EMC Q3 Earnings: Core Storage Stagnates, VMware Still Drives Growth

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EMC (NYSE:EMC) announced its Q3 earnings on October 21, reporting a less than 1% year-on-year rise in net revenues to $6.1 billion. The company’s combined product revenues declined by 4% y-o-y to $3.3 billion, while combined services revenues rose by 7% y-o-y to $2.8 billion. Combined revenues generated by products and services of EMC’s core information infrastructure division – including storage, RSA information security and content management – were down by about 3% on an annual basis to $4.3 billion. EMC observed a fall in storage product revenues, in keeping with the trend observed through 2014 and Q1’15. On the other hand, revenues generated by VMware and Pivotal (especially services revenues) witnessed a higher growth rate than core information storage to help the company’s top line growth.

Earlier this month, EMC came to an agreement with IT giant Dell, under which the latter will acquire EMC for $67 billion. Dell’s board has decided to keep VMware a publicly traded company for now. The combined entity could realize revenues of over $80 billion a year combining EMC’s enterprise information storage capabilities with Dell’s strong presence in the small and medium business (SMB) space. Until the transition closes, EMC will continue to operate under its federation business model wherein EMC’s businesses operate as separate entities, while they still collaborate on products for large clients.

See our full analysis for EMC’s stock

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Core Business Remains Suppressed

EMC’s core information storage product and services revenues combined through the first half of the year stood at just under $7.7 billion, flat over the comparable year-ago period. The trend continued in Q3, with information storage revenues declining by over 2% year-over-year to over $3.9 billion. Within information storage, services revenues grew by 6% to $1.5 billion while product revenues (hardware and software combined) fell by over 6% y-o-y to $2.4 billion. Although the company has been a clear leader in the external storage systems market over the last few years, its share fell from over 31% in 2014 to about 28.5% through the first half of the year. Correspondingly, EMC’s storage hardware revenues fell by over 5% on a y-o-y basis to $3.2 billion. This was evident across major storage systems providers including NetApp (NASDAQ:NTAP), IBM (NYSE:IBM) and HP (NYSE:HPQ), which lost share to original design manufacturer (ODM) direct sellers in recent quarters. Comparatively, the combined revenues generated by companies outside the top five vendors reported a 9% increase in revenues through the first half of 2015. Moreover, customer preference is shifting to low-cost ODM storage boxes, which is cutting into addressable market for large vendors. [1]

The Dell-EMC combined entity can offer combined compute solutions with integrated servers, storage, compute and virtualization to both enterprises and SMBs once the acquisition closes. Moreover, the combined share of Dell-EMC in the external storage systems market could potentially be over 35% of the market. The company will continue to focus on integrated federation-wide solutions, with an emphasis on software-defined data centers (SDDC) and the enterprise hybrid cloud. With cost synergies from the Dell acquisition, EMC is preparing to execute its $850 million cost reduction program.

Despite low product sales, the company witnessed a 27% year-over-year increase in its emerging storage product sales through the September quarter, or 32% on a constant currency basis. EMC’s Emerging Storage products include the all-flash array XtremIO, scale-out network attached storage platform Isilon and converged storage infrastructure ScaleIO. XtremIO had a solid triple-digit growth through the quarter, and the company expects revenues of over $1 billion through license bookings for XtremIO for the full year. The company remains optimistic about its emerging storage division and expects revenues generated by emerging storage to continue to outperform core storage with an expected 30% growth rate through the end of the year.

VMware, Pivotal Services Sustain Robust Growth

VMware’s revenues grew by over 10% year-on-year to $1.7 billion, with its services division driving much of the growth. Management expects continued growth in software-defined networking, hybrid cloud and end-user computing, as evidenced by its results through 2015 thus far. Furthermore, after the Dell acquisition, VMware will function the same way it did when EMC owned 80% of the company. Moreover, management reassured VMware shareholders that VMware’s cash flows or debt capacity will not be used to finance the transaction. Going forward, management expects Q4 revenues to be 8-9% higher than prior year levels at over $1.8 billion. VMware’s services revenue stream is likely to continue to witness a higher growth rate than the revenues generated through license bookings.

Pivotal has been the fastest-growing division for EMC, with a 27% growth in net revenues to $227 million last year and a 13% increase in revenues to $118 million through the first half of the year. The trend continued through the September quarter, with revenues increasing by 16% y-o-y to $67 million. Product revenues were up by almost 30% to $22 million, while services revenues rose by 10% y-o-y to $45 million. Moreover, license bookings were up by over 70% on a y-o-y basis. The company attributed this rise to a higher number of subscription-based sales as compared to standalone licenses, in addition to Pivotal increasingly becoming key to cross-EMC solutions. The trend has reversed this year, with year-to-date product sales growing more than services-based revenues. Although standalone services were flat over the prior year period, the company expects the growth to continue through the coming quarters, further boosting the revenues of Pivotal Labs and Pivotal Cloud Foundry.

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Notes:
  1. The Rise Of White-Box Storage, Network Computing, August 2014 []