Everpure, Inc. (P) Earnings Call Transcript & Summary

Good morning, everyone. I am Sidney Ho, I cover semiconductor, semi-cap equipment and IT hardware at Deutsche Bank. The next company we have is Pure Storage. Pure Storage is an all-flash array enterprise storage vendor. And today, we are joined by CEO, Charlie Giancarlo; and CFO, Kevan Krysler. Welcome, Charlie and Kevan.

Thank you, Sidney. Glad to be here.

So before we start, for those investors who are listening to the webcast, if you want to ask a question, there is a box at the bottom of your screen where you can type in your questions. I will try to ask those questions as we go through our discussion. So with that out of the way, I'll start off with a few near-term questions on the market environment. But the first question is really on the current -- the last reported quarter performance, outstanding Q2 print, over 20% top line growth. What is driving the strength? And where do you see some opportunities? How much of that strength do you attribute that to pent-up demand?

Right. Well, thank you, Sidney. We've been seeing that the strength that you referred to last quarter build up over the last several quarters. And a large part of that is just due to enterprises, both commercial and large enterprise learning how to operate within a COVID environment. And really being able to start to reinvest in their digital transformation, and becoming more familiar of what it means to be able to operate from home and by doing so, reinvesting in their infrastructure. So we've actually been seeing this increasing business based on the investments that we've made over the last couple of years, if you will, sidelined with the beginning of the COVID environment, but then building up over time. I would say that pent-up demand has not really started to be part of the expansion that we're seeing now. I think it's still that kind of -- what we typically refer to as pent-up demand, I think, that is still pent up, ready to come out as companies start to go back into the office. So no, what we're seeing right now is the normal growth that we as a growth company, generally expect to see that was delayed a bit by the COVID environment.

Excellent. If I take a step back, based on your results and peers', the demand environment is pretty darn good, particularly on the large enterprise side. Can you talk about how you think about the enterprise spending recovery? Will this be more of a gradual recovery? Or are you expecting to see some sort of an inflection point eventually like when you talk about pent-up demand, it's going to come in at a certain time?

It's always hard to -- as you know, as a professional stock picker, it's always hard to predict a specific inflection point. But we do expect to see a bit of an inflection point, as I mentioned before, when businesses largely start feeling comfortable about calling their employees back to the office. Because while we do get some of our revenues from the cloud, and we can talk a bit more about that later, we still get the bulk of our revenues from enterprises. When enterprises are able to touch and feel and come into the office to experiment with new use cases, new products, new vendors, of which we are one, that's where we get a lot of our new business. And so as companies go back to the office, we expect to see even better growth.

Great. Maybe one more question then on the kind of near-term. In your orders and maybe design activities, are you seeing any delays or slowing down of the plans as the Delta variance has spread and the return to office may be delayed a little bit versus what everyone thought a few months ago? I think you mentioned earlier that there's a little bit of delay in the face of COVID.

Well, the growth that we saw last quarter, we expect to continue because as I had mentioned, it is about enterprises and companies being now attuned to operating out of the office. And the Delta variant may have delayed that return to the office where we would see even additional growth. But we've already -- Kevan and I already forecasted and gave guidance for what we expect for the rest of the year. We expect the kind of growth we saw last quarter continued for some time under the current environment.

Okay. I'll jump into a little bit about the customers. So over the past few years, you have invested in increasing your traction with large enterprises. And based on your results and commentary, it appears that you're making really good progress there. Can you discuss the traction you're getting with large enterprises in areas where you think there's the most opportunity?

Absolutely. Pure started out -- only started selling product about 8 or 9 years ago, right? We're still a young company. And we started out in the commercial market as might be expected with a single product. When we started to invest in enterprise, which was about 3 to 4 years ago, it was about expanding our product line, developing products that had all the feature, capabilities, support models and so forth that enterprises required, and developing the skill set in our sales force and the type of relationships necessary to really be able to be a broad range, very reliable enterprise class organization, everything from products, to sales, to support to the way we build relationships with enterprises. It's been a long investment period as our investors know, and we are seeing tremendous growth now in enterprise, not just in breadth that is in the number of enterprises that are choosing to work with Pure, but in the depth in which we can now go into their environment, their footprint, if you will, their wallet share in the marketplace in which we're in. We expect that we're only scratching the surface. That can continue for quite a few years in the future.

Excellent. Now on the commercial side, your commercial business has improved, but it still seems that there are some headwinds in this business. Can you talk about what you're seeing in your commercial business and how you think about the recovery that may be different than the large enterprises?

Yes. This was -- I've been, unfortunately through as many of us have, quite a few recessions if we want to call it that, pullbacks in the market. This 1 was unlike the ones in the past in that typically, whether it's '97, 2001, 2008, typically, it's the enterprises that pull back hard and the commercial markets are much more resilient. This time around, COVID really hit the -- what we call the commercial, meaning the mid-market much more heavily than the enterprise market. And while we have been seeing a slow recovery in the commercial market ever since last -- this past winter, it still hasn't come back to pre-pandemic levels by any means and still has, I think, a long way to come back to full recovery. We are seeing net new logos. We are seeing overall improvement. But it's a much slower recovery than the snapback, I would say, we largely saw with enterprise.

Yes. And I'll just add a little bit more to that business. So we did see some really strong momentum in Q1 in our commercial business, and we highlighted that in our remarks and commentary. And again, as we look to Q2, that strength has continued. So I would actually say that momentum is actually building in commercial. And to Charlie's point, where we're still seeing a headwind across the board, and even though we're seeing success with new customer acquisition, that's probably the primary headwind that we're seeing right now, specific to what we view as COVID impact.

Got it. So maybe moving on a little bit to the subscription side of the service. Subscription revenue is growing over 30% year-over-year. It takes up a -- I think it's about 1/3 of your company now. How much of that business do you expect can become subscription revenue over the next few years? And how do you think about the opportunity for margin expansion in this business as it continues to get bigger?

Yes. Let me start and then -- and Kevan can provide some additional detail. So we do expect subscription to grow well above the average of the company for some time. I don't want to upstage our investor meeting, which we're going to have on the 28th of September. So stay tuned. We'll give much more detail in terms of how large we think it can be. But I think it -- we did indicate that subscription bookings now are approaching 1/2 of all bookings at this point in time. So that should be a good teaser for what we might provide at the -- at our investor meeting. And like all new products, we expect margins to continue to improve as volume increases. Kevan, do you want to give some more detail?

Yes. So specific to overall and how big we expect to get that, to Charlie's point, we'll spend some more time on that in Analyst Day. Now what we have talked about is our next gate that we're looking at is when can we get the company to where 50% of our revenues are recurring and at what time period would that look like? And I think that's where we'll add some more color on Analyst Day. And then specific to margin expansion, I think there is a large opportunity, long-term opportunity for us in terms of margin expansion for our subscription business, especially as our Pure as-a-Service, which is our unified subscription that includes Cloud Block Store scales. I think we'll see some appreciation and some leverage both on gross margin as well as operating margin as these contracts grow and renew over time. And I think from a scale perspective, and especially what we've seen historically with Evergreen at scale and the margin profile of our Evergreen subscription, I do think there's opportunity for us long term for margin expansion, especially with our subscription business.

Great. Well, I'd love to double-click on the Pure as-a-Service. So clearly, the storage industry is seeing some good traction with the shift to assay service, and you seem to be seeing very similar success with our Pure as-a-Service. In discussions with your customers, what about your asset service offering is intriguing to them? And how do you think your offering differentiates from some of your competitors?

Right. Well, Thank you, Sidney. Actually, I'd just like to, perhaps, position it properly because I don't want to give your listeners any kind of false impression. We were, by far in our industry, the first to go to as-a-Service. We've been in the as-a-Service business for 4 years. And I would say that since that time, it's been our competitors who have tried to replicate our service offering. And we still have many -- there are many parts of our service offering that our competitors have not replicated and I think we'll find it very challenging to replicate. The first and foremost is as anyone your listeners knows, they all use the Internet in some way and use the web and use service offerings in some way. One of the benefits of an as-a-Service offering, typically online, is that all of the upgrades and improvements they make takes place in the background and never disrupts the service that we see. Well, that's what we do with our as-a-Service offering, even when it's on-prem. We can consistently and constantly upgrade our product in the customers' environment, both software and hardware year after year, decade after decade without ever taking our customers' environment down. None of our competitors are capable of doing so. And so that's one of the most important aspects of it. It's a consistent process of improvement without taking an environment down. Secondly, we're the only ones to offer what we call a unified subscription. What is that? That means that we offer the same set of services, data management services, whether it's on the customer premise, in a colo or on one of the -- 2 hyperscalers that we support, AWS and Azure, that looks exactly the same to the customer application and management environment. And the customer, with the unified subscription, can place their data in any one of these environments at any time without changing their -- without changing the cost or the way that their applications operate. None of our competitors have anything like that at the moment. And then finally, we're the only ones that offer this subscription service as a true SLA. The customer is not buying storage. They are not buying equipment. They're not leasing equipment. There is no -- there are no serial numbers involved. We provide a service level agreement for the customer depending on performance and capacity regardless of where they place their data. And we guarantee the SLA. We're the only vendor to guarantee the SLA. So these are very -- first of all, it's not what you expect out of a service, it's not what you expect out of an equipment lease or purchase. And that's what we deliver. Most of our competitors are not guaranteeing an SLA. They don't have unified subscription. They cannot do nondisruptive upgrade.

That's great. Thanks for the detail. Now what the public cloud has traditionally been a headwind to enterprise storage vendors, with many enterprises seemingly moving towards a hybrid infrastructure. The public cloud also provides an opportunity for Pure. Can you talk about how you think about the opportunity with the public cloud, and how Pure's software focus gives you an advantage in that hybrid world?

Yes. Well, we benefit from several ways from our work with cloud players. First of all, and this has been true for quite a long time. Quarter in, quarter out, approximately 30% of our revenue comes from cloud purchases of Pure product. So whether that's in the SaaS environment, an MSP environment such as Equinix or in the environments where customers that operate both as technology providers, but also as cloud providers. A great example of that is -- sorry, is Epic, who sells, of course, the health care software, but they also operate their Epic Cloud to allow hospital systems to be able to run their environments, but on the Epic cloud rather than locally. And that represents about 30% of our sales overall. We do believe that, that can substantially increase over time as we -- we recently -- that is a couple of years ago, introduced a new product called FlashArray//C. This is the first product that competes with raw disc at a price level with higher performance. And we're starting to see a lot of interest from very large cloud players in replacing their massive disc environments with something that's 1/10 the size, 1/10 the power and cooling and much more performance than what they're able to do with a disk environment. And then finally, we have several products. Cloud Block Store, which, as I mentioned, is part of our unified subscription, but also Portworx. Our Portworx is a product that works with what we call cloud native applications. These are applications that are developed on containers and Kubernetes designed to be able to operate across clouds. And we take care of all the difficult nasty bits, I like to say, all of the data management replication, backup, disaster recovery that enterprises and developers don't want to develop anew every time they write another application. And we manage it in such a way that it's very transportable across clouds, very transportable between on-prem and in the cloud, that is compatible with all different Kubernetes distributions, and can operate whether it's on our hardware or third-party hardware. So these are various ways in which growth of the cloud actually is something we can take advantage of.

Great. Before we get into a couple of products you mentioned FlashArray//C, for example, there is an inbound question I want to ask, but it's similar to the question that I just asked. So maybe there is a little bit of additional color you can provide. So the question goes like this, there's a narrative that most on-prem enterprise software vendors are moving their customer bases to their cloud solutions. Is that a headwind? Or what kind of workloads are top of mind for customers to accelerate on-premise spend with Pure?

Yes. Well, it's an interesting question. I would say that there are as many customers that are looking to move -- well, all of the customers that said they're going to move 100% of their workloads to the cloud 2 or 3 years ago are now saying hybrid is the way they're going to go. And what they learned was that storing data in the cloud is expensive. And in fact, not just some tens of percent more expensive than on-prem, but hundreds of percent. So many times, the cost of on-prem. And so hybrid is the much more economical way to do things, plus it allows for data sovereignty. And that's very important, that customers know that they need consolidated data in order to be able to best run their business. We give them the best of both worlds. We can give them choice, whether to go on-prem or in the cloud. But your -- the question from the -- that you just posed also has driven some customers to migrate to some of the MSPs. A great example is what we're doing with Equinix, where the customer does want to get out of the data center business, but they want to control their environment more than what they can do in a hyperscale environment. And so with Equinix, for example, but there are other MSPs as well, the customers can go to an outsourced data center environment with third-party managing it, but where the customer has much greater control over the overall architecture. And we provide the data management for the -- for these MSPs that we work with to be able to provide the customer with a very flexible developer-defined set of data storage classes that enable the customer to get the type of data sovereignty they need.

Thanks.

I'll just add a little bit more color I don't think the question is really an acceleration of on-prem versus the cloud to Charlie's point, I just think that's important to emphasize. Where the acceleration, we believe, is coming from is Storage-as-a-Service. And the need for a cloud operating model that allows customers flexibility of where they place those workloads, whether that's on-prem, whether that's with MSPs or in the cloud. And I think that's where the acceleration and opportunity set is, and that's what we are focused on, and that's what we're pretty excited about. So I don't really think it's a question. And Charlie, you don't -- you may have a different view on this, but I don't think it's a question on whether we believe on-prem spending versus cloud spending, it's really the need for a cloud operating model and focused on Storage-as-a-Service.

Excellent. Thanks for that. So maybe let's switch gears a little bit to the 2 products that I'm personally pretty excited about, so FlashArray//C for hyperscalers. So on your last earnings call, you talked about an 8-figure deal for your FlashArray//C product for -- as a top 10 hyperscaler. Obviously, that's a big, pleasant surprise for a lot of folks. I think so much of the hyperscale infrastructure is on hard disk drives. Maybe you can give us a sense how that customer made the decision to use FlashArray//C. More broadly, how do you think the opportunity for Pure with hyperscalers, and how did the cost of FlashArray//C match up with like traditional hard disk drives?

Absolutely. Well, we did receive a lot of questions on this. And for your listeners, it's important that we recharacterize what the use case look like. So it was a use case in their production environment. So not a terribly specialized use case, but it was one that they put a lot of focus on in terms of their design. The alternative at the end of the day for them turned out to be disk drives and magnetic disk drives because of the cost and price associated. Discs have always been a lot cheaper than flash. But our FlashArray//C now is able to use QLC at a price performance level that competes with disk. And at the end of -- and the customer attempted to -- they looked at all sorts of solutions, including their own software running on what are called JBODs or disc arrays as well as third-party software running disk arrays as well as third-party products in -- running flash. And at the end of the day, the only product, the only set of capabilities that met their price performance, but also -- remember, they have to operate in the data center. There are restrictions on data center size and power and cooling. They also had restrictions there. The only thing that fit the bill across all those metrics was our FlashArray//C. And so that's -- we were asked about competition. It wasn't that it was a competitive bid. It was the customer testing and doing engineering across all of these different options, and we were the only ones that fit all of the requirements.

We mentioned, we don't mind spending a little bit of time expanding because we are very excited about the opportunity set with FlashArray//C. Charlie, do you want to expand a little bit beyond in terms of your view on that? Because I do think that's very compelling and exciting for us.

Yes, there -- absolutely. FlashArray//C is very special because of the investment that we've made over a decade. So then why is that? We are one of the very few vendors that have designed software to really utilize flash the way it was designed. Flash is a semiconductor. Magnetic disk, of course, is a spinning disk. It's a mechanical device. And all of our competitors have used SSDs, which -- SSDs take flash and make it look like a magnetic disk, make it look like a mechanical device. Because they've not developed software over that period of time to really leverage the semiconductor and the way it operates, they can't get the type of either performance or take advantage of the low cost that inherently exists in flash memory. We're one of the few that can do that. And so it's been the investment that we've made over 10 years in characterizing flash, getting the best out of it in our software that allows us to build these products with this kind of price performance. And so we do think that this is an advantage that's going to last for quite a long time.

That's fascinating. Definitely look forward to more announcements on the FlashArray//C in the future. Now maybe if I move all the way to the other side of the spectrum, let's talk about FlashBlade, there appears to be a lot of unique use cases for FlashBlade product with the ransomware protection, AI machine learning being the top 2 use cases. Can you talk about the growth opportunity for FlashBlade in these use cases, and maybe also touch on some areas where you think FlashBlade will increasingly gain traction?

Absolutely. I'll add a third to the AI and analytics. It's just -- our AI and machine learning is just advanced analytics. So these are all, if you will, degrees of sophistication perhaps, but every company pretty much in the world is doing analytics of one type or another. And FlashBlade is an excellent solution there. So to be clear, what FlashBlade provides is fast file and object storage and delivery at parallel rates. In other words, they can support multiple applications running at the same time on the same data at very, very high rates of speed. And as we all know, unstructured data is growing at very, very high rates. In fact, most data that customers collect, most data that is being collected in the cloud is unstructured data. And if data is the oil of the century, is the new oil, then that data is useless and just costing money unless it can be analyzed. And in order to be analyzed at such volumes, it has to be analyzed -- this has been a problem in the technology world for some time. Companies have developed data, what's called data lakes and data warehouses, which is -- which have been just huge warehouses, if you will, of data and have been unable to get access to that data at speed. And that's really -- it's created cost, but without benefit. So what FlashBlade does is it allows customers to get access to that data, be able to provide -- do their analytics on the data as that it really becomes useful. We are in most, if not -- we have certainly the majority of the machine learning use cases out there with FlashBlade. I would say that we have a very large fraction of AI running on FlashBlade. We are making incredible inroads in what's called the EDA market, the electronic design and automation market, which was probably one of the early, if you will, data analytics use cases. And we continue to make inroads in advanced analytics, which is in great use, especially in fintech, right, high-speed trading and so forth. And you're right, the ransomware use case was one that surprised us a couple of years ago, what we call rapid restore. Of course, everybody knows back up, right? We all know backup. It's been around for a very long time. Somewhat because of that, customers always saw the backup as a -- what the third -- what's called a third tier use case. They just want a cheap storage for backup. And then what they found is, well, if you have a backup and it takes you 2 days, 3 days to restore, well, it's not much good for you at the cost of being down as a company. Whether it's your developers not being able to develop or your traders not being able to trade or your customers not being able to transact, that's very expensive. And so now we've -- we were the first and continue to be the leader in delivering rapid restore capability to our customers so that when they go down, whether it's because of a failure or because of ransomware, when they can recover within an hour or 2 and be back up and operating, it saves them a lot of money and a lot of embarrassment in the case of ransomware.

Excellent. Let's move away from product for a little bit, but going to your sales strategy. So Pure continues to sell 100% of your revenue through the channel, even as you continue to grow. What has driven your decision to still only sell through channels and not have the direct sales for larger customers?

Right. So to be clear, we do have a fairly large sales force, over 500 teams around the world, and they do speak to customers directly. But as you correctly pointed out, all of our sales go through a channel or are fulfilled by a channel. First of all, the channel provides a lot of value to us. They provide installation, integration, consultation services for our customers. We're generally part of a larger solution and the channel, in most cases, are the ones that are actually putting that entire solution together. Secondly, our sales force gets multiplied more than tenfold by the sales force that exists in channels. So especially in the commercial market, where over half now of our commercial sales are channel sourced. The channel provides a huge amount of leverage, if you will, for us. And that allows more and more of our selling teams to focus their attention on enterprises, on doing what we think we do best, which is setting brand preference, really transferring to our customers and our channels the benefits of Pure over time. Third is because we are 100% channel, we're trusted by the channel. That's very important. When our competitors will work with the channel to get -- to solidify a deal with a customer and then take it direct, it creates a lot of distress in the environment. We've never done that. We won't do that. And so we develop a lot of trust and good relationships, if you will, with our channel partner.

That's great. That's helpful. So maybe I'll ask, the last few minutes, so I want to ask about the financial side of things a little bit. So starting off with maybe the third quarter guidance, you provided some color into your calendar Q3 and of full year of calendar 2022 guidance. What gives you confidence in raising your -- I should say, fiscal '22, fiscal '22 guidance on both revenue and profit. Does the guide account for the tight supply chain environment we've been seeing across the industry?

Yes. I'll take this. I mean, sure. I mean, when we think about the guide for the year as well as for Q3, obviously, as you'd expect, there's an extensive process that we go through as a company in evaluating an appropriate guide. And obviously, when looking out to, Charlie's point, to Q3 and for the rest of the year, we see building momentum. We see building momentum across our portfolio. We see it across our key geos. We see it across our subscription business, both our unified, Evergreen as well as Pure as-a-Service. And then -- and so on the top line, I don't think there's really a shift in what we do to evaluate the criteria and coming up with our guide. We just see that momentum. We look at the win rates, we look at conversion, we look at pipeline, all the typical things that you would kind of think about in terms of process. Nothing's really changed on that other than building momentum and including the enterprise business that Charlie pointed to. Obviously, we're also very focused on increasing operating leverage. Specific for Q2, we had a bit of a tailwind for COVID, and I think I highlighted that was probably about 1 to 2 points of benefit we saw in operating margin. But nonetheless, with that focus and as we look for the year, we're thinking around 7% is a little higher in terms of operating margin for the year, which is really in line with what Charlie and I were driving for coming out of COVID and leveraging the investments that the company made during the COVID environment. And we're seeing that play out as the growth trajectory is coming back in terms of consistency with our expectations.

Great. Maybe built on that, you guys are about to get to $2 billion of revenue, slightly over that in fiscal '22. And that's after reaching only $1 billion 3 years ago. How do you think about the balance between growth and profitability going forward? And how do you think about the investment needed to take you to the next billion dollars of revenue?

Charlie, feel free to jump in. We'll spend some more time on this in Analyst Day as well. And Charlie and I have been very aligned in terms of how we obviously, are prioritizing top line growth, but at the same time, we very much believe that we can drive increasing operating leverage while we're achieving the growth expectations. And I also believe -- and we'll spend some more time on Analyst Day that we're very much -- rule of 40 is very applicable to us. And so we do want to talk a little bit more about how that plays into our expectations both for next year and in the longer term, specific to the rule of 40. That really gives you a good sense on the combination of growing our top line while increasing operating leverage. Sorry, Charlie, did you have anything else you wanted to add?

No, I think you hit it exactly right. The only thing I'd emphasize, perhaps, Sidney, is your use of the word balance. I think that's exactly the way we're looking at it. Preference for growth, but with a balance of increasing profitability.

Great. Maybe just last question, and I'm guessing you'll answer that more at the Analyst Day. You started -- you continue to buy back [ stock ] out of that $200 million repurchase program. Can you discuss how you think about capital allocation going forward? And why you decided to allocate some of the excess capital to share buybacks versus investing back in the business for additional M&A?

Can I -- let me start, Kevan.

Okay. Sounds good.

It's interesting. We've been investing in the business for quite a while, right? So we haven't been afraid to invest in the business. And of course, cash and OpEx investment are 2 different things as all of your listeners know. But we are -- if nothing else, we've been characterized as a company in our industry by investing in the business. Almost [ 22% ] of revenue in R&D up until -- with our investment in enterprise over the last 3 years, almost high 30s percent of revenue being invested in the sales force. And I think for -- that our investors expect now us to be able to reap some of the rewards of that. And so that's our, as we just spoke about in the former question, a real focus on increasing profitability. But we're not afraid to invest in the business. But with our excess cash, I'll let Kevan speak to that, but it will be a balance across a number of different items. Kevan?

Yes. No, I agree, Charlie. And look, I think the aspect and the element of returning capital to our shareholders through the buyback, we're pleased with that element. We've got the $200 million authorization that we're working through at this point in time. And we think that's an appropriate -- in terms of short term, how we're thinking about it over this year, that's an appropriate element of our capital allocation policy.

Great. I think we just ran out of time. Thank you very much for spending your time with us and enjoy the rest of the week -- of your day.

Thank you. Thank you, Sidney...

Have a great day.

Have a great conference. Take care. Bye now.