NetApp's Management Presents at BMO Capital Markets Technology & Digital Media Conference (Transcript)

Dec.11.13 | About: NetApp, Inc. (NTAP)

NetApp, Inc. (NASDAQ:NTAP)

BMO Capital Markets Technology & Digital Media Conference

December 11, 2013 10:00 a.m. ET

Executives

Tim Russell – VP Enterprise Software Ecosystem Group

Analysts

Keith Bachman – BMO Capital Markets

Keith Bachman – BMO Capital Markets

Okay, we are good to go. Good morning everybody t, Keith Bachman here with BMO and we are thrilled to have Tim Russell from NetApp.

I have actually been given what I think is that thrills and honors my life. I have the opportunity to NetApp’s safe harbor statement. As a reminder today’s discussion includes information constituting forward-looking statements, meaning all information we provide regarding our future performance, all of which involve risks and uncertainties, we disclaim any obligation, update such forward-looking statements. Actual results may differ materially from these statements for a variety of reasons such as general, macro and critical factors and matters specifically affecting our business industry. Such customary in for acceptance in our products and services suites, we discuss some of these factors in the most recent 10-K and 10-Q filed with the SEC and available on our website, all of which are incorporated in today’s discussion. Great. Why don’t we, just a level set, Tim why don’t you give a quick description on what you do just so we know how to orient the conversation in the event if there are questions from the audience.

Tim Russell

Great. Thanks Keith, great to be here, I am Tim Russell, I have the distinct pleasure of leading a talented group of engineers at NetApp we are building private and hybrid clouds solutions.

Keith Bachman – BMO Capital Markets

Perfect. And shockingly the questions that I am asking EMC, Hitachi and NetApp after those 2 or 3 can be remarkably similar. My focus particularly given the feedback on marketing out within incisions over the last two weeks is cloud open source virtualization competition, cloud open source virtualization competition. So we are going to start with cloud, the common refrain and I would say vocal common refrain that I get these days is that the cloud is going to secure EMC, NetApp, certainly IBM. And so give us your perspective on why this characterization that has reflected in your EMC’s multiple is indeed inaccurate and we will dig underneath that?

Tim Russell

Sure. Incredibly cloud is part of virtually every customer conversation today so it is a topic on everybody’s mind. And I will start with announcement we just made today as IDC has recognized NetApp as the Number one storage supplier to the public cloud in terms of capacity. So focus of ours over the last 4 years to provide infrastructure to service providers who are building cloud services.

So 175 of these service providers [indiscernible] offering 300 cloud services so clearly for us at least an opportunity in some segments. The other piece of it is the universal data platform, if you look at really the challenge that organizations are running through in adopting cloud. It’s about managing the data, applications move relatively easily, the compute segments will easily but data does not. And so having a way to move and manage and control data regardless of whether it’s on premise implementation on the private cloud or is in public cloud being a service provider or in a hyper scalar, Amazon like infrastructure. Having a way to manage that data using cluster data ONTAP technology is something that is different and unique about that app.

Keith Bachman – BMO Capital Markets

So when you say purchase, when you say public clouds service providers you are including the Facebooks or the Amazons or what have you in that [indiscernible] of customers?

Tim Russell

It is a general category in which literary hundreds of these companies around the world that are offering different classes of service, from the hyper scalars, from the SES providers to the what I call regional enterprise class service providers.

Keith Bachman – BMO Capital Markets

Okay. Have you guys given a dollar, a figure on what your [indiscernible] maybe to this class of customer or how quickly it’s growing, any attributes around what that represents?

Tim Russell

So we don’t break out that segment separately in our reporting, the numbers that we have released, like I mentioned 175 of these companies have built their infrastructures on NetApp and Cluster ONTAP and are offering 300 cloud services on top of that. So it’s an active segment for us that something that we actively go after and I think it had reasonable success in attracting business.

Keith Bachman – BMO Capital Markets

What’s NetApps, what’s your marketing competitive advantage strategy as you go into these cloud service providers because ONTAP 8 is relatively new from that app particularly when you think about 8.2, I think is your latest version. But what are the reasons that you are winning some of these and what are the reasons that you are not winning some of the cloud deals?

Tim Russell

So the big differentiation is actually two of them, the first is that clustered ONTAP is an ideal platform for building a variety of cloud services. It’s naturally and natively multitalented. So it proves kind of management capabilities that our service providers servicing multitenants needs can easily manage that. Secondly being a clustering technology enables to build a common infrastructure to manage different levels of SLAs or different levels of service with the same infrastructure, mixing and matching SSTs and flash on spinning disks in different performance characteristics, different capacity characteristics. And the other one is that ONTAP is the largest installed base of any storage operating system in the industry in the world. And so that’s an attraction to a service provider who is trying to find a way to attract a hybrid architecture. On premise storage for somethings, migrate somethings for the cloud. Natural, easy data movement and data management across private and public clouds.

Keith Bachman – BMO Capital Markets

Is all storage [indiscernible] equal and what I mean by that Timo, we are standardized on your competitor. But if we were to move to a cloud provider all storage has equal meaning that cloud provider will perhaps offer better scale or better pricing power, relative. How do you guys see that deal flow for customers that are moving to those cloud environments in terms of the economics in that app?

Tim Russell

It’s really an interesting, I can dig into the numbers in economics here that not all applications are essentially treated equal and this is where we see this real shift in the CIOs of enterprises moving from a, having expertise, and domain expertise to build your own infrastructure and operate that infrastructure to having to decide on application to application basis where is the best executed to run this application. Is it a public cloud, is it a private cloud? And that takes into account things like what are the data access patterns, what are the performance characteristics, what are the variable computer elements to it? Because we have seen in many cases where clouds are not cheaper, Amazon is not cheaper than running around premise for some applications.

Keith Bachman – BMO Capital Markets

Right, right.

Tim Russell

Once you consider IO characteristics, the performance characteristics and what class of service you need from Amazon and amortize that over the life cycle of equipment purchased, often times it’s cheaper to run in in-house.

Keith Bachman – BMO Capital Markets

Yeah, it’s transparent. Let’s move to open source first backend I will make some comments just letting it see, I had a front row seat watching the X86 market get completely commoditized in the economics pulled out. I think there is in that virtualization open source. But focusing on open source for a second when you think about, we think about open bolt and potential a DUP as also extracting some layer of profit pool you will out of the storage market. What are your thoughts for that? What’s your response for that?

Tim Russell

So, first of all storage is different and it attempts to commoditize and deliver more value or reduce the cost of storage with open source technologies will continue to be a challenge because of the unique retaining state of storage data. If you look at really and it’s been a lot of these conversations around software to find storage, software to find data centers, commoditize with open source technologies. And the conversation really the customers go how do I simplify my operations? Since operational cost is still the highest piece of IT budgets, how do I simplify my operations using software services and software capabilities whether its open source or not to reduce my operational cost? And that’s really if you look at the emphasis on even things like OpenStack and CloudStack orchestrating a data center in a way that reduces the operational cost regardless of whether that hardware is implemented as appliances from companies like NetApp or whether it’s a combination of open source and commodity hardware. It’s really about how do I simplify operations.

Keith Bachman – BMO Capital Markets

Okay. So you guys seen workloads migrate away particularly a DUP I think is very controversial. Have you guys seen any workloads migrate into these areas?

Tim Russell

So most of the work especially in new scale analytics and business intelligence is really about new kinds of analytics rather than replacing something that is done before and many of them are still in the lab, they haven’t made it yet to a production environment. And the ones that are moving to production environments, we are having this interesting conversations moving from a sort of an experimental system where you are not too concerned about efficiency and reliability and consistent results which means you have multicopies, you have service echoed down to another one that make this enterprise class. And that’s where E-Series platform has become part of that conversation, shrink the number of copies, make it more reliable, make it more available for this DUP style architectures.

Keith Bachman – BMO Capital Markets

Also thinking that DUP is a lot of unstructured data and it’s actually not getting saved, the data may not be pertained for weblog and things like that. You may analyze it just, may have never gone on that NetApp system to begin.

Tim Russell

Correct. But I do posses this as missed numbers not a really one model, it’s some of that weblogs, some of that trans-in data but there are also many cases where it is data that is retained for a long period of time, it goes back to historical mining to get [indiscernible] and the longer you have the better it is.

Keith Bachman – BMO Capital Markets

I think about virtualization and software defined storages being common themes, perhaps its simplification on my part but have you seen the virtualization or software defined storage impacting the market over the next 2-3 years. And EMC was very positive on Viber. And I would like you to comment on some of the competitor’s offerings that are out there as you opine on this area as well and how it is going to impact the economics of storage over the next couple of years?

Tim Russell

So, I will go back to earlier comments software defined storage, software defined data centers is really about how do I remove the complexity in this. So data center is growing in complexity and the number of applications, different kinds of performance characteristics. So I can define and operate in a software defined way what are the storage services, much like we did with servers, virtualized the services of a server, virtualized the services of storage. [indiscernible] in fact we call them storage virtual machines. So I can say for instance I want Go Bubble service for my Oracle database and let the software define what that means, how often it is replicated, how often is it packed up, what kind of performance characteristics? And we can only really deliver that from efficiency and from our performance, if most of that data management is down into the storage layer. As soon as you start layering something on top of that which is the approach that Viber makes, is now how do you manage data moving between service levels? If you have a high performance SST based system and a slower SATA based system how do you move data between them if you are just putting a [indiscernible] on the top. Now you are consuming network resources, computer resources, you can efficiently move that data…

Keith Bachman – BMO Capital Markets

Yeah, and EMC kind of they can actually manage the data layer as well and I think proof will be better out over time. Getting up on ONTAP 8 though, I mean you mentioned that things like its vastly improved incredible system but obviously only managed within that environment can’t reach into Hitachi or an EMC. I think what user you are looking for ultimately whether they gathered is a different question is a layer of obstruction that can go across various storage brands. And it seems like we are always away from that?

Tim Russell

Actually that’s not the necessary case. So Clustered ONTAP can be delivered over a series or range of hardware implementations. NetApp appliances, third party storage arrays using our V-Series, components with Cluster ONTAP or as a software only implementation running on top of a commodity or a hyper scale environments. And that was the Verizon announcement that we made earlier recently is about our partnership that extends that software based capability to connect private clouds to public hyper scalar clouds.

Keith Bachman – BMO Capital Markets

I was going to ask about that in this context but perhaps we will approach it now. How you seen traction within that or how are you thinking about the software only version so to speak as you look at over the next 2-3 years? Can that be a material part of NetApp’s revenue profile?

Tim Russell

So, its starting of a process and if you look at the promise and the vision of a universal data platform that enables that movement and management of data between an on-premise and a variety of different cloud implementations where there are CIOs or the IT organization can choose in a dynamic way where is it based to run this application, where is it best to put this data. And let that data management layer move, protect, secure the data regardless of where it lands. And that explains really well and we are delivering it from appliance and virtualizing the third party arrays and the software piece we are actually ahead in the market for small offices for moving that technology now in our partnership with Verizon and looking at the business models to go beyond that.

Keith Bachman – BMO Capital Markets

But do you think it will be meaningful as you look out 2 years or it’s too hard to say at this point?

Tim Russell

It’s hard to say where the revenue models are like, I think the business value is there.

Keith Bachman – BMO Capital Markets

All right. Perhaps we will come back to that but I want to move onto flash and the competition. We focused on the E-Series, I was a little bit surprised your first kind of flash array offering was focused on blog rather than a file, I think the clear intention is to come out with a complete offering. But when you talk about your competitive positioning in the flash market and it also like you within that context of speaking to all-flash versus hybrid and touch on some of the competitive landscapes including Nimble.

Tim Russell

So, let’s start first of all with the success we are having with EF540 which we just announced and upgrade to that to EF550 which is stacking up extremely well against what I call as whole class of early stage startups in all-flash market. And what we are finding in head to head competition is first of all it meets the base of performance characteristics. Second of it all, has a long history of providing of a reliability, resilience which if you look at our workloads are moving to all-flash is one that the businesses is dependent on, it is most mission critical. So they are looking for something that you can depend on and worldwide support, all those characteristics, that’s probably was driving the success of the EF540 and EF550. And I think if you look at the market how it is dividing, it is actually there are two sorts of a sub segment of all-flash, extreme performance just give me the fastest number of IOPs and see I can get which is what the EF550 is.

And the other side is give me fast performance but I need some data management capabilities because the workload is more sophisticated, virtual desktop is an example. I need in-line [indiscernible], I need multiple protocols because some of this is in files, some of this is blocked and that’s where our flash array will address that market segment. From a hybrid perspective a lot of attention there, we have been building hybrid arrays since 2009, our maiden high-end systems about 62% of it will go in some sort of flash as part of the systems. So clearly a highly adopted configurations, hybrid configurations. And so we are very confident in the competitive positioning of a hybrid where we are using ONTAP to address wide range of performance characteristics in a price environment.

Keith Bachman – BMO Capital Markets

Let take that 62% number, any idea within that context of 62 what percent of actual storage availability or storage capability is actually flash versus spinning media?

Tim Russell

So, the 62%, roughly we have shipped 62 petabytes of flash to date with a mixture and you can look at that accelerating and I forget the exact numbers, it’s over hexabyte of spinning media. So you can kind of get a ratio, 5 hexabytes of spinning, 62 petabytes of flash, 5 hexabytes of spinning media. So you can look at the ratio there roughly.

Keith Bachman – BMO Capital Markets

Okay. I want to push you on one thing, Nimbles and registration now but you know we hear a lot, we go to tradeshows, about this maybe bubbling up as the most interesting of the emerging storage startups and some data [indiscernible] over there. And talking about taking a lot of share in the market including financial services from both EMC and NetApp, what’s your response to the messages coming out of Nimble?

Tim Russell

So, the whole hybrid array space is something that we believe is here to stay and that’s why we have been investing since 2009. And the competitive position starting with 2,000 all the way up to 6,000 Series in those hybrid configurations gives customers a better choice in terms of their expansion ability over the long term. So from a stack up against the competition in a wide range in an enterprise we believe we have a stronger portfolio. I think you have to also take into account the success we had with FlexPod. So the integrated infrastructure which fits really well, especially when we have a FlexPod Express for mid sized enterprises combining the Cisco Servers networking and storage. And it is easy to deploy [indiscernible] to operate the model which can also address some of the simplicity characteristics that you sometimes hear about in Nimble.

Keith Bachman – BMO Capital Markets

Okay. Let me move on in the interest of time. A subject that comes up periodically, I would say more earlier in accounting year 2013 was object based storage and how that might impact the market. Give me your take on how objects based storages, what’s the business value there is, how that plays and how that might impact the storage market more broadly speaking?

Tim Russell

So, we have our storage driven product which uses E-Series as the backend storing system and it has been in the market since our acquisition of Biocast several years ago addressing this large capacity requirement typically where the workload can operate on objects versus [indiscernible] semantics. And long term retention has to be the used cases, you think about large volumes of data, unstructured data. So this market is evolving and the adoption rates in certain industries are higher than others. We see some of it in healthcare with image retention, we see some of it in media where the retention times and the size of content is high and there is a desire for an un-premise versions of these object storage.

Keith Bachman – BMO Capital Markets

And what about competitive offerings out there, who is the leader in object based storage and is it big enough to matter for the storage market?

Tim Russell

So, right now it’s a nascent market, you have to aggregate all of the business from all of us who provide enterprise class, object storage is still very small.

Keith Bachman – BMO Capital Markets

Does it get bigger or does it stay small?

Tim Russell

The driver will be what’s the application landscape and how does the applications move from file semantics to an object semantics, that would be the driver, the adoption rates. And so that’s somewhat unknown until we see some of these are archived in the application that drive their content.

Keith Bachman – BMO Capital Markets

Okay. I am going to move to perhaps another frequent line of questioning for NetApps specifically, the OEM business. It’s interesting because I think the OEM businesses has a certain amount of revenues, certain amount of profits and yet it’s attracting from shareholder value of NetApp, right now. How do you think about stabilization in this business or can stabilize mean we can envision a state where [indiscernible] stays with you but IBM, Oracle and Dell go to zero. And that I think surely would be a bad thing to stop once it reached that point but getting there would be a painful. How do you guys think about the dynamics of those relationships where revenues may fall out over the next 12-18 months?

Tim Russell

So, first of all I want to, the statistics of the numbers that we should focus on is the branded business and how does gain that market share…

Keith Bachman – BMO Capital Markets

Well, we will look at the brand in a second but we still have a line item called the OEM and still detracts from total revenues so want to stay at that level for a second.

Tim Russell

So, our expectation is that the OEM business will stabilize at about the current dollar amount, current dollar value which we expect will reflect business decisions made by our OEM partners. And there maybe some fluctuations based on the quarters of those OEM partners have greater or challenged but roughly speaking it should be stabilizing in about the current levels.

Keith Bachman – BMO Capital Markets

[indiscernible] outside often that one, I don’t think that they have any interest in that but why would Dell or Oracle keep any business with NetApp? Why wouldn’t just say we are going to do by ourselves?

Tim Russell

The R&D investment, so the each of these OEMs will make their own decisions but the R&D investments require to duplicate the same capabilities and then sustain them over a long period of time. So it’s a business decision each OEM has to make and some of them have decided and made public what their decisions are, others have not been quite so clear.

Keith Bachman – BMO Capital Markets

Okay. You are going to make some comments about the branded side, let us talk a little about that and what is 8.2 you are doing for in that app in particular what they can’t base representation with 8.2?

Tim Russell

So 8.2 actually we have seen an acceleration of the adoption of Cluster data ONTAP with the 8.2 release both in that new customers, who their first transactions with NetApp is Cluster data ONTAP as well as an acceleration in the adoption by existing and installed base, transitioning from our 7 mode systems to Cluster data ONTAP. So 8.2 is proving to be as we expected, the release has really enabling the broader adoption in installed base…

Keith Bachman – BMO Capital Markets

But my impression was for the customers weren’t pouring new workloads, it was already using for new workloads so is that not true?

Tim Russell

That’s not true, there is transition on both Net news and this is the interesting thing about Cluster ONTAP, it also opens up for us new opportunities for workloads that traditionally weren’t running on NetApp. But for existing customers it’s a combination of new network loads and transitions of existing. It will start with that new, it is typically a tech refresh, it has a typical starting place and then they migrate over time.

Keith Bachman – BMO Capital Markets

Okay. How about one of the final questions, we have a little bit of a time constraint here, margins. I don’t know if we can go into margins little bit but your branded business, your product revenues, product margins actually have been very good. What are some of the puts and takes that we should think about for your product gross margins and particular as we look out over the next couple of quarters and have we had a ceiling?

Tim Russell

So, product gross margins are affected by a couple of things, it’s the richness of the software configurations which we saw happened in the last quarter as well as the mix of our business between OEM and our branded product line. So our expectation is in the same range as you are seeing today. So when we made some remarks on our earnings call about what the expectations going forward.

Keith Bachman – BMO Capital Markets

Okay, we will leave that, we will stay with products because margins maybe a little bit out of your domain and I don’t want you to push it too hard on it. But let’s come back to China, we had some companies that have said specifically that politics from packing the sales, IBM interestingly yesterday said no which is not exactly what they said on their conference call. What do you guys think in China not from a domain perspective related to economy but also from a political perspective are doors being shut?

Tim Russell

So, our business in China is relatively small but it continues to grow and we are exposed mostly to multinationals so we may not see like some other companies have seen some of the other challenges. So for us at the top level is growing but it’s a small part of our business.

Keith Bachman – BMO Capital Markets

So you guys may not, implicit in your answer you are not suggesting that because you are also [indiscernible] that customers are telling you they don’t want to do business with that NetApp?

Tim Russell

So, again we haven’t seen a change in that.

Keith Bachman – BMO Capital Markets

Last question I want to ask because we are running out of time is NetApp I think rightly so is managing the expense structure and now seems to be [indiscernible] around on operating margins, operating dollars which I think is a positive think for the stock. How is it impacting the Group and people that you manage? What are some of the specific examples of how its impacting you because in that you obviously have to gauge whether foregoing topline opportunities for expense cuts and how do you play off on those dynamics?

Tim Russell

I think at the very top level across NetApp and this is kind of a ongoing scene that we had from an operations perspective for many years. And we focused on things, investing on things are going to make difference in our business and difference in our customer’s business. So whether its R&D spending on the things that will make a difference over during long term or whether it’s going to market expenses on work which country we invest in or what kind of market partners we invest in. So I don’t think there has been, there isn’t a dramatic change in that and that we are very focused and very clear on which markets, what segments and what innovations are going to drive profile of our business.

Keith Bachman – BMO Capital Markets

But have you taken expense, have you taken dollars of expense, I mean the Group that you manage?

Tim Russell

So, we don’t comment specifically which segments we invest in or don’t invest in.

Keith Bachman – BMO Capital Markets

Okay. Let me see, we are wrapping up in final seconds, are there any questions from the audience that want to be entertained. Looks like the answer to that is no but we certainly appreciate NetApp braving the elements to join us here and appreciate your time and I know you have one on one so you need to get to as well. So thanks very much Tim. Thanks for joining us.

Tim Russell

Thank you.

Question-and-Answer Session

[No formal Q&A session for this event]

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