F4Q10 (04/30/2010) Earnings Call
May 26, 2010 5:00 pm ET
Steve Gomo - Chief Financial Officer, Principal Accounting Officer and Executive Vice President of Finance
Tara Dhillon - Senior Director of Investor Relations
Thomas Georgens - Chief Executive Officer, President and Director
Benjamin Reitzes - Barclays Capital
Keith Bachman - BMO Capital Markets U.S.
Robert Cihra - Caris & Company
David Bailey - Goldman Sachs Group Inc.
Amit Daryanani - RBC Capital Markets Corporation
Glenn Hanus - Needham & Company, LLC
Aaron Rakers - Stifel, Nicolaus & Co., Inc.
Mark Kelleher - Brigantine Advisors
Chris Whitmore - Deutsche Bank AG
Paul Mansky - Canaccord Genuity
Jayson Noland - Robert W. Baird & Co. Incorporated
Brian Marshall - Broadpoint AmTech, Inc.
Mark Moskowitz - JP Morgan Chase & Co
Kathryn Huberty - Morgan Stanley
Ittai Kidron - Oppenheimer & Co. Inc.
Maynard Um - UBS Investment Bank
Wamsi Mohan - BofA Merrill Lynch
Previous Statements by NTAP
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Good day, ladies and gentlemen, and welcome to the NetApp Q4 and Fiscal Year 2010 Earnings Conference Call. My name is Shamika, and I will be your coordinator for today. [Operator Instructions] I will now like to turn the presentation over to your host for today's call, Ms. Tara Dhillon, Vice President of Investor Relations. Please proceed.
Good afternoon, everyone. Thank you for joining us. With me on today's call are our CEO, Tom Georgens; and our CFO, Steve Gomo. This call is being webcast live and will be available for replay on our website at netapp.com, along with earnings release, the supplemental commentary, our financial tables and a non-GAAP to GAAP reconciliation.
Last quarter, we implemented new format for our quarterly results announcement. Concurrent with the press release, we are now publishing and distributing a supplemental commentary, which contains the metrics and some of the analysis we have previously we provided in our live call. Our goal is to provide the investment community with additional time to review and analyze all of our results, allowing for more thoughtful interactive dialogue during the Q&A. This live call will focus on strategic commentary and outlook from our CEO and CFO and allow for a slightly longer Q&A period. We received very positive feedback on this new approach, so we'll be using it going forward.
As a reminder, during today's call, we will make forward-looking statements and projections, including our financial outlook, which involve risk and uncertainty. Actual results may differ materially from our statements and projections. Factors that could cause actual results to differ from our projections are detailed in our accompanying press release, which we have filed on an 8-K with the SEC, as well as our 10-K and 10-Q reports also on file with the SEC and available on our website, all of which are incorporated by reference into today's discussion. These factors include among others that our quarterly operating results may fluctuate for a number of reasons, some of which are beyond our control.
All numbers mentioned are GAAP unless stated otherwise. To see the reconciling items between non-GAAP and GAAP, refer to the table in our press release, our supplemental commentary and on our website. I'll now turn the call over to Steve for his thoughts. Steve?
Thanks, Tara. Good afternoon, everyone. NetApp further separated itself from the pack this quarter. We again achieved records across most areas of our business from revenue to cash generation. Record levels of net income, deferred revenue and impressive accounts receivable collection efforts drove both cash from operations and free cash flow to new heights.
Free cash flow expressed, as a percentage of revenue, was 37%, well above our targeted range. However, I believe the best indicator of our business strength is our 50% growth in product revenue. That's five zero. 50% organic growth in product revenue demonstrates unquestionable share gains in the network storage market, and we accomplished this while maintaining very strong non-GAAP product gross margins.
The main reason I'm so excited about this particular metric is that everything attaches to product. To stay in product growth eventually drives the growth of the deferred revenue element on our P&L. It is no coincidence that the large increase in product revenue was accompanied by a significant increase in the deferred revenue level on our balance sheet.
The growth and demand for our product has also put additional strain on our supply chain, which was already experiencing challenges due to unpredictable spot towards it at some parts and the disruptive effect of the volcanic eruption in Europe. To deal with this environment of supply chain variability, we have taken steps to protect the sustainability of our revenue growth by forward provisioning a lot more material around the world. As a result, you should expect all categories of inventory level, raw material, working process and finished goods to run higher than normal for the next few quarters.
Our non-GAAP operating expenses were also above plan in Q4, although it was again due primarily to greater-than-expected variable and incentive compensation related to our business volumes and our operating income performance. We will continue to invest in both sales and engineering to further strengthen both our near-term and longer-term growth opportunity. At the same time, we will maintain control over to level of investments we make to ensure that we are spending our resources wisely. We will not spend beyond levels, which we believe we can manage effectively to achieve our growth objective.
Looking forward, Q1 revenue is expected to decline from Q4 levels by about 3% to 6%. It is worth noting that the midpoint of our target for Q1 revenue implies a year-over-year growth rate of almost 34%. Granted this is over and easy compare, but at the midpoint of our revenue guidance, we expect product revenue growth to be about 45%. A 45% organic product revenue growth is a remarkable number for a company of our size in any environment, giving you a strong indication of the momentum we have on our business.
We expect our Q1 operating expenses to fall from Q4 levels now that the variable and incentive compensation part gets reset at the beginning of our fiscal year. As a result, our forecast non-GAAP operating margin is now expected to be in a range around 17.5% of revenue, plus or minus half a point or so. I'd also like to point out that free cash flow we received from Q4 levels as the accrued compensation for commission and incentive compensation is paid out to employees in Q1. As a result, expect free cash flow to be lower than our targeted range of 17% to 22% in the first quarter.