NetApp, Inc. ($NTAP)

All right. Good afternoon, everyone. Really delighted to have with us Wissam Jabre, CFO of NetApp. Wissam, thanks a lot for your time. Before I get into all the questions that I have, I'm just going to read the safe harbor statements for NetApp. Today's discussions may include forward-looking statements regarding NetApp's future performance, which are subject to risk and uncertainty. Actual results may differ materially from the statements made today for a variety of reasons described in our most recent 10-K and 10-Q filed with the SEC and available on our investors website at www.netapp.com. We disclaim any obligation to update information and any forward-looking statement for any reason. All right, with that out of the way. Wissam, thank you very much. Always appreciate your time. Maybe before I kick into all the questions that I have and there's a lot going on, you folks reported earnings a week ago or so. Maybe just spend a couple of time to give us a quick recap on the trends you saw in April quarter, you obviously gave a full year guide as well. Just spend a couple of minutes on just recapping the earnings and we'll dig into some questions from there.

Yes. First, thank you so much for having me. Happy to be here. So yes, we did report last week. We basically reported revenue uptick relative to last year as well as sequential. We did see some nice broad-based strength in demand throughout the quarter. Granted, we have also seen some commodity price increases. And so when you look at it, there were some accelerated demand as well. However, our Q4 numbers did not reflect the -- we had minimal impact in them from those. We are seeing some good momentum in the business with the enterprise IT spending improving as well as enterprise AI activity as well improving. And so this is what we -- when we looked at the trends going into fiscal '27, we basically put all of this information together so that we can provide the best outlook, and that's what our guidance reflects.

Got it. And before I get into all the questions around your guide, maybe the one thing that did come up a bit is just the Google relationship. And I know you folks obviously had a press release on this on April 16. You called it out a couple of times around the ELA. Can you just talk about what is this relationship with the Google Distributor Cloud really entail? How long is the ELA and kind of what goes into it?

Yes, of course. And so -- this -- the nice thing about the Google agreement, it's in the hybrid cloud segment. This is the way to think of it. It's -- we had -- so we started with enterprise agreement with Google back in October 2024. And so what we announced in Q4 is an expansion on an price agreement. It is for Google Distributor Cloud environments. There are more secure environments addressing sovereign and highly secured type of use cases, think of things like more of a public sector type applications or more highly secure as well as potentially in national security type of applications. The nice thing about this agreement is it pretty much gave us a couple of things, some TAM expansion because this is an area that we haven't necessarily -- basically expanded where we -- our footprint there. In addition, it does showcase our capabilities in terms of security and the ability to sort of provide data infrastructure for very highly secure environment. We did call it out in the quarter, it had a nice impact to our product revenue as well as our product across margin. As we think through it going forward, it is a 4.5-year type of agreement. And so going forward, it will have the typical type of hybrid cloud agreement where we have hardware, software and support. And so there will be some support revenue attached to it. There will be some product revenue in the future as when we sort of put more deployment. But we -- but those would be part of the normal course of business. And as we think of the economics over the duration of the agreement, it's a typical hybrid cloud type of agreement economics.

Got it. Perfect. One of the topics that's been coming up a fair amount, especially after your earnings call, but also a bunch of other earnings call has been this concept of how much of the contribution that you folks are seeing is driven by pull-ins versus truly good end demand, right? And I think you folks had like 12% growth in Q4. I think Q1 was guided for 17%. There's an extra week over there. But demand is much better than I think folks thought. How do you kind of think about end demand trends versus potential pull-ins that could be helping you? Just talk about how you segregate those a bit?

So when we think of the business dynamics, we're seeing broad-based strength in demand. And now any time price increases, there could be different behaviors in the market by customers. Some customers could accelerate their demand, but others may not have the same flexibility and others could put some of the purchases on hold. So it's a mixed bag in terms of impact to the business. But when we look at really what's the underlying drivers, we think it's -- we think we're seeing some improvement in enterprise IT spending, partly driven by enterprise AI spend as well. Now when you put it all together and they look at Q1 and the fiscal '27 guide. Obviously, we are also aware of potential accelerated demand or pull forward. And all of this is reflected in how we guided our business.

Got it. Memory is another topic that obviously has been kind of front and center for you and I'm sure for everyone else. Just talk about what are you seeing from a memory environment right now? Do you sort of expect this to be a multiyear issue? Or how do you kind of think about navigating this, and if it is a long-term issue, how is NetApp preparing in terms of supply commitments and agreements and maybe just to drive on the memory thing, you obviously gave a fiscal '27 guide. Do you have the bids, the LTAs in place to ensure you get the capacity you need?

So when you look at sort of what happened over the last couple of quarters, we saw commodity prices increase at a very fast pace. In parallel, obviously, we had -- we implemented price increases last quarter to protect our profitability. And really, the way it works is we pass the commodity increases to our customers as is customary in the business we operate in or the industry we operate in. As we think through fiscal year 2027, we look at this basically impacting mostly our product gross margin. And we think Q1 could be the trough, and we may see some -- we should see some gradual improvements from there for the rest of the year. And by gradual improvement, I don't mean step function improvement. I mean, sort of a bit of improvement as the year progresses. If we continue to see commodity price increases, we will be taking additional pricing actions to protect the profitability of our business. The way we look at it is, obviously, we look at the over portfolio, and we adjust our crisis, depending on where we see cost increases. With respect to the supply environment, look, we've -- we're operating -- we're clearly operating in a supply-constrained environment. There are certain shortages that show up every now and then, but we've been navigating it so far successfully. We -- when we look -- when we -- the way we operate with our partners and our suppliers is we work with them on our outlook, and we understand what their supply availability is, in some cases, we have commitments in terms of deliveries for quite some time. At this time, we feel -- we believe we can secure the supply needed for us to drive our outlook for fiscal '27.

Got it. Every company has their own kind of set or ways that they're going through memory mitigation efforts, I would say. Pricing is recently one of the tools, but I think there's other tools that folks have talked about. Can you talk about like beyond the price increase, which I'm sure everyone is saying. What are the other options or vectors you have in terms of managing the memory headwinds? And how are you mitigating it beyond the price increases?

I mean, we're -- we -- of course, I mean, you mentioned price increases, and that's something we look at. But we also have a very broad portfolio, which offers us and gives us opportunities to serve our customers in many different ways. When you look at where the increases happened the most, they happen mostly on the all-flash side of the portfolio simply because this is where the commodity prices increased the most. But we also saw some increases on the hybrid side, with hybrid flash side of the portfolio, but not to the same effect. And so where customers are -- or maybe cost sensitive depending on the workloads, we're happy to offer hybrid flash solutions for their data infrastructures. But we also are happy to work with them on a consumption model, if they so choose or subscription model. We have Keystone, our Storage-as-a-Service there, it is sort of -- the spend is spread over a few years, and that basically provides a different model for customers who want to sort of not put up the cash outlay upfront. In addition, we have our public cloud segment, which is a great business that's on the hyperscaler side, where we're happy to also offer that. And for customers who use multi-cloud strategy, and they have -- they use NetApp on their hybrid cloud as well as on the public cloud. This is sort of -- it basically gives them a whole suite of options to choose from, and they can across the whole, basically gamut, they can use also ONTAP, which is our data management operating system.

Got it. From your perspective, how are customers contending with this memory issue, right? Are they looking at hybrid or HDD or anything. It's slower, but a better alternative for me, maybe given what's happened in the pricing right now, they're saying, we'll just buy less storage or less bits in a box. I'm just curious like how are customers dealing with this because it's a quite a bit of inflationary pressure for them as well.

I would say we're seeing various approaches. It depends on the type of customer, the size of their business, the workloads, what they're trying to really achieve and what their goals are. For some of the customers who have already a hybrid flash estate, and they don't necessarily need to go to All Flash. That could be an option. It could still -- we could still upgrade or extend their data infrastructure using hybrid cloud for other customers who want to be sort of on the forefront of enterprise AI, they may want to go with more of a high-performance type of All Flash or high capacity type of All Flash. So I would say it all depends. Now in Q4, for instance, we didn't see much demand elasticity. We've always thought and we've always said that our customers budget in dollars, and this is how they basically deploy their budgets and to basically buy data infrastructure. Some of them may see the need to upsize depending on their business priorities because at the end of the day, they would reallocate their budgets based on business priorities. Others could choose to make different decisions, either sort of downsize or choose to delay their purchases. It all depends on their financial flexibility as well.

Fair enough. I think you folks disclosed this kind of AI demand number, which is like how many AI deals you signed, I think, every quarter, and it was like 500-plus deals in the last call, which is a pretty big step-up from the prior quarters, which is like 300, I think, right? So when you think of these AI deals that are going up dramatically, what is it that these enterprise customers, I assume they're mostly enterprise, what is the bottleneck they're trying to solve with storage when it comes to AI training? Because I do think storage is a pretty big bottleneck for them to deploy in-house. And where does NetApp fit in that narrative?

So we do break out the various types of engagements when it comes to enterprise AI. Half of the engagements that we saw in Q4 were on data preparation and data lake modernization. The other half was split in 2 categories, some on inferencing and some on model fine tuning. The -- so when you think of data lake modernization or data preparation, it could be situations where some of the customers have their data siloed into various silos, and they want to sort of have a unified view of it and they basically are modernizing their infrastructure to enable them to have access to their overall data estate wherever it resides in the world and -- or in their sites. So that's sort of one of the potential use cases. It could be that customers are utilizing AI much more from a day-to-day perspective in their activities or they're starting to do that, and that's sort of where inferencing comes in, they want to be able to utilize their proprietary data that sits on their own storage devices, and so they want to upgrade that to be able to utilize it more for AI use cases. There's multiple reasons why and how they could be using -- they could be needing higher performance or high capacity data infrastructure that we offer.

Is there a way to think about how big is the potential in terms of these AI-related revenue opportunities? Or how big could AI revenues get for NetApp over time?

Look, if the -- almost every -- I mean AI went from experimentation to almost becoming a top priority across the board. And so we view it as incremental opportunity for us. It will be a nice tailwind as more and more enterprises sort of implement AI. It's, I would say, a bit early to quantify but it does feel like there's a certain momentum that we're feeling in the business. Yes, it's -- the way we think of it is, it would present potentially a tailwind. How much of that is quantified today, it's probably too early to tell.

One of the products that you folks have, the AI data engine, which was, I think, GA recently, I think last quarter at fiscal Q4 for you folks. How should we think about what does AI data engine really do for customers? Is it more for a brownfield way to get more of the wallet share? Just talk a little bit about what's the intent of this, what the monetization of this look like over time?

I mean the way we think of data is that it has certain gravity, and we would like to bring AI to the data as opposed to bring data to the AI and so this is the purpose of AIDE, it's enabling our customers to understand much more about their data to provide more data about their data for them so that they can, one, improve the quality of the data that they have on their data estates but also be able to utilize data more effectively for AI use cases. And so -- the initial indications are very positive from AIDE. We see really a couple of areas for us here and how this could work, at least based on the initial views. On one side, we're -- when we engage with customers who are already on -- existing customers who are already on NetApp infrastructure they basically -- that could potentially create some additional software or could be some software subscription model, where we could help them improve the quality of their data, their visibility into the data and potentially also attach that to a storage. And there's also some nice uptick of interest from new customers who are wanting to have a better understanding of what AIDE does and that could present opportunities for us where we could basically not only delivery AIDE, but also full storage solutions for that. So it's an exciting area of opportunity for us.

Your public cloud business has been doing extremely well. I think it was up like high teens, 17%, 18%, excluding the divestiture dynamics, right? Just talk about like what's sort of driving the growth rates on the public cloud side? And then I think you always said that, hey, there's a healthy mix of new customers and existing customers. Where is that skew going? And what's really driving the strength there?

Yes. So as you noted, public cloud for us grew around 17%, 18% in fiscal '26 when we exclude spot from the previous year numbers. At the core of that first party and marketplace, which is really the drive -- the growing -- the growth engine of the public cloud business grew at around 30% year-on-year. As we go forward, we anticipate to see similar type of dynamics. And now that the first party and marketplace has become even a bigger portion of the business that should drive really a nice growth profile going forward. It is also a very highly profitable business for us. I mean, we've -- our target -- gross margin target range is 80% to 85%, and we've been operating at the high end of that range for a few quarters now. When you think of the customer mix, yes, it is a mix of existing and new customers. It does also offer us the opportunity to attract customers that typically aren't necessarily serviced through the on-prem business. Customers who are cloud native or basically started on the cloud that typically wouldn't have -- wouldn't want to sort of -- wouldn't have NetApp on their on-premises are exposed to NetApp and to ONTAP. And so it does sort of attract a new set of customers. It's a wide range of sizes, wide range of type of customers, I would say. But the nice thing is it's growing at a nice pace, and it is a highly profitable business for us.

And just on the margin side, right, I mean, I think it was like north of 85%, if I'm not mistaken, last quarter.

It was.

It was better than what you folks had thought. But is that the right -- I mean, is that the right margin framework to think about? Or what are the puts and things that drive the margins, like first party versus not. I'm curious like what drives the puts and takes around it?

The long-term range we published is 80% to 85%. And as you correctly noted, we've operated slightly higher than that. We were like 85.7% in the last quarter. It's too early for us to really revisit our range. We think that the range is still valid for the next -- for some time because the way to think of it is there's a mix of things. Obviously, it's a highly -- it's growing at a nice pace. And so -- and if we need to, for example, in a portion of it, we do have some assets associated with the capacity. And so if we do need to refresh some of those assets, we have enough -- we think within the range where it is appropriate for us to refresh as well as continue that growth going forward? Could it be -- could it move in a different direction? Potentially, yes. I'm not going to say no, but it's a bit too early for me to update the range.

Got it. Keystone is something you talked about a little bit earlier, too, but it's certainly part of the toolkit customers have to navigate with these memory challenges. From your perspective, are you seeing customers willing to say, fine, I don't want to do a CapEx model. I'll do an OpEx model and go with Keystone? Or are they sort of different tracks that it's harder to get them to convert to Keystone versus CapEx?

Keystone has been growing at a really nice pace. I mean, in fiscal '26 Keystone revenue was up around 65%. So it is a nice -- it is a smaller portion of our business, but it's growing at a nice pace. I mean, yes, our Keystone Storage-as-a-Service has done really well. It continues to build momentum. And it is an alternative or a potential alternative for customers who don't want to put the cash outlay or put in place a bigger CapEx upfront. I don't think we've seen so far a real trend in that movement, but we obviously are ready for it. If our customers really want to sort of opt for Storage-as-a-Service type of model as opposed to a CapEx model. And this is -- in some ways, this is the nice advantage, the breadth of our portfolio offers. We're able to do All Flash, HDD, Keystone, public computing, many options. As long as we're able to sort of serve our customers and maintain that sort of customer life cycle revenue.

Fair. Is there a way to think about on Keystone, like what's sort of the unit economic profile for a Keystone engagement versus kind of a traditional engagement on a product basis over 3 years or 5, however long you want to think about like what are the unit economics like in Keystone versus on a traditional sale?

I mean the way to think of it, I would say probably over a 3-year period, the economics are more or less equivalent. Longer than that, probably Keystone has a nice advantage because obviously, you extend that sort of revenue stream. But the -- but for us, what matters really is what solutions are we solving for our customers and how we solve is the best way possible.

I think your fiscal '27 guide, right? Obviously, you guided for revenue growth to be in the higher single-digit range on a top line basis. EPS, I think closer to $9 number, right, essentially. What to me was notable was like, hey, you folks talked about gross margins being down 220, 230 basis points year-over-year. But operating margins, I think we guided down like 50 basis points. So clearly, you're doing a lot on the OpEx side. So let me just spend a little bit of time on what are the OpEx controls you're executing on to shield your bottom line, shield your free cash flow? And then are these durable savings? Are these transient savings? How do we think about that?

I think it's the outcome of that. I mean when you look at the transition year-on-year and how sort of the top line at the midpoint is guided versus where the operating margin is guided. The outcome is a combination of both some nice uptick on the revenue as well as basically disciplined management of OpEx or at least how we think of -- we project our OpEx and execute our business. Generally speaking, when we look at our OpEx in the future, we plan OpEx growing at less than half of the growth of the revenue growth. And that's sort of done in a way to allow us to maintain certain operating leverage in the business. And so fiscal '27 is pretty much following the same type of approach. When we look at the OpEx itself, we're looking at it obviously as an investment. We continue to invest in our sales capacity and our go-to-market capabilities. Would it make some nice investment in fiscal '26 where we did say at the beginning of the year, we were adding some sales capacity. We did some of that. We continue to think that the opportunity for us is there to drive top line growth, and so we'll continue to do some of that in fiscal '27. And on the R&D side, we want to continue to invest in the technological capabilities that we have, the differentiation, the AI data solutions. But we do that based on going after the highest ROI type of projects. And in parallel, we look at the rest of our investments and we deemphasize areas that we think are not -- either not driving the growth we want to see or they're not necessarily expected to deliver on the return. And so we do that on a regular basis. When you sort of then combine the top line growth with really driving OpEx at a much lower growth relative to the revenue growth, that gives us some operating leverage, and that's how we plan the business.

Got it. Beyond the whole AI investment that all the hyperscalers doing and more, a recent thing has been like you've seen a lot of uptick in spend for x86 servers or general purpose servers right now. For inference and deployment. But generally speaking, there's a lot of demand for x86 servers. I think a lot of enterprise companies are talking about like Dell, HP and so on. I guess, maybe the question for you is that historically, when you see this big uptick in compute spend, especially in enterprises, storage tends to follow at some point soon after that. Do you expect that kind of historical correlation to hold up? Or you think there's something different in inferencing that maybe the lag is longer? Or how do you kind of look at all the server spend and say, we'll get it on the storage side at some point?

I think we should -- I mean, when you deploy such an amount of compute, you want to make sure that it is run in the most efficient way possible for whatever purpose you're trying to use it for. And so to me, it feels rational that -- or it is rational to see storage capacity follow, because you want to -- not only are you sort of wanting to make sure that they're operating very efficiently. There's going to be some data generated when you start thinking of agentic AI or inferencing. There will be data generated as part of, obviously, all this process and the data has to reside somewhere. And so naturally speaking, I would expect to see some storage follow-through there. I think it's a bit too early for me to quantify or to even sort of define the time lag. But rationally speaking, we should see some of that happening.

Got it. One of your vertical that's been a bit more challenging has been the public federal government, your public vertical, if you may. It's been weak for several quarters for a lot of companies, not just you, in fairness. Can you just, a, maybe just talk about how big is the federal business for you today? And then what are you sort of expecting from that business in the construct of your fiscal '27 guide that's out there?

So for us, the U.S. public sector business, which includes the federal business is approximately 10% to 11% of our revenue. This is where it sort of has run for quite some time. We did see subseasonal sort of movements throughout fiscal '26, except for the fourth quarter where we started to see some really nice uptick. In Q4, U.S. public sector was up almost 20% year-on-year. So there was some nice recovery that we experienced there. Now that we think there's already sort of the budget passed and there's a little bit more clarity. We think this business should more or less return to a normal type of seasonality for the U.S. public sector. So that's what we should -- at least that's what we're anticipating going forward.

Got it. Maybe just touch a little bit on capital allocation. You folks exited with a very strong balance sheet. I think in Q4, $1.4 billion, if I'm not mistaken, of net cash. Just talk about how do you think about the free cash flow generation for the business and then extend that a bit? And how do we think about our capital allocation as well over time?

Yes. So when we started talking about the Q4 execution in fiscal '26. We should have -- I should mention how well we did on the cash flow generation. We did really phenomenally well in 2026. The business generated quite a bit of cash and we also obviously continue to do our typical capital return through dividends and through buybacks. And so going forward, we expect to maintain a similar type of capital allocation where we want to return up to 100% of our free cash flow to our shareholders through dividends as well as buybacks. The way to think of our cash flow, I would probably -- it should be -- it should follow similar type of dynamics that we've seen in the last couple of years. Our operating cash flow typically tracks our non-GAAP net income and that this coming year should be no different. And so we anticipate to still be highly cash generative.

And M&A, where does that sort of fit into the thought process, it's more bolt-on, but...

Yes. I mean we're a technology business, right? We want to make sure we maintain our technological advantages. And so if there's a need for us to do anything on it from a tuck-in perspective, we won't hesitate for value-enhancing M&A. That's -- I mean just -- you'd expect that from a technology business like ours.

Fair enough. And those are all the questions I have Wissam. So maybe I'll turn it back to you. Any closing comments, anything I did not touch on that we should be aware about as we think about NetApp going forward?

I think we've covered a lot of ground. Look, it's -- we're very excited about this coming year, and we look forward to come back and update as we progress through the year. Thank you so much for having me.

Thank you very much for your time. Appreciate it.

Thank you.