Quantum Management Discusses Q1 2014 Results - Earnings Call Transcript

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Quantum (NYSE:QTM) Q1 2014 Earnings Call August 1, 2013 5:00 PM ET


Shawn D. Hall - Senior Vice President, General Counsel and Secretary

Jonathan W. Gacek - Chief Executive Officer, President and Director

Linda M. Breard - Chief Financial Officer, Chief Accounting Officer and Senior Vice President of Finance, IT & Facilities


Alex Kurtz - Sterne Agee & Leach Inc., Research Division

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

Glenn Hanus - Needham & Company, LLC, Research Division

Joshua Reilly


Good afternoon, ladies and gentlemen, and thank you for standing by, and welcome to the Quantum Corporation First Quarter 2014 Conference Call. [Operator Instructions] And as a reminder, this call is being recorded today, August 1, 2013. I would now like to turn the call over to Shawn Hall, General Counsel. Please go ahead.

Shawn D. Hall

Thank you, and I apologize for a bit of the delay there. We had some technical difficulties. We're getting started now. Here with me today are Jon Gacek, our CEO; and Linda Breard, our CFO. The webcast of this call, our earnings release and a quantitative reconciliation of any GAAP and non-GAAP financial measures discussed today can be accessed at the Investor Relations section of our website at www.quantum.com and will be archived for 1 year.

During the course of today's discussion, we will make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The forward-looking statements include statements regarding our business strategy, opportunities and priorities, anticipated product launches and plans and future financial performance. We'd like to caution you that our statements are based on current expectations and involve risks and uncertainties that could cause actual results to differ materially.

We refer you to the risk factors and cautionary language contained in today's press release, as well as to our reports filed with the Securities and Exchange Commission from time to time, including our most recent 10-K filed on June 7, 2013. The risk factors are incorporated by reference into today's discussion, and we undertake no obligation to update them in the future.

With that, I'll turn the call over to Jon Gacek.

Jonathan W. Gacek

Thanks. Again, we apologize. We had a problem with the conference call setup. Welcome to our Q1 fiscal 2014 conference call. Today, we reported revenue of $148 million, including a onetime $15 million payment related to an intellectual property agreement we reached with Microsoft during the quarter. This is a 5% increase over the $140.9 million we reported last year.

Non-GAAP operating income was $14 million compared to a $5 million operating loss a year ago, with the improved results driven by increased revenue of $7 million, higher gross margin and $6 million in lower operating expenses.

Non-GAAP net income was $11.5 million or $0.04 per share on a diluted basis compared to a non-GAAP net loss of $7.8 million in Q1 of last year. We generated $9.2 million of cash from operations and finished the June quarter with $80 million in cash. If you exclude the $15 million from the IP agreement, non-GAAP gross margin was 42% compared to 41% a year ago, and that improvement plus the $6 million decrease in OpEx resulted in a $4 million improvement in non-GAAP operating income over the prior year.

Linda will walk through the detailed results for the quarter in a few minutes, but before I turn the call over to her, I'm going to discuss several significant aspects of our performance and recent announcements that we've made.

First, revenue performance. Our Quantum-branded tape, StorNext software and appliances, and devices and media revenue, along with our royalty and OEM revenues were all reasonably good during Q1. Where our results were less than anticipated was primarily DXi, principally in the Enterprise DXi or the 8500. This Enterprise weakness was across all geos and was a combination of large deals that didn't close during the quarter and lower-than-expected sales into our installed base customers. However, we still grew midrange DXi by 23% year-over-year, added new DXi customers at a good rate with approximately 105 new customers, and had an overall win rate of nearly 55%.

After 2 record DXi quarters in a row, the last 2 quarters have not yielded the results we expected. While Q4 and Q1 are our 2 weakest seasonal quarters, the DXi result still needs to improve.

We are focused on driving DXi growth while also maintaining the focus on controlling expenses. As I mentioned, we had good success in the midrange in adding new customers in Q1, and that needs to continue.

In addition, we are making extra effort selling into our installed base. We are going to continue to expand our VAR and strategic partners to extend the reach of our DXi technology into the market.

Finally, with the new DXi6800 and DXi V4000, the enhancements we've made to the DXi8500 and the new entry-level DXi offering we will be introducing this year, we still believe we are well positioned with our DXi portfolio, including the unique advantages it provides in combination with vmPRO as a foundation for Q-Cloud and our partner cloud services.

The other revenue point I wanted to mention is that we did not recognize any Lattus revenue in Q1. We announced the product in Q1. We did ship systems to several customers during the quarter, and we expect to have Lattus revenue in Q2. The Lattus-M product, combined next-generation Object Storage technology with the automatic tiering capabilities of StorNext Storage Manager, was launched in Q1. And we feel that Lattus is an important driver of revenue growth and a key technology in Big Data, data protection and cloud-based solutions.

Let me now touch on the IP arrangement with Microsoft we announced in June. The agreement is multifaceted, covers technology from both companies and resulted in the $15 million payment to Quantum. We are very pleased with the agreement and believe it's another validation of the value of our IP and the strategic technology investments we have made. As I've said in prior calls, we have a focus on adding strategic partnerships to get our technology more broadly to end-user customers. These partnerships could take different forms and could include licensing arrangements, OEM arrangements, strategic go-to-market arrangements and reseller agreements. We have a lot of activity going on in this area.

Moving beyond Q1, we recently announced the expansion of our long-term partnership with Benchmark Electronics. BEI has been manufacturing our tape products since 2003, including the Scalar i500, which surpassed $1 billion in revenue during Q1 over its lifetime. The i500 is a Quantum-branded product and also has been sold as an OEM product to Dell and IBM for the past 8 years. We are leveraging Benchmark's scale and manufacturing expertise by adding our Scalar i6000, i40 and i80 and SuperLoader products to the existing manufacturing they do for Quantum. BEI is a public company with annual revenues of $2.5 billion, and it's a supplier to other major technology companies and has been a great manufacturing partner for Quantum for the past 10 years. Once implemented, we estimate this change to our manufacturing model will result in annualized improvement in non-GAAP income of approximately $10 million per year.

Moving forward, we will continue to invest heavily and wisely in our Scalar tape library portfolio and build on our #1 market share position in open system tape automation.

The other announcement we recently made that I wanted to touch on was the change in our sales leadership with Bill Britts taking over worldwide sales and marketing. Bill has nearly 20 years of executive management experience, including 11 as head of sales and marketing at ADIC, where he grew annual revenue from approximately $20 million to just over $450 million. Since joining Quantum in 2006, through the ADIC acquisition, he has served as senior global leader for various functions, including sales, marketing, operations, service and business development, and played a key role in growing our annual disk revenue and software from $10 million to more than $150 million. Bill has a good hands-on style and he's good with end users and partners. In short, he will be an excellent leader for the sales and marketing organization, given where Quantum is today and where we are heading.

Now I'll turn the call over to Linda, who will address the detailed results for Q1.

Linda M. Breard

Thanks, Jon. Before I walk through our results, I would like to refer everyone to the financial statements and supporting schedules included in the press release and on our website. It will be helpful to reference those documents as I comment. As Jon said, revenue for our first quarter ended June 30 was $148 million compared to $140.9 million a year ago, a 5% increase. The primary driver of this growth was the $15 million onetime payment for Microsoft.

For the eighth consecutive quarter, we grew disk systems and software revenue, including related services revenue, on a year-over-year basis.

StorNext revenue was up 13%, but was partially offset by a 4% decline in disk systems and related maintenance compared to the same quarter last year. We had a year-over-year revenue decline of $5.8 million in tape automation systems. For the quarter, nonroyalty revenue totaled $122.5 million, of which 83% was branded and 17% was OEM.

Royalty revenue was $25.5 million for Q1 compared to $11 million in the same quarter a year ago. The primary driver of the increase was the $15 million of royalty revenue related to the intellectual property agreement. LTO royalties were up slightly year-over-year, offset by expected reductions in the DLT royalties.

Looking further at various revenue classifications, devices and media totaled $18.1 million in Q1 compared to $18.6 million in the prior year. Expected revenue reductions from branded devices were the primary driver of the year-over-year decline. Tape automation systems revenue was in line with our expectations at $44.7 million compared to $50.5 million in Q1 of fiscal 2013.

As we saw last year, our branded business performed better than our OEM business this quarter. In Q1, branded revenue declined 10% or approximately $3.1 million year-over-year compared to OEM revenue being down 13% or $2.7 million.

On a percentage basis, year-over-year revenues were down in the high single digits to low teens across our Enterprise, midrange and entry-branded tape automation business.

Win rates remain fairly constant compared to the same period last year. There were just fewer deals in this quarter than Q1 at fiscal '13. The decline in OEM tape automation revenues was primarily driven by a reduction in Enterprise revenue. Despite the year-over-year revenue decline, we acquired approximately 105 new branded midrange and Enterprise customers in Q1. In addition, revenue from our Scalar i500 tape library surpassed $1 billion and our Scalar i6000 won Tape-Based Product of the Year at the 2013 Storage Award in London. Disk systems, software and related maintenance revenue, which includes our DXi and vmPRO appliance and software data protection offerings, as well as Lattus Object Storage solutions and our StorNext software and appliances for Big Data management and archive, was $31.5 million in Q1. This was up 2% from $30.7 million in the prior year.

Looking more specifically at disk systems and related maintenance revenue, it was down 4% year-over-year. As Jon said, we added approximately 105 new disk customers during the quarter and our overall DXi win rate was nearly 55%. The year-over-year revenue decline was mainly driven by our Enterprise business being down from the same period in the prior year. This is partly due to the lumpiness we experienced with large scales coming in and out of the quarters. In general, the larger the deal, the longer the sales cycle.

In addition, we believe some Enterprise customers are transitioning to our DXi 6800, which scales up to 156 terabytes, but it's reported within our midrange category.

Our midrange DXi business, driven by the continued strong performance of the DXi 6800, grew 23% over Q1 in fiscal 2013. We have been especially pleased with our midrange DXi platform introductions, particularly the DXi6800, which has cemented our leadership in delivering best-in-class performance, scalability and overall value and has been very well received by customers. Our entry DXi revenue was up slightly compared to the prior year with unit shipments up 20% year-over-year.

Turning to StorNext software and appliances, revenue including maintenance increased 13% year-over-year. StorNext AEL, server-based appliances and related disk revenue combined, increased over 60% from Q1 to the prior year. This growth was somewhat offset by stand-alone StorNext software sales, which declined over Q1 of last year due to one large deal in Q1 '13 that was not repeated in the same quarter this year.

From a customer acquisition standpoint, we added approximately 55 new StorNext customers in Q1 and continue to see strong win rates in our StorNext solutions offering.

Moving to service revenue, it was $36.5 million in Q1, slightly up from $36.1 million in the same quarter of the prior year. The increase was driven by growth in branded contracts related to our appliance strategy in Big Data.

Turning to gross margin. Non-GAAP gross margin in Q1 was 47.9%, an increase of nearly 17% from the 41% gross margin in the first quarter of fiscal '13. The $15 million increase in royalty revenue, which contributed 100% gross margin, was the primary driver of the increase. Excluding the incremental royalty revenue, non-GAAP gross margin was up 100 basis points to 42% in Q1 of '14 compared to the same quarter of the prior year. The primary driver of the nonroyalty-related improvement in gross margin was reduced cost in our operations, repair and service departments of approximately $3 million related to cost reduction actions we completed in the last year.

Looking at expenses, non-GAAP operating expenses were down $5.9 million or approximately 9%, totaling $56.9 million in Q1 compared to $62.8 million in the prior year. Year-over-year, our sales and marketing costs decreased by $2.9 million. The primary driver of the reduction relates to lower salaries, benefits and associated costs, resulting from the headcount reductions we have implemented over the past year. Similarly, research and development expense decreased approximately $1.8 million, and general and administrative cost declined by $1.2 million, in both cases, primarily as a result of headcount and other cost reduction actions taken over the past year.

Non-GAAP operating income for the quarter was $14 million compared to an operating loss of $5.1 million in the same quarter a year earlier. The largest contributors to the increase in operating profit on a quarterly basis were the overall revenue increase due to higher royalty revenues and approximately $9 million in cost reductions in both cost of goods sold and OpEx, which were slightly offset by lower overall product revenue. Excluding the higher royalty revenue, we would have reported a non-GAAP operating loss of $1 million, an 80% improvement from the same quarter in the prior year.

Interest expense for the quarter was $2.4 million compared to 1.8 million a year earlier. This included cash interest expense of $2 million and amortization of debt issue cost of $400,000. The average interest rate for our $205 million of convertible debt is 3.84%.

For the fourth quarter, we had other income of $400,000 and we recognized tax expense of $400,000, primarily related to foreign and state taxes.

Summing it up for Q1, we had non-GAAP net income of $11.5 million, which is a non-GAAP diluted earnings per share of $0.04. This is compared to non-GAAP net loss of $7.8 million and a loss of $0.03 per share in the same quarter a year earlier.

Given that our non-GAAP net income level this quarter requires the inclusion of shares for both our convertible debts in the EPS denominator, let me take a minute to provide additional guidance around computing non-GAAP EPS with both our converts in place.

Using the if-converted method, we have included approximately $74 million additional shares related to the converts in the denominator and added $2 million of related interest expense back to the numerator for Q1 '14.

Focusing on cash flow for the quarter and the balance sheet at June 30, I would like to highlight several key points. Cash flows provided by operations for the quarter were $9.2 million. At June 30, our debt, consisted of $205 million of convertible debt which have no covenants. We ended the quarter with $79.8 million in cash. There were no amounts drawn on our revolver at quarter end. Therefore, we have no financial covenant compliance requirements.

EBITDA for the last 12 months was $39.5 million, and on a sequential basis, manufacturing inventory decreased $1.8 million, accounts receivable decreased $10.6 million and we had an accelerated payment of $5.6 million from one customer. CapEx was $1.2 million.

In closing, I wanted to highlight the progress we've made up over the last several quarters in better aligning spending and revenue, further improving our balance sheet and increasing our operational flexibility. We have made incremental reductions in our cost structures since last fall that have resulted in savings that are greater than we had forecasted in our October 2012 earnings call. And in Q1, we again saw the leverage we have in our business model, beating expectations on the bottom line even as our revenue came in slightly lower than expected.

In terms of further strengthening our balance sheet, I talked last quarter about the benefits from restructuring our revolver in January. And after using cash from operations in the first half of fiscal year '13, we have returned to generating cash over the last 3 quarters.

Finally, although primarily driven by the evolution in our business, with more of our value add coming through the software we incorporate into our solutions, our decision to move to a fully outsourced manufacturing model will enable us to better manage the ebbs and flows in our business.

Now let me turn the call back over to Jon.

Jonathan W. Gacek

Thanks, Linda. Our Q1 results were certainly positively impacted in all financial aspects by the IP agreement with Microsoft. But even without this, we demonstrated improvement in gross margin and operating expense control and generated a solid growth in key product areas. At the same time, we know we must continue to improve revenue performance and our sales execution. Our financial model is leveraged and we drive profit with incremental revenue.

As I've said, our goal this year is to drive revenue growth, spend wisely and generate cash and profit. We expect to do this by driving growth in DXi, StorNext software and appliances, Lattus for Big Data, data protection and cloud, and performing better than the overall tape market. We are very pleased -- sorry, excuse me, we are very focused on our go-to-market activities across all product lines, continuing our aggressive launches and pursuing additional routes to market and strategic partnerships for all our products, building on our technology leadership and proven expertise in data protection and Big Data management.

As just as an example, this quarter we will be launching 2 new offerings. The first is the data center archive solution that will allow customers to proactively tier archived data to our Lattus product, and include the ability to mix on-premise, off-site and cloud-based data protection even more efficiently and cost-effectively by leveraging our next-generation Object Storage, its geographic dispersion capabilities and our industry-leading deduplication technology. In addition, we'll be launching a new managed service provider program, enabling partners to deliver backup and the best recovery cloud services to their customers based on our deduplication technology and optimized for both physical and virtual environments.

Let me close by providing guidance for Q2. We are -- we expect revenue of $135 million to $140 million. We are taking into account uncertainty that we see around spending by the U.S. Federal Government as they close their fiscal year. We have numerous large federal opportunities that we are working, but our visibility, as to their closure, is limited. We expect non-GAAP gross margin of 42% of 43%, non-GAAP operating expense of $58 million to $60 million, interest expense of $2.5 million and taxes of $500,000.

Now I will turn the call over to the operator for your questions. Operator?

Question-and-Answer Session


[Operator Instructions] And our first question does come from the line of Alex Kurtz with Sterne Agee.

Alex Kurtz - Sterne Agee & Leach Inc., Research Division

Jon, I think a lot of investors on this call have really focused on the opportunity around DXi and StorNext, and I think a lot of their evaluation analysis and our evaluation analysis are really predicated on that business executing and showing upside. And I look at this for the last couple of quarters here and look last year's performance and I -- just trying to understand from the outside looking in what's happening here. Because I think otherwise, the rest of the business is challenged as it is. So any kind of color on what's going on with that business will be helpful.

Jonathan W. Gacek

Yes, let me -- you comment on investors and you talked to a lot of them. Last year, in Q2 and Q3, we had record DXi quarters, record StorNext quarters actually, and the stock got particularly hammered by the tape performance. And so I think what you're pointing out is we have a mixed set of variables, and we are trying to drive both. We're trying to generate cash and profit from tape, grab share, leverage our installed base, it's where we make money, and grow disk and software at the same time. We did take a series of cost reduction actions over the last couple of quarters, which clearly, money came out of sales and marketing and we knew that, but we needed to get back to making money. So it's a balancing act for us for sure. On the StorNext side, I would say our progress has been good. This quarter we had some Lattus opportunities that we just didn't quite meet all of their criteria for, but that product is going to be a good product in the appliance strategy. People like the appliance benefit. Our real issue this quarter and last has been DXi. And I gave a few comments in my remarks, when you drill down into it, we did pretty well with new customers in our midrange space and where we didn't do as well as we thought was around our installed base customers and some of our bigger deals. I'd go through deal by deal with you. I think without sounding defensive at all, we had 2 record quarters in a row in Q2 and Q3, and these last 2 have been more of a struggle. And I use struggle in it in a context of it still grew, but not as much as we would have liked. So we're focused on the things I said and we still think the market's there. EMC put out some new products recently. We don't think that -- those products still are whether it's more scalable for them, they still aren't -- they don't match the performance as they -- as we have. But they're clearly a dominant player here that we compete against regularly. I think, finally, the last thing I'd say is we're pursuing and have pursued new channels to market. That's where I think where constrained. It isn't really about products and we're going to continue to do that.

Alex Kurtz - Sterne Agee & Leach Inc., Research Division

Let me just finish up here. Ted Stinson was brought in to take this to the next level. I think that's what sort of it was outlined at that time and I think he left for a startup and what was that process about? And sort of a little bit more color, I mean, obviously Bill has been with the company for a long time. So is he prepared to really take it to the next level? Just sort of what you think about strategically what you need have to do with the sales organization to get more consistent results.

Jonathan W. Gacek

Yes, so I can't speak for Ted exactly on what his thought process was. I will say that some of the points that I made, we have a lot of moving pieces within the company around managing tape, installed base, DXi, StorNext. I don't know a lot about Ted's opportunity, to be candid. I think he came in and did a good job of putting some processes in place and some things that he brought from Symantec. And again, I am not going to try -- I don't want to sound defensive. Tape was hard last year and storage was a struggle for the whole fiscal year. We actually performed better than most of our competitors, grew disk and software faster than the market. So I think there's some good things that have happened. I think storage was tough. I think it's an interesting time for Bill. I think Bill spent a couple of years in the business and working with customers in a different way. And I think if he was on the call today, he's not, he would tell you that he's excited about the products that we have today and the solutions that we have for customers as compared to last time he was responsible for the product. So we'll see where we head next. The federal spend -- it's a big federal quarter for us typically. We'll hope that there's upside from where we guided to.


And our next question does come from the line of Chad Bennett with Craig-Hallum.

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

So help me understand, since you gave your outlook for this year a few months ago, what's really changed since then? And I know you like to compare your growth to the market and you're either in line or better or whatever. So I think back then you talked about the dedupe market growing roughly 20%, to maybe even 25%. And then I think you roughly outlined StorNext growth of 40% or in line with what it was the year before. And then tape kind of backing into that, kind of single-digit declines. So hopefully, I'm not putting your words in your mouth. So what's really changed or have the assumptions changed behind any of those growth rates to the growth rates of your businesses?

Jonathan W. Gacek

Yes, so we didn't -- we haven't changed anything on the annual guidance yet. And part of the reason that we haven't is as I started with my opening remarks, everything but DXi was sort of in the range of where we thought we'd be. So all the products that you mentioned, tape, StorNext appliances, the only other exception would be Lattus. The Lattus deals that we didn't get revenue, we shipped them though we had rev rec criteria that we didn't get to. DXi is clearly the spot where I have the most just anxiety about the result. When I look into those deals, the number of them I know about and I would say it's a combination of customer, customer execution and sales execution, both or understanding those. Linda talked about the Enterprise and big deals. So I'm not ready to change anything yet because I see all the activity that we have going on. Having said that, we haven't broken out either. And we didn't really expect to in Q1. We gave guidance of $135 million to $140 million. We did $133 million. Our own expectations were higher than that. So we're going to continue pressing the buttons that we think need to be pressed. Bill and I spent a bunch of time and will next week with sales leadership. And the market is definitely there and I could talk about different geos in different places, but we think we're in the right markets. We think our products continue to be the class of the field. It was about go-to-market and sales execution. And it's not confusing for what we need to focus on.

Chad M. Bennett - Craig-Hallum Capital Group LLC, Research Division

Okay. So you talked -- you mentioned a couple of times in the call, we have different businesses, many moving parts. I guess, do you have the ability or resources to manage the businesses you have right now effectively? And probably a more important question would be, from a strategic value standpoint, do you still think all these businesses make sense together?

Jonathan W. Gacek

Yes. So it's interesting. I think -- I talked about it from a sales perspective. One of the things we've tried to do with the investor community is give you more transparency because we do have a mature business that's generating profit and had historically been growing, but this last year didn't. So we tried to give a lot of visibility on that. And on DXi, we've got a reference competitor so try to give it. And StorNext is a relatively new market in the way that we're attacking it. An example would be, on the same day we got an order from one of the national professional sports organizations for the big product, and then we got an order from one of the -- for the appliances from one of the teams. And that's an example of something that's brand new for us. So I don't really feel resource-constrained per se, other than we're not running it like a startup. If we were startup and we're doing nothing but growing, we'd spend more money and just trying to grow. But we're trying to balance growth from profitability, and there's tradeoffs there. And that's part of the complexity that we're trying to give visibility on. I think from a logic perspective, data protection is logical and our 2 products fit together in that market. And then Big Data is a market we've been in a long time. We're trying to expand our footprint with the appliances and we see good traction around that. I think the other trend we're seeing, which makes me think that this is going to come back together is a lot of what we're doing in StorNext for the specialized industries is becoming more applicable to general purpose industries and what I call data center-type solutions. So at some level there, we're getting -- going to get some synergy just out of the market. And then the whole cloud infrastructure play, it could be in any market and you get synergies there as well. So I get the question, we told people we're going to try -- we're going to drive for profitability because last year was not the result that we wanted. We're trying to balance that from growth. We got growth, not as much as if we would have gotten it if we spent more, But we're not going to spend more, we're going to execute better.


And our next question does come from line of Glenn Hanus with Needham & Company.

Glenn Hanus - Needham & Company, LLC, Research Division

So maybe from a business model perspective, could you give us some kind of update on what you think you're kind of running for a break-even level on the disk, sort of the disk software, disk and StorNext business, if you will, combined, how you're thinking about that. And I know you're not going to tell us your operating margins for the tape business, but maybe you could talk about the trend there over the last year. And the question over there would be as the tape market shrinks and you slowly decline there, can you maintain your operating margin there or would there be some decline?

Jonathan W. Gacek

Yes. So there's a -- you've got a whole bunch of different questions there. We don't -- we haven't talked about breakeven because it's a bit of a moving target, right? Because with tape coming down, it put more pressure on the infrastructure going the other way. I will tell you that -- and you recall this at ADIC without a royalty, a tape margin of sort of 2% to 4% on the products was pretty good. We were best around at the time, which I still think is achievable along this cycle that we're on with tape. And then you add the royalty to that. But the real goal is to get some leverage off of that investment in these other businesses. And so by doing this, the changes that we've made over the last year, that's what's got us back in line. I mean, you can see, even to your guys' models, I think we're a couple, $2.5 million higher in net income even without the Microsoft deal. And that's around cost structures. So I think we've made those changes. Something like the BEI arrangement that we put into place, that's going to contribute because that's all about tape. And so I think there are steps that we have already taken and we'll continue to take to make tape a nice cash-flow-positive business plus royalty. On StorNext, I don't know of the exact numbers, but it's a pretty close to, if not, depending on the quarter, a positive operating profit business. It just depends on which quarter you look at. There's no question of the growth strategy this year is principally around it in pure percentage. And on DXi, we continue to take steps to make it more profitable. Our break-even number has gotten lower for sure. And there's not a lot of technology innovation anymore. It's really about building on the foundation that we have, leveraging it into new hardware. We announced the new virtual machine at 24 terabytes, up from 2 terabytes. We'll do those kinds of things and try to manage it wisely. But it is a tradeoff. Revenue -- if we were just being a growth company, we might do a few things differently, but we're trying to be balanced.

Glenn Hanus - Needham & Company, LLC, Research Division

Okay. So sounds like close to breakeven on StorNext. DXi may be losing a little at this point. And you gave us the numbers on tape, 2% to 4%, plus the royalty. Then on the tape side, do you think you can kind of maintain that as that sort of a 5% to 10% down-ish kind of market?

Jonathan W. Gacek

Yes. While tape was shrinking, our branded tape was growing. So there's a lot of dynamics in the tape market amongst -- in the tape market, and I think we're well positioned there. Tape profitability, I think, we've got. I think the business -- broader business issue is growth and the growth businesses, I think, as Chad pointed out. And to me, that's about access to customers, closing the deals that we have. It's not about technology positioning or markets. I think we're in the right ones. And you're going to see us continue to be aggressive of adding partners to help us get to markets, and that's one of the things that we're pushed on -- pushing on.

Glenn Hanus - Needham & Company, LLC, Research Division

And when do you -- so the Benchmark, I think, you gave a number out, when would we expect to see that fully implemented?

Jonathan W. Gacek

Yes, we're targeting to get moved by the end of December, is what we're shooting for. So we'd start seeing the benefit in Q4. That's the goal. There might me some transition costs rolling over there. But for sure, in fiscal '15, we'll see that kind of benefit. And it's a good deal for them, a good deal for us and builds on a long-term partnership that we've had around quality and our expectations and all the things that make products successful.

Glenn Hanus - Needham & Company, LLC, Research Division

Are you starting to see any revenue related to cloud services?

Jonathan W. Gacek

Yes, so we are in 2 ways. I think I talked about this last quarter. We were formalizing this program I mentioned in the script to provide infrastructure and software to MSPs or VARs, who want to offer cloud solutions to their end users. And we've had a couple of really nice successful wins doing that, and then we also have the relationship with Xerox that has yielded a lot of infrastructure sales into their model, where they're providing outsourced data protection as well. So it's -- we're seeing it in both. We have a lot of interest. We just announced our new Q-Cloud in Canada with a partner. So I think the cloud nomenclature is really going to be about channel more than technology. And we're active with a number of people, and that's why we put this program in place because people wanted to be able to go out with their own solutions to protect their customers.

Glenn Hanus - Needham & Company, LLC, Research Division

And maybe lastly on the StorNext appliances, did you see decent quarter-on-quarter growth there?

Jonathan W. Gacek

Yes, I think Linda had it in her script. I think it was about 60%.

Glenn Hanus - Needham & Company, LLC, Research Division

I thought that was year-on-year.

Jonathan W. Gacek

Year-on-year basis. Yes, I don't know it's a quarter on -- what the...

Glenn Hanus - Needham & Company, LLC, Research Division

But you saw a sequential growth there. And what -- maybe just talk about what part of that you think is really resonating and it sort of sounds like the stand-alone software business will kind of be a little lumpy and flattish as we go forward and the real growth is going to come on the appliance side?

Jonathan W. Gacek

For sure. I mean, what we're seeing -- we will sell some ongoing software only because we're going to support existing customers and partners who we're aligned with, we'll partner with as well. But customers like the ability to have one provider providing the software and the hardware. They like the way that we've tuned the product for the hardware. It's super simple. It's easy for them to add new pieces. It actually is getting pretty appliance-sized from a server perspective and manageability. The then when we add Lattus on top of that, that's -- we think that's going to -- we see customers excited about what that does for them. And we had 2 very, very nice deals, very high-profile customers, who will revenue this quarter. We had product at June 30, but we weren't quite ready to revenue it yet. So it's a combination of simplifying the solution, having a better experience overall in tuning and then we know we have a next version of StorNext coming out this year that further positions the appliances uniquely against competition.

Glenn Hanus - Needham & Company, LLC, Research Division

And then on the channels side tied to StorNext, where are you and how far along are you in really having the partners you need to accelerate growth on the appliance side there with StorNext?

Jonathan W. Gacek

Yes, so there's a couple of things going on. One, we're continuing to add partner. But I think it's up dramatically year-over-year. But we're also starting to find people partnering -- partner with people who are more of ISVs who take our solution and bundle it in with other parts that they sell, which gives us a lot of leverage. We're up 90% in new partners in North America. I think we're farther along in North America with partners and we're probably farther along in Europe with ISVs depending on which market you're in.


[Operator Instructions] And our next question does come from the line of Joshua Reilly with Northland Securities.

Joshua Reilly

This is Joshua Reilly in for Catharine Trebnick. I just had a question. Is there any way that you guys can improve your OpEx efficiency through channel management?

Jonathan W. Gacek

We're a channel company today and 90% of the business is through the channel. And so you're talking about sales and marketing there. The best way to improve that ratio right now is in sales utilization. In other words, we have territories who were trying to improve their overall utilization and get that channel leverage that's built into the model. We have about 1/3 of our territories at any given period are over their plan and we're really focused on keeping them there and then building up the ones that aren't.


And our next question again is a follow-up from the line of Alex Kurtz with Sterne Agee.

Alex Kurtz - Sterne Agee & Leach Inc., Research Division

Hey, Jon, I just thought I'd save us some time here. So just to be clear, you guys, you're reaffirming the OpEx for the year of 245 to 250?

Jonathan W. Gacek

Yes, actually, we'll be -- we'll probably be little lower than that. But I thought change in anything for the year, is what I would say Alex, but we will probably be lower.

Alex Kurtz - Sterne Agee & Leach Inc., Research Division

And how should we think about OpEx going into next year then? Should we think about it as is it too early to think about it or do you think that we could have a down-year in OpEx for '15 or you think flattish?

Jonathan W. Gacek

I think so. A couple of things, I think we're on this -- on the things that I'm focused on for growth, this is an important quarter for us from a Q2 perspective. Lattus is a key part of our plan. We have a lot of Lattus deals that we're working. A couple that we've already shipped, and they drag a bunch of StorNext as well. So I think what you're going to see us do is be thoughtful around StorNext in particular about how do we want to add spend based on traction because the market is there, the product is unique and we have high expectations for growth. On tape, we're trying to be just be smart about where we spend money in sales and marketing and make sure we pick up every tape dollar we can get. And then on DXi, we need to see some more traction there because I'm not going to get out ahead of us in spending money on the revenue side. And as I said, to your question earlier, if I look at the last 4 quarters, and I'm a sports person, the first half was great. We had 2 record quarters in a row. This last half, these last 2 quarters have not been great. I actually feel better about this one than last one because I know about a lot of the deals, but we've got to show traction. So we're going to be balanced. And the higher we get in revenue and the more traction we see, the more comfortable we're going to be about investing and vice versa.

All right. Thanks for putting that in. Again, we apologize for the technical difficulties on the call. That was just one of those gremlins. We'll be back in October. We appreciate the support and happy to answer any questions. Thanks again.


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