NetApp Earnings: Strategic Product Sales Help Drive Revenue Growth, Profits

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NetApp (NASDAQ:NTAP) announced its fiscal Q4 earnings on May 24, reporting a solid 7% increase in net revenues to just under $1.5 billion. [1] Revenues were higher than the mid point of the guidance provided by the company at the end of the previous quarter, while gross margins were considerably higher. NetApp’s non-GAAP gross margin for the quarter stood at 62.5%, which was 140 basis points higher than the year-ago period. Higher revenues and healthier margins were largely due to strength in the company’s strategic solutions, which make up roughly 70% of product sales.

Additionally, NetApp’s non-GAAP operating profit margin was over 7 percentage points higher than the comparable prior year period at 20.2% (the guidance was 19%). Operating profit was up primarily because the company “overachieved” its cost-reduction target for the quarter and was able to report savings of $130 million on an annualized run rate basis. [2] Resulting earnings per share stood at 86 cents per share, which was over 50% higher on a y-o-y basis as shown below.

ntap_q4_e1Unlike previous quarters, revenue growth came from product sales rather than software maintenance or services segments. Storage product sales were up by 13% year-over-year to $852 million. Within the product division, strategic product sales were up 24% y-o-y to $596 million while mature product sales were down 6% to $256 million. A significant portion of strategic products included NetApp’s all-flash array, which accounted for over $400 million in sales for the quarter. [2]

ntap_q4_e5On the other hand, higher product sales during the quarter presumably impacted hardware maintenance revenues, with customers purchasing new hardware spending less on maintenance of existing hardware. Correspondingly, revenues from hardware maintenance support contracts were down 1.5% to $313 million. Professional services and post-sales services revenues were up by a steady 4% to $75 million. Given that the company has a high installed base and a healthy attach rate, hardware maintenance revenues could pick up in subsequent quarters. NetApp’s Software Entitlements and Maintenance revenues were up 3% y-o-y to $240 million. This trend has been consistent through 2016, with revenues growing by low single digits in each of the last few quarters.

The growth in new and strategic product sales led to healthier gross margins for the product division. As a result, the product gross margin (non-GAAP) was over two percentage points higher on a y-o-y basis to 48.9% for the quarter. However, over the course of the year, a fall in selling prices for hardware products led to lower margins due to which full year gross margins for the product division were down almost 3 percentage points to 47.4% for fiscal year 2017. Comparatively, the services and software maintenance businesses have both reported improvement in gross margins through the year. Keeping up the trend, software maintenance gross margin was over a percentage point higher at 97.5% while hardware maintenance & services gross margin was 240 basis points higher than the year ago period at 70.3%.

ntap_q4_e3

Last year NetApp’s management indicated that the company will take steep cost cutting measures to improve early last year that it would cut 1,200 jobs to enhance profitability. [3] This led to an improvement in the operating margin through the last year. The company further initiated cost reduction measures starting in November to reduce around 6% of its global workforce. This helped NetApp save around $130 million on an annualized run rate basis. For the fourth fiscal quarter, NetApp’s operating profit margin (non-GAAP) stood at 20.7%, which is over 7 percentage points higher than the previous year quarter. Consequently, its net income per share could improve by around 56% y-o-y to 86 cents per share.

ntap_q4_e4

Netapp’s management has given conservative guidance for the current quarter. Net revenues are forecast to increase by a modest 2% to $1.32 billion in the first fiscal quarter while gross margin may be flat over the prior year quarter. The operating margin is forecast to improve by over 5 percentage points to 19%, leading to robust growth in diluted earnings per share as shown above.

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Notes:
  1. NetApp Reports Third Quarter Fiscal Year 2017 Results, NetApp Press Release, February 2017 []
  2. NetApp Q4 FY 2017 Earnings Call Transcript, Seeking Alpha, May 2017 [] []
  3. NetApp To Slash 12 Percent Of Workforce, Fortune, February 2016 []