Quantum's (QTM) CEO Jon Gacek on Q1 2017 Results - Earnings Call Transcript

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Quantum Corporation (NYSE:QTM) Q1 2017 Earnings Conference Call July 27, 2016 5:00 PM ET

Executives

Shawn Hall - General Counsel

Jon Gacek - CEO

Fuad Ahmad - CFO

Analysts

Eric Martinuzzi - Lake Street

Chad Bennett - Craig-Hallum Capital

Brian Alger - Roth Capital Partners

Operator

Good day, ladies and gentlemen and welcome to the Quantum Corporation First Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder this call is being recorded.

I would now like to introduce your host for today’s conference Mr. Shawn Hall, General Counsel. You may begin, sir.

Shawn Hall

Thank you. Good afternoon and welcome. Here with me today is Jon Gacek, our CEO and Fuad Ahmad, 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 one 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 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 3, 2016. These 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.

Jon Gacek

Thanks, Shawn. Welcome to our Q1 fiscal 2017 conference call. Overall, we’re very pleased with our results for the quarter. We generated $116 million in total revenue, which represents a 5% year-over-year increase. We also delivered $2 million in non-GAAP operating profit, an improvement of nearly $7 million over Q1 of last year. Both of these results exceeded our guidance significantly in the case of operating profit, which demonstrates the leverage in our financial model.

Before I turn the call over to Fuad to walk through the details of our results, I wanted to discuss several key highlights from the quarter. In our May earnings call, I talked about being better position for success this year, as a result of the actions we took in the second half of fiscal ‘16, strategic, financial and operational, and Q1 fairly demonstrates this.

OEM revenue increase 6% year-over-year and we grew branded revenue 7% over Q1 of last year. Our branded growth was driven by increases in both scale-out storage and data protection revenue 11% and 15% respectively with related service revenue included.

Looking more closely at scale-out storage, Q1 was our 20th consecutive year-over-year growth quarter, and given our increasing market traction and opportunity, we feel very good about our ability to achieve our scale-out growth objectives for the year.

In media and entertainment, we continue extend our leadership beyond traditional broadcast production and post-production environment, as an example, one of our Q1 wins was a $200,000 plus deal with one of the emerging leaders in virtual reality, a submarket with significant opportunity given the tremendous storage requirements.

We also continue to grow our footprint in corporate and sports video. Wins here included an $800,000 follow-on purchase by one of the world’s largest consumer electronics company, and the sports video deals with two professional football teams. If you’re interested in learning more about these use cases, I would encourage you to look at two new case studies on our website. One features very Barry-Wehmiller, a $2.4 million global provider of technology and engineering services that uses the Quantum StorNext solution as a storage foundation of its corporate video production workflow. The other focuses on Notre Dame’s sports media team, which adopted StorNext to increase speed and productivity in delivering athletic and educational video content.

Outside of media and entertainment, we continue to drive growth in video surveillance. Among our notable wins here, were a $200,000 plus deal in APAC for a pilot project that has the potential to expand to a much larger deployment, and $150,000 plus installation at a government run medical center. We also had a four new ecosystem partners, signed six new integrators, and introduced our Xcellis application director, all of which will help us further expand our presence in the market.

The new Xcellis offering enables smaller surveillance customers to enjoy the kind of access, performance and enhanced value previously reserved for more complex environments. And then to scale and realize the benefit of the Quantum tiered architecture, while protecting their original investment.

Another key contributor to our Q1 scale-out growth was our continued momentum in technical workflows. These workflows span vertical markets such as genomics and other scientific research geospatial applications, oil and gas and manufacturing and our ability to provide high performance cost effective solutions for unstructured data archives is a major differentiator in these environments.

Notable Q1 wins in this area included two $200,000 plus follow on purchases at medical research institutes in both the U.S. and Australia, and a $250,000 plus deal in Europe was a global automotive parts manufacturer. This customer is playing a central role in the deployment of autonomous vehicles and our win here is yet another example of how we can leverage our expertise in storing and managing massive data files to grow other businesses.

The final Q1 scale-out storage highlight I wanted to mention involve the previously announced win we had secured with a large multiyear public cloud project. Although I cannot provide details on the project because of the confidentiality agreement with the customer, I can say we began receiving orders and commence shipments in Q1 and we expect to recognize revenue in Q2 as well and we expect this account to contribute at least $20 million in scale-out revenue this year versus the previous $10 million estimate we provided in our May earnings call.

Turning to the data protection product family, we were very pleased that Q1 revenue included related service revenue was up 6% year-over-year. A key driver of this growth was a multimillion dollar DXi win at a top telecommunications company, which contributed to a 24% year-over-year increase in disk systems backup and related service revenue.

In addition tape backup related revenue stabilized in Q1 as total product and related service revenue from tape automation devices and media sales was essentially flat. This is clearly a positive and we believe it’s indicative of a more stable traditional storage market including tape backup than the industry has seen over the last couple of years.

To sum up the financial results for the quarter, in Q1 we began to see the benefits of the actions we’ve taken over the past year to position the company for greater success. This includes the adjustments we made on our go-to-market model at the start of fiscal ‘17 in which the vast majority of our sales force is now responsible for selling both scale-out storage and data protection in an account based sales model. We are putting a lot of focus on training and enablement to ensure we fully capitalize the market opportunities and we expect these efforts to drive additional revenue growth moving forward.

Similarly the cost reductions we implemented in the second half of fiscal ‘16 helped us to deliver significant year-over-year improvement in profitability and cash generation for Q1 and we plan to build on this progress throughout the year.

Finally, Fuad will cover our refinancing activities in more detail, but as we’ve indicated in prior calls we believe there are multiple paths to refinance the November 2017 convertible and extend our bank line of credit. Our confidence is based on our interactions we are having with financial institutions and their reaction to our fiscal ‘17 operating plan and upside opportunities, our future projections and our strong revenue and profitable results for the first quarter.

Now, I’ll turn the call over to Fuad.

Fuad Ahmad

Thank you, Jon. I’ll now walk through our financial results in detail. Before I do so, 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.

Total revenue for the quarter ended June 30 was $116.3 million compared to $110.9 million a year ago. Non-royalty revenue totaled $107.6 million, 90% of which was branded the same percentage a year ago. Product and service related revenue for our scale-out storage solutions was $30.8 million an 11% year-over-year increase. As Jon said this was the 28th consecutive quarter of year-over-year scale-out growth and we continue to build on our momentum across verticals and used cases. This includes an emerging used case in the video surveillance where we continue to show robust growth both in terms of new deals flows and the rapidly expanding pipeline.

In addition, the number of worldwide partners selling our scale-out storage solution increased 10% over the same period last year. Overall win rate for the quarter remain strong in the 70% range and we added over 120 new scale-out storage customers this quarter compared to over 90% for the same period last year.

Now turning to our data protection products, as mentioned in previous calls, we’ve been impacted by overall market weakness in general purpose storage including data protection over the past year. However, we believe the market has begun to stabilize and our results reflect that. In total, tape automation systems and related service revenue was $42.6 million for the quarter compared to $44.6 million in Q1 of fiscal 2016.

OEM, tape automation and related service revenue was up $600,000 or 6% year-over-year. Branded tape automation and related service revenue decreased to $32.5 million as a result of decline in service revenues related to our install base. Our win rate remains strong in high 70% range and we acquired approximately 16 new branded mid-range enterprise tape automation customers.

Disk backup systems and related service revenue was $21.5 million up $4.2 million from the prior year. This increase is primarily attributed to a large number of big orders in the quarter. Overall DXi win rates remain strong in the mid-60% range and we added approximately 40 new customers in Q1. Finally device and media totaled $12.8 million in Q1 up 17% from 10.9 million in the prior year driven equally by higher media and device revenue.

Moving on to service revenue, service revenue for Q1 was $35.8 million down 6% from $37.9 million in the same quarter last year. The decrease was primarily driven by a decline in service contracts for tape automation systems and disk backup systems offset by continued growth in contract for scale-out storage solutions. Royalty revenue was $8.6 million down 15% from $10.2 million a year ago. The decrease primarily related to royalties for LTO generations 1 through 6 partially offset by LTO-7 royalties. LTO-7 is in initial stages of launch and expected to draw in future quarters. Additionally, we signed new agreement in support of LTO-8 development and commercialization. We expect LTO-8 based media and hardware will begin shipping in calendar 2016 further extending on royalty cash.

Turning to gross margins, non-GAAP gross margin was 43.6% in Q1 compared to 42.8% in the first quarter of fiscal 2016. This increase is attributable to the year-over-year increase in total revenue and increase in material margin related to the changes in our overall revenue mix for the quarter and the cost reduction actions we implemented in the second half of 2016.

Looking at expenses, non-GAAP operating expenses were $48.6 million in Q1, an improvement of $3.3 million compared to the prior year. Year-over-year, our research and development expenses declined $2.1 million and sales and marketing expenses $1 million, primarily as a result of cost reduction actions implemented in the second half of 2016.

Q1 non-GAAP operating income was $2.1 million compared to an operating loss of $4.4 million in the same quarter a year earlier. This represents a non-GAAP operating margin of 1.8% in Q1, up from an operating loss of 4% in the prior quarter reflecting a combination of higher revenue gross margin and lower operating expenses. Our trailing 12 month non-GAAP operating income increased $6.5 million sequentially on a $5.4 million increase in revenue, reflecting the leverage in our financial model.

Cash interest expense for the quarter was $1.3 million our interest expense decreased from a year ago as we paid our convertible debt due November 15, 2015 in calendar 2015. The average interest rates for our $131 million of remaining debt was 3.86%. We had a non-GAAP net income of $360,000 essentially breakeven on a per share basis, compared to a non-GAAP net loss of $7 million or a loss of $0.03 per share in the same quarter a year earlier.

Finally, cash flow from operations for the quarter were $5.2 million, and EBITDA for the last 12 months was $24.5 million. We were in compliance with our debt agreement and expect to remain in compliance over the next 12 months. Finally, before I turning the call over to Jon, I would like to provide an update on our efforts on financing activities.

As I mentioned during our last earnings call, we want to be proactive, but sensible about our financing options. To that end, we’re in discussions with a number of financial institutions regarding expanding our credit lines to provide sufficient near and long-term liquidity and to create a clear and executable roadmap to address the convertible notes, which I may add will mature for another 15 months. I’m happy to report that we have strong indications of interest from two different financial institutions with preliminary terms debt if executed would not provide substantial additional liquidity, but should also alleviate any perceived market risk related to the convertible notes. We expect to provide an update in coming weeks if necessary.

And with that, let me turn the call back to Jon.

Jon Gacek

Thanks, Fuad. As our Q1 results demonstrate fiscal ‘17 is off to a good start and our goals to build on this momentum to drive continued growth, profitability and cash flow. In scale-out storage, we’re focused on further extending our leadership in media and entertainment, addressing the needs of traditional broadcast production and post-production customers as well as others, such as corporate departments, sports organizations and virtual reality companies that are looking for help in managing and monetizing their growing video assets.

As we continue to bring on new customers, it’s clear that our StorNext powered solutions are very differentiated. We offer a unique combination of industry leading streaming performance, low cost capacity and easy access in a single integrated tiered stored solution encompassing flash, spinning disk, logic storage, tape and the cloud.

Earlier this week, we announced a new StorNext power reference architecture for animation and visual effects workflows. Based on our award winning Xcellis storage system, this new architecture enable customers with animation and editorial operations to optimize storage capabilities for each. Thereby, streamlining workflows and boosting overall efficiency and productivity. In addition, the architecture incorporates our QXS hybrid disk flash storage with Q tier technology providing animators with a random IO performance they need for a fraction of the cost of an all flash solution.

As you may recall, our QXS product line is based on technology VOEM from Seagate, and this week’s announcement is just the latest example of how we are leveraging the technology within our solutions portfolio to deliver greater value to customers and extend our market footprint and available market.

Another key focus for us in scale-out storage is driving continued video surveillance growth. Since entering this market last year, we had made tremendous progress in raising awareness of Quantum and our differentiation by establishing a broad range of ecosystem partnerships and designing solutions for the security and surveillance market. This includes the new Xcellis application director offering I mentioned earlier, as well as the three new reference architectures we announced in April, which I mentioned in our May earnings call.

The reference architectures address the storage challenges presented by new fixed cameras, expansion of existing security systems and law enforcement implementations. They are based on our unique tiered storage approach that provides the performance, capacity and accessibility that are essential in meeting today’s increasing security and surveillance demand.

The opportunity in this market is evident from the dramatic growth we’ve seen in our sales funnel over the past year, and the fact that we are working deals not only in the $200,000 to $1 million range, but also in the $1 million to $10 million range and beyond.

The third area of focus in scale-out storage is building on our momentum in technical workflows, particularly around unstructured data archives. To do so, we will continue expanding and enhancing our reference solutions, as well as establishing additional technology partnerships around data creation, movement and management.

As indicated by the win I mentioned with an automotive part supplier around autonomous driving technology, we see significant opportunities as censor based Internet of Things applications proliferate.

Turning to data protection, we remain focused on leveraging our technology leadership, our extensive customer base and our channel and technology partnerships to generate profit and cash. As we’ve said in the past our best in class technology in both disc and tape and tight integration of the two are key strength in the data protection arena.

In addition our tiered storage expertise and broad archive portfolio encompassing our Artico archive appliance, Lattus object storage, tape and Q-Cloud archive and vault services enable us to capitalize on new opportunities as data center customers move beyond traditional batch backup.

Finally, we are continuing to pursue partnerships with other ecosystem players in data protection and archive. And let me turn to guidance for Q2. We expect total revenue of $118 million to $122 million and we’re off to a strong start in scale-out storage where we’ve already received orders in excess of $15 million. We expect non-GAAP gross margin of 41% to 42%, non-GAAP operating expenses of $48 million to $49 million, interest expense of $1.5 million, income taxes of $400,000 and non-GAAP net loss per share of $0.01 to break even.

For the full fiscal year we are maintaining the guidance we provided in our May earnings call and based on our strong Q1 start we feel increased confidence in our ability to meet the financial goals we have outlined in that guidance.

Now, I’ll turn the call over to operator for questions. Operator?

Question-and-Answer Session

Operator

Thank you. [Operator Instructions]. And our first question comes from the line of Eric Martinuzzi from Lake Street. Your line is now open.

Eric Martinuzzi

Thanks. Congratulations on the good strong Q1, it’s a great way to start the year. I wanted to revisit the FY17 guidance. Specifically in last quarter’s press release you talked about some of the sub components within that 2017 outlook. So the total revenue of at least $500 million, you talked about an overall decline in the data protection revenue and you talked about the scale-out being 35% to 40% of the total revenue. Are you recommitting to that as well?

Jon Gacek

Yeah, we still think that’s the path. The growth is going to come from the scale out product portfolio. I think we are off to a great start on the data center products. It’s nice to have that be the momentum behind it. We are hoping to build on that, again as we’ve talked about we build our financial model in a way that the data center stuff is really to drive profit and we want to be well balanced in where we are spending our money. So we like the start to Q2 and in terms of scale-out and we feel good about the 35% to 40% of total.

Eric Martinuzzi

Okay. I think probably one of the biggest surprises to me as I look at the different components what you achieved in Q1 was a tape in aggregate between the branded and OEM, but that tape product and service was only declined 4%. Is there some -- is that anomaly for Q1, is that sustainable for the foreseeable future?

Jon Gacek

It’s an anomaly compared to the past four quarters for sure and maybe a little longer than that. We talked about on the last call that we felt like this decline would as intuitive at some point because we have installed base we’ve got the market is not going away. I think if you look at some of the other storage companies that have reported the traditional architecture stuff was better. We are still planning like I said we are reiterating the guidance that we gave. It would be great if the data protection stuff grew as well. You can see how quickly we get leverage when the revenue is better than what the plan is. One quarter does not a trend make, but as we look at what’s going around it the data protection side has been solid thus far. And candidly it was pretty solid in Q4 as well if you recall. So that seems to be moving the right direction.

Eric Martinuzzi

Okay. And then a layer deeper on some of your -- the strength within the two different I guess I will call them buckets, my word not yours. But the scale-out, the large scale out customer that you talked about initially it business in excess of $10 million and now you’re comfortable confident stating that that’s going to be $20 million. Was that something that you had a feel for back in let’s say March-April timeframe or has this been a recent development that this particular customer they’ve decided to take incremental because of the success of an initial phase they’ve decided to expand?

Jon Gacek

Yeah I think it’s partially all of the above. We have known about the potential of this particular offering and we think it’s unique in terms of public clouds in general. In this specific case we just have added confidence and how big it’s going to be in terms of the deployment and the details that we’ve learned over the last 90 days. And for sure we knew it had the potential and we’ll just see how it goes. We think this is in a very important family we’ve been working on. It’s now moving, sometimes these things don’t move as quickly as you’d like this one is now moving and had good momentum behind the opportunity.

Eric Martinuzzi

Okay. And then on the data protection, you called out a specific telco could you talk about the competitive environment was that an existing customer, where it was maybe not competitive bid I imagine with a large project like that it would be going back out to market regardless of whether it was an incumbent or not, but just a layer deeper on the large data protection win.

Jon Gacek

Yeah and thanks for asking about that’s a good story. It’s obviously when you get into any deals, I’ll tell you every deal is competitive. There aren’t any where we don’t have somebody. In this particular case this is a kind of an important type of industry or in terms of the data that they have. And our real differentiation here besides just the overall [indiscernible] with our architectural ability to provide a path to tape out of the back of DXi. And in this case, the requirement for the customer were such that they needed to have multiple copies and others try to work around that, I guess would be the way to say it. Provide more disc technology and peer which is the matter of our overall technological solution and the requirement for the customer. But it was -- you can imagine up until the very end it was super hard box.

Eric Martinuzzi

Okay, thanks for taking my questions.

Jon Gacek

You bet, thanks Eric.

Operator

And our next question comes from the line of Chad Bennett from Craig-Hallum. Your line is now open.

Chad Bennett

Great, thanks for taking my questions. I guess was there any seven figure scale-out deals in the quarter?

Jon Gacek

Yeah we had a couple of large deals with inside of the company, but given some of the confidentiality and who side we decided we’re not going to break those out in terms of more detail. We got some feedback on that so we’re going to move away from that.

Chad Bennett

So you’re not going to say if you had seven figure scale-out deals, is that what you’re saying?

Jon Gacek

That’s right. Because we have to provide a bunch of details and we’re going to choose not to. We got some feedback there was too specific, so.

Chad Bennett

Okay. And so if the large public cloud provider went from $10 million to $20 million relative to your prior expectations. I guess and I can’t imagine you would bake that into guidance. Wouldn’t that be upside to your scale-out thoughts for this year or am I wrong?

Jon Gacek

It is like we said we’re not changing anything in terms of our annual guidance. So it just gives us more certainty about our ability to get there.

Chad Bennett

Okay. But last call you talked about you don’t really bake in and I know you’re not talking about large deals. You don’t bake in large deals into the guide that you gave just because of what happened last year and the lack of large deals. So is that still the case I mean anything without you saying you got million dollar deals? Anything over a million would potentially be upside?

Jon Gacek

Deals that we know about in this case we knew about this particular deal, we gave our guidance. So when we talk and Eric just asked questions about did we -- what happened we know it has potential we just didn’t know how much potential and candidly we still don’t know how much potential. So this is a nice opportunity what we’re talking about there, it’s very hard to forecast and give guidance on deals that are in our funnel that we don’t know for sure.

In terms of this large deal, we have good visibility, and like I said up to the in an excess of $20 million. So I’m comfortable talking about that. To the extent, we have COs [ph] and for instance for large deals that would be seven figures we feel comfortable about those. Like ones that just show up in the sales forecast, we tend to not bake in. Because they are still (Inaudible) and timing that’s probably the issue with timing too.

Chad Bennett

Okay. And if we -- obviously you expect, I assume you expect pretty good sequential increase in your scale-out revenue in the September quarter. Can you talk about the other business segments and just kind of qualitatively, how you expect those to perform sequentially?

Jon Gacek

Yeah again we’re trying to give product guidance Chad on an annual basis. Because what we’re finding is that especially in scale-out the deals are sufficient size and the timing is unpredictable. So to give you my best overall, I think the overall growth continues to be it’s going to be driven by scale-out in the course of the year.

The data center stuff was strong last quarter. And we’d like to believe that that will continue. Our execution has been good, when we have opportunities. So one of the fastest way to profitability is for that set of products to be better than our expectations you see that in the quarter. I wouldn’t change anything that we’ve said in terms of the year, because I just don’t think a quarter is enough time the deals just move around too much.

I mean we’re off to an unusually strong start, specifically around scale-out. So I think that means, we’re going to -- that’s going to continue the whole quarter, we’ll just have to see, some of those deals would have been great to have them last quarter.

So we’re trying to give as much transparency as we can and deliver the numbers that we committed to for the year and go from there.

Chad Bennett

Okay. And just a couple of more from me. Jon, what’s your expectation for the fed business this quarter? I mean, is there any expectation, I guess, I should ask?

Jon Gacek

Yes. Actually, that team has done a really good job. We just had our award winner of sales people, and I think that team got special call out from last year even, they have done a really good job of positioning the Quantum Solutions. They got started selling the whole portfolio earlier than everybody else in North America and they have done -- it’s a great job of positioning.

We actually are talking about a fed year-end in a way that, we use to talk about it in terms of -- we expect nice improvement there. So we have a lot of nice deals, and I’d say even probably more upside than we’ve had in a long time. And it’s a testament for that group and they are kind of the pioneers in North America, the sales model that we have implemented throughout the U.S. in South and Central America this year. So, I think we will have a fed year-end. That’s our plan.

Chad Bennett

Okay. You expect some uptick there. Okay. And then last one, when do you expect to solve your proxy and when does that annual meeting have to be held by?

Jon Gacek

It will -- once the Board approves the proxy it will get filed. And that will dictate when the annual meeting occurs.

Chad Bennett

Is there a date you have to have it?

Jon Gacek

There is not.

Chad Bennett

Okay. All right, that’s all I had. Thanks, guys.

Jon Gacek

Yeah.

Operator

Thank you. And our next question comes from the line of Brian Alger from ROTH Capital Partners. Your line is now open.

Brian Alger

Good afternoon, guys. Again, congrats on a good start to the year.

Jon Gacek

Thanks, Brian.

Brian Alger

Nice to see some stabilization in the data protection market. Kind of coming back to the full year kind of outlook. Given what we’ve seen here at the start, some stabilization in this market. I guess, the implication here as a percent of sales, we’re going to see scale-out storage to obviously rise, but does that require the data protection to resume its year-on-year declines?

Jon Gacek

No, I mean, let me -- I’m going to -- I’ll try to stir it from a sport analogy. But if the percentage goes down, I mean if the percentage goes down and the total revenue goes up but scale-out is in the $175 million to $200 million range that the mass would indicate we are targeting, that would be a fine result. We are not hung up on the mix I think if scale-out gets into that range and the data center stuff is higher. So our actual percentage is only 33% and 32% and we are not going to care about that at all. We are incentivized as a management team to drive scale-out revenue and to deliver profitability. And so if that percentage changes as a result of those that focus that would be a great result.

Brian Alger

Okay. I guess I’m trying to get at where the visibility lies and maybe where it doesn’t coming into this year with the top-line and guidance for above $500 million and the commentary around scale-out doing better than $175 million, I got the sense that you had enough business in your sales funnel for scale-out that you feel confident talking about that $175 million, $180 million range. But in terms of the rest of the business given what had happened over the past 12-18 months in data protection that was where the constraint in terms of the total top-line is. Now that data protection is stabilizing or at least appears from yourself and some of the others in the industry too have stopped the bleeding or slowed the bleeding at least. I guess it implies that there might be a better total top-line potential here than just better than $500 million?

Jon Gacek

Yeah, that’s I agree. I don’t want to manage it to the $175 million to $180 million, if it turns out that we do a higher data center and we’ll be more profitable then as well. I’m just not ready while I’ve talked about a lot. We are not ready to move our annual numbers based upon one quarter. We do have visibility, we would like to see some of these large scale-out opportunities, more of them close we’ve had a few and we’ll reassess when we get to the half-way point of the year. We are definitely in some big projects Chad asked about the Fed stuff. We are in a bunch there.

So we’ll see how it plays out. But we are not -- I didn’t feel any need to move the numbers based upon the first quarter we will say I mean we felt good about them last quarter we feel much better about them after the way the year started.

Brian Alger

Okay. And on the royalty side we haven’t talked much about it. But I was a little surprised to see it dip as much as I did I know there is always a little bit of variance in here. But to see it come down into the mid 8s there is a bit more of a drop off than I would have thought. Do we expect that to bounce back on LTO-7 royalties coming in Q2 here or is this something different?

Jon Gacek

Yeah, as you know we don’t control it. We just do our best to estimate it. I think we gave guidance looking about 35, yeah 35 for the year. So I think that’s still a reasonable number. We also gave 35 last year and we ended up delivering 40 or 41 or so came in. So LTO-7 will be the driver, you are correct. We know there are a lot of very large sort of tape usage type transactions out there in the marketplace.

But again it’s all about timing other people in the marketplace that make that market there is inventory, there is a whole bunch of stuff. So we feel good about the 35, it would be great to have some upside similar to data center products that will just deliver not only incremental revenue, but it will deliver quite a bit of incremental profit.

Brian Alger

Right of course. Okay and then finally pleasant surprise to see the operating expenses weren’t as high as what you guided to, was there anything specific that you guys did in the quarter that coming into the quarter you didn’t think you were going to do to keep it back down in the -- below the $50 million level?

Jon Gacek

Not really, I think when you make as bigger a change as we made in December, it just takes a while to roll all that stuff through you get the business right sized we also try to be thoughtful about how we predict that. The things that we thought were going to make the quarter higher did in fact occur we know that we had sales kick offs and a bunch of sort of expenses related to the period. But in general I mean teams done a good job of managing expenses, Fuad has been all over that along with the financing since he arrived. So it’s a good baseline and a good result.

Brian Alger

Okay. And then just one last one working through the P&L here. I was surprised that the fully diluted share count was only 1 million shares greater going back to the December and March quarters we got certainly a bigger disparity between the basic and fully diluted count. Is that just due to share price or is there something I’m missing there?

Fuad Ahmad

No I think it’s Fuad, it’s more to do with just the accounting for it. If you have a loss or if you have a profit then a large profit then you are require to calculate total number of shares outstanding differently and that actually results in higher number of shares. So since our profit was -- non-GAAP profit wasn’t as big, that’s really is the contributor.

Jon Gacek

Shares from the convert don’t pop-in when we’re close to breakeven basically.

Brian Alger

Okay. What’s the threshold?

Fuad Ahmad

It’s about $2.5 million to $3 million, I think is the profit yeah.

Brian Alger

Okay. So we should be below that level again in September quarter then?

Jon Gacek

Hopefully we’re not, but that’s what we guided to, based on our guidance that would be the expectation yes.

Brian Alger

Okay I guess that’s what I was saying, sorry I didn’t mean that.

Jon Gacek

I know you threw me a lob.

Brian Alger

Alright well guys hey keep it up it’s nice to see a stabilization in the data protection side and obviously getting the upside trajectory on that large order for scale-out, lend some credence and some confidence on the growth going forward. So congrats on that, let’s keep it up thank you.

Jon Gacek

Yeah I don’t want to leave lost on people. I mean we’ve talked about this a long time and at different quarters you are able to demonstrate it. This is the most recent one. We have a very leveraged model. And so when the revenue especially on the data protection side is higher a lot of that flows throw. And that’s what we saw here.

Brian Alger

Great thank you.

Jon Gacek

Yeah.

Operator

Thank you. And that does conclude our Q&A session for today. I would now like to turn the call back to management for any further remarks.

Jon Gacek

Great, well thanks for participating today. We had a significant number of you dialed in. We appreciate the support and we’ll talk to you in October when we report our September numbers. Thanks very much.

Operator

Ladies and gentlemen thank you for participating in today’s conference. This concludes today’s program. You may all disconnect. Everyone have a wonderful day.

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