Emulex's (ELX) CEO Jeffrey Benck on Q4 2014 Results - Earnings Call Transcript

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 |  About: Emulex Corporation (ELX)
by: SA Transcripts

Operator

Greetings, and welcome to the Emulex Corporation Fiscal 2014 Q4 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Paul Mansky, Senior Director of Corporate Development and Investor Relations. Thank you. You may begin.

Paul Mansky

Thank you, operator. Good afternoon. I'm Paul Mansky, and I'd like to welcome you to the Emulex fourth quarter and fiscal year ending 2014 earnings conference Call. By now, you should have received a copy of the earnings release, which was issued earlier this afternoon. If you do not have a copy, it is available on the Investor Relations section of our website at emulex.com.

The press release and this presentation contains forward-looking statements including, but without limitation, statements regarding Emulex's business operations and anticipated financial results for our first quarter of fiscal 2015. These results are subject to a number of risks and uncertainties, and actual results may differ materially from those discussed in the forward-looking statements. Those risks and uncertainties are highlighted in our earnings release and under the heading of Risk Factors in Emulex's most recent annual report on Form 10-K and quarterly reports on Form 10-Q. We want to note that we undertake no obligation to update these forward-looking statements.

During the call, when we use any historical non-GAAP financial measures, you will find a reconciliation to the most directly comparable GAAP financial measure in our earnings release. All of the references we will make today relate to our non-GAAP results unless otherwise stated.

Today's conference call is being webcast, and a recording will be available on Emulex's website through August 2015. Finally, I'd like to remind all participants that if you decide to ask a question, it will be included in both our live transmission as well as any future use of the recording.

Now let me turn the call over to Jeff Benck, Emulex's President and CEO. Jeff?

Jeffrey W. Benck

Thanks, Paul. Good afternoon. I'm Jeff Benck. And in addition to Paul Mansky, I have our CFO, Kyle Wescoat, with me here today.

This afternoon I'd like to cover 3 topics. First, execution. Over the past year, we've had to make some tough trade-offs, but I'm proud of the way our team responded. Evidenced by the breadth of new qualifications across our I/O portfolio, we haven't skipped a beat in terms of capturing design wins and delivering product innovation.

Second, momentum. Whether Fibre Channel, Ethernet or converged, we are very well-positioned for the upcoming Grantley server refresh cycle and look forward to the opportunity to compete on the basis of technological innovation that delivers business value.

Finally, transition. As I mentioned last quarter, NVP is not living up to its potential. We've experienced some key successes, but on balance, we are not performing to a level we know we can achieve. I'll detail what we're doing to course correct and where our current focus is going forward.

Before I provide more color on these areas though, I'm going to turn it over to Kyle to review our fourth quarter and full year financial results and provide guidance for the first quarter of fiscal 2015. After our prepared remarks, we will open up the line for questions. Over to you, Kyle.

Kyle B. Wescoat

Thank you, Jeff. Good afternoon, everyone. Sales for our fourth quarter totaled $100 million, coming at the high end of the guidance range of $94 million to $100 million given during our previous earnings call. A favorable product mix, stable gross margins and active expense management during the fourth quarter combined to deliver earnings of $0.07 per share, which exceeded the high end of our guidance of breakeven to $0.05 per share.

Taking a look at our fourth quarter revenue by product segment. First, Network Connectivity Products or NCP is our largest product line, consisting of our Fibre Channel and Ethernet products used at server-to-storage interconnect, as well as Ethernet network interface.

As I discussed in my guidance comments during our last earnings call, in light of the business environment and near-term unpredictability as it related to the server and storage businesses, I thought it was reasonable to forecast the business with the expectation that we would experience a low single-digit sequential decline in our NCP revenues. Our fourth quarter results were in line with this expectation, with NCP revenues coming in at $76 million for the quarter, down 3% sequentially or 76% of total revenue.

Our second product line, Network Visibility Products or NVP is our family of intelligent network recording products. NVP revenue was $7 million in the quarter or 7% of sales, which was in line with our previous guidance for the quarter.

As we discussed last quarter, we are not satisfied with the performance of the NVP product line and have undertaken a number of initiatives to better capture the revenue opportunity in this market. Jeff will provide an update on some of these in a few minutes.

Our third product line, Storage Connectivity and Other Products or SCOP consists of our bridges and back-end connectivity products, baseboard management controllers and other miscellaneous products. Overall, SCOP revenues came in at $17 million or 17% of revenue. This represents a sequential decrease of 32% and a decline of 42% year-over-year. As we explained last quarter, a significant portion of our SCOP revenue is entering the end-of-life phase as customers move to next-generation platforms. As such, for modeling purposes, you should expect annual declines within SCOP of 30% or greater for fiscal 2015.

Turning to gross margins. Total non-GAAP gross margin remained flat with the third quarter level at 66% of revenue. Looking forward, we expect gross margins to remain at approximately 66% plus or minus 100 basis points through the end of the calendar year, depending on mix.

Moving on to operating expenses. With an eye towards profit protection, total OpEx for the quarter was $59 million, representing a decrease of 8% from the $64 million reported in the comparable quarter of last year. We continue to be very pleased with the team's management of this part of our business. I should note that while our operating expenses for the quarter were in line with our expectation, these results do not yet reflect the entire benefit of our strategic initiative to take additional costs out of our business, which will be fully realized in fiscal 2015.

Now that we've completed the closure of our Bolton Engineering facility at the end of June, we're delivering on our commitment to reduce the annual operating expenses for the ECD business by at least $30 million from 2013 levels going into fiscal 2015. With the completion of these initiatives, we are modeling for a sequential decrease of approximately 5% to 6% in total OpEx in the first quarter compared to our 4Q results.

Non-GAAP operating income for the fourth quarter was $7 million or 7% of revenue, and net income for the quarter was $6 million or 6% of revenue.

I'm closing out my discussion of the fourth quarter with a review of our GAAP results. On a GAAP basis, fourth quarter gross margins were flat sequentially at 58% of net revenue and GAAP operating expenses were $67 million or 67% of revenue.

GAAP operating expenses for Q4 included approximately $2 million of site closures and other restructuring costs, $1 million of cost associated with IRS review, $1 million of Broadcom mitigation expenses, $1.6 million of intangible amortization and $3 million of equity-based compensation charges. All these charges are excluded from our non-GAAP results.

Our GAAP net loss for the fourth quarter was $15 million or 15% of revenue. Included in this is the realized tax impact of an unrealized foreign exchange gain on intercompany loans between 2 of our international subsidiaries. A reconciliation of our GAAP to non-GAAP numbers for the quarter is included in our press release.

Before I discuss the balance sheet, I'd like to cover a few of the key results for the full-year 2014. Total revenue for the year was $447 million. On a non-GAAP basis, gross margins came in at a solid 66%, up almost 200 basis points year-over-year. Operating margins were 12%, and we achieved $0.57 in earnings per diluted share of $85.6 million in common stock.

The comparable GAAP results for the year were 58% gross margins, an operating loss of 5% and a GAAP loss of $0.35 per share for the year. The full-year GAAP operating expenses include approximately $10 million of restructuring and severance costs, $1 million of costs associated with the IRS review, $10 million of Broadcom mitigation expense, $6 million of intangible amortization and $15 million of equity-based compensation charges.

Our total GAAP items represent a difference of $0.91 per share from the non-GAAP results for fiscal 2014. As I previously mentioned, a complete reconciliation of our reported GAAP numbers to the non-GAAP numbers I've discussed is included in our fourth quarter press release, which was issued earlier this afternoon.

Turning to the balance sheet. We exited the year with $158 million in cash and cash equivalents. Our fourth quarter working capital was impacted by a $6 million increase in accounts receivable, translating to DSO above our normal levels. This increase stems from lower collections at one of our biggest OEM customers whilst they transition some of their major hubs from domestic to international locations and other realignments in advance of the sale of one of their businesses.

Additionally, our own transition from EMS providers in Thailand to a new partner in China as part of a strategy to optimize our supply chain affected near-term inventory levels. We expect the impact from both of these to correct during the first quarter.

During the quarter, in addition to completing the ASR, we used approximately $47 million of the cash we raised to purchase 8.7 million shares under our 10b5-1 at an average price of $5.33 per share.

For fiscal 2014, we repurchased over 22 million shares. Based on these activities, we expect outstanding shares for the first quarter will be approximately 73 million on a fully diluted basis.

Before I discuss our revenue and earnings guidance for the first quarter of fiscal 2015, I want to once again remind everyone that our public filings with the SEC and our Safe Harbor statement included in our press release discusses the risks and uncertainties that could affect our future performance, causing actual results to differ materially from our forward-looking statements.

Taking into consideration the current business environment and typical seasonality for the September quarter, we are modeling our revenue to be in the $93 million to $99 million range for our first quarter ending September 28, 2014. We expect gross margins to be in line with the past couple of quarters plus or minus 100 basis points.

With the full benefit of the cost reduction efforts, we are modeling for first quarter operating expenses to show a sequential decline of 5% to 6% from Q4. Assuming an 8% tax rate and the previously mentioned diluted share count of 73 million shares, we are forecasting non-GAAP earnings in the range of $0.07 to $0.11 per share for Q1.

On a GAAP basis, we expect a loss of $0.07 to $0.11 per share. Our first quarter GAAP results will include approximately $0.18 in charges. Once again, I refer you to our earnings press release for a complete reconciliation of the differences between our GAAP and non-GAAP guidance.

This concludes my prepared remarks, and I'd like to pass it back over to Jeff.

Jeffrey W. Benck

Thanks, Kyle. As I indicated in my opening remarks, I'm pleased with our execution in the quarter and over the past year. We've asked a lot of the team and they delivered.

On the expense reduction initiatives, we committed to a $30 million reduction in OpEx by the time we enter 2015. As Kyle indicated in his commentary, we are delivering on that today.

Meanwhile, not only did we successfully conclude the Broadcom litigation, but due to our continued investment in the face of adversity, we emerged with leading-edge contemporary Ethernet and Fibre Channel products across our I/O portfolio. In Ethernet, this has translated to an unprecedented number of design wins and qualifications well-underway. In Fibre Channel, with our largest competitor having reported, we're confident that we gained greater than 2 percentage points of share during the June quarter.

We're early in this transition to 16Gb, but I think this will be a key technology in 2015, which we're heading into with greater than 50% market share. We believe we are very well positioned here, driven by our superior Gen 5 product design, which runs cooler and more reliably than others in the market.

Beyond 16Gb, we are fully committed to extending our best-in-class Fibre Channel offerings to 32-gig. We are deep into the development of this product. But based on our 16Gb experience and feedback from the OEM community, we don't think the commercial opportunity is likely to arrive until calendar 2016.

As we head into 2015, we are building momentum and intend to capitalize on our investments in our roadmap. We are the leaders in 16Gb host and 10Gb converged solutions, including FCoE. We have Fibre Channel target design wins within the SSD platforms at 3 of the top 4 storage OEMs on the planet and just recently won a major 40Gb Ethernet target opportunity at the fourth.

Although our Fibre Channel business started the year on an uneven footing, dynamics in the market have begun to improve over the last 90 days. The UNIX market continues to represent a year-on-year headwind. However, we saw sequential growth in this segment during the June quarter. Even with the significant UNIX market challenges, our Fibre Channel adaptor business was down less than the annual range we provided in April.

While we remain cautious at this time with the power refresh, the pending x86 platform transition with Grantley and the target momentum previously discussed, it is possible our prior view that the market will decline in the high single-digit to low-double digit range could prove to be too pessimistic.

I mentioned previously the significant number of 10Gb Ethernet qualifications currently underway. Probably more telling, however, is the fact that with Grantley, we'll go from the vast majority of our Ethernet revenue coming from 2 OEMs to design wins spanning the top 8 OEMs in addition to the leading Open Compute ODMs.

We're also seeing tremendous opportunity in China both for Fibre Channel and Ethernet. In fiscal 2014, our revenue stemming from China-based OEMs sold directly into the China market grew almost 100%, exiting the year at a run rate of over 6% of NCP sales.

We continue to focus on success in this market, as evidenced by our recent award as Outstanding Quality supplier of the year from Lenovo, marking the second time in 3 years to receive this honor. We have a solid jump on the competition in this key geography and intend to leverage our strong relationships to extend our lead in this growth market.

Finally, we are progressing with our transition plans within NVP. We believe our network visibility business is vital to both NetOps and SecOp teams working in the data center today. Here again, the transition of 10- and 40Gb infrastructure is a key opportunity for us to address the inadequacies of legacy architectures, while enabling visibility into next-generation networks.

The market is there, and we have a best-in-class product. It's up to us to broaden our channels and seize the opportunity. To that end, we made the decision to move the GM of the NVP organization to the U.S. to better align with the market opportunity and partnership potential we have identified. As part of that, NVP's current GM, who's was based in New Zealand, will be stepping down at the end of the first quarter. We are well down the path of identifying his replacement and look forward to updating you as that is formalized.

We've also made significant strides in realigning resources, focusing on target verticals, delivering new capabilities and expanding our sales pipeline via partnerships to provide best-in-class solutions. A couple of recent examples are Compuware and Cisco Sourcefire. Working with Compuware, we provide end-to-end application and network performance solutions. With Cisco Sourcefire, we help enable customers to pivot the packet seamlessly when they detect an intruder in the network.

We've just launched these strategic partnerships over the last few months, but they are already starting to have a positive impact on the pipeline. As with any new initiative, we expect them to take time to fully develop, but we believe the mid- to long-term opportunity is well worth the investment and clearly see the possibilities with NVP, including our ability to leverage our existing NIC footprint to deliver truly differentiated end-to-end visibility solutions to the marketplace.

In summary, a lot has transpired since I became CEO 1 year ago. Looking back, while it's clear that not everything went our way, we have made tremendous progress. And I think that speaks to the caliber of the team, our culture and the respect we earn from our customers each and every day.

As you heard me mention before, our core view is if we excel in areas under our control, we are better positioned to navigate events outside of our control. You've seen that manifest in a number of ways throughout the course of the last year. First, we successfully negotiated a conclusion to the Broadcom litigation, which was a drag on resources and an impediment to our ability to address the full market opportunity. In doing so, as we enter the Grantley cycle, we have greatly expanded our Ethernet footprint. The breadth of that opportunity cannot be overstated, and we're going to go after it.

Second, we made some difficult trade-offs to align expenses to the revenue opportunity during our period of transition. We committed to a $30 million OpEx reduction by 2015 and are entering the year ahead of that run rate in savings.

Third, we took a fresh look at our capital structure. We have assessed the best avenues to return capital to shareholders and acted upon it, issuing convertible debt under very favorable terms and promptly repurchasing $150 million in stock with the proceeds, lowering our share base by over 20% in the process without, in our view, sacrificing our financial flexibility. We have done all of this with the benefit of the additional insight and leadership provided by our newly-reconstituted Board of Directors.

Finally, we have worked hard to instill a deep sense of discipline across the company and we're not going to let up. We will constantly scrutinize ROI and modulate the business as conditions dictate. But we will not do so at the risk of future growth, be that in 32-gig Fibre Channel, 100Gb Ethernet or our vision around network visibility. Collectively, we believe this strikes the right balance between profit protection today and revenue acceleration tomorrow, which is the recipe for maximizing shareholder returns.

Bottom line, I couldn't be more encouraged by the position the company finds itself in as we enter 2015, and I look forward to updating you on our progress on upcoming calls.

With that, operator, we can now open it up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question is from Bill Shope from Goldman Sachs.

Bill C. Shope - Goldman Sachs Group Inc., Research Division

Okay, great. First of all, a question on the Grantley cycle. Can you give us a little more detail on how exactly you're thinking about that opportunity late this year and into next year and how it compares to prior cycles and why you think it's going to be more significant? And I guess related to that, your thoughts on next year's Windows OS expiration, the potential for that to drive server growth as well.

Jeffrey W. Benck

Yes. Thanks, Bill. On the Grantley cycle, I think for us, what's a bit different is in the -- previously, our 10Gb was -- we kind of mentioned it in the prepared remarks that we -- that our 10Gb was really concentrated with a couple of OEMs. Then it was broader maybe initially but with the litigation and some of the restrictions on where we could actually work and sell product in the U.S., we were more limited. So with Grantley and our new technology, new chips that's being launched, we really broadened our footprint across we said top 8 OEMs. There's more guys involved in that, but we just wanted to kind of characterize this. So for us, it's a little unique in the incremental opportunity. In terms of what I'm hearing from customers, I think there's some pent-up demand. It's been 3 years since Romley, and there's some interest in the next-gen platform from Intel. A little concerned about like DDR4 pricing and such, but I've heard steps have been taken to ensure that, that's not an issue. So early feedback seems to be pretty encouraging about people really looking for that platform. The other dynamic for 10Gb is it's been very heavily penetrated in blades traditionally, but rack servers at Romley really just didn't participate as much as we would've liked to see and we think that that's kind of poised to change with Grantley. And then I guess you asked the question about the Windows -- I mean, we haven't done a tremendous amount of modeling on that. I will say, though, when Microsoft says they're going to drop support on that, it does force a transition. And typically, people will decide, "Look, if I'm going to change, I'm going to have to update my platform." That could be good for our Fibre Channel business as well as you deploy these next-gen platforms with Gen 3 PCI and our 8Gb was not Gen 3. That's an opportunity to put in the latest Fibre Channel technology, as well as to move to 10Gb. So we probably don't have quite as much of that thinking factored into our plans as we go out that far into time, but I think it is a general positive for x86 server growth.

Bill C. Shope - Goldman Sachs Group Inc., Research Division

Okay, that's great. And one more question, if I may. On the SCOP business, looking at the 30% decline in fiscal '15, how should we think about the quarterly progression of that? Should the declines be more front-end loaded sort of off this quarter?

Jeffrey W. Benck

Well, I think that -- I think we -- year-over-year, we're going to -- we were north of that in last quarter, right? So we were north of 40%. Until you wrap around on the year, I think you're going to see a pretty substantial declines.

Kyle B. Wescoat

I think we're going to see that it's going to be a little lumpy. I think that was our experience this past year. I think we'll see a little of that -- but, in early going.

Jeffrey W. Benck

But I think he's trying to give you a sense of the full year as we get through it. The one dynamic that's playing out is it is an end-of-life phase. So as you get -- as we get out of the tail of it, I think we'll have better visibility as we get closer to end-of-life buys and stuff. That's part of the lumpiness that Kyle was referring that we anticipate, but that's probably a couple of quarters away. But for right now, we saw a pretty significant decline in Q4. And we sort of anticipate year-over-year, it'll be down north of that 30% number that we talked about.

Operator

Our next question is from Aaron Rakers, Stifel.

Aaron C. Rakers - Stifel, Nicolaus & Company, Incorporated, Research Division

Yes. A couple if I can as well. Just kind of building on the last question, just thinking about the revenue trajectory, maybe for the current quarter, could you help us understand what you're thinking about relative to the different segments? I think last quarter, you had guided the end-based piece to be about $7 million. Is there an updated number, what you're expecting this quarter? And then how are you thinking about, within the NCP segment, Ethernet versus Fibre Channel in the current quarter?

Jeffrey W. Benck

Yes. I mean I'll take a cut at that and let Kyle comment. For NVP, we are going through a transition, and I made mention of the general manager transition we're working through right now. So we're -- our expectations there are that we would be flattish as we transition into Q1. Obviously, our company normally has some seasonality, but this business at this point, we -- that at this point we're -- well, we've got a lot of work underway there, but I'm not ready to take things up there. As far as the ECD business goes, we really look to Grantley as the catalyst for our 10Gb business. And given that Grantley hasn't launched yet, we're not getting -- we're not expecting a big sequential move in Ethernet, albeit we do have some design wins at Ivy Bridge that there's opportunity with. But we really look to Grantley to be a bigger catalyst, and you've got to kind of map out as Grantley rolls out. And you guys can predict that as well as I, and we can't talk about stuff that that's not announced yet. But directionally, people know it's coming. It's not too far away. But in terms of the transition, we're really looking for Grantley to be -- start to be a more material contributor to the percent of products as we get out into the next calendar year, but we'll start to see activity there. So in Q1, we don't see Grantley being a huge catalyst for Ethernet. And then Fibre Channel has kind of -- expected sort of -- followed seasonal trends. The only comment I want to make there is that we earlier said on a prior call kind of lack of near-term visibility, that we would we would see high single-digits, maybe the double-digit decline. We did better than that clearly in this quarter and anticipate, if things kind of continue, that we could do a bit better. But we are sort of expecting normal seasonality in Fibre Channel.

Aaron C. Rakers - Stifel, Nicolaus & Company, Incorporated, Research Division

And just so I understand on the operating expense line, down 5% to 6% sequentially, that would lead us to estimate at the midpoint about, call it, $3.5 million down sequentially. Relative to the $30 million target, should I think about an incremental on top of that $12 million annualized to get to $30 million, is what you'd further take out through the course of this year? Or are you reinvesting all of that back into the model and the level of -- on an absolute basis is where we should think about the model going forward?

Jeffrey W. Benck

Yes, we're not -- it's not a reinvestment. This incremental 5% to 6% is just an additional adder to the reductions that we made as we went through it last year. So if you looked at -- if you looked at where we were back in the fall, we stepped it down in -- where normally, it would've been an up quarter. And then we knew this quarter wouldn't be stepped down as much but then you see step-down here as we closed the Bolton site. So we would say that the -- at that kind of level that we're forecasting for Q1, we kind of integrated the $30 million savings in there because the $30 million of commitment all came out of the connectivity business. We only had about 1/4 -- a little more than 1/4 of Endace in the number when we took on this challenge to take $30 million out of the business. So you see it's absorbing a lot of Endace expense because we now have Endace for a full year. So you sound like -- you can't take $30 million off the top of where we are. You could take it off of our ECD business back in 2013. You'll see north of $30 million savings in that. But as it flows through, I mean I think you see really a little more of our overachievement because you might have said, "Well, gee, that's just going to offset it." And as we actually -- you'll obviously see our expense posture coming down. But it's not coming down $30 million off of the new total exiting that quarter.

Aaron C. Rakers - Stifel, Nicolaus & Company, Incorporated, Research Division

So I should think about this absolute level on a forward basis or maybe creeping a little bit higher going forward?

Jeffrey W. Benck

Yes. Think of this on a forward basis. We're going to continue to look at opportunities.

Kyle B. Wescoat

Yes.

Jeffrey W. Benck

It's kind of culturally where we're at now and looking for new things. I think some of the big moves we've made like the site closure and we've had -- our resources are down quite a bit year-over-year, and so we've moved some big stones. But we're going to continue to stay on top of it. But I'm not -- I wouldn't directionally move you to something substantially different from the level that we're at, guiding for Q1.

Kyle B. Wescoat

And the expectation is we may have some expenses that -- like tape-outs or NRE that we're predicting in advance of the quarter that we're giving you guidance on. But at this particular time, we're not talking too much about that for the first quarter. But there will be times during that year that we will highlight something that might be out of the ordinary that might affect the exact trajectory of that.

Operator

Our next question is from Joseph Wolf from Barclays Capital.

Joseph Wolf - Barclays Capital, Research Division

Just on a housekeeping note, with the share buyback, are we -- I think there was a $200 million announcement. Are we done with that? And what should we be using to model the shares? Should we stay at that 73 million shares level? Or does that have any more fluctuations on that going forward?

Jeffrey W. Benck

So with the $47 million that we purchased back in this quarter from kind of the inception as we just kind of completed $150 million in buyback, as far as the go-forward, right now, we're kind of giving you the number to model into Q1. We're not currently in the market. We have an upcoming board meeting where we're going to discuss where we go from here. Obviously, we have the authorization for the $200 million. But we're staying close with the board on that and we'll continue to update you as we work through that. I think, you know, we moved pretty quickly on the first $150 million, probably quicker than people thought and been pretty active in a market. But given the pace and the activity at this point, we're not currently in the market buying back stock and haven't been since we kind of completed the $150 million in Q4. So when it comes to share count, I think you should be building off of this Q4 guidance that we've -- I mean, the Q1 guidance that we've provided.

Joseph Wolf - Barclays Capital, Research Division

Okay, perfect. And then on the technology side, you mentioned sales or new design wins in 10Gb, ODMs, OEMs. Could you talk a little of that end markets, cloud, and specifically, the cloud and Web 2.0 space, if you're doing some direct sales there? And there's been talk about a preference for 25G going forward versus 40G. So could you, I guess, just address that in terms of how you see the opportunity developing at the high end of the market?

Jeffrey W. Benck

Yes, yes. Absolutely. I mean, I don't always -- I guess when you say high-end it depends because some of it's driven by features versus just speed. But let me give you a little bit of color on that. When it comes to the cloud, we think Grantley's going to be a good cycle for us for the large web players. Given our OCP design wins with a couple of ODMs, which we think has an opportunity to fulfill direct into that, into those customers, we feel pretty good about that and excited about the opportunity. We have already won some customers that are what you'd classify as software as a service or cloud-like folks already. So we're participating there, and we've also seen pretty good traction in the telco space and some of the providers in that segment. So as we think about people that are in the cloud or around that, We feel like there's upside opportunity for us, but a lot of that's enabled with the Open Compute mezz cards and stuff that we're building for those platforms. Your other question was about 25Gb. We're -- we actually understand 25Gb SerDes really well given the work we've been doing with our ASICs. We fairly expect to support it, and we're really looking to harness this IEEE standard and participating in that, and we'd like to see how that fleshes out because there is a lot of discussion between 40 versus 25. And some people prefer 25. Some obviously -- the infrastructure already runs at 40 and we've got 40Gb today. So we fully intend to support it. But at this point, it's interesting to watch how the standards bodies play between these 2 speed interfaces. Clearly, opportunity up and above 10Gb as we're seeing across the product line.

Operator

Our next question is from Mark Kelleher with D. A. Davidson.

Mark Kelleher - D.A. Davidson & Co., Research Division

Great. Most of mine have been asked but just a couple of follow-ups. You talked about the Ethernet-Fibre Channel split going forward within network connectivity. Can I assume that in the quarter, the fourth quarter, it was Fibre Channel dominating just because we're not out with the new...

Jeffrey W. Benck

Yes. That's it. I mean, it was more driven by Fibre Channel. We had a good quarter with Fibre Channel. We really believe, based on the results that have been reported, that we gained a couple points of share, which is always good to see. And we feel pretty good about the 16Gb transition. 16Gb, it's starting to stream towards 15% of our business, so I see good opportunity there. I think we're really well positioned with that. And as target -- we still believe in target. I know people will say, "Oh, there's as not as much to talk about that." But we made a few comments about SSDs. We've done well with the SSD players, and we're seeing that they're picking Fibre Channel as their protocol of choice today for the arrays. Anyone that doesn't want to plug in an SSD card in their server is using Fibre Channel as the connect because of speed and latency and such. So that's -- I actually had one large OEM, storage OEM say -- he thinks Fibre Channel may grow based on that demand. I'm not quite there yet, but I think there's a good upside in target. But some of it has -- is really incident on the 16Gb adoption, particularly in the arrays. That's going a little slower. I wouldn't say that's approaching 15%. But they are out there now. Those solutions are starting to ship. We're -- we like this -- obviously, we like this VMAX3 and the launch coming out and what that means. So we'll continue to update you as we go, but we like the target space still a lot.

Mark Kelleher - D.A. Davidson & Co., Research Division

Okay, and just another kind of random question. The expenses related to the Broadcom patents, how long will those be going? Does that just depend on the end of life cycle of some of the existing products?

Jeffrey W. Benck

Yes. When you look at our -- at this point, we're -- there's some royalty licensing expenses that'll continue as our legacy silicon continues to ship under license. There's not near as much -- as you can imagine, there's not really any expense going on related to the litigation itself for like the retrial. That was canceled with the settlement of the case and stuff. So you'll see some -- and they're not minute because we still have quite a bit of legacy business. But it's not near as substantial as it was when we were spending multiple millions a quarter defending ourselves in the courts.

Mark Kelleher - D.A. Davidson & Co., Research Division

Okay. My last question, the 10% customers in the quarter, I mean, those that you have.

Jeffrey W. Benck

I haven't -- I didn't look at that. I don't know if I have that off the top of my head.

Kyle B. Wescoat

No, I...

Jeffrey W. Benck

Probably 2 or 3.

Kyle B. Wescoat

Two...

Jeffrey W. Benck

I mean, typically, we're pretty -- we're getting more diversified as time goes on across the customer set. One thing that...

Kyle B. Wescoat

Better quarter with our one customer...

Jeffrey W. Benck

Yes. One thing we're seeing is a lot of pickup in China and China OEMs. And year-over-year, I mean, we grew about 100% there. So it's great to see additional OEMs come into the mix that traditionally hadn't moved the needle. They're not at 10% yet, but that's kind of where we're at.

Operator

[Operator Instructions] Our next question is from Vlad Rom from Crédit Suisse.

Vlad Rom - Crédit Suisse AG, Research Division

So just trying to figure this out. So if you kind of look at the back half of this year, you have catalysts in the Grantley site, you have the IBM POWER8 being rolled out, right, and more volume? So for next quarter, it looks like you're guiding NCP about 9%, which is the rate that it's been declining against easier comps. And then the December quarter, which is theoretically when Grantley starts coming through, right, and when the Power starts coming through and more volume helps you. But you mentioned that over time, you think the high single-digit, low double-digit declines in Fibre Channel may be too pessimistic. So how are you discerning between the cyclical elements versus the secular elements?

Jeffrey W. Benck

Well, good question. It's a complicated question because we -- what we have -- you see SCOP that is quite a headwind that we're dealing with that is in a pretty significant decline, as we talked about, the north of 30%. And that's a pretty big headwind. Ethernet, we know it'll grow with Grantley and feel very confident about the potential for it to grow with Grantley in a material way although it feels more back-end loaded on the fiscal year that we just started just based on the Grantley. If Grantley goes quicker and higher, then that's maybe an opportunity. On the Fibre Channel, yes, we -- everybody in the industry would say, "Geez, we think it's less than that." "We think it's 5%." That's what some of the people and several of our competitors and our switch partners have all said. We felt like we saw it moving quicker than that, and I'm moving it a little bit to say we did better than that. And there's a couple of things that could help on Fibre Channel like the POWER8 refresh as we've talked about. And we also have this target opportunity we were talking about, Vlad. But target's a little further out -- I think -- So I think you have to kind of model both effects. You have to model the normal seasonality, where this quarter for us is usually seasonally down a bit. Then you've got some of the secular trends. But we've got some growth factors working against the -- some of the more mature businesses that are starting to decline. So that's why you get paid the big bucks to go help us figure this out, but we have our view. But right now, we're trying to give you what we see in the first quarter.

Vlad Rom - Crédit Suisse AG, Research Division

Okay, appreciate it. Just one more question. On the Ethernet side, how are you thinking about Fibre Channel over Ethernet versus kind of traditional Ethernet gaining share in the market and also the pricing dynamics within that?

Jeffrey W. Benck

Yes. We feel really good run on FCoE. We've been gaining share in FCoE. We saw some growth this quarter. That was pretty good. It's still growing for us. I think we -- based on our footprints, we've seen some of the large deployments of FCoE go with us. We still think it's 10% of the block storage and that's meaningful, but that's just one component of the strategy, Obviously, we have iSCSI. We've got the standard NIC products, and then we've also got our RDMA starting to come into the mix with the launch of our new ASIC. So there's going to be a lot of different protocols running on Ethernet. It has to be one component. It tends to be a higher-value component because there really are only 2 of us that participate in that today. So that we like the fact that there's higher value there and it blends in there. And I think that's probably why you see that participation is allowing us to maintain pretty solid margins, particularly with already a sizable 10Gb business. And over time, it'll be interesting how that plays out. With less players in the market already, with this combination that's happened with 2 of our competitors, then that's probably sort of a natural phenomenon that's good. So that's kind of our math on it.

Operator

There are no more questions at this time. I'd like to turn the floor back to Jeff Benck, CEO, for closing remarks.

Jeffrey W. Benck

Okay. Thank you, operator. Well, listen, we'd like to thank everyone for their participation in Emulex's fourth quarter conference call and wrapping up our fiscal year, and we look forward to catching up with you at upcoming conferences. And at this point, we'll end the call and wish everybody a good night.

Operator

This concludes today's teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day.

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