Dot Hill Systems Management Discusses Q3 2013 Results - Earnings Call Transcript

| About: Dot Hill (HILL)

Dot Hill Systems (NASDAQ:HILL)

Q3 2013 Earnings Call

November 08, 2013 11:00 am ET

Executives

Jodi Bochert

Dana W. Kammersgard - Chief Executive Officer, President and Director

Hanif I. Jamal - Chief Financial Officer, Principal Accounting Officer, Senior Vice President, Corporate Secretary and Treasurer

Analysts

Eric Martinuzzi - Lake Street Capital Markets, LLC, Research Division

Glenn Hanus - Needham & Company, LLC, Research Division

Alexander Rubert - Sidoti & Company, LLC

Aaron C. Rakers - Stifel, Nicolaus & Co., Inc., Research Division

Steven Busch

Operator

Good day, ladies and gentlemen, and welcome to the Dot Hill Third Quarter 2013 Earnings Call. [Operator Instructions] As a reminder, this call will be recorded. I would now like to introduce your host for today's conference, Ms. Jodi Bochert, Investor Relations at Dot Hill. You may begin.

Jodi Bochert

Thank you. Good morning. Thank you for joining us today for the Dot Hill conference call and webcast for our third quarter 2013 results. We will be referring to slides that can be found in the Investor Relations section of our website. These slides are best viewed in animation mode. If you have that option, please download the PPS version and I encourage you to access them now.

I would like to remind everyone that certain statements made during this call regarding matters that are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act. Because such statements are subject to risks and uncertainties, actual results may differ materially from those expressed or implied by the statements. To learn more about such risks and uncertainties, you should read the risk factors set forth in Dot Hill's most recent annual and quarterly filings with the Securities and Exchange Commission. All forward-looking statements made during this call speak only as of the time they are made. Dot Hill undertakes no obligation to update such statements to reflect events that occur or circumstances that exist after they are made.

Today's call will provide you with the financial results for certain income statement metrics determined on a non-GAAP basis for the quarters ended September 30, 2013; June 30, 2013; and September 30, 2012. In addition to these non-GAAP financial results, there are reconciliations from the company's comparable GAAP financial measures to the reported non-GAAP amounts. This information is also contained in today's financial results press release and Form 8-K, which are posted on the Dot Hill website at www.dothill.com, in the Investor Relations section, and filed with the Securities and Exchange Commission.

Joining us today are President and CEO, Dana Kammersgard; and CFO, Hanif Jamal. I will now turn the call over to Dana.

Dana W. Kammersgard

Thanks, Jodi. Good morning, everyone, and thank you for joining us for our third quarter 2013 earnings call. From a macro point of view, the environment remains challenging on many fronts. And if the earnings results of any number of tech and storage companies reporting before us are any indicator, there has been no resurgence in IT spending so far in the second half of 2013. To put it bluntly, it remains tough out there. As a result, we will continue to try to be appropriately cautious as we provide forward guidance.

With that as the backdrop, I have to say I'm very pleased with our own third quarter results. At $52.9 million in non-GAAP revenue, we were above the midpoint of our guidance and drove growth of 3% quarter-over-quarter and nearly 10% year-over-year. And equally importantly, with solid gross margins of 32.8% and continued spending discipline, we delivered non-GAAP earnings at the top of our guidance at $0.05 per fully diluted share.

Much of this quarter's growth, reflects a resurgence in our revenue from our largest customer, Hewlett-Packard. With the June launch of the 16-gigabit fiber channel version of the HP MSA 2040, and the subsequent release of the rest of the family, we have given HP a first-to-market advantage in 16-gig Fibre, 12-gig SAS and a unique hybrid product with dual Fibre Channel and dual iSCSI front-end support. We began shipping these products in the third quarter, and I suspect this momentum will continue into the fourth quarter as well.

But the most compelling story for Dot Hill remains the growing success of our vertical markets, as evidenced by the continuing improvement in our year-over-year financial results. Growth from our vertical markets was an impressive 63% over the same period last year. This contribution of higher-margin revenue is largely what drove improvements in the year-over-year non-GAAP gross margin, 640 basis points, and non-GAAP net income by $4.5 million. Hanif will recap all the details of our financials in just a moment. Let me first review some of our significant achievements during the third quarter despite the difficult macro environment.

As you may recall, we began strategically focusing on select vertical markets in 2010, once we had reestablished and stabilized our Server OEM revenue foundation. We identified these vertical spaces from the following criteria: high-growth markets with the potential to be resilient to economic and secular headwinds, markets that were underserved by the large server and storage companies and markets where product differentiation could narrow the field of competition with resulting margin expansions. As you may remember, our selected verticals included media and entertainment, telecom wireless and Internet infrastructure; oil and gas; big data analytics and digital image.

We then proceeded to invest in tuning and optimizing the performance of our products for the randomized sequential I/O streams that we discovered were a common thread in the unstructured data environments and workflows of these markets. You can see in summary the progress we have made in these verticals on Slide 4 of the presentation Jodi referenced at the beginning of this call. Since then, we have achieved notable success first in media and entertainment, with announced OEM customers including Autodesk, Technicolor, Quantum, Concurrent, and Harris Broadcast, and with others not yet announced or still in the pipeline.

We also won programs in the telecom, wireless and Internet infrastructure space with partner such as Motorola, Nokia Solutions and Networks, Tektronix, Samsung, JDSU and others.

During the third quarter, we announced our first big OEM relationship in oil and gas with CGG, a leading subsurface image capture and analytics company.

And 3 weeks ago, we announced our first big data win with an OEM partnership with Teradata. In fact, at its PARTNERS Conference in Dallas, the Teradata team unveiled the 1700 Extreme Data plans, which includes our AssuredSAN 4000 storage. While not yet contributing meaningfully to our revenues, we expect strong growth from these new partners over time.

As with any of our wins, once we moved into Phase 4 or the customer launch aspect of the sales cycle, it is difficult to predict the ramp of revenues, including those from these new customers. But the important message here is that we have now announced flagship partners in both oil and gas and big data sectors, and we do expect meaningful contributions from these customers in 2014.

But we are still in the early stages. In the near term, I do not expect smooth or linear growth quarter-over-quarter in either revenues or earnings. There will likely be some lumpiness in the top and bottom lines depending on the ramps of our new customers, the performance of our existing customers and incremental investments we choose to make. We have talked at length about establishing Dot Hill's specific growth catalysts, and I believe we have now provided you with financial proof of these catalysts in the face of a difficult macro. With that in mind, let's take a quick look now at our pipeline charts in the presentation that Jodi referred to in her opening remarks.

Slide 5 is just a quick reminder of the generic pipeline against which we are tracking our new design wins. Slide 6 is the state of the new OEM pipeline when last we updated it on August 8. Slide 7 is the current state of that same pipeline. You can see significant movement across the board. In particular, you may notice the big data bubble has now been identified as Teradata and has launched and begun to ramp as has CGG and others.

As I previously explained, how quickly these customers ramp is up to them now, not us. The time to ramp to a steady state could be short as a quarter or 2 or as long as a year or more. And you may notice, we have added a few new bubbles to the Phase 1 side of the pipeline chart. The larger telco big data bubble in Phase 1 has stalled at the moment, which is not all uncommon in the early stages of the sales cycle.

Similarly, Slides 8 and 9 show the progress of new programs with existing customers since August 8. We have had a lot of promising movement there too, including the fast progression of a sizeable new telco program from Phase 1 into Phase 3 customization. Additionally, we have now launched incremental new MSA 2040 products with HP, as I mentioned earlier. Finally, we have added a couple of opportunities that are tied to our new AssuredSAN 4004 product release, which we announced earlier this week.

In summary, our success continues to boil down to solid execution. I believe we executed very well in the third quarter and year to date. Our financial results have validated our strategic initiatives. Market conditions and secular headwinds do play a part, but we believe our company's specific growth catalysts set the stage for growth. We remain intently focused on execution. As a result, we continue to believe we are in a path to achieve good revenue growth in 2014 regardless of the macro environment. With that, let me hand it over to Hanif. Hanif?

Hanif I. Jamal

Thanks, Dana. And thank you, all, for joining us this morning. I will now discuss the details of the third quarter's non-GAAP financial results. You can find the reconciliation to GAAP results in our earnings press release.

As you can see from Slide 10 in the presentation, revenue for the third quarter of 2013 was $52.9 million, compared to $51.2 million for the prior quarter, at $48.2 million in Q3 '12. This represents 3% sequential growth and nearly 10% year-over-year growth.

In the third quarter, vertical markets revenue was $16.7 million. While we were down 19% sequentially, due to a spike from a telecom infrastructure provider, who contributed just over 20% of our total revenues for Q2 '13, vertical markets revenue was up 63% year-over-year. Our Server OEM business also demonstrated some positive trends, with revenue of $34.6 million, up 19% sequentially, while narrowing the year-over-year decline to 5%.

Within our Server OEM group, revenue from our non-HP customers grew 12% sequentially at almost 9% year-over-year. As Dana mentioned, revenue from our largest customer grew 20% sequentially and declined about 7% year-over-year. In the third quarter, our largest customer contributed, 58% of total revenues, compared to just under 50% in the second quarter of 2013 and 68% in Q3 '12. As noted last quarter, we believe the sequential swing reflects delayed purchasing patterns in Q2, while customers awaited the new product launch.

The third quarter gross margin was 32.8%. The expected 190-basis-point decline compared to Q2 '13 primarily reflects an increase in revenue from our largest customer. Nonetheless, our year-over-year gross margin improvement continued and was up 640 basis points from Q3 '12.

We have stated on multiple occasions that the gross margin characteristics of our different revenue streams and new business opportunities vary depending on the size of the customer, whether our products are part of an embedded vertical solution or part of a service sale and whether they are sold with or without disk. As a result, changes in customer mix directly impact gross margins, and in the third quarter, our revenue mix normalized somewhat. Operating expenses for Q3 '13 were $14.5 million, up slightly compared to $14.2 million in both Q2 '13 and Q3 '12. We expected this increase as we invested a bit more in both new and customized products for recent and new customer opportunities.

Third quarter net income was $2.8 million or $0.05 per fully diluted share and at the top end of our revised guidance. These results compared to a net income of $3.5 million or $0.06 per fully diluted share in Q2 '13, and a net loss of $1.7 million or $0.03 in Q3 '12.

We ended the quarter -- the third quarter of 2013 with cash and cash equivalents of $40.4 million, with no drawdown from our working capital line, compared to $38.3 million at June 30 net of credit facility borrowings of $2.1 million.

Now I'll summarize our fourth quarter guidance, as shown on Slide 11 of the presentation. Non-GAAP net revenues for the fourth quarter of 2013 are expected to be in the range of $53 million to $58 million, and at the midpoint represents growth of just under 5% sequentially and year-over-year growth of 20%. Non-GAAP EPS is projected to be between $0.03 and $0.06 per fully diluted share, and at the midpoint is a slight decline of $0.005 sequentially but a $0.075 year-over-year improvement. Thus, based on this guidance, we are now expecting 2013 non-GAAP revenue to be between $202 million and $207 million as opposed to our August projections of $200 million to $215 million, and EPS to be between $0.14 and $0.17 versus our August guidance of $0.10 to $0.16. We still anticipate gross margins for 2013 to be between 32% and 33%, but our targeting operating expenses to now be between $57.5 million and $58 million, down from $58 million to $60 million in August.

Overall, we have a solid third quarter, despite ongoing macro environment headwinds and IT market challenges, with revenue and EPS in the upper half of our guidance ranges. Our largest customer bounced back with 20% sequential growth and our vertical markets grew 63% on a year-over-year basis. We also continued to make good progress moving customer opportunities and design wins through our sales pipeline, which will lay the foundation for a more diversified and faster-growing company in 2014.

Before I turn the call back to Catherine, I want to encourage you to attend or listen to the webcast from our upcoming presentations at the following conferences: the LD MICRO Microcap Growth Conference in Los Angeles in December; Needham's 16th Annual Conference Growth Conference and Sidoti's Semiannual Micro-Cap Conference, both in New York in January; Stifel's Technology, Internet and Media Conference in San Francisco in February; and Piper Jaffray's Technology, Media and Telecommunications Conference in New York in March.

Catherine will now open up the lines for Q&A. After which, Dana will make some concluding remarks. Thank you. Catherine?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Eric Martinuzzi from Lake Street.

Eric Martinuzzi - Lake Street Capital Markets, LLC, Research Division

Curious to know, typically, you guys address not only 2013 but you also will talk about 2014. You have a target operating model out there for 2014. I assume that was on purpose. But the numbers that you had out there, are you, in effect, stepping away from them or are you still comfortable with them?

Dana W. Kammersgard

Yes, so Eric, let us describe our process with respect to planning, and I'm going to let Hanif add some color. When we do our planning on an annual basis, we generally take a 3-year outlook and really focusing on the forthcoming year. That planning process starts in or around September and ends certainly, ideally before the end of the year, and certainly not more than early in the next year. So we are deep in the middle of our 2014 planning at this point in time, not only to provide a plan of record to our board, but also to provide formal guidance to you all out there, investors and analysts. So last year, we provided you with an outlook on '14. This year, we will provide you with a guidance on '14. And at this point in time, as we finalize our numbers, collect our revenues and forecasts, determine the investments that we need to make for new or prospective customers, we're not yet ready to provide 2014 guidance. We're not stepping away from what we said. We're not reinforcing what we said. We will certainly provide you with clear guidance before too long. Hanif, do you want to add anything else?

Hanif I. Jamal

Yes, I don't think I have anything else to add to that. Yes, I mean, typically, we provide guidance for the year sometime during the first quarter. Last year we did it at our Analyst Day. We really don't have the dates that's defined as to when we will do that. But I think I don't think -- I think Dana is absolutely correct with everything else he just stated.

Eric Martinuzzi - Lake Street Capital Markets, LLC, Research Division

Okay. And then, on the 2013, it's good to see that EPS midpoint creep up. On the other hand, the top line is -- the midpoint there is down little bit. Is that more of a macro commentary? Or is that the ramp-up of your largest partner not being maybe what you'd originally thought it would be?

Dana W. Kammersgard

Yes, as I indicated upfront in the prepared, Eric, there is an awful lot of macro headwind out there. There aren't very many storage companies that made their number in Q3. So we are trying to be cautious. We think appropriately cautious with respect to our guidance. At the same time, we have some brand-new customers that are just beginning to ramp, that just announced their products, and it's hard to call the slope of that ramp. So it's a bit macro, it's a bit ramp, but it still reflects strong year-over-year growth, as Hanif indicated in his prepareds.

Eric Martinuzzi - Lake Street Capital Markets, LLC, Research Division

I totally agree with that, and it's good to see that HP revenue up sequentially.

Operator

Your next question comes from Glenn Hanus from Needham.

Glenn Hanus - Needham & Company, LLC, Research Division

So maybe you could kind of go through -- you got HP, then we have the other server revenue and then the vertical markets being kind of the major buckets we track here. Why don't you just kind of tell us how you think you did in each area versus what your internal expectations were?

Hanif I. Jamal

So Glenn, I don't think we've ever disclosed internal expectations.

Glenn Hanus - Needham & Company, LLC, Research Division

Well, I'm not asking for a number, just sort of qualitatively, where you think you did a little better, your things were a little bit lower. I'm just trying to get some thought.

Hanif I. Jamal

Right across the board, I think we did as we expected, absolutely. HP was up 20%, but if you look back at the last time we did a product refresh, that was in 2010. Our revenue -- and they refreshed in Q1 of '10, and our revenue between Q1 of '10 and Q2 of '10 was also up, 20% up. So HP was absolutely as projected. I think the vertical markets, yes, we were down slightly or 9% sequentially, but we expected that. We expected that because we had a large deal from Tektronix come through last quarter, and I think we actually identified that. And again, the growth rate was as expected. So I would say that right across the board, everything was as planned.

Dana W. Kammersgard

Yes, coming in at the midpoint or a little bit above the midpoint would suggest certainly that the dials and levers were fairly well dialed in. I think at the same time, we've now set the stage for we think accelerated growth on the basis of companies like CGG and Teradata. Teradata is #1 data warehousing company in the world, very successful. We're very excited to be partnering with them. And certainly -- they certainly set a very high bar with respect to reliability and quality. And we're now launched, and we're excited to begin to reap the rewards of that effort.

Glenn Hanus - Needham & Company, LLC, Research Division

Do you have any thoughts about -- you got on this strategy or refocus the company a little bit on when NetApp made that acquisition of Engenio there and you saw the opportunity. There were lots of different OEMs that were Engenio revenue OEMs. Do you have any sort of updated thoughts on how the opportunities that those various Engenio OEMs is starting to really play out for you?

Dana W. Kammersgard

Yes, I think it's working pretty much at a macro level. It's working pretty much as I had predicted, with the caveat that everything seems to take longer than you think. And there are still others out there. We had a small prospect give us a call because one of the announcements that we recently made on a new OEM partnership, and said, hey, we sell product to that company, too. They said they're moving away from Engenio, so we thought we would give you a call because we use Engenio as well. So there is still other opportunities out there not identified in our pipelines chart. I think that there's some large ones, there are some small ones, and we're working aggressively on all fronts in that regard. And the macro competitive landscape really has not changed materially against us. In other words, we think there's a very favorable competitive dynamic out there right now because of the number of the companies have disappeared and/or been acquired. Nothing has changed to indicate that there's anything other than a favorable competitive dynamic out there today for us still.

Glenn Hanus - Needham & Company, LLC, Research Division

With what you do, were there some -- I mean, I know you don't really sell direct to federal, but did you see any impact from sort of a second derivative impact from federal on the quarter? And is that impacting your outlook for 4Q and beyond?

Dana W. Kammersgard

Yes, I'd like to say that we're immune to the government sector, but nobody is immune to the government sector. And, yes, that does factor into our forward guidance. There was probably a small to de minimis impact on Q3 for us. But there are some awful lot of tentacles that reach out from the government, and everybody gets affected ultimately in one way or another.

Glenn Hanus - Needham & Company, LLC, Research Division

Are there any of your particular vertical markets that you're focused on that's on a sort of second derivative basis, seems to be more impacted on the federal side?

Dana W. Kammersgard

No. Not with respect to the verticals, but within the context of some of our Server OEMs, we could see an impact. And this is why we -- this is -- I'm certainly not suggesting in any way, shape or form that we forecast the government shutdown our sequestration, but we picked the verticals that we picked because we believe they are somewhat resilient to macro economic pressures. Just some stupid examples for you. If the government shut downs, it doesn't mean you're going to stop taking your kids to see 3D movies, and 3D movies take 25x more storage to create than a 2D movie. And you're going to spring for the extra $1 or $2 to see the 3D version because that's what the kids want. And every time you use your smartphone to share a picture of your grandson -- I'm not saying you have grandsons, and I know you're not that old -- that creates a storage. Every application you download onto your iPhone creates more demand for storage in the infrastructure. So there is method to the madness behind which we selected these verticals.

Glenn Hanus - Needham & Company, LLC, Research Division

So not to put you too much on the spot with the next year guidance, I guess I had tenfold down here, $0.11 to $0.40 on 2 31 to 3 01[ph]. Can you give any sense that at least the low end of that range is still in the comfort zone?

Dana W. Kammersgard

We're -- like what I said, we're deep in the middle of our 2014 plan of record planning. We have multiple meetings ahead of us. We're not backing off of any numbers. We're not reinforcing any numbers at this point. We will give it out to you all as soon as we have finalized it and gotten blessing from the board.

Operator

Our next question comes from Alex Rubert from Sidoti.

Alexander Rubert - Sidoti & Company, LLC

And also you had a great business from HP this quarter with the product refresh. Do you expect that you'll be able to sustain those earnings? Or do you think that it will regress to the mean?

Dana W. Kammersgard

Are you talking about HP specifically or the business in general when you say earnings?

Alexander Rubert - Sidoti & Company, LLC

I meant specifically from HP.

Dana W. Kammersgard

Yes, what I said in the prepared was we expect some momentum to continue. With respect to the new product introductions, we have given them a first-to-market advantage against their peer group on many different levels, first-to-market with 16-gig, first-to-market with 12-gig, first-to-market with a hybrid product that blends 16-gig Fibre and 10-gig iSCSI. Their competition has not announced those products yet. So in our business, it's exceptionally important to be first to market or at least early to market. And to the extent that we have given HP a first-to-market advantage on so many levels with so many protocols, we do expect continued momentum with respect to their success, and hopefully, subject to their execution and other factors, hopefully market share gains for them.

Alexander Rubert - Sidoti & Company, LLC

Great. I mean, so I'm looking more for like a time horizon. I mean, I know you'll have an advantage at least for the next quarter, but do see this going over the long term?

Dana W. Kammersgard

Well, the long-term is kind of a difficult call. If you think about our business, and I'm talking about the storage industry in general, not us specifically, we talk in terms of product lifecycles and generations. And a product lifecycle is normally, let say, 2.5 years to 3 years, 30 months to 36 months. So if we can give a customer a 6-month head start in this life cycle, then you've given them anywhere from a 15% to 20% advantage over the lifecycle of a new product. So do we think we -- that we have enabled HP to have a 6-month advantage? Absolutely. I think that's the case. Certainly, the tea leaves that I read with respect to what's going on out there amongst their competitors would suggest that perhaps they have that big a headstart.

Alexander Rubert - Sidoti & Company, LLC

Great. Okay. I also -- I mean, you had a great vertical markets quarter 2, but margins remained pretty similar. Is that mostly just due to the mix with HP or...

Hanif I. Jamal

Let me just take that. The vertical markets, our businesses are actually down slightly on a quarter-over-quarter basis. It was $20.6 million in Q2, so it's down a little. On the other hand, the server business was up from $21 million to $34.6 million -- $29 million to $34.6 million. So yes, that mix is what drove -- primarily drove the decline gross margin from $34.8 million to -- sorry from $34.7 million to $32.8 million.

Alexander Rubert - Sidoti & Company, LLC

Great, okay. Yes, I was looking at year-over-year, sorry. Yes, I guess this was touched on before, but where do you see things going with the oil and gas and the big data developments that you've come across recently?

Dana W. Kammersgard

So we're excited about both of them. Obviously, we're not telegraphing specific revenues or ramps for them. Frankly, it's up to them at this point. But both are flagship, marquee companies in their space. They are way up there at the top of their specific specializations. And we're very excited to be working with both of them. We expect they will drive some growth for us in 2014.

Operator

Our next question comes from Aaron Rakers with Stifel.

Aaron C. Rakers - Stifel, Nicolaus & Co., Inc., Research Division

I know you answered this kind of in prior comments, but I want to go back to it. When you look at the opportunity in the big data, obviously with Teradata win in late October announced, can you help us understand how encompassing that win is across your product portfolio and whether or not that is a net new product solution coming from them or whether or not that was an incumbent displacement within Teradata?

Dana W. Kammersgard

So good questions, all of them. If you were to referred to the pipeline chart Slide 7, or even in prior quarters, you would see that we have qualitatively pegged that particular bubble now known to be Teradata at $20 million to $70 million, let's say. And these are qualitative -- I'm not trying to forecast the number here any more than we already have -- but $20 million to $70 million in '14. So obviously, it's a big win for us. And a customer of that size, whether Teradata or somebody else, would be foolish to have a sole source provider of any component. Historically, Teradata has had a sole source relationship with Engenio, both pre and post-NetApp acquisition. We think that their spend in general in storage, and this is just trying to use their product -- their gross margins and their cost of goods and their product revenue and doing some back end of the envelope math is pretty significant. And at $20 million to $70 million, we wouldn't even represent half of what we would speculate their spend to be in 2014. So with the thought and the notion that a company of any size would prudently have dual sources, what I will tell you is that it's rare in a context where you don't have form, fit, function, identical compatibility across the board. It's rare that it becomes a 50-50 split. With the disk drive, where everything is common -- interface, dimensions, et cetera, et cetera -- you can do that between a Seagate and a WD. In the context we have a storage array, where there are dramatic differences between them, it's harder to do. So I think all the melée who gets the benefit of the lion's share becomes the company that executes better, the company that responds better, the company that comes to market with the products that address their needs better, et cetera, et cetera. And that's not a Teradata-specific comment; that's a general comment. With respect to the latter part of your question, they announced specifically a new product, the 1700 Extreme Data Appliance at their PARTNERS Conference come 3 weeks ago, and that's our entrée into their product line.

Aaron C. Rakers - Stifel, Nicolaus & Co., Inc., Research Division

But clearly, that is the $20 million to $70 million, or let's say the midpoint of that, is that just inclusive of that new product launch or is that assuming that you expand from there, there's more than just that as we look at that opportunity as it progresses through 2014?

Dana W. Kammersgard

Yes, that's an excellent question, and one that I'm not going to answer at this point.

Alexander Rubert - Sidoti & Company, LLC

The other question I'd like to ask and maybe understand is, outside of that opportunity and looking at what's going on in the storage market, have you engaged or is there anything on your pipeline of engagements with some of the either be it all flash array guys or be it some of the hybrid guys as we look at those guys continue to gain some momentum?

Dana W. Kammersgard

When you say engaged, can you be more specific?

Alexander Rubert - Sidoti & Company, LLC

Or they own your pipeline?

Dana W. Kammersgard

No, there's nobody in our pipeline that is a flash storage array company nor a hybrid. Frankly, we consider both of those to be competitors as we move up into the Band 5, possibly Band 6 space. Our own autonomic real-time 3-stage dynamic tiering capability from solid-state to primary disk to near-line disk and back every 5 seconds is best-of-breed in the industry from our point of view. And that something that certain of our vertical OEMs have acknowledged and are now considering bringing into their own product lines and into their own portfolios. But we wouldn't be selling to, generally speaking, it would not be in our dish and our roadmap to offer as an OEM to the hybrid array manufacturer whom we compete with or a flash array supplier either.

Operator

Our next question comes from Steve Busch with Southpaw Investment.

Steven Busch

A couple of questions. When you make your comments about your new customers ramping up to a steady state, what do you mean by a steady state?

Dana W. Kammersgard

Yes, that's actually a great question, Steve. And it ties a little bit into what Aaron just asked as well. So if you look at the big server Tier 1 OEMs, whether it be Sun Microsystems for us back in the day, or HP, whoever it may be, generally speaking, within those customers, you achieve a total available market and a subsequent share of that market that can plateau over time. So if you look at our HP revenues over the last 3 or 4 years, yes, we scaled very quickly from I think it was $4 million to $92 million year-over-year in maybe 2007 to 2008. And then we got as high as $140 million, and we bumped it along at $130 million, $140 million, $125 million, whatever the numbers are. We're not scaling nearly as quickly as we did in the early going. So that's what we mean in general with respect to an equilibrium state when the slope has flattened and we've got into perhaps arguably a maximum revenue stream from a given customer. However, as we penetrate certain of these others, what we're talking about in terms of equilibrium is the ramp in 2014. And certainly -- I'm sorry, the state of revenue in 2014, not the ramp. And certainly, to the extent that there are incremental program opportunities within those customers, then we could boost revenue beyond that. And ultimately you will see that reflected in the pipeline charts, incremental opportunities, existing customers, as we transition one off the pipeline chart to the right-hand side and then we begin to develop new program opportunities within them.

Steven Busch

So when I'm looking at your charts -- so when I'm looking at your charts, your -- when they've gone all the way up to right, Phase 4, of the chart, that's kind of a steady state now? Or those are still ramping sometimes?

Dana W. Kammersgard

Yes, yes. It's a very qualitative determination in our part. The general answer to your question is yes. And then if you were to turn the page, as we successfully executed on quality, on assurance of supply, on all of the things that these guys value in a supplier, it may very well be that we develop incremental opportunities with them, and that will be reflected on the next set of charts. For example, on that set of charts, the 11/8 version, we get 2, 4, 6 -- 7 new program opportunities that are within the framework of the logos on the right-hand side.

Steven Busch

Yes, I understood that. That's perfect. The more business, the better. And regarding your real-time tiering, you have a patent on that. I'm fairly familiar with the concept, especially across solid-state drive or solid-state disk industry players. A lot of people claim to have that kind of product and a patent on it. How does your patent stack up to some of these other solid state drive players? And are they infringing or is there any potential action against any of them?

Dana W. Kammersgard

Yes, to be honest, I couldn't answer today whether or not there's infringement in that space or not. We simply haven't looked. We have one patent granted with respect to real-time tiering. We have a number of others pending. At this point in time, we have absolutely intend to frame all of the inventions in that space that we believe are ours and protect them with patents. Now there are very few people, including new companies who have filed S-1s, who have claimed to be hybrid arrays and frankly and fairly are hybrid arrays that do real-time tiering. None of the big guys, whether we're talking about IBM or Dell or EMC or others have real-time data migration. All of those migrations are launched every day, 24-hour processes, batch processes. New guys that are in the hybrid array space for the most part are doing solid-state pinning -- read-pinning or read-caching rather than migration. And then, of course, the pureplay solid-state arrays don't do tiering; they don't have too. But they're also very expensive because they're wholly based on solid-state. So we do think we have a fairly unique position. We are migrating data every 5 seconds through all tiers, both up-and-down. And in this dynamically variable world we live in, where there's a typhoon in the Philippines right now and that's where the world wants to see the before-and-after satellite images, not what happened in Colorado a few weeks ago with the floods, not what happened with Sandy back in the East Coast 6 months ago. We have to be able -- we believe that the storage has to respond in real time and place the hottest data in the fastest media. And we do have patents that we believe will protect our inventions in that space.

Steven Busch

So I guess, the main difference is a lot of these other or all these other people are companies who are doing a cache-based.

Dana W. Kammersgard

Some are doing a 24 -- some do, and I don't want to spend a lot of time in the details here on this call. We'll be happy to follow up, Steve. But some will analyze their data all the time, but only migrate the hottest once every 24 hours. That's the most common implementation you will find out there today. Others will simply take the hot data and pin it into solid-state. But there's no notion of migrating -- you'd normally -- you the end user or system administrator would normally decide what data is pinned in the solid-state, and if the hotness of the data changes, if that data cools off and something else becomes hot, there's no real-time acknowledgment of that and no subsequent real-time migration.

Steven Busch

Okay, perfect. So how's our own patent issue? I know we had a recent release -- news release about being sued regarding the royalty stream?

Dana W. Kammersgard

Which one?

Unknown Executive

This is Crossroads.

Dana W. Kammersgard

Okay. Yes, that was not a patent infringement suit. I want to be really clear on that. That is a contract dispute. We believe that we have honored the spirit and the letter of the contract, and we will defend ourselves vigorously in that regard. But it is not a patent infringement suit.

Steven Busch

No, I understand that. But they're claiming you owe royalties than you paid, basically.

Hanif I. Jamal

Yes, this goes back, Steve, to an agreement we had with Crossroads. I think it goes back to 2006. And I think as we've stated in press releases, we believe we paid them all the royalties they are owed.

Steven Busch

Okay, perfect. Is there a number that you can say they they're requesting so you can have [indiscernible]?

Hanif I. Jamal

No, no. There's no specific numbers.

Steven Busch

All right. Well, I guess my last question -- and again, you guys are doing a great job. Lenovo makes a lot of claim -- has been talking about making acquisitions in your kind of space. Who are their other suppliers that are similar to Dot Hill, that you would be competing against for their business or their market share?

Dana W. Kammersgard

Well we have one Lenovo business, right? So they are a branded OEM of ours. You can think of it roughly as storage products that would sell to end users for a price of less than $25,000 is generally going to be a Lenovo-branded Dot Hill product. And a product that is above that will be an EMC product, wherein Lenovo has a relationship with EMC. So in the context of who -- were we competing for that once upon a time? Certainly, Engenio was in that mix and we beat them out. And at a more -- a broader answer, based on what we see in the competitive macro, there are not very many competitors who play in this space anymore. We're very excited about the Lenovo relationship. We think that they have great growth opportunity. They're a good partner, and we're looking forward to working with them for a long time to come.

Operator

We have a follow-up from Glenn Hanus from Needham.

Glenn Hanus - Needham & Company, LLC, Research Division

So if memory serves me right here with the 5000 product, where you had more of then tiering software. How is that product ramping, however, you want to define that ramping, meaning in the near-term pipeline or actually out there in the marketplace today; any color you can give us on where you're actually deploying that within your various design wins?

Dana W. Kammersgard

Sure. So we're very pleased with the reception of that product in the market. It's a midrange product and, hence, we're not really focused on trying to sell it to our Server OEMs at this point in time because they believe they have very capable technology in their own right in that space. And so it becomes first and foremost a channel sale, a branded reseller channel sale. We're pretty pleased with the reception of the product in the market. We do have a couple of vertical OEMs with whom the notion of real-time tiering is resonating, and we do have a number of vertical OEMs who are currently characterizing and quantifying the performance game that they get in a dynamically variable or -- or a -- yes, dynamically variable work load environment, which is typical of these verticals, whether it be certain of the telco infrastructure customers or oil and gas customers or whoever. So I would say on balance, we're quite pleased with the reception. We're quite pleased with the penetration. But you have to understand that it is primarily a channel play for us at this point. Frankly, that helps bring awareness. It helps breed brand recognition. It helps breed excitement and validate the product before some of the big guys might get interested.

Operator

I'm showing no further questions. I would now like to turn the call back to Dana Kammersgard, CEO, for any closing remarks.

Dana W. Kammersgard

Thanks, Catherine. Thank you, all for joining us today. I have to say it's very gratifying to begin to see the strategy that we've been working on for so long finally play out. I think Eric said that it was an overnight success, 3 years in the making, and that's a very apt description of what we've been doing. I want to also take a moment and thank our team here for their hard work because that's what has generated these results. I look forward to speaking with you all next quarter. Have a great weekend.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great day.

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