Quantum Corp (QMCO) 2015 Q2 法說會逐字稿

Good day and welcome to the Quantum's Second Quarter Conference Call. Today's conference is being recorded.

At this time, I would like to turn the call over to Shawn Hall, General Counsel. Please go ahead, sir.

Thank you. Good afternoon and welcome. Here with me today are Jon Gacek, our CEO and Linda Breard, our CFO. The webcast of this call, our earnings release and a quantitative reconciliation of any GAAP and non-GAAP financial measures discussed today can be accessed at the Investor Relations section of our website at www.quantum.com and will be archived for one year.

During the course of today's discussion, we will make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The forward-looking statements include statements regarding our business strategy, opportunities and priorities, anticipated product launches and plans and future financial performance. We would like to caution you that our statements are based on current expectations and involve risks and uncertainties that could cause actual results to differ materially.

We refer you to the risk factors and cautionary language contained in today's press release, as well as to our reports filed with the Securities and Exchange Commission from time to time, including our most recent 10-K filed on June 6, 2014 and 10-Q filed on August 8, 2014. The risk factors are incorporated by reference into today's discussions, and we undertake no obligation to update them in the future.

With that, I'll turn the call over to Jon Gacek.

Thanks, Shawn. Welcome to our Q2 fiscal 2015 conference call. Overall, we are very pleased with our results for the quarter as we built on the momentum we saw in Q1 to deliver both growth and profit and positioned the Company for even stronger second half growth in fiscal 2015.

Total revenue was $135.1 million at the top of our July guidance range and a 3% increase over Q2 of last year with scale-out storage and related service revenue, again a highlight, growing 58% year over year to a new record.

DXi and related service revenue also increased 11% year over year, and the combination of DXi and scale-out storage revenue, or what we referred to in the past as disk and software revenue, totaled $47 million. This is the highest level to-date, even without the strong contribution from the US federal government sales for the quarter.

In addition, non-GAAP net income was $6.8 million, significantly above the high end of our July guidance range and an improvement of nearly $9 million over Q2 of last year. Our non-GAAP operating margin of 7% in Q2 was the highest in five quarters, and excluding the one-time $15 million royalty payment we received from Microsoft in Q1 of last year, the highest it's been in nearly three years. Finally, we continue to generate cash from operations ending the quarter with nearly $110 million of cash.

Before I turn the call over to Linda to walk through the details of our results, I want to highlight several key points regarding execution on our strategy to drive increased growth and profit.

First, the results we delivered in the first half of this fiscal year reflect the actions we've taken over the last 18 months to further strengthen our business model and the significant leverage it provides. In the latter half of fiscal 2014, we completed the outsourcing of manufacture and repair, increased the use of third-party service providers and took a number of other steps to improve our operational efficiency. These actions helped to increase non-GAAP gross margins in the first half of fiscal 2015 to 45.2% compared to 41.2% in the same period two years ago, not last year, but two years ago, when we started this process.

We've also reduced non-GAAP operating expenses nearly 20% during that time to $105 million in the first half of fiscal year from $126 million two years ago. And we generated $15 million in non-GAAP operating income for the first six months of this fiscal year, which is a $22 million improvement from the first half of fiscal 2013 or 800 basis point increase in non-GAAP operating margin.

When we combine all this progress with our return to year-over-year total revenue growth in Q2, we see fiscal 2015 as an inflection point in which we're starting on a new trajectory of growth and profit. This is based on a financial model that provides significant leverage through the combination of our high growth, scale-out storage portfolio and our profit and cash generating data protection products.

Looking at our scale-out storage performance, after increasing 41% year over year in Q1, we grew nearly 60% in Q2 reflecting our success and capitalizing on the significant market opportunities in helping customers manage video and other rich media content.

One of our key areas of focus this fiscal year has been extending our leadership in media and entertainment, particularly in the mid-market by leveraging our StorNext 5, data management platform and its incorporation into the StorNext appliances and the new StorNext Pro solutions. With our specialized expertise, we are well positioned to help customers meet the challenges of managing new 4K workflows where our industry-leading performance is a key differentiator and transitioning from their Apple Xsan environments where only StorNext offers a 100% compatibility.

In addition, by leveraging the unique combination of StorNext and Lattus, we can deliver industry-leading performance for data capture and collaboration upfront with very efficient, cost effective and massive storage repository on the back-end that provides fast access to the data when it's needed.

As was the case in Q1, our strategy and strong portfolio were further validated in Q2 as our overall media and entertainment product revenue nearly tripled year over year and mid-market M&E products revenue more than tripled. Contributing to this growth was the StorNext/Lattus deal totaling $2 million at one of the fastest growing sports broadcasters and a number of StorNext specific deals over $200,000 including new customer wins at one of the world's largest video game companies and a top online video streaming provider.

In addition StorNext Pro Solutions revenue continue to ramp bringing in new customers such as a major newspaper publisher where we deployed a StorNext 4K solution and enable us to expand our relationships with existing customers, including two state universities that needed to refresh their Apple Xsan environments for managing video.

Beyond media and entertainment, we continue to execute on our strategy of extending our scale-out storage reach to other verticals and use cases where customers can benefit from our workflow optimized solutions. Examples include oil and gas, life sciences, geospatial applications and video surveillance where large datasets need to be captured, shared, analyzed and turned in to actionable information.

Total revenue from the group of non-M&E customers nearly doubled in Q2 with deals exceeding $200,000 including sales to a global energy supplier, a Chinese-based oil company, two major genomics research institutes and a European provider of geospatial products and services.

Turning to data protection, in Q2 we also continued to see the benefits of the strategy we were pursuing to drive growth and profit namely capitalizing on evolving customer needs by leveraging our market leadership in tape, our industry-leading deduplication technology and a more simplified DXi portfolio and a more cost-effective solutions level approach in our sales and marketing efforts.

Most notable our 11% year-over-year growth in DXi revenue was driven by the strong performance of both our new DXi6900 and DXi4700 deduplication platforms. The DXi6900 which only became generally available in Q2 is designed to serve as the foundation for next-generation data protection workflows with StorNext 5 technology at its core. It features industry-leading performance and capacity on-demand licensing that enables users to scale from 17 terabytes to 510 terabytes via a simple licensing key, thereby eliminating the uncertainty in predicting future growth requirements.

In addition, DXi6900 can be combined with Quantum's Q-Cloud protect services to enable customers to build data protection work flows that extend across into the cloud. It has been well received in the market resulting in Q2 wins of more than $200,000 each as a range of customers including a multinational biopharmaceutical company, a major insurance provider in Asia and a large County Health Network.

On a similar note, we also continue to see strong adoption of our DXi4700 appliance which was introduced in the March quarter. The DXi4700 revenue in Q2 increased nearly 60% sequentially and approximately 45% of those sales were to new Quantum customers.

Finally selling DXi into our tape automation install base and selling Quantum tape and DXi solutions together reinforces one of our key strengths in data protection, providing customers with a combination of best-in-class disk and tape systems tightly integrated to deliver unmatched value.

In summary, we are delivering on our fiscal 2015 strategy and driving growth and increased profit, taking advantage of market opportunities where our specialized expertise and solutions are ideally suited for meeting customers' needs. The momentum we gained in the first two quarters also positions us well for the second half of the year, which I'll discuss further after Linda walks through the Q2 results in more detail.

Now I'll turn the call over to Linda.

Thanks, Jon. Before I walk through our results, I would like to refer everyone to the financial statements and supporting schedules included in the press release and on our website. It will be helpful to reference those documents as I comment.

Total revenue for our second quarter ended September 30 was $135.1 million compared to $131.5 million a year ago, an increase of 3%. Branded revenue grew year over year for the second quarter in a row, up 7% to $107.5 million. Scale-out storage and related service revenue was at 58% year over year driven by revenue growth across all geos and an increase in revenue from big deals.

Disk backup systems and related service revenue was up 11% year over year driven by revenue growth in APAC and EMEA and an increase in big deals. Offsetting what would have been even larger top line growth were declines in devices and media revenue of 22% and OEM tape automation revenue of approximately 17% year over year.

We are pleased with the growth in our branded business, which more than offset the decline in OEM business and lower than expected federal government spending in our disk backup systems and scale-out storage solutions. For the quarter, non-royalty revenue totaled $124.4 million of which 86% was branded and 14% was OEM, up from 83% branded and 17% OEM a year ago.

As we walk through our revenue results, let's start with revenue from our data protection products. Tape automation systems revenue was $37.9 million compared to $41.6 million in Q2 of fiscal 2014. Branded tape revenue declined $740,000 or 3% year over year primarily due to a modest decline in revenues from our enterprise tape automation systems, which was slightly offset by year-over-year growth in mid-range tape automation systems.

Entry level revenue was relatively flat year over year. Revenue from large deals, those over $200,000, was down 12% from the same period in the prior year. Despite the slight year-over-year decline in overall branded revenue, we were involved in more opportunities than we had in the comparable quarter a year ago. Our win rate remained at the mid-70th percentile and we acquired nearly 100 new branded mid-range and enterprise customers.

From an OEM perspective, tape automation revenue was down $3 million or 17% from Q2 of 2014. The decline in OEM tape automation revenue was driven equally by reductions in both mid-range and enterprise tape automation sales.

Moving to disk backup systems and related service revenue, it was $21.2 million, up $2.1 million or 11% from a year earlier. Increased revenue in APAC and EMEA drove the year-over-year growth, but was somewhat offset by reduced Fed spent.

We saw strong growth in revenue in our over 80 terabyte systems with revenue more than doubling over the same period last year. We had a 15% increase in revenue from big deals and our overall DXi win rates increased significantly for the quarter to over 60%. We also added approximately 18 new customers in Q2.

Finally, as it relates to data protection revenue, devices and media totaled $13 million in Q2 compared to $16.8 million in the prior year. Lower media revenue was the primary driver of the decline. We had fewer big media deals in Q2 compared to a year ago.

Turning to scale-out storage solutions, our product and related service revenue increased 58% year over year to an all-time quarterly record at $25.5 million. We delivered strong year-over-year revenue growth across our StorNext tiered storage solutions, StorNext appliances and StorNext Pro solutions as well as Lattus and our related scale-out storage service offerings.

Revenue from big deals increased by more than 70% over the same quarter in the prior year. The number of worldwide partners selling our StorNext products increased to 22% compared to the same quarter a year ago. We continue to experience strong win rates in our solutions offerings in the mid-70th percentile. We delivered revenue growth in all geos over the same period in the prior year and this was somewhat offset by the US Federal government spending compared to the prior year in this product category. Overall, from a customer acquisition standpoint, we added approximately 85 new scale-out storage customers in Q2.

Moving to service revenue, it was $39.2 million in Q2, up 8% from $36.2 million in the same quarter of the prior year. The increase was primarily driven by growth in branded contracts related to our StorNext appliance strategy. We also had slight increases in service revenue in our data protection and OEM business, but to a lesser degree. Royalty revenue was $10.7 million for Q2 compared to $10.5 million in the same quarter a year ago. This increase was the net result of increases in LTO royalties from LTO 6 which more than doubled year over year and a slight increase in LTO 5 royalties which was partially offset by a decrease in royalties for generations 1 through 4 of LTO.

Turning to gross margins, non-GAAP gross margin was 46.3% in Q2 compared to 43.6% in the second quarter of fiscal 2014, up nearly 300 basis points year over year. This reflects the leverage we achieved with increased revenue, specifically the growth in service revenue, which contribute significantly to gross margin along with the positive impact of the changes we have driven in our operations, repair and service business model.

Turning to gross margins, non-GAAP gross margin was 46.3% in Q2 compared to [40%]. Looking into expenses, non-GAAP operating expenses were down $3.2 million or approximately 6% totaling $53.1 million in Q2 compared to $56.3 million in the prior year.

Year over year, our sales and marketing cost decreased by $750,000. The primary drivers of the reduction are lower salaries and benefits resulting from the headcount reductions we have implemented as well as lower marketing program spend and reduced travel costs, which were somewhat offset by an increase in sales commissions related to the growth in branded revenue.

Similarly, research and development expenses decreased approximately $1 million, primarily as a result of lower headcount. General and administrative costs declined by approximately $1.4 million primarily related to lower IT and facility costs.

Q2 non-GAAP operating income was $9.4 million, compared to operating income of $1 million in the same quarter a year earlier. This resulted in a 7% operating margin, a year-over-year improvement of more than 600 basis points due to the business model changes we have implemented and 3% growth in overall revenue.

Interest expense for the quarter was $2.5 million, which was [$5 million] a year-ago. This included cash interest expense of $2.1 million and amortization of debt issued cost of $400,000. The average interest rate for our $203.7 million of convertible debt is 3.99%.

In Q2, we had other income of $215,000 primarily related to foreign currency gains. We recognized tax expense of $356,000 primarily related to state and foreign taxes. Summing it up for Q2, we had non-GAAP net income of $6.8 million or $0.03 per share, compared to a non-GAAP net loss of $1.9 million and loss of $0.01 per share in the same quarter a year earlier. Our bottom line improved $8.7 million due to the changes we've made in our business model over the past year, which were focused on driving profit and cash flow and a return to top line growth, which we had stated would occur in fiscal 2015.

Given that our non-GAAP net income level this quarter requires the inclusion of shares for our $70 million convertible debt and EPS denominator, let me take a minute to provide additional guidance around computing non-GAAP EPS with this convert in place.

Using the if converted method, we have included approximately 43 million additional shares related to the convert in the denominator, and added $800,000 of related interest expense back to the numerator.

Focusing on cash flow for the quarter and the balance sheet at September 30, I would like to highlight several key points. Cash flows provided by operations for the quarter were $2.3 million. We have generated cash from operations for four consecutive quarters and seven of the last eight quarters. We ended the quarter with $107.7 million in cash and cash equivalents, our highest cash balance in over four years. At September 30, our debt consisted of $203.7 million of convertible debt with no covenants and no early call provision.

There were no amounts drawn on our revolver at quarter end. Therefore, we have no financial covenant compliance requirements. EBITDA for the last 12 months was $35.9 million and CapEx was $500,000.

I wanted to summarize where we are for the first half of fiscal 2015 compared to the first half of fiscal 2014, excluding the one-time payment from Microsoft we received in Q1 of last year.

Our overall revenue is relatively flat, branded revenue is up 3.6% or $7 million from the comparable six months last year on a nearly 6% reduction in sales and marketing spend. Revenue from our scale-out storage solutions was up 50% to $44 million, compared to $29 million in the first half of last year.

Non-GAAP gross margins have increased 240 basis points to 45.2% from 42.8% for the first half of fiscal 2014. Non-GAAP OpEx is down 7% to $105 million, compared to $113 million. We achieved $15 million of non-GAAP operating income and $9 million of non-GAAP net income in the first half of this fiscal year, $15 million ahead of the first half of 2014.

Cash generated from operations was up $15 million to $9 million, compared to cash used in operations of $6 million in the first half of last fiscal year. And free cash flow improved $17 million for the first six months of fiscal 2015, compared to 2014.

Ending cash at September 30, 2014 was $108 million, compared to $77 million a year ago. As we move into the second half of our fiscal year, we are well-positioned given the strong first half results, the seasonally strong December quarter and the demonstrated growth and opportunity we see in our scale-out storage solutions. We feel very confident in our ability to continue to execute on our plan throughout fiscal 2015 and to further strengthen our financial position.

Now let me turn the call back over to Jon.

Thanks, Linda. Before providing guidance and turning the call over to questions, I am going to talk about the near-term market opportunity and our plans for building on our strong performance over the last six months to drive additional growth and profit for the second half of the fiscal year.

First, we see significant market opportunities in both scale-out storage and data protection.

Customers continue to struggle with managing data growth, particularly unstructured data such as video, audio and images, which is increasing at 60% to 80% a year, according to Gartner. In addition, with data becoming more and more strategically valuable, IT departments are faced with the demand for fast access to that data anytime and anywhere it's needed.

Greater simplicity and ease of use is also a top priority as is finding solutions for mixed physical, virtual and cloud environments, including public, private and hybrid clouds. And this is all coming and occurring at a time when there continues to be cost constraints. These market dynamics play into the core strengths of our scale-out solutions.

More specifically in the area of scale-out storage, the ability to manage large unstructured files that are critical to driving new revenue opportunities (inaudible) organizations mission is becoming a bigger issue in vertical markets such as media and entertainment, government intelligence, geospatial and oil and gas. This is also playing an increasing role in use cases such as corporate video, for example, managing, marketing and training video content as well as cyber security and surveillance where fast access to data and large scale retention are critical. These trends explain why the market for scale-out storage is expected to grow at a compound annual growth rate of nearly 20% between 2013 and 2017 according to analysts.

For data protection, the combined market for disk backup appliances and tape is forecast to grow at 10% compound annual growth rate during this period reflecting many of the trends I've mentioned and the fact that the traditional model of doing massive batch backups that treat all data the same is increasingly too inefficient and costly.

We look at growth on a combined basis of tape and DXi because that's how we strategically position our product portfolio and our investments to drive growth and profitability through leveraging our large installed base of customers and our go-to-market model.

Quantum is well positioned to capitalize on the overall market opportunity as our specialized expertise and technology is ideally suited for addressing customers' evolving needs.

For our scale-out storage solutions, the combination of StorNext 5's fastest streaming file system performance, its policy driven tiering software and the tight integration with both Lattus and tape is unique in the industry.

In addition, our StorNext Pro Solutions have extended the power and benefits of our enterprise level offerings to mid-market broadcasters and postproduction facilities with the ease-of-use they require. Finally, our ability to provide these benefits in customized solutions for those in the 4K and Xsan environments is a significant advantage, particularly in the case of Xsan where only StorNext offers 100% compatibility.

As we begin the second half of fiscal 2015, we will capitalize on these strengths and stay focused on the growth driving priorities we've established.

First, we will continue the transition we've made over the last few years from offering StorNext software to provide an increasingly broad range of complete solutions that improve the customer experience, significantly grow our addressable market and also entail higher ASPs.

Second, we will focus on increasing StorNext 5 appliance footprint with our large installed base customers, particularly by deploying more disk, object, tape and cloud storage.

Another priority, as I alluded to in my comments about StorNext Pro Solutions for 4K as Apple Xsan environments is to further extend our media and entertainment enterprise leadership to the mid-market. As I mentioned, we have a unique advantage by being 100% compatible with Xsan and therefore we can help customers grow, enhance or replace their Xsan solutions.

In addition, we will also continue to expand into other verticals and use cases beyond media and entertainment and government intelligence. This includes rich media environments, similar to media and entertainment such as corporate video and other verticals and use cases where we already have a foothold such as oil and gas, geospatial and cyber security or where our scale-out storage solutions are particularly well suited to a specific workflow such as a video and audio surveillance.

One way we will extend our market reach is through new or expanded partnerships like those we recently established with FireEye in cyber security and just announced last week with Avere in oil and gas.

Another area of continued focus in scale-out storage is cloud with the leverage of StorNext, Lattus cloud workflow and also introduce some of the new cloud offerings that incorporate technology we acquired from Symform. Finally, we will build on the growing interest in object stores through Lattus, both integrated with StorNext in select verticals and in use cases and archive in data center environments.

Turning to data protection, our best-of-class technology in both tape and disk and tight integration are two of our key strengths, and we will continue to focus on increasing our combined tape disk market share to drive more profit and cash as well as future growth.

In the area of tape, the top priority is leveraging our market share leadership to capitalize on specific growth opportunities. On the DXi side, we are focused on increasing our customer base and expanding our go to market strategic partnerships, taking advantage of the portfolio refresh and simplification we completed in Q2 with the launch of DXi6900. We will also further extend the reach of our DXi technology in public, private and hybrid clouds through our program for managed service providers that offer cloud-based data protection. Another priority is to take advantage of the increasing cost challenges posed by keeping so much data on primary storage and the related need for new approach to backup given the problems with traditional batch backup I referenced earlier.

Finally, we will leverage the Symform technology we acquired to expand our Q-Cloud offerings and our market reach. In short, the combination of the market opportunities we are seeing, the strength of our solutions portfolio and the momentum of our business all reinforce that fiscal 2015 is an inflection point and the start of a new growth trajectory for Quantum. In addition, as we've seen in the first two quarters, our financial model provides significant leverage that we expect will drive even higher operating results as we grow revenue.

With that background, let me turn to guidance. For the full fiscal year, we now expect revenue of $545 million to $550 million, non-GAAP gross margin of approximately 45%, non-GAAP operating expenses of $209 million to $210 million, and non-GAAP operating income of $35 million to $36 million. We also expect interest expense of $10 million, taxes of $2 million and non-GAAP net income of $24 million to $25 million or $0.08 to $0.09 per diluted share.

For revenue, this is the high end of our previous range and with lower operating expenses, we expect operating income, net income and EPS to be higher than our original guidance.

For Q3, we expect revenue of $145 million to $150 million. We expect non-GAAP gross margin of approximately 45%, non-GAAP operating expenses of $51 million to $52 million, and non-GAAP operating income of $14 million to $15 million. We also expect interest expense of $2.5 million, taxes of $500,000 and non-GAAP net income of $11 million to $12 million or $0.04 per diluted share.

Now I'll turn the call back over to the operator for questions. Operator?

(Operator Instructions) Chad Bennett, Craig-Hallum.

So just a couple of questions for me. Nice job on the quarter, StorNext was phenomenal, sorry, scale-out was phenomenal. So how should we look at the big deal pipeline for scale-out and disk, heading into kind of next quarter, the next of couple quarters. Is this an anomaly or are we going to see more 200 grand deals are good, [maybe even] mix in $1 million or $2 million deal here or there, is this more of a normal or it's just an exception from a big deal standpoint?

We're in this great phase where we're growing dramatically. And these other times that we've done is going back even for me back to the ADIC days you will end up having lumpy deals, you will have run rate deals. I would say for us right now with the breadth of the product portfolio, we've got both. We've got a real strong big deal pipeline. Our StorNext Pro solutions have really peaked people's interest. We had a war summit -- a North America war summit last week I think with over 100 partners and is a very hot topic about kind of the breadth of what you can sell with us right now around these sort of captured solutions around unstructured data and video.

So right now, our pipeline looks very good for both types of deals. I think we didn't -- we don't give guidance like this, but I have done this before.

Our scale-out revenue will grow more than 50% for sure this next year. And if you go back and look at the comp, we'll be growing for sure. So lots of momentum right now, it's driven by the things that we've talked about on this call 4K, Xsan, Lattus, StorNext, tape integration. We have good momentum. And I don't think it's an anomaly given that a lot of these markets are really nascent. I mean the number of 4K installations is super small relative to what it's going to be. So we've got good momentum for the next foreseeable -- this quarter for sure, we can see in the pipeline, but I think beyond that.

Okay. And then scale-out business now is kind of on a $100 million run rate. So it's an upscale, I think to move the needle, not only from a revenue standpoint, but I would think if this business grows 50% and I assume it's still decently higher gross margin than the other products, should we start to think about gross margins ticking up here over the next several quarters?

We gave specific guidance for the next two. So I would just go with that. I think you're right as far as the general perception, but our business is still pretty broad. An extra million of royalty could almost a point of margin. So there's other things that can contribute, but for sure, the overall contribution margin and the gross margin for those products is higher than the corporate margins. But they is still -- to my point, there is underlying things that could impact it one way or the other.

I think there's a lot of reason to be super excited about this. Maybe one of the most important ones is we're really driving most of this growth out of just M&E. And we're starting to see the signs that those workflows are across organizations. So we're selling the M&E type workflows into banks for their commercials or training videos, we're selling them to retailers, we're selling it to video game companies. And we have even started talking about things like surveillance, cyber security. We do business there, but we're really starting to see the early signs of the opportunity. So I think this is a place where we could have some step function growth and then I think the financial model will definitely continue to be improved.

Okay. One more from me. The DXi, the disk growth rate of 11% year over year I thought was also pretty solid. EMC pointed out, I think it was last week that data domain was strong, obviously didn't provide any numbers behind that. But is there something in the overall market that's improving for your disk-based products, obviously competitively, your win rate seem really good. But how should we think of, is that 11% growth rate sustainable and is there something really driving the market?

For sure for us on a micro level, the two new products have been really well accepted. I had it kind of buried in my piece of script, but one of the updates that we did is we took, as you know, the StorNext file system is the base for the code and DXi.

We put that into the new version and it really helped our performance and reduced the amount of hardware we needed to run the box on. So we've got a really nice balance between high performance, lower cost product that just works great and people seem to like it.

And then when we add our Q-Cloud capabilities behind it, that's pretty interesting. So that's the place you'll see us continue to invest around allowing DXi customers to have some of their storage in the cloud. But I think what's going to drive that growth rate will be, some of it will be organic, but I still think partnerships and alliances with people are going to be the key to driving really meaningful growth there. Otherwise, I think we're going to invest like I said wisely around the sort of 11%, 10%, 20% type of growth. So I'm really pleased with the products. I think, if you check on the products, I know you do, you're going hear really, really rave reviews about both of them, very, very strong side. So I like that position and we're just going to keep after it.

Okay. You're comfortable with the growth rate is what you're saying, right?

Yes, I think I am. But there is opportunity for more if we add some more channels to market because it's not [as the products create].

Okay. I hear you. Thanks again. Nice job.

Thanks.

Eric Martinuzzi, Lake Street Capital Market.

Thanks for taking the question and my congratulations as well on a solid September quarter. The parts of the business that are not growing, obviously that's kind of anchor weights on the rest of the business, it seems to come down to tape OEM and at least one of the major areas it's also under the device and non-royalty media. What's your expectation there? Those are both down double-digits in the most recent quarter. How long does that sustain? Is there any kind of glide slope where we get to a point where those aren't as much of a drag on the rest of the business?

Yes. I am not too concerned about the media. I think this is kind of a one-off quarter. If you look at this quarter versus every other quarter [in the latter -- fourth], I am looking at Linda here, but I think we've been $15 million to $16 million of media pretty consistently. So I think this is kind of a one-off.

A couple of media participants were fairly aggressive around pricing and we tend to be pretty disciplined as we've talked about in the past, but I think that will bounce back.

On the OEM piece, there are signs of improvement around the OEMs. So that's good. As you know, it's not a part of the business that we can control. We certainly talk to those firms a lot. So it was better for sure, but as you pointed out, it's still lower year over year. There's going to be some natural decline year over year. It's still just feels like we're not getting all that we can get on the OEM side of tape.

So, I hope we will see some bounce back there, but I'm not -- we don't count on it. And if you want model in -- you model in some amount of decline, I think that's probably appropriate. Part of the market rate sort of single digits, high-single digits type. It's getting to be a smaller and smaller piece of the overall business. I think Linda had it in her script. We're 86% branded now. So, it's getting to be smaller and smaller and that in and of itself will kind of wipe itself out.

Okay. And just more, obviously you're dependent on your OEMs and their initiative maybe also get their own products that they're marketing whether they are disk -- pushing a disk as a replacement, but is there anybody on the tape side, any change in the competitive landscape maybe that you're seeing in tape?

Not that's really any different. I think, we continue to look for partnerships. Our Teradata partnership around tape has been really good for us. It's the same cast of characters that we've competed with for years.

Okay. And then I noticed in the September quarter you had -- overall the gross margins were 46%, a little over 46%, [you gave an] outlook for 45% in December. What's the puts and takes there?

Yes. So, we had -- for sure we had -- we didn't get benefit from all of the infrastructure changes that we made, but just to show you, it's kind of an answer to Chad's question in a little more detail. We have an extra million dollars royalty that's like a percentage point. And we had $3 million less of media that's probably a third for a percentage point. So some of those mix things still matter for us as it relates to percentages. We want to make money everywhere on all the deals, but we do have a wide range in gross margin. So mix matters and that's really what we're kind of building into that guidance.

And then you used an expression, I can't recall having heard it before, but you talked about non-real time workflow operations. Can you give me an example of that?

Yes. So, think of it as things that happen in the background that aren't just in production type environments. So, these would be things like archiving type, to kind of put it in an old buzzword or archive something I wanted to look at it. A lot of our stuff gets put right in real time streaming. If you watch late night TV, that's running through StorNext 5, if watch NASCAR, that's running through StorNext 5. So those are situations where it's real and going through us. We're seeing more and more where it's behind the scenes.

Okay. And then lastly, strategic here -- you guys obviously have the state-of-the-art products here on the scale-out side. Just wondering how much -- how important of a differentiator is it when you get down to the shortlist to have that integration? Is it still StorNext is what's driving the sale or is it that StorNext plus Lattus plus tape that is winning it for you?

For sure it's a solution sale. So when it's -- I would say that the StorNext attributes of performance, streaming, heterogeneity drive the population of deals that we can be in and then we put in front of people a more unique solution by being able to tear and share that data. So it's really the combination. I think that the sales team will tell you that the bundling that we've done around Pro Solutions as an example where you simplify all that because has been really well received and so it's really both. It's about the solution that we sell, not just one piece of the technology.

Okay. And in the media and entertainment, who is your competitor -- heads-up competitor that you see most often?

Again, it depends on what the use case is. We'll see when the storage part of it's a big piece of it, we'll see the usual NAS or scale-out type companies that you might imagine there. We win there generally because of performance. We often also win because of Voltaire where they will just sell disk and we will sell a tiered solution.

One of the things that we found with 5 is that, our tight integration with Apple and Adobe helps us, so that would put Avid somebody we compete with because we don't generally connect with them. And then depending on the workflow you could see other file systems trying to provide part of the solution, but most often they can't provide the whole breadth, like I pointed out earlier, where we're selling a complete solution. So there might be some file systems that you'll see partnered up with other random disk or storage vendors.

Now the double-digit growth there on both the scale-out and the disk kind of speaks for itself and it looks like that's sustainable, so congrats.

I am going to take a little credit and say it's high high-double digits since we are 58%.

[I have added]. Thanks for taking the questions.

Yes, appreciate. Thanks for the support.

Ryan MacDonald, Northland Securities.

Hi, gentlemen. Congrats on the strong first half of the year here.

Thank you.

Thanks, Ryan.

No problem. So, can you discuss a little bit, I think you mentioned a couple of times in your comment -- in your prepared remarks that the Federal business was still weak during the quarter. Can you just kind of talk about what the causes of this and then what your expectations are for that going forward? Do you think we'll see a bounce back in the second half of the fiscal year here?

Yes. Sure. So for us we sell into various agencies in the Fed space and at sort of macro level it usually comes down to funding, did the project that you're expecting on get funding. We did have some nice wins in the Fed space for sure. And actually, I think you can construe from our comments, we actually did pretty well in tape in the Fed space. But in some of the more emerging technologies, we see ourselves designed in. We have wins lined up and the projects just haven't been funded yet.

One of the things that we know is happening is in the Intel space a lot of project are on hold as they figure out how they're going to implement their contract that they have announced with Amazon, I forget what it's called, the actual piece of Amazon that they are doing with, but I think that's slowing deals down, that's just my perspective. We were out on the road and met with a number of fed customers. I think Fed business will pick up. And I do think that the projects we are in are ones that will get funded. And hopefully those would be nice upside deals over the next couple of quarters. But for us it was -- last year it was a not a very good Fed period, this year was actually worse. And we still had the kind of growth that we talked about.

You said Fed was worse (multiple speakers)

It's actually worse this year than last year for us.

Interesting. And then switching to scale-out, obviously media and entertainment is obviously your most successful segment. I mean as you start moving into some of these other verticals that you were discussing like oil and gas and cyber security and geospatial, is there really a change in sales there or an extension of the sales process or I guess can you talk about how that differs from what you're currently seeing in M&E?

Yes, well, the first thing that's important is integration with the applications above us. That's why -- we mentioned the FireEye partnership. That's a technological integration between us and them that together solves the customer problems. So that's the difference than maybe how we would integrate with, as I mentioned, Apple and Adobe on the M&E side.

We announced a partnership with Avere. That was a place where we put our solution together and we provided a very unique value proposition to oil and gas companies. The one thing that's interesting about StorNext is it's very easy to integrate with the applications generally. So it's not a lot of work to do it technically, but it's more about partnering as the go-to-market, joint marketing, white papers et cetera.

And so StorNext 5 with that read/write has put us in a different orbit for the kind of capabilities that we have and we're just getting started and integrating with application vendors in these other vertical markets. And that's where the work that -- we haven't built a lot of that into our plan this year, but we definitely see the opportunity in some of these other verticals for the same attributes that we have in M&E.

Got you. Okay. And then just finally quickly on the OEM tape, you may answered this earlier in the call, but just wanted to double check. I mean, how would you say that the OEM tape is comparing with internal expectations and I mean, do you have any, I guess, statistics surrounding how you feel you are doing versus the overall market? Would you say you're kind of declining in line with the market or slower than?

So, two things, we're definitely behind our plans for OEM for the first six months and we're forecasting that we will be behind our original plan which has not been the case for us. Historically we've been pretty good here. I can't really speak for those partners. I would say, we see what they do and we see what we do.

I think our overall business feels better than theirs, but each of them are different. The one thing I mentioned on the last call and I'll reiterate it here. We focus on selling these solutions. Those entities have a much broader solution suite and they often sell backup products after they've sold, they sell servers and they sell disk and they sell tape after that. And so they could have other issues going on around server refresh or disk refresh that we just don't have. So it's always hard for me to calibrate exactly the difference between them and us.

I think, we're actually -- we've gained share every year in tape. So I am expecting that will be the case again. I don't know of any data to contradict that and that includes our OEM business. So, I guess, we see signs there of getting better. We are certainly in contact with those groups and we would like to drive more growth through them for sure.

Congrats again on a great quarter. Thanks.

Thank you. We will appreciate it.

Thank you. And ladies and gentlemen, this does conclude our conference for today and it also concludes our question-and-answer session for today. I will turn it back to our speakers for any additional or closing remarks.

Thanks very much for joining us today and we look forward to talking with you in January and we appreciate all support. Thanks very much.

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Ladies and gentlemen, again this does conclude our conference for today. We thank you again for your participation and you may now disconnect.