPC architecture, as the basis of its design. We're delighted with this partnership extending to both product and Lustre support and are very excited about their recent win at NCSA at the University of Illinois.
As I've mentioned previously, we identified an opportunity in HPC data storage 2 years ago to leverage our technology expertise and secure a leadership position in this growing market. We determined that we could assist existing and targeted OEM customers in addressing the needs of HPC data storage through the provision of our optimized solution. By integrating our class in the enterprise storage platform with the Lustre file system and the comprehensive management framework, we can deliver 3 interrelated benefits to the HPC environment with a near performance scalability, easy installation and management and enhanced storage system reliability at scale.
Based on the customer and end user response we've received at the recent SC11 event in Seattle, we believe we have a compelling solution in the ClusterStor 3000 platform.
Over the last few years, we've been executing on our strategy to diversify our customer base and to expand on our core storage enclosure technology by increasing our value add that we provide our customers through a range of solutions capabilities to address the needs of hybrid markets such as HPC and cloud. We introduced compute capability into our OneStor product family, delivering a range of Integrated Application Platforms, which incorporate Intel's server functionality in single and dual motherboard configurations. These platforms enable our OEM customers to integrate software and storage into a single enterprise quality solution. And more recently, we've started to provide increased software and solutions content to our OEM partners through our significant investments in those clustered file systems and software development capabilities enabling our OEM partners to capitalize on the fast growing HPC data storage market, as well as the emerging cloud market.
Our deep understanding of disk drive technologies together with the innovation needed to integrate the thermal and dynamic performance or the dynamic requirements of disk drive into test platforms and enterprise systems is core to Xyratex's technology and expertise. Building on over 25 years of product development, we're seeing increasing advantages from the technology, skills synergies and requirements across our product and solutions portfolio. All of our products require the integration of many types of disk drive technologies into a range of high-density, high-availability, scalable solutions. As demand for enterprise data storage high-density and rack-scale solutions increased, our disk drive process equipment experience is increasingly benefiting our wider product portfolio.
We are actively taking advantage of this expertise across our global operations and individual product development groups to provide compelling and innovative solutions our customers in all sectors of our business. Complementing this core expertise and underpinning our strategy to provide increase to value add is now a significant investment of recent years in software development, building a meaningful firmware, software and file management systems development organization. This investment in software resources has provided significant differentiation in our ClusterStor solution enabling increased margin opportunities as we scale the business. The modular ClusterStor architecture allows us to incorporate new hardware and software capabilities quickly and cost-effectively. Building on this base, we see future opportunities to leverage key elements of the ClusterStor solutions architecture to deliver optimized rack-scale storage solutions to address the needs of the rapidly growing public cloud market. We're currently engaged with a number of public cloud providers to gain insight into the specific requirements of this sector as we develop our cloud strategy.
By leveraging our existing IP and infrastructure, together with our OEM margin profile business model, we believe we are very well positioned to address the rack-scale storage infrastructure needs of the public cloud market. We address the private cloud market opportunity today with our integrated application platform and data storage enclosures through our OEM customers with a number of our emerging customers providing portals to private and public cloud storage through their solution offerings.
In summary, while we expect 2012 to be a year of transition, with certain legacy programs declining and new programs ramming -- with new programs ramping, we believe our current initiatives will provide earnings growth potential over forthcoming years. As the leading OEM providers in the industry, we believe we are well positioned to benefit from the continual growth in data creation and storage. We serve all segments of the data storage market, including traditional private data centers, consolidated data centers or private clouds and the emerging public cloud, which is expected to dominate future data storage capacity growth. Our range of technology supports key elements of the data storage food chain from disk drive production, the key building block of all data storage, to modular storage enclosures and server storage appliances and to rack-scale HPC and cloud infrastructure solutions. We are optimistic as to our future business prospects. I'd once again like to take this opportunity to thank all our employees worldwide for your ongoing opportunities in meeting our customer commitments, executing to our customers’ requirements, resolving the technical challenges that arise in the technology business and delivering on our product development margins. We can all be proud of our achievements in 2011 and look forward positively to a challenging and rewarding new year ahead. Thank you for your continued support, commitment and innovation as we strive to enable our customers’ success in the expanding data storage market. That concludes our formal comments. I would now like to open up the call for questions.
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