Jay Iyer - Investor Relations
This conference call will contain forward-looking statements within the meaning of the federal securities laws, including statements concerning: our expected future financial performance; our market positioning; expectations regarding growth opportunities; our financial and business strategies; demand and market trends; our product platform; product and technology development efforts; our joint ventures with Toshiba; and our expected capital allocation plans. 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 annual report on Form 10-Q filed with the SEC on February 6, 2018. Any applicable forward-looking commentary is exclusive of one-time transactions and does not reflect the effect of any acquisitions, divestitures or other transactions that may be announced after April 26, 2018. We undertake no obligation to update our forward-looking statements to reflect new information or events.
Further, references will be made during this call to non-GAAP financial measures. Reconciliations of the differences between the non-GAAP measures we provide during this call to the comparable GAAP financial measures will be posted in the Investor Relations section of our website. We have not fully reconciled our non-GAAP financial measure guidance to the most directly comparable GAAP measures because material items that impact these measures are not in our control and/or cannot be reasonably predicted. Accordingly, a full reconciliation of the non-GAAP financial measure guidance to the corresponding GAAP measures is not available without unreasonable effort.
In the question/answer part of today's call we ask that you limit yourselves to one question to allow as many callers as possible to ask their question. I thank you in advance for your cooperation.
As a reminder, we are also providing a concurrent presentation on this webcast and a copy of the slides and our prepared remarks will be available later today on the IR section of our website, along with our Quarterly Fact Sheet.
With that, I will now turn the call over to our CEO, Steve Milligan.
Steve Milligan - CEO
Good afternoon, and thank you for joining us. With me today are Mike Cordano, president and chief operating officer; and Mark Long, chief financial officer. After my opening remarks, Mike will provide a summary of recent business highlights, and Mark will cover the fiscal third quarter results and wrap up with our fourth quarter guidance. We will then take your questions.
We reported strong financial performance in the March quarter with revenue of $5.0 billion, non-GAAP gross margin of 43% and non-GAAP earnings per share of $3.63. Our operating cash flow reflected solid execution supported by healthy demand for our products, particularly high capacity enterprise hard drives, which achieved record quarterly revenue.
Macroeconomic conditions remained supportive in the quarter, with cloud computing and mobility serving as primary demand drivers. The positive third quarter dynamics included continued strong demand for our NAND flash products. Our results in the March quarter demonstrate the power and agility of our platform, and a sustained focus on operational execution by our global team.
We continue to pursue a long-term value creation strategy underpinned by secular growth in Big Data and Fast Data applications. Rapid advancements in artificial intelligence, machine learning and IoT applications are fueling creation of valuable data at an unprecedented pace. The number of connected devices worldwide is expected to grow from 9 billion today to upwards of 75 billion by 2025. This exponential growth will require robust storage infrastructures and purpose-built solutions that allow users to capture, preserve, access and transform an ever-increasing diversity of data. The Western Digital platform is strategically positioned to play a key role in supporting these long-term growth trends.
Enterprise and hyperscale cloud customers continue to accelerate their CapEx spending to keep pace with rapid growth in data, and this represents a significant opportunity for our data center storage solutions. In the mobile market, we are well positioned to capture growth opportunities with our comprehensive product portfolio. We expect increasing average capacity in smartphones to be a continued driver of growth for Western Digital.
In a moment, Mike will provide some color on our strong ongoing performance in these categories, and update you on what we are seeing in terms of long-term exabyte growth. He will also discuss progress toward delivering high capacity enterprise drives based on our innovative MAMR technology.
In flash, during the third quarter, we saw the market environment continue to normalize with expected price declines. We continued to deploy our 64-layer 3D NAND technology across our product portfolio, and we will be ramping our 96-layer technology as planned throughout calendar 2018.
I am pleased to report that our joint venture operations with Toshiba Memory Corporation continue to perform exceptionally well and our plans for continued joint investments in Fab 6 and Iwate remain on track. In March, we celebrated the opening of our shared Memory Development Center in Yokkaichi, strengthening the ongoing collaboration among our engineers.
I am excited about the future of Western Digital. The power of our platform allows us to deliver sustainable long-term revenue growth, healthy gross margins and industry-leading profitability. As markets evolve and grow, our ability to optimize product and portfolio mix toward higher value opportunities will continue to be an important lever for managing the business. I would like to sincerely thank the Western Digital team and our partners for their ongoing support.
With that, I will now ask Mike to share our business highlights.
Mike Cordano - COO
Thank you Steve and good afternoon everyone.
The Western Digital Platform performed well during the March quarter. Demand trends in the Cloud data center, embedded mobile and PC markets were positive, leading to strong pull for our hard drive and flash products. Operational execution was solid, and our responsive supply chain capabilities allowed us to optimize resource allocation and product mix. We shipped a record, industry-leading, 100 exabytes of total storage as we optimized our output during a period of strong demand for our products. Flash market conditions were as expected, which we have previously described as normalizing. We expect the flash market to continue to be constructive with the possibility of a constrained supply environment in the second half of calendar 2018.
In Data Center Devices and Solutions, demand for our 10 terabyte and higher capacity enterprise drives for Cloud customers grew substantially both on a year-over-year and sequential basis. Our exabyte shipments for this category more than doubled on a year-over-year basis. Just a few days ago, we launched our fifth-generation helium drive at the 14 terabyte capacity point. Customer qualification activities for this new product have begun and we expect commercial ramp to begin later this year. Additionally, we have begun meaningful revenue shipments of our mid-range capacity air-based drives launched earlier in the calendar year.
We now estimate that on a year-over-year basis, in the first half of calendar 2018, the capacity enterprise market is expected to grow at least 75%, well above our prior estimate of 60-plus %. We are also increasing our previous estimate for exabyte growth for the full calendar 2018 of greater than 50% to more than 65%. Our long-term exabyte growth estimate of 40% remains unchanged.
In enterprise SSDs, our Ultrastar SN200, has been qualified and is ramping at leading Tier 1 customers. This NVMe product delivers best-in-class performance metrics for a variety of workloads.
From a hard drive technology standpoint, we are on track to begin sampling our ground-breaking MAMR recording technology in the second half of calendar 2018, with a meaningful production ramp expected in calendar 2019.
Switching to Client Devices, we experienced strong demand for our mobile, embedded and compute products. Sales of our 64 layer 3D flash based iNAND offerings expanded during the quarter. The design win funnel for our iNAND solutions for the connected home, automotive and industrial verticals deepened, further strengthening our position to capture long-term revenue opportunities in these sectors. Our comprehensive flash storage solutions portfolio for the mobile embedded market covers a full range of eMMC, UFS and proprietary interfaces for a diverse customer base. With average capacity in smartphones estimated to double every 2-3 years, we see continued long-term growth opportunities for our mobility business.
From a PC market standpoint, the March quarter was slightly better than expected. We announced our first client SSDs based on new internal controller and firmware technologies. We also announced a differentiated, high performance WD Black SSD for serious gamers leveraging the same architecture. The expansion of our product portfolio highlights the successful execution of our accelerated R&D investments.
In the Client Solutions category, strong consumer preference for our G-Tech, SanDisk and WD brands delivered healthy year-over-year revenue growth for both our drive and flash based products in a seasonally slow March quarter. Our offerings for this market continue to garner accolades.
In our flash joint ventures, Fab 6 operations have commenced, and we expect initial output in the third calendar quarter of 2018 as indicated.
The ramp of BiCS3, our 64 layer 3D flash technology, progressed further and manufacturing yields approached mature levels. In particular, BiCS3 yields are also approaching levels achieved by our 2D flash technology. This is a very significant milestone that demonstrates our leadership in flash technology development and manufacturing. For calendar 2018, we expect BiCS3 to constitute more than 70% of total bit supply, and the manufacturing ramp of 96 layer 3D flash has commenced with meaningful output expected in the third calendar quarter.
Western Digital's estimate for industry flash bit growth in calendar 2018 remains unchanged at the high-end of the long-term range of 35% to 45%, with our bit supply growth consistent with the industry. Publicly stated estimates of bit growth rates from industry participants as well as market analysts appear to have converged into the 40% to 45% range. The expectations for calendar 2018 bit growth rates reflect the complexities of 3D flash technology conversion along with some companies utilizing their flexibility to convert 2D NAND capacity to DRAM.
In summary, our strong March quarter results reflect the flexibility of our model to allocate resources and supply to deliver the optimal mix of products. With our unique portfolio we are able to capitalize on fundamental drivers of data growth and the increasing value of data, as evidenced by the record setting exabyte shipments. With further expansion of our product portfolio in calendar 2018 and beyond, we continue to believe that the Western Digital platform is positioned to deliver the best financial and strategic outcomes in a variety of market conditions.
I will now turn the call over to Mark for the financial overview.
Mark Long - CFO
Thank you, Mike and good afternoon everyone.
I am very pleased with our financial performance in the March quarter. We executed well across our broad array of markets as we capitalized on the power of our platform, increased gross margins, achieved expense targets and reduced interest expense. All of which resulted in significant earnings growth. We also finished the March quarter with a strong liquidity position as a result of improving our capital structure and continued strong cash flow generation.
Revenue for the March quarter was $5.0 billion dollars, an increase of 8% on a year-over-year basis.
The March quarter revenue for Data Center Devices and Solutions was $1.7 billion dollars, an increase of 25% year-over-year. Our Data Center business continues to be driven by growth in Cloud-related storage. As Mike stated earlier, this was led by strong demand for capacity enterprise hard drives. Client Devices revenue was $2.3 billion dollars which was essentially flat year-over-year. We had significant growth in mobile and embedded products offset by client compute devices. Client Solutions revenue was $1 billion dollars, an increase of 4% year-over-year driven by the strength in our hard drive and flash retail products.
Non-GAAP gross margin was 43.4%, up 410 basis points year-over-year and up 20 basis points from the prior quarter, driven by significant growth in our capacity enterprise products along with a higher mix of flash revenue.
With respect to operating expenses, our non-GAAP OPEX totaled $850 million dollars. This included on-going investments in product development, go-to-market capabilities, IT transformation projects and short-term incentive compensation.
Our non-GAAP net interest and other expenses for the March quarter was $137 million dollars, a year-over-year decrease of approximately 33%. This includes $157 million dollars of interest expense for the March quarter, a decrease of $48 million dollars year-over-year primarily due to the recent financing transactions, which lowered the effective interest rate on our debt.
In the March quarter our non-GAAP effective tax rate was 6%.
On a non-GAAP basis, net income was $1.1 billion dollars, or $3.63 per share, an increase of 52% year-over-year.
In the March quarter, we generated $1.0 billion dollars of operating cash flow, an increase of 3% year-over-year. As part of our recent financing transactions, we paid approximately $190 million dollars of interest expense in the third quarter that was originally scheduled for the fourth quarter. We continued to reinvest in our business with $411 million dollars in capital investments, resulting in free cash flow of $616 million dollars for the March quarter.
On a fiscal year-to-date basis, we generated $3.3 billion dollars in operating cash flow, an increase of 34%. We deployed $1.3 billion dollars on capital investments, resulting in year-to-date free cash flow of $2.0 billion dollars.
In the third quarter we had an increase in inventory primarily due to seasonality and ongoing hard drive manufacturing transformation activities.
We paid the previously declared cash dividend totaling $148 million dollars during the quarter and also declared a dividend in the amount of $0.50 cents per share. We bought $155 million dollars worth of shares as part of our buyback program.
We closed the quarter with cash, cash equivalents and available for sale securities totaling approximately $5.1 billion dollars. In addition we have $1.75 billion dollars remaining out of our $2.25 billion dollars of total revolver capacity. As a result, we ended the quarter with approximately $6.8 billion dollars of available liquidity.
Recent capital restructuring activities decreased total debt principal outstanding by $825 million dollars during the quarter to approximately $11.4 billion dollars.
We remain committed to the following capital allocation priorities:
- Organic and in-organic business investments,
- Optimizing our cost of capital and capital structure while enhancing our financial flexibility, and
- Delivering returns to our shareholders through our dividend and share buyback program.
We achieved our planned cost and opex synergy targets from both the HGST and SanDisk integrations within the expected time frames. The combined savings of the programs have contributed to our strong financial results and validated our strategy for the acquisitions. While we have achieved our synergy targets as of the end of calendar 2017, we will continue to deliver cost and expense benefits from both of these transactions over the coming years.
I will now provide our guidance for the fourth quarter of fiscal 2018 on a non-GAAP basis.
- Revenue of $5.0 to $5.1 billion dollars
- Gross margin of 41% to 42%
- Operating expenses to be between $840 and $850 million dollars
- Interest and other expense of approximately $100 million dollars
- An effective tax rate in the 5-7% range; and
- Diluted shares of approximately 309 million,
- As a result, we expect non-GAAP earnings per share of $3.40 and $3.50
I would like to point out that based on our current outlook, we remain on track to meet or exceed our prior expectations for revenue growth and non-GAAP EPS for fiscal 2018. For calendar 2018, we continue to expect revenue growth at the high end of our long-term model. Previously, we had indicated that our quarterly non-GAAP gross margin for calendar 2018 would be above the high end of our long-term model of 33% to 38%. We now expect that non-GAAP gross margin will be at least 40% for each of the remaining calendar quarters of 2018.
I will now turn the call over to the operator to begin the Q&A session. Operator?
I want to thank everybody for joining us today. And we look forward to speaking with you going forward. Have a great rest of the day.