Good morning, and welcome to the EMC Third Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. If you have any objections, you may disconnect at this time. I would now like to introduce your host, Mr. Tony Takazawa, Vice President, Global Investor Relations of EMC.
Thank you. Good morning. Welcome to EMC's call to discuss our financial results for the third quarter of 2012. Today, we are joined by EMC Chairman and CEO, Joe Tucci; and David Goulden, EMC President and COO.
To kick things off, David will comment on our results and how these tie with the execution of our strategy. He will also discuss our outlook for the rest of 2012. Joe will then spend some time discussing his view of what is happening in the economy and IT, EMC's vision and strategy and how EMC is helping customers navigate the massive transformation happening in IT regarding cloud, Big Data and Trust. After the prepared remarks, we will then open up the lines to take your questions.
Please note that we will be referring to non-GAAP numbers in today's presentation, unless otherwise indicated. The reconciliation of our non-GAAP comments to our GAAP results can be found in the disclosure in today's press release, supplemental schedules and the slides that accompany our presentation. All these are available for download within the Investor Relations section of emc.com.
As always, the call this morning will contain forward-looking statements and information concerning factors that could cause actual results to differ can be found in EMC's filings with the U.S. Securities and Exchange Commission.
We are also providing you with an update to our projected financial model for 2012. This model lays out all of the key assumptions and discrete financial expectations that are the foundation of our 2012 outlook. We hope that you find this model helpful in understanding our assumptions in context and in ensuring these -- that these expectations are correctly incorporated into your models. This model is available as background in today's slides, available for download in the Investor Relations section of emc.com.
With that, it is now my pleasure to introduce David Goulden. David?
David I. Goulden
Thanks, Tony. Good morning, everyone, and thank you for joining us today. This morning, we reported continued growth in revenue and earnings per share in Q3, with revenue up 6% and non-GAAP EPS up 8% over last year's Q3. Free cash flow grew 16% year-on-year.
The environment in Q3 turned out to be more cautious than we had expected. There were several issues weighing on customers' minds, including uncertain global economic growth and the U.S. presidential election. The macro challenges translated into more spending scrutiny, longer deal cycles, additional approval requirements and the resulting delay in IT deals. While the macro factors caused EMC's growth to be less than expected, I'm pleased that we did show growth in this challenging environment. And as tech industry results are reported, I believe EMC will be one of the stronger big companies and that we certainly gained share.
We also showed EPS leverage and achieved a number of Q3 quarterly records, including record revenues, record non-GAAP operating income and record non-GAAP EPS. In the face of such headwinds, I believe that our strategy, balanced portfolio, operational model and ability to execute are paying off near term and position us well for the long term.
While we need to navigate the short-term economic challenges, the longer-term secular changes offer us an opportunity to be really successful. The shift to cloud, Big Data and Trusted IT bode well for us, as we've been at the forefront of these for some time. These trends are in full force, because they enable companies to capture a better return on dollars invested in IT than ever before. Cloud architectures make the infrastructure more agile and efficient, whilst Big Data enables new insights that could help grow the top line, and all this must be done in a trusted way. At EMC, we understand the company that can best deliver this ROI wins, and we continually invest to make this happen. The result is innovative, practical, customer-focused additions to our product lines.
And during times when spending is tight, our focus on high-priority areas of the data center like virtualization, security and storage serve us well. Customers needing to be extra cautious about where they spend their budgets, first direct their dollars to high-impact areas and the most cost-efficient technology within those areas, in other words, to best-of-breed offerings like our own.
The drive for great efficiency and business value from IT extends beyond economic cycles and is gaining momentum as more customers shift more of their spending towards cloud architectures, private clouds, public clouds and hybrid clouds. Running a cloud infrastructure means leveraging pools of network and storage and server resources that are dynamically allocated to new and existing applications based on demand. This is not easy. And as a result, most companies building clouds, either private or public, have neither the full set of resources nor the IP to build these architectures themselves. A few do, but the rest seek an infrastructure that can get them there without having to compromise on important enterprise class features. These include capabilities like replication to ensure data availability and business continuity; efficiency features like tiering, deduplication and compression; backup, with best-in-class recovery points and recovery time objectives; security that's agile and risk-based; and virtualization, a key component for achieving the control, efficiency and choice clouds can deliver.
Our approach to using our own internally developed software, integrated with industry-standard hardware that has been tested and tuned, enables us to deliver value to a customer that we believe is unparalleled amongst our peers. This formula is in lockstep with the transition to hybrid cloud and should keep us at the forefront of data center infrastructure.
While we saw somewhat slower growth across the board due to the economy in Q3, we believe we are better positioned than our competitors to deliver value to our customers. As companies look to invest in the data center technologies that will support hybrid cloud architectures, they prefer storage solutions that will be optimized for the task at hand. We saw evidence of this in Q3 as our portfolio of complementary network storage platform products was up 2% over last year's Q3.
Having different storage functionality for different application and workload needs is an important part of our strategy, and we work diligently to create a full complement of scale-out block, scale-out NAS, unified and backup solutions. Companies in all sectors of all sizes and with all sorts of IT challenges can look to us for a solution, which in many cases, is several different storage technologies within the same customer. While demand for various technology may ebb and flow quarter-to-quarter, this broad portfolio enables us to stay engaged with customers as we work to solve their problems, and it helps to drive our business over time.
Our high-end storage products grew 5% over Q3 of last year. Our Symmetrix scale-out block solution had its first full quarter of availability for the refreshed family of VMAX 10K, 20K and 40K, and customers are embracing it. The new software functionality leverages the powerful standards-based hardware to deliver high-end reliability, availability and serviceability via an easy-to-use Unisphere interface. The transition to the new family continues to ramp well, and we expect it to be essentially complete by year end.
Our mid-tier storage, comprised of our scale-out file, unified and backup solutions, was flat year-over-year for Q3 and up over 10% year-to-date. This quarter, results were driven by the Isilon scale-out NAS business. Isilon continues to do well in its traditional area of strength such as media and life sciences whilst expanding its presence in more traditional enterprise environments. The upcoming new Isilon OneFS operating system, Mavericks, which is on track to ship before year end is designed to drive Isilon into new verticals and expanded use cases.
For unified block and file environments, customers continue to rely on the simple and efficient architecture of our VNX Family. Revenue in Q3 was down in the mid-single digits year-on-year. Given the environment, demand for the family was pretty good. However, due to the later-than-expected timing of some channel-related orders, we couldn't ship these orders in Q3 and had to move them to Q4. What was encouraging though is that the overall growth to our channel partners continued, driven in part by the popularity of VSPEX. In addition, our recently announced partnership with Lenovo will provide an incremental channel for the VNX Family over time, starting in China.
Our purpose-built backup appliances, Data Domain and Avamar grew in Q3. It's worth noting that this business had a tough compare year-on-year and also suffered a bit from some delayed procure decisions by customers. While a pushout of these orders has an impact on Q3, we've already closed several of these deals early in Q4.
Customers need comprehensive and leading-edge backup solutions as part of their next-generation data centers. A good example of how important the full backup portfolio is for the customer is Ochsner Health System, which has gone tapeless with its combination of Avamar, Data Domain, NetWorker, Data Protection Advisor and Disk Library for mainframe backup and storage environment, which is based on VMAX and VPLEX. The strategic value of having a strong Information Storage portfolio is clear, as we see customers adopting a broad range of EMC solutions to optimize the application environments.
In Q3, we won a deal with the government administration that needed to accommodate 80 terabytes of VM storage and 850 terabytes of scientific data. A combination of VNX with 6 terabytes of Flash capacity and Isilon, provide the best value and the most efficient, scalable and easy-to-manage solution.
We closed another deal in Q3 with a large health care company where having the full portfolio of storage solutions made the difference to the customer. This company needs a solid storage infrastructure to roll out several new applications in 2013. However, their old and failing storage infrastructure left them no room to grow, and their backup solution was severely lacking. A combination of VNX, Data Domain, Isilon and RecoverPoint handily beat the storage technology proposed by the incumbent server vendor.
One of our more rewarding customer wins, illustrating the full value of the portfolio was with Cancer Research UK. With the combination of VFCache, VNX with Flash drives, vSphere, Data Domain and NetWorker, Cancer Research UK increased performance, improved efficiency and improved their disaster recovery capabilities. This example demonstrates the value Flash can add across the infrastructure, and we've made "Flash everywhere" a central tenet of our data center strategy.
We first introduced SSDs on storage arrays back in 2008. We followed soon after that with the introduction of FAST software to automate the placement of data onto Flash for hot data and onto different types of disk for warm or cold data. And now 4 years after their introduction, these hybrid arrays have become the norm. Over half our arrays now ship with Flash drives and our FAST software. These intelligent, tiered network storage arrays provide a rich set of data services for data management, data efficiency and data availability. These intelligent arrays enable customers to derive more value, better performance, higher application availability and a lower total cost of ownership from their storage infrastructure than ever before.
We extended our Flash capabilities with the development of VFCache, which is focused on turbocharging existing line of business applications in conjunction with storage arrays. In the case of Cancer Research UK, adding VFCache to their Oracle CRM application allowed them to reduce database query time by a factor of 6 and increase throughput by a factor of 3, allowing to complete 4 fundraising campaigns in the time it used to take them to complete one.
We continue to innovate here as recent enhancements to VFCache demonstrates. The additions to VFCache we introduced last quarter include cache deduplication for server Flash, the first in the industry; interoperability between VFCache and vMotion; enhanced integration with VMAX; an expanded capacity VFCache PCIe cards, as well as multiple PCIe cards per server, for larger cache sets and greater performance.
While VFCache is a focused cache use case for server-based Flash, it provides impressive intangible performance benefits for customers' enterprise applications, and the number of VFCache customers approximately doubled last quarter. There is much more to come as we continue to roll out our "Flash everywhere" strategy. And as we've previously stated, next year, we expect to bring to market new technologies. We plan to broaden our focus on server-based Flash by introducing best-in-class capacity and cost-optimized PCIe-attached DAS for performance-intensive applications that don't require storage data services.
We'll introduce Project Thunder, an all-Flash storage appliance that attaches to the server network and allows the sharing of Flash resources across a multiple of these performance-intensive applications. Project Thunder leverages the same software we're developing for VFCache.
We'll also introduce Project X, our innovative, all-Flash, scale-out storage array designed to offer the full data services of a storage array and the sub-millisecond performance provided by Flash. This is ideal for applications where 100% of the data is hot, or where the data is highly dedupable such as VDI or database test and dev environments. The customer access programs for these upcoming Flash technologies are going very, very well and generating a lot of interest and excitement.
Across all our Flash products, the magic that brings Flash to life is our software. A great example of this is FAST, which automates the migration of data across tiers of storage based on patterns of use, both within a hybrid array and even across the interconnect to the server tier. FAST is so efficient that in some cases, 1% to 2% of the total capacity in Flash within a hybrid array can process over half the IOCs of the entire array.
Our foundational play in Big Data, Greenplum, continues to help customers exploit the growing potential of Big Data analytics. Wins in Q3 include the deployment of Web analytics for a large government organization, website analytics for one of the largest retailers in the U.S. and one of the largest mobile telecoms in the U.S., a large-scale implementation to decrease the cost of data transformations in billing analytics. In this case, the customer was able to displace the incumbent data warehouse it was using for ETL with a far less expensive Hadoop map-reduce framework on Greenplum.
Longtime EMC customers are also eager to capitalize on the data that they own as a large win at a global financial services company attests. As part of purchase that also included Vblock, VNX, SourceOne and Centera, this customer selected Greenplum for analytics of their e-mail. Greenplum continues to grow at strong double-digit rates.
We're excited to have Paul Maritz spending a lot more of his time on our Big Data and next-generation application initiatives and look forward to expanding these initiatives in ways that will enable customers to take the full advantage of the potential Big Data offers.
Like Big Data, security is also an area of focus with customers. As pro rata-based approaches to security become increasingly ineffective, customers are seeking new technologies that can help them better understand risk and defend against today's advanced threats. RSA continues to benefit as a result, with revenue up 6% year-on-year in Q3. Revenue from our security management and compliance business grew over 30%. The ability to manage risk and defend against advanced threats inside a network is an extremely hot area right now. Our SMC business provides the security analytics and GRC solutions to address these challenges, that just about every organization is facing.
Our Identity & Data Protection business was impacted by 2 factors, specific to our secure IT business. The slowdown in overall hiring and employment, especially in Europe and Asia, was a stronger headwind than we expected, while last year's remediation of tokens disrupted the normal renewal cycle more than we expected. A cycle of product introductions expected in early 2013 will enable us to deliver new form factors of authentication and better address the authentication needs for mobile and cloud computing. Customer movements towards risk-based approaches and to security delivered as a service present great potential for our IDP business. We are more confident than ever that our security strategy, which is centered on agile solutions to combat emerging threats, is the right one.
Revenue from our Information Intelligence Group was down 2% in Q3. License revenue continued to grow sequentially. IIG is innovating, creating solutions that are easy to deploy, easy to use and highly aligned with customers' needs. We've been leveraging the services expertise developed in specific verticals to create content-management-enabled solutions tailored to industry-specific requirements. A recent example is our Integrated Patient Record solutions, which enables health care organizations to access, share and transform disparate patient data, regardless of format or location and, importantly, lower cost in doing so. Our software developed especially for engineering plants and facilities management is also gaining traction.
VMWare revenue grew 20% over last year's third quarter as companies continue to expand their virtual infrastructures to reduce the overall cost of their IT infrastructures and to put them on the path to cloud computing. We continue to enhance our integration with VMWare, and this is making a difference with customers.
As you can see here, the percentage of customers survey who preferred EMC for their virtualized environments has increased significantly in just the past 6 months. This affinity will continue to be important, as VMWare moves in the direction of the software-defined data center, which is emerging as a clear path to cloud computing. While software-defined data center enables the dynamic creation of virtual infrastructure to leverage the underlying physical infrastructure, continued innovation in the infrastructure elements is essential in order to realize the full potential of a software-defined data center. We're excited to work towards reducing IT's complexity and costs via the automation the software-defined data center enables.
Our go-to-market model continues to evolve as customers' options for how to leverage IT expand. We offer 3 avenues to get our customers to hybrid cloud: best-of-breed infrastructure components, proven infrastructure through VSPEX and converged infrastructure with Vblocks. Our services organization uses all 3 of these approaches as they continue to transition customers to cloud architectures. While customers deferred some discretionary consulting projects last quarter, and revenue from implementation services was impacted by a lighter storage product revenue, our services team continues to demonstrate its value to EMC's business strategy.
Among the major EMC services wins achieved in Q3 was a 5-year enterprise-wide IT and consolidation initiative based on Vblock, VMAX, VNX, Data Domain and Avamar. This win at a global pharmaceutical company, completely displaced the incumbent server vendor and storage vendors with solutions from EMC and VCE and qualifies as one of the largest professional services deals ever.
Our channel partners are also leveraging all 3 paths to the cloud, and VSPEX has become especially popular. With a variety of configurations through our partners to accommodate customer preferences, including technology from Citrix, Microsoft, HP, Cisco, Brocade and VMWare, VSPEX partners have a lot of freedom to create solutions they need and provide a lot of value for their end-user customers. In its first full quarter of availability since launching VSPEX in April, partners have sold well over 300 VSPEX systems, and because VSPEX solutions are simple, predictable and profitable, we expect that number to continue to ramp.
We have made enormous progress in truly teaming with our channel partners, and as a result, our channel program continues to earn accolades. In Q3, EMC was named a Rising Star by the Global Tech Distribution Council, and we won 4 Company of the Year awards by CRN. With continued partner-centered innovation like the Q3 enablement of the Velocity [ph] distribution partners to assemble VSPEX for resellers, we expect to remain a favorite amongst our partners.
Our service provider program is an important part of our strategy to get customers to public cloud, and we continue to make progress here with revenue from service provider program partners up over 40% from Q3 of last year. In Q3, CSC extended their well-established, EMC-powered BizCloud offering into a new vertical. Terremark, a Verizon company, completed their first EMC-powered public cloud offerings on Vblocks. Telstra expanded their cloud services in the quarter on EMC infrastructure. And Rackspace recently extended its global relationship with us to include Australia and New Zealand markets. EMC is the only external storage platform offered in Rackspace's new Sydney data center as Rackspace continues to make considerable investments in our storage technology. Our family of storage products from Atmos through to VMAX resonates with service providers, as it enables them to offer a full range of service levels to their customers with EMC as their infrastructure partner with deep technology and support capabilities.
Finally, accelerating customers' journey to the cloud is the aim of our joint venture VCE. VCE continues to do very well with demand up approximately 30% year-on-year and approximately 20% quarter-on-quarter. This was obviously helpful to our year-on-year growth in Q3, as revenue from our components of every Vblock sold increases our storage and virtualization revenue. Vblocks continues to gain traction both in enterprise data centers as well as in service providers, and we saw this in Q3. A U.S.-based chemical company purchased 4 Vblocks as part of a solution that also included Data Domain, Avamar and Atmos. A European insurance company purchased a Vblock, alongside several VNXs. And a large construction equipment maker purchased Vblock with Data Domain and Avamar for Data Protection. Among service providers, CSC continues to expand their build out of Vblocks to power their public and private cloud businesses. Additionally, the second largest telco in Japan, SoftBank, will standardize on Vblock for their cloud-based offerings. SoftBank is already using Vblock systems for internal IT operations. In fact, 10 out of the top 15 global telcos are now Vblock customers.
In sum, our go-to-market model enables us and our partners to make the right tool for the job available to many types of customer in the way that makes most sense for them. Our Q3 financial results were supported by our strong competitive position. While macro headwinds increased during the quarter, we still grew the overall business by 6% year-on-year. Within this, North America grew 9%, EMEA was flat, APJ grew 5% and Latin America grew 19%. Currency negatively impacted year-on-year revenue growth by about 150 basis points in Q3.
Now let's turn to the income statement. We once again put together a waterfall analysis to show how various income statement items contributed to the non-GAAP EPS growth we achieved in Q3 of this year compared to Q3 of 2011. Gross margin continues to be an important factor. This quarter, non-GAAP gross margins were 64.1%, up 110 basis points from last year's Q3. The improvement here was driven by the increase in revenue mix and margin rate from VMWare. As you can see in the waterfall chart, increase in gross margin dollars was the biggest contributor to our EPS growth.
Non-GAAP operating margins were 24.3%, up 30 basis points from Q3 of last year. Within the operating expense line, SG&A expenses grew more slowly than revenue, as we were careful with expense growth in the quarter. R&D grew faster than revenue, as we continue to invest in our leading-edge product portfolio. So investment in OpEx offset much of the gains we achieved from gross profits.
Two other items had a meaningful impact on EPS growth, but effectively offset each other. Nonoperating expense was $54 million non-GAAP, down approximately $16 million from last year's Q3. And our tax rate was 23.5%, up from 22% in Q3 of 2011. We now expect our tax rate for the full year to be 22.5%, reflecting a higher mix of profits in the U.S. This assumes the U.S. R&D tax credit is passed in Q4. Non-GAAP EPS was $0.40, up 8% from last year, 2 points higher than revenue growth.
Free cash flow was a solid $1.1 billion up 16% and about $250 million higher than non-GAAP net income for Q3. Contributing to this was growth in deferred revenue, up 26% year-on-year at $7.2 billion. Deferred revenue has become an increasingly important part of the financial picture for us, improving visibility and predictability of at least a portion of our revenue stream and enhancing cash flows.
Along with our ability to consistently generate strong cash flow, comes a responsibility of allocating that capital wisely. We continue to make investments to keep us well positioned for the longer term while maintaining financial flexibility and returning cash to shareholders. Along those lines, we closed Q3 with $10.6 billion in cash and investments. Of this, $4 billion was U.S. cash, excluding VMWare. We spent approximately $1.3 billion in the quarter on acquisitions that will greatly enhance our ability to make hybrid cloud a reality for our customers. We returned $150 million of our cash to shareholders via the purchase of EMC stock in Q3, and we continue to expect to buy back $700 million worth of EMC shares in 2012. We see this balanced allocation of capital as the correct formula right now, given the opportunities we have ahead of us. However, we revisit it often, and we'll revise it accordingly when the time is right.
Looking forward, we do not expect the economy to get better this year, but we do like how we've positioned the company near term and long term. We have a strategy that's built to leverage the 3 major waves of change in IT: cloud, Big Data and Trust, and we have what it takes to execute on this strategy, with leadership positions in storage, virtualization and security, a best-of-breed product portfolio with breadth and depth that's unique in the industry; a global EMC team that's second to none; and a solid operational and financial model that has demonstrated success across cycles. These advantages are critical to success regardless what the spending environment turns out to be. For the moment, this is not very clear, and in light of this uncertainty, we're updating our revenue and earnings expectations for 2012.
For the full year 2012, we'd expect to achieve revenue in the range of $21.6 billion to $21.75 billion and non-GAAP earnings per share between $1.68 and $1.70. If the caution that characterized the end of Q3 continues through Q4, then we'd expect to be at the lower end of this range. If we experience the seasonal strength typical of a Q4, we'd expect to come in at the high end of this range. In either case, we feel very good about the opportunity for our business. With the continued ramp of new products like VMAX, with the continued expansion from our channel partners with innovative offerings like VSPEX, with the penetration of EMC infrastructure into VMWare environments, with the expansion of VMWare's capabilities within these virtualized environments and with the overall value proposition of the EMC portfolio, we believe we can continue to grow faster than our addressable markets whilst reinvesting our business and delivering leverage in earnings per share. We're confident we gained share in the first 3 quarters of 2012 and confident we'll continue to gain share in Q4.
With that, I'll turn it over to Joe, who will give you more color on the macro, the quarter and the opportunities that lie ahead of us. Joe?
Joseph M. Tucci
Thanks, David, and a warm welcome to everyone attending today's earnings call. We appreciate your interest in EMC.
I would like to begin my formal remarks by clearly stating that we were disappointed that we did not quite meet our internal revenue expectations in Q3 and that we interrupted our string of 10 consecutive quarters of double-digit top and bottom line growth. But that said, I do believe that given the significant uncertainties that permeate the global stage right now and its negative impact on IT spending, we more than held our own. In fact, when all the reporting is in, and we're quite sure you'll find that EMC gained share across the major IT markets in which we play.
I know how hard my 55,000-plus colleagues at EMC and VMWare worked, how dedicated they are to the success of our customers, how much they believe in our strategy, direction and future prospects. And for this, I want to deeply thank them and let them know how much I appreciate them.
I would now like to comment on the uncertainty I just mentioned. First, there's economic uncertainty as demonstrated by the fact that most major markets around the world exhibited at least slightly lower GDP growth rates in Q3. In fact, one is hard pressed to find a major country that grew faster in Q3 2012 than it did last quarter in Q2 or it did in Q3 of 2011.
This economic uncertainty has a twin brother called political uncertainty. Confidence in governments around the world that make productive and timely decisions on real pressing issues like deficit reductions and tax policies is at a low point. Collectively, these economic and political uncertainties are affecting business confidence, and this is affecting IT spending rates.
In Q3, we found an air of caution in IT spending. Decisions were being subjected to far more scrutiny and this caused our bookings to be more back-end loaded than expected, resulting in more late orders, some too late to ship and some slippage out of the quarter. That said, to be clear, we still believe that IT spending in the second half of this year will show some year-on-year growth, albeit at a slower rate than was experienced in the first half of this year.
To put growth rates around that statement, last quarter, we said we expected overall 2012 IT spending to be around 3%, possibly a tick less. We now expect 2012 global IT spending to be approximately 2%. Looking forward, and assuming political cooperation and reasonableness prevails, we do expect that in Q4, IT spending has a potential to grow over Q3 in a fairly normal seasonal pattern. Obviously, this growth will now be coming off a lower Q3 baseline, and again, we believe that the overall IT market will exhibit some growth, year-on-year in Q4.
As customary, we will comment on 2013 IT spending on our January earnings call, but I will tell you that as we put together our 2013 business plan, our forecast calls for modest growth in the IT market as a whole. Net-net, against this backdrop in Q3, we grew our business year-over-year in North America by 9%; in APJ by 5%; by 19% in Latin America; and our business at EMEA was essentially flat. And as in past quarters, we saw our highest growth rates in the rapid growth economies. Across our BRIC plus 13 countries, we grew over 10% in Q3 versus the same period last year.
A few minutes ago, I expressed confidence that EMC is and will continue to gain market share, so a fair question is why, why the confidence? The first answer to that question is, because we have confidence in our innovative strategies and products and we have all-important momentum. As a proof point, let's quickly review the key innovative strategies of EMC and VMWare. We have a software-defined data center strategy that dramatically extends the benefits of virtualization. I truly believe this software technology will spark a revolution in the data center market through the tight integration and automation of compute, storage, network and security infrastructure assets. This will help customers receive unmatched efficiency, control, choice and agility. We have an end-user computing strategy called Horizon that helps our customers manage and secure their end-user computing environments in a multi-device, post-PC world.
We have a storage strategy for tomorrow's software-defined data centers and hybrid cloud environments. Storage that combines both Flash technology and hard drives, coupled with true automation for tiering and seamless flexible information management and protection. We have a Cloud Foundry strategy for working with developers on new approaches to building new applications, as well as ones for helping customers renew and cloudify existing ones. We have a strategy for Big Data, one that will harness the vast sea of information in realtime to help customers make better decisions faster. This new approach works with both structured and unstructured information, not only from within one's own enterprise, but from public and semipublic data sources. And we have a strategy for security that is pervasive across all of our offerings. In other words, built in, built in for today's era of cloud computing.
So you can see why we are confident. In fact, I have never been more excited about our future growth prospects. But these compelling strategies alone are insufficient, what makes me even more confident in our future is our leadership team and the talent EMC and VMWare has behind them. Pat Gelsinger has assumed the reins of VMWare, and he's being very well received and doing a stellar job. David Goulden is leading EMC's information infrastructure business to new heights. David's grasp of the business and his leadership style is exemplary. Paul Maritz's innovative brilliance will help take our developers' platform and our Big Data business to the next level. Both of these areas are high-growth opportunities for us. And the best news is our broader leadership team which Pat, David, Paul and I are blessed to work with is very strong, very talented and very focused.
To help give you a clearer view of our innovation and strategies and for you to get to know our leadership team better, it is my pleasure to invite you to join us for a strategic forum, which we will host for analysts and investors in Q1 of next year. We will get you the specifics of this forum ASAP.
I would now like to address one more topic before I turn it back to Tony to moderate the Q&A portion of today's call. I would like to comment on our relationship with Cisco and the future of our VCE joint venture. For the record, EMC and Cisco have benefited from a decade-long partnership. My close personal relationship with John Chambers goes back over 20 years, and we enjoy our friendship of trust and confidence in each other that is reflected in the way our teams work together.
Some have called into question the viability of our relationship with Cisco and VCE because of VMWare's entrance into the networking space. The reality is that software-defined networking complements the network infrastructure, and EMC has no plans to drive deeper into networking by acquiring a network hardware company. We believe continued innovation and network infrastructure by the partner ecosystem will enable higher performance transmission of data in next-generation data centers. In short, we are committed to work closely and cooperatively with Cisco, our premier partner.
VCE is a top strategic priority for EMC. We continue to ramp investments in VCE, which continues to meet and exceed our business objectives, approaching a $1 billion run rate in less than 3 years. There are now over 500 VCE customer deployments, including many in large Fortune 500 companies. These customers demanded and are receiving the benefits of rapid deployment, higher performance and higher availability, and very importantly, they are getting these benefits at a lower total cost of ownership. In short, we believe VCE represents the fastest and most cost-effective way for organizations to build out their cloud infrastructures, and we are committed to VCE's success.
Thank you, and now back to Tony.
Thanks, Joe. [Operator Instructions] We thank you all for your cooperation in this matter. Evan, can we open up the lines for the first question, please?
Yes, sir. Our first question today comes from Aaron Rakers with Stifel, Nicolaus.
Aaron C. Rakers - Stifel, Nicolaus & Co., Inc., Research Division
Quick question on just the outlook and kind of some of -- I guess, on the outlook or tying to the outlook, the midrange business you referenced, obviously, some late quarter channel dynamics that were unable to ship, if we look at that relative to your guidance, x VMWare, you're really guiding more or less a 12%, 13% sequential growth, which I think, historically, would be a little bit below seasonal. Can you try and triangulate those 2 data points on a like-to-like basis? Are you assuming a below-seasonal quarter, if some of those deals actually do ship in the current quarter?
David I. Goulden
All right. Aaron, let me take this. So first of all, yes, you're right, we highlighted the fact that in the mid-tier, we saw a higher-than-expected level of late orders, which means that we will have those orders shipping in early Q4. And actually, to pick up on your point, when we look at our outlook, when you take into account those late Q3 orders that will ship in Q4, and if you then, from Q3, assume a fairly normal seasonal progression of spend into Q4, that gets to the higher end of the outlook looking at all the averages over the last 6 to 7 years. And obviously, if the caution that we saw right at the very end of Q4 -- sorry, Q3 continues into Q4, that's how we get to the lower end of the outlook. So to answer your question, it really is the shipments of those late Q3 orders, plus a seasonal normal gets us to the higher end.
Our next question comes from Ittai Kidron with Oppenheimer.
Ittai Kidron - Oppenheimer & Co. Inc., Research Division
What I wanted to talk about was your geographical mix, as you laid it out, the year-over-year growth rates. Can you talk about Asia Pacific? I mean, 5% seems like a low growth rate for that region. I would have expected that to do a little bit better. And on the flip side, Latin America, clearly, very strong. Any color on what's driving that will be greatly appreciated.
David I. Goulden
All right, so let me start again. So just a couple of pieces to understand the kind of color of what happened and how the different geos were impacted. So we mentioned that we had some orders that we were expecting to close that got pushed out, again principally focused on the mid-tier, and those occurred principally in North America and Asia-Pac, so that impacted a little bit of our growth rates in Asia-Pac relative to our expectations. And then relative to Latin America, just a small market, but a strong bounce back. We had not quite such a strong growth quarter in Q2 and then a big bounce back in Q3. And relative to the countries in Asia-Pac, Joe, do you want to comment on those?
Joseph M. Tucci
Yes, we saw good strength in China, had very good growth there, but we saw a slowdown in Australia, New Zealand, a slowdown in Japan and slowdown in India and the rest of the countries were okay. So stronger in China, and then I gave you the ones that are weaker, so it's kind of color across those countries.
Our next question comes from Shebly Seyrafi with FBN Securities.
Shebly Seyrafi - FBN Securities, Inc., Research Division
Yes. Can you elaborate on the high-end growth? It was up only 5%. You just had this VMAX refresh just recently. And my own tracks [ph] indicated your 40K -- VMAX 40K, was selling quite briskly. Can you talk about why up only 5%? And were you down, actually, sequentially? And maybe you can touch on the competitive dynamics versus HDS and IBM?
David I. Goulden
Sure. So relative to the 5%, I think in this environment, we actually feel quite good about that. The VMAX transition is happening nicely. Over 50% of the new systems we sold in the quarter were actually the new family. We expect that transition to be essentially complete by the end of the year. A phenomenon that we're seeing in the high end is particularly when customers are kind of scrutinizing their budgets, they're really looking for TCO and cost savings, we do see a phenomena of consolidation in multiple mid-tier systems into the high end, so that helps as well. In terms of sequentially -- yes, you're right, but it wasn't the only part of the business that was down sequentially from a product point of view. The macro and the factors we talked about impacted basically most parts of the business, so there's nothing really unique about the high end in terms of being down sequentially. Typically, we would be more like flat sequentially in the product arena from a Q2 to a Q3.
Our next question comes from Brian Marshall with ISI Group.
Brian Marshall - ISI Group Inc., Research Division
We've been following 3 trends, kind of what we view as some of the best secular growth trends in enterprise infrastructure, namely, SDN, Hadoop as well as enterprise cloud storage. And at the end of the day, I think a lot of these trends are actually deflationary in technology for sort of the large incumbents. Some of these use x86 commodity servers or JBODs and off-the-shelf NFS file systems. So I guess the question is, if you subscribe to that line of theory, how does EMC plan to grow with some of these sort of secular growth trends and offset what is somewhat deflationary for some of the tech incumbents.
Joseph M. Tucci
All right, this is Joe, and David can add a little color also. I think one of the things you'd be missing in those trends is how big the private cloud is going to be. And as David said, there are probably less than a handful of companies that are truly capable of having the resources to take components and build their own private cloud, like a Google could for instance. So obviously, what we're doing with the journey of virtualization into the software-defined data center is we're building that technology, and that's going to be a great -- I think, a great driver for us. Also, our highest growth area, if you looked at it kind of on a vertical basis, would have been in the service providers. You heard on the VMWare call yesterday, where they said second time is on Web services, there's the most number of apps running by far, and whoever's third is way, way, way behind that, running on the VMWare infrastructure. Most of those infrastructures also run EMC's infrastructures, those service provider companies. So again, we are riding well on those 2 trends. Big Data is a big growth area for us, and we don't see that that's disruptive. A lot of these data mining applications did not run on our technology yesterday, so we think we could be a net winner there. And when you look at some of the things that are happening on private clouds -- or excuse me, public clouds and on the service provider front, a lot of what they're attacking there is kind of shadow IT, and that was never a big win for -- in some test and dev. So test and dev impacts us a little bit, but again, we're picking that up with our service provider partners, and we never were a big winner with shadow IT. So I think we're in pretty good shape going forward here. I think we're in very good shape going forward. And if you looked at the 6 strategic areas that I outlined, which again, we'll talk to you more about next quarter in real depth, our future is incredibly bright, in my opinion.
Our next question comes from Kulbinder Garcha with Crédit Suisse.
Kulbinder Garcha - Crédit Suisse AG, Research Division
Just a question on the mid-range slowdown. I understand there's been a macro impact maybe there as well. But could you comment on what -- was there misexecution with the channel? Or was it just late orders? And then, I guess, just in terms of the deceleration you've seen here, what confidence can you give that just maybe this market, this end segment, isn't decelerating? Or that your ability to gain share at the pace you once did has slightly changed because of the competitive dynamic. Any insight there would be helpful.
David I. Goulden
Sure, Kulbinder, let me take that question. So I wouldn't say that it was our execution impact on mid-tier. It really was the macro. They were relative to our expectations. And the mid-tier product growth sector, there were 2 things that happened. One is that we had more late orders than we expected, which means there are more orders that we couldn't ship in the quarter than we expected, that's going to help us in the fourth quarter. Similarly, but a little different, we had orders that we were expecting to win that got pushed out to the fourth quarter, because customers pulling the extra decision cycle, pushed those orders out. So again, now as those orders close and some of them already have, particularly in the BRS area, will also help us a little bit in the mid-tier. So it's really the macro, more than a execution issue. And for some of the factors that I just mentioned, we do think we're going to have a rebound in the mid-tier in the fourth quarter as a sector. And then relative to the overall market, we feel good at the top level. When we look at our 6% growth versus IT spending, we absolutely gained market share. Relative to the storage business, we think that from what we saw in the field with our win rates, both the high-end and the mid-tier, we think that we'll still be a net share gainer there. And you look at our network storage product revenues, against those that others have either reported or have out there for consensus, and we feel pretty good about that aspect of our growth. So every way we look at it, we think we're a net share gainer and it's the macro here as opposed to any micro issues.
Our next question comes from Alex Kurtz with Sterne Agee.
Alex Kurtz - Sterne Agee & Leach Inc., Research Division
Joe, just when you exclude the channel mix on VNX and you look at different verticals in different customer segments, enterprise versus channel, was there anything that really stood out from you from a -- when you talk about misexecution this quarter that you could give a little more color on?
Joseph M. Tucci
I think on a plus side, well, well north of the average, we showed, as I said, really good strength in service providers, and we also -- which is I think a little bit counter to some of our competitors -- but we also showed a strong quarter in federal. But on the weaker side, weaker than average, we did see a pause in financial services, and that's a -- that is our biggest vertical. We had pretty good balance across our verticals. We play in every vertical. Matter of fact, almost every vertical, we have a double-digit share in, more than 10% of our revenues, I should say. So we got good balance, but financial services is the biggest, and we did see that occur weaker this quarter.
David I. Goulden
Then I -- let me just add a point relative to the mid-tier, because that's where you started, I think, your question. Remember, we made this comment last call that when you look at our geographic mix, Europe is more heavily weighted towards the mid-tier market just as a market and, of course, in terms of our profile there as well. So slowness, in general, in Europe impacts the mid-tier disproportionately highly, which is a factor we mentioned to you last quarter as well.
Next in queue is Bill Shope with Goldman Sachs.
Bill C. Shope - Goldman Sachs Group Inc., Research Division
Okay. Now that you're mid-cycle in the Symmetrix refresh, can you give us some color on what you're seeing in terms of the margin dynamics for the new products, and what kind of services and software attach rates are you seeing versus past cycles? And, I guess, extending that, how should we think about what all of that means as we exit the year and, hopefully, get into a better spending environment overall?
David I. Goulden
Yes, Bill, we're actually very pleased with, first of all, how the business did in the quarter from a gross margin point of view generally, given the macro environment. Relative to the high-end transition, we see a software and services attach rate that's comparable to prior high-end systems on the 40K, if anything, a little higher because of the kind of hyper consolidation opportunities we're looking at, at that side of the marketplace. So the kind of secular trends, the new product lines tend to carry a richer software content and the larger systems carry richer software content, those are all still working in our favor.
Joseph M. Tucci
I think the other thing that I would add to that, Bill, is, if you looked at some of the things David alluded to that are common, he talked about Mavericks for Isilon being introduced at the very end of this year, which means its kind of impact will be next year. He talked about real terrific enhancements to VFCache. He talked about a new line we call Project Thunder. He got a new line of all-Flash called Project X. We have major extensions to our mid-tier line. All of those products kind of get reported in mid-tier. So when you look at our kind of cycle of refresh and you look at next year, that also bodes very well for us. And we'll lay more of that out for you when we see you next month.
Our next question comes from Maynard Um with Wells Fargo.
Maynard Joseph Um - Wells Fargo Securities, LLC, Research Division
I was hoping you could talk a little bit about these new products and product cycles. For Isilon, you talked about the expanding opportunities into new verticals, I presume from the improvement and the right capability within Mavericks. But more generally, can you talk about the qualification process for a lot of the new products, where we are. I'm just curious when we should expect some of these to start ramping. Is it 1 quarter after the launch, is it 2? If you can just shed a little bit of color on that. And then just what you have embedded into your guidance, I guess, for some of these new product ramps in the mid-tier.
David I. Goulden
Maynard, if we did that, we wouldn't need a meeting next quarter, so that's going to be a lot of the firepower. We're going to give you great detail, and give you some hands-on, and show you real in depth what we're doing. And we are excited about it, but it really is a next-year event. And I know you want to know when next year and which exact features, and that's what we're going to tell you soon.
Maynard Joseph Um - Wells Fargo Securities, LLC, Research Division
Okay. Then can I try a different question then just on the OpEx side?
David I. Goulden
Yes, I kind of stole your question, so you get 2.
Maynard Joseph Um - Wells Fargo Securities, LLC, Research Division
Can you just talk about what leverage you have there to potentially offset if one environment were to get weaker? What areas you would cut the spend? I know you talked about staying committed to the R&D spend, but just sort of the leverage you have there.
Joseph M. Tucci
I'll let David -- let me just -- I just want to emphasize what you said. I mean, I do not, will not cut R&D. It's just what we're working on is too exciting. With that said, there's -- there is always ways we could tighten our belt, and I'll let David handle that.
David I. Goulden
Yes, Maynard, you actually saw us doing some of that in Q3. So if you look, for example, our SG&A expenses, excluding VMWare, are kind of flattish year-on-year and a couple of factors -- clearly, there was some FX benefit from an expense point of view. But also going into the quarter, we recognized it was an uncertain environment, and we were more cautious with our discretionary spending, areas that we've looked at before, things like travel. We also had some favorable benefits in the quarter of fringe vacation, things like that, but we do recognize it's a more cautionary spending environment. We're being more careful with the investments in OpEx, but particularly in the discretionary areas, which we've demonstrated before, we do a good job in when we focus and pull them back.
Next in queue is Scott Craig with Bank of America Merrill Lynch.
Scott D. Craig - BofA Merrill Lynch, Research Division
David, can you talk about the gross margin, but more from a quarter-over-quarter perspective? It went down a little bit, but I would have thought with the high-end ramp and sort of the hard disk drive pricing getting better, and then mix with VMWare especially, that gross margin might have gone up. So could you talk about it on a quarter-to-quarter basis?
David I. Goulden
Yes, sure, Scott. And we saw a 30% reduction, as you know, in gross margin quarter-on-quarter. All that was due to EMC x VMWare, which was down 50 bps sequentially. So let me explain to you what was going on there. So from a competitive point of view, I'd say the pricing pressures were consistent with normal, so no massive difference in the landscape on a competitive point of view. What we did see is, we saw some incremental impact from our customers, as they applied extra scrutiny and kind of worked their transactions harder, so there was additional customer pressure, and we did see continuing benefits from mix, as you mentioned. Specifically, relative to quarter-to-quarter, there were 2 factors that drove the reduction. One is that, if you remember back in Q2, we had some benefits as we have closed out the RSA situation and reversed what was left of the charge. Some of that went to operating margins -- to gross margins, sorry, that gave us about 20 bps improvement. And also quarter-on-quarter, there were some additional amortization in capitalized software. You factor those out, and gross margins would have been flat quarter-on-quarter. And then if volumes had been kind of where we thought they would be at the start of the quarter, you'd have seen an increase in gross margin sequentially, so that's the story, what's going on there.
Our next question comes from Amit Daryanani with RBC Capital Markets.
Amit Daryanani - RBC Capital Markets, LLC, Research Division
I was just wondering, guys, if you could just talk about if Isilon and Avamar combined are still on track to achieve a $1 billion run rate back end of the year. And then very specific, you'd maybe talk about, on Isilon, did you -- are you starting to see some slowdown ahead of the OneFS Mavericks refresh that should happen next, well, I guess, in the next quarter?
David I. Goulden
Well, actually, it's at the end of this quarter, the quarter which we're currently in. So we do expect Isilon and Atmos to be at the $1 billion rate, or if not, exceptionally close to it. So we feel good about that. And no, we don't see a slowdown in anticipation of Mavericks, because Mavericks is a software release, so customers can -- with a valid maintenance agreement, will be able to upgrade to Mavericks. So obviously, if they're waiting for the functionality, well, they wouldn't be buying the product in the first place. So in today's use case, Isilon is still very competitive, the use case expands with Maverick. Existing customers get it, so we don't see that being a factor. We just see that being a factor that will enable us to kind of open the aperture a little wider for where we can play with Isilon.
Thank you. We have time for one more question, and then we'll have some closing comments from Joe.
Our final question comes from Abhey Lamba with Mizuho Securities.
Abhey Lamba - Mizuho Securities USA Inc., Research Division
David, you talked a little bit about Isilon and its impact. You're not expecting any slowdown ahead of it, but can you talk about what are the other industry verticals outside of its traditional verticals that you expected to gain traction? And what was the spending environment in Q3 for those? How should it trend over the next couple of quarters?
David I. Goulden
Okay. So again, relative to Isilon, there are many new capabilities in the Mavericks release, and we'll tell you much more about them when we get together when the product's actually in the marketplace. Today, a lot of Isilon sales is in the media, entertainment, life sciences verticals. One of the areas that you'll see us enhancing the solution with Mavericks is adding many more audit and compliance features. So in more regulated industries, financial services sector, public sector, the scale-out file opportunities that we can't go after with Mavericks today -- sorry, with Isilon today, we'll be able to go after them with Mavericks. So that's one area that you'll see enhancements. And Joe mentioned already what's going to happen in those verticals. The other area mentioned before is more performance enhancements, so it'll be a better general-purpose file system, but I'll still tell you that the primary use of Isilon across all these verticals is still going to be in the larger scale-out, Big Data type of file-oriented applications.
Joseph M. Tucci
This is Joe again. And in summary -- first of all, I'd like to thank you for being with us again. And in summary, I'm sure you got a real sense today that we deeply believe in our strategic direction. We have strategies that are laser focused on key high-growth IT market opportunities. Our customers and our prospective customers are more and more inviting us in and doing us as a key source of innovation to help them plot their future to private and public cloud computing and IT as a Service. I could tell you our people inside of EMC and VMWare are very excited about our future, and they are charged up and ready to succeed. And again, we look very forward to sharing our vision, our products and our go-to-market prowess with you at our upcoming strategic forum. So I wish you all the best, and thank you again, and see you soon.
This concludes today's conference. You may disconnect at this time.
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