Nutanix, Inc. (NTNX) Earnings Call Transcript & Summary

Good afternoon, everyone. This is Brad Reback from the Stifel Software Research team. Thanks very much for joining us this afternoon. Today, we have with us, Duston Williams, CFO of Nutanix; and Greg Smith, VP of Product Marketing as well. Gentlemen, thanks very much for joining us.

My pleasure.

You're welcome.

Duston, maybe we can start with you from a high-level perspective. If you look out over the last 90 days, how do you think the opportunity for Nutanix has changed and within that, what do you view as somewhat transitory versus a permanent secular change in the market for you?

Yes. So I think from that perspective, the product continues to do really, really well. We've got some new products and new features that we continue to deliver, big deals, all that stuff. That's all good. I think within the last, call it, 90 days, there's just the level of uncertainty has been heightened, along with everybody else. We're not in this certainly alone. But from just a quarter perspective, in our heritage, you wouldn't be surprised by this, but end user compute, VDI, clearly, we saw a bump up to 27% in the quarter. So that clearly helped. And quite honestly, helped to offset some deals that we've won that people just put a pause on and put them out to future quarters. I will say, several of those have already closed that did get pushed out. So that's encouraging, but it's still a bit spotty as far as level of predictability, which we talked about on the call. But clearly, VDI bumping up to 27%. That's going to bump up and down all around. But I think that continues to be elevated because, again, we have a very elegant solution, it's very simple. In some cases, we had customers, existing customers, said, can you possibly get us up and running and so many seats this out or whatever in a week. And we said, sure, we'll take care of them and so those things worked well. But again, we had other things -- other things that just plain moved out, and hopefully, those will close.

And on the VDI front, specifically, as we move from work-from-home to a -- we and as well as others are calling work from anywhere. Do you see -- if you look at the pipeline, do you see continued strength around the additional VDI sales? Or is there a period of digestion and then customers move forward from there?

No. I mean, we're going after this pretty hard, too, because, again, we've got a great solution, but maybe, Greg, would be appropriate to provide a little insight as far as what we're doing product and marketing wise around those use cases.

That'd be great. Yes, Greg, whatever additional color you could add would be very helpful.

Well, from VDI perspective, that was basically our first critical workload that we ran early days, right? 2012, '13, '14 and ongoing. So we built a pretty substantial installed base of customers who rely on Nutanix to deliver virtual desktops and apps. And one of the reasons they like HCI is because not only can they get them going fast, but it's easy to scale. And so as they grow their VDI deployments, they simply add additional Nutanix software licenses, new notes. And so, like Duston said, we've seen exactly that over the last 3 months is that VDI is the tool that allows more people to work remotely. It's in place at these -- at so many customers, and so we're now reaping the benefits of people coming back and buying more software license to expand their Citrix environment as well as our VMware Horizon View. And so that's been a good strong tailwind for the company.

And Greg, can customers effectively run the VDI solution on-prem and in the cloud? Or is it predominantly on-prem today with the cloud in the future?

Yes. So there are 2 different models, right? There's delivering -- delivering the desktops and apps on-prem, and that's traditional VDI, that Citrix and VMware. But there's also desktop-as-a-service, which is cloud delivered. So we offer both the traditional and the installed base is built upon on-prem. Over the past several quarters, we've done fairly well with frame. And Frame is our desktop-as-a-service. So it means the desktop and the applications typically are running in the cloud. And with our desktop -- not surprising for Nutanix because we really pride ourselves in providing freedom of choice. Our customers, the Frame customers can choose the cloud of their choice. So they can run those desktops out of AWS, out of Google, at Azure. And the nice thing is about 6 months ago, maybe 9 months ago, we added Frame as support for AHV, which is our own built-in hypervisor. And so what that means is, if customers want a VDI solution that spans both on-prem and in the cloud, they can do it, where they can have one control point and they can deliver desktop's VDI from the cloud or on-prem, but manage it in a unified fashion. So our business is sort of -- we offer both, but the legacy and the numbers right now are being driven by the on-prem VDI.

Got it. And maybe sticking on the product side, since we got you going on a roll here. I would say, at least from my perspective, the core HCI market has really come down to you and as we know, it's sort of the Dell complex, which is probably good news to have 2 good competitors there are going head-to-head from an innovation standpoint. But as you look at your non-core sort of product set, who do you think the real competition is for those products?

Yes. The way our business has evolved is -- it of course, began with just hyper-converge infrastructure, HCI, the customers would adopt to modernize their data center. What's happened over the past 2 to 3 years is that not only the customer adoption, but the competitive environment is less like HCI vendor A versus B. Instead, it's the full stack. It's all of the additional services that run on that HCI foundation. And this is true equally for Nutanix and for VMware. So it's about landing in that customer environment, HCI, but additionally, a variety of storage services, security like micro segmentation, a lot of automation for applications, adding database automation and life cycle management. So when we compete, it's not just HCI, it's full stack. And then that extends even broader that when CIOs are making investment decisions, they ultimately have to decide, do I invest in my on-prem private cloud environment or whether into public cloud? And in either case, they're looking at the full stack. So it's -- you need a lot more than just HCI nowadays to compete in the data center in the cloud. And then at some point, if you like later, we can talk about how we're going to capitalize on our technology and what we bring to customers to date in the data center and bringing that in its entirety into the public cloud realm as well.

Well, since you alluded to it, why don't we address it right now that sort of the hybrid cloud advantage, I'll say that the customers get with your solution versus a hyperscale cloud-only offering.

Greg?

I mean, right now, the dilemma facing so many IT professionals is they have to make up what often, too often is a binary decision. Do I run my applications and do I manage my data on-prem? Or do I push into a public cloud. And they know that there's a lot of friction to reverse that decision. And hence, they would like a hybrid cloud environment, one that gives them the ability to shift workloads and data sets between private cloud and public cloud. And right now, that's a high friction exercise. So what we are doing is we're taking that full stack, the HCI plus the storage, the networking, the security and the automation, and we're making that full software stack available to run in third-party public clouds like AWS. So that means all the functionality that we deliver to our customers today of 16,000 plus customers around the world. They will be able to consume that not just on bare-metal servers in the data center, but bare metal instances in a public cloud environment. And why that's beneficial is if I'm running the same infrastructure, the same environment between my on-prem and in public cloud, then I'm able to finally lift and shift applications and workloads between the 2 environments. I get a really seamless environment, and I can manage it from a single console. So for the first time, as an IT operator, I can have a single management console to monitor and actively manage both my on-prem private cloud as well as what I'm doing in a public cloud. And so that for us and for many of our customers is what they're striving for as they build out hybrid cloud architectures. And so we're going to be leveraging all of our investment over the years to build a software stack and bringing that to public clouds as well.

Greg, I know maybe wrapping up on this point that you talked earlier around Frame and giving your customers the choice that they want as it relates to where they will deploy. Now obviously, VMware several years ago entered into a relationship with Amazon, where they're sort of self managing infrastructure and reselling that bundle to customers to help sort of grease the skids, as it relates to moving workloads between public and private, public and on-prem. Do you envision a need to go that far? Or can you achieve a frictionless experience with just broader relationships with the hyperscale vendors?

Yes. Our approach is similar in the respect that both VMware and Nutanix want to give their customers the option of carrying that experience on-prem into the public cloud. The difference in how we're going to market is twofold. One is we're doing it, we believe, in a more cloud agnostic fashion in that our technology is more easily portable into those cloud environments. So we're going to start with AWS. And then on the road map, shortly is Azure as well. And then we'll continue to go from there. So we don't have joint go-to-markets today with any of the cloud vendors. So we are going to consume their open APIs and provide the same experience across clouds. And the other point is, all of our customers who have invested in Nutanix software licenses in their data center can bring those licenses to a public cloud and consume them there. So they can preserve and protect that investment or they can scale in their public cloud and then use their existing AWS cloud credits and accounts. That's not true with some of our competitors that they present it as a managed service, but the operations of it tend to be a little more siloed from the data center. We really want to keep that experience the same. So that the process by which you deploy Nutanix software and manage it is the exact same between your data center and the cloud. And so we're going to differentiate on that basis because we think that's what customers want.

Got it. And maybe back to you, Duston, as the company has evolved from, we'll say, a life of device appliance HCI business to a full suite of data center products from HCI to your 3Ds of data center, DevOps and desktop. It's -- it creates different licensing or selling sort of opportunities. So maybe you can walk us through some of the transitions you've gone through already as it relates to sort of life of device to subscription? And then how should we think going forward with SaaS services and consumption-based pricing?

Sure. Yes. Again, I think everybody is reasonably familiar with the history as far as shedding up the appliance/hardware and getting to all software. And now we've converted as of last quarter, about 84% of the billings to subscription base, which we call anything with a fixed-term there. And we've got consumption-based product offerings today to some things that Greg mentioned, some he didn't, but clearly Frame, desktop-as-a-service and Xi disaster recovery as a service. And actually, a portion of Nutanix clusters will have some of that optionality also, I believe. So -- and there's a couple of other smaller products in there with the same thing. So we've got that. We're partnering with HP with GreenLake, which is a consumption-based service also. So I think we've got those bases covered, both from a just plain subscription perspective, and that's 1 year, 3 year, 5 year, 7 years, whatever you might want there, along with -- and then a -- continuing to enhance consumption-based offerings also.

Got it. And as you make that as -- at least from my perspective, as those consumption-based services become a bigger part of the puzzle. ACV seems to be a much better metric with which to measure you on because of the varying terms and sizes that these deals can start with.

Yes. ACV is the only thing really. TCV is a nice optics. But ultimately, it's ACV growth. And that kind of comes into the discussion even more so, which we kind of talked about a little bit on the earnings call. As far as you'll see us once we give an annual guidance number here, which we're -- we'll see how the macro plays out this quarter. But most likely, at the end of Q4, we'll provide some annual guidance. That will be heavily governed towards ACV and our view on ACV growth and dollars. Because one of the -- as I view it's going to be a lot of work and we got to make sure we get it right, but the transition to ACV comp is going to cause some term depression reduction. And -- but that's the whole interesting topic in itself there because, again, today, we pay our sales reps on TCV and a rep, will do what a rep gets paid to do and today, a rep gets paid to maximize TCV. Pretty much, I won't say at all cost, but every TCV dollar is a better outcome for the rep. But what happens is it probably pushes us higher to 5-year deals and higher discounts. And I think once we swap to ACV comp, the rep and the company is in perfect alignment because now both of us want to maximize ACV. And that may force some 5-year deals down to 3 year deals. But what's going to happen there in that, and it's a little bit more than this, but let's assume it's 5% delta in discounting from a 5-year to a 3 year. If you do the math on that, a 5% is like a 30% top line increase between a 5-year deal and a 3-year deal that gets renewed for 2 just to keep the terms somewhere. So it's massively accretive for the business. It actually accelerates ACV growth because when terms decline. Now you think that's counterintuitive because ACV is ambivalent to term decline. But again because of the uplift, less discounting, we'll get a boost to ACV growth. So it's all the right thing to do for the company. I think it finally gets us truly in line with a true subscription company. It sets us up nicely for renewals, to have the renewals flow in and get the efficiency factor on the renewal base, too. So I think it's one of the more exciting things for the company going forward to really start getting the business model honed to take advantage of renewals and to start getting some go-to-market leverage.

Couldn't agree with you more fantastic to hear that. So a couple of questions to dig in...

And what I should -- I'm sorry, what I should have mentioned on that also is why we like lower terms also, is that a 5-year deal takes 5 years to get renewed at an efficient rate. A 3-year deal, obviously, only takes 3 years to get renewed. So you get to that efficiency factor wheel much quicker with lower terms.

And it would seem that there's a much greater opportunity to attach. Let's say, your average term is over 2 or 3 years as opposed to having a wait of 5 years to attach newer product.

Well, on that point, we will attach new product or tend to every day. So unlike other -- if things come to maybe just selling seats, and here's the estimated seat and we'll go truly up in 3 years. In our case, we're upselling all day long. We may do a 3-year, $3 million deal but the next week, we may do a $100,000 3 year deal. Somebody -- maybe it's new product, maybe it's VDI seats, maybe it's whatever. But the upsell and effectively the net dollar-based expansion is happening all the time. It's just now that we have a fixed outcome when these subscription renewals are into play, so it adds predictability and they'll come at a pretty low cost.

And can you remind me, Dustin, on those or what you envision going forward on those upsell opportunities? Is it the same salesperson that closed the new customer? Or will there be an upsell team or a combination of both?

Yes. I think what you're going to see is a -- most likely a combination of both. And the rep can't get divorced from that business, obviously. And any good rep won't want to get the divorced from that business. But then the day-to-day, a lot of back office, making sure things are happening on time, and we've got the discussions rolling and all that stuff will happen with an enhanced team on the side, but the rep and the SE needs to be engaged. And there'll be some small level of comp, just like, again, any other subscription company when that renewal happens, again, to make sure that a rep and an SE continue to be engaged. But again, any good rep and SE, they're going to be engaged anyway because their job now is just net dollar-based expansion effectively. And by the way, it's no different from today because we haven't had renewals and any support renewals we had on life of device, the reps were uncomped anyway. So historically, they've just sold our net dollar-based expansion going forward, they'll be focused and comped on that dollar-based expansion.

And if -- so on the original sale on the compensation side, sort of durations at 3.9 today and reps, as you said, were intended to sell TCV. If it goes more towards an ACV model, will they need to sell more customers to make the same amount of money? Or will you bridge the gap for a period of time as they're ramping up under the new model?

Well, we're going to do more than bridge the gap. We're going to keep them whole effectively. So again, at its very top level, if a rep was doing 4 year -- average of 4-year deals, and they had a quota of $4 million. All we're going to do is take that quota, divide it by 4. So they have $1 million of ACV quota and we'll time their rate times 4 to get it back to the same level of commission. So right out of the chute, they'll be kept whole now over time through quotas, productivity, we expect to be enhanced and things like that. But day 1, we need to keep the reps whole and it wouldn't be right to make this change and not do that.

But given that...

Sorry, the big change, again, is once the renewals flow in though on the -- the commission payment on that will be 1/10 or so whatever would need to work it out exactly, but very little of the initial commission will get paid on the renewal.

And will you be able to offset the cash impact elsewhere in so much as if you were collecting an average of roughly 4 years of cash upfront on the TCV deal? And it's on an ACV deal that goes down to 3 years, but you're paying them at the same rate, there is some additional cash outflow upfront as a result of that.

Well, we collect, again, just from a 5 year or 3 year, we collect 2 less years upfront of if 5 went to 2 or to 3 or whatever. It's such a compelling event for the company, and it's such a compelling way to control discounting. It's such a compelling way to get renewals quicker. It's such a compelling way to get reps in the company focused on ACV comp. If investors just want to worry about TCV growth for this company, it's probably not -- it's not going to be your favorite stock. If you want to worry about maximizing ACV growth, and you even get enhanced ACV growth because of reduced discounting. And if you want to look at a company that has almost 0 renewals today, but we know there's a massive amount of renewals coming at a very efficient factor. And if you want to take the time to model that out and look at FY '23 and the percent of the total business that comes from renewals because we've given you all the data, all is just all work to model it. It's a very interesting, I believe, unique opportunity that a lot of people don't understand, and the product gets better every day, the stickiness gets better every day. In the worst case, we go put a little cash on the balance sheet. Obviously, the debt markets are with open convertible things today. It's a massively high ROI. And anybody would take the opportunity -- of the opportunity that we have in front of here. So I'm probably more excited about this potential move within the business than I have been a long time with a lot of things we've done because, again, we've shown you all the messiness of subscription, but we haven't yet exposed the good part of that. So I know we're working hard internally to make sure that none of this gets messed up because there's some moving parts, but it's -- I think it finally gets us to where we need to be as a company going forward.

No question. Totally agree with you. I just wanted to go through the dynamics of it. And so you alluded to the point around potentially taking advantage of low -- historically low rates next to free money, especially in aspects of the market. Just maybe digging a little deeper on that. Any thoughts on timing or is that just opportunistic?

Well, it would be that, but do we want to purposely fund some term decline potentially with some pretty low dilutive money because, again, the ROI is really high on it. So that's always an option out there. Again, if it was a private company, nobody would think twice about it. It's just the right thing to do. And then we have the other convert out there, but that's not due until 2023. It's not like our stock is close to an all-time high here. I think we've got a long way to go on that. So I'm in no rush to do anything with that. We probably wouldn't let it go lower -- any longer than 12 to 18 months before maturity, but I'm in no rush with 0 coupon on that. So we've got that out there. We'll take care of that at the appropriate time, hopefully, at a much higher stock price. And we'll go look at some point, maybe, I don't know, around optionality, do we want to kind of let terms do what terms are going to do and get the business focused on ACV and maximize the ACV growth and getting leverage and all that stuff. So that's an exciting time. A lot to think through, but an exciting time.

Excellent. Excellent. Maybe switching back to Greg. We've ignored you long enough. HP GreenLake, can you give us sort of the product road map there? And then I don't know if you can adjust -- address it or maybe back to Dustin, but the economics, how you get paid from HP would be great.

Okay. Let me address, if I could, start the -- so the broader Nutanix HP partnership because I don't want to ignore what's paying dividends today. And that is where our software is pre-integrated on HP server hardware. So these are the DX appliances. These are what HP and Nutanix are jointly bringing to market. The sales teams are working together in joint accounts to help modernize data centers. So for us, it's a very important route to market. We do leverage a lot of partners to build the business. And HP has now joined that, and it's become a very popular sort of offering -- popular on the part of our customers. Because a lot of the large accounts, particularly, not only in the U.S., but abroad, they standardize on HPE ProLiant hardware. They have existing support arrangements. They know the sales teams. And so this gives Nutanix opportunities that we didn't have before. Now the other dimension, besides the appliance offering that both companies are bringing to market is, as you mentioned, and that's GreenLake. I won't say too much about GreenLake because it is an HPE-branded offering. And the difference is that it is a pay-as-you-grow or pay-as-you-go sort of consumption model. It's IT-as-a-service. So what it means is that Nutanix is in HPE GreenLake's catalog. So if a customer wants Nutanix-based infrastructure, but they want a consumption model that allows them to pay for it on an ongoing basis rather than hit CapEx, they can go to GreenLake. And so we just become an offering in that larger GreenLake go-to-market for HPE. It's sold by HPE. The customer pays HPE and then HPE pays Nutanix on the back end. And that back-end licensing [indiscernible] metered the same way that we sell our software licenses. So there's no change. So for us, HPE appliance go-to-market, plus the IT-as-a-service sold and -- branded and sold by HPE, and the companies come together on the back end on the transaction side.

Got it. Perfect. And maybe higher level, Greg, if we play it forward 3, 4, 5 years, what percent of revenue -- or what percent of product do you think is still the core versus the newer solutions that you've rolled out? Can you get to 50-50? Can it go 60-40 towards newer?

Yes. I'll let Duston, of course, the CFO, talk about the dollar implications, I think what we look for as a measure of customer adoption is how many of our new wins, how many of the new deals include products that are not only core, but outside of core, that are we selling the full stack? Are we attaching automation to HCI? Are we attaching storage to HCI or all of the above. And so that's what we look at as a measure of the health and the sort of the vibrancy of our product portfolio. And so for -- for our Q3, which we just reported, we're about 1/3 of our deals were included Nutanix software outside the core, and that's grown pretty much every quarter. And so I'm very bullish on that. I think that our sales teams, our channels are becoming ever more proficient to sell not just HCI, but sell the full stack, sell the whole portfolio. And we've reengineered our whole go-to-market and marketing to do exactly that. And so I'm hoping in the future quarters, you'll see that, that 1/3 or 34% continue to grow from a how often are we deploying and the customers installing not just HCI but other products.

Got it. Okay

It's time. Yes.

Go ahead, Duston.

Go ahead, Brad, I'm sorry. No, I was just going to say to answer your -- yes, so I just -- to answer your question there. Dheeraj, I think, has in the past answered that question over the next few several years, having new products, somewhere around maybe 25% of ACV. But it's a little deceiving because there's the -- obviously, the quantitative piece and the qualitative piece and what you can't measure, again, Greg alluded this a little bit, but what you can't measure on these new products is what -- how does it drag core with it? And what we're seeing in some regions now, specifically with Era. It's bringing us into deals and kind of being a center of a deal for a bigger deal that gets us into accounts that maybe people weren't interested in talking to us but now with some of these solutions, it's like come on in for a talk. And oh, by the way, it's a bigger thing than just the Era and things like that. So that's pretty exciting. And then the other qualitative piece there is what to do to product stickiness. And because, again, I think every one of these new products, as you fill the stack and complete the stack more and more, it offers more simplicity, more elegantness and things like that, that ultimately just creeps up the stickiness more and more.

Yes. One example to bring that to life that Duston mentions Era. So historically, a very popular workload to run on Nutanix HCI were databases, any variety of databases. But they just ran as a workload, like almost as they would on like a generic server. Era brings us the ability to automate the provision of databases, to copy data management and all the life cycle operations. So once customers not only run their databases on Nutanix like they long have, but start to use Era to manage those databases, right? They love it. And that's just one additional point where we add value, that it will make it -- customers will be more reluctant to move off of that Nutanix stack at any point in the future.

Absolutely. That's a great point. And then, Duston, maybe wrapping up, you guys did a phenomenal job in the quarter managing OpEx in a very difficult environment. You've talked about that continuing. Maybe give us high-level thoughts on where there are potential additional levers if you need to and/or where -- beyond the investment in, I'll call it, the ACD sales model, where else you may have ongoing investments?

Well, other levers, we clearly understand the levers, and we've said we'll do what we have to do. And hopefully, we won't have to do more extreme stuff. But this whole COVID issue that everybody has faced. It's been terrible generically. But when you look at what it forces companies to do, though, to -- when something like this happens to their internal operations. I mean, we've started to look at things totally different. And it's maybe like, wow, maybe we've had this messed up all along, maybe demand gen should be completely revamped or maybe we don't need to do all these meetings -- these big meetings that cost millions or tens of millions of dollars in person. Maybe there's a mix of that. So there's lots of stuff going on from a thinking perspective with expenses. And I will tell you, even from a sales point of view, we hadn't had a worldwide dedicated sales leader in up to 1.5 years or so. And Chris is now fully engaged in that role. So I think we'll see some really good results from efficiencies that he and his leaders are thinking about going forward. So we can't lose sight of -- it's a growing business and new products and this and that. And at this point, we've got a reasonable amount of sales capacity, but you can't cut that short and be myopic and not worry about FY '22 also. So we'll keep it at the $375 million, $400 million level for a while. And the good news there is if, for some reason, macro holds in there and we get a little pop in the upside, a lot of that's highly leveraged to slow down because outside of commissions, there's really nothing else blocking it from going to the bottom line.

Excellent. This has been super beneficial. I appreciate you taking the time. If you want, Duston, any final thoughts you want to leave the group with?

I'm sorry, I broke up there.

I'm sorry. Any final thoughts you want to leave the group with?

Yes. No. It's a pretty exciting period, I think, for the company. As I mentioned, with all the focus on ACV, the -- again, I would encourage everybody to go try to model these renewal flows and see just for kicks out in FY '23. Just try to take a stab at all the information we've given to you and look at what renewals could be in FY '23 and apply whatever growth rate you want and what percentage of the renewals is of that total growth rate, I think you'll be surprised. And we're working hard internally. Chris and his team, making sure that we take advantage of these renewals and A, they get renewed; and B, they get renewed at a very high-efficiency factor, and we keep the product ramping. We're excited about Nutanix's clusters. And it's an unpredictable period that we're in, in general. But Q3, I think the team did a really good job, and we'll see how Q4 pans out here. But I think, ultimately, when you look going forward in the next few years, I think we're positioned quite well. So we're excited.

Thanks so much, Duston and Greg. You guys have a great afternoon and very much appreciate the time.

Okay. Thanks. Appreciate it.

Thank you. Have a good day.