Quantum Corp (QMCO) 2018 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the First Quarter 2018 Quantum Corporation Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to introduce your host for today's conference, Mr. Shawn Hall, General Counsel. Sir, you may begin.

Thank you. Good afternoon, and welcome. Here with me today is Jon Gacek, our CEO; and Fuad Ahmad, 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 1 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'd 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 May 31, 2017, and our most recent 10-Q filed earlier today. These risk factors are incorporated by reference into today's discussion, 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 Q1 fiscal 2018 conference call. We started the new year by building on our fiscal 2017 momentum as we grew total revenue year-over-year and generated non-GAAP net income for the fifth consecutive quarter. More specifically, total revenue was $116.9 million, up slightly over Q1 of last year, with branded growth of 3% and increased royalty revenue offsetting an expected significant decline in OEM tape revenue.

Scale-out tiered storage was a key driver of our growth, up 10% year-over-year. And we also had another strong quarter for branded tape automation, devices and media sales, which increased 14%, including related service revenue. Non-GAAP net income was $1.4 million or $0.04 per diluted share, up $0.02 from the same quarter a year ago.

Before I turn the call over to Fuad to walk through the details of our results, I want to expand on some of the quarter's key highlights. First, we generated $34 million in scale-out tiered storage product and related service revenue. As I said, this was up 10% year-over-year, reflecting our continued focus on extending our market leadership in media and entertainment, and driving greater penetration in video surveillance and technical workflows. In media entertainment, we closed a number of large deals in the traditional broadcast and postproduction part of the market, including at 3 of the world's biggest media conglomerates, a top developer of TV and online media content and a major European broadcaster.

We also continued to leverage our M&E leadership to help companies that are increasing their use of corporate video for marketing, training and other purposes but struggling on how best to store, share, manage and protect this content. The key corporate video wins include a follow-on sale at a world-renowned fashion retailer and a new engagement with a major fast food retailer.

Beyond M&E, we generated strong year-over-year revenue growth in both video surveillance and technical workflows. In video surveillance, we closed a large deal in APAC involving the surveillance for a presidential palace and other government facilities, where our industry-leading performance and cost-effective tiering was a key differentiator. Other key wins included deals at a major U.S. port and 4 new police departments.

Reflecting our continued focus on improving our access to end-user customers, we also established several new partnerships in video surveillance. Uniview Technologies Co., one of the top 3 video surveillance integrators in China, agreed to become a Quantum value-added reseller and strategic alliance partner. This gives us greater reach into what is expected to be the largest video surveillance market in the world by next year.

In addition to Uniview, we signed agreements with 2 major U.S. integrators: Protection One and Kratos Defense & Security Solutions. Protection One is one of the premier full-service security providers in the United States, and Kratos is a leading government contractor that also focuses on health care.

Further highlighting Quantum's emergence as a major player in video surveillance, we won 2 prestigious awards for video surveillance storage at the ICS West 2017 Conference (sic) [ISC West 2017 Conference]. The Security Industry Association named our StorNext data management software as a category winner in the new product showcase, one of the top accolades for product information and innovation in the security industry. In addition, StorNext received the Platinum Govies Government Security Award given by Security Today magazine, which honors outstanding government security products in a variety of categories.

Turning to technical workflows. I wanted to highlight several large deals we closed that speak to the power of our solutions and the value we deliver to customers dealing with highly demanding data storage and management challenges. First, we had a major win at an international defense and aerospace company that needed to expand its StorNext-based archive environment. The company purchased our Xcellis workflow storage and the StorNext Archive Enabled Library to archive 16 terabytes a day of high-resolution satellite images.

In another key win at a leading biotech firm, we will provide 1 petabyte of genomic sequencing archive. We won because we offered a much more cost-effective solution based on tiered storage approach, encompassing our Artico archive appliance, our new StorNext FlexTier for integration with the public cloud and a tape library upgrade.

We also won a large deal at a top automaker involving autonomous driving research data. Our solution included Xcellis workflow storage, QXS disk and the StorNext Archive Enabled Library. We won the deal because of our ability to deliver not only high-performance [engine] that's faster than scale on mass alternatives but also a low-cost archive, together in a complete end-to-end solution.

The final technical workflow deal I wanted to highlight was a high-performance computing win at a U.S. technology institute. The customer turned to Quantum for a new approach to HPC storage when it realized that scaling its existing score architecture would be cost prohibitive. Again, our ability to provide high-performance tiered storage solution, which included Xcellis workflow storage, a petabyte of QXS and the StorNext-enabled tape library was a key differentiator.

As I'll discuss later in the call, in Q1, we also announced our new StorNext 6 release, and new partnerships with Veritone and DataFrameworks that will enable us to provide even greater value to scale-out storage customers.

Moving from scale-out storage to data protection, a key highlight in Q1 was the 14% year-over-year growth in branded tape automation, devices and media sales, including related service revenue.

Strong sales of our newest generation Scalar i3 and i6 libraries were a key driver of this growth, reinforcing our continued market share leadership in tape. Although revenue from disk backup systems was down year-over-year, this was due to the fact that we had a very large multimillion dollar DXi deal in Q1 of last year and no comparable deal this year.

In fact, excluding the deal, revenue from our flagship DXi6900 appliance was up more than 50% year-over-year and included wins at 2 major international IT service providers, a European financial services company and one of the world's largest providers of aerospace supply chain management solutions. We also announced an expanded data protection partnership with Veeam in Q1 that I will discuss later in the call.

Now I'll turn the call back over to Fuad.

Thank you, Jon. Before I walk through our results, I would like to refer everyone to the financial statements and supporting schedules including in the press release and on our website.

Turning to our results, starting with revenue. Total revenue for the first quarter ended June 30 was $116.9 million, up slightly from $116.3 million a year ago. Branded revenue grew year-over-year, offsetting decline in our OEM revenue. Nonroyalty revenue totaled $106.9 million, of which 93% was branded and 7% was OEM, compared to 90% branded and 10% OEM a year ago.

I'll now walk through our revenue results in more detail. Total product and related service revenue for our scale-out tiered storage solutions grew 10% to $33.6 million compared to $30.7 million in the same quarter a year ago. We recorded particularly strong growth in video surveillance and technical workflow use cases, and we added approximately 19 new customers while maintaining 70% win rates.

Turning to our data protection solutions. Total revenue, which includes both branded OEM product and related service revenue, was $73.1 million, a decrease of $3.7 million or 5% compared to Q1 of fiscal 2017. Of the $3.7 million year-over-year decline, $3.3 million was attributable to lower OEM sales.

Total product and related service revenue for disk backup systems was $14.7 million, down $6.8 million from the prior year. The year-over-year decline was entirely attributable to a single multimillion dollar deal in Q1 of last year. Our disk backup win rates remain high in the 65% range, and we added approximately 30 new customers in the first quarter.

Total tape automation systems, devices media and related service revenue was $58.4 million for the quarter. This was up 6% from $55.4 million in Q1 of fiscal 2017. This despite losing $3.3 million of OEM revenue compared to last year. More specifically, OEM product and related service revenue for these tape offerings were $6.8 million, down 32% from $10.1 million a year ago. In contrast, branded products and service-related revenue was $51.6 million for the quarter compared to $45.3 million a year ago, a 14% increase.

In addition to the strong sales of our newest generation Scalar i3 and i6 tape libraries, our Scalar i6000 libraries also performed well in the quarter. In addition, we maintain our overall 70% win rates for the tape automation and added 40 new branded mid-range and enterprise automation customers during the quarter.

Moving to service revenue. Our total service revenue was $35.2 million in Q1, down 2% from $35.8 million the same quarter last year. The decrease was primarily driven by exploration of service contracts for early generation tape automation and disk backup systems. Royalty revenue was $10 million, up 16% from $8.6 million in the same quarter a year ago, this reinforcing our belief that tape will continue to play a major role in long-term archiving and as part of a tiered storage solution, which also speaks to the longevity of the royalty stream. Turning to gross margin. Non-GAAP gross margin was 43.7% in Q1, essentially flat from last year.

Now a more detailed look at expenses. Non-GAAP operating expenses increased slightly by about $0.3 million from $48.6 million in the first quarter of fiscal 2017 to $48.9 million this year. Let me provide some additional color on how the makeup of our operating expenses is shifting. As we stated in our previous calls, we're continuing our efforts to streamline operations and find efficiencies. We are reiterating our position to keep operating expenses flat year-over-year on higher revenue.

However, in doing so, we're able to invest in areas that create shareholder value. For instance, the company is reinvesting planned reductions in G&A costs into increasing geographic coverage of the field sales team. Similarly, we have added -- we have further refined and streamlined our product road map resulting in meaningful R&D cost savings that are being invested in our next-generation cloud-native software-defined storage and data management platform.

In short, we're continuing to make material investments for the future without sacrificing near-term probability. We believe this balanced approach to revenue growth and profitability is the right one, given our capital structure.

Our Q1 non-GAAP operating income was $2.2 million, down slightly from last year. Cash interest expense for the quarter was $2.1 million, and we recorded -- and we also recorded a $1.6 million tax gain in the quarter. This as a result of a tax settlement in Germany, the settlement essentially eliminates $2.8 million tax liability from our balance sheet with a onetime payment of approximately $1 million.

All said, our non-GAAP net income was $1.4 million or $0.04 per fully diluted share, up $0.02 for the same period last quarter -- last year.

With that, I'd turn the call back to Jon.

Thanks, Fuad. As we look forward to the rest of fiscal 2018, we see the opportunity to build our momentum and drive overall growth for the year, driven by expected annual growth in scale-out tiered storage of at least 20%. In the scale-out part of our business, we are particularly excited about StorNext 6 and our new partnerships with Veritone and DataFrameworks. StorNext 6, which began shipping at the end of July, provides an unparalleled combination of industry-leading performance and automatic policy-driven advanced management features.

It was designed to help users to overcome the challenges of working with growing volumes of high-resolution content, 4k and beyond, and enable them to capitalize on the opportunities to remonetize and repurpose that content.

Features include more efficient and cost-effective ways to meet project performance demands, share and access content across geographically distributed teams and manage and protect archived content. This includes the ability to integrate third-party public and private cloud offerings in the StorNext managed environment, and also run embedded applications, benefits which we introduced in StorNext 5.4 last December. Some of the new features in StorNext 6 will be sold by Quantum and our channel partners on an annual subscription basis, thereby providing Quantum with a recurring revenue stream.

StorNext 6 has already won industry acclaim. It won 2 awards at NAB: NewBay Media Best of Show and Post Magazine Post Pick, and was also named a finalist at the IABM Game Changer Awards. The NewBay Media award recognizes technologies for innovation, feature set, cost efficiency and performance in serving the industry. And the Post Pick award is given to a standout new product notable for its innovation. Finally, as an IABM Game Changer Award finalist, StorNext was selected not only for innovation but also for delivering significant operational and business benefits.

Complementing StorNext 6, our new partnerships with Veritone and DataFrameworks will also enable us to deliver greater value to scale-out storage customers. Under the Veritone partnership, a hybrid on-premise and cloud version of Veritone's cloud-based artificial intelligence platform, known as Veritone aiWARE, will be offered as an integrated capability with StorNext. This combination will allow users to leverage the power of Veritone's platform for cognitive analytics, along with top cognitive engines in areas such as face detection, object recognition and transcription, to extract new value from their on-premise video and audio content without having to move to the cloud.

As a result, customers that have made significant investments in on-premise storage and/or have cost or security concerns about storing their content in the cloud will be able to take advantage of Veritone's cognitive capabilities and analytics in a StorNext-based solution. We expect to begin offering the integrated Veritone feature later this quarter.

Under our other new scale-out storage partnership with DataFrameworks, we've integrated its ClarityNow software with our Xcellis workflow storage and Artico archive appliances, providing increased visibility into the usage and intelligence regarding large unstructured data. Through deeper insight into their data, users with highly demanding storage environments, which can include hundreds of storage nodes, dozens of file systems and multiple different vendors, will now be able to scan, organize, access and migrate their data much more easily and efficiently to meet their business or mission objectives. In fact, the integration with DataFrameworks helped us win a biotechnology deal involving 1 petabyte of genomic sequencing drive that I mentioned earlier.

Beyond StorNext 6 and the partnerships with Veritone and DataFrameworks, other drivers of our expected scale-out tiered storage growth this year include a new Xcellis workflow storage offering and additional partnerships with leading integrators in video surveillance. We also see the opportunity to leverage our tiered storage expertise to help public cloud providers store and manage their customers' data more efficiently and cost effectively, building on the major multiyear project win we had in this area last year.

In fact, we've been talking with this -- about this with other cloud providers. They run some of the most advanced data centers in the world and are increasingly recognizing the key role that tiering can play in their businesses.

Turning to data protection. Our DXi and tape solutions continue to be very strong, and we're increasing access to our customers through new partnerships. As I mentioned earlier, we've enhanced our relationship with Veeam, a leading provider of data protection software for virtual environments.

Our DXi deduplication appliances and Scalar tape libraries are now integrated with Veeam, making it easier for Veeam customers to deploy 3-2-1 data protection best practices: storing at least 3 copies of data on 2 different types of media with 1 backup copy off-site to guard against data loss, localized disaster and ransomware. DXi is now the only in-line deduplication appliance integrated with Veeam's Data Mover service and requires much less disk than deduplication appliances that do not deduplicate in line.

As a result, the integrated DXi Veeam solution is much more efficient than competitive offerings. Similarly, our new Scalar iBlade eliminates the need for Veeam customers to have physical tape servers for tape library access, which has been a challenge, particularly for those that have 100% virtual environments but want to offline protection against ransomware. In addition to enhancing our Veeam partnership, we also recently became a pure storage Alliance partner, providing our data protection and archive solution for peers' customers through mutual channel partners.

Finally, as Fuad mentioned, we are developing a new software-defined storage and data management platform. It will enable us to offer a cloud-native solution for Kubernetes, Docker and other container environments where enterprise-level persistent storage is a key challenge, thereby expanding our market opportunity and increasing our differentiation.

In addition, the new platform is designed to improve our gross margin by allowing us to replace outside vendors with their own solutions. We continue to make progress and expect to launch our first product based on this platform later in this fiscal year. For now, you can learn more about this product and our open source aspects of the project at www.rook.io.

Before providing guidance for Q2 and the fiscal year, I wanted to provide an update on the strategic review that we referenced in our May earnings call. At that time, we said we would initiate a comprehensive strategic review once our newly constituted board was fully in place. The review is now well underway, and the board is working closely with management to implement various work streams with the goal of improving long-term growth, recurring revenue and profitability.

The work streams, which involve an assessment of the current state, options for moving forward and decisions on how to proceed, cover Quantum's business and financial model, market position and go-to-market model, including access to end-user customers, product and technology portfolio and road maps, and operational structure. These work streams are ongoing, and as decisions and actions come out of the work streams, we will begin executing on them. Where and when appropriate, we will also discuss the results of the work stream activities in future earnings calls and other investor communications.

In addition, as part of this work, we are in the process of engaging a top-tier consulting firm, which we expect will help the company to identify and deliver improvements in the operating characteristics of the business over the next 6 to 12 months, including accretive contributions to non-GAAP earnings. We plan to update investors on a quarterly basis regarding the process of this important initiative.

Now let me turn to guidance. As Fuad said, we are maintaining our balanced approach to revenue growth and profitability given our capital structure. From a revenue standpoint, we expect scale-out tiered storage to grow at least 20% for the year, and continue to be the main driver of overall revenue growth.

We expect branded data protection to be down slightly for the year, and OEM and tape royalty revenue to decline further. As for our debt, we remain focused on generating profit and cash, and we're confident in our ability to manage this debt payoff in November of 2017 of our existing convert, by using our existing resources.

With regard to guidance for Q2. Specifically, we expect total revenue of $120 million to $125 million, non-GAAP gross margin of 41% to 42%, non-GAAP operating expenses of $47 million, non-GAAP interest expense of $1.9 million and taxes of $400,000. Non-GAAP earnings of $0.01 to $0.05 per diluted share.

To provide some context for our Q2 revenue guidance relative to our Q2 results in fiscal 2017, last year we generated approximately $20 million in total revenue from the multiyear public cloud deal I referenced earlier. $15 million of the total was in the second quarter of last year. While we expect to generate at least $20 million in revenue from this same customer again this year, most of it will come in the second half of fiscal '18.

Turning to our full year guidance for fiscal '18, we expect total revenue of $515 million to $525 million, and GAAP and non-GAAP earnings per share above the levels achieved in 2017.

With that, I'll turn the call over to the operator for questions. Operator?

(Operator Instructions) Our first question comes from the line of Chad Bennett of Craig-Hallum.

I guess, first, on the scale-out business. It looks like 4 of the last 5 quarters have basically been subpar growth, and we're going into our, I guess, 5 of the last 6 in September. Is there any explanation as to competitively or maturity of M&E or what's going on in that market, why it has decelerated so significantly?

So you're asking about deceleration compared to subpar. You said subpar. For sure, it was less last year than when we started. We have a different set of solutions. We have a different way to solve the problem. The market's always competitive. I don't think there's anything really new. I think we've got good competitors. We see traction in the initiatives that we have. Our initiatives are very focused on M&E and surveillance and technical workflows. M&E is still more than half. And so for sure, having some additional growth there will bring more revenue because it's on a bigger base. We've actually been pretty pleased -- I'm looking at Fuad -- the last 3 quarters in surveillance we've seen increased momentum in terms of the amount of total revenue. And then finally, technical workflows, we're starting to get leverage across a broader set. It's one of the reasons, Chad, we specifically laid out the type of deals we're seeing, whether it's a genomics deal or research, autonomous driving. And I guess, again, from a expectations perspective, we still believe it is the vehicle for growth. There's not too many storage companies that are growing and making money. I think CommVault and us might be 2 of the few. I guess NetApp finally grew some. So we're competing hard in the market. We are adding a lot of capability. We put out a goal of at least 20% on scale-out. We see opportunity in the cloud set of products; both Fuad and I mentioned that. And then finally, I would say, we've added a bunch of new things of late that we are super excited about: StorNext 6, Veritone, DataFrameworks and this entry-level solution from a product perspective. And we're getting recognized at the end user with awards and adding new channel partners who are looking at what we're doing. So we're laying groundwork for sure. I think, again, we're excited about the feedback we're getting. We're going to keep driving on growth results, and that's what we're projecting for the coming year.

Okay. And then on -- in terms of addressing the debt in November, the convert in November, considering where the cash balance ended the June quarter, what is the path to get there? And do you have -- considering the results and -- for the June quarter and the results you expect in the September quarter, do you have access to the facility at this point?

Absolutely, we do. So just let me address that, the cash question first. The cash question is really a function of we have a revolving credit facility. I usually try not to keep a lot of cash on the balance sheet. What's more important, however, is our liquidity, which is availability under the credit agreements, cash on hand that can be used and a delayed draw term loan that's available to us. So as of June 30, that number was almost nearly $70 million without the delayed draw term loan added to it. So it's $90 million between the 2 as of June 30. So we're very careful in how we manage our cash. We're careful how we invest the money. But I'm not concerned about availability under the present agreement, whatsoever.

One of the things I think that's different there, Chad, is, Fuad's -- we're always try to manage interest expense down, and so rather than have extra cash we're paying down the line, you'll notice, if you look in our cash flow, it shows, I don't know, $70 million or so of borrowings and then repayments, and that's because we're churning that and trying to keep interest down as best we can. And we recently met with the banks, and they understand what we're doing there. And everything that Fuad there is more than sufficient to manage the debt payment.

Okay. And how -- last one for me. How quickly do you think the strategic initiatives actually get put to work from the -- that the board kind of comes up with. And you mentioned accretive contributions to non-GAAP earnings this year. I guess, I'd love to hear -- and I realize probably not a lot's finalized at this point -- kind of what that means because I think you've always indicated, Jon, that based on the growth and opportunity in the scale-out business, at least on the OpEx side, you're kind of productivity maxed out, so to speak.

No. I think we have a leverage model. We're showing -- I think the 515 is 2% growth. The 525 is 4%. Our operating profit are growing like -- I don't know, I'm looking at Fuad -- 10% and 20%, respectively, there. And we have plenty of sales capacity. I think Fuad in his prepared remarks talked about OpEx being flat. So the way that we presented this is consistent with last quarter, where we feel comfortable and we gave more color on revenue, where it's going to come from and that we're going to grow, and that we will be as profitable or more. And then these work streams are going to work their way in. And they're in various stages. Some of them have actually -- are more straightforward, and we're through them. But they are -- we're looking at ways to increase our growth opportunity, have increased profitability and also have a recurring revenue stream. StorNext 6, for instance, has 2 or 3 new features that are going to be recurring revenue streams that will work their way into the model over the course of the year. So what we said in this, specifically around sort of the business and cost structure and having a consulting firm is, we expect to see those things over the next 6 to 12 months. But some of the other activities that we're doing with the board in terms of those 4 things that I mentioned, products, go to market, branding, those are going to be rolling in. And as it turns into dollars, we'll for sure point it out and highlight it in the calls.

And Chad, I just want to further amplify Jon's comment about operating expenses. And as I said in my prepared remarks, while we're keeping the operating expense the same, we are investing in areas that are revenue generating. So we are investing in sales and marketing. If you look at our sales and marketing costs from last year, we're up close to $1 million -- over $1.5 million. So we're investing in where it matters, increasing the geographic capability of the sales team, adding more resources. So we are doing that. And that's our stated goal.

I mean, your revenue was flat and your OpEx was flat year-over-year. That's what you're pointing out?

Yes. But remember, you invest ahead of revenue. So people -- when you hire sales guys, they have to ramp up. You have to go through it, but we are making those investments now. And they will...

(inaudible) guidance.

Our next question comes from the line of Brian Alger of Roth Capital Partners.

A lot to kind of go through and digest here, but starting with the disk backup, which you highlighted was down year-on-year because of a large contract that was a tough compare. However, when we look at the -- each of the quarters in the prior fiscal year, they were double digits. So coming in at $6.7 million in terms of product revenues was a bit surprising. Is there anything particularly that fell off, other than, obviously, the one large contract that didn't get renewed? And then, I guess, the obvious question thereafter is, should we expect the disk backup business to be running at its current level at $6.7 million? Or should it be coming back to the levels that we saw more consistent last year?

So you have a -- right, it's not really a contract. It was a large deal we talked about last year; it was to one customer. That is a tough compare; you're right. Both Fuad and I talked a little bit about the fact that the enterprise products still grew 50% year-over-year. So that was positive. As you recall, DXi -- we take DXi and tape-based backup, and we're selling a set of solutions. And in this case, tape was up 14%, the tape-based products. And so when we look at those together, that is the type of solution we're taking out to customers. And it's going to fluctuate quarter-to-quarter. Our sales reps, we don't have specialty sales reps for those products. We think 6900-S is a very unique product. We really like this partnership with Veeam. I guess, we started doing some things together, I don't know, 6 or 9 months ago. We've completely integrated now tightly with them. And they've done a bunch of performance testing. And we kind of blow away anybody else that they're working with. So we expect that to contribute. There is not anything else specific. It's kind of just a one-off compare that I think I'd point to.

The only thing I'll add here is, we've done particularly well in Europe for our 6900-S product, as Jon mentioned. And Europe's, in terms of cyclicality, Q3 or calendar Q3 and Q4, or our Q2 and Q3, typically is strong. And that's -- that was the case if you kind of watch the trended numbers, you'll see those were the particularly strong quarters for us.

Right. And I get that. And I guess what I'm getting at here, guys, is, versus what my expectations at least, your tape automation had a pretty good quarter in the June quarter. But disk backup, you suffered a little bit. And I'm -- it sounds as though there may be a little bit of trade-off in there in terms of what customers are buying at any given point in time. And that's fine, because in aggregate, call it your nonscale-out business appeared to be roughly in line with expectations in the June quarter. And I'm just trying to understand, if that is the case, then maybe we should think about that in aggregate of disk plus tape automation, et cetera, as being that data protection bucket, if you will. And as you've described it for your guidance, that being a slight decline or maybe greater than slight decline this fiscal year. Just trying to get that framed up as a baseline first within the guidance. Am I thinking about that correctly?

Yes. I mean, you are. We don't generally give, as you know, product guidance. We do give scale-out, which leaves everything else, and we try to give royalty. So we actually think of that all as a portfolio of data protection products. So that's true. And in fact, even in some of these very large tape libraries, even the margin characteristics are beneficial for us. In terms of how we're modeling it for next year, there is one nuance I want to just add to it. The big decline in data center is around OEM tape. That was -- you saw that this quarter, I think was $3.5 million or $4 million type of number. And that's going to be the pressure on data center overall, offset by branded and DXi. And those are probably -- I'm looking at Fuad -- kind of flattish.

DXi, we expected to be flat, but we -- just to know that's not what we focus on, right? What we focus on is the scale-out business. I do want to point out though, Brian, that without that deal, the backup deal, the business still grew almost 50% year-over-year. So the trend is clearly in the right direction. So I mean from a numbers wise and what we've done in the last 2, 3 quarters, I think we feel very comfortable where we are and where the market's likely to be for us.

Well, Fuad, I'll push back a little bit on that because I understand there was a big deal in the June quarter of 2016. But the other 3 quarters had pretty darn good results.

That's right.

And yet you had a pretty significant sequential drop, more than seasonal in the June quarter from the March quarter. And I understand the year-on-year compare is tough and whatnot, but something went on, and maybe it's a one-off and that's fine. But I don't think it's fair to just blame it all on the fact that there was a tough compare. Yes, the business has done well. Yes, it's up 50% year-on-year from the diversity of it. And I think that speaks to the longevity of the data protection platform. But I don't think that's what you're communicating effectively, which is one thing. The other thing -- hang on, because this is what I'm really getting at. If we're going to have data protection at the level that you guys have just communicated, and you guys are guiding to the Q2 numbers that you're talking about, it implies a pretty darn good growth number for the scale-out in the September quarter, just mathematically, right?

Mathematically, yes.

Why aren't you calling that out? Because you're -- Chad, I think, was expressing what a lot of us on Wall Street are frustrated by is that the apparent inconsistency of the growth rate within the scale-out business. And the growth this quarter year-on-year, not so great. We've seen quarters where it's been really, really good. And it looks like, with the launch of the new scale-out and with the new StorNext 6 and with the seasonality and whatnot, we're looking for a pretty good quarter here in September, but I'm not hearing that communicated from you guys at all.

And if that's not coming through, then we should be -- we should make that clear. But I think one thing that we've been really clear about is, quarter-over-quarter comparisons are not a good way to look at our business. We are still subject to the laws of smaller numbers, so big deals do impact the quarter. To address your first question, by the way, I'm looking at the backup numbers. If you took that big deal out last year, we saw a big increase in DXi business from Q1 to Q2, which is consistent with what I said earlier is that we get more traction in the European market, and Q2 and Q3 is a good quarter for us overall, and particularly for DXi. So I just wanted to make sure that I got that across. In terms of scale-out growth, same -- similar principles apply that we are subject to big deals. Last year we had a -- we closed the big cloud deal, contributed almost 14 -- almost $15 million of revenue to scale-out. We didn't have the same shot in the arm this quarter. However, that customer is going to spend close to at least $20 million this year. And it's going to come in later in the period. So those kinds of anomalies will occur. I think those are part of our business, unfortunately. But I would ask that you look at this on a much longer time frame, annual time frame. We are showing on the high end of the range. We are telling the market that the business is going to grow from $505 million on the high end of the range to $525 million, which is close to 4% growth. We are telling the market that the business is -- the scale-out business is going to grow at least 20%. Obviously, we're focused on growing it as fast as we can. And I think we've been -- from that perspective, I believe we've been consistent. If for whatever reason you feel like our story is not coming out, well, we should work on it. But I hope this kind of -- what I've explained kind of starts to make it open, do more open (inaudible) so to speak for -- with our listeners now.

I think it helps. And I'll cede the floor here. It seems as though there is a back-end-loaded nature to scale-out for a variety of reasons. Maybe it's new products; maybe it's Veritone kicking in at the tail end of this quarter. Maybe it's the new distribution agreements in China -- sorry, for the surveillance stuff. But 20% growth is pretty good, but coming off of where we started a couple of years ago thinking about scale-out (inaudible) I think is where investors are just a little maybe confused as far as what's going on.

Brian, I mean, if you have questions, we're here. I think if you feel like we haven't answered it to your satisfaction, we're here for you.

(Operator Instructions) Our next question is from the line of Eric Martinuzzi of Lake Street Capital.

I want to revisit the strategic review process. I was under the impression that it was going to be kind of a we assembled a reconstituted board as of the end of May. We'd kind of hunker down for a couple of months and come out the other end with a plan for the year, and that would result in the full year guidance. It doesn't sound like that has stopped you. You're still kind of midstream on the strategic process, but it hasn't stopped you from kind of doing the things that you would normally do for a fiscal year. So I'm wondering: Is that still the case? Is everything still on the table, from divestitures and product line decisions, geographic decisions? Because you're obviously forecasting investments in sales and marketing that would imply that we're kind of status quo as far as the plan goes.

I'd say, the way to think about it is, we have an operating plan that we spent a lot of time on. And we have a set of work streams that we are pursuing with the new board to augment that plan. For sure, we're operating to something. And the guidance that you got from the $515 million to the $525 million and the flat operating expenses and the reduction in G&A, the increase in sales and marketing, those are all part of that. And the work stream effort and the -- having the -- doing the work with a consultant in terms of where is the market going, the business model, how to increase profitability, recurring revenue and growth, those are all -- will be augmentations to what we are operating to at this point. So there's been a ton of work done. The new board has been super active and very inquisitive and thoughtful and participating as you would expect. And as part and parcel to this transformation that we're driving on from just being a data protection company to a growth company with a lot of choices, I would say it is true that we've added a bunch of new things that we're excited about where they're going to go. And we're going to decide what the best route forward is. Our work streams are focused on the things that I mentioned in my prepared remarks. And the consulting focus will be more overall and how do we drive more profitability, recurring revenue and then ultimate revenue growth.

Okay. I had a question regarding geographic mix in the quarter. I guess, again, it's probably too much to just dive into a single quarter. Let's step back to the full year. Do we see any change versus FY '17 as far as where we expect the growth to be coming from in the current fiscal year guide?

I don't believe so. I mean, notwithstanding the fact that the big cloud deal can sway the numbers. And if you take that out of the equation, I think mix is going to -- we expect the mix to remain the same.

Yes. 60%, 30%, 10%.

Yes. 60%, 30%, 10%.

And we do have a follow-up question from the line of Brian Alger of Roth Capital Partners.

I didn't want to forget about the mention that you guys had about gross margins expanding. Can we talk about that a little bit in terms of how rook.io has the capability or has the potential to expand the gross margins? What is it specifically that's going to be driving that cost savings? What is it in the software that makes it happen?

Yes. So what Brian's asking about is the new storage platform that we're working on, and Rook, R-O-O-K.io is the open-source version. Our strategy here is a couple things. One, there's a market shift away from traditional architectures towards cloud-native architectures and a lot of a desire by customers to have cloud-like cost and infrastructure on-prem but also be able to reach hybrid. So what we're developing is a platform based upon commodity hardware with a software-defined storage architecture based upon new technology that's cloud native, runs in containers, managed by Kubernetes. And that is -- this is called the current generation. The idea behind that is that it will reduce the dollars that we have to spend on traditional storage that we buy from others. As you guys know, we don't do our own disk. We buy it from other people who create array controllers and the software that goes with it. So we'll have a different supply chain, different cost model. And we believe that it will be a margin-enhancing journey that we go on, not to mention a differentiated one. The idea then would be to run our applications on top of those things, where it's appropriate and where it fits, and reduce all the amount of money we're spending with third-party disk. And I'm talking about disk subsystems, not disk drives, because they all have disk drives in them. But disk subsystems that others create today. So that's the strategy. We're driving to our first proof point at the end of this fiscal year. There's a lot of buzz about it. People -- you can go on Rook and people can download the software today. It's built on an open-source platform. We believe it will increase our market opportunity and our margin profile.

Okay. Jon, it's starting to sound a lot like what the cloud operators are actually providing in terms of the capabilities that it'll be able to deliver. You start layering on some of the AI that Veritone brings to it. Is this something that you think will not only generate better gross margins, but could it also expand your TAM?

Well, it's -- you're reading our marketing material. Basically what Veritone has, which is great, it's a cloud-native solution. In the future, being able to run that on our own cloud-native storage, that includes things like a data protection application, aka DXi, or a high-performance file presentation, aka StorNext, and be able to add intelligence and do those things. That's what we're driving to. We're driving to moving the company upstream. On the data protection side, we have great products. DXi and our tape libraries are great. But they're at the end of a process where we catch data. StorNext, we move up that process. We believe with the new storage platform we'll be able to even move further. And that's why something like a Veritone or adding the analytical capabilities like DataFrameworks are all things that move us up the stack, make us stickier and have it more software recurring revenue stream. That's the strategy, and it kind of fits where the world is going. And we've gotten -- because of Veritone and because of DataFrameworks, we really closed 2 deals in DataFrameworks in a matter of couple of weeks. We're in a different set of conversations with customers, even more so than we are just with scale-out. So it moves us up the stack. It moves us higher in the organizations. And that's the way we think you're going to have to grow. We think being on the treadmill of typical storage is going to be hard for people. And that's why we are focused on moving up the stack and being differentiated and leveraging our true value, which today is performance and tiering and access, and add to it a better cost position. So it's a journey for sure. The quarter turned out as we guided it. The other thing that Fuad pointed out -- I just think this is a fact. We get into some big deals from time to time. And they're great when you have them, and they are harder to compare to. That's going to happen. This cloud -- the cloud customer will buy more than they bought last year. But it's going to be in the back half of the year instead of the front half of the year. That's fine. We'll take that. We're trying to be transparent about it, and it gives us confidence in the sort of the growth position of the company. So we are definitely trying to move forward into this sort of new world, where customers want to have, as you point out, cloud benefits on-prem. And we're not going to try to do it for everybody. It's where we fit. So probably longer answer than you expected, but I think it's the right question for you to be asking and for shareholders to be asking. We have to keep moving here. The market -- it's why storage companies are struggling. The market and customer expectations are moving. And we are ahead of a number of people in terms of our ability to be flexible there.

Ann we can get there with flat OpEx, Fuad?

Yes. I mean, it's -- on the development side. I mean, I can tell you I'm freeing up resources from other -- like, for instance, tape. We're not going to invest as much as in tape. Only to the extent that, that's essential to our tiering solution. So we're not going to sell back tape for backup, that use cases is on decline, as we know. So we're going to reinvest that capital back into the cloud-native platform. And so that's how we are doing it. If the opportunity is great next year and we decide to invest heavily in sales and marketing to do that at the business and we'll make the decision next year. But this is all about -- this year's about showing growth in the core business. It's about investing in that platform.

And if you tie it back to Eric's question, the work streams kind of fit along with this change. With the goal of driving more profitability, more recurring revenue, so we don't have as much lumpiness, and overall revenue growth. And so everybody is on the same page on that. And we're working hard to free up money to be more profitable and to invest more. That's the idea. To do both.

Thank you. I'd now like to turn the conference back over to Mr. Jon Gacek, CEO, for closing remarks.

We appreciate everybody joining. This will be -- as you recall, this is usually our second-largest quarter. We do have a Fed year-end and Europe as a strong quarter, as Fuad talked about. And so we are definitely focused on driving results and higher revenue and, of course, working all the work stream information we mentioned. And we will be getting back and communicating with shareholders as that progresses. Appreciate the support and the questions today. And we'll talk to you soon. Thanks very much.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude this program. You may now disconnect. Everybody, have a great day.