Seagate Technology Holdings plc (STX) Earnings Call Transcript & Summary

Good morning. I've been told it's still the morning. I had to step out, so I'm assuming it's still morning of day 2. We've had a lot of meetings and so just -- I can't believe, like I said, it's still the morning. So welcome to day 2. Asiya Merchant. I lead Citi's tech hardware and tech research here at Citi. I am delighted to have Seagate's CFO, Gianluca Romano here with me. I also have Shanye here in the audience, she's part of -- she heads Seagate's IR team. So this obviously is fireside interactive. I do have some prepared questions. I do leave time at the end for investors. So if you have burning questions, please make sure it's -- we're short on time here always, but do raise your hand, please. We will bring the mic to you so that folks on the web can also hear. I'll first turn it over to Gianluca for some prepared comments.

Thank you, Asiya, and thank you, everyone, for being here today. As always, I will be making forward-looking statements today, and you can learn more about the risks associated with those statements on our website.

All right. Great. Gianluca, I've been asking a lot of these companies. Obviously, you guys are seeing great growth here, investors hit back, there's always going to be skeptics worried about, is this cycle really different? Why is it different? So maybe you can opine on that. Why do you think the cycle is different for the HDD space and for Seagate in particular?

Well, I would say every cycle is different drivers. And I would say we are very happy on the situation today. It's not for sure the beginning of the cycle because it's already more than 3 years, but we are improving our revenue and our profitability. And we discussed at our last earnings release, based on the PO that we have in place, we see improvement also for the entire fiscal '27, fiscal year '27. So every quarter, we see improvement in both revenue and profitability. So is for sure a strong cycle. We see demand growing even faster than what we were thinking. So the gap between supply/demand is not decreasing, it's actually a little bit increasing. We are trying to grow our exabyte as fast as we can through technology transition and moving from our 30 terabyte drive HAMR to our 40 terabyte drive HAMR. We also discussed about the next drive that will be a 50 terabyte drive, that we will start to qualify about in a year from now. So 4 quarters from now, we will be already in call with a new drive. So this is where we really focus, is technology transition, drive more exabyte as a company, moving the mix up through the technology. Of course, we are not increasing our units, but we are increasing our exabyte and we are targeting that at least 25% CAGR in the next 2 or 3 years.

Yes. And like I said, there's always folks who are going to say, like, when do they think they can digest this capacity? As if the build is complete. But obviously, we're seeing CapEx numbers go up. Citi themselves raised their AI CapEx numbers as well. But just as you think about the build that's happening and the exabytes that are getting deployed for storage, in particular, HDD storage, do you foresee at least over the next, I don't know, 2 to 3 years, that there's going to be some digestion of this storage media that's been deployed?

Well, based on our LTAs, I would not say so. We see volume growing every year. We have LTAs in place for the next 2, 3 years, and we see those volumes going up. We have purchase orders in place for the next 4 or 5 quarters, and that are very specific, POs with the right mix, the right price, with the right time to deliver. But then we have also on longer-term LTA where we commit on a certain exabyte volume that our customers need to plan their data center growth. And we see those volumes actually increasing year-over-year. So we don't see today any change in the trend that we have seen in the last 2 or 3 years.

Okay. And then obviously, as the industry is transitioning from training, now we're seeing a lot more inferencing. Inferencing tends to be there's that much more data being generated. Just how do you think about that 25% exabyte CAGR sort of that you've laid out? And I know that supply versus demand. Demand is probably greater than that. But when you think about the incremental HDD capacity that your customers are deploying, like is there any way for the investors to think about, okay, this is going towards training, this was towards inferencing? Or this is just more traditional HDD demand that was getting replaced?

Well, there are a lot of drivers for demand. Of course, AI today is a huge part of that demand. There are a lot of traditional applications, will require a lot of data. And on top of that, you have AI, and more recently, you have video AI that is consuming even more exabyte. But are also other applications that you will see in the next 2 or 3 years. Now we are looking at robotic AI, how to use more robotic automation in manufacturing and also outside manufacturing for more normal life that require a lot of video cameras, a lot of monitoring, a lot of data storage. You will see also, I think, a strong improvement in autonomous driving. And all those cars, if you are in San Francisco or if you are in Phoenix, now you see a lot of cars going around, all those cars have a lot of cameras and they collect data all day long, all night long, and all the data gets stored to improve their performance and also for compliance. So when those new applications will start to evolve in different places and in different parts of the world, that is a lot, a lot of data storage that will be required. So we see a lot of reasons why data storage will continue to grow. And so when we put all the data together, the new applications, what our customers are telling us, and the other component side, the data center, when you put all together, we don't see today a reason why this trend should not continue.

Okay. And then KV caching, Dave Mosley on the call talked about KV caching. And then typically, when your KV caching, you think for a very high-performance storage, which tends to be more flash. How does KV caching, sorry, affect HDD demand? Like how are you thinking about demand coming through for you guys?

I would say there is, for sure, already a lot of demand for our normal storage. So actually, demand is already above supply. So it's not that we are really looking for more demand. But I would say if you look at data center, you have storage and you have where you run the application. And so you move the data from storage, that is our disk, into an end when you run the application. Now in reality, there is another tier that is, let's say, in the middle, that is the warm storage that you call KV cache. Inside KV cache, you have also different tiers. I'll say for sure, there are some tiers inside KV cache that can use our disk drive. So I would say that is the only part where you can see a little bit of overlap between NAND and our disk. Otherwise, the normal storage is our disk, the running of the application is on them. But there is something in the middle that could go, let's say, in both directions. And I think that our disk can, for sure, be part of that [ warm ] storage. In the future. I'd say today, again, demand is well above supply. So it's not that we have a lot of opportunities, but it could be.

Okay. And if that were to materialize and -- or as you see that opportunity materialize, in order to participate in that space, do you guys need to do some development here? Is there some partnership with flash? Or is it really just the technology innovation within HDDs?

Yes. I don't think we need to partner with flash. I will say, depending from the tier inside the KV cache, probably some requirements for performance of the hard disk. So we will have to meet those requirements. Now I think we have for sure the technology to do it, and then we need to see what is the capacity per drive that will be required. But we have a lot of opportunities I think to develop the right performance or whatever storage level is required.

Right. Okay. And then one of the things, we had some of our enterprise OEMs just report earnings just before Labor Day, NetApp, Dell. Very, very strong growth there as well. And I know you've talked a little bit it's a smaller part of your portfolio. But just what are you seeing there? And as you talk to your customers, your enterprise OEM customers, what are they seeing on storage from the enterprise side? And how much do you think is durability here?

It's very interesting. I will say in the fourth part of the last 3 years. The majority of the increase in demand was coming from public cloud. And that has continued. But at a certain point, we started to see our enterprise OEMs, so more on-prem data center demand to start to grow again. They buy a little bit different kind of drives. If you look at the capacity of the drives, every segment has a different capacity. The capacity actually goes up every year. But they don't all buy the highest capacity drive. Public cloud buy the highest capacity drive. On-prem data center, they buy a little bit lower capacity. So today, if we sell a 40 terabyte drive to a public cloud, we probably sell 28, 40 terabyte drive to on-prem data center. Probably in 2 years from now, on-prem data center will consume a 40 terabyte drive. But they don't have the same structure. They need to evolve their architecture to use a bigger drive. Now public clouds, they already have a very sophisticated architectures so they can get all the capacity and the highest capacity drive. When you start to go in different segments, you see a different kind of capacity. So this is why we produce actually between 2 terabyte to 40 terabyte, because every segment has a different demand. That is very good. They are growing, and I think they will be very important to this business. Also depends where this new application will become important in terms of storage. Some of the applications could be more on-prem. So maybe a certain point, on-prem will grow faster than today. I'm sure public cloud will continue to grow very rapidly. But there are some applications where maybe companies prefer to keep on-prem or hybrid. Some they go on-prem, some they go in public cloud. So we serve all our customers in the same way, and it's a very good business already today.

Okay. All right. And then demand, obviously, consistently outpacing supply here. It's obviously reflected in your own pricing. It's gone from declines to stable to much better even in the June quarter, and I think you just talked about further pricing improvements. So just help -- investors always push back. Well, a lot of their capacity is already allocated, and build-to-order, those agreements like you talked about. Where is this incremental pricing? Like I'm always surprised, well, okay, pricing was much better. Like where is that coming from? Is it this enterprise that we just talked about?

No, I would say it's in every segment. As we were discussing before, demand is above supply and is actually growing a little bit faster than what we were expecting. So the gap is -- eventually, it could be bigger. And when demand is above supply, you have opportunity to increase your price. And as you know, we do this in a way that is not super aggressive. I think it's very reasonable. We don't want to create a problem to our customers, and we want to keep this sequential improvement going for a long period of time. We have already done this for 3 years. And based on our orders that we have in place, we said that, earnings release, every quarter of this fiscal year will actually see an improvement in both revenue and profitability. And based on the LTA, I can say, I think this will go on even after. So we want to keep this for a very, very long time. And to do that, you need to do it in a way that is sustainable. So we are doing that. But of course, we are increasing price as we have done in the past.

Okay. And when you talk about units, right, I mean I know you're trying to maintain your units, do the aerial density to get your exabyte going. As you think about unit growth, like are you seeing any change, whether it's from your peers out there who are all stressing units being kind of flattish. But any changes your thinking about the fact that, okay, there is a lot of upside here in terms of meeting demand because, clearly, supply is undershooting demand?

Well, we think the best way to address the growth is through technology. So growing the content of the drive, not the units, not the number of the units that we sell. We have a very strong technology. And with this technology, with HAMR, we can grow without the need to increase the units that would change it a bit the dynamic between supply and demand. Of course, we want to keep a good balance between supply and demand, and so we like the situation today. It helps us to continue to improve every quarter. Technology is where we focus. We have developed HAMR for many years. Now we are starting to sell HAMR product almost 2 years ago. And we are already on second generation HAMR. We discussed our earnings release, we will start third-generation HAMR, call, in just a few quarters from now. So we are progressing very well. When you go from 30 terabytes to 40 terabytes, you increase 33% your capacity. So it's a very good increase in exabyte even if the unit remains the same. Then going from 40 to 50 is another 25%. So this is where we focus. Of course, on the PMR part of the business, so the lower capacity drive, to increase capacity per unit, you need to increase the bill of materials. So you need to have 1 more disk and 2 more heads. Now if you want to go from an 18-terabyte drive to a 20-terabyte drive, you need to add 1 disk and 2 heads. And as I said before, we sell from [ 30 ] terabytes to 40. HAMR is only on the top of the capacity, so 40 terabytes and up. But between 2 terabyte and 28 is basically PMR. So on that part, to increase the capacity, you need to a little bit more heads and more media, because you need to increase the component inside the box. With HAMR, you really focus on -- just on the technology. So we have 2 dynamics going on. Maybe in future, when we go high enough in capacity, even HAMR can have 11 disks or 12 disks, but it's still space inside the box that we could use at a certain point. Today is less important because when you go from 30 terabyte to 40 terabytes, you have a 33% increase. If you go from 10 disks to 11 disks, you only gained 10%. So today is not so interesting for us. Maybe in the future will be interesting to add another disk and maybe 2 disks.

Yes. Okay. And then you talk about HDDs, I think there's still a very small percentage of data centers, but a critical component. You look at alternatives that are out there to storage, and obviously, the pricing there is significantly higher on a per terabyte basis. When you think about the infrastructure spending that is continuing, storage being a very critical component, I think the question we always get is how much more pricing flexibility is there for HDDs? I mean just given the alternative and it's just significantly much higher priced.

You're talking about the neocloud space or generally?

No. AI. Just infrastructure spending on the cloud -- like when you think about how much more pricing flexibility is there as you continue to -- as spending continues?

Well, I think there is no reason why we should not get a similar result in the future than what we got in the past, because demand is actually higher than -- the gap between demand and supply is actually a bit higher. And again, we are not a big part of our customer CapEx, so it's not that we are impacting so much their spending overall even with our increase. And again, we don't want to be super aggressive, we want to be reasonable. But we want to keep this very, very long. And every quarter is different for many reasons. Now some quarters, you have more volume because you have prepared your manufacturing for a new product, so we have a lot of new products coming out. Other quarters, you have a lot of new contracts that are renegotiated, so you have good pricing, sequential improvement. Depends also what you did a year before because that can impact your comparables. So every quarter is different, there are a lot of variables. But the result is the same. Revenue will go up and profitability will go up.

And as we think about these transitions, I mean, you talked a little bit about density goes up as you go from 30 to 40 and then eventually the 50-terabyte there as well. Just on the cost per bit reductions, like now that you're in your second-generation HAMR, obviously, yields could be better, how should we think about that cost per terabyte decline that you are on?

It's very good. I would say we produce internally where the technology is, so on the heads and on the media. Of course, the cost to produce a head or a media, the unit cost actually is not changing. If it is a 3-terabyte or a 4-terabyte or a 5-terabyte. So we have a very good cost per terabyte decline on what we produce. What we buy externally, it depends. There are some years where the component cost is going down, so that add to the cost decline. But there are some years where there is a mixed bag, some components are increasing, some components are declining. Some years, if you think about the COVID period of time, all the components were actually going up and there was a bit of inflation. So that part every year is different and it's less under our control. But on what we control, of course, we have a very good cost decline.

And then when we're thinking about this qualifications for the 50-terabyte, you said about a year from now, are they just -- are your customers just getting maybe faster at qualifying this? They've played around with HAMR, now second generation. Or is it the same length of qualification cycles?