惠普企業 (HPE) 2024 Q2 法說會逐字稿

Good afternoon, and welcome to the second quarter fiscal 2024, Hewlett Packard Enterprise earnings conference call.

My name is Gary and I'll be your conference moderator for today's call.

(Operator Instructions) This conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call, Jeff Kvaal, Head of Investor Relations.

Please proceed.

Good afternoon.

Welcome to our second quarter of fiscal 2024 earnings conference call with Antonio Neri, HPE's President and CEO; and Marie Myers, HPE's CFO.

Let me remind you that this call is being webcast and a replay of the webcast will be available shortly after the call concludes.

We have posted the press release and slide presentation accompanying the release on our investor relations web page.

Elements of the financial information referenced on this call are forward-looking and are based on our best view of the world and our businesses as we see them today.

HPE assumes no obligation and does not intend to update any such forward-looking statements.

We also note that the financial information discussed on this call reflects estimates based on the information available at this time and could differ materially from the amounts ultimately reported in HPE's quarterly report on Form 10-Q for the fiscal quarter ended April 30, 2024.

For more detailed information, please see the disclaimers on the earnings materials relating to forward-looking statements that involve risks, uncertainties and assumptions.

Please refer to HPE's SEC filings for a discussion of these risks.

For financial information we have expressed on a non-GAAP basis.

We have provided reconciliations to the comparable GAAP information on our website.

Please refer to the tables and slide presentation accompanying today's earnings release on our website for details.

Throughout the call, all revenue growth rates are presented on a year-over-year basis and adjusted to exclude the impact of currency, unless otherwise noted.

Finally, Antonio and Marie will reference our earnings presentation in their prepared remarks.

With that, Antonio.

Good afternoon, and thank you for joining us today, HPE deliver a very solid performance in the second quarter with revenue and non-GAAP diluted net earnings per share exceeding our outlook range, driven by AI systems revenue more than doubling from our first quarter.

I am very optimistic about where we're headed.

AI demand continues to accelerate with cumulative AI systems orders reaching $4.6 billion this quarter.

We have a robust pipeline in this business, though large AI orders can cause fluctuations during the quarter.

We anticipate continued revenue growth, driven by increased AI systems demand, continue adoption of HPE GreenLake and ongoing improvement in the traditional infrastructure market, including servers, storage and networking.

Due to our confidence in the second half of fiscal year 2024, we are raising our full year revenue and non-GAAP earnings per share guidance, reiterating free cash flow guidance.

Marie will provide more specifics in her remarks.

While we focus on translating strong AI customer demand to revenue growth, we continue to drive cost discipline to operate more efficiently and to preserve the ability to make targeted investments, which will sustain our growth into the future.

We have been prudent with our spending and reduce operating expenses in the first half as compared to the prior year period.

We're also driving business process simplification across the company, including through digitization and automation with AI.

Demand for HPE's AI systems is accelerating at a faster pace, and our solid execution enabled us to more than double our AI systems revenue sequentially to over $900 million.

Helped by supply chain conversion through improved GPU availability.

Our lead time to deliver NVIDIA H100 solutions is now between 6 and 12 weeks depending on order size and complexity.

We expect this will provide a lift to our revenues in the second half of the year.

Enterprise customer interest in AI is rapidly growing and our sellers have seen a higher level of engagement.

Enterprise orders now comprise more than 15% of our cumulative AI systems orders with the number of enterprise customers nearly tripling year over year.

As these engagements continue to progress from exploration and discovery phase, we anticipate additional acceleration in enterprise AI systems orders through the end of the fiscal year.

We are winning in AI for several reasons.

Our leadership in AI at scale and across the entire AI life cycle on training to fine-tuning to infancy continues to attract new customers.

These customers range for new generative AI model builders to broader service providers to sovereign states to traditional enterprise customers to large hyperscalers.

For example, in partnership with Microsoft, we are extending the Azure AI platform to HPE infrastructure, which provides Microsoft with additional capacity to serve even more customers, including OpenAI.

HPE has decades of experience in the design, manufacture, and management of air and liquid cooled systems, including in the data center infrastructure to reliably deliver the highest levels of computing performance.

Customers appreciate our AI at scale, expertise and intellectual property as well as unique liquid cooling manufacturing and services capabilities.

As accelerated computing, silicon innovation advances, higher power density demand, direct liquid cooling technologies.

Building direct liquid cooling AI systems is complex and requires manufacturing expertise and infrastructure, including power, cooling, and water.

With more than 300 HPE patents in direct liquid cooling, proven expertise and significant manufacturing capacity for these kinds of systems.

HPE is well positioned to help customers meet the power demands for current and future accelerated compute silicon designs.

Our leadership in AI was once again validated in May when the latest top 500 list of the world's most powerful supercomputers was released.

HPE now has 4 of the top 10 world's fastest supercomputers, all of which are direct liquid-cooled.

Two of these systems are exascale supercomputers with Frontier, still the world's fastest and Aurora, now breaking the exascale barrier.

I'm also proud that we have built 7 of the world's top 10 energy efficient systems according to the latest Green500 List.

This experience makes us an attractive partner to sovereign states and government pursuing AI strategies.

HPE benefits from a strong ecosystem of AI partners, including NVIDIA.

We introduced core engineered enterprise solutions within NVIDIA last year to streamline the mobile development process as well as to enable enterprises to fine-tune large language models with their private data to accelerate infancy.

I'm excited that NVIDIA CEO, Jensen Huang; will join me at HPE Discover Las Vegas in just two weeks.

Together, we will unveil new exciting and differentiated innovations that will simplify and accelerate enterprise AI adoption and deployments.

Enterprise customers are already responding to our unique AI portfolio.

For example, CUBOX, facial and image recognition company in Korea is developing new generation of AI models using HPE AI systems to enhance identity verifications, our locations such as the Incheon International Airport in South Korea.

JT Group based in Japan, operates a pharmaceutical business and is planning to use our HPE AI systems to support AI model, training and simulation to accelerate drug discovery.

And we just announced that we will power Scaleway AI cloud service offering using our HPE AI systems.

The new service will make powerful computing accessible to companies to support their various AI workloads and use cases.

As we capitalize on the growth opportunity, we also see indications of the market recovery in traditional and cloud infrastructure markets.

Orders for traditional service grew sequentially and year-over-year driven by enterprise public sector and SMB customers.

In North America and Europe.

We have seen no indication of cannibalization from accelerated computing demand.

Revenue grew sequentially as customers transition to higher HPE ProLiant Gen11 servers, differentiated customer-centric innovation positions us well to capture this market recovery.

For example, our lead in HPE GreenLake, hybrid cloud is attracted new customers.

In the second quarter of fiscal 2024 the number of customer organizations using HPE GreenLake increased sequentially by almost 9% to 34,000 and our As-a-service lifetime total contract value grew to more than $15 billion in Q2, with our annualized revenue run rate or ARR growing 39% year over year.

Demand is increasing for our HPE GreenLake on-premise private cloud solutions.

The Defense Information Systems Agency a combat support agency of the United States Department of Defense, selected HPE to develop a distributed hybrid multi-cloud platform prototype on HPE GreenLake as part of an effort to simplify the organization's management of disparate IT infrastructure and resources across public and private clouds.

In storage, we accelerated the transition of our portfolio in Q2 to meet the needs of hybrid cloud and AI.

Several weeks ago, HPE introduced significant new functionality to our HPE Alletra storage offerings.

We've handed out our block offering by extending the hybrid capabilities of HPE Alletra block storage to AWS.

Doubling its capacity to address more customers and enhancing its automation capabilities, generative AI.

Early this quarter, we introduced new HPE GreenLake for file storage capabilities with options, specifically targeting the unstructured data elements of AI.

We have also added significant specialist cells capacity in recent months.

Well, it takes time to activate new sellers and bring them to full productivity in a market with a long sales cycles.

We expect increased orders to revenue conversion in the future.

The enhancement to our winning portfolio, complemented by a more focused sales force position, HPE to strengthen the already robust customer adoption of HPE Alletra.

More than 1,000 new HPE Alletra MP systems have been deployed to date, which is the fastest product ramp in the history of our company.

In networking the market remain in transition during the quarter as customers continue to work through their current inventory.

As demand in this segment gradually returns, we believe our broad portfolio positions us well.

We expect modest sequential networking demand improvement driven by the state and local purchasing season in the United States.

We announced significant new innovations during the quarter to align with HPE's broader AI strategy.

These solutions include generative AI capabilities to improve AIOps and Wi-Fi 7 access points that capture edge data for AI inferencing.

In addition, last month, we launched new security and AI observability tools to help fight AI cyber risks.

And just yesterday, we expanded the most complete Private 5G and Wi-Fi portfolio in the market with the launch of HPE Aruba network and enterprise Private 5G.

All of this will be delivered through our HPE GreenLake Cloud platform.

Customers are responding to our network and innovation.

In the last few months, customer ranging from Houston Airport to Bethesda Health Group to Mercedes-Benz Stadium.

The University of Maryland has turned to HPE to enhance the experience for the visitors, residents, and employees.

As we look to our future In networking, we continue to be very enthusiastic about the proposed acquisition of Juniper Networks.

We are currently in the regulatory process for this transaction and expect to close by the end of 2024 or early 2025.

As I mentioned earlier, we continue to invest in innovation while we drive operational and cost discipline to continue to improve our cost structure.

We are focused on reducing complexity in our business processes as well as implementing automation and AI across the company to enhance customer service, R&D productivity and team member overall experience.

I also want to note that we recently announced we have restructured the sale of our stake in H3C.

Since that transaction is large and complex.

The required regulatory approvals we have taken longer than previously anticipated.

So we agreed to restructure the sale with units.

The updated agreement provides HPE with the opportunity to sell a significant portion of the shares in the coming months.

The new payment structure has no impact on the pending Juniper Networks transaction.

As the structure of the deal financing does not rely on any of the H3C proceeds.

Finally, you likely saw that we announced in May that we have agreed to divest our communications technology group to enhance our strategic focus in high-growth, high-margin parts of the market, including the service provider and enterprise market.

In closing, I want to reiterate that I'm proud of the very solid performance in Q2.

It shows the alignment of our strategy and innovation to major market opportunities.

We have greater optimism about the second half of the year, leading us to raise our full year revenue and non-GAAP earnings per share guidance.

AI's creating growing demand across our portfolio, and we see significant opportunities across customer and business segments.

Our competitive advantages from deep expertise in standing up AI systems to our differentiated HPE GreenLake Cloud to our networking and storage offerings position us well.

We have an excellent team and I'm confident in our ability to continue executing with discipline to take advantage of incredible opportunities presented by this era of innovation.

I am looking forward to sharing with you our latest breakthrough innovation and partnerships across AI hybrid cloud and networking later this month at HPE Discover Las Vegas.

We are very excited to be the first corporate keynote at Sphere, and I hope to see many of you there.

I would like now to hand it over to Marie, who will talk about the details of our segments and our outlook.

Marie, over to you.

Thank you, Antonio, and good afternoon, everyone.

It's a pleasure to be here with all of you after my first full quarter of HPE's CFO.

Over the past three months, I have become even more excited about our opportunities across AI, hybrid cloud and networking.

We remain in the very early days of AI, yet it is already driving strong interest pipeline orders and revenue across our portfolio from servers, storage to services to financing.

Our AI system revenue inflected positively in Q2.

We are winning deals in AI market now and are well positioned for additional demand from enterprises and sovereigns in the future.

Our differentiation includes decades of liquid cooling expertise (technical difficulty) as a result and as a pillar of our strategy to pursue higher growth, higher-margin revenues.

We are very pleased that we have exceeded our expectations in Q2 across key metrics.

We exceeded the midpoint of our revenue guidance by $400 million. Non-GAAP

diluted net EPS was above the high end of our range and free cash flow exceeded $600 million.

Improving enterprise demand for traditional servers on top of the expected sharp ramp in AI servers drove the outperformance.

AI orders a healthy Intelligent Edge is set to grow sequentially beyond Q2 as expected, and AI emerged as a driver of a healthy HPE GreenLake momentum.

We are seeing rapid growth in AI system revenue.

Overall, I'm very pleased with our performance in Q2, and I'm excited about our continued progress through fiscal '24.

Let's take a closer look at the details of the quarter.

Revenue grew 4% year-over-year and 7% quarter-over-quarter in constant currency to $7.2 billion.

This exceeded the midpoint of our prior guidance by approximately $400 million.

We have strong momentum in HPE GreenLake.

The number of customers that have adopted HPE GreenLake rose 9% sequentially.

ARR grew 39% year-over-year to above $1.5 billion in Q2.

Storage and networking are typically the fastest growth elements of ARR and both retained robust growth rates.

This quarter AI was the fastest growth component of ARR.

Our software and services mix rose approximately 200 basis points year-over-year to 67%.

ARR is the best indicator of our model transformation to our As-a service offering.

This growth validates what our customers are telling us that HPE GreenLake is a key differentiator.

We expect HPE GreenLake value proposition to key customers including enterprises and sovereign to sharpen with the advent of AI.

Our Q2 non-GAAP gross margin was 33.1%, which was down 310 basis points sequentially and year over year driven by a mix shift from our higher margin Intelligent Edge revenue to server revenue, plus an unfavorable mix within hybrid cloud.

Our Q2 non-GAAP operating expenses fell 1.6% year-over-year despite our revenue growth of 4%.

Our OpEx discipline partially offset lower non-GAAP gross margins and held the non-GAAP operating margin decline to 200 basis points sequentially and year over year to 9.5%.

The OpEx discipline plus higher revenue drove GAAP diluted net EPS of $0.24 and non-GAAP diluted net EPS of $0.42.

The latter exceeded the high end of the guidance range on strong revenue and cost discipline.

And non-GAAP diluted net earnings per share excludes $247 million in net costs, primarily from stock-based compensation expense, amortization of intangibles and acquisitions, and other related charges.

We are managing the business with focus and discipline and evolving into a simpler, more agile company.

We are also investing to capitalize on growth from the interrelated inflection points in AI, hybrid cloud, and networking and to drive structurally higher profitability over time.

Let's turn to our segment results.

Server revenues was$3.9 billion in the quarter.

This was up 16% sequentially and up 18% year-over-year.

Strings in both AI systems and traditional service drove the healthy revenue growth.

Our cumulative AI system product and service orders in Q1 '23 rose approximately $600 million sequentially to $4.6 billion.

I'm very pleased with our AI system product revenue more than doubled sequentially to over $900 million.

This strong revenue growth allowed us to make progress against our backlog, which is now $3.1 billion.

Given the growing importance of our services business, we have updated our AI disclosures this quarter to include services.

Services is a small portion of our AI systems metrics at present, though, we expect it to become more meaningful over time.

Our differentiation with liquid cooling, software, HPE GreenLake, and increasingly services is resonating in the market.

We have seen a three fold increase in our enterprise AI customer base in the past year.

Revenue from our traditional server business increased sequentially.

We expect this trend to continue.

Demand is improving as enterprises digest prior purchases and gain more comfort with the macro outlook.

Structural mix shift to higher AUP Gen11 service is ahead of expectations and we are able to pass through rising input costs.

We are encouraged that our Gen11 pipeline is starting to include AI inferencing activity and enterprise applications, and we see more evidence of adoption in the enterprise in Q2.

Our Q2 operating margin was 11%.

This was down 40 basis points sequentially and was in line with the expectations we laid out last quarter for our operating margins near the lower end of our long-term 11% to 13% range.

While pricing remains aggressive in the server market, particularly in AI systems.

We remain disciplined in cost and price as we pursue profitable growth.

Hybrid cloud revenues of $1.3 billion were up 1% sequentially and down 9% year-over-year.

We are already seeing some cross-selling benefits of integrating the majority of our HPE GreenLake offering into a single business unit.

I mentioned the 39% growth in ARR this quarter.

Our traditional storage business was down year over year.

The business is managing two long-term transitions at once.

We talked about our migration to the more software-intensive electric platform.

This is reducing time period revenue growth than locking in future recurring revenue.

Storage ARR growth of over 50% year-over-year offers early confidence into the migration.

The second transition is from block storage to file storage driven by AI.

While early, this is also on the right trajectory.

Our new fall offerings, plus the sales force investment Antonio mentioned, tripled our pipeline of files storage deals sequentially in Q2.

Our operating margin was 0.8%, which was down 300 basis points sequentially and 110 basis points year-over-year.

Reduced revenue scale and an unfavorable mix of third party product and traditional storage was the largest driver of the sequential change.

Intelligent Edge revenues were $1.1 billion, revenues down 9% sequentially and 19% year-over-year.

Backlog consumption created difficult compares with both prior periods.

Our backlog is now at normal levels.

The demand environment remains soft and large enterprises have yet to return to the market enforce.

However, we do see some green shoots that give us confidence networking will transition to modest sequential growth beyond Q2, as we had expected.

Our channel inventory remains within the normal range Wi-Fi has grown sequentially for two consecutive quarters.

Growth remains strong in software and services.

Attach rates and renewals for Aruba Central SSE and our AIOps software remains strong.

The Intelligent Edge portfolio of subscription revenue grew about 50% year-over-year.

The segment operating margin of 21.8% was down 760 basis points sequentially and 290 basis points year-over-year.

As expected, the lower revenues reduced mix of switching business and the less revenue from backlog were the primary drivers.

As we indicated last quarter, we have reset our OpEx plan for the year to account for lower revenue and expect the Intelligent Edge operating margin to be back in the mid 20% range by Q4.

Our HPE Financial Services revenue was up 1% year over year and financing volume was $1.7 billion.

Our operating margin of 9.3% was up 80 basis points sequentially and 40 basis points year-over-year.

Our Q2 loss ratio remained steady below 0.5%.

These results are what we have come to expect from this high-quality predictable business.

However, underneath this steady result, effect is already adapting to drive a AI growth across the business.

Year to date, nearly $0.5 billion, about $3 billion in financing volume went AI wins with both cloud and enterprise customers.

This illustrates our prior point that AI is driving demand every one of our businesses.

Turning now to cash flow and capital allocation.

We generated $1.1 billion in cash flow from operations and $610 million in free cash flow this quarter.

HPE typically consumes significant amounts of cash in the first half of the year and then generate cash in the second half.

We are ahead of traditional free cash flow patent thus far in fiscal '24, given higher than expected net income in Q2, prepayments for AI systems and timing of working capital payments.

AI cash conversion cycle was negative four days, which is a reduction of 28 days from Q2 '23.

Days of inventory and days payable were both higher to support our expected growth in AI system revenue in the second half.

We returned $240 million in capital to shareholders in Q2, including $169 million in dividends and $45 million in share repurchases.

Our year-to-date capital return is $386 million.

Let's turn now to our forward view.

We expect a materially stronger second half led by AI systems, traditional servers, and storage networking and HPE GreenLake.

Let me recap the key drivers that factor into our expectations for Q3 and the full year.

Further, we expect improving GPU supply for AI systems and improving demand for traditional servers to drive sequential revenue increases through fiscal year '24.

While the rising AI system mix is a gross margin headwind.

We are balancing this with higher margin service revenue, improving scale and cost discipline.

We expect the segment operating margin to be approximately 11% for the fiscal year.

For hybrid cloud, we expect slight sequential revenue increase throughout the year.

HPE GreenLake growth should continue and traditional storage should improve slightly.

We expect operating margin to improve modestly to the mid-single digit range through the year as HPE GreenLake deals mature new product ramp and our sales force optimization gathers momentum.

For Intelligent Edge, we anticipate slight sequential growth in Q3 and Q4, driven primarily by seasonal education spending rather than improving markets.

We continue to expect our cost reduction efforts to materialize in the second half and our full year operating margin to be in the mid 20% range.

With that context, let me now turn to our outlook.

For Q3, we expect revenues in the range of $7.4 billion to $7.8 billion .

We expect GAAP diluted net EPS to be between $0.29 and $0.34, and non-GAAP diluted net EPS between $0.43 and $0.48. For fiscal year '24, we now expect constant currency revenue growth of 1% to 3%, which is up from our prior 0% to 2% range.

We reiterate our non-GAAP operating profit growth guidance of 0% to 2%.

We are reducing our GAAP diluted net EPS guidance by $0.2 to $1.61 to $1.71 from incorporate the recent updates to our H3C proceeds.

We are raising our non-GAAP diluted net EPS guidance of $0.03 to $1.85 to $1.95. This incremental $0.03 or $0.06 annualized reflects the contribution from the retained portion of our H3C stake.

We are also increasingly comfortable with the high end of the non-GAAP diluted EPS range.

Given our OI&E and operational improvement, we are excluding from our non-GAAP results, the gain on sale from H3C and CTG divestments.

This is mix shift from networking to AI systems should weigh on our gross margins.

We expect the fiscal '24 non-GAAP gross margin to be below our full year expectation of 35% from our Analyst Day.

To balance mix shift, we are driving further simplicity and efficiency across the business.

We are accelerating our generative AI capabilities such as implementing HPE specific large language models and chatbots for our sales and service representatives.

As I mentioned last quarter, prudent cost management, simplified processes, and disciplined execution across cycles, a key tenant of our long-term journey towards higher margins.

These cost actions will be evident in financial results in the second half of fiscal '24.

We now expect fiscal year '24 OpEx to be down modestly from fiscal '23 OpEx.

Our prior view was flat to down.

This includes a sequential increase in Q3 for marketing before a sequentially lower Q4, which will serve us well heading into fiscal '25.

We expect our fiscal '24 operating margin to be flattish year over year.

We now expect OI&E to be less of a headwind this year.

We anticipate a $150 million headwind versus our prior expectation of a $200 million to $250 million headwind given a one-time benefit in Q2 and the retained portion of a H3C stake.

We expect the effect of currency to be immaterial.

Our strong first half free cash flow increases our confidence we will deliver at least $1.9 billion in fiscal year '24.

We expect significantly stronger free cash flow in the second half of the year, led by higher earnings given our ramp in AI systems.

This does not include the $2.1 billion that we expect to receive from Unisplendour this fiscal year as a result of our recently restructured agreements to sell our stake in H3C.

We expect working capital to be neutral to free cash flow as we expect declines in inventory to balance declines and accounts payable.

We remain committed in the long term to our balanced capital allocation framework, including our target of returning 65% to 75% of free cash flow to shareholders.

In the near term, we expect to continue share repurchases at a pace in line with Q2 as we prudently manage our balance sheet ahead of the anticipated receipt of the H3C proceeds and the Juniper transaction closing.

The proposed Juniper remains on track to close in late 2024 or early '25 as planned.

We remain committed to our dividend and to our investment grade rating.

To conclude, our solid Q2 results illustrate how comprehensively AI is affecting our portfolio.

We are capturing profitable growth opportunities in the AI market.

We are excited for Discover and look forward to seeing many of you at our IR Summit.

I'll open it up now for your questions.

We will now begin the question-and-answer session.

(Operator Instructions)

Amit Daryanani, Evercore.

Thanks a lot and congrats on a nice spring.

Yes, my question is on the AI system side that you possibly had some really good revenue performance, you think business pretty much double sequentially up.

Hoping you could spend some time talking about how should we think about margins on the AI side versus maybe segment averages because your margins appear to be holding up a lot better versus what we have done at Dell, Super Micro, for example.

So love to just understand how do we think about AI systems margins versus corporate averages?

And if you just touch on what do you think differentiates your AI solutions versus companies like Super Micro download is super helpful.

Thank you.

Hey, Amit, good afternoon.

It's Marie and happy to take the question.

And look honestly, we shipped $900 million of AI revenue in the quarter.

And I think as you saw, our margin rate on a service segment from an operating profit perspective was 11%.

So look, honestly, CFO, very pleased with what we guided and that's what we achieved and that's what we've guided for the second half of the year.

In terms of what the puts and takes and the headwinds and tailwinds.

Let me give you some color around it.

So from a headwind perspective, obviously, we're dealing with a tougher inflationary commodity market, particularly even in the second half.

And we also see, as you saw in the quarter, a greater mix of AI servers actually in our overall server mix.

And as you know, you've heard it's a pretty competitive market out there might add to.

But clearly we're managing it very well.

I'd say what's benefiting us is a couple of really important tailwinds.

One is what we're seeing in terms of the Gen11 transition, that part of the business brings a higher AUP and then also frankly, Amit, it's the work we're doing around cost.

So as a result, I think this really illustrates that we are very disciplined around both price and cost.

And frankly, it's part of our strategy to drive profitable growth.

So pleased with the result, and that's how we're guiding the back half of the year on it.

So Amit, on the differentiation, I will summarize it on four key elements.

One is, our ability to deliver and run systems upscale -- our system scale, that's unique expertise and we have decades of experience.

Number two, is our infrastructure cooling intellectual property.

We actually have all the IP necessary to cool systems in three different ways for them other.

Our manufacturing footprint, which is very unique.

We have one of the largest water-cooled manufacturing footprints in the world with two very important locations in the US and in Europe, which are close to customers.

And then last one on listing services, what I think people have come to realize that are running the system as well as Scaleway requires unique services capabilities.

And that's why with Marie starts showing you what the services pull through is, which is also over time, a lever to improve the gross margin in this business.

And we cover all aspects from day zero, which consulting to day one, which is advisory and professional services design and then builds.

And then day two, which is the running part with our in our operational services side and deep expertise when it comes down to the system of scale, including direct liquid cooling.

All those four key elements are a big differentiation for us.

Thank you Amit.

Gary moves the next question.

Aaron Rakers, Wells Fargo.

Yes, thanks for taking the question.

I guess sticking on the AI topic, if I could.

First ask, when you referenced the AI enterprise customers starting to show up and I think the comment on the conference call, it's now north of 15% of your AI orders.

Can you give a little bit more context of that?

What has that been over the last couple of quarters?

I'm just trying to think about the trajectory of that?

And Antonio, on the liquid cooling side, as we and investors think about Blackwell product cycle from in NVIDIA.

I'm curious, can you be a little bit more specific of exactly where from a technology perspective you differentiate at liquid cooling or is there something unique that HPE does within the 300 patents that you would want to highlight for us as a sustainably differentiated?

Thank you.

Yes, thanks, Aaron.

I think it's fair to say that the enterprise demand has started to pick in Q1 and really accelerated in Q2.

Early on if you go back to the Q1 2023, all the way to call it calendar 2023.

A lot of demand came from the mobile builders, the service providers and hyperscalers.

And you see the reference to our partner, Microsoft.

But as you think about that, I think three segments of the market.

I think about that segment, which is driving a lot of demand for a lot of GPUs and accelerated compute in general, the second segment is sovereign clouds and that start to pick up now.

And that's, I think about tens of customers around the globe because obviously our countries and then there is enterprise customer, which will be thousands of customers over time.

So of today, we are very pleased with the momentum in Enterprise AI.

A lot of the conversations are happening.

I was in Europe the last two weeks and I was in London, I was in Paris, I was in Madrid.

All of them want to adopt AI.

And I think they are attracted to HPE because of the trust, the quality and the ability to deliver a simplified experience to our HPE GreenLake platform.

As for the differentiation HPE has three different ways to cool systems.

So one is the traditional way, which is called a liquid to our cooling and think about that, basically running water supply in chill locations where basically cools the air around systems, everybody has known that for a long time.

The second is what most of the industry is doing today, which is what I call 70% direct liquid cooling or hybrids liquid cooling.

Those companies still use fans to cool aspects of the systems.

Some of our competitors are talking about the early liquid cooling, but that's exactly what they do.

And they are doing only a hybrid direct liquid cooling.

And HPE has unique, and by the way in that environment, we have 10 systems already in market today that we are shipping and configure them for customers.

And then we have what I call 100% a liquid cooling.

And this is a unique differentiation.

HPE has because we have been doing 100% direct liquid cooling for a long time.

And today they are six systems in deployment at three and three of them are for generative AI.

And as we go to the next generation of the silicon and you talk about Blackwell, when you go to the B200 that will require 100% direct liquid cooling.

And that's a unique opportunity for us because you need not only the IP and the capabilities to cool the infrastructure, but also the manufacturing side.

And that's why I said earlier on to the previous call that HPE has one of the largest water cool manufacturing capabilities.

So that will really differentiate us.

And even on the hybrids, a way to cool the system, HPE is not using off the shelf solution.

We use what we call an ARC, which stands for adaptive rack cooling system is a unique design.

And the good news is that we can actually co-locate in the same data center and in the same aisle, our direct liquid cooling and air cool systems, which is unique because customers don't want to retrofit data center.

So that's the opportunity.

Thank you very much, Gary.

Meta Marshall, Morgan Stanley.

Hi.

This is Mary on for Meta.

I just had a question for you on Intelligent Edge, where are you in the Intelligent Edge inventory digestion?

And when do you expect to emerge from it?

Yes, good afternoon.

And in terms of where we're at Intelligent Edge, I think as I commented in my prepared remarks.

We saw Q2 as being the trough period, and we've been transitioning through that throughout the quarter.

And if you look at the market and where it's at right now, I'd say that our channel inventory right now is in really good shape.

And we did mention in the guide that we do expect a modest sequential improvement in networking in the back half of the year?

Yes.

I will say in addition to what Marie said, what I'm real excited is that we see interesting areas of growth happening now.

And if you go back to Mobile Congress and you see even announcements like we made yesterday.

The enterprise Private 5G is picking up significant momentum.

Of my almost 40 meetings I had in Barcelona, more than half were about enterprise Private 5G.

And so yesterday we announced the most complete enterprise Private 5G on the back of the Athonet acquisition.

Thanks very much, Mary.

Gary?

Toni Sacconaghi, Bernstein.

Yes, good afternoon and thank you for taking my question.

I just wanted to follow up on the guidance.

You talked about enthusiasm for the second half.

But you beat revenues this quarter relative to your expectations by $400 million and by guiding up an additional percent and you're actually only guiding up the full year by $300 million.

So I'm wondering, are you just being conservative given the commentary around enthusiasm and forces at work in the second half or how do we reconcile that discrepancy?

And then also just on the AI servers for the second half.

I think you talked about 6 to 12 week lead time so if you have $3 billion of backlog and lead times are 6 to 12 weeks, why can't you deliver $3 billion in AI systems like next quarter, certainly in the second half?

Thank you.

Yes, hi, Toni.

Good afternoon.

So this is Marie.

I'm going to take the first question just on the guide.

So let me just clarify the guidance and in terms of how we put it together.

So we raised the guide from $1.85 to $1.95 and that actually was the pass through on that 19% stake in H3C.

So we actually put $0.03 related to the 19% stake.

What I did point to though, Toni, that pointed to the higher end of the range.

So that's really what's giving us confidence based on the increase that we made on revenue.

So you've seen that higher top line and then also the covenants I got around just the cost discipline.

So you've seen that just in the last couple of quarters where we've had a really strong scrutiny and focus around OpEx and plus we did have some favorability in OI&E this quarter, but albeit that was actually just a one-timer.

So just wanted to make that point of clarification for overall, Toni keeping the guide, it was $1.85 to $1.95, but really pointing to the higher end of the guide in terms of just the confidence that you articulated.

I'll turn it over to Antonio to cover the figure.

Toni, I think there is an opportunity to potentially exceed that.

I think the limiting factor is not the supply, to be honest with you, is the availability of data center space.

I made this comment in Q1, if you recall.

Data center space and power and cooling and so some we are working with the customers to time everything correctly, now six to 12 weeks.

Think about it, you know, maybe less than a quarter, but then you have to go and install it and you know, there is a nice percentage of our deals in generative AI, we are actually GreenLake.

And so while we can recognize the revenue upfront, we are deferring all the services piece of it.

So it really is going to come down to the timing of the data center and the power and cooling.

And if that also aligns correctly, then we may have an opportunity to do better.

But we felt prudent at this point in time to keep it the way it is and raising by 1%.

Toni, thanks very much.

Gary?

Samik Chatterjee, JPMorgan.

Hey, thanks for the question.

And this is Joe Cardoso on for Samik.

So maybe just following up on the AI questions.

And you're seeing a sequential decline in a AI backlog this quarter, admittedly off of a very robust revenue quarter.

And maybe you can just discuss the pipeline you're seeing and if sitting here like what are some of the puts and takes that investors should be considering when seeing the sequential decline in backlog despite what appears to be a strong underlying demand environment overall?

Thanks.

Sure.

Thank you.

Yes, our backlog was slightly down quarter over quarter also was based on the demand we took in.

And also the fact that we converted more.

I think you have to realize some of these deals, particularly large deals take time and a little bit lumpy.

Some of them have to go through the financing side.

And so we feel good about where we are today.

But in term of the pipeline, think about multiples of the current backlog, multiples of the current backlog.

So as we go through the next weeks and quarters here, we feel very confident in our ability to capture that AI for all the reasons I described before and also the ability to close these deals as some of them may include by the way the need to provide data center space as well because we are not just building the system.

And these are all generative AI system by the way.

All of them that we also need to run it for customers.

Thanks very much, Joe. Gary?

Simon Leopold, Raymond James.

Yes, hi.

This is Victor Chiu, for Simon.

Regarding the AI systems revenues pretty sharp inflection this quarter.

Can you just tell us how much of the increase was driven by allocation improvement versus your ability to ship orders and kind of just help us understand the dynamic there a little bit?

No, I don't think so to do anything with the location.

I read all this thing about location.

We have fantastic partnership with NVIDIA is about lead times in general H100, which obviously NVIDIA makes significant improvements on their own and then obviously, as we start ramping our manufacturing processes, we actually become better and better about the revenue conversion.

I want to say I want to thank my team because my team did a fantastic job and we feel good about as we go forward.

So it's a combination of multiple things, better lead times of supply.

We feel pretty good about the ability to deliver system 6 to 12 weeks to Toni's question and some of them are straightforward is just shipments in summer with our HPE GreenLake offering wrapped around.

Thanks very much, Victor.

Gary.

Ruplu Bhattacharya, Bank of America.

Hi, thanks for taking my questions.

It's Ruplu Bhattacharya, for Wamsi today.

Can you talk about how much of the GreenLake revenue and ARR growth came from AI?

And then Antonio do think that having GreenLake is helping you sell AI systems and how they wanted to clarify Antonio, you talked about sovereign AI can you talk about what inning you're in and are there specific requirements or sovereign AI, where you think HPE is very well positioned to satisfy?

Ruplu.

Marie.

I look forward to seeing you tomorrow.

So in terms of your question around just ARR and AI.

Actually, it was the fastest growth element of ARR in Q2 followed by storage and networking.

So I think as I said in my prepared remarks, we're starting to AI just sort of move through our entire portfolio.

So pleased with the progress that we had this quarter.

I'll turn it over Antonio to add some more context.

Yeah.

On the second part of the question.

I think we are early at this point in time.

I think there is more to be seen and I wanted to make sure I captured exactly what you said.

Can you repeat the last part because we were a little bit breaking?

Yes, I just wanted to ask about the sovereign AI?

And so are there specific requirements that you can satisfy?

Yes.

So sovereign AI, as I said is early on.

I think there is a lot of engagements right now happening at the country level.

The good news, we have very good reach across the Board and it's a combination of both.

There is a combination of providing what I call generative AI locations where enterprise customers can get access to a sovereign cloud that the government may be helping funding at the same time.

And the other one is what I call our super computing power right itself.

And so the two are very well aligned to the sovereign AI opportunities.

And that's why I'm excited because HPE already provide to allow the sovereign governments supercomputers.

So now we can extend into regenerative AI.

If you think about the example of the UK, Bristol is a generative AI system that the UK is funded as a part of the Bristol University that eventually is going to be open to start-ups and enterprises in the UK to either train models or do other type of research, and that's what we see.

Okay.

Thanks very much for Ruplu.

Gary, we have two more questions, please.

Ananda Baruah, Loop Capital.

Good afternoon, guys.

Really appreciate you taking the question.

Just a quick clarification and a quick question.

Antonio, did you say that last 12 months AI growth was driven by service providers and was at mobile, you said.

And then the question is that what's a good way to think about clouds, your GenAI cloud scale opportunity, hyperscalers and Tier 2 going forward?

Thanks a lot.

Yes, no, thank you.

I said the you know, the segment where we have seen, obviously the vast majority of action and demand is the model builders.

Those are the big companies that build large and small language models.

Obviously, you saw comments about partnering with Microsoft and the extension of their capacity to OpenAI.

That's an example of a mobile builder, but also there are other service providers.

And in fact, in my remarks, I mentioned Scaleway, which is a French service provider that provides the capacity for the local French model builders.

In fact, there is a lot of it's a very vibrant ecosystem in France about building the AI models that will use that capacity to train the models.

That's what I refer to at this point in time.

And that's what we see.

And that's what we see now.

So we are very interested in not just the model builders, but Tier 2 or Tier 3 , which also is going to be a big driver.

But understanding that enterprise ultimately where the action is going to happen in terms of fine tuning and deploying these AI models over time.

Okay.

Thank you very much, Ananda.

And last question, Gary.

Lou Miscioscia, Daiwa.

Hey, thanks for getting me in.

So my question is really about a GPU or accelerated diversification.

Obviously, AMD and Intel and others are starting to come out.

So as you think about calendar 2024, what do you think that your system will be for this?

And what do you think demand will be?

And then maybe continue that into 2025?

Yes.

I mean, listen, I'm very pragmatic about these things today in generative AI to be the market leader in NVIDIA.

And that's where we have aligned our strategy.

That's where we have aligned our offerings.

And as I made my remarks earlier, we have 10 systems already in the mix cooling environment and six systems, six offers also in the direct liquid cooling environment.

So we are aligning with NVIDIA today, and that's why you're going to see a Discover Jensen comment on stage with me to talk about what we're doing together.

Now when you go into the sovereign space, where there may be some components of supercomputing down the road.

Obviously, they design their own systems with our help, and that will be a mix environment.

But just in the last month or so, we open a new system and the Los Alamos laboratory, which was actually an immediate system with HPE is direct liquid cooled.

So we are clear about that.

But then the others, those systems that will come in 2025, that may have different type of accelerators.

Over time, we're going to be time to market.

But right now, we are aligned to NVIDIA and that's what we're doing.

And that's why I think it will be a great opportunity for you.

To join us, HPE Discover because you can see everything we talk today on the floor.

Every system, I just refer to my slides, every comment I made in my answers to the questions you can come and see it.

These are systems and IP that we are shipping today and you're going to see our time to market with this silicon in addition to all the services and HPE GreenLake.

So it's going to be an amazing opportunity.

And also because we are doing the keynote at Sphere.

We're going to have probably inside the Sphere of more than 17,000 customers and partners joining us.

So I know we don't have a lot of the normal time for questions, but I will say thank you for joining today.

As a recap, the quarter was very solid, our AI system revenue more than doubled to $900 million.

Allowing us to obviously exceed our revenue and non-GAAP earnings per share guidance because the demand AI strong.

We have a multiple of the backlog in our pipeline and some aspect of their traditional infrastructure market is recovery, plus our disciplined execution on pricing and costs.

We are raising both the revenue and EPS guidance in other revenue that could be something more obviously, but is dependent on some of the timing.

And then obviously on the EPS, we are comfortable with the higher end of the range, as Marie said.

So again, we're very pleased we feel the second half is going to set up really well.

And then obviously we are looking forward to see many of you at HPE Discover in just less than two weeks.

Thank you for your time today.

Ladies and gentlemen, this concludes our call for today.

Thank you.