Statements in these posted remarks that relate to future results and events, and other forward-looking statements in these remarks, are based on Western Digital Corporation’s current expectations. Actual results in future periods may differ materially from those currently expected or desired because of a number of risks and uncertainties. These risk factors include:
- the impact of recent uncertainty and volatility in global economic conditions;
- supply and demand conditions in the hard drive industry;
- actions by competitors;
- unexpected advances in competing technologies;
- uncertainties related to the development and introduction of products based on new technologies and expansion into new data storage markets;
- business conditions and growth in the various hard drive markets; pricing trends and fluctuations in average selling prices;
- changes in the availability and cost of commodity materials and specialized product components that WD does not make internally; and
- other factors listed in our periodic SEC filings and on this website in Risk Factors.
Robert Blair - Investor Relations
Before we begin, I want to remind you that we will be making forward-looking statements in our comments and in response to your questions concerning: industry pricing and demand; the impact of our entry into the traditional enterprise market; our immediate and long-term growth opportunities; our response to customer needs in existing and new markets; our expected capital expenditures, depreciation and amortization and tax rate for fiscal 2010; our investments in product line expansion; our share repurchase plans; and our financial results expectations for the March quarter, including revenue, gross margin, expenses, tax rate, share count, and earnings per share. These forward-looking statements are based on management’s current expectations and are subject to risks and uncertainties that could cause actual results to differ materially, including those listed in our 10-Q filed with the SEC on October 29, 2009. We undertake no obligation to update our forward-looking statements to reflect new information or events, and you should not assume later in the quarter that the comments we make today are still valid.
John Coyne - President & Chief Executive Officer
Good afternoon and thank you for joining us.
For the third consecutive quarter, demand for hard drives was at the high end of expectations as the positive industry conditions that first materialized in the June quarter continued throughout the second half of the calendar year. The demand strength continues to be primarily consumer driven though we are now also seeing some signs of recovery in the commercial sector. We believe that overall hard drive industry shipments in the December quarter totaled 160 million units, up 29% on the year-ago quarter and up 5% sequentially.
Industry inventory, OEM and distribution combined, remains extremely lean at approximately two weeks of sales, reflecting the strong demand in the quarter, constraints in the industry supply chain, particularly in media and substrates, and continued industry discipline in managing the supply/demand dynamic in those segments where supply constraints are not dominant.
We are very pleased with WD’s continued progress in pursuit of our primary objective of sustained profitable growth as we continued to respond to strength in customer demand. For the third consecutive quarter, we significantly increased output in a supply constrained environment, providing strong support of our customers’ growth opportunities. Strength in overall market demand, continued customer preference for WD products, our timely investments in capital, the support of our supply partners and strong execution by the WD team generated record revenue and profits, on record unit shipments. A moderate pricing environment, combined with our passionate focus on cost and efficiency, enabled gross margins well above the high end of our model range. We contained operating expenses under the low end of our model, yet we continued to grow our R&D investments by 8% sequentially. Asset management remained crisp, resulting in record cash generation.
I am particularly pleased that our management through the difficulties of the recession and our subsequent response to improving market conditions since April, have increased our calendar year 2009 revenues and net income by 4% and 34%, respectively, compared with calendar year 2008. Our compound annual growth rate over the last three calendar years, which includes the dampening effect of the recession, was 19% for revenue, 25% for units and 29% for net income.
We continue to realize tangible benefit from the substantial investments we have made in technology, products, processes and capacity over the last few years, with several notable product achievements in the last quarter.
Most significant, as part of our sustained portfolio diversification and expansion strategy, is our entry into the traditional enterprise market with the shipment of our 2.5” 10K SAS product line beginning in early November. This new product family complements the range of enterprise SATA drives which we have been shipping for some years now and will allow us to both expand our business with many existing customers and add new customers in the enterprise storage arena.
In the December quarter, driven by strong customer adoption of our newest products, we led the industry in volume shipments of the market’s largest capacity points in the industry’s fastest growing segments –1TB, 750GB and 640GB 2.5” drives in the branded products and notebook markets and 2TB 3.5” drives in the branded and enterprise SATA sectors.
In the branded products area we continue to innovate. Our new WD SmartWare™, which is now available across our refreshed My Passport™ and My Book® external storage product lines, has received very positive reviews for its highly intuitive, easy to use, visual representation of the backup and synchronization process providing a highly differentiated and superior user experience. Further developing the theme of convenience and ease of use, we also introduced e-label display features on our premium external storage product lines. In media players, we expanded our popular WD TV™ range with the successful launch of our WD TV Live product, which adds network connectivity, enabling home content aggregation as well as direct access to stream external content.
Additionally, this month we launched the industry’s first certified USB 3.0 external drive with My Book 3.0 – an industry leading high performance solution for power users.
Entering calendar 2010, we are very excited about the immediate and long-term growth opportunities for WD, in both the consumer and commercial storage segments. Over the last nine months, despite the backdrop of a worldwide recession, we have seen increasing levels of demand for high capacity, cost effective storage. We believe this demand is driven by the ubiquitous role of digital content in everyday life, and spurred in the consumer segment by increasingly versatile and powerful devices and PCs with new, attractive price points. In support of that thesis, yesterday’s New York Times cited a recent study from the Kaiser Family Foundation that determined the average young American now spends practically every waking minute except for time in school using a smart phone, computer, television or other electronic device, amounting to more than seven and a half hours a day. This compares with less than six and a half hours five years ago. And this does not count the hour and a half that youths spend texting or the half hour they talk on their phones. And because so many of them are multitasking, they pack an average nearly 11 hours of media content into that seven and a half hours. Meanwhile, in the commercial sector, the prospects for a recovery in corporate IT spending, the demand for green IT infrastructure solutions and a PC refresh cycle provide more optimistic indicators than a year ago at this time.
We are addressing what we believe is a secular shift to increased usage of mass volume storage in all walks of life. To do so, we are focused on enhancing the advantaged business model we have developed over the last several years. In responding to our customers’ needs and earning their business in the fastest growing markets, we provide a critical combination of quality and reliability, portfolio breadth, technology and product availability, underpinned by our low cost model, our vertical integration, the industry’s fastest asset turns and strongest balance sheet. We believe this WD focus represents a sustainable advantage as we continue to respond to customer needs in our existing markets and as we move into new markets for WD, such as the traditional enterprise.
However, our enthusiasm is tempered by current macro economic uncertainties and we continually monitor the actual demand data and remain on guard against excessive optimism about the 2010 outlook. We are maintaining our flexibility and agility and are willing to apply the brakes if conditions warrant.
Before I pass the call to Tim Leyden, I want to thank the WD team and our supply partners for outstanding execution in seizing the opportunities that emerged throughout the quarter and our customers for providing those opportunities. Once again we have further strengthened WD in our long-term mission of generating sustained profitable growth.
Thank you all for joining us today. I apologize for the brief interruption in service during the call. We look forward to keeping you informed of our progress in the quarters ahead.
Tim Leyden - Executive VP Finance & Chief Financial Officer
Revenue for our second fiscal quarter was $2.6 billion, up 44% from the prior year and 19% sequentially. Hard drive shipments totaled 49.5 million units, up 39% from the prior-year period and 12% sequentially. Non-hard drive revenue, including sales of WD TV™ HD Media Players and solid-state drives, totaled approximately $47 million, compared to $12 million in the prior year and $36 million in the September quarter.
Average hard drive selling price was approximately $52 per unit, up $1 from the year-ago quarter and up $3 from the September quarter.
Industry demand was strong, coming in at the high end of our anticipated range of 152 – 160 million units. Within that environment, demand for WD’s products was stronger than expected. We satisfied a disproportionate share of the overall market growth, which is a validation of the benefits of having a large scale vertically integrated and agile business model. Our low cost focus, combined with a favorable product and segment mix, and moderate price declines, enabled us to service that demand at margins that exceeded our business model parameters.
Desktop demand was stronger than expected, due in part to the reemerging commercial market and growth in China. The market size was constrained by supply, and pricing remained stable. We see unfulfilled demand rolling over into the third quarter.
We shipped 21.2 million mobile drives in the December quarter, compared to 13.8 million in the year-ago quarter and 19.2 million in the September quarter. This above market growth was driven primarily by our ability to meet customer appetite for high-capacity drives at 640 GB and above.
During the December quarter, we shipped 4.1 million drives into the DVR market, flat with the year-ago quarter, and up from 3.1 million in the September quarter. This improvement in sequential quarterly volume was driven by improved market demand, and adoption of our WD GreenPower™ drive platforms.
Revenue from sales of our branded products, including WD TV, was $569 million, up 41% from $403 million in the year-ago quarter, and 49% sequentially from $382 million in the September quarter. The increase in branded revenue is partly due to increasing demand for external storage, the refresh of our branded products line and continued consumer preference for WD products in this space.
On the enterprise front, demand for near-line storage once again exceeded expectations, and our SATA product portfolio was well positioned to avail of this market expansion and mix-up, particularly at the high capacity points. The traditional enterprise market continues to recover. In this space, we are pleased with the acceptance of our new SAS products.
Moving on to our sales channel and geographic results:
Revenue by channel was 48% OEM, 30% distribution, and 22% branded products in the December quarter, compared with 57%, 21% and 22% in the year-ago quarter and 52%, 31% and 17% in the September quarter, respectively.
The geographic split of our revenue was 25% Americas, 25% Europe, and 50% Asia, as compared to 23%, 29% and 48% in the year-ago quarter and 22%, 22% and 56% in the September quarter. The increases in the percentages for Americas and Europe from the September quarter reflect strength in branded products and in component distribution.
There was one customer, HP, that comprised more than 10% of our total revenue.
Our gross margin percentage for the quarter was 26.2%, up from 15.9% in the year-ago quarter and 23.3% in the September quarter. As mentioned earlier, our low cost focus, a favorable product and segment mix, and moderate price declines contributed to gross margin favorability.
Total R&D and SG&A spending was $214 million, or 8.2% of revenue. This compares with $161 million, or 8.8% of revenue in the year-ago quarter, and $195 million, or 8.8% of revenue in the September quarter. Our spending reflects our confidence in the strong future opportunities for storage in an environment of expanding digital content.
Operating income was $473 million, or 18.1% of revenue. This compares with $16 million, or 1% of revenue in the year-ago quarter, and $319 million, or 14.4% of revenue in the September quarter.
Interest and other non-operating expenses were approximately $2 million.
Tax expense for the December quarter was $42 million, or 8.9% of pretax income, within our model range of 7 – 10%. Our cash tax rate is expected to be between 1% and 2% for the fiscal year.
Our net income totaled $429 million, or $1.85 per share. This compares with $14 million, or $0.06 per share, and $288 million, or $1.25 per share in the year-ago and September quarters, respectively.
Turning to the balance sheet, for the December quarter our cash conversion cycle was a negative 3 days. This consisted of 47 days of receivables outstanding, 21 days of inventory, or 17 turns, and 71 days of payables. We generated $557 million in cash flow from operations. Capital expenditures were $199 million and depreciation and amortization totaled $126 million. We also made our 3rd quarterly debt-repayment installment of $19 million, reducing our debt balance to $444 million. Cash and cash equivalents increased by $379 million, ending at $2.435 billion.
The 49.5 million hard drives we shipped in the December quarter represent a new output record for the company. We believe that 2010 will be a strong year for the proliferation of digital storage and continued customer preference for WD products. Consequently, we are increasing our capital expenditure forecast for fiscal 2010 to between $650 and $750 million, compared with our previous projection of $650 million. Depreciation and amortization for fiscal 2010 is now expected to be about $550 million, as compared to our previous estimate of $540 million. We are ever mindful of the potential for a dip in demand that may be caused by economic circumstances beyond our control, and we remain focused on supply/demand equilibrium and poised to use our flexible and agile business model to respond quickly to demand changes.
Over the medium term we continue to have strong growth potential in the existing markets we serve and in currently unaddressed markets, given our market position, broad product portfolio, willingness to invest in R&D and production assets and our strong balance sheet. Nevertheless, we are actively seeking to augment this strength by selective investments in product line expansion both internally and externally.
We have $466 million remaining in our stock repurchase authorization as we evaluate the merits of further repurchases against internal and external investment alternatives.
Now I will discuss our expectations for the third quarter of our fiscal year 2010.
First, let me outline the market situation as we see it.
We believe that continued demand for storage of digital content will drive positive growth for the storage industry as a whole despite global macroeconomic conditions continuing to be challenging. In this robust storage demand environment, we believe that WD is well positioned within the industry to benefit from this growing market, because of our agility, flexibility, product line-up, technology and financial resources.
Historically, March quarter demand has been down sequentially in a range from 5 to 7%. However, we believe that true demand in the December quarter was not entirely satisfied, and this coupled with an expectation of continuing strong demand for digital storage leads us to model a market size of between 152 to 158 million units, a sequential decline of 1 to 5%.
We anticipate that pricing will be flat to down but will be rational based on supply/demand balance in all markets.
Consequently, we expect current quarter revenue for WD to be in a range from $2.45 billion to $2.6 billion.
R&D and SG&A are expected to total approximately $220 million.
Our net interest expense is projected to be about $2 million.
We expect our tax rate to be about 9%.
We anticipate our share count to be approximately 235 million.
Accordingly, we estimate earnings per share of between $1.45 and $1.55 for the March quarter.