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    NTAP
    Earnings call· Jan 2025(Q3 FY25)

    NetApp, Inc. NTAP

    Feb 27, 2025 Source

    Executive summary

    NetApp Q3 FY25 — Sales Execution Challenges Temper Revenue, Cloud and AI Remain Strong

    NetApp's Q3 FY25 results were marked by strong operating margin and robust growth in cloud and AI segments, despite overall revenue falling short of expectations due to sales execution issues and deal slippage. The company is implementing tighter controls on deal progression and remains confident in its long-term financial goals, even as it adjusts full-year guidance for FX and the Spot by NetApp divestiture. Management emphasizes its strong product portfolio and strategic alignment with key IT priorities.

    Highlights

    6

    • Operating margin of 30% was above expectations.

    • First-party and marketplace cloud storage services grew well over 40% year-over-year.

    • All-flash array business grew 10% to an annualized revenue run rate of $3.8 billion.

    • Keystone (Storage-as-a-Service) revenue grew almost 60% year-over-year.

    • Public Cloud segment revenue increased 15% year-over-year, or 21% excluding Spot by NetApp.

    • AI business performed ahead of expectations with over 100 AI infrastructure and data lake modernization wins.

    Concerns

    5

    • Revenue growth of 2% year-over-year was at the lower end of expectations due to inconsistent sales execution and deals slipping out of the quarter.

    • Q3 revenue was $44 million below the midpoint of guidance, with approximately one-third ($14.7M) due to FX.

    • Full-year FY25 revenue guidance was slightly reduced due to FX impact ($30M less revenue, $0.08 EPS impact) and the Spot divestiture ($15M less cloud revenue in Q4).

    • Operating cash flow was $385 million, down from $484 million a year ago, primarily due to lower collections and higher cash outflows for strategic SSD purchases.

    • Expected global public sector weakness in Q4.

    Guidance & targets

    15
    CategoryTargetConfidence
    Full-year FY25 Revenue
    $6.49 billion and $6.64 billion
    high materiality
    High
    Full-year FY25 Consolidated Gross Margin
    approximately 71%
    medium materiality
    High
    Full-year FY25 Operating Margin
    28% to 28.5%
    high materiality
    High
    Full-year FY25 Net Interest Income
    approximately $55 million
    low materiality
    High
    Full-year FY25 Tax Rate
    20% to 21%
    low materiality
    High
    Full-year FY25 EPS
    $7.17 to $7.27
    high materiality
    High
    Q4 FY25 Revenue
    $1.65 billion and $1.8 billion
    high materiality
    High
    Q4 FY25 Consolidated Gross Margin
    between 69% and 70%
    medium materiality
    High
    Q4 FY25 Operating Margin
    approximately 28%
    high materiality
    High
    Q4 FY25 Net Interest Income
    approximately $10 million
    low materiality
    High
    Q4 FY25 Tax Rate
    20% to 21%
    low materiality
    High
    Q4 FY25 EPS
    $1.84 to $1.94
    high materiality
    High
    Product Gross Margin
    around 56%
    medium materiality
    High
    Public Cloud Gross Margins
    towards the high end of our long-term target of 75% to 80%
    medium materiality
    High
    Product Gross Margins
    start to increase
    medium materiality
    Medium

    Segment performance

    5
    SegmentRevenueYoYQoQMargin
    Hybrid Cloud
    Compared to Q3 a year ago, hybrid cloud revenue increased 1%
    		—1%——
    Product
    Product revenue of $758 million was up 1% year-over-year.
    		$758 million1%——
    Support
    Support revenue of $621 million declined 2% year-over-year, but was roughly flat year-over-year in constant currency.
    Constant currency growth: flat YoY
    		$621 million-2%——
    Professional Services
    Professional services revenue of $88 million grew 14% year-over-year, mainly driven by Keystone, our Storage-as-a-Service offering, which grew nearly 60% year-over-year.
    Keystone revenue growth: 60% YoY
    		$88 million14%——
    Public Cloud
    Public Cloud revenue of $174 million increased 15% year-over-year, driven by hyperscaler first-party and marketplace storage services.
    First-party and marketplace cloud storage services growth: >40% YoYPublic Cloud revenue (excluding Spot by NetApp) growth: 21% YoY
    		$174 million15%——

    Operational metrics

    27
    Revenue
    $1.64 billion2% YoY
    Q3 FY25

    Revenue of $1.64 billion increased 2% year-over-year. While our revenue was $44 million below the midpoint of our guidance, around 1/3 of this was FX driven.

    Billings
    $1.71 billion2% YoY
    Q3 FY25

    Billings of $1.71 billion increased 2% year-over-year. This marks our fifth consecutive quarter of year-over-year revenue and billings growth.

    Non-GAAP operating margin
    30%above expectations
    Q3 FY25

    yielding operating margin of 30%, above expectations.

    Non-GAAP EPS
    $1.91in line with guidance
    Q3 FY25

    EPS of $1.91 was in line with our guidance with revenues and gross margins below our guidance points, but offset by operating expense control.

    Deferred Revenue
    $4.1 billionflat YoY
    Q3 FY25

    Q3 deferred revenue was $4.1 billion, flat year-over-year, but up 1% year-over-year in constant currency.

    Remaining Performance Obligations
    $4.5 billion
    Q3 FY25

    Remaining performance obligations were $4.5 billion.

    Unbilled RPO
    approximately $350 million6% QoQ
    Q3 FY25

    Unbilled RPO was approximately $350 million, up 6% quarter-over-quarter. Growth in unbilled RPO is a key indicator of future Keystone growth.

    Consolidated Gross Margin
    71%
    Q3 FY25

    Q3 consolidated gross margin came in at 71%.

    Product Gross Margin
    57%
    Q3 FY25

    Product gross margin was 57%

    Support Gross Margin
    92%
    Q3 FY25

    Our recurring support business continues to be highly profitable with gross margins of 92%.

    Public Cloud Gross Margin
    76%up from 66% in prior year
    Q3 FY25

    Q3 Public Cloud gross margins improved to 76% from 66% in the prior year. We are particularly proud of the 1,000 basis point improvement in public cloud gross margins.

    Operating Expenses
    $669 milliondown 2% YoY, down 7% QoQ
    Q3 FY25

    Operating expenses of $669 million was down 2% year-over-year and down 7% from Q2 '25.

    Inventory Turns
    7
    Q3 FY25

    These strategic purchases resulted in much higher-than-usual inventory levels and inventory turns of 7 in Q3.

    Days Sales Outstanding
    50in line with seasonal averages
    Q3 FY25

    In the quarter, DSOs increased to 50, in line with seasonal averages.

    Capital Returned to Stockholders
    $306 million
    Q3 FY25

    During the quarter, we returned $306 million to stockholders through share repurchases and cash dividends.

    Share Repurchase Authorization Remaining
    approximately $600 million
    Q3 FY25

    We have approximately $600 million remaining on our existing repurchase authorization.

    Cash and investments balance
    approximately $2.3 billion
    Q3 FY25

    We ended the quarter with approximately $2.3 billion in cash and short-term investments against $2 billion in debt.

    Net Debt
    approximately $200 million
    Q3 FY25

    Calculated as $2.3B cash - $2B debt. We ended the quarter with approximately $2.3 billion in cash and short-term investments against $2 billion in debt.

    Diluted Share Count Reduction
    3 million sharesYoY
    Q3 FY25

    reducing Q3 diluted share count by 3 million shares year-over-year.

    FX Impact on Revenue
    approximately $14.7 million
    Q3 FY25

    While our revenue was $44 million below the midpoint of our guidance, around 1/3 of this was FX driven.

    FX Impact on Revenue
    approximately $30 million lessvs previous guidance
    H2 FY25

    For NetApp, the expected impact to the second half of fiscal year '25 as compared to our previous guidance is approximately $30 million less in reported revenue

    FX Impact on EPS
    $0.08vs previous guidance
    H2 FY25

    and an $0.08 impact to EPS.

    Spot Divestiture Impact on Cloud Revenue
    around $15 million less
    Q4 FY25

    Second, we plan to close the Spot divestiture in early March, and this will result in around $15 million less in cloud revenue in Q4.

    Spot Divestiture Annualized Revenue
    about $94 million
    TTM

    the business that was -- that we are divesting for the trailing 12 months, the cloud revenue has been about $94 million

    All-flash array business annualized revenue run rate
    $3.8 billion10% YoY growth
    Q3 FY25

    our all-flash array business grew 10% to an annualized revenue run rate of $3.8 billion.

    All-flash penetration into installed base
    43%up modestly every quarter
    Q3 FY25

    The penetration of our all-flash footprint into our installed base is now 43% -- so it's up, again, modestly every quarter

    U.S. Public Sector Revenue % of Total
    10% to 13%
    FY

    Public sector, which includes Fed plus state and local governments, bounces around between 10% to 12%, 13% of total revenue.

    Industry KPIs

    9
    MetricValueDetails
    Capital return FCF$306 millionUSD
    Gross margin drivers1,000 bpsbps
    Company specific kpisCustomer's Choice for Primary Storage
    Services peripheral attachalmost 60%%
    Component supply constraintsstrategic SSD purchases
    Installed base refresh runway43%%
    Capacity roadmap qualification5 petabytesPB
    Ai server orders revenue backlogover 100wins
    Revenue mix by end market segment10% to 13%%

    Orderbook & backlog

    2
    Remaining Performance Obligations$4.5 billionQ3 FY25
    Unbilled RPOapproximately $350 millionQ3 FY25

    6% QoQ

    Key indicator of future Keystone growth.

    Product announcements

    3
    ProductTypeDetails
    Entry and mid-range AFF A-Series high-performance and C-Series capacity flash arrayslaunch
    Entry-level and midrange ASA systemslaunch
    StorageGrid object storage solutionsupdate

    Deals & partnerships

    1
    FlexeraSale of Spot by NetApp and CloudCheckr businesses

    As many Spot and CloudCheckr customers are also customers of our other products and services, it was important to us to select the right partner to assume this portfolio, and we are confident that these customers will benefit from a more complete FinOps portfolio from Flexera.

    Risks & headwinds

    5
    Inconsistent sales execution leading to deal slippageQ3 FY25

    Revenue $44 million below midpoint of guidance

    Mitigation: Instituted higher level of scrutiny on deal progression through the pipeline with tighter controls on closing plans; many slipped deals already closed in early Q4.

    Foreign Exchange (FX) HeadwindsH2 FY25

    Approximately $30 million less in reported revenue and $0.08 impact to EPS for H2 FY25 compared to previous guidance.

    Mitigation: Factored into updated guidance.

    Global Public Sector WeaknessQ4 FY25

    Directional, factored into Q4 outlook.

    Mitigation: Factored into Q4 outlook; management believes these are tied to technology-led productivity improvement initiatives over time.

    Customer Caution in EuropeQ3 FY25 and continuing in Q4 FY25

    Caused a couple of deals to push in Q3.

    Mitigation: Monitoring situation, progressing deals according to plan.

    Working Capital Impact on Free Cash FlowFY25

    Operating cash flow down $241 million YoY; free cash flow down from $448 million to $338 million YoY. Driven by payments for strategic SSD buys and incentive payments (total working capital impact ~$300M).

    Mitigation: Expect to utilize majority of strategic SSD purchases by end of FY25, leading to commensurate reduction in inventory; working capital factors not expected to repeat in FY26.

    What to watch in Q4 FY25

    5

    Sales Execution Improvement

    Q4 FY25
    CurrentRevenue $44M below midpoint of guidance in Q3 FY25 due to deal slippage.
    TargetImproved deal closure rates and revenue performance in line with or above guidance.

    Why it matters

    Directly impacts top-line growth and investor confidence in management's ability to execute.

    Although within our guidance range, we are not satisfied with our top line performance. We remain well positioned with customers as their supplier of choice for AI and other data-driven workloads. First-party and marketplace cloud storage services and AI were bright spots in the quarter. We had line of sight to achieve our sales targets until the end of Q3 when inconsistent execution resulted in some deals slipping out of the quarter.

    Q&A highlights

    6

    What caused the sales execution issues and what actions are being taken? How long will it take to see improvements?

    George Kurian explained that large deals in the last few weeks of Q3 took longer to close due to procurement processes and budget flows at the start of the calendar year. Some clients also wanted to upsize transactions. Tighter scrutiny on closing plans has been implemented, and many slipped deals have already closed in Q4. This discipline will continue into Q4 and become standard practice for FY26.

    “Already, what we have seen is many of the deals that pushed from Q3 have closed in Q4, particularly many of the largest ones in the quarter.”

    asked by Aaron Rakers · answered by George Kurian

    3 min read7 chapters

    Detailed Narrative

    01

    Sales Execution and Deal Slippage

    Inconsistent sales execution led to several large deals, primarily flash-based product transactions, slipping out of Q3 FY25, impacting top-line performance. These delays were attributed to customers' procurement processes, budget flows at the start of the calendar year, and some clients seeking to upsize transactions. Management has since implemented a higher level of scrutiny on deal progression and closing plans, with many of the previously slipped deals already closed in early Q4 FY25.

    02

    Product Portfolio Refresh and Traction

    NetApp completed the refresh of its entry and mid-range AFF A-Series and C-Series flash arrays in Q3 FY25, and introduced new entry-level and mid-range ASA systems at the start of Q4 FY25. These new ONTAP-powered systems are designed to simplify scaling and expand capabilities for remote and branch locations, while reducing storage costs. The new products are gaining traction, exemplified by a U.S. financial services firm selecting AFF A90 for AI fraud detection and an electronics manufacturer choosing AFF C60 for multi-location data management.

    03

    AI Business Momentum

    The AI business performed ahead of expectations in Q3 FY25, securing over 100 AI infrastructure and data lake modernization wins across various geographies and service providers. The company highlights the modernization of data lake environments to object storage (StorageGrid) as a key entry point for enterprise AI, with a leading U.S. retail bank deploying 5 petabytes of StorageGrid, expected to triple in size. NetApp's solutions are also being adopted for Gen AI production workloads, including inferencing and RAG, due to their secure data movement, tiering for model checkpoints, and model traceability.

    04

    Public Cloud Strategy and Growth

    The public cloud segment achieved 15% year-over-year revenue growth in Q3 FY25, primarily driven by first-party and marketplace cloud storage services, which grew over 40%. Excluding the divested Spot by NetApp, public cloud revenue growth was 21%. Recent innovations for Amazon FSX for NetApp ONTAP and Microsoft Azure NetApp Files, along with Google Cloud Ready designation for Google Cloud NetApp volumes and Cloud ONTAP, are broadening the company's addressable market and strengthening hyperscaler partnerships.

    05

    Spot by NetApp Divestiture

    NetApp announced the sale of its Spot by NetApp business (including CloudCheckr) to Flexera, with the deal expected to close in early March. This divestiture aims to sharpen the focus of the public cloud business on highly differentiated first-party and marketplace cloud storage services. The transaction is anticipated to be largely neutral to EPS but will result in approximately $15 million less in cloud revenue for Q4 FY25. The divested business generated about $94 million in cloud revenue over the trailing 12 months.

    06

    Gross Margin Dynamics

    Consolidated gross margin for Q3 FY25 was 71%. Public cloud gross margins significantly improved to 76% from 66% year-over-year, a 1,000 basis point increase. Product gross margin was 57%, with an expectation of around 56% in Q4 FY25. Management anticipates 56% to be the low point for product gross margins, projecting an increase in FY26 driven by price changes, new product introductions, and continued weakness in the NAND market.

    07

    Capital Allocation and Balance Sheet

    NetApp returned $306 million to stockholders in Q3 FY25 through share repurchases and cash dividends, with approximately $600 million remaining on its existing repurchase authorization. The company ended the quarter with a healthy balance sheet, holding approximately $2.3 billion in cash and short-term investments against $2 billion in debt, resulting in approximately $200 million in net cash.

    AI-generated summary of the company’s earnings call. Not investment advice.