NetApp Reports Low Product Sales, Weakness To Continue Through Next Quarter

Storage giant NetApp (NASDAQ:NTAP) announced its Q4 fiscal 2015 earnings on Wednesday, May 20. The company reported a 7% year-on-year decline in net revenues to $1.54 billion for the quarter, lower than the guided revenue range of $1.55-$1.65 billion. ^[1] Similar to the previous quarter, NetApp’s net revenues declined mainly due to weakness in product revenues, which fell by over 12% y-o-y to $913 million in Q4. Software entitlements and maintenance (SEM) revenues stayed flat over the prior year quarter at $227 million while revenues generated by hardware maintenance and support contracts rose by almost 6% y-o-y to $400 million.

NetApp’s management attributed disappointing Q4 results to a shift in customer preference towards a combination of on-premise solution deployment and cloud-based storage solutions. As a result of the ongoing transition, there was low demand for existing NetApp offerings. Although the transition phase was expected for the company, management mentioned that the company underestimated the extent of the disruption it would cause. ^[1]. As a result, NetApp’s sales channel in the Americas was negatively impacted. Additionally, unfavorable foreign exchange rates through early-2015 also contributed to the decline in revenues.

We have a $39 price estimate for NetApp’s stock, which is about 10% higher than the current market price. The stock price has fallen by over 15% since the beginning of 2015.

See Full Analysis For NetApp Here

Low Product Sales And Corresponding SEM Revenues

NetApp’s product revenues fell by over 12% y-o-y to $913 million, which – adjusted for FX fluctuation – was still an 8% annual decline. Similarly, product revenues for the fiscal year ended April were over 7% lower than the previous year at $3.6 billion. Moreover, the gross margin (GAAP) for the products division in Q4’15 was about 5 percentage points lower than the comparable prior year period at 51.7%. A similar trend was observed in the quarterly results of competing storage provider EMC’s (NYSE:EMC), which reported a 6% annual decline in product sales to under $2.2 billion in the March quarter. EMC’s gross margin (GAAP) for its information storage division (storage product and services combined) was about 3 percentage points lower than the year-ago period at 50.5%.

Much of the decline in NetApp’s product revenues (and loss in market share through 2014) was attributable to a 19% y-o-y decline in OEM revenues due to the termination of the IBM-NetApp deal in May last year. Going forward, the elimination of IBM as a channel partner will not impact year-over-year comparisons. We currently forecast NetApp’s share in the external storage systems market to stay flat over 2014 levels at about 12.8%.

SEM revenues, which include software upgrades, bug fixes and patch releases, have been flat since the beginning of the fiscal year, mainly due to the sale of new products. The trend continued in the fiscal fourth quarter, with revenues staying flat relative to the prior year quarter at $227 million. Management mentioned that customers typically test or evaluate new products for about six months before upgrading software and listing requirements for patch fixes. Since the company had major product launches in Q2, SEM revenues could pick up in the coming quarters. Additionally, the company also intends to independently sell unbundled software from full systems to large customers and sell pure-software solutions to clients using third-party storage arrays, which could further drive SEM revenues.

Continued Growth In Services Revenues

NetApp’s hardware maintenance revenues have grown at double digit percentages (y-o-y) in each of the last ten quarters. Services revenues have risen due to an increased installed base and aggregate contract values under service contracts. The company witnessed a 10% y-o-y rise in hardware maintenance support contracts revenue to $323 million. Management mentioned that the company intends to enhance its focus on large enterprise customers and cloud providers in the coming quarters, which could result in improved margins for the services division.

Professional and other services revenues declined by 10% y-o-y to $77 million for the quarter, partially offsetting the growth in revenues from maintenance contracts. Professional services revenues could rise in the long run due to strong demand for enterprise service agreements from its larger clients.

Weak Outlook For Q1’16

NetApp expects its fiscal first quarter revenues to be $1.28-$1.38 billion, which at the midpoint of the guided range implies a 12% annual decline. The company expects the unfavorable currency fluctuations to impact revenues through Q1. Additionally, the company anticipates the transition period to last through Q1. However, revenues could pick up in the latter half of the calendar year. Similarly, company-wide gross margins are likely to stay suppressed at about 63.2% through Q1, but could improve in the latter half of the year.

View Interactive Institutional Research (Powered by Trefis):
Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap
More Trefis Research

1. NetApp Q4 FY 2015 Earnings Call Transcript, Seeking Alpha, May 2015 [↩] [↩]