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VMware (VMW) Patrick P. Gelsinger on Q1 2016 Results - Earnings Call Transcript

VMware, Inc. (NYSE:VMW)

Executives

Paul Ziots - Vice President-Investor Relations, VMware, Inc.

Patrick P. Gelsinger - Chief Executive Officer & Director

Zane C. Rowe - Chief Financial Officer & Executive Vice President

Analysts

John DiFucci - Jefferies LLC

Philip Winslow - Credit Suisse Securities (NYSE:USA) LLC (Broker)

Heather Bellini - Goldman Sachs & Co.

Mark L. Moerdler - Sanford C. Bernstein & Co. LLC

Keith Eric Weiss - Morgan Stanley & Co. LLC

Gregg Moskowitz - Cowen & Co. LLC

Mark R. Murphy - JPMorgan Securities LLC

Michael Turits - Raymond James & Associates, Inc.

Nikolay Beliov - Bank of America Merrill Lynch

Ittai Kidron - Oppenheimer & Co., Inc. (Broker)

Nehal Sushil Chokshi - Maxim Group LLC

Abhey R. Lamba - Mizuho Securities USA, Inc.

Rajesh Ghai - Macquarie Capital (USA), Inc.

Jayson A. Noland - Robert W. Baird & Co., Inc. (Broker)

Operator

Good day, and welcome to the VMware Q1 2016 Earnings Call.

Today's conference is being recorded.

At this time, I'd like to turn the conference over to Mr. Paul Ziots, Vice President, Investor Relations. Please go ahead, sir.

Paul Ziots - Vice President-Investor Relations, VMware, Inc.

Thank you. Good afternoon, everyone, and welcome to VMware's first quarter 2016 earnings conference call.

On the call we have Pat Gelsinger, Chief Executive Officer; and Zane Rowe, Executive Vice President and Chief Financial Officer. Following their prepared remarks, we will take questions.

Our press release was issued after close of market and is posted on our website where this call is being simultaneously webcast. Slides which accompany this webcast can be viewed in conjunction with live remarks, can also be downloaded at the conclusion of the webcast from ir.vmware.com.

On this call today, we will make forward-looking statements that are subject to risks and uncertainties. Actual results may differ materially as a result of various risk factors, including those described in the 10-K's, 10-Q's and 8-K's VMware files with the SEC. We assume no obligation to and do not currently intend to update any such forward-looking statements.

In addition, during today's call, we will discuss certain non-GAAP financial measures. These non-GAAP financial measures, which are used as measures of VMware's performance, should be considered in addition to, not as a substitute for, or in isolation from, GAAP measures.

Our non-GAAP measures exclude the effect on our GAAP results of stock-based compensation, amortization of acquired intangible assets, employer payroll tax on employee stock transactions, certain litigation and other related items and acquisition-related items and apply non-GAAP tax rate and constant currency adjustments. You can find additional disclosures regarding these non-GAAP measures including reconciliations with comparable GAAP measures in the press release and on our Investor Relations website.

The webcast replay of this call will be available for the next 60 days on our company website under the Investor Relations link.

Our second quarter 2016 quiet period begins at the close of business, June 15, 2016. Unless otherwise stated, all financial comparisons in this call will be in reference to our results for the comparable period of 2015.

With that, I'll turn it over to Pat.

Patrick P. Gelsinger - Chief Executive Officer & Director

Thank you, Paul, and good afternoon, everyone. This afternoon, I will summarize our business performance in Q1, in addition to key announcements we made during the quarter, including important updates to our expanded cloud strategy. After I discuss the quarter, Zane Rowe, our CFO, will provide you with additional detail regarding our business and financial performance in the period.

Q1 was a good start to 2016, both for results and against our strategic goal of building momentum for our newer growth businesses and in the cloud. Our results were in line with our expectations for the period and support our outlook for the full year that we articulated on our call with you in January. We grew total revenue 6% year-over-year in constant currency to $1.6 billion with a non-GAAP earnings of $0.86 per share. VMware's value proposition around the Hybrid Cloud, Software-Defined Data Center and End-User Computing continued to resonate with our customers around the world.

In terms of regional bookings performance, Asia-Pacific performed best, followed by EMEA and the Americas. Although particular emerging markets such as Russia, Brazil and China continue to experience weakness.

This quarter, we made important headway with respect to our expanded cloud strategy, which we discussed together during our last earnings call in January. Our cloud strategy includes three components: First, extending our leadership in the private cloud, the foundation of our business. Second, helping customers extend their private cloud into the public cloud; our vCloud Air service and our vCloud Air Network partners are both examples of this. And third, connecting, managing and securing end points across a range of public clouds, including Amazon Web Services and Microsoft Azure.

In February, as part of our strategy to help customers extend their private cloud into the public cloud, we announced an expansion of our partnership with IBM, one of our leading vCloud Air Network partners. Customers will be able to take advantage of VMware Software-Defined Data Center architecture using IBM's growing footprint to 45 cloud data centers worldwide, enabling them to scale globally and manage their data locally and securely. Ultra-cloud environments are becoming the norm. And we believe that VMware software-defined approach offers unparalleled capabilities to help customers manage these highly complex multi-cloud and multi-device environments.

Q1 2016 proved to be a strong quarter for new products, use cases and updates across our Software-Defined Data Center and Business Mobility portfolios. I am particularly delighted to let you know that during this quarter, we crossed a threshold of 1,000 issued U.S. patents, and that we have been recognized as number two in the software category of IEEE patent quality rankings across this portfolio.

On the End-User Computing front, we unveiled a new platform for delivering secured digital work spaces for flexible work styles and bring your own devices. Using the principles of consumer simple, and enterprise secure, VMware Workspace ONE delivers a digital work space that integrates mobile management, desktop virtualization, application delivery and identity management technologies, thereby addressing both end user and IT business mobility needs.

We also announced new advancements in VMware Horizon 7 and a new hybrid mode capability that will be available in VMware Horizon Air to simplify application and desktop delivery. With these advancements VMware Horizon will offer the industry's most comprehensive application and desktop virtualization portfolio with options for on-premises, off-premises, or hybrid deployments.

VMware AirWatch continues to enjoy strong customer adoption and is rated an enterprise mobility management leader by the leading analyst firms. We also made some announcements on the SDDC side of the business. During my keynote at this year's RSA Conference, we demonstrated a technical preview of Distributed Network Encryption powered by NSX. This is a unique new technology which enables the encryption of data and applications across clouds. Overall, NSX has enjoyed another strong quarter with bookings growing over 100% year-on-year.

We've released VMware vRealize Suite 7 which provides customers the ability to provision and manage at scale, compute storage network and application services across hybrid cloud environments. And we also announced the release of VMware Virtual SAN 6.2. The fourth generation of VMware's simple enterprise grade native storage for vSphere. Virtual SAN serves as a key component of our hyper-converged software offering. VMware is a leader in hyper-converged infrastructure software having sold to more than 3,500 customers in 21 months since the initial release of Virtual SAN.

We are optimistic about the long-term growth potential for this important new HCI category. VMware's hyper-converged software includes VMware vSphere, Virtual SAN and vCenter Server, transforming x86 servers and direct attach storage into simple and robust HCI systems. Customers benefit from reduced costs and management complexity with breakthrough performance.

This quarter, EMC and Dell both announced new distribution options for our hyper-converged software offering. In February, EMC launched the new hyper-converged VCE VxRail Appliance Family which features VMware hyper-converged software. Early in April, Dell announced that it will be reselling the VxRail Appliance Family in addition to Virtual SAN ready nodes based on Dell PowerEdge servers.

Let me turn to some leadership updates we made in the quarter. First, we're delighted to welcome Rajiv Ramaswami to our executive team. Rajiv joined earlier this month as GM and EVP of our Networking and Security business, and brings with him a deep understanding of the networking industry after most recently serving as Executive Vice President and General Manager of the Infrastructure & Networking Group of Broadcom Corporation.

With Carl Eschenbach's move into a strategic advisor role for the company, we also took the opportunity to announce expanded roles for other members of the VMware executive team. Maurizio Carli and Ray O'Farrell have both been promoted to Executive Vice President. Maurizio now runs our worldwide sales organization and Ray has expanded his role as Chief Technology and Development Officer to include responsibility for VMware's Global Services and Customer Advocacy. In addition, Sanjay Poonen, Executive Vice President and General Manager End User Computing has expanded his role to include leadership of VMware's marketing and communications functions.

I am also pleased to mention that for the second year in a row, VMware has ranked on Fortune Magazine's list of 100 Best Companies to Work for in the U.S., competing among hundreds of companies for the honor.

Overall, we are confident in our strategy and optimistic about the momentum we're seeing behind our growth businesses. We are also optimistic about the long-term value to VMware of the proposed merger between Dell and EMC and the opportunities for deeper partnership with Dell. During Q1, we saw strong momentum from our existing relationship with Dell through initiatives such as Dell's new VMware based channel offerings and Dell's use of assessment tools to provide their customers with an IT health check and help them move to broader software-defined data center solutions. We see significant opportunities for ongoing revenue synergies, both from our existing relationship and subsequent to the merger being finalized.

In closing, our board has recently approved a plan to buy back $1.2 billion worth of stock in aggregate during 2016. This provides a good opportunity for us to return cash to shareholders given the confidence we see in the business.

I'll now turn it over to Zane to talk more about our business performance in Q1.

Zane C. Rowe - Chief Financial Officer & Executive Vice President

Thank you, Pat. I'd like to thank the entire VMware team for all their effort driving results this quarter. As this is my first earnings call as VMware's CFO, I want to start out by saying how pleased I am to have the opportunity to join VMware. As CFO at EMC, I was able to view VMware's great prospects at a consolidated level. I decided to join this team because VMware is at a unique point in its history with significant future potential. In addition, it has the trust of a loyal group of customers and partners, who rely on VMware for their most important software infrastructure deployments.

As Pat indicated, Q1 was off to a good start to the year, putting us on track to achieve our plan for 2016. I'll start with a summary of P&L and balance sheet items, followed by product bookings and guidance.

For Q1, total revenue grew 5% year-over-year as reported, or 6% in constant currency. License revenue declined 1% year-over-year as reported, and grew 1% in constant currency. Hybrid cloud and SaaS rose to over 7% of total revenue. vCloud Air Network, vCloud Air, as well as AirWatch-as-a-service made up the bulk of this group, which grew revenue over 20% year-over-year. Non-GAAP operating margin was 28.1%, and diluted non-GAAP EPS was $0.86 per share, on 424 million shares.

We continue to build upon the strength of our balance sheet, with cash and short-term investments at quarter-end totaling $8.2 billion, up from $7.5 billion in Q4 2015. Domestic cash was $1.9 billion at quarter-end. Total unearned revenue was $5 billion, down 2% from Q4 2015. $1.8 billion of this amount is long-term.

Moving to bookings. The growth rate for total revenue, plus the change in unearned revenue, was 5% year-over-year, or 6% when adjusted for currency, in line with the revenue growth rate for the quarter. The growth rate for license revenue, plus the change in unearned license revenue, was 1% year-over-year, or 2% when adjusted for currency, slightly ahead of the license revenue growth rate for the quarter.

We saw strong momentum across our growth businesses, including NSX, VSAN, End-User Computing and vCloud Air Network. Standalone vSphere license bookings were less than 35% of total license bookings, down significantly from more than half of our bookings just two years ago. This is a strong indicator of our ability to diversify VMware's product portfolio as customers continue to see value in an expanded set of product offerings from us, and as we become a more strategic partner with them. We were also pleased with our renewals in Q1 and expect to see continued growth throughout the year, supported by a strong pipeline of renewal opportunities.

Turning to SDDC. Our Software-Defined Data Center products performed well, powered by the strength of NSX and VSAN. Total compute bookings for the quarter met our expectations, down 1% year-over-year. Compute license bookings declined 10% year-over-year, in line with expectations and in line with results we've seen for the last few quarters. Management license bookings grew in the mid-single digits year-over-year, also in line with expectations.

Turning to NSX, we saw strong momentum continue in Q1, with NSX license bookings growing over 100% year-over-year. NSX customers now total over 1,400, with nearly 350 of these in production deployments. These deployments are across a wide variety of use cases in the three broad categories of IT automation, application continuity and security, which includes our micro segmentation capabilities. NSX is proving to be the premiere network overlay solution across any hardware infrastructure.

Our hybrid-converged software offerings based on VMware Virtual SAN continue to gain significant traction. Although it's still early in the product cycle, VSAN license bookings grew over 200% year-over-year. We are pleased to close our largest-ever VSAN deal with a global investment bank.

Turning to hybrid cloud. Total bookings for vCloud Air Network grew over 25% year-over-year. We see significant interest from cloud and service providers around the world wanting to utilize our hybrid cloud technologies. For example, as Pat mentioned earlier, IBM will be delivering a complete SDDC offering based on VMware's technologies across their expanded footprint of cloud data centers worldwide. vCloud Air also performed well in Q1 with large enterprise customer adoption.

End user computing license bookings grew in the mid-teens year-over-year and total customer account increased to over 63,000, including over 1,300 of the Global 2000. We began further integrating and aligning the AirWatch Mobile and Horizon desktop sales forces during the quarter. This integration enhances the strength of the combined teams, although it did have an impact on AirWatch specific sales in certain geographies as the teams ramped up.

Our Horizon desktop business had strong year-over-year license bookings growth in the quarter, due to increasing customer adoption of our integrated functionality within the Horizon suite. Demand for...


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