VMware Management Discusses Q3 2012 Results - Earnings Call Transcript

Oct.23.12 | About: VMware, Inc. (VMW)

VMware (NYSE:VMW)

Q3 2012 Earnings Call

October 23, 2012 5:00 pm ET

Executives

Paul Ziots

Carl M. Eschenbach - Co-President, Interim Principal Financial Officer and Chief Operating Officer

Patrick P. Gelsinger - Chief Executive Officer and Director

Analysts

John S. DiFucci - JP Morgan Chase & Co, Research Division

Adam H. Holt - Morgan Stanley, Research Division

Kash G. Rangan - BofA Merrill Lynch, Research Division

Philip Winslow - Crédit Suisse AG, Research Division

Heather Bellini - Goldman Sachs Group Inc., Research Division

Brent Thill - UBS Investment Bank, Research Division

Walter H. Pritchard - Citigroup Inc, Research Division

Richard G. Sherlund - Nomura Securities Co. Ltd., Research Division

Mark L. Moerdler - Sanford C. Bernstein & Co., LLC., Research Division

Brian Marshall - ISI Group Inc., Research Division

Jason Maynard - Wells Fargo Securities, LLC, Research Division

Operator

Welcome, and thank you for standing by. [Operator Instructions] Today's conference is also being recorded. If you have any objections, please disconnect at this time. And now I'll turn the call over to your host today, Mr. Paul Ziots, Director of Investor Relations. Sir, you may begin.

Paul Ziots

Welcome to VMware's Third Quarter 2012 Earnings Conference Call. On the call, we have Pat Gelsinger and Carl Eschenbach. Following their prepared remarks, we will take questions. Our press release was issued after close of market and is posted on our website, where this call is being simultaneously webcast. Statements made on this call include forward-looking statements such as those with the words will, believes, expects, continues and similar phrases that denote future expectation or intent regarding our financial outlook, product offerings, customer demand and other matters.

These statements are based on the environment as we currently see it, and are subject to risks and uncertainties. Please refer to the press release and the risk factors and documents filed with the Securities and Exchange Commission, including our most recent reports on Form 10-Q and Form 10-K for information on risks and uncertainties that may cause actual results to differ materially from those set forth in such statements.

In addition, during today's call, we will discuss certain non-GAAP financial measures. These non-GAAP financial measures, which are used as measures of VMware's performance, should be considered in addition to, not as a substitute for or in isolation from, GAAP measures. Our non-GAAP measures exclude the effect on our GAAP results of stock-based compensation, amortization of intangible assets, employer payroll tax and employee stock transactions, the net effect of amortization and capitalization of software and acquisition-related items. You can find additional disclosures regarding these non-GAAP measures, including reconciliations with comparable GAAP measures in the press release and on the Investor Relations page of our website. The webcast replay of this call will be available for the next 60 days on our company website under the Investor Relations link.

Our fourth quarter quiet period begins at the close of business December 14, 2012. Unless otherwise stated, all financial comparisons in this call will be in reference to our results for the comparable period of 2011.

With that, let me hand it over to Carl.

Carl M. Eschenbach

Thanks, Paul, and good afternoon, everyone. The financial and business results of our third quarter 2012 were once again strong despite a tough economic environment. The quarter went as expected, and we achieved record quarterly results for total revenue and non-GAAP operating income.

Total revenue for the third quarter increased 20% and license revenue increased 11% as compared with the same period last year. Our non-GAAP operating margin was 32.2%. Trailing 12-month free cash flows were $1.9 billion. After investing approximately $1.2 billion for acquisitions, including Nicira and DynamicOps, our balance sheet remains strong with cash and investments at quarter end of $4.4 billion. We ended the quarter with total unearned revenues of $3 billion.

Before I walk through financial details for the quarter, I'll first provide perspective on our business. Based on a record turnout at our recent VMworld user conferences, we see further validation that our customers are accelerating their journey to cloud computing. We hosted approximately 29,000 registered attendees at VMworld events in San Francisco and Barcelona and planned to host more than 20,000 people in the coming weeks at our Asia Pacific VForums and VMware Solutions Symposium series.

At these events, we answered two of our customers' major questions about cloud computing. The questions we hear most often are regarding what technology is needed in transitioning IT from a traditional siloed environment to a cloud environment and how IT should operate in this new cloud era. The Software-Defined Datacenter has emerged as the clear path to cloud computing, and has significantly expanded VMware's market opportunities. VMware's recent announcement of our vCloud Suite, is our solution to the Software-Defined Datacenter. It is an integrated suite of virtualized compute, storage, network and management functionality.

The vCloud Suite enables customer to automate IT and move them from being reactive in nature to becoming dynamic organizations that can deliver innovation. Although vCloud Suite became generally available late in the quarter and it's still early going, we're pleased with the initial bookings figures for Q3. Most suite sales have been tied to ELAs just as we had anticipated.

Cloud Ops is a set of consulting services provided by VMware and our Partner Ecosystem. It's a roadmap for the necessary business and IT transitions customers need to take as they migrate to Software-Defined Datacenter. Response to both the vCloud Suite and Cloud Ops have been encouraging from both partners and customers alike.

Feedback on our removal of vRAM pricing limits in the third quarter has been overwhelmingly positive. The resulting simplification in our pricing practices has made VMware easier to do business with, and remove a potential obstacle in closing deals. And our VMware service provider program, once again, tracked well in the quarter as public cloud providers continue to leverage our cloud infrastructure program for their service delivery. We believe this ecosystem of providers is second only to Amazon in public cloud market share and this program is one of the faster-growing parts of our business, with year-over-year bookings growth of greater than 50% in Q3.

We're very pleased with the early interest around Nicira. The level of excitement from cloud and service providers had been even stronger than anticipated. We've also seen enthusiasm from our largest enterprise customers. There are a number of proof of concepts underway that we expect to gradually move into production environments over time. Software-defined networking is still in its early days, but the great interest we've seen in Nicira only further validates our proud role as the SDN industry leader.

In summary, we're pleased with our results for the third quarter, and want to thank all of the people at VMware, our partners and our customers. In addition, we want to welcome our new employees from Nicira, DynamicOps and Pattern Insight.

Now I will walk through the financial details. Total revenues for the third quarter were $1,134,000,000, an increase of 20% from a year ago. Total revenue growth on a constant currency basis was 22%. International revenues represented 51% of total revenues. License revenues were $491 million, up 11% from last year and up 14% year-over-year on a constant currency basis.

Enterprise License Agreements were just over 24% of total third quarter bookings versus over 29% in Q2. This is an approximate 5% decline from Q2 and similar to the sequential change we experienced in Q3 last year. We had a healthy mix of new ELAs, as well as ELA renewals in the quarter, and we continue to see a very nice attach rate of non-vSphere solutions to our ELAs. Given the tough market conditions and increased customer scrutiny surrounding their IT investments, our continued strong ELA results reflect the confidence customer shows in the VMware platform.

Blended vSphere ASPs for Q3 were at the same level as the second quarter. Demand was strong for our cloud operations management tools including VC OPS and our cloud provisioning and automation tools. Much of the increased interest for these tools is being driven by the build out of private clouds within our customers' data centers. As customers continue to virtualize their data centers with vSphere, their interest level in our management and automation tools also increases. With the acquisition of DynamicOps, which is now known as vCloud Automation Center, we believe our position is strengthened as the infrastructure and management vendor of choice for cloud computing.

At VMworld Barcelona, we announced that the vCloud Automation Center is now part of our vCloud Suite product set and will be generally available in Q4. Bookings for our cloud application platform business also grew year-over-year. Just last week, we hosted over 1,000 attendees of our annual SpringOne developer conference in Washington, D.C. Our end-user computing solutions also had nice bookings growth year-over-year, with an uptake in deals over $1 million. We saw healthy demand for our core desktop virtualization product, View, particularly in the healthcare sector, where we've been building out a specialized practice. Our personal desktop products had a strong quarter. Following the release of Fusion 5, our Windows on Mac offering, and Workstation 9, the latest version of our personal virtualization software.

Turning to geo performance in Q3. U.S. revenues increased 25% year-over-year to a record $554 million, and international revenues reached a record $580 million, an increase of 16% as compared with third quarter 2011. U.S. federal government bookings grew slightly year-over-year and finished higher than expected, especially considering Q3 of 2011 was a very strong quarter for federal business.

Strong demand in Japan and China once again led our growth in the Asia Pacific region, and we are continuing to see increased opportunities for larger deals in these countries and many others. China, India, Korea and our Southeast Asia region, all had record quarters. These markets in Asia Pacific, plus other emerging markets around the world remain prime candidates for our core virtualization product. Weakness in Australia was an exception in the Asia Pacific region due to deteriorating conditions in the non-mining sectors of the economy.

European results were mixed. Demand in many countries was slower than expected, especially in Central and Southern Europe. Whereas, we had healthy year-over-year bookings growth in the United Kingdom. Management products continued to do well as did End-User Computing, where we closed $1 million-plus Lenovo deal in France. Latin America demand remains strong, particularly in Mexico and Brazil.

We are continuing to make progress in growing our global market presence. The investments we have made in our international market expansion are paying off, and we plan to keep investing in these markets in Q4 and beyond.

Turning to services. Software maintenance and support revenue was $551 million, up 29% as compared to last year. Customers continue to buy, on average, more done 24 months of support and maintenance with each new license purchased, illustrating their strong commitment to VMware as a core element of their datacenter architecture and long-term private and hybrid cloud strategy.

Professional services revenue was $92 million, also up 29% from last year, as we helped our customers with the business and technological skills necessary for migrating to the Software-Defined Datacenter. We were particularly pleased with our growth in education revenue. Total unearned revenue ended the quarter at $3 billion, up 2% sequentially and up 34% from a year ago. Long-term unearned revenue is $1.1 billion, and has increased 46% from last year. The complexity of unearned revenue has increased over time as a result of acquisitions and expanded product portfolio and a broader range of pricing and packaging alternatives. 80.7% of our unearned revenue is software maintenance and will be recognized ratably. 12.2% of our unearned revenue is software license revenue, which will be recognized either ratably or upon product delivery.

Increasingly, unearned license revenue is recognized ratably, which now represents over 50% of the total unearned license revenue balance. In addition, 7.1% of our unearned revenue is the result prepaid professional services, including education, which is recognized as the services are delivered.

We had a solid third quarter with slightly better-than-anticipated business with the U.S. federal government, offset by challenges in some countries, particularly within the EMEA region and Australia. We remained cautious about the potential for slower IT spending as we exit 2012 and we enter 2013. Despite these macro concerns, our deal pipeline remains solid as we enter Q4.

Initial demand for the vCloud Suite has been encouraging, and we are continuing to see increased opportunities for large deals that also include management and automation solutions, cloud application solutions and desktop virtualization.

With this backdrop, we expect fourth quarter revenues to be within a range of $1,260,000,000 to $1,290,000,000 or a year-over-year growth of approximately 19% to 22%. Fourth quarter license revenue is anticipated to be within a range of $587 million to $605 million or growth of approximately 14% to 18% as compared with last year.

For fiscal 2012, we are expecting total revenues of between $4.572 billion and $4.602 billion, an increase of 21.4% to 22.2% as compared with 2011. This has the same mid-point as our guidance we provided for 2012 on our July earnings call, and we reaffirmed at our financial Analyst Day in August. License revenue for the year is anticipated to increase within a range of 12.8% to 13.8%, reflecting our continued expectation of a seasonably strong Q4.

I will now provide some details on our operating margins. Unless otherwise noted, all references to our expenses and operating results are on a non-GAAP basis, which are reconciled in the press release tables and posted on our IR website. Our Q3 operating profit, measured on a non-GAAP basis, was a record $365 million or 32.2% of revenue, as compared with 31.9% in Q2 2012 and 30.3% in Q3 2011.

Year-over-year, third quarter operating margins benefited by 130 basis points from foreign exchange rates. We ended the quarter with approximately 13,300 employees. This includes about 600 net additions within the quarter. Q3 ending headcount is up by approximately 2,100 from the beginning of the year. Diluted non-GAAP EPS was $0.70 per share on 433 million diluted shares. Our non-GAAP tax rate was 18% and the GAAP tax rate was 19.7%. We expect the non-GAAP tax rate to be approximately 18% for 2012 and the GAAP tax rate to be approximately 2 to 4 percentage points lower than the non-GAAP rate.

The full year GAAP tax rate is expected to be a little higher than our prior guidance and is driven by the impact of the Nicira acquisition. Our non-GAAP operating margins exceeded our expectations in Q3 due to 3 main factors: Firstly, we decided to temporarily slow down hiring and marketing spend due to uncertainties in how Europe would perform and how the federal government fiscal year would end. Secondly, our professional services business had a favorable shift in mix towards higher-margin education business; and thirdly, we had conservatively assumed an earlier close date for Nicira. While we benefited from these factors in Q3, we see significant long-term growth opportunities, and we will continue to ramp our investments in product development, global market expansion and go-to-market capabilities.

With that in mind and taking into account our adjustments to GAAP operating income that Paul disclosed at the start of the call, we now expect our non-GAAP operating margin for the fourth quarter to be within a range of 31.5% to 32.5% including the full quarter impact of our acquisitions, DynamicOps and Nicira.

For the full year, we expect the non-GAAP operating margin to be within a range of 32% to 32.3%. The GAAP operating margin for the quarter, also taking into account these recent acquisitions and their impact on stock-based compensation and their amortization of intangibles, is anticipated to be approximately 13.5 to 15.5 percentage points lower than the non-GAAP operating margin. The full year 2012 GAAP operating margin is anticipated to be approximately 13.5 to 14 percentage points lower than non-GAAP operating margin.

Now onto our balance sheet and cash flow statement. Our balance sheet remains strong with cash and short-term investments at quarter-end of $4.4 billion, down approximately $950 million sequentially. During the quarter, we used over $1.4 billion in aggregate for M&A, capital spending and our share repurchase program.

Non-GAAP operating cash flows, which exclude adjustments for capitalization of software development costs and excess tax benefits from stock-based compensation, were $461 million for Q3 and $2.1 billion for the trailing 12 months. We adjust our operating and free cash flows for excess tax benefits because it converts to cash or reduces our tax liability.

Our total expected CapEx for 2012 is approximately $250 million to $270 million, which is down from our prior guidance of $320 million to $340 million. The reduction is primarily due to construction schedule changes for our Palo Alto campus, which will push expenditures into the first half of next year. Free cash flows for the quarter were $386 million and $1.9 billion for the trailing 12 months. Free cash flow per diluted share was $0.89 for the quarter and $4.38 for the trailing 12 months.

As a reminder, last year, our cash flows benefited from collection of tax receivables of more than $300 million, which covered both 2010 and 2011 tax years. For 2012, we are expecting to pay U.S. federal and state income taxes to EMC and are therefore not expecting any collection of tax receivables this year. The fully diluted share count was 433 million shares for the third quarter. We anticipate our fourth quarter and full year 2012 diluted share count will be approximately 434 million to 435 million shares.

To summarize, we are pleased with our execution and solid third quarter performance. We continue to manage our resources prudently while making key investments necessary to maximize our long-term growth. And despite the macro uncertainties and potential for slowing global IT and federal government spending, we do anticipate a solid Q4.

Regarding 2013, it is not certain how economies around the world will grow. Macro concerns in EMEA have not been subsiding and our experience in various countries within the region reflects spotty performance. Some economic reports have also reduced growth forecasts for other parts of the world. While we are comfortable with our guidance for Q4, given these macro uncertainties, we have decided to not provide an outlook at this time for Q1 2013 and plan to provide an update to you on our Q4 call in January.

Before I hand it off to Pat, I want to say a few words about how excited I am to welcome Jonathan Chadwick as our new CFO. Jonathan's management style and professional experience as a CFO at Skype and McAfee, plus his 13-year tenure as a Senior Finance Executive at Cisco, including nearly 3 years as Principal Accounting Officer, make him a perfect fit for VMware. I am very happy turning over the CFO reins to such an accomplished and capable executive. I also want to thank our finance team for their tremendous support during this transition and for all their efforts put forth over the past 6 months. I expect our upcoming CFO transition to be as smooth as our CEO transition. And with that, it's my pleasure to turn it over to Pat.

Patrick P. Gelsinger

Thank you, Carl. I want to start off by thanking the entire VMware team for their strong efforts in making this a solid quarter in a tough economic environment. I also want to thank my friend and colleague, Paul Maritz, for working closely with me in making a seamless transition. I'll add to Carl's comments about VMworld by saying, wow, what an impressive experience. VMworld San Francisco in August and VMworld Barcelona this month showcased a vibrant, overwhelming passion flowing through the VMware ecosystem.

Customer loyalty to VMware is strong, and feedback on the vCloud Suite strategy has been resoundingly positive. Since VMworld San Francisco, I've been engaging with customers, partners and employees through many group and one-on-one interactions, my very positive impressions are that VMware has deep brand and customer loyalty, an incredible partner ecosystem and an almost infectious passion on the part of our employees for what we do and what we stand for as a company. These interactions and impressions reinforce my view that we are on track with our strategy, which is to transform data center infrastructure, create new approaches to developing and renewing applications and support corporate end-users in a multi-device post-PC world.

VMware lit a spark in the industry by introducing our vision of the Software-Defined Datacenter and by acquiring Nicira. Our recently-announced vCloud Suite, which Carl just spoke about, is the first embodiment of this vision. We see a large part of the company's long-term growth coming from the vCloud Suite as it delivers on the promise of cloud computing for agile, elastic, efficient and reliable IT services by extending the benefits of virtualization and automation to every domain of the datacenter: Compute, storage, networking and management.

We also see opportunities for growth as we expand our product offerings for customers in both private and public multi-cloud heterogeneous worlds. This is our hybrid cloud strategy, which is clearly demonstrated by the Cloud Foundry, the only multi-cloud PaaS environment, which provides cross cloud support, whether from VMware, from vCloud partners or others.

vCloud Automation Center, which Carl also spoke about, helps VMware extend our vCloud Director capabilities to cover cross-cloud Infrastructure as a Service, Platform as a Service and Desktop as a Service, and set in place a common storefront for policy-based provisioning of workloads on any cloud. And Nicira, which provides us the ability to extend software-defined networking to a broader set of heterogeneous infrastructure pools. It complements the networking technologies already built into the vCloud Suite for this purpose. All of these capabilities help drive an expanded role for VMware in the datacenter, as we are the company customers increasingly turn to for help in transforming their IT and their business.

Moving forward, my priorities are to refine and accelerate our strategy. An example of this acceleration is the unification of the Nicira networking assets with those already under development by VMware to provide the best software-defined networking offerings in the market. This focus will help us continue building out our vision by strengthening software-defined networking technologies as a core pillar of our Software-Defined Datacenter platform. We plan to accelerate the adoption of software-defined networking through both service providers and enterprise customers.

Now I'd like to switch gears and welcome Jonathan Chadwick, our new CFO, who'll be joining Carl and me on the next earnings call. Jonathan brings incredible experience from his long tenure at Cisco and as CFO at Skype and McAfee. We are thrilled to have someone of Jonathan's stature joining our leadership team on November 5.

And finally, I'd like to thank Carl for doing double duty as both COO and CFO over the last 6 months. Carl has shown the true spirit and culture of VMware employees, simply doing whatever is required to get the job done no matter what the challenges might be.

With that, let me hand it back to Paul to start the Q&A session.

Paul Ziots

Thanks, Pat. Melissa, we're going to start the Q&A process. Also, for our listeners, we're going to have 3 finance executives attend the Q&A portion of the call, Pete Godbole, Francois Delepine and Mark Lang. Let's begin the process.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from John DiFucci, JPMorgan.

John S. DiFucci - JP Morgan Chase & Co, Research Division

Questions for Carl. Carl, you talked about Europe and the U.S. Federal government. But can you talk about another important demand source, at least I have some concern about, that's financial services. And what's implied in the guidance for this important vertical?

Carl M. Eschenbach

Yes. Thanks, John. So as we indicated, right, we did see some challenges in Europe, and I think our peer groups have indicated the same as well. But on the reverse, we were very pleased with our results in the Federal government sector in the U.S. As it relates to financial services, this is the second quarter in a row where we were actually very pleased with our financial services results. And as a vertical, these companies continue to either renew their ELAs or expand their existing ones and look to get more of our management and automation solutions to help drive more of their private Cloud infrastructure as opposed to just a highly virtualized environment. So, John, we have been very pleased with the results, and we continue to look at that as a growth vertical for us, both today and in the future.

Operator

The next question is from Adam Holt, Morgan Stanley.

Adam H. Holt - Morgan Stanley, Research Division

Maybe just a follow-up to John's question about what's embedded in the fourth quarter number. It doesn't look like the guide implies an acceleration for license revenue. Could you maybe walk through, what gets you comfortable there? And specifically, what do you expect to see on the ELA front? And it looks to us like your ELA should start to become a tailwind in terms of the amount that are up for renewal?

Carl M. Eschenbach

Sure. Thanks, Adam. So a couple things, so let me address why we're confident in the guidance we're providing for Q4. I think there's really 3 primary reasons: number one, when we look at our current pipeline, we think it's a solid pipeline and it actually does actually support our guidance; second, we've now had almost a full month to work with our geo [ph] leaders around the world and do a bottoms up forecast from the sales teams. And once again, we're confident in the forecast in how it relates to the guidance we've tried for Q4; and lastly, we're very excited that we will have our vCloud Suite available for the full quarter. And as you know, it's something we announced at VMworld in Q3. We only really had 2 weeks to sell it in the third quarter. So we believe that having the vCloud Suite available for the entire Q4 will allow us to have a very good Q4, especially as it relates to ELAs. And as you've seen in prior years, Adam, Q4 is traditionally the largest quarter for ELAs, both new and renewals, and we have confidence we'll see that same type of business dynamic here in Q4.

Adam H. Holt - Morgan Stanley, Research Division

If I could just ask a quick follow-up. You mentioned that the pricing change was roundly well-received by your customer base. Where do you think you saw that manifested? Did you see that in better win rates? Better competitive? Fewer attrition? What -- where do you actually see the benefit of the pricing change?

Carl M. Eschenbach

No problem, Adam. So we saw it actually in a couple places. Number one, the feedback from our channel -- let me start with that area first. The feedback from the channel was extremely favorable. And based on their interactions with customers, they believe it actually removed a potential barrier to closing deals, both in Q3 and in Q4 moving forward. From our direct conversations, interactions with customers, all of them believe we have now simplified the pricing model from VMware, which allows them to more easily secure, consume and deploy our solutions under a common licensing scheme. Where in the past, as you know, we had multiple licensing scheme based on vRAM limitations and based on a per VM charge for our management automation products. So our customers are excited about this simplification. The customers are excited that they can deploy as many virtual machines per CPU or socket as they want without having to sit back and monitor and manage what they're consuming from a vRAM perspective.

Operator

Our next question comes from Kash Rangan, Merrill Lynch.

Kash G. Rangan - BofA Merrill Lynch, Research Division

You sounded, obviously, very excited about the prospects for vCloud Suite. I just wanted to get a little understanding, it looks like I'm having a bit of a disconnect between the comment of 24 months of support, the ELAs as a percentage of your bookings are roughly flat on a year-over-year basis. I do see that they were down sequentially, but at the same time, your deferred revenues have typically grown even more than they have going from Q2 to Q3. They appear to be a bit on the soft [ph] , is this because of a change in billings and customers, and how customers want to engage in contracts, or just a timing of how certain deals got pushed out into Q4? Any color you can offer to help me bridge the understanding will be great.

Carl M. Eschenbach

Sure. So let me address your first question regarding the amount of SnS customers who purchased from us on each license. And it is, once again, greater than 24 months, that's both a combination of ELAs and non-ELAs, where typically we see more in ELAs because they're 2- and 3-year terms. But in general, we see a continued purchase of multiple years of support for each license, again, both ELA and non-ELA. As it relates to the sequential change, if you will, in our deferred license from Q2 to Q3, I think there's 3 or 4 different factors there: Number 1, clearly...

Kash G. Rangan - BofA Merrill Lynch, Research Division

Carl, it was more on the total deferred. Not so much in deferred license, but the total deferred itself has grown more from Q2 to Q3 in years prior than it has in this quarter.

Carl M. Eschenbach

So, I think there's a couple reasons to that, as well, Kash. Number one, as I indicated in my prepared remarks, we saw some macro headwinds in Europe, as well in Australia. So our bookings were lower in those regions, specifically in Southern Europe than we had anticipated. Another thing you need to keep in mind here is last year, we launched our vSphere 5 platform in early July, roughly July 11. This year, we launched our vCloud Suite, our vSphere 5.1 product and platform at VMworld, and we didn't have the opportunity to actually sell it into the market until mid-September. So we had a delta of 6 to 8 weeks in selling our new product this year versus last year, so that's definitely had an impact. And then another, as just as you know, as I said in my prepared remarks, our deferred license actually gets recognized, over time, ratably based on product delivery and other promotions that tie to the ELA. Specifically this year, in Q3, how things rolled off the books, we actually saw a $6 million increase against our midpoint of guidance for license that also impacted our license as a whole. And then the last thing I would say is when you look at our ELA opportunity within the given quarter, if you go back and look at our typical ELA cycle being 2 to 3 years, in 2009, not being the greatest year for ELAs, the total addressable market opportunity, as it relates to renewing of ELAs, was smaller in Q3. And as you know, ELAs typically have greater than 50% SnS or maintenance associated with them. So the decrease in license associated with ELAs in Q3 also had a compounding effect to our SnS. And they're the reasons you're going to see not as big of an increase in total deferred coming out of Q3 this year versus last.

Operator

The next question comes from Phil Winslow from Credit Suisse.

Philip Winslow - Crédit Suisse AG, Research Division

I just wanted to get some more details on just the management tool side, in particular just sort of what you're seeing in vCloud Director. And then obviously, the pricing changes you just made this summer with the introduction of vSuite. Just sort of what's been the -- any initial feedback from customers on that? Do you think this is going to help spur some of those proof-of-concepts and pilot tests that are going on there with vCloud Director, et cetera, to actually take on the full suite and really drive the attach rates of management tools up?

Carl M. Eschenbach

Yes, sure. So we've been very pleased with the growth of our management automation tools, and we've seen a very nice attach rate overall to vSphere, specifically more in ELAs only because when people buy an ELA, they're traditionally buying the entire suite or solution that we have to offer. And when people are looking to deploy a private Cloud, they clearly need management automation to do so. When we look at the vCloud Suite, as you know, we've now included a lot of the management automation products, including vCloud Director in each of the 3 different suite offerings, and we actually have a very exciting promotion that we have out right now that allows our Enterprise Plus customers to upgrade to the first level of the vCloud Suite to take advantage of vCloud Director as a provisioning and automation tool for a private cloud. So what we've seen so far is we've seen a nice uptake in the promotion, and we expect here in Q4, a very nice uptake in the vCloud Director -- I'm sorry, the vCloud Suite of products, and it will be specifically tied to ELAs more than non-ELAs. The other thing I would just mention is we've been very excited with the initial interest and uptake of our DyanmicOps solution, which is now known as vCloud Automation Center, and that also has now become part of the vCloud Suite. So I think, going forward, one way to look at the business might be more around the holistic solution that we're delivering through the vCloud Suite, and that will give a better picture or representation on our attach rates of our automation and management tools in the future.

Patrick P. Gelsinger

Let me just add Carl. Yes, we clearly have also seen the strength of VC OPS, our the operations elements of that. And that just reinforces the value of the overall suite to the management tools.

Operator

The next question comes from Heather Bellini, Goldman Sachs.

Heather Bellini - Goldman Sachs Group Inc., Research Division

I had 2 questions. One, I think, Carl, if you could talk with us a little bit about how big you view vCloud Suite for the ELA cycle in 2013? And then the follow up is, listening to your response to Kash, if we kind of take a look at the trajectory of the DR build in Q4, should we expect a better than seasonal growth rate given the softness this quarter, especially given the big jump in ELAs that you signed in the fourth quarter of '09, knowing that the third quarter was kind of bare bones in terms of ELAs?

Carl M. Eschenbach

Heather, just real quick, the second question again, could you just -- it's something about [indiscernible]

Heather Bellini - Goldman Sachs Group Inc., Research Division

Well, the -- I'm trying to get a sense of the trajectory of the deferred revenue build in Q4 because this quarter was sub-seasonal, right? And I heard your response to Kash, but should we expect a better than seasonal growth rate in the fourth quarter of this year? Because if you look back, the third quarter of '09, you really didn't sign any ELAs for obvious reasons. Then in the fourth quarter of '09, you had this massive jump sequentially. So I'm just trying to get a sense of how we should be thinking about the seasonality of DR in Q4, because that seems to be where a lot of the questions are centered around at least in my inbox.

Carl M. Eschenbach

Sure. Sure, it's not a problem. Thanks, Heather, for the clarification there. So let me in reverse order and talk about the deferred revenue as it relates to Q4. So we have, obviously, provided guidance for Q4 which was consistent with what we did last quarter. We have not made any changes to our guidance in Q4. I would say that, we expect to build deferred license revenue coming out of Q4, but not at the rate we did last year. We think there's still some challenges in the economy, we still think there's some headwind that we have as we look out in the global market. And therefore, we would not expect to build as much deferred license revenue as we did in Q4 of last year.

Heather Bellini - Goldman Sachs Group Inc., Research Division

What about collected deferred revenue, though?

Carl M. Eschenbach

Yes. In deferred revenue, I would say the same. Right? Deferred license is a component of deferred revenue which includes SnS, so I would say the same. We should not expect to build deferred revenue as a whole, at the same rate that we did last Q4. As far as the vCloud Suite, as you know, Heather, I indicated we're not going to provide any guidance for Q1 at this time. I can tell you, we are working on the modeling of the vCloud Suite and the impact to 2013 in Q1. And we thought it was prudent to get through Q4, see the uptake of the vCloud Suite in both ELAs a non-ELAs, and then we'll provide more guidance on Q1 in 2013 during our January call.

Heather Bellini - Goldman Sachs Group Inc., Research Division

Okay. And then just a follow-up, do you see this though as a big ELA -- for the ELAs that are renewing given that there is a significant increase versus this year, is this a big potential attach in your opinion?

Carl M. Eschenbach

At this time, we do believe that the biggest attach rate for vCloud Suites will be to the ELAs, for those people looking to build out an entire complement of a private Cloud for VMware. We think all the management automation tools that we've positioned in the suite itself is clearly something that will help drive the growth of ELAs and the renewing of ELAs that we have going into 2013.

Operator

The next question comes from Brent Thill, UBS.

Brent Thill - UBS Investment Bank, Research Division

Carl, on the U.S, you had a good quarter, actually accelerating growth. Can you just give us your view on what's happening in the U.S. when you x out Europe in your pipeline? And I was curious if you could just comment on September? There were some other large tech companies that said September got soft. I was curious if you saw the same thing in September?

Carl M. Eschenbach

Yes. Sure. So we did have a strong quarter in the U.S. and primarily driven off the back of the Federal government. I think everyone was sitting back as they entered September, including us, wondering whether or not we would see the traditional fiscal year end flush come out of Federal. We think we fair better than most in the percentage of wallet spend that came our way was higher than our peer groups from what we can tell. It really goes to show the strength of our ROI and TCO for the Federal government market as a whole. We were also pleased with execution in the U.S. We did close a number of ELAs in September. And as we entered September, there was a question as to whether or not customers would move forward with some of these, but I was really pleased with the execution across the board in the U.S. and in the Federal business as a whole. And one other point I think we should mention, right? Because some people are thinking about our international business, in that it was a slower growth as compared to the U.S. But you have to go back and look at the tough compare we had last year in Q3. In Q3 of last year, we grew our international business 42% year-over-year versus the U.S. was up 22%. So we had a little bit easier compare in the U.S. as compared to what we saw in the international markets on a year-over-year basis.

Brent Thill - UBS Investment Bank, Research Division

Okay. Just a quick clarification. You've mentioned a number of the large deals in the past. I didn't hear that in the prepared remarks. Were there any large deals over $10 million in the quarter?

Carl M. Eschenbach

So I think in Q3 -- or, I'm sorry, in Q2, in July, we mentioned that we had 4 deals greater than $10 million in Q2. In Q3, we had 2 deals greater than $10 million, so it was down sequentially, which also reflects the sequential decline in our ELA business.

Operator

The next question is from Walter Pritchard, Citigroup.

Walter H. Pritchard - Citigroup Inc, Research Division

Great. I guess what we're hearing on the call to some degree is that ELA activity was weak and then it will reaccelerate. But I guess, if I look at the numbers, I see that deferred license revenue actually declined more than it does typically. And if I calculate sort of a license billings number, it looks like it was roughly flat year-over-year. And my understanding is the ELA renewal business usually doesn't bring a lot of license with it. So I'm wondering, it doesn't appear like the ELAs are really the source of the weakness here. ELAs, in total, grew faster than the total billing and total revenue. So I'm just trying to understand, on a mix of business perspective, if you look at the different components, what was the source of weakness here?

Carl M. Eschenbach

Yes. So I think there's a couple things. If you just look at the headwinds we were facing with the macroeconomic challenges, specifically in Europe and in Australia, it was a tougher quarter from a bookings perspective. There is no question about that. I also think, as I said earlier, we had a delta, year-over-year, specifically in selling a new product into the market of approximately 8 weeks. And we did have a currency headwind that negatively impacted our license bookings by about 200 basis points. So if you combine all of those together, you can start to see some of that challenges as you back into your external bookings number from both license and the total bookings number as a whole. With that being said, if you looked at our sequential Q2 to Q3 drop in ELAs, we were down about 5 percentage points against total bookings, which was consistent to prior years. So I don't think it was specific weakness in ELAs or our transactional business, I think it was just a tougher climate that we were selling in and against. And specifically in Europe and Australia, we didn't see the growth that we had maybe anticipated, but it was offset by strength in the Federal government here in the U.S.

Walter H. Pritchard - Citigroup Inc, Research Division

And then just so I'm clear on Q4, you're expecting that you would build deferred license revenue during the fourth quarter as you typically do it? Is that the right way to think about it?

Carl M. Eschenbach

We do anticipate building deferred license exiting Q4, but not at the same rate we did in 2011.

Operator

Next question comes from Rick Sherlund from Nomura.

Richard G. Sherlund - Nomura Securities Co. Ltd., Research Division

Two questions. First, did I miss -- have you disclosed what percentage of your ELA bookings, the non-vSphere products represented in the quarter?

Carl M. Eschenbach

No. No. We haven't, nor have we in the past. We have not broke out, right, our license bookings by product.

Richard G. Sherlund - Nomura Securities Co. Ltd., Research Division

I'm sorry, just maybe not license but the total. I think it's been running around 20%, am I mistaken?

Carl M. Eschenbach

What we've said in the past is when you looked at our bookings, right, management automation as well as our end-user computing solutions, it's been approximately 10% of bookings. This quarter, it was slightly greater than 10% each.

Richard G. Sherlund - Nomura Securities Co. Ltd., Research Division

10% each?

Carl M. Eschenbach

Yes.

Richard G. Sherlund - Nomura Securities Co. Ltd., Research Division

Okay. And going out to next year with more ELAs coming up for renewal and easier comparisons as well, one might expect to see some stronger growth. But I'm curious on the timing of renewals, should we expect ELAs to renew on their anniversary date or is it possible that we could see customers maybe motivated to do early renewals?

Carl M. Eschenbach

I mean, we have a mixture of the timing of how our ELAs renew. A lot of them -- or I would say, the majority of them renew within the quarter they expire. Some of them actually renew early, based on demand or based on build out of private clouds where they may need more management automation solutions. And some, actually, renew 1 or 2 quarters later. So it does vary. But for the most part, our expectation is that our field works hard leading up to the renewal date of the ELA in trying to get them renewed within the given quarter they expire.

Richard G. Sherlund - Nomura Securities Co. Ltd., Research Division

But there are no inducements for early renewals?

Carl M. Eschenbach

Not at this time.

Paul Ziots

And before we go to the next question. Just -- I know Carl was clear, but management and EUC products were each slightly greater than 10% of license bookings in Q3. Just in case anybody didn't catch that, we know that's a frequent question. It was each.

Operator

Next question comes from Mark Moerdler from Sanford Bernstein.

Mark L. Moerdler - Sanford C. Bernstein & Co., LLC., Research Division

So on maintenance, looking at the numbers, it's a bit slower than year-over-year growth this quarter versus last year, and then a bit slower than the year before that. Is this just simply the build on the percentage of licenses? Or is this something in terms of the total, other tough comp or something else driving that?

Carl M. Eschenbach

I think it is a build on licenses. And the other thing to remember is, as I said earlier, we had a smaller base of ELAs to renew within the given quarter in Q3. And when we do renew ELAs, it typically has greater than 50% of maintenance associated with the renewal of ELAs. And if you were at the Financial Analyst Day, I think we actually showed for 2011, it was 58%. So with a lesser number of ELAs to renew within a quarter, we did not see the uptick that we traditionally would see in a quarter where we had some strong ELA growth, because there wasn't as much maintenance associated with those ELA renewals.

Mark L. Moerdler - Sanford C. Bernstein & Co., LLC., Research Division

But the ELA -- the maintenances themselves within the ELAs renewed at the roughly the same rate?

Carl M. Eschenbach

The -- well, they do renew -- they renew at the same rate and we get the new, as portion of the ELA renewal, we get the old SnS that gets incorporated with the new SnS, so it's actually always and typically goes up.

Mark L. Moerdler - Sanford C. Bernstein & Co., LLC., Research Division

Right. But there's no -- people aren't renewing maintenance at -- in any way, shape or form. It's renewing at the same rough rate?

Carl M. Eschenbach

That is accurate. They're renewing -- when we renew ELAs, they renew both the past maintenance and all net new maintenance on the additional products they're purchasing under the ELA.

Operator

Next question is from Brian Marshall, ISI.

Brian Marshall - ISI Group Inc., Research Division

I have a big picture question for Pat. If you think about how companies migrate down this virtualization journey, from a dev test to production and admission, critical, obviously, Tier 1 workloads anywhere from 0% to 30%, 30% to 50% penetration. Now we're kind of finally entering in that final push to what I think is 75% with respect to mission-critical Tier 1 workloads. And can you talk a little bit about your thoughts with respect to how the annual rate of adoption of virtualization will progress in this final sort of phase, if you will? Is it going to be faster or slower than in the past and why?

Patrick P. Gelsinger

Sure. And we do see this adoption cycle that we're going through with our customers as they move to, right, a broad acceptance of virtualization in their environment. And we've described it as they go from dev, to test, to virtualization, to Cloud, right? And the next phase, this really is associated with a much broader adoption, right, of -- beyond just vSphere, but many more of the components of the Software-Defined Datacenter as we're laying out many more of the management automation tools, as well as typically also participating more with public Cloud offerings, as well, for which we've seen, as Carl mentioned, very good adoption through our VSPP program. However, inside of that, there is this challenge of the mission-critical environments that you point to, and that's one where we have seen very good success over the last 2 years of moving SAP, Oracle and other mission-critical workloads are now moving to production environments on a virtualized platform. And when that occurs, we have become the mission-critical environment for our customers. We have become the environment that now it's not just test to dev like a certain Microsoft or Linux workloads, but it now has become the standard for our customers. And to us that is really the area where we're seeing the maximum return, the maximum operational benefits and the true transformational operations that Cloud provide. And we now have a large number of customers there that are seeing that as the next phase of the journey that our customers are on.

Brian Marshall - ISI Group Inc., Research Division

And you think that the slope of that curve could actually increase going forward? Do you think it would kind of maintain the same range or what's your view there from an industry-wide sort of big picture perspective?

Patrick P. Gelsinger

Well, we definitely see that these are the highest value. So I think the rate of adoption, we haven't seen a fundamental shift in the rate of adoption of virtualization. But as we're now moving these mission-critical environments to our customers, this is the highest value areas, and that carries typically the richest opportunities for the rest of the vCloud Suite. And that's why we're seeing such excitement in the announcements around vCloud Suite and many of the additional components thereof.

Paul Ziots

Melissa, this will be the last question, please.

Operator

Yes, sir. Last question comes from Jason Maynard, Wells Fargo.

Jason Maynard - Wells Fargo Securities, LLC, Research Division

I appreciate the commentary around the macro challenges, but I'm curious to get your take. Do you think maybe any of this might have something to do with System Center 2012? The combination of the vRAM tax sort of coming to a head here, where you start to see a little bit more challenging environment now that Microsoft has a product in the market? So let me get your take just on the competitive positioning and what you actually see with that particular competitor?

Carl M. Eschenbach

Yes, so let me start there, Brian -- I'm sorry, Jason, and then I'll hand it over to Pat. So first, System Center 2012 and the Windows 8 platform is not even in the market yet, so I don't think it had any impact whatsoever on Q3. Clearly, VMware is not immune to the macro headwinds that we're all seeing in the economy. So I clearly attribute Q3 and our Q4 guidance much more to the challenges we see on a global basis, and not seeing any of the concerns in EMEA subsiding like we would all hope. At the same time, we continue to see our customers renew their ELAs. They continue to leverage our platform to build out private Clouds and federate their workloads in a hybrid Cloud environment to our VSPP partner. So while Microsoft is coming to market with a new platform, I think it should be called out that this is about the third time in the last 7 years that we've seen them come to market with a stance that they now have a good enough product. And at the meantime, VMware has not stood still, we've continued to innovate and bring things to market like the vCloud Suite. Pat, maybe you can provide your thoughts.

Patrick P. Gelsinger

Yes. Just at a broader level, the Software-Defined Datacenter vision clearly is a far more comprehensive set of technology. And the first instantiation instance of that is through vCloud Suite, we believe, fundamentally separates us from many of the competitor alternatives at this point, the combination of our private Cloud as well as public Cloud offering, announcing true hybrid Cloud operations across those. We see that the competitive environment, yes, is one that we always have to be paranoid of. As my long-term strategic mentor Andy Grove would always say. But one that we feel like the offerings that we have in place and the vision that we've laid out for our multiyear deliveries into the future clearly separates us from the industry, and we expect to see continued long-term success as a result.

Paul Ziots

Thank you, Jason. That concludes our call.

Operator

Thank you. And this does conclude today's conference. All parties may disconnect.

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