Good morning, and welcome to the Seagate Technology’s Fiscal Second Quarter 2020 Financial Results Conference Call. My name is Josh, and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. Following the prepared remarks, there will be a question-and-answer session. As a reminder, this conference is being recorded for replay purposes. At this time, I'd like to turn the call over to Shanye Hudson, Vice President, Investor Relations. Please proceed, Shanye.

Thank you. Good morning, everyone, and welcome to today's call. Joining me are Dave Mosley, Seagate's Chief Executive Officer; and Gianluca Romano, our Chief Financial Officer. We posted our earnings press release and detailed supplemental information for our December 2019 quarter on the Investors section of our website. During today's call, we will refer to GAAP and non-GAAP measures. Non-GAAP figures are reconciled to GAAP figures in the earnings press release posted on our website and Form 8-K that was filed with the SEC. We've not reconciled certain non-GAAP outlook measures because material items that may impact these measures are out of our control and/or cannot be reasonably predicted. Therefore, reconciliation to the corresponding GAAP measures is not available without unreasonable efforts. As a reminder, this call contains forward-looking statements, including our March quarter financial outlook and expectations about our financial performance, market demand, industry growth trends, planned product introductions, ability to ramp production, future growth opportunities and general market conditions. These statements are based on management's current views and assumptions and should not be relied upon as of any subsequent date. Actual results may vary materially from today's statements. Information concerning our risks, uncertainties and other factors that could cause results to differ from these forward-looking statements are contained in our most recent Form 10-K filed with the SEC and the supplemental information posted on the Investors section of our website. Following today's prepared remarks, we will open the call for questions. And with that, I'll now turn the call over to you Dave.

Thanks, Shanye. Good morning, everyone, and thanks for joining us. I will begin today's call by highlighting a few key accomplishments for the December quarter and then I will share some perspectives on the market trends and their relevance to Seagate. Afterwards, I will turn the call over to Gianluca to elaborate on our December quarter financial performance and present our March quarter outlook. Following the prepared remarks, we will open up the call for questions. In the December quarter we grew revenue to $2.7 billion and drove strong double-digit profit growth on a sequential basis with both non-GAAP operating margin and non-GAAP EPS coming in at the upper end of our guided ranges. Importantly, we have generated nearly $1.2 billion in free cash flow over the past 12 months underscoring our consistent operational execution. In addition to delivering solid financial results, we achieved record exabyte shipments in the December quarter supported by strong demand for mass capacity storage and the continued successful ramp of our 16-terabyte products. Consistent with our expectations, we shipped 1 million 16-terabyte drives during the quarter to support strong customer demand. We also strengthened our product portfolio announcing Seagate Lyve Drive Mobile System, a series of seamlessly integrated storage solutions to address the burgeoning need to move data between endpoints, edge and core cloud environments in an efficient, secure and cost effective way. Lyve Drive was one of many products we showcased during the Consumer Electronics Show this past January, which I'll discuss shortly. First, let me comment on some of the trends we're seeing in the market. Our December quarter results highlight the increasing demand for mass capacity storage, which includes nearline, video and image applications and network-attached storage or NAS. Revenue from mass capacity storage increased 9% quarter-over-quarter and 25% year-over-year, driven by…

Thank you, Dave. The December quarter represented another period of solid financial performance and strong free cash flow. On a sequential basis revenue increased 5% to $2.7 billion. Non-GAAP operating income increased 29% translating to non-GAAP operating margin of nearly 16% of revenue and non-GAAP earnings per share increased [31%] to $1.35. Our results demonstrate strong operating leverage supported by ongoing expense discipline and a richer revenue mix of mass capacity storage. Mass capacity storage which include nearline, video and image application and NAS drives represented 49% of total December quarter revenue, up from 47% in the prior quarter and 39% in the prior year. Exabyte shipment into this market increased 12% sequentially to 71 exabytes. This strong sequential growth was underpinned by demand for our mass capacity drives. As we shared during our analyst event we expect that mass capacity revenue will continue to grow quickly over the next several years. Our product portfolio and technology roadmap are well aligned to capture these growth opportunities. Revenue from 16-terabyte drives nearly tripled quarter-over-quarter making them our highest revenue product during the quarter, a trend we expect to persist through the rest of the fiscal year as we continue to ramp this product to support the broadening of customer demand. Increased demand for mid capacity nearline drives was another highlight for the quarter. Sales of our 4, 6 and 8-terabyte drives moved higher to support enterprise and OEM customers as they build out to their own prem and private cloud storage needs. Our cost reduced mid capacity product continued to gain momentum offering customers a better TCO relative to prior generation products. In addition to LTE nearline demand, we also realized double-digit revenue and exabyte growth for video and image applications reflecting above seasonal demand which we expect to normalize moving…

Thanks, Gianluca. In summary, our performance demonstrates our ability to deliver solid financial results and drive cash generation throughout industry cycles. We are continuing to identify ways to drive further operational efficiencies to optimize profitability. We are also leveraging our strong technology roadmap, broad product portfolio, deep customer relationships and systems architecture expertise to address secular demand for mass capacity storage and emerging opportunities to provide cost effective data management solutions. I’m confident that Seagate is well positioned to fully capitalize on these growth opportunities while enhancing value for our customers and shareholders. Before opening the call for questions, I would like to take a moment to thank our customers, suppliers, business partners and employees for their contributions to the ongoing success of our business. Josh I’ll hand it back to you to lead through the Q&A.

[Operator Instructions]. Your first question comes from Sidney Ho with Deutsche bank. Please go ahead. Your line is open.

Hi, this is Jeff on for Sidney. Gross margins were good in the quarter. Can you talk a little bit about any pricing pressure that you were seeing related to high capacity drives?

I think I would say that the market for a on a dollars per terabyte basis, if I look back over the last couple of years -- hi Jeff by the way, I would say that it’s reflecting a pretty competitive space, and I expect that over the long haul, we're all going to have to make investments to answer the call in that growth space. So I think at some point we have to continue to work our costs down, which we're doing. We have to work through product transitions which we are doing but we'll also have to install capital, and I expect at some point we're going to have to focus more on -- rather than chasing share, we're going to have to focus more on making those investments.

Great. And then just as a follow-up, you mentioned increased demand for midline capacity drives as enterprise and OEMs build out their own storage needs. Can you talk a little more about this opportunity and does this potentially lead to a less reliance on the cloud service providers in the future?

No. I would say, if I go back a year and a half to the peak of the last cycle, thereabout, the market was very strong across the portfolio. I think the highest capacity points typically go to the bigger customers, but I think there are many small customers globally, which are still not as fully representative as they were in the peak of the last cycle, frankly, but are taking all kinds of different capacity points. And so, therefore it's important to have a broad product portfolio and address them with the right products.

Your next question comes from Katy Huberty with Morgan Stanley. Please go ahead. Your line is open.

Thank you. Good afternoon. Can you just talk about how you see 16-terabyte ramping? In which quarter do you expect the biggest sequential ramp in volume? And then, is there any reason that as 16-terabyte volumes ramp the gross margins wouldn't improve in a fairly linear fashion?

I think we can both take it Katy, I'll pass it over to Gianluca for the gross margin part. We've said that this is one of the biggest ramps we've ever done, if not the biggest ramp we've ever done at heads and media. We're in the middle of it and to the point of just saying this quarter we will do 1 million and then having done 1 million, that's indicative of the strength of that ramp. The ramp is not over. It's going to keep going. And the way we look at it is, there’s were many products in our portfolio before, but this platform is the one that's going to take us from 16 to 18 to 20 and beyond. Our ability to leverage costs and the other technology pieces that we have to put in there, is great now that we don't have to keep transitioning products, we get a lot of leverage from that. We talked about that in the prepared remarks. So from my perspective, we have that strong portfolio to take us forward. I think Gianluca can speak about gross margins.

Yes. I'd say in fiscal Q2, the improvement in gross margin is coming partially from the 16-terabyte, but as we said, actually tripled the volume during the quarter but also from an overall cost reduction on several other drives. So, looking at Q3, we will have for sure an higher volume in 16-terabytes that will help our gross margin, but of course depends on the overall mix of the entire volume that we move into the quarter.

Thank you. And if I can just follow up, Dave, going back to your comments about the difficulty of ramping heads in media that you executed on for 16-terabytes. There -- if you take demand side there have been some questions around whether the qualifications are coming in. Can you just talk about kind of U.S. versus China and any general numbers around how many of your big customers have qualified and are actually purchasing that product at this point?

We're fairly happy with the breadth of the qualification. I mean, if you get down to very specific customers, they may be ready to take 16. Some of them may be back on 8 for example. Globally, there's people that -- for various reasons, they aren't ready to move there in the architecture, and we get that. In general, we're on plan with our ramp and I think our ramp is going to continue from here. The qualifications are going quite well. So I'm not worried about it at all. I think that as I look across the customer base, Katy, what we've talked about in the past was everybody adopting the highest capacity point quickly. I think that's happening less and less, frankly, because I think there's a lot of -- as we've talked in the past, there's a lot of diverse need even within one customer set, even with one customer. And then each customer may have their own different specific needs. So I think as the cloud grows bigger, certainly some of the scale people have diversity needs so that they have to make sure that we continue to service. It's not just about the build out of the new stuff and it's a growing world. So, we have to work with all those customers to get them exactly what they need and 16 is doing quite well against that.

Your next question comes from Ananda Baruah with Loop Capital. Please go ahead. Your line is open.

Good afternoon guys. Thanks for taking the question. A couple from me if I could, just sticking on gross margin. I may have missed it, but did you make remarks about what we should expect for gross margin in the March quarter? And then just as a follow-up to that, philosophically, as you can see to improve the yields on 16 and Dave to your point about the platform transition to 18, same platform, why wouldn't the gross margin level up nicely once you get the 16 yields to normalize and then as you transition on to 18 from there, once you have the cost, so the cost situation, yield situation handled?

Well, I think as the portfolio -- as the market continues to grow, so the supply and demand is probably the first driver of all those discussions. So if -- the supply demand picture continues to grow in the favor of more demand and not as much supply, I think, we can start asking those questions. So that that gives them the cloud cyclicality. And I'll let Gianluca specifically say about how he thinks about gross margin.

Hi Ananda. You know we don't really guide gross margin, but if you look at our revenue and our EPS are fairly were aligned quarter-over-quarter. So I'll have to take your assumption but no, I would not see a major change sequentially.

I think if we see a big demand in the 16-terabyte, the 18-terabyte, once we get there is in high demand, I think we should be able to manage it. I think we talked about that a little bit last quarter as well. And what you described may happen, but I think the broader portfolio from our perspective, and we've said this before, we're really managing for things closer to the bottom-line like operating income and now that we're at the top end of our range again, we’re quite happy with that.

Great. Then you mentioned positive trajectory for hyperscale from here, you expect June to be up for March as well. I mean I know things can change but just in your base case from an exabyte perspective?

Yes. We’ve talked to the end of the fiscal year that I don't see any reason for the cycle to slow down by the end of the fiscal year. Out the back end of the calendar year, we're not really ready to talk about that yet given all the disruptions that are going on in the market. But I will say this, I'm very happy with our product portfolio going into this next cycle whenever it comes.

Your next question comes from Aaron Rakers with Wells Fargo. Please go ahead. Your line is open.

Thanks for taking the question. I'll try and get two in here as well. Just on that final comment on the product cycle set up, I know that you mentioned during the call that you have 18 TB shipping in the first half of the year. Just -- sorry about the nuance here. But when you say that, do you mean that you expect to see shipments in volume in the first half of the calendar year or is that just shipments in the qualification? I'm just trying to understand the timing of those relative to your competitor.

Well, yes, I don't really want to get into that too much here, but I would say that, in my opinion qualification is volume. I mean it's not one. The qualification test beds if you will, are fairly big volume. And so, it's not 1 million per quarter, like we just talked about, a few quarters into the ramp up of the 16. But, yes, that kind of goes hand in glove.

Okay, fair enough. And then, as we think about the trajectory of the business, I'm just curious now that you're breaking it out a little bit differently between mass capacity versus legacy, as we model going forward, we talk a lot about nearline, but I'm curious of how you think about the rate of decline in the legacy business as we move out over the next couple of quarters or if you want to take a stab longer-term?

Very interesting. If I think about some of the legacy businesses, the way we're thinking about them is we're not really investing much OpEx into them anymore, but we have a very broad customer portfolio that actually needs those products to go make whatever pivot they're going to make from the old world client server IT 2.0 to the new world 4.0, right? We have to continue to support those customers and foster those relationships with what they need. In some cases, we see surprise downsides, in other cases we see surprise upsides based on how they're driving their markets and we react to them. I would say, across most of the legacy space, there's a mix up going on. So even if the units are coming down, the mix is going up, the use cases are still relevant in the cases of some, there are already -- as you know, there are hundreds of millions of slots for these form factors out in the world, and just the support business for that is a long tail, and that's the way I think about it. Probably as it mixes up it becomes more stable relatively. So it's not going away very soon, but we're not investing in it either. We're just continuing to service it predictably.

Yes. I think it’s raising a very good point. You should look at the importance of the legacy business in terms of free cash flow, considering where the OpEx and the CapEx is fairly low in that area. It's still a good contributor to our free cash flow in general. So, it’s still very important to us.

Your next question comes from Steven Fox with Cross Research. Please go ahead. Your line is open.

Hi. Good afternoon. I hope this question wasn't answered. Got disconnected a couple of times. But in terms of looking at the competitive environment, your largest competitor has talked about maybe regaining some market share down the road this year as they launch 16 TB products and above, suggesting that maybe you're overperforming on market share right now, but at the same time you're talking about ramping more of 16-terabyte volume and 18 TB is ramping. So, I guess without throwing too many stones, I’m just curious what you would say about just your relative market share potential for the rest of the year?

Yes, I would say market share is not exactly an outcome. We need a -- as an outcome that’s not exactly our objective. So we made a conscious decision, if you remember Steven three quarters, four quarters ago, sort of pivoting from some of the lower capacity points into the 16 platform and we were very open about that, just because we knew we would get the leverage into the 18s and 20s like we've talked about. I think as some of that happens, customers will drive us for more and more of that demand. And I think some of the puts and takes you've seen in share may change a little bit. But again, we're trying to be predictable for those customers to get them exactly what they need. I like our plans because we happen to have the drive up the ramp-up already. So it's very predictable.

Okay. That's helpful. Just on a couple of follow-ups. First on what you just said about pivoting away from lower capacity points, I guess I was under the impression that a lot of that was in the rearview mirror. But you're saying you still may do more of that as we look out over the next 12 months to 18 months, and then I had a quick follow-up?

No, sorry. Well, there are still our customers that need those products for various reasons, right, because of their architectures or what have you. But no, what I said in particular is if I go back nine months, we were very vocal about we're moving to 16s to these new platforms. And we've been focusing all of our operational resources and heads and media and things like that on those new platforms.

Okay. I understand now. And then in terms of gross margins, I understand you don't want to guide the gross margins. But you've mentioned several -- without getting into detail, you've mentioned several drivers that would seem to improve your gross margins considerably over the next few quarters or at least a little bit, what are the drags that we should worry about outside of macro that could be pressure on the gross margins?

I'll let Gianluca answer, but you're hitting the right theme, which it comes down to supply and demand. So for specific products or for the cloud cyclicality, as we've talked about before, if we've got supply and demand pretty well balanced, we should be able to manage exactly like you described, but go ahead, Gianluca.

Well, I would say that we expect high volume from our 16 terabyte and the mass capacity storage drives in general. We think our cost is declining fairly well. Of course, when you talk about gross margin, the other variable is pricing and now we will have to wait and see how the pricing will be during the quarter and that will determine our gross margin at the end.

I think we've said before that -- especially in the down cycle like we were in early calendar '19 that we're managing for free cash flow and operating income is the way we're focused. As the cloud comes back to a more of a peak cycle, then we can figure out exactly how we're going to balance our portfolio. But it starts with what the customers need and making sure we get them what they need to go achieve their business objectives and we're always mindful of the demand cyclicality as well.

Your next question comes from Jim Suva, Citigroup. Please go ahead. Your line is open.

Thank you very much. If I understand it correctly, your 18-platform is going to be on the same platform as 16. And if so, when we think about that, I would assume that means that there is lower yield issues, lower risk and things like that or is there additional complexity you should be aware of? And when we think about once it's ramping and more volume, would the profitability be similar or why wouldn't it actually be higher, just kind of talking kind of longer term?

So, in theory, you're right. I would say, if we look back over multiple generations in the industry, all the way back to 2-terabytes or 3-terabytes, we were changing platforms quite frequently, more heads and media, more different technologies being brought to bear and things like that. It's a new mechanical platform, so a lot of parts we're changing. Exactly to your point, we've been talking about this with the 16. We think it's a highly leverageable platform for many years. There will be subtle changes, but I think that most of the parts are not changing and that helps our ability to ramp, our ability to yield and our ability to scale for the customers, be more flexible actually if we can move most of our product portfolio over there. So it does provide opportunities, but again, supply and demand is the key driver there. Gianluca, do you have something to add there?

No, I think you made the point.

Okay. Does that make sense, Jim?

It does. Lastly, anything on tax rate we should be aware of for kind of longer term modeling for tax rate?

No, I don't expect any change in our tax rate.

Your next question comes from Patrick Ho with Stifel. Please go ahead. Your line is open.

Thank you very much. Dave, maybe first off, in terms of the transition from 16-terabytes to 18-terabytes, you mentioned some of the ease for customers. How do we look at it from a new customer or share win standpoint, given that the transition to existing customers probably is easy. But how do you look at it from a new customer win standpoint? Does the success of 16-terabyte help validate it for the new customers?

In some cases, because of the leverage, especially on firmware basis and things like that, the feature sets, things like that. But no, in general, most customers are going to every new qualification with a discerning eye. They want to make sure that they do all the things right to integrate it into their data center. And again, it's -- data centers are not one size fits all, there is many different applications, some of the big customers have so many different applications, they have to worry about being able to plug this into legacy architectures or new architectures or things like that and globally there's many different BIOSes being used, chipsets being used so on and you get it. So there is some leverage for sure, people know the family now, they're already comfortable with the family. There is some leverage, and then there is some element of a new customer, you have to go through the same amount of work.

Great. And maybe as my follow-up question to Gianluca. In terms of the gross margin, you've given a lot of color on the call so far. In terms of the cost reduction impact versus the change in product mix, on a going forward basis, is it more of a mix issue at where you could say that the cost reductions are already in place and it's now just the mix turning more favorable?

Yes. Probably, the mix is a major driver in the cost reduction at this point.

Your next question comes from Munjal Shah with UBS. Please go ahead. Your line is open.

I had two. One on, could you comment on the surveillance demand. Is there anything going on with the large customers you think that there is all in or any thoughts for trend in the quarter? And then I have another one for Gianluca. Your comments suggest that gross margin should improve sequentially and your EPS guidance is flat sequentially. I was just wondering if there is anything that's an offset in here?

Yes, I think relative to surveillance, we have over the years seen some, I'll call it, seasonality around government buying cycles at the end of the calendar year. And as the market moves towards some smart city applications, especially globally, I think there are markets that we're seeing now that people are investing quite a bit for smart cities. You do see that cyclicality. The market is growing. I would argue that from a units’ perspective, it's probably, there have been peaks that are bigger than the one we're in from an exabyte perspective, obviously we are in a growth period, in this one with a record exabytes. So the way I look at it every year gets a little bit stronger, but there is still some seasonality cyclicality.

And then, Munjal, just to clarify on your second question, I got the second part, you were saying guidance on the EPS side is flat. Could you repeat the first part of your question?

Right, and then the comments suggest that -- I mean, comments generally suggest that gross margin should improve because your 16-terabyte mix will probably be higher in March. So is there an offset below the gross margin line?

No, as I said before, we have an assumption on pricing of course, and can be different and when we go through the quarter. But with a fairly flat revenue, we expect a fairly flat EPS quarter-over-quarter.

Your next question comes from Nehal Chokshi with Maxim Group. Please go ahead. Your line is open.

Recognizing that you're still in the growth mode on the hyperscale demand on nearline growth. That being said, the exabytes currently relative to the last peak is up only 10% versus prior peaks -- peak-to-peak it's around 2x. And with the potential that you're going to be hitting a digestion phase going into calendar 2H '20, I was wondering if you had some thoughts on why not as much potential peak-to-peak growth as in prior peaks, any thoughts there?

Yes. It's quite interesting. I didn't say that we were in a digestion phase then, but I think we've seen that cyclicality before. It's dangerous to say that will happen exactly again, because there has been a different reason for the cyclicality every time it hits. That said, I do think that the demand is growing. I think that the customers are broadening. And I also think that their ability to use higher and higher capacity points is actually getting bigger. So once upon a time, people couldn't use more than 4-terabytes and while most of the market was on 8s and you're starting to see people get shifting over to bigger capacity points as well. So I do think exabyte growth is still going to continue. I don't think I'm calling the top of the peak at 10% yet.

Your last question comes from Karl Ackerman with Cowen. Please go ahead. Your line is open.

I wanted to maybe shift gears a little bit and talk about something that hasn't been asked yet. But just on the systems business that was up 14% sequentially, pretty good performance. I'm guessing that segment also performed well from systems revenue, selling your high capacity offerings. But maybe you could just discuss some of the traction you're seeing in SSDs and kind of what you're seeing for that broad segment, how we should think about that in the March quarter?

Yes. I would say on this from a systems perspective, we're happy with what we've done with the portfolio, which is, we're not making boxes that don't have any Seagate products in them anymore. Now we're making boxes full of -- chalk full of Seagate products right, with lots of drives, 100 drives or plus in some of the boxes. And that's a great vehicle to go move higher capacity drives into the market quickly. So I'm happy with the pivot the team has made. I think there's some opportunity to go grow it as well. On the SSD side, I think customers are very happy with our products, we continue to service those customers and I think as -- I'm not the first one to be saying this, the market seems to be stabilizing vis-à-vis what it was a year ago. So we'll continue to service those customers in a meaningful way I think.

Just maybe one last one if I may. CapEx did spike up a little bit this quarter. When we think about the forward trajectory, are you adding capacity for 16 and 18-terabyte that speaks to what's to come in the back half of the calendar year, or are you suggesting a breadth of SKUs is needed as enterprise customers’ capacity needs are bifurcating between high and mid range SKUs? Thanks.

Actually interesting. I think the first one and it's not just that it's also the transition that we have to make to HAMR. We think that long lead time capital is the important stuff, the heads and media to get it online for the growth that we see in the cloud, and we're investing for it. So we are confident in our 16, 18, 20-terabyte ramps, same platform like we've been talking about. We need to make the heads and media investments to make sure that we have enough in the market when the demand is out there.

Yes. Let me add that we are still focusing on keeping the CapEx in the range that we gave at the Analyst Day, so between 6% and 8% of our revenue. We don't expect to go above this range in any quarter.

There are no further questions. I'll turn the call back to management for closing remarks.

Okay. Thanks, Josh. To summarize, we're continuing to manage the business well optimizing profitability and generating cash to fund our future growth and deliver value to our customers and our shareholders. And the world is just creating data at a breakneck pace, which in turn drives secular growth for mass capacity storage and needs for cost-effective data management solutions and I believe in our technology roadmap, our product portfolio. I think Seagate is very well positioned to capitalize on all these trends. So I'd like to once again thank all our customers, suppliers, business partners, employees for their contributions to our performance and also like to thank the shareholders for their ongoing support. Thank you.

This concludes today's conference call. Thank you for joining. You may now disconnect.