NetApp Delivers Strong Quarter Despite Storage Slowdown, Services Drive Performance

-8.12%
Downside
105
Market
96.70
Trefis
NTAP: NetApp logo
NTAP
NetApp

Storage giant NetApp (NASDAQ:NTAP) announced its Q1 FY 2015 earnings on August 13. The company generated revenues of $1.49 billion during the quarter, with storage product revenues and software entitlements and maintenance (SEM) revenues declining by 5% and 3% over the prior year quarter, respectively. However, NetApp’s revenues were higher than the midpoint of its guidance range at $1.47 billion. Strong sales of hardware maintenance support contracts drove services revenues to rise by 8% y-o-y to $385 million during the quarter, partially offsetting the weakness in product sales. [1]

NetApp continued the momentum in the June quarter with strong performance from its all-flash FAS arrays. Shipments of all-flash array units increased by 48% y-o-y during the quarter. Additionally, the rate of NetApp’s Clustered ONTAP system attached with hardware increased across its storage products. Shipments of units with attached clustered nodes grew by 177% over the prior year quarter. Management mentioned that the attach rate for high-performance storage platforms was close to 50% during the quarter, with the attach rate rapidly increasing. As a result, NetApp gained share in the external storage systems market. We forecast NetApp to continue to gain share in the market on the back of a solid customer base, a high number of client maintenance contracts and a revamped product line, including the clustered ONTAP storage system and the EF flash-array series.

Services and Products Improve Margins

Relevant Articles
  1. Up 27% Over The Past Year, Will Higher Margins And Cloud Sales Drive NetApp Stock Higher Post Q3 Earnings?
  2. Up 28% Since The Beginning Of 2023, What’s Next For NetApp Stock?
  3. What To Expect From NetApp’s Q4 Results?
  4. NetApp Stock Looks Attractive Despite Easing IT Spending
  5. Despite A Rise In Sales, Here’s Why NetApp Stock Has Underperformed The S&P
  6. After Strong Outperformance, Can NetApp Stock Maintain Its Streak?

NetApp’s non-GAAP gross margin was higher than the upper end of its guided range and 3 percentage points higher than the year-ago quarter at 64.3%. The company posted healthier margins on product sales primarily due to improved efficiency of supply chain savings, a favorable product mix and comparatively lower warranty costs during the quarter. Consequently, product margins rose by 380 basis points over the prior year quarter to 57.1%. NetApp’s services division has largely fixed costs due to which a growth in services revenues led non-GAAP gross margin to be 320 basis points higher than Q1’14 at 62.7%. SEM gross margin was stable at last year levels of over 96%. The company expects non-GAAP gross margin to be around 64% in the coming quarter and at similar levels through fiscal 2015.

See More at TrefisView Interactive Institutional Research (Powered by Trefis) | Get Trefis Technology

Notes:
  1. NetApp Q1 FY 2015 Earnings Call Transcript, Seeking Alpha, August 2014)

    While branded product revenues remained nearly flat over the year-ago period at $1.36 billion, products sold via the original equipment manufacturer (OEM) channel declined by over 22% y-o-y to $129 million. The company expects branded revenues to continue to grow through the September quarter, owing to the seasonal rise in product demand from the U.S. government, one of NetApp’s major clients. On the other hand, OEM revenues are expected to decline at 30-40% through fiscal 2015, due to weakness in the OEM channel complemented by termination of the IBM-NetApp deal earlier this quarter. The company expects its  Q2’15 revenues to be from $1.49-1.59 billion, which at the midpoint is roughly flat over the prior year quarter revenues.

    See Full Analysis For NetApp Here

    Services Division Drives Growth

    NetApp’s hardware maintenance revenues have witnessed a 15-20% year-on-year increase in each of the previous seven quarters, on the back of an increased installed base and aggregate contract values under service contracts. The growth rate continued during Q1’15, albeit at a slower rate than the previous quarters. Services revenues generated by hardware maintenance contracts grew at 11% y-o-y to $303 million, with year-to-date revenues up by 11% to $596 million. The company expects services revenues to be boosted in the coming quarters due to a strong demand for enterprise service agreements from its larger clients.

    Software entitlements and maintenance (SEM) revenues, which include software upgrades, bug fixes and patch releases, grew at a CAGR of 9% from 2010 to 2013. However, SEM revenues have been flat since the beginning of the year, mainly due to the sale of new products. Management mentioned that customers typically test or evaluate new products for about six months before upgrading software and listing down requirements for patch fixes. Consequently, the company should generate higher SEM revenues in the latter half of the year. Additionally, the company also intends to independently sell unbundled software from full systems to large customers, which could further drive SEM revenues.

    Expected Decline for Storage Product Revenues

    IDC recently reported that industry-wide factory revenues generated by external storage systems declined by over 5% y-o-y to $5.6 billion in the March quarter this year. Much of the decline was driven by weakness in high-end storage spend, which fell by 25% on a year-over-year basis. However, NetApp’s external storage systems revenues declined less than 3% y-o-y to $854 million during the March quarter. ((Worldwide Quarterly Disk Storage Systems Tracker Q1 2014, IDC Press Release, June 2014 []